June 25, 2013 / 1:54 PM / 4 years ago

Scout Capital urges Tim Hortons to boost debt levels

A row of Tim Hortons coffee cups are lined up for customers at Penn Station in New York in this July 13, 2009 file photo. REUTERS/Brendan McDermid

TORONTO (Reuters) - Scout Capital Management has asked Canadian coffee and doughnut chain Tim Hortons THI.TO to alter its U.S. expansion strategy and increase debt levels so it can bolster its capital structure and buy back shares, the U.S. hedge fund said on Tuesday.

The demands to Tim Hortons’ board by New York-based Scout Capital largely mirror those put forward by rival U.S. hedge fund Highfields Capital earlier this year.

In a letter to the board on Tuesday, Scout, which has a 5.5 percent stake in the company, said the measures would allow Tims, as the company’s patrons call it, to dramatically improve shareholders’ returns.

The fund said it believed Tims could double its free cash flow to C$4.50 per share by 2015 and push its stock price into the C$90 to C$112 range. The shares rose 3.6 percent to C$56.49 in morning Toronto Stock Exchange trading.

Scout urged the company to increase its debt to a “moderate level” of three times its earnings before interest, taxes, depreciation and amortization, saying this would allow it to buy back roughly 23 percent of its outstanding shares.

The fund also urged Tims to curtail the use of its cash flow for real estate investments or store openings in the United States.

Scout, which invests in businesses that are “misunderstood and incorrectly valued by the markets,” disclosed its stake in Tim Hortons last week and said it was pushing the company to make changes.

Founded in 1999, the fund has been a mostly a passive investor to date. However, last month, it said it was also taking an activist role at DineEquity Inc (DIN.N), owner of Applebee’s and IHOP restaurants.

“We believe Tim Hortons’ Canadian franchisee system is among the strongest and most passionate in North America,” Scout said in the letter to Tims’ board. “With relative market share in Canada of nearly three times the nearest competitor, there are few businesses on the planet like Tim Hortons.”

However Scout said Tims’ shareholder returns and performance had lagged those of its peers.

A spokeswoman for Tims was not immediately available to comment on Scout’s proposals.

Reporting by Euan Rocha and Solarina Ho; Editing by Gerald E. McCormick, Janet Guttsman and Lisa Von Ahn

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