Has Buffalo Wild Wings Lost its Kick?

Leo 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), which has surged 567% over the past decade, has been a tremendous growth story. Its simple business model -- serving chicken wings in a casual sports bar environment -- has made it one of the fastest growing restaurant chains in the United States. However, mixed fourth-quarter earnings now cast doubt on the company’s ability to continue growing in 2013. Let's examine the key factors at play.

A fiery fourth quarter

Minneapolis-based Buffalo Wild Wings posted earnings of 89 cents per share, or $16.7 million, on revenue of $303.8 million. From the prior year quarter, its bottom line rose 22%, and its revenue surged 38%. This top line growth pushed its annual revenue over $1 billion for the first time in its history. It used its strong revenue growth to expand, adding 62 new locations during the quarter.

While its revenue exceeded the Thomson Reuters’ estimate of $292.4 million, earnings came up short and missed the forecast for 96 cents. Normally, this minor miss would be forgiven by investors, if not for two major problems -- rising costs and contracting margins.

Costs and margins

One key event caused Buffalo Wild Wings to miss earnings estimates. During the fourth quarter, the price of wholesale chicken wings rose to $2.07 per pound, up 45.8% from $1.42 per pound a year earlier. This was attributed to producers breeding larger chickens for more meat, which has limited the amount of available single wings.

This is especially dangerous since Buffalo Wild Wings’ profit margin is already at a slim 5.67%. Even worse, its operating margin has plunged 10.36% over the past 12 months. Therefore, the company has no choice but to raise prices to preserve its margins. In the past three months, the company raised prices by over 4%, passing the costs onto customers.

So far, this strategy hasn’t caused a slowdown in sales volume, which means the company still holds pricing power. However, if chicken wing prices increase even more, further price hikes could be poorly received and cause a slowdown in store traffic.

Same-store sales are still spicy ... or are they?

Buffalo Wild Wings’ fourth quarter same-store sales numbers were also strong, with restaurant-owned locations posting a gain of 5.8%, while franchised locations gained 7.4%.

While those numbers are strong, Buffalo Wild Wings confused analysts with two sets of numbers for its same-store sales for the first six weeks of fiscal 2013, providing investors with a murky picture for its growth so far this year.

Its initial 2013 numbers were extremely disappointing, with restaurant-owned locations posting a decline of 2.8% while franchise-owned ones slid 1.7%.

But the company also offered revised estimates, which extended the period by an additional week, since the previous fiscal year included an extra 53rd week that caused a rare overlap. That additional week, which included several major college football championships and the Super Bowl, was extremely important, since Buffalo Wild Wings’ restaurants are promoted as sports bar restaurants.

Including that additional week, same-stores sales at restaurant-owned locations and franchise-owned ones rose 2.6% and 1.6%, respectively -- positive growth that is still far below its fourth quarter numbers.

Versus Competitors

Let’s study how those new numbers measure up to Chipotle (NYSE: CMG) and Panera Bread (NASDAQ: PNRA), which are also considered younger, high-growth fast food restaurants.

<table> <tbody> <tr> <td>Panera Bread</td> <td>+5.1%</td> </tr> <tr> <td>Chipotle</td> <td>+3.8%</td> </tr> <tr> <td>Buffalo Wild Wings (Restaurant)</td> <td>+5.8%</td> </tr> <tr> <td>Buffalo Wild Wings (Franchise)</td> <td>+7.4%</td> </tr> </tbody> </table>

Source: 4Q Annual Reports

Buffalo Wild Wings is still the undisputed growth leader. However, no one is doubting the company’s ability to grow sales. Instead, people are doubting its ability to raise prices to offset rising costs.

The Foolish fundamentals

Like Buffalo Wild Wings, Chipotle and Panera Bread are geared towards customers who frequent non-hamburger and fried chicken establishments. They have experienced tremendous growth over the past five years as customers seek out alternatives to McDonald’s (NYSE: MCD) or Yum Brands restaurants (Pizza Hut, Taco Bell, KFC).

Let’s compare Buffalo Wild Wings’ revenue growth to Chipotle and Panera, as well as fast food bellwether McDonald’s.

<img src="http://media.ycharts.com/charts/c388792904de05df227fa53fab30513e.png" />

BWLD Revenue TTM data by YCharts

For top line growth, Buffalo Wild Wings simply has no equal -- a true testament to its popularity. However, people are more concerned regarding its bottom line, which is another story altogether.

<img src="http://media.ycharts.com/charts/8060bd93f0e1d002c1902778f4b2f6f3.png" />

BWLD EPS Diluted TTM data by YCharts

Despite posting the highest revenue growth among its industry peers, Buffalo Wild Wings only manages to grow earnings per share slightly faster than McDonald’s, a much more mature company. While this may signal slower bottom line growth down the road, Buffalo Wild Wings is still financially fit, with no long-term debt. It has increased its cash and equivalents by 106.7% over the past five years, and finished the fourth quarter with $83.3 million in the bank.

The Bottom Line

Buffalo Wild Wings’ business model is extremely easy to understand -- it buys chicken wings at wholesale and sells them again, and it attracts returning customers with its friendly sports motif restaurants. It uses its rapid revenue growth to expand quickly and drive even more sales growth.

However, the company’s singular exposure to the cost of chicken wings could prove to be its downfall. The company’s short-term plan to raise costs will only let it tread water for a few more quarters. If costs continue soaring, then Buffalo Wild Wings will be forced to diversify into other food products and beverages -- which may alter the company’s business model drastically and result in lower sales volume. 

In 2013, Buffalo Wild Wings’ management must carefully control costs and pricing to convince investors that it can stay profitable with stable margins while steadily growing revenue.

Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Buffalo Wild Wings, Chipotle Mexican Grill, McDonald's, and Panera Bread. The Motley Fool owns shares of Buffalo Wild Wings, Chipotle Mexican Grill, McDonald's, 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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