UPDATE 2-Tim Hortons CEO cautious on higher debt, share buyback

Thu May 9, 2013 5:40pm EDT

By Solarina Ho

TORONTO May 9 (Reuters) - Tim Hortons Inc will likely raise its debt levels and buy back shares, but Canada's more conservative borrowing environment makes it improbable they will be done to the extent an activist investor in the company wants, the chief executive of the Canadian coffee-and-doughnut chain said on Thursday.

Hedge fund Highfields Capital, which owns about 4 percent of Tim Hortons shares, wants Tim Hortons to buy back more than a third of its shares to boost shareholder returns, as well as name new board members with more financial experience.

"We are a very healthy company and we want to stay a very healthy company," outgoing CEO Paul House told Reuters after the company's annual shareholders meeting in Toronto.

"Anything we do is going to be a long-term thing. We have never looked at anything short term," said House, who is set to hand over the company's reins to Nestle veteran Marc Caira on July 2. "Our shareholders that have been with us a long time, they hold our stock because they have confidence that we are very conservative, long-term thinkers."

According to documents viewed by Reuters, Highfields wants Tim Hortons to raise about $3.4 billion in debt and buy back roughly 37 percent of its outstanding shares.

House said Tim Hortons board has not yet decided on the debt levels it is comfortable with, but it remains focused on maintaining an investment grade rating and it would not go to the levels suggested by Highfields.

"I don't think that we'd leverage up to that point, no, not at all," he said.

"(Canadian) companies don't leverage up to the extent that a lot of companies do in other parts of the world, that's for sure," House added. "I think you've got to be very, very careful in these unsettling times as to what you do from a leverage point of view."

Tim Hortons shares closed down 2.4 percent at C$55.75 on the Toronto Stock Exchange on Thursday.

Tim Hortons boasts that it sells eight of every 10 cups of coffee sold in Canada, but analysts now question if the brand, as much a Canadian symbol as hockey and the Maple Leaf flag, has room for further growth at home.

With some 3,400 company-owned and franchised stores in Canada, it faces a tough fight for market share as rivals such as McDonald's and Starbucks step up the competition.

House said Tim Hortons is looking at people with financial expertise as it seeks to fill two vacant spots on its board, one of the issues highlighted by Highfields. House said the board already has financial expertise, but the death of board member Ronald Osborne in April has left a hole in that area.

"While we do not question the operating backgrounds of many of the current board members, we feel the company could benefit from more financial expertise," Highfields said in a letter to Tim Hortons' board. "We believe it imperative to upgrade the board with new members who could help develop and implement a more appropriate capital allocation strategy."

Boston-based Highfields, which manages more than $11 billion, also wants the chain to rein back its U.S. expansion plans, either by entering into franchise agreements that require less capital investment or scrapping U.S. expansion altogether.

The company says it won't pull back from the U.S. market, but House reiterated that Tim Hortons is studying plans to work with well-funded franchisees that could operate multiple U.S. locations. He said more details are likely in the coming months.

Tough conditions in the first quarter led to heightened competition for the chain and drove sales down at established stores by 0.5 percent in the United States.

"A year ago, our U.S. business was flourishing, quite frankly," House said. "The whole restaurant industry, especially in the U.S. and in Canada - we've kind of just hit a cliff and for whatever reason, things have slowed right down."

Sales at established Canadian stores were down 0.3 percent.

House said there is much for Caira to do when he takes over in July, including drawing up the company's strategic plans beyond 2013 and 2014.

"We've got lots of business initiatives going on. He's going to get in a car that's moving, he's not going to get in a car that's standing still," House said.