by Alyssa Oursler | September 18, 2013 1:00 pm
So far this year, as the S&P 500 has gained over 19%, restaurant stocks have been a mixed bag. The sector as a whole outperformed during the first half of the year, but many analyst subsequently suggested cutting back as a result of softening sales recently.
Chuy’s Holdings (CHUY), Bloomin Brands (BLMN) that runs Outback Steakhouse and Bonefish Grill and Del Frisco Restaurant Group (DFRG), for example, have each posted solid gains since their IPOs last summer … but two out of the three dining stocks are in the red year-to-date. Meanwhile, names from McDonald’s (MCD) to Red Lobster and Olive Garden operator Darden Restaurants (DRI) have climbed around half as much as the broader market.
Still, a few names have ignored analyst warnings and recent weakness in consumer and retail data, as their stocks continue to climb higher. The question that follows, though, is whether that upwards momentum just builds in further to fall.
Let’s take a closer look at three of the hottest food stocks so far in 2013 — and whether they’re looking fresh and tasty… or turning stale.
Year-to-date gains: 83%
First up, we have The Wendy’s Co. (WEN) — a fast-food stock that has gained more than 10 times supposed king McDonald’s and more than four times the broader market. One big reason for the restaurant’s success: Its new Pretzel Bacon Cheeseburger.
My personal take on the snack: Delicious, although a bit overpriced. That higher price tag, though, is part of the company’s strategy of offering premium items a la Panera (PNRA) and Chipotle (CMG) — a recipe for higher prices and margins.
The bad news, though, is that the company’s sales have been soft. They fell short in the most recent quarter, while same-store sales only inched up 0.4% in North America. Margins have made up the difference thus far, but may not do the trick as investor expectations get higher.
Sure, WEN has soared 83% year-to-date and was just upgraded to a “buy” from Argus, with $10 price target — double-digit upside. But the stock’s median target remains at $7.50 — double-digit downside and proof of just how fast WEN has run-up.
In fact, the stock is currently trading for 32 times forward earnings — double projected five-year annualized earnings growth and far more than McDonald’s, Taco Bell and KFC operator Yum Brands (YUM) and Burger King Worldwide (BKW). With that in mind, Wendy’s stock indeed seems ripe for a cool-down — especially as investors demand more for the high premium they’d be paying, and the novelty of the new item wears off.
Year-to-date gains: 52%
Ever since Domino’s Pizza (DPZ) completely overhauled its offerings recently, the company has been on a roll. Last year, the pizza chain posted record profitability — good news considering sales have been climbing as well.
In the most recent quarter, DPZ profit rose 18%, while sales gained 10% and same-store sales jumped 7% in the U.S. and 6% abroad. That trend is expected to continue as well; current quarter earnings are slated to increase 21%, next quarter should enjoy a gain of 17%, while the total year should improve 20%.
And those estimates just may be too low, considering the stock has beat expectations for the last four quarters.
The two red flags: The company’s operating cash flow has taken a dramatic hit, sliding from $43 million as of last September to just $19 million in most recent quarter. On top of that, the stock does look a tad frothy, trading at 24 times expected 2014 earnings vs. projected five-year annualized earnings growth of just 14%.
Still, I would be less worried about a big-time sell-off here than I would with Wendy’s. That multiple is only slightly higher than rivals like Papa Johns (PZZA) or even Yum, which each go for 20 times forward earnings. Meanwhile, Wendy’s boasts a much more significant premium than its peers.
It may not be the time to buy DPZ, but I wouldn’t have a problem holding if you’re already in.
Year-to-date gains: 109%
I’ve been following Krispy Kreme Doughnuts (KKD) with interest ever since its sizzling run caught my eye around a month ago. At that point, the stock’s 52-week gains were north of 250% — a reality that made the stock a delicious investment in hindsight, but a questionable one going forward.
The stock’s run came thanks to expansion — both of its product line and into new emerging markets like China and South Korea. The combination of both pushes have helped earnings climb at an impressively rapid pace — a 43% gain in Q1 and a 17% climb in Q2, each on double-digit sales gains.
Unfortunately, that 17% improvement — reported in late August — fell short of expectations, and the stock took a double-digit one-day tumble as a result.
That’s good news for investors interested in KKD’s growth now, though, as the much-needed cool-off Wendy’s will likely suffer soon has already taken place for this dessert darling.
Now, KKD is trading for 26 times forward earnings — about fairly valued considering blistering 25% annualized growth is on tap for the next half-decade, including a 34% earnings improvement this year alone. Rival Dunkin Donuts (DNKN), for comparison, is trading for a comparable multiple despite the fact that its earnings growth is only expected to be 16% over the same time period.
Even though the stock’s already doubled year-to-date, don’t be surprised if it keeps climbing.
As of this writing, Alyssa Oursler did not hold a position in any of the aforementioned securities.
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