H.J. Heinz Company (HNZ) Ketchup: Only Available on a Whopper Sandwich?

On Feb. 14, news broke that Warren Buffett’s Berkshire Hathaway Inc. (NYSE:BRK.A) and partner 3G Capital Inc. would be purchasing the iconic American company H.J. Heinz Company (NYSE:HNZ). The $28 billion dollar deal represents a 20% premium to H.J. Heinz’s closing price from Feb. 13. Brazilian investment firm 3G Capital, which maintains controlling ownership of Burger King Worldwide Inc (NYSE:BKW), will be the operational partner going forward at America’s favorite ketchup company.

Buffett praised the work that 3G Capital has done thus far at Burger King in widening its appeal among consumers and gaining traction in the competitive quick-service restaurant landscape. 3G purchased Burger King in October 2010, took the company private, and brought a tranche of the company public again in 2012 through a reverse merger transaction with billionaire investor Bill Ackman.

I was fortunate enough to begin my professional career by working at Burger King headquarters here in Miami directly out of college. 3G Capital implemented a hiring freeze, so I was brought in as an independent contractor, working in various roles within Accounting and Finance during 2011 and 2012.

3G Capital = Burger King + H.J. Heinz

How significant is 3G Capital’s acquisition of H.J. Heinz for the Burger King brand?

A good friend of mine who is studying law at the University of Virginia sent me a text message upon hearing the Heinz news and suggested good-humoredly that 3G Capital is now in a position to withhold America’s favorite ketchup from competitors McDonald’s Corporation (NYSE:MCD) and Wendy’s. All kidding aside, it turns out that the Wall Street Journal is reporting that Heinz’s discussions with 3G began at a dinner that Heinz CEO William Johnson originally thought was about Burger King, confirming the potential for further connectivity between the two brands.

Here are six reasons I believe Burger King’s stock is headed significantly higher:

• The company outclassed Wall Street when it reported fourth quarter 2012 earnings on Feb. 15, sending the stock higher by more than 4% in a single trading session. Burger King posted $0.23 EPS vs. only $0.15 consensus, and revenue came in 8% higher than expected at $404.5 million vs. $375 million.
• Free cash flow has increased more than 70% in the 21 months since the 3G acquisition. During the fourth quarter of 2010, free cash flow stood at $321 million. Fast forward to calendar 2012 and FCF has consistently exceeded $500 million per quarter.
• Adjusted EBITDA margin has increased a massive 820 basis points to 33.2% during fiscal 2012 alone. This conveys that Burger King earns approximately $0.33 before taxes for every $1.00 in sales, compared to a prior $0.25 for every dollar.
• System-wide sales increased 5.9% during calendar 2012 on a constant currency basis, on the back of the largest menu update in the brand’s history. 3G Capital has successfully introduced a higher-quality and broader menu, including new items such as chicken tenders, salad wraps, and fruit smoothies.
• On Feb. 12, Burger King announced it is partnering with Seattle’s Best Coffee, which is owned by Starbucks Corporation (NASDAQ:SBUX), in an effort to double its coffee lineup. The new coffee menu will include 10 items, including flavored iced coffees and vanilla lattes.
• The Wall Street community has become increasingly optimistic on Burger King, after having a moderately pessimistic attitude at the time of the June 2012 IPO. Citigroup initiated coverage of BKW on Dec. 13 with a Buy rating and $20 price target. I expect to see more analyst upgrades following the strong Q4 results.