#$qsr

EARNING UPDATE $QSR Restaurant Brands International Inc. for quarter ending q_Jun18 – Revenue fell but Margins expanded

[s2If !current_user_can(access_s2member_level0)]Please login to read the earning update on QSR [lwa][/s2If][s2If current_user_can(access_s2member_level0)]Restaurant Brands International Inc. reported earnings (EPS) of 0.66 per share for the quarter ending q_Jun18. This is vis-vis 0.59 per share for the previous quarter ending q_Mar18, a growth of 11.9 %. Compared to last year same quarter…

The parent of Burger King and Tim Horton's announces that it will pay $1.8 billion for Popeyes Louisiana Kitchen.

By Laura Berman

Restaurant Brands International Inc. (QSR) confirmed on Tuesday, Feb. 21, its long-awaited deal to acquire Popeyes Louisiana Kitchen Inc. (PLKI).

Restaurant Brands will pay $79 per share, or $1.8 billion, a 19.5% premium over Popeyes' Friday closing price of $66.12. The purchase price also represents a premium of 27% over Popeyes' volume weighted average price as of Feb. 10, when rumors first surfaced about the bid.

UBS's Brett Pickett and Lowell Strugg and Genesis Capital LLC's Jonathan Goldman provided financial advice to Popeyes, which tapped a King & Spalding LLP team led by Cal Smith as its outside counsel.

Restaurant Brands retained a Paul, Weiss, Rifkind, Wharton and Garrison LLP team led by Scott Barshay and Brian Lavin as its legal adviser for the deal and did not retain an outside financial adviser.

Restaurant Brands said in a statement that Popeyes will continue to manage itself in the United States "while benefiting from the global scale and resources of RBI," which "plans to continue developing the brand at an increasing pace in the U.S. and international markets in the years to come."

Popeyes has 2,600 locations in the United States and 25 other countries, while Restaurant Brands' Burger King and Tim Hortons brands are significantly larger. Burger King operates over 15,000 locations in the United States and 100 other countries, while Tim Hortons has 4,600 locations in the United States, Canada and the Middle East.

Restaurant Brands CEO Daniel Schwartz said on a conference call that Popeyes' U.S. locations average $1.4 million in revenues.

The formation of Restaurant Brands was one of the earliest major deals for 3G Capital, but pales in comparison to the Brazilian private equity firm's latest investments.

In 2010, 3G acquired Burger King Holdings Inc. in a deal valued at $4 billion, including debt, netting a handsome return for private equity backers TPG, Bain Capital LLC and Goldman Sachs Capital Partners, who retained a 31% stake after taking the company public in 2006. Two years later, 3G returned Burger King to public markets in a complex deal valuing the company at $8.1 billion.

3G made an even bigger splash in 2014, with Burger King agreeing to pay $11 billion for Canada's Tim Hortons Inc. Warren Buffett's Berkshire Hathaway Inc. (BRK.B) provided $3 billion of Burger King's $12.5 billion financing commitment. The combined company rebranded as Restaurant Brands in late 2014.

Buffett, who currently holds a 3.6% stake in Restaurant Brands, also teamed up with 3G in its $28 billion purchase of H.J. Heinz Co. in 2013. Heinz subsequently merged with 3G-backed Kraft Foods Group Inc. in a $55 billion deal to form Kraft Heinz Co. (KHC). While Kraft Heinz and 3G's acquisition appetites were the source of wide speculation, even company followers were shocked when the food giant on Friday offered $143 billion for Unilever plc (UN). The offer was quickly withdrawn.

3G also orchestrated the formation of Anheuser-Busch InBev SA/NV (BUD) through a series of acquisitions culminating in a $107 billion deal with SABMiller plc closing Oct. 10.

On the conference call, Restaurant Brands CFO Joshua Kobza said that Popeyes "is growing at a similar pace as Burger King was in 2010," when 3G acquired the brand. "Back then Burger King was growing approximately 170 net new restaurants per year," he said. "And over the course of the past six years, we've been able to increase the pace of growth to 735 net new restaurants per year as of 2016."

Popeyes specializes in fried chicken. Kobza added that chicken is "a popular category across the world," with particular growth potential in Asia.

