Does Jack Know Qdoba?

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Recently Jack in the Box  (NASDAQ: JACK) disclosed that it would close 67 Qdoba stores for a cost of $40 million in impairment and severance charges. With a turnaround at the Jack in the Box concept, one has to wonder if management knows how to operate Qdoba.

The company operates and franchises Jack In the Box restaurants with more than 2,250 restaurants in 21 states. Additionally, the company operates and franchises Qdoba Mexican Grill with more than 640 restaurants in 44 states and Canada.

While the plan is to close the underperforming stores probably in regions with limited stores to improve profits, the company is taking substantial charges to close these stores. Especially considering the intent to continue opening new stores at a rate of roughly 10% per year.

Qdoba over stretched

The one point that really sticks out with Qdoba is that it only had 647 stores as of the end of April, but it was already in 44 states and Canada. That amounts to about 15 stores per state compared to nearly 100 Jack in the Box restaurants per state. If anything the company needed to do some infilling to support the stores in regions without brand recognition, but instead it had made the draconian decision to close the underperforming stores while opening new ones in different locations.

The company provided the following expected performance improvements at the Jefferies conference last week:

  • Improve Qdoba AUV’s by approximately 10%
  • Improve Qdoba ROM by approximately 500 basis points
  • Improve EBITDA by approximately $4.5 million
  • Improve operating earnings by approximately $7.0 million

Beating Earnings Yet Again

The stock is holding strong as the news of the Qdoba closing helps push up analyst earnings estimates for future quarters and especially next year. The company as well beat earnings estimates for Q2 2013 though the $0.02 beat was the smallest in over a year. In addition, that small beat suggests the current estimates for fiscal years 2013 and 2014 might be more inline with reality now. See table below:

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* Data provided by Yahoo! Finance.

Conversely, competitors in both the hamburger and Mexican chain markets spent the majority of the last year struggling to meet estimates. Both Chipotle Mexican Grill, Inc (NYSE: CMG) on the Mexican side and McDonalds (NYSE: MCD) and Wendy’s Company (NASDAQ: WEN) on the hamburger side missed earnings estimates at least twice during the last five quarters.

More interesting is that Jack in the Box trades at a similar if not cheaper valuation to all these stocks. Jack only trades at 18 times forward earnings while Chipotle tops the group at 28 times forward estimates. Even Wendy’s has a high 25 times forward estimates multiple while meg-cap McDonald’s with a market cap approaching $100 billion has an earnings multiple of nearly 16 times.

Growth Plans

Even with the plans to shutter so many Qdoba stores, the company is moving forward with growth opportunities in other locations. Qdoba plans to expand by 70 to 75 new locations in fiscal 2013. In 2014, the goal is to open another 60 to 70 new restaurants placing the total at September 2014 larger than the current balance of stores prior to the closures.

The company is complex to value considering the combination of a fast food hamburger chain and a fast-casual Mexican chain. Several analysts see the clean up of Qdoba as leading to the possibility of selling the division to eliminate some of the valuation issues that lead to the smaller multiples.

The previously mentioned chains easily swamp the comparative store count of the individual concepts. As an example, Chipotle operates nearly 1,500 restaurants and Wendy’s has over 6,500 stores in the US and 27 foreign countries. If the company were to only match the combination of Chipotle and Wendy’s, the over 8,000 stores would provide for nearly 200% gain in the store base alone.

Naturally no comparison exists between Jack in the Box and McDonalds that has over 34,000 locations around the world.

If the company were to only match the combination of Chipotle and Wendy’s, the over 8,000 stores would provide for nearly 200% gain in the store base alone.

Stock Chart

Investors have taken notice over the last year as the stock as easily outperformed this group. As the below chart highlights, the nearly 45% gain by Jack in the Box compares to on average a small net gain for the group:

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Bottom line

The Qdoba closure news should leave investors questioning whether the company knows what its doing with that chain. Still, the company expects to increase operating earnings by $7 million or $0.15 based on 45 million shares outstanding. Ultimately if the company can show that the new and remaining Qdoba stores are able to generate strong margins, the long-term growth potential should continue pushing the stock higher as the chains have significant growth opportunities ahead.

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Mark Holder and Stone Fox Capital Advisors, LLC have no positions in any stocks mentioned. The Motley Fool recommends Chipotle Mexican Grill and McDonald's. The Motley Fool owns shares of Chipotle Mexican Grill and McDonald's. 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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