Franchised restaurants have something many other businesses do not. They have the ability to expand rapidly while collecting recurring franchise fees. This allows them to conserve capital in what is normally a capital-intensive business. Franchisors reduce risk by deploying less capital into fixed assets and focusing more on strategy, namely where and how to expand.
That being said, most franchisors choose to keep a portion of stores company-run. With company-run restaurants, more profits accrue to the company versus just a percentage of sales and fees with franchised restaurants.
Models that include a mix or heavily skew toward franchised restaurants are both proven to work well.
What’s of utmost importance is the strength of the brand. And we’ve got eight franchisor picks with durable brands that are expanding their global reach rapidly.
Food Franchises to Buy: USCF Restaurant Leaders Fund (MENU)
USCF Restaurant Leaders Fund (NYSEARCA:MENU) contains most of the food franchise stocks mentioned in this article. MENU is a relatively recent exchange-traded fund. Its goal is to offer exposure to fast-food, fast-casual and even fine-dining restaurants.
Its only restriction is that it only invests in stocks with a market capitalization of at least $200 million.
MENU’s portfolio distribution gives equal exposure to each of its holdings through an equal-weighting methodology. Its top holdings include Restaurant Brands International Inc (NYSE:QSR), McDonald’s Corporation (NYSE:MCD) and Yum China Holdings Inc (NYSE:YUMC).
Other ETFs that offer exposure broader exposure to food include the PowerShares Dynamic Food & Beverage(ETF) (NYSEARCA:PBJ), which holds distributors and other restaurant-adjacent companies such as Sysco Corporation (NYSE:SYY), as well as MCD and The Coca-Cola Company (NYSE:KO).
Food Franchises to Buy: Starbucks (SBUX)
China has been a puzzle for many multinational companies that struggle to adapt their products and message to an altogether different consumer than they are accustomed to. For those that can get it right though, the future payoffs from a rapidly growing consumer wallet are immense. Starbucks Corporation (NASDAQ:SBUX) is one of the companies that has met success in China and farther afoot.
SBUX now has 26,736 retail stores in 75 countries and continues to deliver on its expansion strategy. China has been driving comparable store sales with higher growth rates, but the Company’s home market is also performing well. In the third quarter, China comp store sales increased 7% (driven by an increase in transactions) and the Americas showed a comp store sales increase of 5% (driven by an increase in average check). Globally SBUX opened 575 stores this past quarter alone, so all around, cylinders are firing.
To circle back to China, which Starbucks expects to become its largest market, I would highlight the strategic moves that SBUX continues to make. In July it acquired the remaining 50% of its East China Joint Venture from its long-term partners.
Consolidation and full control results, meaning Starbucks will assume 100% ownership of 1,300 Starbucks stores in the greater Shanghai area. Such a bold move demonstrates management’s confidence in the region.
Food Franchises to Buy: Arcos Dorados (ARCO)
Arcos Dorados Holding Inc (NYSE:ARCO) is the master franchisee for the McDonald’s brand across Latin American and South America. It’s been a shaky macro situation in certain key countries like Argentina and Brazil, but for investors familiar with the region, tales of corruption and big currency devaluations should not come as a surprise.
And for ARCO, a company that reports earnings in US Dollars, it has been a perfect storm. In the face of this conflation of negative news, investors have flown the coup, though importantly not management, who has continued to invest in reimaging existing stores and building out new ones.
What hasn’t changed is the fundamentals for the region’s macro story—increasing purchasing power and one-third of the 641m people in its territories in the middle class and growing or the buildout of the brand. In the face of a tough few years, management continued to open stores, over 300 since the IPO in 2011, and sustain systemwide constant currency sales growth.
Granted growth has been more tempered than initially projected, and relatedly management eliminated the dividend at the end of 2014. But if anything, the brand and business have strengthened and investors would be wise to stick by the operators.
Food Franchises to Buy: Dunkin Brands (DNKN)
Dunkin Brands Group Inc (NASDAQ:DNKN) has had a very choppy year, now having all but erased gains from the first half of the year. But DNKN isn’t slowing down on strategic store openings and striking new franchisee relationships to expand, regardless of what its stock price is doing.
Dunkin’s business model is unique in that it is 100% franchised, meaning no company-owned stores. This makes the Company asset light and flexible, allowing them to spend their time thinking big picture about a vision for the Company and how best to support their partners/franchisees who put up the capital to build their stores. And there continues to be interest in partnering with Dunkin. Numerous multi-stores deals have been struck in the last few months from Georgia to Kansas to Florida.
