Warren Buffett’s Berkshire Hathaway is providing $US3 billion worth of preferred equity financing for Burger King’s merger with Tim Hortons. Buffett’s return on that cash will be 9%.
On a conference call regarding the merger, Burger King CEO Daniel Schwartz said the preferred equity portion of the deal’s financing, which is what Buffett is providing, will carry a 9% coupon.
Preferred equity, also called preferred stock or just “preferreds,” earns interest at a higher rate than bonds, but it also carries slightly more risk. If a company defaults, preferred equity investors are “junior” to all bondholders. Basically, they (most likely) get paid back second-to-last (after all bondholders, before common equity holders) if the company defaults.
So if Burger King doesn’t go out of business, it looks like a pretty good deal for Buffett. Except some of the optics of the deal aren’t great.
Burger King’s deal to acquire Tim Hortons is also a “tax inversion,” or a deal where a company based in the U.S. acquires a foreign company and moves their tax base.
The combined Burger King-Tim Hortons entity will be based in Canada, though both companies will maintain their headquarters in Miami and Oakville, Ontario, respectively.
On Monday night, The Wall Street Journal broke the news that Buffett was involved in financing the deal, which produced some scorn and outrage on Twitter. This backlash was largely related to Buffett’s past commentary about taxes and tax reform, which he partly outlined in a 2012 op-ed in The New York Times called, “A Minimum Tax for the Wealthy,” among other comments.
The Financial Times interviewed Buffett on Tuesday, and Buffett told the paper that the deal is not about taxes, saying that the combined company will be based in Canada because of Tim Hortons’ “strong roots” north of the border. Buffett has also worked with 3G Capital — which owns 70% of Burger King — in the past, working with the firm on Buffett’s 2013 buyout of H.J. Heinz.
Additionally, tax inversions have been the most controversial corporate move this summer, with Congress, as well as the White House, pledging to pass legislation to stop the glut of companies moving their tax base overseas to enjoy lower tax rates abroad.
Except that the Burger King-Tim Hortons deal doesn’t really meet the same criteria. On Monday, BI’s Brett LoGiurato outlined why legislation aimed at stopping tax inversions might not impact the Burger King deal.
And the deal really won’t save Burger King much money, anyway.
On a call with analysts following Tuesday morning, Burger King and Tim Hortons management emphasised repeatedly that the deal is not tax driven.
And over at Bloomberg View, Matt Levine had a great, simple breakdown of why the “tax inversion” wouldn’t quite work for this deal. In short, Levine outlined that you can move your corporate headquarters overseas, then make and licence a product from this foreign-based subsidiary to a U.S. subsidiary that sells it, which doesn’t really work when you’re selling burgers in coffee.
A Private Equity Company That Sells Burgers
On Tuesday’s call with analysts, Burger King and Tim Hortons also had some interesting commentary about potential “synergies” between the companies after the merger.
Basically, analysts wanted to know if we’d be seeing burgers in Tim Hortons coffee joints and Tim Hortons coffee in Burger King restaurants. The answer: “Absolutely not.”
Frankly, management from both companies on the call were focused on emphasising that Tim Hortons will remain a Canada-based, Canadian-run company despite Burger King moving in to take over the company.
Which makes some sense, considering the enormous popularity of Tim Hortons in Canada, where Tim Hortons accounts for 26% of all fast food restaurants with more than 3,600 outlets nationwide.
And as BI’s Hayley Peterson has written, Burger King’s 33-year-old CEO Josh Schwartz is an alum of 3G Capital, and during his time leading Burger King he has slashed costs at the company.
Schwartz also cut the number of restaurants owned by the company to just 52 of the company’s 13,667 locations. This has significantly boosted profits at Burger King, which grew net income to $US233.7 million in 2013 from $US117.7 million the prior year.
And a quick look at Tim Hortons annual report shows a company that has a ton of sales, but could be more profitable if some costs were reduced. Burger King and its management team likely see the same.
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