As my regular readers know, I am bearish on Tim Hortons. I think the market is currently pricing them significantly higher than what I think their intrinsic value is. However, the fact that Tim Hortons is priced so high makes Wendy’s look very attractive given their 85% stake in THI.
Factoring in Tim Hortons’ closing price on Friday, they have a market capitalization of around $5.75 billion. This makes Wendy’s stake in the company worth approximately $4.9 billion. Wendy’s market capitalization currently stands at $7.2 billion. Using our first-grade math skills, we’ll subtract Tim Hortons’ share of Wendy’s from its current market capitalization and arrive at a figure of $2.3 billion. Considering that Wendy’s will sell its 85% stake before the end of the year, the market is only valuing Wendy’s core business at our $2.3 billion figure that we derived. Let’s take a look at some ratios using our adjusted Wendy’s valuation…
* Final P/E: 10.2…McDonald’s: 17
* Forward P/E estimate: 7.4…McDonalds: 14.6
* Retail Price: 0.6…McDonald’s: 2.1
* Sales forward price: 0.56…McDonald’s: 1.95
By all these metrics, Wendy’s seems very cheap. Earnings growth should pick up nicely, as shown by their forward P/E estimate. With management exploring various cost reduction and efficiency models. Also, with the proceeds from the sale of Tim Hortons, I hope they will pay off their outstanding debt. They only have $625 million in debt on the books, but at 15% interest (a stab, I don’t know what the actual rate they’re paying) this subtracts $100 million from earnings. By paying for that and implementing the efficiency model that management has suggested will be implemented, I think they could beat current estimates.
Based on relative valuations, the stock could double in the short term. Add in the possibility of beating expectations and the stock could appreciate even more. The IPO of Tim Hortons has created an opportunity to pick up Wendy’s stock at a very low valuation. This price discrepancy needs to be corrected as fundamentals govern long-term valuations. This is a great value play at these levels, I’m sure Graham would compete.