Restaurant Brands will finance the deal, which is expected to close in April, with cash on hand and financing committed by J.P. Morgan and Wells Fargo. The Oakville, Ontario-based company had cash and equivalents of C$1.948 billion ($1.495 billion) as of December.

King & Spalding's Rob Leclerc, Jeff Stein, Elliot Tapp and Zach Cochran also advised Popeyes. Sonny Cohen was in-house counsel to Popeyes.

The firm, also based in Atlanta, is Popeyes' longtime corporate counsel. Stein was issuer counsel on the 2001 IPO of AFC Enterprises Inc., Popeyes' corporate predecessor, while Cohen practiced at King & Spalding before going in-house at Popeyes. King & Spalding also advised AFC when it sold Seattle Coffee Co. to Starbucks Corp. (SBUX) for $72 million in 2003.

Electricity is a lifeline of the modern world and its evolution is toward being produced ‘clean.’ Thanks to its clean burning, predictable and flexible nature coupled with a production boom and lower prices, natural gas has become an increasingly attractive fuel for the electricity generation. Evolving technologies will continue to enable natural gas to play an ever increasing role in the clean generation of electricity.

The early 1970’s saw a growth spurt in the use of natural gases largely due to its diverse applications and attractive prices. But, for most of the 150 years of U.S. oil and gas production, natural gas has played second fiddle to oil and coal. In the decades following the 1970s, natural gas didn’t re-emerge notably until 2003 when we saw cyclical demand in the U.S. rise highlighted in context of limited availability and multi-year ‘take or pay’ contracts emerge (agreements where buyers agree to either: 1) take, and pay the contract price for, a minimum contract quantity of commodity each year (‘TOP Quantity’); or 2) pay the applicable contract price for the TOP Quantity if it is not taken during the applicable year).

Over the years, as natural gas gained popularity in terms of its varied usage capabilities—eight of every 10 rigs were chasing gas targets. After 2003, and with the onset of the shale revolution, we saw both production and consumption of natural gas rise at a fast pace. Natural gas production increased from less than 50 billion cubic feet a day (Bcf/d) in 2005 to about 80.1 Bcf/d in February 2016; an increase of nearly 60% over 10 years. February 2016 recorded the second-highest production level ever, and there is no indication that this rate of increase is slowing. In fact, with continuing improvements in drilling efficiency and effectiveness, natural gas production is forecasted to reach almost 90 Bcf/d by 2020 (according to the U.S. Energy Information Administration).

On the consumption side, total natural gas consumption averages for 2016 stood at 76.5 Bcf/d compared to 75.3 Bcf/d in 2015. Despite a minor increase in consumption, adverse weather conditions, over-supply, record low oil prices and limited storage facilities have dampened natural gas prices (which have hovered around record lows achieved in December 2015 of $1.70 per MMBtu. The Henry Hub natural gas spot price averaged $1.92/million British thermal units (MMBtu) in April 2016, an increase of 19 cents/MMBtu from the March price.

Over-supply coupled with a warm 2015-2016 winter has resulted in low gas prices, but the scenario is expected to change in 2016 as we see a dip in the supply of natural gas. Overall dry gas production and imports have been on a decline since last October, and in the meantime exports have also gone up. As a result, it is expected by the EIA (U.S. Energy Information Administration) that the supply surplus that has existed since December 2014 will slowly disappear and move into a deficit by November 2016. This change in the demand and supply dynamic is expected to improve the overall economics of the U.S. natural gas market in the latter half of 2016 and 2017.

Henry Hub spot prices averaged $1.99 per MMBtu in the first quarter of 2016, but with a change in the supply and demand equation, prices are expected to double during the deficit period as seen during the last supply deficit from December 2012 to November 2014.

Bottom Line for Investors

A decade of declining natural gas prices has led to a decline in investor confidence. Lack of profit led many energy companies to divest natural gas assets and reinvest in oil instead. However, the tide seems to be turning as incredible reductions in drilling costs have made it possible for many natural gas wells to break even or turn a profit at current levels. Around 2008, 1,560 rigs were required to produce 2.9 trillion cubic feet of shale gas, but today only 189 rigs are giving 5 times higher production. Leveraging the benefits of game-changing technology is making the industry’s presence felt again.

