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Why Morgan Stanley's Buying Solium Capital

On Monday, Morgan Stanley (NYSE: MS) announced it was purchasing Canadian stock plan administrator Solium Capital for $900 million, and let's be honest: Before this week, odds are you'd never heard of the target company before. Also that day, Restaurant Brands International (NYSE: QSR) reported quarterly earnings, and in that case, most people are far better acquainted with its chains: Burger King, Tim Horton's and Popeyes.

In this Market Foolery podcast, senior analyst Abi Malin and host Chris Hill reflect on the upsides of the acquisition, the complexities of the fast-food business, and more as they offer investors some insights into what the day's news might mean to them. They also answer a listener's question on the subject of price-to-earnings ratios: How do you think about a divergence between the trailing P/E and the forward, and which is the better way to measure a stock's value?

A full transcript follows the video.

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This video was recorded on Feb. 11, 2019.

Chris Hill: It's Monday, Feb. 11. Welcome to Market Foolery! I'm Chris Hill. Joining me in studio on a rainy Monday is Abi Malin. Thanks for being here!

Abi Malin: Thanks for having me!

Hill: We're going to dip into the Fool mailbag. We're going to talk restaurant stocks. We're going to start with the deal of the day. Morgan Stanley is buying Solium Capital for $900 million. Solium Capital, based in Alberta, Canada, prepares stock plans for start-up companies. Shares of Solium are up 42% today. Good for those folks.

Morgan Stanley, it's their biggest deal since the financial crisis. First, do you like this deal?

Malin: Yeah, I think it's an interesting deal for three reasons. The first is, as you mentioned, Solium Capital is a Canadian company. They provide stock plans for start-ups. I think there's really three big takeaways from this. The first is that Solium provides predictability to Morgan Stanley earnings. Wealth management is a subscription-division model for Morgan Stanley. This is an easy plugin for them. There's cross-selling opportunities. Also, down the line, there could be retirement planning opportunities for these clients. A lot of opportunity from the get-go with this acquisition.

The second thing that I think is interesting is, starting in the beginning of last year, we saw a lot of predicted mergers and acquisitions in the banking sector. We're just now starting to see that tick up. Last week, we had the news about BB&T and SunTrust. This week, it's Morgan Stanley buying Solium. It's an interesting time for this to happen, because in the banking sector, you have a couple of positive things going on right now. You have a strong economy, widened interest rate spreads in comparison to recent history, lower credit losses, lower corporate taxes, and a little bit of easing on compliance. But for the negatives, regional banks used to compete with these much larger banks just on relationships. As people have moved more toward electronic banking, that's become less of an advantage. You've also seen these regional banks lack the technology that these larger banks have. The consolidation makes sense. I think we've all been waiting a while for it. I think this deal makes sense from that regard.

The third part is a comment about start-up culture in general. Clients at Solium have included Instacart, Shopify, and Stripe. I think it could be an interesting plugin to Morgan Stanley's business to see maybe a relationship into IPO mandates, potentially, from Morgan Stanley. That's also interesting because companies have chosen to stay private so much longer and at higher valuations.

Hill: I was a little surprised when I saw that this was the biggest deal Morgan Stanley's made in the past decade. Morgan Stanley, you're talking about a $70 billion business. Not that $900 million is chump change, but it's smaller than I would have bet on. CEO James Gorman was pretty clear about the fact that -- and you touched on this point -- they're looking to do more of these. They're looking to make more acquisitions.

Malin: Yeah. Typically, smaller acquisitions tend to go better. That's the general consensus. So I think it makes sense. This one in particular is interesting because it bridges that gap between private and public equities.

Hill: The other thing I was struck by, $900 million in cash, the buyout price for Solium is $19.15 a share. When we walked in the studio, Solium was trading at $19.10 a share. That tells me this is something that should go smoothly, and it's not going to be a situation like we've seen over the past couple of months where --

Malin: Regulators are fighting it.

Hill: -- regulators are fighting it, or, also in the financials space, Visa and Mastercard going back and forth battling for this British payments company, Earthport. This looks like Morgan Stanley's got this one locked up.

Malin: Yeah. I think part of that is just competition within the space. It's not necessarily as competitive as some of those other deals that you just mentioned.

Hill: Let's move on to Restaurant Brands International, which is the parent company of Popeyes, Tim Hortons, and Burger King. Fourth-quarter results were good. The stock isn't really popping today, but they preannounced in January, so just in the last five, six weeks or so, this stock is up more than 20%. I'll tell you what stood out to me; you tell me what stands out to you. Once again, we've got an umbrella corporation that's got several restaurants, and one of them is lagging the others. In this case, Tim Hortons and Burger King performing, at least in this quarter, much better than Popeyes.

Malin: I think that's a this-quarter issue. Popeyes for the year, sales were up 9%. That's driven by 7% restaurant growth and comp sales of about 1.6%, which I don't think is anything insignificant. But definitely, for this quarter, Popeyes was the drag.

