The deal marks the conclusion of a drawn-out auction that started in February and attracted interest from several private equity firms. Reuters reported on Tuesday on a so-called earn-out agreement that was key to Roark clinching a deal for Subway.

For the full deal price to be paid, Subway’s cash flow would need to reach certain milestones over a period spanning two or more years after the deal closes, according to the sources. Without the earn-out, the deal is worth $8.95 billion, the sources said (all figures US$).

Earn-out structures, while uncommon in the consumer and retail sector, are increasing in frequency in a challenging market for mergers and acquisitions as a way to reconcile price differences.

The sources said the arrangement helped bridge a gap in the valuation expectations between Roark and the DeLuca and Buck families that own Subway, which started up nearly 60 years ago in Connecticut.

The families were hoping to fetch more than $10 billion for Subway based on its strong brand and international growth, but the private equity firms countered it was worth less because they deemed its U.S. business saturated.

Roark prevailed over a rival bidding group led by buyout firms TDR Capital and Sycamore Partners, whose final offer was for $8.75 billion including an earn-out, and $8.25 billion without, the sources said.

Roark, which owns other restaurant operators and franchises — including rival U.S. sandwich chain Jimmy John’s — will pay Subway’s owners a break-up fee equivalent to four per cent of the deal’s value should antitrust regulators thwart the deal, one of the sources said.

The deal contact allows for 12 months for the transaction to be completed, according to the sources.

Roark took the view that the restaurant market is too fragmented for the deal to raise competition concerns, the sources added.

Jimmy John’s has more than 2,600 restaurants in 43 U.S. states. Subway has more than 37,000 restaurants in over 100 countries, including 21,350 in the U.S. and 3,135 in Canada.

Roark and Subway, which announced the deal on Thursday, declined to comment on the terms.

Roark currently controls Inspire Brands, the owner of restaurant chains including Jimmy John’s, Arby’s, Baskin-Robbins and Buffalo Wild Wings.

Its experience of helping restaurant brands grow will be helpful, “especially in the U.S. market where it remains well below the peak it hit a few years ago,” said Neil Saunders, managing director of market research firm GlobalData.

Revamping operations

Tax considerations were part of the calculus to sell Subway. This is because the estate of co-founder Peter Buck, who passed away in 2021, donated his 50 per cent stake in the privately-held company to his philanthropic foundation under the terms of his will. This offers a shield from taxes on the sale of the stake.

Founded in 1965 by 17-year-old Fred DeLuca and his family friend Buck, Subway has been owned by the founding families since its first restaurant opened as “Pete’s Super Submarines” in Bridgeport, Connecticut.

The Milford, Connecticut-based company has been revamping its operations to deal with outdated decor and $5 deals on foot-long sandwiches that eroded franchisees’ profits. In 2021, the chain launched a menu overhaul and splashy marketing campaign as it embarked on a turnaround plan that has helped sales grow.

Subway, which has closed thousands of U.S. locations since 2016, said a year ago that it wants to shift away from its current base of small franchisees that own just one or two shops, which tend to be family-run and sometimes barely scrape by.

The company saw a 9.85 per cent increase in same-store sales in the first half of 2023. Its 12-month earnings before interest, taxes, depreciation and amortization are around $800 million, according to the sources.

— Reporting for Reuters by Anirban Sen and Abigail Summerville in New York and Deborah Sophia in Bangalore.

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A deal could be finalized this week, the report said, citing people familiar with the matter.

“Subway does not intend to make any further public comment regarding the process until the transaction has been completed,” the company told Reuters in an emailed statement.

Reuters reported earlier this month that private equity firms TDR Capital and Sycamore Partners were in talks to team up in their pursuit to acquire Subway, which in February said it was exploring a possible sale of its business.

Sources told Reuters then that Subway was targeting well over US$9 billion in a deal, and remains uncertain whether TDR and Sycamore can meet its price expectations. Another group led by Roark Capital was in the running, the sources had added.

Private equity firm Roark primarily invests in the franchised consumer and business services sectors. It has invested in Inspire Brands, which is the owner of Arby’s, Baskin-Robbins, Buffalo Wild Wings and Dunkin’ among others.

Subway, which has about 37,000 restaurants running in over 100 countries, including over 3,100 in Canada, was founded in 1965 by 17-year-old Fred DeLuca and family friend Peter Buck.

The company has been owned by the founding families since its first outlet opened as “Pete’s Super Submarines” in Bridgeport, Connecticut, and has operated under the name Doctor’s Associates Inc. since 1966.

For the first half of 2023, Subway saw a 9.3 per cent increase in same-store sales in North America, as its moves to revamp its menus, remodel its restaurants and improve marketing efforts helped draw more customers even in the face of stiff competition.

Roark Capital did not immediately respond to a Reuters request for comment.

— Reporting for Reuters by Ananya Mariam Rajesh and Deborah Sophia in Bangalore.

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The offer price marks a premium of more than 53 per cent to Recipe’s last close. The shares have fallen 24 per cent this year on broader market weakness following monetary tightening by central banks across the world.

Buyout firms have doubled down on take-private dealmaking opportunities as lower valuations make it easier to lure businesses away from the stock market at bargain prices.

These firms spent a record US$226.5 billion on such transactions around the world in the first half of 2022, up 39 per cent from the same period last year, Dealogic data shows.

Fairfax’s take-private transactions in recent years include its stake in a 2018 deal for Regina-based pulse crop processor AGT.

Up until last year Toronto-based Fairfax also held a stake in the Arctic Gateway Group consortium; up until 2018 it had been a majority owner in steakhouse chain The Keg, now part of the Recipe group.

Recipe said it had entered into a letter of intent with Fairfax, adding its board would recommend shareholders vote in favour of a takeover once the deal was finalized.

Founded in 1883, Vaughan, Ont.-based Recipe’s brands also include Swiss Chalet, Harvey’s, St-Hubert, Montana’s and New York Fries, among others.

As of June-end, the company had over 1,200 restaurants in Canada, the U.S., Saudi Arabia, India and the United Arab Emirates.

— Reporting for Reuters by Niket Nishant in Bangalore. Includes files from Glacier FarmMedia Network staff.

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