A number of other factors are expected to drive demand for this reliable, cheap and abundant source of energy and provide a compelling long-term investment opportunity:

A rise in exports due to growing demand for U.S. natural gas from Europe and Asia

Gas replacing coal as the primary source of U.S. power

Increased investments in pipelines and infrastructure in order to remove major bottlenecks

Zero dependence on any cartel

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The fallout from diminishing oil prices has hit companies small and large. Numerous small players have been wiped off the map while bigger companies have felt the pinch in the form of depressed earnings. But, on April 25, Exxon Mobil got ‘kicked while it was down’ when Standard & Poor's lowered their corporate credit and long-term debt ratings stripping the oil giant of its pristine AAA classification.

Exxon traces its roots back to the days when kerosene competed with whale oil as a household lamp fuel, and it’s been the proud holder of the coveted AAA credit rating since 1949. But, Standard & Poor’s didn’t look well on Exxon’s huge debt level, coupled with seriously dented cash flows (related to lower oil prices). The concern is that Exxon is less than ideally situated to cover debt and interest payments, as well as strapped for investment in new discoveries.

As the price of oil tumbled, Exxon issued debt rapidly to fund its dividend program and capital spending. Last year, Exxon reported an annual profit of $16.2 billion, a 64% drop from the year before, but its long-term debt has nearly doubled to 20 billion. The company also slashed its capital expenditures by 29% in the fourth quarter of 2015 to $7.4 billion , reflecting the industry's sweeping withdrawal amid oil's decline.

Exxon’s rising debt burden and diminishing returns, coupled with its inexorable increase in its dividend payments, resulted in a return on invested capital (ROIC) of just 5.2% in 2015; the lowest it’s been since the merger with Mobil in 1999. As a result, Exxon was bumped down to 'AA+'.

What Does a Downgrade Mean?

In reality, a small rating downgrade probably won’t have too much effect on Exxon. First of all, Standard & Poor’s and other ratings agencies are not the be-all end-all when it comes to indicating a company’s strength.

Second, the market seems to have already shrugged off the ratings downgrade. While the stock price declined by as much as 25% in early fall of last year to around $72 a share, the stock price is already back to ~$90 as of this writing.

In terms of reputation, this could be a slight setback as the AAA credit rating was a key selling point for Exxon while conducting business in foreign markets. To some extent, this also impacts the company’s marginal cost of debt capital, which is especially important in a capital intensive business. The downgrade in ratings may increase borrowing costs and can make acquisitions more expensive.

Bottom Line for Investors

Though a downgrade looks bad on paper, it’s not really as bad as it sounds—especially if the company is going from AAA to AA+. An investor might look at it as nothing more than a gentle alert about a company feeling some pressure in a sector that’s widely known to be under duress. Exxon should be just fine and have no trouble surviving this period, remaining perhaps the strongest player in the oil space.

For investors adamant about ratings and highest quality possible, there are now only two U.S. non-financial companies with the highest possible rating on their debt: Johnson & Johnson and Microsoft Corp. It doesn’t necessarily mean they’re the safest stocks—all stocks are inherently risky—but you might look to them for added peace of mind.

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

The title of this week’s column suggests I’ve turned bearish—I haven’t. We’ve said all year that we expect middling, but positive, returns from equities in 2016. In my view, we’re likely to see returns in the mid-single digits. Growth is slow, but it’s still growth. Also, as there are more tailwinds than headwinds occurring, we think corporate earnings will bounce positively in the second half of the year.

Still, there’s a compelling argument that we’re in the late phases of this bull market and economic cycle—an argument that holds water. There’s also historical precedent (which I’ll discuss below) that suggests defensive sectors and categories of stocks (like food processors and health care providers) will tend to outperform during sluggish times. For those who are a bit more bearish than others, you may want to reallocate investments in your portfolio.

Why Favor Defensive Sectors Late in the Cycle?