And the brand has plenty of room to grow. For one, DNKN is predominately an eastern and partially Midwestern phenomenon. There’s very little exposure to the western region of the U.S.—just 471 stores compared the broader New England area with 4,171 stores.
So, Dunkin can continue to fill in the established markets on a select basis while expanding to new territory. All the while, investors are paid a 2.4% yield while management executes.
Food Franchises to Buy: Domino’s Pizza (DPZ)
Domino’s Pizza, Inc. (NYSE:DPZ) had the foresight to invest in digital. The brand is stronger than ever and thanks to the tech investments, associated with being a leader in that regard. Their strength in digital delivery and mobile tracking has given them significant momentum—share prices as well (stock is up 24% YTD).
To the extent that DPZ continues to show volume growth and channel improvements, those gains should increase.
Same store growth figures look excellent both domestically and globally. Over the past couple years in the U.S. DPZ has delivered 12% and 10.5% in 2015 and 2016, respectively in the U.S. Abroad, that’s been 7.8% and 6.3%. Internationally, the record is impressive with 23 consecutive years of positive sales. And that trend shows no sign of reversing.
Domestically, DPZ estimates it has only 15% of the Total QSR Pizza Market Share, with other major chains accounting for 32% and independents with the majority of the pie. This presents a very healthy runway for DPZ to leverage its tech edge and expand via franchising further.
DPZ has reinvented the delivery pizza experience, and as this translates to growth and profits, shareholders will be richly rewarded.
Food Franchises to Buy: Yum! Brands (YUM)
Yum! Brands, Inc. (NYSE:YUM) has delivered some top-notch performance lately. Their global expansion game is on point. This past quarter, core operating profit grew 19% and EPS (excluding special items) was up 21%. Worldwide system sales grew 6% led by Taco Bell and KFC. Pizza Hut showed positive sales growth low in the low single digits. Unit growth steadily continues.
While second quarter performance was positive overall, it marked a slight deceleration especially in Taco Bell’s same-store sales (down from 8%) so something to keep an eye on as the year progresses. I don’t think they’ll lose much momentum, if anything, they should be gaining it, but we’ll have to wait for the numbers to verify.
In the meantime, capital returns and a focus on increasing franchised restaurants should drive share price appreciation. The stock repurchase program still has $1.1 billion authorized for further share repurchase through year end 2017.
Food Franchises to Buy: Restaurant Brands International (QSR)
Donuts, burgers, and fried chicken. Some would say they are a trifecta of the ultimate comfort foods, and it so happens they make for good business. Restaurant Brands International manages the Tim Hortons, Burger King, and Popeyes brands globally, making it a powerhouse in the QSR industry with more than $28 billion in sales and 23,000 restaurants.
QSR is not one to rest on its laurels though. They continue to be focused on growing their three core brands. Just last month, it was announced that QSR would entered into a joint venture to grow Tim Hortons in Spain. With such a big footprint already, QSR has incredibly strong relationships in all 100 countries it operates in, which it can leverage as it relentlessly pursues expansion.
Burger King has prevents to be the strongest performer in terms of systemwide sales growth and comp sales growth (10.6% and 3.9%) and over 16,000 restaurants.
I’d expect BK to continue to be that growth leader, though there are certainly opportunities to ignite growth beyond low single digits, especially with Tim Hortons, that would make a bigger contribution to the overall portfolio.
Food Franchises to Buy: Jack in the Box (JACK)
At current valuations, Jack in the Box Inc. (NASDAQ:JACK) looks as enticing as its signature Jumbo Jack. But admittedly, there is a turnaround story in this so for those wanting to make a quick buck, JACK isn’t for them.
Trading at half the P/E of competitors though, JACK’s current share price adequately accounts for a less frothy 2017 though as results of restructurings flow through in the coming quarters, that could be a catalyst to drive shares back to where they started in the beginning of the year. The Jack in the Box refranchising initiative is well underway. All the restructuring charges make the financials look a bit hairy, but ultimately, this is move to cull the portfolio and improve shareholder value.
The Company also owns the flailing Qdoba brand though during the third quarter, same-store sales for both brands showed sequential improvements. Changes to the menu including the launch of fire-roasted shrimp were instrumental in turning same-store sales positive and elicited favorable customer responses. Qboda margins improved sequentially to over 16 percent in the quarter as we were able to manage labor costs more effectively.
New openings—20 to 25 new Jack in the Box restaurants and 45 new Qdoba restaurants — show that footprint growth continues even amidst the restructuring. Positive changes are underway.
As of this writing, Luce Emerson did not hold a position in any of the aforementioned securities.
