Heinz Ketchup: Only Available on a Whopper Sandwich?

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On Feb. 14, news broke that Warren Buffett’s Berkshire Hathaway and partner 3G Capital would be purchasing the iconic American company H.J. Heinz (NYSE: HNZ). The $28 billion dollar deal represents a 20% premium to H.J. Heinz’s closing price from Feb. 13. Brazilian investment firm 3G Capital, which maintains controlling ownership of Burger King Worldwide (NYSE: BKW), will be the operational partner going forward at America’s favorite ketchup company.

Buffett praised the work that 3G Capital has done thus far at Burger King in widening its appeal among consumers and gaining traction in the competitive quick-service restaurant landscape. 3G purchased Burger King in October 2010, took the company private, and brought a tranche of the company public again in 2012 through a reverse merger transaction with billionaire investor Bill Ackman.

I was fortunate enough to begin my professional career by working at Burger King headquarters here in Miami directly out of college. 3G Capital implemented a hiring freeze, so I was brought in as an independent contractor, working in various roles within Accounting and Finance during 2011 and 2012.

3G Capital = Burger King + H.J. Heinz

How significant is 3G Capital's acquisition of H.J. Heinz for the Burger King brand?

A good friend of mine who is studying law at the University of Virginia sent me a text message upon hearing the Heinz news and suggested good-humoredly that 3G Capital is now in a position to withhold America’s favorite ketchup from competitors McDonald’s and Wendy’s. All kidding aside, it turns out that the Wall Street Journal is reporting that Heinz’s discussions with 3G began at a dinner that Heinz CEO William Johnson originally thought was about Burger King, confirming the potential for further connectivity between the two brands.

Here are six reasons I believe Burger King’s stock is headed significantly higher:

  • The company outclassed Wall Street when it reported fourth quarter 2012 earnings on Feb. 15, sending the stock higher by more than 4% in a single trading session. Burger King posted $0.23 EPS vs. only $0.15 consensus, and revenue came in 8% higher than expected at $404.5 million vs. $375 million.
  • Free cash flow has increased more than 70% in the 21 months since the 3G acquisition. During the fourth quarter of 2010, free cash flow stood at $321 million. Fast forward to calendar 2012 and FCF has consistently exceeded $500 million per quarter.
  • Adjusted EBITDA margin has increased a massive 820 basis points to 33.2% during fiscal 2012 alone. This conveys that Burger King earns approximately $0.33 before taxes for every $1.00 in sales, compared to a prior $0.25 for every dollar.
  • System-wide sales increased 5.9% during calendar 2012 on a constant currency basis, on the back of the largest menu update in the brand's history. 3G Capital has successfully introduced a higher-quality and broader menu, including new items such as chicken tenders, salad wraps, and fruit smoothies.
  • On Feb. 12, Burger King announced it is partnering with Seattle’s Best Coffee, which is owned by Starbucks, in an effort to double its coffee lineup. The new coffee menu will include 10 items, including flavored iced coffees and vanilla lattes.
  • The Wall Street community has become increasingly optimistic on Burger King, after having a moderately pessimistic attitude at the time of the June 2012 IPO. Citigroup initiated coverage of BKW on Dec. 13 with a Buy rating and $20 price target. I expect to see more analyst upgrades following the strong Q4 results.

Finally, I believe Burger King’s business could be positively affected by potential synergies from 3G Capital’s ownership of Heinz Ketchup. This is a huge wild card that has no downside but a tremendous amount of potential upside. Having worked at Burger King under the 3G Capital leadership, I am confident that no other party could leverage the collective value of the Burger King and H.J. Heinz brands better than 3G.

How much experience did I have at Burger King? For one, the head count reduction at headquarters became so dramatic that a handful of us worked with the 30 year-old grandson of 3G Capital’s founder, myself included.

Broader Quick-Service Restaurant Industry

Competitors McDonald’s (NYSE: MCD) and Yum! Brands (NYSE: YUM) have both reported quarterly earnings in recent weeks.

McDonald’s posted fourth quarter earnings on Jan. 23, earning $1.38 per share on $6.95 billion in revenue. Both figures were higher than analyst estimates. While CEO Don Thompson stated the company has “plenty of room to grow,” he spoke of a tough consumer environment internationally, particularly in Germany, which is the European continent’s largest economy.

Research analysts at Sanford Bernstein expressed caution on McDonald’s following the company’s latest results, and the New York firm believes that 2013 comparable store sales could miss consensus estimates. Sanford Bernstein went as far to state that McDonald’s is fairly valued at current levels and the company could face greater competition in the New Year. System-wide comparable sales at McDonald’s grew a fractional 0.1% during the fourth quarter, compared to 2.7% at Burger King.

Yum! Brands also expressed limited visibility when the company reported fourth quarter results on Feb. 4. China same-store sales were down 6% during Q4, and Yum! dramatically lowered its full-year 2013 forecast. CEO David Novak said he no longer expects to achieve earnings per share growth during 2013, causing the stock to be downgraded at both Goldman Sachs and R.W. Baird. Goldman Sachs lowered its price target to $63 from $77 while Baird lowered to $60 from $72.

Foolish Bottom Line

Burger King’s turnaround is real, and the company has the wind to its back going into 2013 at a time when competitors McDonald’s and Yum! Brands are beginning to lose steam. 3G Capital’s recently announced acquisition of H.J. Heinz is unquestionably positive for Burger King, and could ultimately surprise investors in a big way. I also believe Burger King could become the de-facto “beta play” in the quick-service restaurant space as investors look for new areas of growth.

Thanks for reading, and consider subscribing to my posts for more Fool ideas on outperforming the market. Requests for future articles may be sent to fool@johnmacris.com.

johnmacris worked as an independent contractor for Burger King Worldwide during 2011 and 2012. johnmacris has no position in any stocks mentioned. The Motley Fool recommends Burger King Worldwide and McDonald's. The Motley Fool owns shares of McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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