The IUF's Private Equity Buyout Watch

The merger would create the world's third largest restaurant chain (behind McDonald's and Yum Brands): 18,000 units in 100 countries doing USD 23 billion in annual sales. Markets loved it. Critics denounced it as yet another "inversion" - a merger or acquisition to relocate to a lower tax jurisdiction. They are right: incorporating in Canada will give the new company gentler tax treatment and easier access to its US revenue in addition to getting Burger King's private equity majority owner 3G (who also control AB AmBev and Heinz) reduced dividend and capital gains tax. If the merger goes through, the new Canada-based Burger King will have locked in a lower tax bill for years to come. But there's another tax angle to the deal, one which shows the extent to which the expansion of low-wage fast food work benefits from other public subsidies.

Burger King's whoppers are real but the company's success is a product of financial engineering. Burger King has gone through a succession of leveraged buyouts, using tax-deductible debt to boost returns. Each of these has been a drain on public revenue.

3G bought Burger King in 2010 from its private equity owners for some USD 4 billion with only 1.6 billion in equity; the rest was funded with debt. Cash flow was boosted by selling off its restaurants to franchisees - head count went from just under 39,000 to 2,400. Costs were offloaded on to the franchises, revenue flowed to 3G as royalties rather than sales and the high interest payments were a tax write-off. 3G worked the cash flow, and in a pseudo-public offering through a deal with another investment fund, 3G sold 30 percent of its shares for 1.5 billion, retaining majority ownership. Two years on and the company was theirs for free. "Burger King", says Business Week, "has become a cash machine. And 3G hasn't been shy about helping itself to some of that money."

The proposed cash and shares merger with Tim Hortons is another leveraged whopper - 9.5 billion of the USD 11.5 billion deal will be financed with 9.5 billion in new debt - 6.5 billion in new loans and 3 billion in preferred shares paying 9% to Berkshire Hathaway's Warren Buffet, who similarly teamed up with 3G in the leveraged buyout of Heinz earlier this year (see Heinz and the varieties of private equity buyout). Burger King still has 3 billion in debt to pay down without taking into account the new loans and Buffett's preferred shares. At least one rating agency has placed Burger King on credit downgrade watch.

If shareholders and regulators approve the deal, interest will weigh heavily on the company for years. But 3G now have huge new leverage to expand their income stream. They can milk the cash, implement the one-off cost savings at Tim Hortons they've done at Burger King (although Tim Hortons already owns few restaurants of its own) and prepare to eventually exit smiling from their 51% stake in a new company with USD 23 billion in sales purchased for 1.6 billion. Whether the merger works in practical terms is beside the point. We may never see Tim Hortons donuts between a bun, or their coffee on a Burger King breakfast menu. It's about dividends, leverage and tax breaks. The big losers are workers and taxpayers.

A US university study last year found that the publicly-funded social assistance which enables fast food workers and their families to survive comes to USD 7 billion annually. That's before corporate tax avoidance is factored in. Burger King's 3G financial wizards are leveraging poverty, and of course they're not the only ones. The next time fast food workers walk out, we should all join them to fight for fifteen, a union and tax justice!