Wendy's Holders Hungry for Payout

The company's profit flattens, but investors lick their chops over the fast food chain's cash hoard.
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Updated from 1:13 p.m. EDT

Investors still have faith in

Wendy's

(WEN) - Get Report

, even with its continued sales declines and its earnings shortfalls.

Shares of the fast food giant are up 14.5% so far this year and they kept climbing Thursday, even after the company reported that it missed Wall Street's first-quarter earnings expectations and its same-store sales stayed in decline.

Why buy the stock? Investors are licking their chops as the company prepares to spin off the rest of its Canadian doughnut chain,

Tim Hortons

(THI)

. They're betting that a big payoff is in store thanks to the efforts of hedge fund activists who have dogged the company into transforming its capital structure more to their liking.

Wendy's finished the first quarter with $1.4 billion in cash on its balance sheet, more than triple the cash it reported at the end of the same quarter last year. The windfall came from its recent spinoff of Tim Hortons -- a move that resulted from a proxy fight last summer brought by William Ackman, the manager of Pershing Square Capital.

Wendy's management initially resisted calls for the spinoff because Tim Hortons is its best performing business unit. After finally agreeing to sell off 17% of the business, the company was noncommittal about when it might spin off its remaining stake.

Enter Nelson Peltz's Trian fund. Earlier this year, Peltz staged a proxy fight of his own that added three new board members to the company's stable of directors, and Wendy's agreed to spin off the remainder of its Tim Hortons stake by the end of the year. Thus more cash is expected to be added to Wendy's balance sheet, and investors are expecting the company to return a good chunk of it to them.

"We've said that we're considering returning cash to shareholders later this year through increasing our dividends, paying a

one-time special dividend or share repurchasings," said Kerrii Anderson, the company's interim CEO and president, on a conference call with analysts Thursday. She said the company hasn't made a decision yet, but it intends to make an announcement later this year.

Anderson is the temporary replacement for Jack Schuessler, who recently retired after 30 years with the company. On Anderson's first conference call, she faced tough questions from two analysts who inquired whether the company will end up sacrificing its investment-grade credit ratings by foregoing debt repayments in order to return cash to shareholders. Wendy's reported that it has more than $1 billion in long-term debt on its balance sheet, including capital leases, up almost double from last year's level.

Peltz, the billionaire investor who turned around the Snapple and Arby's brands, has disclosed ownership of a 5.5% stake in Wendy's through Trian. Skeptics view him as a hedge fund maven who may be inclined to siphon cash out of the business for a quick payoff at the expense of Wendy's long-term business prospects. Others view his efforts as an overdue wake-up call for a tired, old company that is being manhandled by competitors like

McDonald's

(MCD) - Get Report

.

In a December proxy filing, Peltz said Wendy's plans for a partial spinoff of Tim Hortons amounted to "an attempt to avoid shining the spotlight on the poor financial performance of Wendy's business" that "would perpetuate a highly inefficient and costly conglomerate structure."

In addition to the Tim Hortons spinoff, Wendy's is now exploring strategic opportunities for its Baja Fresh Mexican chain, another measure proposed by Peltz. It's also in the midst of a restructuring that it now expects will result in cost savings of $100 million a year starting in 2007. Previously, the company had expected cost-savings of only $40 million to $60 million.

On the call, Anderson said Wendy's would slash overhead costs at its corporate and field offices, but there will be no job losses in its restaurants.

As for its results, Wendy's said it earned $51.2 million, or 44 cents a share, for the quarter, down slightly from the $51.3 million, or 45 cents a share, it reported for the same quarter last year. Analysts were expecting earnings of 46 cents a share, based on an average estimate complied by Thomson First Call.

Sales rose 4% to $931 million, falling short of Wall Street's estimates calling for sales of $918 million. Last month, Wendy's reported that same-store sales, a key metric gauging sales at restaurants open for at least a year, fell 4.8% at company-owned restaurants and 5.2% at U.S. franchised restaurants in the first quarter.

In its first report as a separate public company, Tim Hortons said its first-quarter profits jumped 30% from last year. The company earned C$63.6 million, or 39 Canadian cents a share, up from $47.5 million, or 30 Canadian cents a share. Its revenue climbed 15% to C$372.8 million on a same-store sales gain of 8.7% in Canada and 9.8% in the U.S.

Converted to U.S. currency, it earned $54.4 million, or 33 cents a share, on total sales of $319.1 million.

Wendy's shares closed Thursday up 74 cents, or 1.2%, to $62.50, while Tim Hortons advanced 61 cents, or 2.3%, to $27.72.