Topic: Growth Stocks

Acquisitions always on the menu for Recipe Unlimited

Recently a Member of Pat McKeough’s Inner Circle asked his advice on a company that owns most of Canada’s best-known restaurant chains.

Recipe Unlimited is the new name of Cara Operations. Not long ago, it added The Keg to its group of restaurant chains that includes many familiar names. Overall, the company now has 1,382 restaurants across Canada. Its well-known brands give the stock appeal, says Pat, and one or more of them could experience rapid growth. But a steady diet of acquisitions can be risky, he adds, especially in the highly competitive restaurant business.

Q: I would like your thoughts on Recipe Unlimited Corp.—formerly Cara Operations—as a buy. It acquired The Keg earlier this year. Thanks.

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A: RECIPE UNLIMITED CORP. (symbol RECP on Toronto; changed its name from Cara Operations (symbol CAO) in May 2018. Like Canadian Tire, it has a long history in Canada. It was founded in 1883 and is Canada’s oldest restaurant company. Its shares traded on the Toronto Exchange from 1968 until 2004, when the business was taken private. In April 2015, it returned to the Toronto Exchange and began trading, after selling shares to the public at $23 a share.

Recipe Unlimited both franchises and operates restaurants, mostly in Canada. Of the current 1,382 restaurants, 85% (1,169) are held by franchisees and 15% (213) are company-run.

These operations are divided into restaurant chains: Harvey’s (with 282 locations), Swiss Chalet (217), New York Fries (161), St-Hubert (122), The Keg (106), Montana’s (105), East Side Mario’s (78), Kelsey’s (67), Original Joe’s (66), Milestones (48), Prime Pubs (43), State & Main (27), Burger’s Priest (15), Pickle Barrel (13), Elephant & Castle (11), Landing (9), Bier Markt (8), Casey’s (2), and 1909 Taverne Moderne (2).

Fairfax Financial (symbol FFH on Toronto) holds 43.5% of the shares outstanding. That stake translates into 56.9% voting control.

Recipe Unlimited continues to grow by acquisition:

Since the end of 2014, the company has expanded from 837 restaurants to today’s 1,382.

On October 31, 2015, Recipe Unlimited purchased New York Fries for $40.6 million. That business is a quick-service restaurant chain that sells premium fresh-cut french fries.

On September 2, 2016, the company completed the $537.0 million purchase of Groupe St-Hubert—a full-service chain of chicken restaurants in Quebec.

On November 28, 2016, Recipe Unlimited bought majority ownership of Original Joe’s for $93.0 million. Original Joe’s operates and franchises full-service restaurants in Canada and the U.S. across three brands—Original Joe’s Restaurant & Bar, State & Main Kitchen Bar and Elephant & Castle Pub and Restaurant.

On June 1, 2017, the company bought a majority interest in The Burger’s Priest, a fast-casual premium burger restaurant with locations in Ontario and Alberta. On November 30, 2017, Recipe Unlimited completed the acquisition of Pickle Barrel Restaurants, a leading full-service restaurant operator in the Greater Toronto Area. That deal included The Pickle Barrel catering. At the same time, the company paid $18 million for a 50% interest in Rose Reisman Catering.

Growth stocks: Rise in revenue comes largely from Burger’s Priest, Pickle Barrel and The Keg

Just this February, Recipe Unlimited completed its acquisition of Keg Restaurants Ltd for $105.0 million in cash and 3.8 million subordinate voting shares. That makes for a total value of roughly $200.0 million. The company may be required to pay as much as $30.0 million more in cash if Keg Restaurants achieves certain financial milestones.

As a result of its acquisitions, Recipe Unlimited’s total revenue jumped 42.0%, from $326.3 million in 2015 to $463.3 million in 2016. It climbed another 67.3%, to $775.2 million, in 2017. Earnings, excluding one-time items, jumped 50.9%, from $64.3 million ($1.58 per share) in 2015 to $97.0 million ($1.86 per share) in 2016; profit then climbed 20.7%, to $117.1 million ($1.96 per share) in 2017.

In the latest quarter, April 1, 2018, revenue rose 24.1%, to $246.5 million from $198.6 million a year earlier. The gains came mostly from the acquisitions of Burger’s Priest, Pickle Barrel and The Keg. Same-restaurant sales grew 2.1% and earnings edged up 0.4%, to $25.9 million ($0.43 per share) from $25.8 million ($0.43 per share). These first quarter figures were weakened by inventory shortages after record sales in December 2017. In addition, the exclusion of the holiday week between Christmas and New Year’s due to a shift in the reporting calendar also hurt the most recent quarter.

As at April 1, 2018, the company held $47.7 million in cash. Its long-term debt of $566.9 million is a manageable 33.3% of its market cap.

Recipe Unlimited’s well-known brands add to its appeal. As well, its size lets it centralize purchasing and administration for all of its restaurants. However, its rapid growth by acquisition adds significant risk—particularly with purchases as big as St. Hubert and The Keg.

The stock trades at 15.3 times the company’s full-year earnings forecast of $1.78 per share. It pays a $0.1068 quarterly dividend and has an annualized yield of 1.6%.

It’s generally a good idea to be skeptical of the growth plans of recent stock issues, and to be wary of companies that grow by acquisition. Recipe Unlimited exposes you to both sources of risk. The company hopes to keep raising same-restaurant sales by spending more on marketing and renovating locations to attract customers. That will cost money, and Recipe Unlimited faces an increasingly competitive restaurant market. However, the company has a number of moderately successful restaurant brands. Any one of them has the potential to expand quickly in the faster economic growth that’s likely in the next few years.

TSI Network recommendation: Recipe Unlimited Corp. is okay to hold for aggressive investors.

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