Archived postings from April, 2010...

Moody's Likes Restaurants Now

Posted: Wed, April 21, 2010 at 2:55pm (CDT)

Moody\'s Investor Service upgraded its outlook for the restaurant industry yesterday to \"stable\" from \"negative,\" where it\'s been for nearly two years. In doing so, Moody\'s only said that conditions shouldn\'t get worse. In fact, in its announcement, the agency said that restaurant performance should vary. Companies with prices or menus that don\'t resonate well with consumers, it said, or if they have bad locations or a poor capital structure, should fare worse. Then again, isn\'t that kind-of obvious?
Moody's Release

Is There A Restaurant Bubble?

Posted: Wed, April 21, 2010 at 11:12am (CDT)

On February 18, Red Robin Gourmet Burgers issued a press release announcing its fourth quarter results, which were bad, even in a low-expectation environment like this. Revenues for the quarter were down 8.2 percent. Operating profits were down nearly 20 percent. Earnings per share were down. And same-store sales were down 10.5 percent.

Since then, Red Robin's stock has gone up 44 percent.

We're not necessarily picking on Red Robin, because it's far from alone. Investors simply love restaurants right now. They're jumping on any crumb of good news—in Red Robin's case, a plan to boost advertising—while turning a blind eye to poor sales numbers. O'Charley's, which reported a 7.3-percent decline in same-store sales in its most recent quarter, is up 73 percent this year. DineEquity is up 71 percent. Denny's is up 76 percent. Both reported declining comp sales.

Several other chains are trading near pre-recessionary levels even though few restaurants are showing real sales growth—the Barclay's Capital Restaurant Index is up 32 percent for the year, compared to 7 percent for the S&P 500. And if a restaurant is performing well and has legitimate growth prospects, its stock is in the stratosphere—as noted by Chipotle's $125 per-share price. "It seems to me that good news tends to be recognized about six months out," said John Gordon, principal at Pacific Management Consulting Group. "Bad news is recognized about three months late."

There's a lot of speculation right now that the restaurant sector is on the verge of a recovery. Employment seems to have stabilized. Consumer confidence was up in March. The National Restaurant Association's Performance Index is at its highest level in two years.

Pointing to improving numbers, analysts have been pushing more stocks and predicting a recovery. Paul Westra, analyst with Cowen & Company, is among the more bullish analysts on the industry—having recently "officially declared" the restaurant recovery to have begun in March.

Westra acknowledged that the recovery is earlier than expected, given the economic environment continues to work against restaurants. Yet, he believes that a "frugality fatigue" has set in on consumers who are simply tired of cutting costs. Indeed, a recent survey by the NPD Group found that 14 percent of consumers planned to decrease restaurant visits, down from 18 percent last June. Frugality fatigue could carry restaurant sales into the fourth quarter, when the broader economic numbers should improve enough to drive up sales.

Still, the jury remains out on whether that recovery has actually started, or whether the industry has simply bottomed out and isn't getting any worse. Only 13 of 86 publicly traded companies could boast positive comp-sales numbers, said Ron Paul, president of the restaurant-consulting firm Technomic.

"I'd say they're doing less poorly," Paul said. "I'm not ready to say they're in full recovery mode. They've got a long way to get to the growth that they showed in the past. The stock prices surely reflect that they're buying into the idea that March is a turning point." He added that just because the numbers aren't worse doesn't mean that they're better. "You can't keep decreasing at 10 to 12 percent rates," he said. "There is a floor. Things have bottomed out."

To be sure, restaurant stocks tend to be the first to improve as the economy recovers. But even some analysts who believe that the industry is recovering are leery about some of the valuations. Jeff Bernstein, analyst at Barclays, said it's "fair" to say that some stocks are inflated. "Management is going to have to scream 'things are great' to continue the rally," he said.

While Bernstein expects sales trends to improve, he doesn't expect the stock price rally to continue, as some companies may seek to bring investors' lofty expectations down a notch or two. "Some management teams are going to have to decide" whether to temper investor enthusiasm, he said. "Do they want to say, 'we're confident the trends are better,' or should they tell the truth. 'It's better, but there's still volatility, and we're not out of the woods yet.' A comment like that would ease this rally."

The rally in stocks may be helping to fuel a sudden surge in the M&A market, driven entirely by renewed interest in the restaurant industry among private equity groups that might likewise be encouraged by a belief in a coming recovery. Several restaurant chains have been sold recently or they're actively seeking buyers. And some of the prices fetched for these chains have raised eyebrows—notably the price, widely rumoured to be in excess of 10 times EBITDA—that Lee Equity Partners paid for Papa Murphy's.

Shortly afterward, Roark Capital Group paid an undisclosed sum to buy the Texas-based chain Wingstop. There's speculation the multiple paid on that deal was around 8.

Such deals could ignite even more purchases, said Craig Weichmann, managing director at Brazos River Advisors, yet sellers should temper their pricing expectations. He said the Papa Murphy's multiple was a "curve breaker" that "sends a false signal to many restaurant operators that the market is poised to go back and pay the go-go multiples. That's not what that means."

Both Papa Murphy's and Wingstop are unusual cases. Murphy's is not a traditional restaurant operator and it doesn't require a lot of capital. Wingstop, meanwhile, has had 27 straight quarters of sales growth and also has a low capital cost. Both chains have plenty of room to grow. So, while the financing markets may be improving, that doesn't mean big multiples are back. Multiples continue to be in the 4-6 range, and that will likely continue—and Weichmann noted that Lee Equity Partners was also the bidder for CKE Restaurants, for which it was only willing to pay a multiple of about six.

The run-up in the M&A market is likely to continue—California Pizza Kitchen and Hooters are both apparently looking for buyers. There is a backlog of restaurants looking for potential buyers following the two-year drought in the M&A market. Gemini Investors, an owner of Wingstop, first explored a deal in 2008 but held off until recently as multiples fell when the recession hit, said Wingstop CEO Jim Flynn. And private equity groups have a lot of cash that needs to be invested. Weichmann believes other companies could investigate the prices they could get now that the market has eased.

It remains an open question whether the run-up in stocks will continue, or for how long. It's important to note that this isn't even the first restaurant rally this recession—food stocks held a sharper rally a year ago when investors felt the economy could recover. Red Robin's stock more than doubled between March and May 09. And DineEquity? Its stock increased more than five-fold. The rally lost steam as investors saw that restaurants were not really recovering, and many stocks fell again.

"Restaurants have always been spotlighted as a group to invest in when you're in the late stages of a recession and maybe entering a recovery," Weichmann said. "Are we entering a recovery, or at the stage when we get a dead cat bounce? Time will tell."

— Jonathan Maze


...continue reading.

Roark Buys Wingstop

Posted: Mon, April 12, 2010 at 12:04pm (CDT)

Cross Wingstop off your list of candidates for the next publicly traded restaurant. The Texas-based chain was sold to Roark Capital Group for an undisclosed sum. The deal was announced this morning at Wingstop\'s annual franchisee conference in Las Vegas. GE Capital and Wells Fargo financed the deal, and discussions on a sale began four months ago, CEO Jim Flynn told the Monitor. The deal gives Roark its seventh restaurant chain and one of the fastest growing restaurant chains in the country. Wingstop has 650 restaurants in the U.S. and last year generated $300 million in system sales. \"We picked a good group of people,\" said Flynn, who will remain as CEO, along with the rest of Wingstop\'s senior management. \"They have good restaurant experience. Everything we\'ve seen and heard from them has been good.\" ...continue reading.