Krista Garcia should be the ideal Tim Hortons customer. The American food blogger knows the quintessentially Canadian chain from her trips north of the border, where she sampled oh-so-Canuck off erings like the maple-dip doughnut. Garcia was excited when Tims expanded in her hometown of New York City, but her first visit was disappointing: “The glass display case was alarmingly barren with only a few ancient chocolate-glazed specimens holding ground on the bottom rack.” And though the chain has opened more outlets in the New York area since, her impressions haven’t changed. A visit to a Brooklyn food court eight months ago was typical: Garcia saw a few old-looking doughnuts on the rack, and no customers.

Tims’ American outposts just aren’t the same, she says, describing the ones she’s seen as “very sad.”

“It didn’t make me want to go back.”

That’s an assessment the Oakville, Ont.–based chain can’t afford to hear. Tim Hortons, this country’s No. 1 restaurant, is as Canadian as the Cochrane, Ont., hockey player who gave the company its name, but right now, it needs to win over Americans. After decades of spectacular growth, the chain appears to be hitting the wall: same-store sales-growth is sagging in Canada, where Tims is suddenly facing tough new competition from McDonald’s new McCafé rebrand, clearly aimed at taking a big gulp out of the market leader’s coffee sales. And geographically, expansion opportunities north of the border are limited. Head offi ce argues there is still room for new franchises, but the market is nearing saturation. If the chain is to keep growing at the pace we’re used to, it will have to find a way to boost sales, either by finding new customers for its chocolate dips or getting the current customers to buy more than just coffee and doughnuts.

“They’re seeing a kind of leaching of the classic ‘Tims run’ behaviour’ that should be a concern to the company,” says Doug Hunter, author of Double Double, a new book on the chain. “Tim Hortons is under siege like it’s never been before.”

Granted, this is a bump on the near-perfect road travelled by one of our greatest business successes, a company that has seemingly been able to do no wrong. The chain’s ubiquity has made it a national symbol, the place politicians on the campaign trail book their photo ops, that spawned a term (doubledouble) in the Canadian Oxford Dictionary. With revenues of $3.12 billion in fi scal 2012, and profits of $305 million as of March 1, Tims still holds the No. 1 position in the quick-serve restaurant market, and it’s the fourth-most-profitable company in Canada’s consumer discretionary sector. But for the first time in the company’s half-century-long history, market watchers are now asking if Canada’s most iconic company could actually be in trouble.

If the chain is floundering, there’s no evidence of it in the brand new outlet in a sprawling strip mall in suburban Toronto, where, one brisk Sunday evening in March, three men in their 40s sat beneath a wall-mounted flatscreen TV with their laptops, sipping coffee and taking advantage of the free Wi-Fi offered at the newly renovated franchise. Kadir Hersi says he and his friends visit once a week to talk, do research and just hang.

The group’s view of Tim Hortons as a relaxed meeting place is exactly what the chain is now aiming for in Canada, where boosting same-store sales has become the focus of its growth strategy. In an attempt to convince customers to spend more time—and money—Tims is pushing to renovate its locations with dark wood panelling, mood lighting and brushed chrome lettering above its entrance that highlights some of the chain’s new menu offerings: “espresso,” “latte,” “smoothies.”

The makeover is partly an effort to compete with McDonald’s transformation; its McCafés feature linen light fi xtures and an amped-up espresso menu. But it’s also an effort to reposition the chain as more of a full-service restaurant. Since Tim Hortons already sells eight out of 10 coffees in Canada, food offers the greatest potential for growth. Canadians eat out 6.7 billion times a year (only Italians dine out more), and analysts say that the breakfast and lunch markets are showing room for expansion: since the recession, diners have shifted their eating-out habits to earlier in the day.

Tims made its first foray into the breakfast market in 2006 and shot to the No. 1 position in breakfast sandwiches within just one year of introducing its egg-and-sausage biscuits and bagels (Tim Hortons outsells the Egg McMuffin by an astonishing ratio of more than two to one).

