MTY Food Group Inc. – Another Restaurant Stock In For Your Portfolio

This is an update on the restaurant group MTY Food Group Inc. My original article was published in December 2013, so an update won’t hurt. I’ve been more conservative with my valuation. I didn’t include any acquisitions or potential expansion plan in the U.S. If any of the two events happens then MTY is worth more than my estimates. I valued MTY on its current business and not its potential. MTY is a serial acquirer and the market is not giving any value to a potential large accretive acquisition. MTY’s growth-by-acquisition strategy makes it difficult to forecast earnings and therefore to value.

Below is a portion of the article. The full article is available at Seeking Alpha.


 

MTY Food Group Inc. – Another Restaurant Stock In For Your Portfolio

Summary

  • For each plate that is sold MTY earns royalties. MTY simply collects royalties and has very low capital expenditures and financial risk.
  • When you buy MTY, you’re not investing in the restaurants directly. Rather, you’re buying into a royalty stream based on a percentage of the restaurants’ sales and much more.
  • Stanley Ma has proven to be a great capital allocator.
  • Because of its asset light model, generates a lot of Free Cash Flow.
  • MTY distributes a modest but growing dividend.

TSX: MTY

U.S./OTC: OTC:OTC:MTYFF

MTY Food Group Inc. is primarily traded on the Toronto Stock Exchange under the sticker MTY.

Note: Dollar amounts are in Canadian $ unless mentioned otherwise. USD-CAD 1.3183 Price of 1 USD in CAD as of September 15, 2015.

MTY Food Group Inc. (NYSEARCA:MTY) is a restaurant stock that owns a collection of 35+ brands that operates over 2,792 locations. When you buy MTY, you’re not investing in the restaurants directly. Rather, you’re buying into a royalty stream based on a percentage of the restaurants’ sales and much more. For each plate that is sold MTY earns royalties. MTY simply collects royalties and has very low capital expenditures and financial risk. Because of this successful recipe, MTY receives recurring revenues that contributes to its growing war chest aimed at acquisitions.

Canadians In December 2013 I published my initial research on MTY, MTY Food Group Inc. – A Restaurant Stock For The Wallet. At the time of the publication MTY was trading at $32.75 and has been up and down since then to end up around ~$31 at the time of this writing. If I had published my update just over month ago it would have looked like a winner when MTY peaked to $37.42 on July 31, 2015. Since then MTY has fallen sharply with market turbulence that followed. There wasn’t any bad news linked to the slump in the stock price and just like many companies MTY is simply a victim of the general selloff in global markets.(click to enlarge)Source: Google Finance

However the current drop doesn’t affect the intrinsic value of MTY. The latest price slide offers investors an opportunity to buy it cheaper than when I published my original research. The price per share is cheaper and on a valuation metric basis it’s cheaper too (MTY has grown into its multiple). Expect sharp ups and downs with this stock. MTY is a small Canadian company with rarely any announcements other than results four times a year and the occasional acquisition. Let’s just say that public relation is not their thing. So there are days where you scratch your head when the stock suddenly drops or pops.

My almost two-year chart above is not representative of the growth MTY had in the past. The chart below represents the compounding effect of MTY. (click to enlarge)Source: Quotemedia.com. Google Finance and Yahoo! Finance only provides graph that debuted once MTY got listed on the TSX. MTY was upgraded to the TSX in May 2010.

The stock really started taking off once it dropped its other business line in 2003 to focus on the food industry. The early form of MTY was in the restauration business but also in IT and other things. That didn’t go well with the tech bubble crash. That’s not the case anymore. Today MTY is much more focused and profitable.

Let’s review why MTY Food Group Inc. is an interesting investment.

Investment Thesis

MTY Food Group carries a lot of the qualities I look for when investing in a company. The company is easy to understand and franchising is an asset light business model. The business model helped MTY achieve a long history of profitability and generates growing free cash flow. That money is reinvested to compound shareholder value. MTY is headed by Stanley Ma, an excellent capital allocator. He’s disciplined and doesn’t like to overpay for acquisitions. He has proven to be a great steward of shareholder capital. He’s not afraid to say “no” and to walk away if the terms are not satisfying. MTY has also initiated a small dividend in 2010 that’s been growing modestly (well, it has doubled since from $0.05 to $0.10 per share, it represents a 1.27% dividend yield). And more importantly, MTY’s valuation is below its peers. I have a section on the valuation towards the end of the article. Patient investors should realize the benefits of compounding.

