Canada’s Caffeinated Growth Stock

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Under the Radar

Among US investors, Starbucks (NASDAQ: SBUX) has certainly gotten the lion’s share of the coffee stock discussion. And there is a very good reason for that. Starbucks has been one of the best growth stories since it went public in 1992, with the share price basically going straight up for nearly 14 years. While Starbucks has been a US financial media darling, the same cannot be said about Canada’s under the radar coffee stock, Tim Hortons (NYSE: THI).

Canadian readers likely think I am crazy for suggesting that Canada’s largest restaurant chain (and North America’s fourth largest) could possibly be an under the radar stock, but that is exactly what it is (for Americans, at least). With twice as many Tim Hortons per capita in Canada as there are Starbucks per capita in the US, and more restaurants in Canada than even McDonald’s, Tim Hortons is easily one of Canada’s most recognizable brands. Despite that it is not too well known in the United States. Not yet, at least.

International Expansion into America

It is not too often that you hear about a domestic market powerhouse talking about international expansion into the United States. Much of the time we hear about the exact opposite; the American leader looking for new growth opportunities abroad. Being a Canadian company with 3,326 Canadian restaurants, Tim Hortons is obviously different in that regard. Using their absolutely dominant position in Canada as a base of operations, Tim Hortons is in the enviable position of having a market of 300 million people just south of their boarder to launch their global expansion plans. How many other companies this industry can state that as a goal; America as vehicle for international growth?

And with only 734 US locations in just 11 states (mostly Canadian boarder states), Tim Hortons has a long runway of American growth ahead of it. Since 2006, Tim Hortons has achieved a 16.3% compound annual growth rate of US store openings. Putting the majority of the company’s capital into further expansion, Tim Hortons looks to continue that trend of new store openings for years to come.

Despite its huge US growth potential, continued Canadian growth into Western Canada, Quebec and Ontario and the beginning of expansion into the Middle East, Mr. Market does not seem to be pricing Tim Hortons for its growth. At a trailing P/E of 20 and a forward P/E of 17, Tim Hortons trades just slightly-higher than the much more established McDonald’s, but significantly-lower than the fast-growing Starbucks. If the market were to price Tim Hortons at Starbucks’ current trailing P/E ratio of 28.17, that would be a 40% increase in the share price of THI. Does Starbucks’ growth deserve to be priced higher the Tim Hortons? Yes, I believe the premium currently being paid for shares of Starbucks is well deserved. But even half of that would still be a significant price appreciation for Tim Hortons shareholders.

Menu Expansion

New store expansion is not the only avenue of growth for a restaurant company. Increasing the profitability of each store through menu expansion can be just as important. Tim Hortons has been the master of just that. Beginning life as little more than a donuts and coffee chain, Tim Hortons’ menu is now more similar to a Panera Bread (NASDAQ: PNRA) style bakery café; offering sandwiches, wraps, soups, breakfast sandwiches and non-donuts baked goods (such as muffins, cookies, fritters, croissants, danishes, and bagels). Today it is essentially a Panera Bread with much quicker service and a drive-thru window. The faster fast-casual restaurant, if you will. This ability to expand its menu over time has led to two-decades of same-store sales growth for the company. Continuing with that menu expansion, Tim Hortons introduced fruit smoothies, premium espresso coffee and lasagna last year; allowing the company to grow through these higher-margin, higher-check value items.

With its McDonald’s-like dominance in Canada, its Panera Bread-like menu unique for drive-thru fast food establishments and its international growth potential into its southern neighbor, now may be the time for American investors to give Tim Hortons a look over.

WhichStocksWork has no positions in the stocks mentioned above. The Motley Fool owns shares of Panera Bread and Starbucks and has the following options: short JAN 2013 $47.00 puts on Starbucks. Motley Fool newsletter services recommend Panera Bread and Starbucks. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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