Is there a second act in store for Second Cup? Despite the company's best efforts to convince us so, investors seem to think not.
The coffee chain has made a number of strategic announcements in the past year aimed at boosting hope – and the share price. The Second Cup plan, however, included eliminating the company's dividend this summer, a move that has sent the stock to all-time lows.
This has made it the cheapest of Canada's restaurant stocks – a distinction that it, quite frankly, has earned. Investors who believe Second Cup Ltd.'s new leadership can brew up a comeback might be in line for a long-term profit. But given the company's challenges, the shares represent the bitterest of brews for the short term.
You didn't need all the hoopla over the Tim Hortons-Burger King merger to realize that Second Cup has become an afterthought in Canada. The company started in 1975 and became a pioneer of higher-end coffee, with a chain of more than 350 stores today. The problem, of course, is that Starbucks, which opened its first Canadian location in 1987, now has more than 1,400 locations (more per capita than even in the United States, according to an analysis by the news site Quartz). Tim Hortons, which predated Second Cup by more than a decade, has 3,600 restaurants.
It's not just that Second Cup is lacking in locations; it's that the ones that are open just aren't doing very well. Second Cup's most recent quarter of positive same-store sales – revenue at locations open at least one year – was the first quarter of 2012. And the numbers have been getting worse, not better.
There is recognition, certainly, that things are awry. Michael Bregman, who helped build the company before leaving and selling his stake more than a decade ago, has returned as chairman and an investor. The company named Alix Box, an executive at luxury retailer Holt Renfrew and a former vice-president of operations at Starbucks Canada, as its new CEO in February.
The days following Ms. Box's appointment saw Second Cup shares hitting their 52-week highs, in the $5 to $5.50 range. The optimism, however, has given way to realism.
The company reported year-over year same-store sales declines of 5 per cent in the second quarter ended June 28 and 6.9 per cent in the first quarter ended March 29 – easily the worst marks of the past two and a half years. While it's too early to expect the new leaders to have revitalized the company, they haven't even stabilized it yet.
A June restructuring that cut one-third of its headquarter's staff in Mississauga should save $2.3-million annually, the company says. However, in a gutsy long-term move, Second Cup is taking the money and sending it not to shareholders, but to franchisees in the form of decreased royalties and fees, and procurement savings. Second Cup's profitability will not improve, at least immediately; instead, it believes the typical store will add $14,800 to its profits. (In the news release, Second Cup didn't say what current per-store profit numbers are.) In announcing this move, Ms. Box referred to it as helping to "rebuild trust with our franchisees," which is an acknowledgment that trust needed to be rebuilt in the first place.
The final straw, it seemed, was Second Cup's eminently logical decision in early August to eliminate its dividend, which at that point was yielding well over 8 per cent. That sent the shares below $4, a mark they have not returned to.
In Canada, all the publicly traded restaurant companies are franchisee-heavy and asset-light, pointing the way to sharing their cash flow with shareholders. Those that do, in the form of dividends, trade at the highest multiples: Almost all, according to Standard & Poor's Capital IQ, trade for 10 to 20 times their EBIT, or earnings before interest and taxes. The two that do not pay dividends are Second Cup and Imvescor Restaurant Group, a Moncton company that's been restructuring for the past three years. They trade for about five to six times EBIT.
That makes Second Cup shares a bargain by Canadian restaurant standards. Will that change? Ms. Box says the company is developing a "store of the future" with plans to unveil a "new and very different" Second Cup store in downtown Toronto in the fourth quarter. New and very different performance is what Second Cup needs to emerge from being second-rate.