Hill: Do you have a sense of what the delivery strategy is for QSR -- Restaurant Brands International, I should say. The ticker is QSR. In my mind, one of the great ticker symbols. Do you have a sense of, are they approaching delivery in an integrated way? Meaning, "This is what we want across all of our restaurant brands." They're all in that fast-food space. Are they doing it by essentially letting each restaurant brand decide upon themselves? You and I have talked about delivery before. Investors, if you're looking at restaurant stocks, this is a box you need to check.

Malin: I would imagine that it's more uniform across the entire system. They've mentioned they have delivery in about 3,000 restaurants for Burger King in the U.S. and about 7,000 around the world for Burger King. And Popeyes, especially, it's their push in bringing that restaurant back up to speed, maybe. They have delivery in about 1,100 Popeye's restaurants in the U.S., and that's about 50% of all of their restaurants. And that was really done zero to 100 in just one year. It's definitely a necessary technological investment. We've seen a lot of restaurants get in this groove of how they're going to figure it out. You've seen some big partnerships between Grubhub and Yum! Brands. I think it's the question to be answered, and it's just about how you can do it most efficiently.

Hill: It would seem on the surface -- you know a lot more about the delivery industry and Grubhub in particular than I do -- like unless you feel like your restaurant can operate at a high level when it comes to delivery, that the partnership route seems like it would be an easier route to go.

Malin: Yeah, theoretically it should be like as long as there's an existing marketplace there. Part of that is also about these brands, though. Are people going to go on Grubhub's site and specifically look for Popeyes or Burger King? I think those are strong enough brands that perhaps they could, and maybe they could even be strong enough that they demand their own app, which is what you've seen a lot of the pizza industry do. They haven't really partnered, because traditionally, pizza was takeout, so you were so acclimated to looking for it by itself.

I think it's interesting, especially in this middle segment. Maybe Popeyes is fast food; maybe it's a little bit higher. But probably more fast food. It's definitely a consumer behavior shift, and I think companies are just struggling to catch up.

Hill: Before we dip into the Fool mailbag, I want to say we're going to be doing another live Q&A on YouTube this Wednesday, Feb. 13. You can email questions here; you can post them on The Motley Fool's YouTube channel; hit us up on Twitter. It's going to be myself, Jason Moser, Ron Gross. We're going to be talking stocks. We hope you join us -- youtube.com/themotleyfool. Go subscribe. We'll see you Wednesday afternoon. We're still working out the exact time. It's going to be somewhere in the neighborhood of 3 or 3:30 p.m. Eastern time. Subscribe on The Motley Fool's YouTube channel, and you'll be all taken care of.

marketfoolery@fool.com is our email address. Question from Matt McIver, who asks, "Is there anything to be gleaned from comparing current P/E to forward P/E? Am I correct in reading the tea leaves that a lower forward P/E is a bullish indicator?" Thank you, Matt, for the question!

So, when you're looking at current price to earnings ratio versus forward price-to-earnings ratio... ?

Malin: I think the big factor here is what you're comparing. Current P/E is current price over current earnings. Forward P/E is the current price over the expected earnings per share. When forward P/E is less than future P/E, it indicates that there is a projected increase in earnings per share, but that can be done by an increase in earnings and/or usually some combination of stock buybacks.

I would say it's an optimistic signal, but I think the thing to keep in mind here is that analysts have to be right. That's an expectation. If they beat expectation, that's where you really see the opportunity. If they miss expectations, even if it's above what it currently is, you're still going to see some fluctuation to the downside. Keep in mind that that's an expectation and not a set projection.

Hill: Do you have one that you rely on more than the other as a working analyst?

Malin: I look more at current price to current earnings as it compares to major competitors and the player, trying to get a value sense between Company A and Company B when they both compete in the same sector.

Hill: Just to go back to Restaurant Brands for a second, as a fellow New Englander, are you a little surprised anytime you're in New England and you see a Tim Hortons? Because I always am.

Malin: Yeah. It's Dunkin' territory up there, right?

Hill: It's Dunkin' territory. Starbucks has made inroads. I'm not surprised when I go back to New England and I see Starbucks. I am still surprised when I see Tim Hortons.

Malin: I would agree with that.

Hill: In part because our colleague, Jim Gillies -- a proud son of Canada, Jim Gillies -- has not really anything good to say about Tim Hortons' coffee.

Malin: I have Canadian fans who swear by it.

Hill: Oh, OK!

Malin: But maybe they're being defensive because it's Canadian.

Hill: [laughs] Could be. Abi Malin, thanks for being here!

Malin: Thanks for having me!

Hill: As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening. We'll see you tomorrow!

Editor's note: In the discussion of forward P/E, Abi Malin intended to say that when forward P/E is less than current P/E, it indicates a projected increase in earnings and/or a decrease in share count.

Abi Malin owns shares of Grubhub, Mastercard, Starbucks, and Visa. Chris Hill owns shares of Starbucks. The Motley Fool owns shares of and recommends Mastercard, Shopify, Starbucks, and Twitter. The Motley Fool owns shares of Visa. The Motley Fool recommends Dunkin' Brands Group. The Motley Fool has a disclosure policy.

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