Could this Restaurant Serve Up Profits?
Gayatri is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
While dealing with restaurant chains, it is easy to lose track of what’s really happening. There are many different measures to consider, however same store sales growth is the most important measurement in the retail analysis as it a good measure of the effectiveness of the retailer’s concept and signals that the retailer is gaining consumer traction. Chipotle Mexican Grill is the most recent example depicting the impact same store sales growth has on a company’s valuation (and thus the stock price). In its recent quarter, Chipotle reported better than expected EPS growth (~11% above the consensus estimates), still its stock price dropped 21% in a single day following the announcement as the company failed to match the consensus estimates for same store sales growth (SSS grew 8% as compared to consensus estimates of 9.4%). Let’s analyze the valuation of restaurant chains including McDonald’s Corp. (NYSE: MCD), Starbucks Corporation (NASDAQ: SBUX), Panera Bread Co. (NASDAQ: PNRA) and Chipotle Mexican Grill.
Here, I have performed a simple linear regression to analyze the dependence of a company’s valuation (Forward P/E) on its recent quarter’s reported SSS growth. We can see that a company’s valuation is correlated to the SSS growth to a good extent. Based on this straight line fit, McDonald’s looks fairly valued, and Starbucks and Chipotle look slightly overvalued. However, Panera Bread is one company that shows a considerable deviation from the straight and seems significantly undervalued at the current levels. The straight line fit suggests that the company should be trading at a forward P/E of 25.45 as compared to its current forward P/E of 21.93, which implies at a discount of ~14%. I think Panera Bread deserves a higher multiple as it is one of the fastest-growing chains in the restaurant sector with ample runway for additional expansion and provides stability even in case of an economic slowdown.
Multiple Growth Opportunities
In its Q2 earnings call, the management indicated that sales momentum has been carried forward into July and upgraded its FY12 guidance of company-owned SSS growth from 4.5%-5.5% to 5.5%-6.5%. We are encouraged by the upgraded guidance but looking at the management’s track record of consistently providing conservative guidance, we believe there is an upside to this estimate. Increased marketing, loyalty program and drive-thru expansion offer multiple growth opportunities. The management looks focused to ramp-up marketing in order to increase brand awareness and the marketing spending will increase of 27% this year. Another driver of sales and long-term brand strength is the loyalty program. Introduced in late 2010, the MyPanera program now has over 11 million members, allowing the company to track purchasing information in order to provide customized offerings to loyal customers. The company is also rapidly expanding drive-thru’s which is a good method to increase frequency of visits, and target customers (like families) looking for healthier food options without having to get out of the car.
Recession Proof Characteristics
Panera has a significantly lower average check ($9.25) as compared to other mid-scale casual dining chains which helped the company to post good results even during the recession period of 2008-2009 as the customers traded down to more affordable restaurants. Thus, I believe the company is a good defensive option and will continue to gain customers from mid-scale casual dining chains even in a slowdown scenario.
To conclude, the relationship between SSS growth and valuation suggests that Panera is undervalued. The company has multiple growth opportunities to drive consistent SSS growth in the near-term as well as long-term. Despite trading at a healthy multiple (forward P/E= 21.93), I see a little downside risk as a low average check provides a much needed stability to the stock. I recommend buying it.
GayatriSharma has no positions in the stocks mentioned above. The Motley Fool owns shares of McDonald's, Panera Bread, and Starbucks and is short Starbucks. Motley Fool newsletter services recommend McDonald's, Panera Bread, and Starbucks. 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.If you have questions about this post or the Fool’s blog network, click here for information.