Canadian Retailers in the U.S.: A Recipe for Disaster?

by: Larry Bellehumeur

One of the tempting ideas that face many businesses, once they have grown popular in their initial market, is to expand into other markets. Many US and European based companies (McDonald's (NYSE:MCD), IKEA and Safeway (NYSE:SFY) as examples) have expanded into Canada quite successfully. So, why is it that Canadian retailers often seem to falter in the US?

A few reasons may include:

  1. Complacency -- Many companies only decide to expand to the larger US market after they have virtually saturated the Canadian space. This often means that the company was a dominant incumbent (with a strong competitive moat) for many years before the expansion, so they may have lost that edge that allowed them to grow so large in the first place.
  2. Lack of Understanding of the Market -- Many Canadian retailers fail to adapt their strategy to a larger, more competitive market, or fail to recognize local trends/customs when moving into the new market.
  3. Buying a Failing Brand -- Many companies have found that the easiest way to enter the is to buy a former "darling" that has recently run into troubles. The problem is often that these companies had failed business models, ones that a simple ownership change may not fix (i.e. bad locations, poor market presence or increased competition).

So, how have some of the recent moves into the US worked out for some key Canadian retailers? Here are three examples. One has done a great job, one has done OK to date, and the last has done a horrible job.

Tim Horton (THI) increased its exposure to the US mostly during the time that it was owned by Wendy's (NYSE:WEN). The exposure has been relatively contained in the US NorthEast (ironically, areas that may see the highest numbers of visiting Canadians). To date, the expansion has had so-so success. Generally, there has been some modest growth year-over-year; however, the company seems to have tapered off some of its growth lately. As well, Dunkin' Donuts seems to still be the dominant player in these areas, so Tim's has a long way to go. Finally, the US portion of its business (according to the 2007 Annual Report) still showed an operating loss after a decade of US presence (although, much of that may be attributed to its aggressive expansion efforts).

Alimentation Couche-Tard (ATD.B) is better known as the owner of Mac's /Couche-Tard (Canada) and Circle-K (US). It has been one of the true success stories, when it comes to a Canadian company growing its business in the US. Only 33% of the revenue for the company now comes from Canada, with the acquisition craze in the US. The company is also very well run (in my opinion), as it is a master acquirer (finding deep value, often during times of recession, when making acquisitions). Couche-Tard gets high marks for its work to date.

On the negative side, one only has to look at Jean Coutu (OTCPK:JCOUF). As the dominant drug store chain in Quebec, the company was a venerable cash cow. It decided to expand into the US, through its involvement with Rite-Aid (NYSE:RAD). This has caused the company significant losses. As well, the other unwanted effect is the recent spike of one of its key competitors in its own market (Shopper's Drug Mart (OTCPK:SHDMF)), which has been able to acquire market share in Quebec, somewhat due to the fact that the US Operations were taking up much of management's focus.

So, what Canadian companies are likely to do well in their US expansion plans?

  1. Watch for companies that do so BEFORE they become relatively saturated in Canada. Look for companies that have not started to see their organic growth rate slow before entering the US.
  2. Beware of companies who attempt to buy failed US-based franchises. Many times, they are not able to duplicate the success they had with their initial businesses with the new business, often due to a clash in cultures.
  3. Adapting to any new market is key. Watch for those who try to adapt their culture to meet the local talent base / customer Base.

Disclosure: I own none of these three stocks. However, Tim Horton's and Couche-Tard are both customers of mine in my profession.