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Is Subway the Next Darling of Private Equity? (Fast Food Business Case Study)

In this video, we tackle the often misunderstood and overlooked aspects of private equity investing, particularly in those "boring" businesses you drive by every day without noticing. I'm Nick McLean, the "most boring guy in Private Equity" and I break down what private equity firms look for in a deal and why these unassuming businesses can be incredibly valuable.

First off, let's talk about what private equity looks for in a deal or an industry. Before diving in, here's my standard disclaimer: not all private equity is the same. My firm operates in a segment that prefers what you might call "boring" businesses. Perhaps this is a niche segment and maybe we are all fools, but it's what we do. We aren't talking about tech companies, AI, or the trendy businesses that influencers usually discuss.

Subway, the world's largest restaurant chain by number of locations, checks all the key boxes that private equity looks for in an investment. Its vast global footprint and consistent, stable revenue streams make it an attractive asset, while the relatively low capital expenditures required for operation enhance profitability.

The recent strategic improvements under new leadership, including menu revitalization and modernized store designs, further strengthen its appeal. Additionally, Subway's potential for growth through mergers and acquisitions in a fragmented market offers a clear, actionable path for expansion, making it a compelling choice for private equity investment.

These are the types of businesses you pass by every day without noticing. They might make the small parts you rarely pay attention to around your house, in your garage, or at work. They were never on the path to becoming unicorns, but they are still vital and can be outstanding performing assets.

Regardless, there are three critical factors that many private equity groups (PEGs) consider important:

Number 1: Stable, predictable cash flows
We love "boring" businesses because of their low but predictable year-over-year growth. They offer security in their low variability. You might not see a year with 20% growth, but you also won’t have a year with a 20% drop.

Number 2: An actionable growth strategy
This could involve organic growth, mergers and acquisitions (M&A), or both. Stable revenues and earnings are essential, but if growth is uncertain or too risky or costly, it will be harder for a PEG to get excited about the opportunity.

Number 3: Higher ratios of free cash flow to revenue
This is related to higher margins, but there are other factors too. First, consider the operating margin—how much of each dollar of revenue flows to the bottom line. Next is working capital. For instance, in Quick Service Restaurants (QSR), revenue dollars are earned and paid simultaneously, meaning no accounts receivable (AR). Lastly, consider cash flows that don't hit the income statement immediately, like capital expenditures (capex), which will eventually show up as depreciation.

If you accept that these three points are crucial for private equity, then there's a strong case for private equity interest in Quick Service Restaurants (QSR). Spending at restaurants tends to be stable. According to the National Restaurant Association, “Even with recent fluctuations, the overall trajectory of restaurant sales remains generally positive, with a steeper trendline than many other retail sectors. Total eating and drinking place sales increased 6.5% between March 2023 and March 2024. In comparison, consumer spending in non-restaurant retail sectors rose 3.6% during the last 12 months – nearly 3 percentage points lower."

You can contact us here:
🐣 twitter.com/NickFourPillars
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📧 nmclean@fourpillarsinvestors.com

🔎🔎 More about Nick McLean from Four Pillars:
Background: Operations management with an emphasis on Lean manufacturing; strategy development and execution; and mergers and acquisitions (M&A).

Which of the Four Pillars does Nick identify most closely with? ''Servant leadership. I consider one of the primary roles of a manager/leader to be to help those around you be more successful and to develop as individuals. When I think of myself as a leader, I am more interested in granting and sharing authority than hoarding it.''

🏛️ More About FOUR PILLARS:
Four Pillars is a company built on a strong foundation of shared values and a commitment to long-term ownership of small businesses. Their approach is centered on purchasing and operating these businesses while providing support and collaboration without becoming a burden. They work closely with company management, aiming for shared success and sustainable growth.

#subway #fastfood #privateequity