Why You Should Avoid Buffalo Wild Wings

Nauman is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Buffalo Wild Wings (NASDAQ: BWLD) seems to be in a cycle where it has great numbers one quarter and then doesnt meet expectations the next. In the fourth quarter the company did well, seeing revenue grow by nearly 40%. The company also saw a near 6% increase in comparable-store sales and its earnings per share were up 22%. This gave investors hope and the stock steadily increased after these numbers were released.

Unfortunately, the results this quarter are not looking as good and Buffalo Wild Wings is once again disappointing investors. The company released first-quarter earnings report recently that showed that it has not been able to maintain consistently good numbers.

As a result, the stock dropped 5% immediately after Buffalo Wild Wings reported earnings as investors once again lost confidence in the companyI expect the situation to continue to get worse for the foreseeable future.

Investors are not happy about the oscillating financial numbers from Buffalo Wild Wings. One reason for the volatility is that Buffalo Wild Wings relies on selling chicken wings when attracting people to the restaurant. This is similar to the situation Brinker International (NYSE: EAT) was once in. Brinker is the company that owns the Chilis franchise. Chilis used to depend on selling mostly hamburgers, much like Buffalo Wild Wings now depends on selling mostly chicken wings. Thus, its interesting to compare Brinker to Buffalo Wild Wings since both companies have been in similar situations.

Another reason why the numbers are so volatile is that Buffalo Wild Wings relies on sporting events to bring in customers. One of the reasons it did so well last quarter was because NFL games were playing. This quarter, Buffalo Wild Wings was not able to benefit from NFL games, which partially accounts for the weaker numbers.

The financial problems seem to be getting worse for Buffalo Wild Wings, which reported the worst comparable-store sales since 2010. This is compared to the previous two years, when sales we up at least 5% on average per store. Now it is in the area of low single-digits.

Key competitors

Compare Buffalo Wild Wings to Panera Bread (NASDAQ: PNRA) and Chipotle (NYSE: CMG). At first, you might think that Buffalo Wild Wings is doing fine when you consider that Panera Bread was up a mere 3%, Chipotle was up 1% i.e. almost flat, and Brinkers was actually down 1% for individual store sales.

However, what concerns me is that Buffalo Wild Wings seemingly has no control over its numbers. It relies too heavily on sports to attract customers and its menu is too limited with too much focus on chicken wings. Be very cautious about purchasing a stock that is so influenced by outside factors beyond the companys control.

Panera Bread, Chipotle and Buffalo Wild Wings are all expected to increase earnings in the high-teens in the next five years. However, its actually hard to predict how well Buffalo Wild Wings will do when its numbers are so volatile. Both Panera Bread and Chipotle are much more stable and easier to predict.

There is more bad news associated with Buffalo Wild Wings. Its diluted shares are increasing, up nearly 1% from last year. On the other hand, Panera Bread, Chipotle, and Brinker are all retiring shares in an effort to help investors increase their value. Panera bought back nearly 1% of diluted shares while Chipotle retired almost 2%. Brinker purchased about 8% of diluted shares. Buffalo Wild Wings will not be able to hit earnings-per-share expectations if it continues to increase its share count.

Low margins

Unfortunately for Buffalo Wild Wings, it wont be able to retire shares until it improves its margins, which have been declining in the past year. This is yet another reason not to invest in the stock, as this signals trouble for the company. Panera and Chipotle both have operating margins in the mid-to-high teens. Brinker is sitting in the low double-digits, which is pretty standard for a chain restaurant.

By contrast, Buffalo Wild Wings' operating margin is about 8% for the first quarter. Last year, it had an operating margin of close to 12%, a much healthier number. A 50% drop like that is a clear signal of trouble for the company. Buffalo Wild Wings must take corrective actions by expanding its menu beyond chicken wings and reducing its dependence on sporting events to survive.

The low margins are having a negative effect on cash flow for Buffalo Wild Wings. A useful metric is to look at cash flow without including items like assets and other liabilities removed from the equation. If you focus solely on net income, high capital expenditures, margins and depreciation, you will see that Buffalo Wild Wings had a negative cash flow in the last three months as well as for the fiscal year 2012.  This is not a good situation. Especially when you consider that Panera, Chipotle, and Brinker all have positive cash flow.

While Panera , Chipotle, and Buffalo Wild Wings are projected to increase earnings per share in the high teens, there is clearly a better choice among the three companies. Chipotle is fairly expensive at 41 times earningsBrinker offers the best yield at about 2%. Its expected growth is not bad either at 15%. On the other hand, with a forward price-to-earnings ratio of about 20, Panera sells for a price similar to Buffalo Wild Wings but is more consistent. I would say that Panera is a much better investment than Chipotle and Buffalo Wild Wings.

The bottom line

Based on aforementioned reasons, I would recommend staying away from Buffalo Wild Wings (as an investment). Until the company moves to expand its menu and decrease dependence on sporting events, the situation will continue to be too volatile. There are much better choices among the competition. The competition has better numbers and more stability overall.

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Nauman Aly has no position in any stocks mentioned. The Motley Fool recommends Buffalo Wild Wings, Chipotle Mexican Grill, and Panera Bread. The Motley Fool owns shares of Buffalo Wild Wings, Chipotle Mexican Grill, and Panera Bread. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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