Follow This Canadian Company’s Expansion in America

The market has been very interested in retail expansion in Canada by US companies, and Target (TGT 0.70%) has been at the forefront of this discussion with its Canadian expansion. Recently, Wal-Mart (WMT -0.32%), the largest retailer in the United States, announced plans for further investment in Canada. While these retailers could see boosts if they can get footholds in the north, expansion there wouldn't represent huge growth for these large chains. Instead, I think investors should follow a Canadian company which is expanding across America.

Coffee leader in Canada
In the United States, coffee consumers flock to Starbucks and Dunkin' Donuts locations. But a new option continues to pick up momentum in several areas of the United States in the form of Tim Hortons (THI.DL). In Canada, eight out of every ten cups of coffee sold come from Tim Hortons. The chain sells over two billion cups of coffee per year, and its sales make up 41% of all quick-serve coffee sales in Canada.

At the end of 2013, Tim Hortons had 3,588 locations in Canada and 859 locations in the United States. However, the number of locations in the United States for Tim Hortons is rapidly increasing. In the fourth quarter, Tim Hortons opened 53 locations in the United States, a total of 79 openings for the year.

Same-store sales are improving in the United States. In the fourth quarter, Tim Hortons saw same-store sales increases of 1.6% in Canada and 3.1% in the United States. For the full year, the United States stores led the way with same-store growth of 1.8%, which surpassed the 1% growth of Canadian stores. Total fourth-quarter sales increased 5.4%, which included a 10.7% increase for the United States segment.

In 2014, Tim Hortons plans on opening a total of 215 to 255 new stores. Of this total, 40 to 60 stores will be added in the United States, putting the chain closer to the 1,000 location-mark there.

Other growth opportunities for Tim Hortons include loyalty cards and grocery store expansion. Tim Hortons will bring out a dual-payment card which will act as a payment source and a loyalty rewards card. In the summer, Tim Hortons plans on entering the grocery channel with two new single-serve coffee platforms.

Target is not giving up on Canada
Target continues its planned expansion into Canada. Despite early struggles due to low inventory and selection, Target has plans to open more stores in Canada going forward. In the most recently reported third quarter, Target opened 23 stores in Canada, which compares to only nine openings in the United States. The additional openings gave Target 91 Canadian locations. At the end of 2013, Target was on pace to add 124 stores in Canada. This is a far cry from the 1,797 Target stores in the United States.

In the United States, Target enjoyed a gross margin of 30% in the third quarter. In Canada, due to problems with inventory, the company's third-quarter gross margin was 14.8%. Canada also has a far lower Target card penetration rate of 2.9%, compared to the overall figure of 19.9% the company posted in the third quarter of 2013.

Wal-Mart is stepping up its Canadian game
Wal-Mart recently announced that it will spend $452 million to improve its stores in Canada. The money will go toward store projects, distribution centers, and e-commerce improvements. The distribution center improvements will help Wal-Mart stock fresh food at its locations, which is one area where Target has struggled.

By the beginning of 2015, Wal-Mart will complete the transformation of 35 super-centers and add over 1 million square feet of retail space. Wal-Mart plans on having a total of 395 stores (282 super-centers, 113 discount stores) by the beginning of 2015. This puts the leading U.S. retailer well ahead of Target, and Wal-Mart's investment could hurt future growth for Target.

Final thoughts
Tim Hortons recently raised its dividend by 23% and it now yields over 2%. With United States expansion coming and plans for entry into more retail channels, investors should consider putting a little bit of Canada in their portfolios. Target continues to struggle in Canada while fighting against local retailers like Loblaw and big giants like Wal-Mart. With Wal-Mart stepping up its game, I expect margins and profits to continue to take a hit from its Canadian efforts. Skip the big retailers and get the java instead.