1. Is the company undervalued?
EV/EBIT: 15.83
EV/Sales: 5.26
Price/Book: 6.92
$QSR trades at a reasonable valuation while offering investors decent growth prospects. The company is fairly recession proof and returning meaningful capital back to shareholders. $QSR falls into that awkward category of not being cheap enough for a value investor and not growthy enough for a growth investor. For this reason, $QSR very well could be getting overlooked.
2. Can I easily explain what the company does?
Yes, they’re a global quick service restaurant business. They own the following brands; Tim Hortons, Burger King, Popeyes, and Firehouse Subs.
3. Does the cash flow statement line up with income statement?
Yes, cashflows have been consistently higher than reported earnings:
Most of their excess cash went towards acquisition costs, dividends paid out, debt repayment, share repurchases, and capital expenditures.
In December of 2021 $QSR acquired Firehouse Subs for ~ $1.03B. Unfortunately I couldn’t find much data surrounding past performance at Firehouse Subs. However if you extrapolate the most recent quarter of earnings, one could assume the purchase price was for roughly 16.5X forward EBITDA. At the time $QSR was trading for 16X EV/EBITDA (TTM), so $QSR did pay a slight premium for the deal. Although this doesn’t seem egregious, as there’s likely some fat to trim at Firehouse Subs and better growth prospects. All in all, I have no issues with the way management allocated their capital.
4. Is the Balance Sheet Healthy?
Total Debt: $14.57B
Total Cash: $895M
Current Ratio: 0.92
$QSR does hold a sizeable amount of debt relative to their market cap. On the other hand $QSR throws off significant free cash flow and that stream of cashflow is expected to grow for years to come. With that said net interest coverage is less than 4X EBIT, which is only slightly above average. In fairness the company has done a good job of paying down debt in recent years, but there’s still work left to be done IMO.
5. How profitable is the business?
Gross Margins: 41.7%
Operating Margins: 33.2%
Net Margins: 14.2%
Extremely impressive metrics here, which reflect a durable moat surrounding $QSR’s franchises. Additionally the business is under earning relative to what they’ve done historically:
Nonetheless, there are several near term headwinds adversely impacting profitability. However I would be willing to bet on a higher margin profile 5 years from now.
6. What is the company’s growth potential?
9-yr Revenue CAGR: 12.61%
9-yr Operating Income CAGR: 15.52%
9-yr FCF CAGR: 29.64%
At surface level these numbers look phenomenal, but if you account for acquisitions growth has been more or less pedestrian. For example $QSR spent over $10B on outside purchases over the last decade. Notwithstanding $QSR does grow organically:
Moving forward investors are unlikely to achieve much better than high single digit growth (assuming no further acquisitions). $QSR is also fairly saturated in Canada and the United States, although there’s plenty of white space to open restaurants internationally.
7. Is management rewarding shareholders?
$QSR offers investors a generous 4.2% dividend and have $288M remaining on their share repurchase plan. With ~$2.1B in expected EBIT this year, I would anticipate around $1B returned back to shareholders on net after CAPEX, interest payments, debt repayment, and stock-based compensation. That equates to a ~4.3% net shareholder yield, which is no doubt above average but not otherworldly.
8. How does the company stack up against their peers?
McDonald’s Corporation $MCD, is probably the closest competitor to $QSR:
$MCD EV/Sales:9.91
EV/EBIT: 22.79
Operating Margins: 42.7%
I honestly have no idea why $MCD trades at 10X sales. It’s been a no growth company for sometime and is probably overearning. I would concede McDonald’s is an excellent business, but it’s objectively a shitty stock. For this reason $QSR wins by default, as $MCD is pretty much uninvestable.
9. What’s the counter argument?
The counter argument is that $QSR has to invest heavily into technology in order to stay competitive in the fast-food industry. Additionally their consumers are more value oriented and therefore less likely to take price increases.
These arguments partially make sense to me, however I think Mr. Market has already reflected this pessimism into the share price. Moreover even if capital expenditures doubled in 2022, $QSR would still remain quite profitable. Furthermore there’s not really a trade down option after fast food and in many cases it’s cheaper than making it yourself. I mean honestly I don’t think I could eat $15 worth of Burger King in one sitting if I tried.
10. Is there something I think the market may be missing?
Mr. Market has $QSR priced for modest growth moving forward and I’m not so sure that will be the case. In fact, I think there’s a decent chance $QSR benefits in a recessionary environment. I could see a scenario where consumers trade down from a Five Guys to a Burger King or a Chick-fil-A to a Popeyes. If this happens $QSR will take market share and that almost certainly isn’t priced into the stock today.
Final Thoughts:
My base case for $QSR would be revenues growing at 6% per year for 5 years with a 4% net shareholder yield per year. I would also anticipate a 35% EBIT margin in year 5, with a 16X EV/EBIT exit multiple. This works out to a ~11.5% expected return, which is by no means earth scattering. I’m also not backing out cash for debt repayment here, so this is probably a low ball figure. Nonetheless $QSR doesn’t even come close to a top 10 idea and for that reason it’s a pass. Although I would revisit if the multiple got closer to single digits.
***Disclosure: I have no position in the security mentioned above, nor do I have any plans to purchase within the next 72 hours. This article is intended for educational purposes only and in no way should be interpreted as investment advice