Tim Hortons Inc. (USA) (THI), Dunkin Brands Group Inc (DNKN): This Coffee Shop Gets a Shot of Caffeine

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The Canadian-based quick-service restaurant Tim Hortons Inc. (USA) (NYSE:THI) got a big vote of confidence from the Scout Capital Management hedge fund last week. Per an SEC filing, Scout now owns some 5.5% of the coffee company, and is now calling itself Tim Hortons’ second-largest shareholder (check out Scout’s top stocks).

Tim Hortons Inc. (USA) (NYSE:THI)

Scout Capital looks to find investment opportunities via special situations; it appears that Tim Hortons Inc. (USA) (NYSE:THI) could offer investors a special situation, having ineffectively used capital to generate shareholder returns. Earlier this year Highfield Capital also took an interest in Tim Hortons Inc. (USA) (NYSE:THI), buying up a 4% stake (check out Highfield’s top stocks).

What do hedge funds want from Tim Hortons?

Basically, these hedge funds will be pushing the company to unlock shareholder value; Scout plans to engage management to start a discussion concerning its capital structure, capital expenditure plan and stock-buyback program.

This includes exploring the possibility of expanding debt levels to either boost share buybacks or its dividend. The company already pays a 1.8% dividend yield, which is above many of its coffee-shop peers.

Highfield supports the use debt to fund capital returns, but also wants to see a halting of U.S. expansion. There were 804 Tim Hortons Inc. (USA) (NYSE:THI) restaurants in the U.S. at the end of 2012, concentrated along the Canadian border in New York, Michigan and Ohio.

The U.S. store problem is that that these stores have grossly under-performed their Canadian cousins. The U.S. stores brought in a measly $20,000 per store on average of operating profit last year, compared to C$182,000 for Canada-based stores.

In other news, Tim Hortons Inc. (USA) (NYSE:THI) is looking to improve performance with new menu items, such as the Panini and specialty coffee drinks, as well as increasing traffic with the redesign of stores — this includes focusing more on opening drive-through locations. The industry tailwinds for the company should be a rebounding economy in both the U.S. and Canada, but their could be a better way to play the coffee industry.

A better latte

Dunkin Brands Group Inc (NASDAQ:DNKN) and Starbucks Corporation (NASDAQ:SBUX) are two of Tim Hortons’ most notable competitors. Dunkin Brands Group Inc (NASDAQ:DNKN) has about 10,500 Dunkin’ Donuts locations and 7,000 Baskin-Robbins.

Dunkin Brands Group Inc (NASDAQ:DNKN) could be one of the great coffee growth stories, with opportunities to expand in the Western part of the U.S. and in international markets, namely Asia-Pacific. Revenue is expected to be up 7.2% in 2013 after an impressive 4.8% rise in 2012.

Over 85% of Dunkin Brands Group Inc (NASDAQ:DNKN)’s U.S. stores are concentrated in the Northeast part of the country, but about two-thirds of Dunkin’s new U.S. store openings are expected to be in the Western part of the country by 2015. And of course, no westward expansion would be complete without California, which will be a big part of the expansion plan.

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