There's Usually Something for Everyone in Restaurant Stocks

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

The restaurant sector is fascinating to follow. There are usually plenty of interesting stories and even an occasional bargain stock to be found. Plus, the basics of the industry are fairly simple to understand; offer a good product, at a fair price, in an attractive setting with acceptable service. But as simple as it sounds, success in the sector never ends up being that easy. Here are three restaurant stocks I follow that could be of interest to differing types of investors:

This industry giant produces steady income

Darden Restaurants (NYSE: DRI), the world's largest full-service restaurant company, owns and operates more than 2,100 locations. Its stock has fluctuated between $41 and $57 over the last couple of years, mainly due to an alternating pattern of disappointing results followed by surpassed expectations. But as variable as the stock has been, the company has consistently delivered free cash flow and paid a substantial dividend.

In its most recent quarter, Darden didn’t seem to impress. Earnings from continuing operations came in at $133.3 million versus $151.6 million the prior year, though sales were up 11.3% to $2.30 billion, thanks to decent same-restaurant sales growth of around 2.2% and over 140 net new sites.

To maintain sales momentum, Darden is focusing on boosting traffic through more affordable pricing. It wants to match competitive promotions while maintaining low menu prices. To help offset the resulting pressure on profits, the company is looking to expand. One area targeted for growth is Latin America. Darden recently announced deals with two renowned restaurant operators to establish a presence in six Latin American countries. This comes on top of a February agreement to enter four other countries in the region and previous deals for expansion in Puerto Rico and Mexico.

Darden’s stock currently looks reasonably priced. Using a cash earnings times a capitalization multiplier valuation, the company’s fair business value looks around $49 a share based on an industry average multiple of 12 times, with estimated sales of $9.14 billion and $526 million in cash earnings at a 5.8% profit margin.

This eatery has cooked up plenty of momentum

Cracker Barrel Old Country Store (NASDAQ: CBRL) operates 622 company-owned sites in 42 states. Each location holds a restaurant and store where guests can enjoy home-style food and shopping that’s reminiscent of America’s country heritage.

The company's shares have certainly been on a roll, more than doubling over the last couple of years. Cracker Barrel first drew my attention in the fall of 2011 when it implemented a shareholder rights plan, or poison pill, to dissuade activist investor Sardar Biglari. Earlier, Biglari had announced a 9% stake in the company and quickly gained antitrust approval to acquire up to 49.99%. Though he has always maintained that his buys were for "investment purposes only," he has upped his stake to 19.99% and has been a thorn in the company’s side by continually trying to get board representation.

Whether it was due to pressure applied by Biglari or just coincidence, Cracker Barrel management has certainly increased its focus on improving results. In its latest earnings report, comparable store restaurant sales increased a fine 3.1% and comparable store retail sales increased a hefty 5.5%. The sixth consecutive quarter of positive comparable restaurant and retail sales. Profitability also improved with operating income margin moving up to 6.9% of sales, versus 6.4% in the prior year. Earnings came in at $1.02 a share, a 26% jump compared to a year earlier.

It looks like Cracker Barrel’s current stock price may have already discounted these and future gains, however. Based on expected revenue of $2.64 billion and $133 million in earnings at a 5% profit margin, fair value looks around $78 a share using an optimistic multiple of 14 times.

This restaurant's turnaround recipe could produce a tasty gain

Ruby Tuesday (NYSE: RT), which operates 783 company-owned or franchised Ruby Tuesday brand restaurants and 24 Lime Fresh brand locations, has pretty much disappointed Wall Street since 2010 when the stock traded as high as $14 and the company’s recent earnings report didn’t seem to improve Street confidence.

Results for the most recent quarter included same-restaurant sales decreasing 3.1% at company-owned sites and falling 5.1% at domestic franchise spots. Adjusted net income from continuing operations was a weak $7 million, compared to the prior-year’s figure of $12.1 million. For the full 2013 fiscal year, Ruby Tuesday’s same-restaurant sales decreased 1% at company-owned locations and dropped 2.1% at franchise restaurants. Adjusted income fell to $13.9 million compared to $29.3 million in fiscal 2012.

As bad as the results look, there are signs that the company may be able to turn things around. First, a new CEO was appointed. JJ Buettgen, formerly Chief Marketing Officer of Darden Restaurants, came on board in December 2012 and seems to be putting together a highly experienced management team that he is familiar with. Just about all of the recently added top executives looked to have had connections with Darden.

Mr. Buettgen also seems to be putting a good strategy into place. He aims to drive traffic by focusing on innovative foods that are attractively priced in conjunction with a compelling advertising campaign. He also seems committed to maintaining a strong balance sheet, prudently allocating capital, and utilizing excess cash for debt reductions and opportunistic share repurchases.

Ruby Tuesday's stock may show noticeable upside if these steps can deliver any improvement. Reasonable business value looks to be around $10 a share based on a typical industry multiple of 12 times with sales of $1.23 billion and $48 million in earnings at a 3.9% profit margin.

Conclusion

The restaurant sector is worth watching. One can usually find plenty of interesting stories and maybe an occasional good value. From steady dividend-payers like Darden to smaller turnarounds like Ruby Tuesday, restaurant stocks can often offer something for any type of investor.

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Bob Chandler has no position in any stocks mentioned. The Motley Fool recommends Cracker Barrel Old Country Store. The Motley Fool owns shares of Darden Restaurants. 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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