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Investors Bullish on the Owl?

Analysts says Couche-Tard has room to grow

LAVAL, Quebec -- Given that the vast majority of convenience stores are still local chains and dusty mom & pop shops, the industry buzzword remains "consolidation." This has investors excited, according to a report in Canada's National Post, particularly with Laval, Quebec-based Alimentation Couche-Tard Inc., which is already a proven leader in the consolidation race.

In the past 25 years, the company has grown from a single store to nearly 5,000 units in Canada and the United States, making it North America's second-largest [image-nocss] convenience store operator behind only industry leader 7-Eleven Inc., Dallas. The combined revenues of the four major players make up just 6% of the overall market.

In 2003, Couche-Tard acquired Circle K from ConocoPhillips for $1.1-billion, adding 2,290 stores in the United States. It has also made several smaller tuck-in acquisitions since then. In fiscal 2004, Couche-Tard bought 49 stores, opened 44 fast-food restaurant counters and renovated 223 stores.

Shareholders have reaped the rewards. Since 2003, the stock has risen 250% to $20.65, including a 17% gain this year. Analysts agree that acquisitions and greater store diversity will be the key to company and stock-price growth going forward.

Patricia Baker, an analyst with Merrill Lynch, who recently expanded her coverage of the convenience store sector, said convenience stores can no longer be the "beer, cigarettes and soda play" of the past.

Consolidation equates to a greater access to capital, which leads to higher margins, better leverage with suppliers and improved brand recognition, said Baker, who has a $22.50 target price and a "buy" recommendation on Couche-Tard. To this end, Couche-Tard is already at an advantage. The company says it has the ability to pull off a $1-billion to $1.5-billion deal and that it is in discussions with seven or eight potential targets.

"Management is increasingly willing and capable to seek more large-scale acquisition opportunities. Although management admitted that current discussions do not involve large chains, we believe Couche-Tard will aggressively seek such opportunities going forward," Baker said.

Certainly, the company has a proven ability to integrate and profit from its acquisitions. In the fourth quarter, Couche-Tard achieved cost savings with Circle K of $20.5 million, bringing the total to $86.7 million, far ahead of analysts' estimates.

Martin Goulet, an analyst with National Bank Financial with a "hold" and $21.50 target price on the stock, was calling for synergies of $80 million. He now figures cost savings could reach $100 million by the end of fiscal 2006.

But whether Couche-Tard can find another acquisition target on the scale of Circle K remains a cause for concern for one analyst. Sara O'Brien, an analyst with RBC Capital Markets, said although Couche-Tard has ample debt capacity to complete a large acquisition, there are none currently available.

"We see accretive acquisitions as a critical factor to Couche-Tard's long-term growth and believe there are limited large opportunities available; therefore we do not foresee significant earnings or stock price appreciation in the near term," she said. O'Brien has a "hold" recommendation on the stock and a $19.50 target price.

And the bulk of analysts agree Couche-Tard is trading at a discount to its primary competitor, 7-Eleven. According to Baker, Couche-Tard is currently trading at 19.9 times fiscal earnings, while 7-Eleven is trading at 26.7 and 22.7 times fiscal 2005 and 2006 EPS estimates, respectively.

Expect that gap to narrow with more acquisitions, something the company hinted at in July.

"We have a lot of maneuvering room," chief executive Alain Bouchard said on a conference call after reporting strong earnings in the fourth quarter. "It could be 200 to 2,000 [stores]. But it's more speculation than anything else."

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