Burger King: Have It Your Way, Eh?
In recent decades, there have been some unusual business bedfellows in the restaurant world. Both Burger King and Dunkin’ Donuts were owned by European-based liquor distributors (Diageo and Allied Domecq respectively). In the early part of the 21st century, burger giant McDonald’s also owned Boston Market, Donatos Pizza, and Chipotle Mexican Grill. Deciding it needed to focus on its core brand, the company eventually sold Boston Market to a private equity firm, returned majority ownership of Donatos to its founder, and spun off Chipotle into its own publicly owned company. (The latter has since become one of the most successful fast-casual chains in the country.)
Around the same time, Wendy’s International (as it was known then) acquired and then in 2006 disposed of fast-casual fresh-Mex chain Baja Fresh and Canada’s favorite doughnut chain, Tim Hortons. In 2008, Triarc Companies, parent of the Arby’s sandwich chain, bought Wendy’s and changed the corporate name to Wendy’s/Arby’s Group Inc. The duo consciously uncoupled just three years later, and Arby’s was acquired by a private equity firm, while Wendy’s continued as a publicly traded company now known as The Wendy’s Company.
In spite of this long history of mismatched alliances, in late August the world’s second largest hamburger chain, Burger King, and Canada’s largest restaurant chain, Tim Hortons, announced that they will seek to become one company, operating both concepts independently but with the joint entity’s headquarters in Canada. The resulting company would become the world’s third largest fast-food restaurant group (behind #1 McDonald’s and #2 Yum! Brands) with more than 18,000 locations in 100 countries and combined systemwide sales in excess of $22 billion. Burger King’s parent, 3G Capital, will finance the acquisition (and will retain majority ownership of the combined company) along with a significant investment from U.S. mega-investor Warren Buffet’s Berkshire Hathaway.
Howls of protests immediately erupted on social media as onlookers and pundits examined the tax consequences of this move. Suddenly, everyone was complaining about tax inversions, and Burger King was being assailed as un-American. Within hours of the announcement, hundreds of consumers went on BK’s Facebook page, threatening to never cross a BK threshold again. Burger King quickly took to social media itself, issuing the following statement: “We hear you. We’re not moving, we’re just growing and finding ways to serve you better … The decision to create a new global QSR leader with Tim Hortons is not tax-driven — it’s about global growth for both brands. BKC will continue to pay all of our federal, state and local U.S. taxes.”
Some background and definitions might be helpful to help the reader better understand the uproar behind this proposed merger.
First of all, what is a tax inversion? Wikipedia defines it as “the relocation of a corporation’s headquarters to a lower-tax nation, or tax haven, usually while retaining its material operations in its higher-tax country of origin.” Investopedia notes that corporate inversion is a strategy “used by companies that receive a significant portion of their income from foreign sources, since that income is taxed both abroad and in the country of incorporation.” According to Nation’s Restaurant News, Canada’s federal corporate tax rate is 15%, compared to 35% in the U.S.
Who or what is Tim Hortons? Tim Horton was an legendary Canadian hockey player for the Toronto Maple Leafs as well as several U.S. NHL teams. With a business partner, he founded a coffee and doughnut shop in 1964 in Hamilton Ontario. Now 50 years old (and still apostrophe-less), Tim Hortons has grown to more than 4,500 locations, 80% of which are located in Canada and all but 0.4% of which are franchisee operated. Fondly known across the country as Timmys (or Timmies, depending on the source) and beloved for its timbits and coffee, Tim Hortons is uniquely Canadian-born and -raised, despite having been under Wendy’s control for a decade. Sources say that 80% of the cups of coffee sold in the country comes from its restaurants, and 15% of Canadians visit Tim Hortons on any given day. Because of the iconic status of the chain, company officials rushed to assure its customers that its restaurants and menu offerings will remain unchanged, and that restaurant-level employees will not be affected by the merger.
What about 3G Capital? Headed by Brazil’s richest man, Jorge Paulo Lemann, the company has offices in Brazil and New York. It came to the nation’s spotlight in 2008 when it acquired Anheuser-Busch and merged it with its own group of breweries to form Anheuser-Busch InBev, the world’s largest brewer. In 2010 the company acquired Burger King, took it private then in 2012 took it public while still retaining majority ownership. In 2013, 3G acquired H.J. Heinz, noted among other things for its catsup; this transaction led McDonald’s to seek another source for the catsup served in its restaurants.
Although Burger King assures its U.S. customer base that this proposed deal is strictly a strategic move and has nothing to do with tax avoidance, it’s worth noting that in 2013, more than 41% of the company’s total revenue and income was derived from geographic segments outside the United States and Canada. Under tax inversion, Burger King would still be subject to U.S. corporate taxes on the 58% of its income generated domestically but the remainder would presumably be subject to the much lower Canadian rates.
From a strategic perspective, combining operations with Tim Hortons would open up the Canadian market for Burger King to develop additional franchise agreements among Tim Hortons existing franchisees, although no co-branding is being contemplated. At the end of the most recent fiscal year, Canada’s 281 BKs represented just 2% of the total worldwide locations, indicating significant room for growth. (The 1,400 McDonald’s in Canada represents just 4% of its total system restaurants, suggesting either that there may not be a large demand for QSR hamburgers in the country or Canada is currently significantly under-stored in this category.)
There is a more obvious rationale for Tim Hortons to consider becoming the child of a U.S.-based hamburger chain again, and that is its need to continue growing. The company’s 2013 Annual Report contained an entire section entitled “U.S.: A Must-Win Battle.” An excerpt from this section notes: “We remain committed to the U.S. market – it is a must-win battle that we believe will provide an additional avenue of growth for the Tim Hortons brand beyond Canada in future years.” An online article from CBC.ca (the Canadian Broadcasting Corporation) called the deal “a big win for Tim Hortons,” citing Burger King’s expertise with “location mapping, knowledge of regional competition and networks of local suppliers.” Burger King also has the marketing expertise and capital required to familiarize a new audience with our northern neighbor’s brand.
Not everyone north of the border is on board with this arranged marriage. There are probably legitimate concerns about the loss of jobs in the executive suite, as certain overarching functions are consolidated. Alan Middleton, executive director of York University’s Schulich Executive Education Centre, speculated that Tim Hortons may test fewer new items, a process that he asserts helps make Timmy a dynamic and successful company. One commentator noted that part of the success of the company has been its Canadian thinking and way of doing things and that a change of ownership could disrupt that. A pundit on Twitter tweeted: “I’ve got a bad feeling about this Burger King/Tim Horton merger How you s’posed to dunk a Whopper in your coffee?”
If the transaction is approved by Canada’s foreign investment agency, Tim Hortons shareholders and U.S. antitrust authorities, the new, as yet unnamed company will be headed by Alex Behring, currently Executive Chairman of Burger King and retaining that title in the new organization. BK’s 34-year-old CEO Daniel Schwartz will become Group CEO of the joint entity, and Tim Hortons CEO/President Marc Caira will be appointed Vice Chairman. The new board of directors will be comprised of the current eight Burger King directors and three directors to be appointed by Tim Hortons, including Mr. Caira. Closing of the transaction is expected later this year or early 2015.