Over time, defensive sectors like Consumer Staples, Utilities and Health Care have tended to outperform during recessions and bear markets. Since 1963, each of those lower volatility sectors has almost always outperformed cyclical sectors during a bear market or recession (according to Vanguard Investment Counseling & Research). These include sectors such as Materials, Industrials, Energy, and Information Technology. Logic explains why: defensive sectors consist of companies that produce and sell goods for which demand changes little over time. Therefore, in a recession, many consumers strapped for cash will still spend on health care, ‘staple’ goods (paper towels, diapers, processed foods) and utilities (water and electricity).

Cyclical sectors experience opposite dynamics. During a slowdown, these companies pare back on activities such as building new factories while consumers hold off purchasing things like cars and luxury items. The relative earnings growth of defensive vs. cyclicals in down times tends to favor defensive sectors versus cyclicals, and stocks have historically reflected that shift.

A recent data point from ETF.com suggests an investor shift may be underway. Over the past two weeks, the Consumer Staples Select Sector SPRD ETF gained $333 million in net inflows relative to the much lower $105 million that flowed into the Consumer Discretionary Select Sector SPDR fund. Institutional investors also signaled some movement to the defensive—it was reported that the number of new institutional buyers (hedge funds, mutual funds) of Campbell Soup increased 92%, while new institutional owners of Coca Cola jumped 81%. If you’re wondering why that’s meaningful, consider this: Campbell Soup, a ‘defensive play’ was down 20.71% in 2008 while the S&P 500 fell nearly twice that (-40.18%), and Coke was down 29.55%.

Is Now a Good Time to Rebalance?

Arriving at the heart of the matter, the question is: should investors rebalance away from cyclicals toward defensive sectors? I still think it’s too early. To me, the odds of the economy and corporations surprising to the upside are about the same as the odds they perform in-line with expectations. In either outcome, it’s mostly growth across the board which means no bear market or recession. This suggests that defensive sectors may not necessarily shine on a relative basis, just yet.

Bottom Line for Investors

A well-diversified portfolio should have exposure to defensive and cyclical sectors at all times, which gives you a 100% probability of being allocated to ‘defensive’ names during difficult market periods. Where you tilt your portfolio is a tactical decision that you should base on where you see the economy and the market in the cycle, and what sectors and styles you think will perform best given economic circumstances at hand.

As we enter late cycle stages of the bull and economic expansion, I think it makes sense to favor larger cap, dividend paying names with stable earnings outlooks and defensive sectors as well. As the outlook turns less rosy, a tactical choice would be to incrementally shift to defensive, but not overly so. Just as defensive sectors tend to do well on a relative basis during challenging times, they also tend to under-deliver when growth is better than expected. I’m not convinced these times are as challenging as many believe them to be.  

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

Oil price declines have resulted in fatal blows as industry bankruptcies now rival those from the Tech bubble burst at the latest turn of the century. Approximately 60 U.S. oil companies have filed for bankruptcy—just a few less, at this point, than the 68 filings made during the tech crash. Fifteen bankruptcy filings occurred in the first quarter of 2016 alone including Houston’s Ultra Petroleum Corp. and Oklahoma-based Midstates Petroleum Co. Despite rising oil prices, more producers are expected go broke this year as well.

Recent Oil Bust Similar to Tech in 2001?

Innovative technology played a key role in the boom and the bust (ironically) of both oil the dot coms/tech. While the U.S. oil industry prospered on the back of the shale revolution, the tech boom was aided by pioneering communication technology, such as high-end optical fiber (coupled with industry deregulation in 1996).

For both sectors, the rapid onset of innovative technology created strong prospects for future growth and encouraged a rush of new entrants into the space (along with plenty of investors who largely overvalued the growth potential). The end result was the same:

Overvalued companies

Too much debt

Capacity glut

Successive price declines for each of the two sectors

The valuation plunge in the oil sector closely resembles that of the 2000 tech bubble. According to Dow Jones Oil and Gas Index, valuation losses amounted to $1.02 trillion against a 60% drop in crude prices since mid-2014, widely exceeding the $882.5 billion of valuation erosion from the Dow Jones U.S. Telecommunications Sector Index in the aftermath of the telecom bust.

Energy Impact Similar to That of Technology Bust?

