People walk past a Couche-Tard store in Montreal on Oct. 17. Combining Circle K and 7-Eleven locations in the United States would result in roughly 20,000 stores all owned by the same company. That would make Couche-Tard the No. 1 player in that market by a substantial margin.Boris Ruvet-Thebia/The Globe and Mail
Alimentation Couche-Tard Inc. ATD-T is planning to finance a potential acquisition of Japanese 7-Eleven parent Seven & i Holdings Co. SVNDY Ltd. mostly with debt, borrowing tens of billions of dollars in its quest to conquer the global convenience-store business.
Analysts had previously estimated the Canadian parent of the Circle K chain, which is currently offering US$47-billion in cash for its main rival, would use debt to cover less than half of the purchase price, with the vast majority of the money coming from sales of new stock. But in an interview on Thursday night, Couche-Tard chief financial officer Filipe Da Silva said the new equity component of any transaction would be minimal.
“We have the capacity to stretch the leverage of the company, we are able to raise a significant amount of debt and that would be the main part of the funding of this transaction,” Mr. Da Silva said in an interview from Tokyo alongside Couche-Tard chief executive officer Alex Miller, special adviser Brian Hannasch and company co-founder and executive chair Alain Bouchard.
“Of course, we do not yet know the final price so it is difficult to know the balance [between debt and equity], but I would say the main financing of this deal will come from raising debt.”
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According to RBC Capital Markets analyst Irene Nattel, Couche-Tard could take on US$19-billion in debt while keeping its debt-to-earnings ratio at four, meaning the company would owe four dollars in debt for every dollar it earned. That figure suggests Couche-Tard would need to sell about $38-billion in new stock, according to calculations by The Globe and Mail, which would reduce the stake currently owned by the company’s four founders from 25 per cent to about 16 per cent.
However, Mr. Da Silva said the company was willing to carry a debt-to-earnings ratio above four in order for the equity component of a potential transaction “to be minimal.”
“We have always been very financially disciplined, but at the same time we have not been afraid to stretch our balance sheet,” he said. “In the past we have been from time to time above four times leverage. That will not be an issue.”
Mr. Bouchard, who has been pursuing 7-Eleven for nearly two decades since he flew to Tokyo in 2005 to personally pitch a transaction that was immediately rebuffed, said he and Couche-Tard’s other three founders are not willing to accept a substantial dilution of their ownership stake.
“That is important for us to maintain strong equity,” he said. “We are willing to dilute now, but we have our limits.”
Mr. Bouchard also referenced the company’s roughly US$35-billion in real estate holdings as another possible means of financing, though he did not specify what form that might take.
Canadian companies have a history of spinning off their bricks-and-mortar assets into real estate investment trusts (REITs) as a means of raising money. Grocery giant Loblaw Cos. Ltd. L-T made more than $7-billion through the launch of Choice Properties REIT in 2014, and Sobeys parent Empire Company Ltd. EMP-A-T did the same thing with Crombie REIT nearly a decade earlier, eventually netting itself more than $1-billion.
In 2013, Canadian Tire Corp. CTC-T spun off $3.5-billion worth of real estate assets into CT REIT.
Mr. Hannasch, who was CEO of Couche-Tard for 10 years before Mr. Miller took over the top job last month, said the company could also stockpile cash over the coming months before any potential transaction is completed.
“There is a period between now and deal signing and there is a period between deal signing and close,” he said. “Couche-Tard can generate significant free cash flow so there is an opportunity to really bolster the balance sheet with minimal dilution.”
In the 12 months ended July 21, Couche-Tard generated $2.85-billion in free cash flow, according to S&P Global Market Intelligence. Assuming a deal is reached whereby Couche-Tard pays a total of US$47.2-billion for Seven & i, sells roughly US$9-billion of existing Seven & i assets, puts a year’s worth of free cash flow toward the transaction and borrows 75 per cent of the total purchase price, Couche-Tard would end up with a debt-to-earnings ratio of roughly 5.25, according to Globe calculations.
Mr. Hannasch added that the combined earning power of both companies together would make that larger debt load easier to repay.
“The debt can give people pause, but the resulting entity will be one of the most geographically diversified businesses in the world with strong free cash flow generation. That gives us some comfort that we can manage the leverage,” he said.
Combining Circle K and 7-Eleven locations in the United States would result in roughly 20,000 stores all owned by the same company. That would make Couche-Tard the No. 1 player in that market by a substantial margin, with the next largest being the 2,600-store Casey’s General Stores Inc. chain.
Despite his willingness to stretch Couche-Tard’s balance sheet, Mr. Da Silva said he is confident any new debt could be repaid quickly.
“In the past we have been able to deleverage quite fast and that would be the case here,” he said. “The capacity to deleverage in two or three years is something we believe will happen in this deal.”
With a report from David Milstead