There’s no doubt that the restaurant/food industry is hyper competitive. It’s a crazy business to be in. Barriers to entry are low and a successful concept is easily copied. However I believe MTY might have an economic moat. I think MTY has one and it is its concentrated presence in food courts. Aside from Mcdonald’s, Subway, and A&W Restaurant, MTY almost runs a monopoly in most food courts. MTY’s brands are everywhere in the food court. In a food court there are only so many spots available and MTY is the biggest player. I don’t know the exact percentage of MTY’s market share of the food court units, but my personal observations tells me its pretty high. That’s why Stanley Ma has been nicknamed “the king of food court”. Such a concentration doesn’t represent a risk for shareholders. If anything, the recurring revenues from the mall helps finance its expansion on the street front. In Canada MTY might not have the same growth rate as in the past, that’s why it’s turning to the U.S. market for its next growth phase. Consumers looking for a bite at the mall are forced to choose between McDonald’s and MTY’s group of brands. If a location is doing poorly MTY can replace it with another concept. Malls love MTY because it’s only one person/entity to deal with and they will fill up the food court without worrying about if rent is going to be paid on time. You can argue that it’s a form of cannibalization between franchisees but for MTY it still gets its ~6% royalty no matter where the consumer buys its plate. On the downside the mall locations are open fewer hours than the street units. Conversely, the economic moat I’m talking about is not applicable to MTY’s street locations, where it’s really hard to have a competitive advantage for any kind of retailer but you have longer hours. Most of MTY’s units are in the food court but the company has been expanding outside and has been acquiring full service restaurants such as Madisons New York Grill & Bar (great restaurants and ribs by the way, make sure you get a sub-zero pint in a chilled glass)

MTY’s main growth driver is acquisition. MTY Food Group Inc. is a business built on acquisitions. A disciplined approach to acquisition and an under-levered balance sheet (Net Debt/EBITDA 0.27x vs peers 1.5x-1.8x) provides the muscle for MTY to continue their serial acquisition approach. MTY is also looking at the United-States for their next phase of growth where it presently has a small base of restaurants.

My valuation, which is detailed in the article below, only values MTY at its present state. I believe that MTY can deliver a 10-20% return in the short-term. This doesn’t include any acquisition. A growth-by-acquisition strategy makes it difficult to forecast earnings and therefore to value.

Recent acquisitions since my last article are: Madisons New York Grill & Bar($12.9m for 90%), Van Houtte Café Bistros ($950k), Café Depôt, Muffin Plus,Sushiman and Fabrika ($13.9m), Manchu Wok, Wasabi Grill & Noodle and SenseAsian ($7.9m), and most recently MTY will soon be adding Big Smoke Burger ($3m for 60%) to its collection of brands.

What is MTY Food Group Inc?

If you are an American you probably never heard of MTY and Canadians consume their products on a regular basis without ever knowing it. If you are not very familiar with MTY it’s because you are not going to find a restaurant with the name MTY on it.

MTY operates over 2,792 locations under a collection of 35+ brands. Canadians are probably more familiar with names such as Country Style, Tutti Fruitti, Mr. Sub, Thai Express, Jugo Juice, Cultures, Valentine, Extreme-Pita, or Tiki-Ming, Van Houtte, Madisons New York Grill & Bar, Mucho Burrito, Café Depôt, Manchu Wok, Big Smoke Burger ; all brands that MTY operates. As for the American market, in May 2013 MTY announced their first foray into the U.S. with the acquisition of Mucho Burrito, Extreme Pita and PurBlendz brands. They have every type of chain you can imagine, from sushi to Greek to burgers, with most of the locations in mall food courts. MTY’s current market share is difficult to estimate, due to the continued addition of concepts and the constantly changing competitive landscape. According to Technomic, MTY’s portfolio of brands contains 11 of the top 100 Canadian Restaurant Brands (but I’m usually skeptical of these kinds of surveys). (click to enlarge)Source: AIF 2014. The chart is missing Big Smoke Burger.

When you buy MTY, you’re not investing in the restaurants directly. Rather, you’re buying into a royalty stream based on a percentage of the restaurants’ sales and much more. For each plate that is sold MTY earns royalties. MTY simply collects royalties and has very low capital expenditures and financial risk. The math is simple; more franchises => more sales =>more royalties. Because of this successful recipe, MTY receives recurring revenues that contributes to its growing war chest aimed at acquisitions.

Of the brands above some were developed internally and the rest is from acquisitions and licensing deals. MTY holds the license agreement for Yogen Fruz, Taco Time, TCBY, and Greek restaurant Au Vieux Duluth. For a complete list of the brands (new and old) I would refer you to page 12 of the 2014 Annual Information Report.

The MTY headquarters is located near a major mall in Montreal (Place Vertu Mall). There’s nothing particular about this mall except it’s worth mentioning that MTY maintains a good relationship with the owner of the Place Vertu Mall and the food court there serves as MTY’s personal laboratory. The owner of the mall allows MTY to test new food concepts. MTY owns the lease, so if a banner doesn’t work out it can easily be replaced with a different one. Food courts are great for new brands with little recognition; customers take their tray based on taste impulse rather than brand loyalty. In food courts big bright colorful menus is more effective than traditional advertising. MTY’s multiple banners allow it to have a direct pulse on the trends in the food industry. They have a strong sense for changing public tastes. It also allows MTY to match the cuisine to each location and demographic.

The full article is available at Seeking Alpha.

Advertisements

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s