Although certain aspects of the oil rout might evoke déjà-vu of the 2000s tech bust, it would be overstating the case to equate their impact. The effects of innovation in the tech space were not limited to that industry alone as the revolution in communications via the internet and wireless phone services emerged as the lifeblood of the 21st century global economy. So, bankruptcies in that space were bound to create acute issues across the economy.

On the crude oil side, the effects of price declines are more diverse across a variety of sectors. Bankruptcies from crude price declines are more likely for companies that exclusively deal in exploration/production. Bigger, integrated players have offset negative earnings from upstream operations with tailwinds provided by lower crude cost for downstream activities. Additionally, the energy sector’s overall market presence is not necessarily threatening for the economy as a whole. While oil and gas extraction’s labor force comprises just about 0.1% of total nonfarm employment and its value added accounting 1.7% of 2014 GDP, most big American banks’ exposure to the sector do not exceed much over 3% of their loan portfolios.

Furthermore, the price declines have already stimulated larger slices of the economy through fuel cost savings for consumers and resource-intensive industries (a positive sign for the overall economy over the longer term). Also, a substantial part of U.S. oil consumption comes from foreign countries, so U.S. oil bankruptcies by themselves are not sufficient enough to deprive the nation of fuel and cause an energy crisis.

Lastly, most oil corporations, under Chapter 11, would continue operations—something that should assuage fears of future production shortages.

Bottom Line for Investors

Although cratering crude prices have dealt a massive blow to the energy sector, it is not likely to create catastrophic impact across the economy, as a telecom/technology bust could and did. The well managed players in energy have already largely restructured their businesses for lower crude prices, and the smaller players that have gone by the wayside probably won’t create any kind of ripple into the broader stock market.

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

2015 emerged as one of the toughest years for the hedge fund industry, recording the highest number of liquidations since 2009. With 979 funds closing shop and 968 new launches, 2015 was the first year to see liquidations exceed new launches since 2009. Furthermore, Q4 2015 was the first quarter to experience net outflow of capital ($1.52 billion) since Q4 2011 (according to Hedge Fund Research, Inc.).

What’s Going On?

There are a confluence of factors at play, such as:

Investor’s reduced risk appetite (causing reallocations, i.e. increased redemptions)

Massive liquidations of holdings by exiting funds on an institutional level

The average hedge fund manager having a difficult time in a fickle market that is trending higher but quite unpredictably

All of these factors together could have a role in eroding existing funds’ returns.

Speculative Bets Don’t Guarantee Sustainable Results

According to Hedge Fund Research, Inc., the HFRI Fund Weighted Composite index had returned a positive +3.3% in 2014, but fell -0.9% in 2015. The decline in hedge fund performance affirms the often-stated but equally ignored fact that past performance is no guarantee of future results. Just look at what happened with Bill Ackman’s Pershing Square Holdings. After ranking among the best performing hedge funds of 2014, its gross returns plummeted to a negative -19.3% (versus S&P 500 Total Return’s +1.4%) in 2015. Glenview Capital Management, another marquee name in the business, is down -15% this year through February after substantial losses last year.  

One of the pitfalls of the hedge fund industry is the over-fixation on quick wins—which leads to generating speculative bets. Fundamentals-based discipline typically takes a backseat, which can have negative outcomes. For instance, 50 stocks that Goldman Sachs says hedge funds like most were collectively down -5.6% for the year through March 4, 2016.

Furthermore, hedge funds’ limited transparency has caused concern – another reason why some investors may be shying away from these funds, particularly under vulnerable market conditions. Pershing Square Holdings, for instance, publicly discloses only 11 of its stock positions, and 8 of those positions are down while just 1 is up more than +1% as of March 8 this year.

Bottom Line for Investors

Leverage and limited transparency may be a bit much to handle for jittery investors given current market dynamics. A fundamental, long-term approach, though not as ‘sexy’ and unique as some of the strategies afforded by hedge funds, may produce better returns over time. Stay abreast of economic news, be aware of corporate fundamentals and think long term!

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss. Zacks Investment Management, Inc. is a wholly-owned subsidiary of Zacks Investment Research. Zacks Investment Management is an independent Registered Investment Advisory firm and acts an investment manager for individuals and institutions. Zacks Investment Research is a provider of earnings data and other financial data to institutions and to individuals.