Wendy's (WEN) - dependable QSR with M&A upside

James O'Brien

Great Ocean Road Advisors

WEN is our preferred quick service investment.

This investment might sound boring: WEN steadily grows its global restaurant count 3-4% each year. As a franchisor, it has few variable costs and can therefore grow EBITDA 5-10% consistently year after year. WEN generates lots of free-cash-flow which it prudently returns to shareholders through dividends and repurchases. In short, things are going well at WEN. It’s winning share from competitors, its franchisees are highly profitable, and its international expansion is delivering impressive results. However, a more interesting development has piqued our interest.

WEN’s largest shareholder, Trian, filed a 13-D in May because its conversations with management regarding a possible acquisition of the entire company by Trian had progressed to a level both parties felt legally necessitated disclosure of the conversations to shareholders. There is no guarantee of a deal, but a 13-D filing confirming advanced conversations to that end is more than just financial press speculation. Talks have advanced far enough that WEN canceled its investor day previously scheduled for this month and has suspended its buyback program. These are serious steps the company is taking.

We do not know if an acquisition by Trian will occur and we like the investment regardless. However, we appreciate that this additional source of upside now exists. But what if a takeover doesn’t occur?

A corollary of current share repurchase restrictions is that WEN’s cash balance is swelling. The company began 2022 with just under $250m cash in its corporate account and is on track to end the year with $800m. Enough cash for a company WEN’s size to necessitate an Accelerated Share Repurchase program (ASR). If no Trian deal eventuates, we calculate WEN would announce a $600m ASR in early 2023 - enough to repurchase 15% of shares outstanding, accelerating EPS growth above 20% for the next two years. Not a bad backup catalyst for a stock on its lowest EPS multiple ever.

A caution against this investment may be that the share price is depressed to reflect recession risk. We disagree with that risk. Quick service is one of the best places to be in a recession because families trade down to QSR in hard times. This is especially true in an inflationary recession such as the one we face today. The QSR industry has historically delivered its best outperformance of other industries during a downturn. Further, WEN’s position as franchisor adds natural insulation from the operating leverage effects created by a downturn.

Industry sales growth

Quick service

Full-service

Total retail

2005

7%

6%

6%

2006

5%

8%

5%

2007

4%

6%

4%

2008

4%

1%

1%

2009

0%

-2%

-3%

2010

4%

3%

3%

2011

5%

7%

5%

2012

5%

6%

4%

2013

4%

4%

3%

2014

5%

7%

4%

2015

9%

8%

4%

2016

6%

5%

3%

2017

6%

5%

4%

2018

6%

5%

5%

2019

6%

5%

4%

Avg

5.3%

4.8%

3.5%

Std

1.7%

2.5%

2.2%


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James O'Brien
Managing Partner
Great Ocean Road Advisors
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