Now the chain is taking aim at lunch, where it currently hovers in second or third place with less than 20% share. In a relatively flat market, Tims must draw diners away from eateries such as McDonald’s, the lunch leader, so it has introduced new hot meal offerings, such as lasagna to its menu in recent years. “There’s absolutely room for [Tim Hortons] to grow,” says Robert Carter, executive director of NPD Group.

In November, the chain unveiled its latest plan of attack: a slate of new, flat sandwiches made with white or multigrain panini bread and then grilled. The menu refresh meant the chain could offer a comfort-food classic—grilled cheese, of course, its bread scored with toasty sear lines—and at the same time let them experiment with trendy, bistro-style ingredients. The sandwiches have been selling well, says Carter. In the quarter since they were introduced, same-store sales growth increased from 1.9% to 2.6%. But that’s still a far cry from the high of 5.5% the chain saw in fourth quarter 2011.

Innovation will be pivotal in the Canadian food fight, says Carter, who notes that Canuck diners’ buying habits are typically driven by product innovation, while American consumers are more motivated by discounting and bargains. Tims tests anywhere between 20 and 25 new items in its kitchens at any one time, rolling old-fashioned glazed cake doughnuts in toasted coconut shreds or slicing its bacon thicker. The chain also benefits from the perception that its “Always Fresh” menu is healthier. (Although it has worked to lower sodium levels in items such as soup, not every sandwich qualifies as health food. Weighing in at 560 calories, their Tuscan chicken panini on multigrain bread actually packs 20 more than a Big Mac.)

An ace up Tims’ sleeve, says analyst Patricia Baker at Scotia Capital, is what is not on its menu: beef, a fast-food ingredient that’s seen its image battered by E. coli outbreaks and the recent horsemeat scandal. Baker notes that the chain is one of the few quick-service players whose menu doesn’t revolve around burgers, and remains bullish on the company’s prospects, predicting a rise in its share value, from its current $53 range to $62 or $65 over the next 18 to 24 months, thanks to its growing presence in the breakfast and lunch categories.

Still, the new emphasis on food items isn’t necessarily a recipe for success: sandwiches and lasagnas have lower profi t margins than coffee, and ham slices and other unsold edibles have to be thrown away. For new, dairy-rich items such as its hot bowls, that shelf life can be as short as four hours. Franchise owners have complained about the chain’s ever-expanding menu and its narrower
profit margins. “The lunch menu, the sandwiches, they were so wasteful—we threw out two to three garbage bags full of food a day,” says Sue Bright, who operated two stores for years in Niagara Falls before exiting the business in 2009. The push to serve more lunch items was among a litany of complaints in a $2-billion class-action lawsuit filed by franchisees. (Dismissed by an Ontario Superior Court judge in February 2012, the franchisees are now awaiting leave to appeal to the Supreme Court.)

Some observers even wonder if menu tweaks could start alienating customers who don’t want to see their belovedly middle-of-the-road chain start taking on airs, as CBC radio personality Rex Murphy grumbled when Tim Hortons introduced its line of lattes. “They started getting slagged for being Starbucks North,” notes Hunter, who says the chain is in a “brand identity bind”: “How do they remain a classic Canadian experience if they change what they’re offering? But on the other hand, what if Tims doesn’t change, and consumers do?”

For Tims’ leadership, the growth crisis comes at the worst possible time. Canada’s leading restaurant chain has been without a CEO since Don Schroeder abruptly left in 2011. Bad luck threw the company’s external search for a new chief executive off track when the principal of the executive search firm it had hired died of a terminal illness, obliging it to hire a second firm last summer. Executive chairman and president Paul House, a former CEO who has been filling the role, expects to have someone hired by this summer. He insists the vacancy hasn’t hurt the company. “I wasn’t just coming back to keep the seat warm,” says the 28-year veteran.

Still, markets haven’t responded well to House’s tenure. After rising steadily for two years, the chain’s stock price peaked near $58 last May and hasn’t recovered since. Although most analysts still give it a Buy rating, some investors have grumbled that the stock is overrated; last summer, Goldman Sachs downgraded it to a Sell, and Credit Suisse considers it overvalued by 15%. Tims has other headaches, too. In a recent bout of restructuring, the company laid off a number of head office employees. Though it wouldn’t confirm how many, $9-million was spent on reorganization in the fourth quarter of 2012 alone, primarily on termination costs and accompanying fees, according to a shareholder report.

