International burger-flipper Wendy’s (NASDAQ:WEN) has turned around a recent month’s worth of sluggishness — a rough patch that has followed its decent fourth-quarter earnings report out Jan. 16 — with roughly 4% gains Monday.
Several sources are crediting a positive story in Barron’s, which claims WEN shares might have as much as 40% upside in the next year — a stark contrast to its volatile but rangebound movement during the past four years.
So, is it really time to take a bite of Wendy’s? To see, we’ll look at the pros and cons:
Pros
Restructuring: Wendy’s has undertaken a major revamping of its restaurants that includes menu improvements, trendier interior designs, a new point-of-sale system and better advertising. So far, Wendy’s has re-imaged 66 restaurants, and it’s seeing positive results, with sales up 25% in those locations. The company plans about 200 re-images this year.
Strong Backing: Wendy’s CEO Emil Brolick was formerly the chief operating officer of Yum Brands (NYSE:YUM); his background in building a global business should prove to be a big growth opportunity for Wendy’s. Meanwhile, the majority owner of Wendy’s is veteran dealmaker Nelson Peltz, who has a long background in the consumer foods industry and has a pretty good record of creating shareholder value.
Valuation: Wendy’s is trading at a discount to its peers, at least in relation to EBITDA — WEN shares trade at roughly 8.4 times EBITDA, vs. an industry average of 10x. Though it should be pointed out that on an earnings basis, Wendy’s forward P/E of 26 is far frothier than many other fast-food stocks.
Cons
Competition: Well, you never want to be across the ring from an efficiency giant like McDonald’s (NYSE:MCD). And worse, being on the bottom rung means a battle on dual fronts — value menus and higher-margin products — against other low-cost competitors like Burger King (NYSE:BKW) and Yum Brands. The company also faces smaller operators like Jack in the Box (NASDAQ:JACK) and Sonic (NASDAQ:SONC), not to mention a host of regional companies. Plus, there’s also pressure from more premium burger joints like Five Guys.
Economy: As if the U.S. economy’s recovery hadn’t been tenuous enough, the recent expiration of the payroll tax cut is going to cut even deeper into some of that eating-out money. (Though, conversely, it might push some people into the occasional Wendy’s visit vs. more expensive operators.)
Commodity Inflation: Beef and bacon prices likely will remain problematic for Wendy’s margins. Beef prices have increased roughly 9% in the past six months alone and are expected to hit record highs this year. Meanwhile, bacon prices could get 10% steeper in 2013.
Verdict
Brolick’s plan to spruce up Wendy’s image sounded good to begin with, and the results are looking just as good. Considering the time it will take to roll this out across the board, the momentum from this measure along should continue for the next couple years — and that means Wendy’s should see growth, and that’s not even factoring in any additional moves into foreign markets.
The valuation (on an EBIDTA basis) is attractive, and an ample 3%-plus dividend should help provide some support against near-term headwinds. It also helps that Peltz is highly incentivized to focus on the share price.
So should you buy Wendy’s stock? Yes — the pros outweigh the cons on the stock for now.
Tom Taulli runs the InvestorPlace blog IPO Playbook, a site dedicated to the hottest news and rumors about initial public offerings. He is also the author of “How to Create the Next Facebook” and “High-Profit IPO Strategies: Finding Breakout IPOs for Investors and Traders.” Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.