Once a new CEO is appointed, one of the most critical tasks will be to figure out what to do with the U.S. market, where sales are about half what they are here, and where new franchisees are much harder to find. “I won’t lie to you. I wish we were making more money down there,” says House.

Hunter says the company’s foray south of the border has lacked a coherent strategy. Establishing a brand identity for a chain named after a Canadian hockey player has been a huge challenge. It has struggled in the northeast, where it acquired a small New England chain called Bess Eaton, but then closed 36 stores due to poor performance, and it has opened new locations in a patchwork of formats that left consumers confused. In an effort to define their brand, they dubbed U.S. franchises “Tim Hortons Café & Bake Shop,” but “slapped the ‘& Bake Shop’ tag line” on outlets that were little more than food counter kiosks, Hunter says.

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In Manhattan, a tough market for even established brands, the company’s strategy seems especially unfocused, Hunter says, citing its much-publicized opening in Penn Station. Tapping the city’s commuter traffic seems smart, but the location creates a hub without spokes—all the bedroom communities that the commuters live in, which are still unserviced by Tim Hortons. Panera, by contrast, one of the strongest new contenders on the American quick-serve restaurant scene, approached Manhattan with a hub-and-spoke strategy, establishing strongholds in the suburbs before aiming to enter the pricey downtown core.

Tims says it will continue to expand its over 800 locations south of the border, however, aiming for 70 to 90 new spots this year. Its strongest footholds are in Great Lakes states such as Michigan and Ohio, as well as upstate New York. Analyst Stephen Anderson at Miller Tabak & Co. says that the chain should pursue a smart, sharply targeted expansion in Midwestern cities where juggernaut Dunkin’ Donuts isn’t a presence, such as Pittsburgh, Cincinatti, Lexington, Ky., and Indianapolis. “I can think of them going down the I-75 freeway to Florida, getting the snowbirds who have gone down there,” he says. He believes the chain can add as many as 600 more locations in the States with such a strategy. They could also break further into the breakfast-sandwich game, where Dunkin’ has so far failed to overtake McDonald’s.

Expansion efforts haven’t been limited to the U.S.: Tim Hortons moved into the Middle East with an opening in Dubai in 2011 and plans for 120 across several Gulf states. And the company still sees opportunities for new markets in Canada. One of its last, best hopes for expansion is Quebec, where it waged a surprisingly successful battle with regional favourite Dunkin’ Donuts that decimated the U.S. chain. (Dunkin’s determination to keep Tims out of New England might be an indication that it’s still smarting
from the loss.) Dunkin’ franchisees rang alarm bells when Tims began invading their turf during the 1990s, warning their head offi ce of the “Tim Hortons phenomenon” and asking for help to fend off the newcomer, but the Canadian company prevailed by custom-tailoring menu items like baked beans and developing made-in-Quebec ads. (Until 2005, commercials in the province starred accident-prone, sandwich-loving characters named Minou & Pitou.) Quebec is now one of its fastest-growing markets. The chain cut the ribbon on its 500th location last summer and has grand plans to double that number.

How many more locations can the chain open? “We could put one on every block of downtown Toronto if we could fi nd real estate,” House says. But at its current level of about 3,300 in Canada—one restaurant for every 8,200 Ontarians (a ratio that rises to 1:6,500 in the Atlantic provinces)—some say he is overly optimistic. Others, such as Anderson, say it can aff ord to add up to 1,300 more locations by focusing on underserved provinces.

When it comes to Canada’s aging population, time is on Tim Hortons’ side—for now. The huge boomer cohort is loyal to the chain, having grown up eating chocolate dip doughnuts, says Carter. They likely make up much of the 40% of Tims guests who visit four or more times a week. The restaurant can lean on the boomers, who will stick with the chain as they age, while it works to attract younger diners with innovative menu updates and healthier-seeming offerings.

For Tims to keep growing in Canada, it will have to find a successful expansion strategy—and fast. If it continues to stumble, our beloved coffee chain could quickly find its famous brew growing stale.