The Cheesecake Factory is a Delightfully Delicious Investment
Soroush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As a favorite dining spot of dessert devotees everywhere, Cheesecake Factory (NASDAQ: CAKE) has been one of the restaurant industry’s highest flyers in recent years. Since the recession, shares of CAKE have returned an average of 25.3% per year, outpacing the industry average (7.7%) and culinary competitors like Darden Restaurants (NYSE: DRI) at 22.8%, and Brinker International (NYSE: EAT) at 8.9%. This stock is a favorite of money managers Brett Barakett and Malcolm Fairbairn. Though they’re not in our Top 10 list, both managers have still amassed portfolios worth more than $1 billion. Blending the perfect mixture of casualness and class (as seen in this video), the company has established more than 150 Cheesecake Factory restaurants in the United States, each offering a range of main course options, along with more than 30 different types of desserts.
Also operating about a dozen Grand Lux Cafes, Cheesecake Factory has grown its total revenues by an annual average of 3.0% over the past three years, slightly behind the industry norm (4.5%) and DRI (3.5%), but ahead of EAT (-13.3%), Ruby Tuesday (NYSE: RT) at 2.0%, and DineEquity (NYSE: DIN) at -12.7%. More importantly, CAKE has been able to translate this revenue growth into an even stronger bottom line, as earnings have expanded by 26.0% a year over this same time. This growth is vastly superior to all of the company’s primary competitors except for Brinker International (46.2%).
Nonetheless, shares of CAKE appear quite cheap at the moment, as they are trading at a Price-to-Earnings ratio (18.4X) below the industry mark (19.8X) and historical 5-year (21.4X) and 10-year (28.1X) averages. In fact, the company’s earnings have traditionally traded at a 65% premium to those of the S&P 500 over the past decade. This year, they appear much cheaper, trading at a 24% premium. When projected growth is factored into the equation, we can see that the stock sports a PEG ratio of 0.9; any figure below 1.0 typically signals an undervaluation. Additionally, this is also below peers like EAT (1.1) and RT (1.5), and on par with DRI.
From a cash standpoint, Cheesecake factory has grown its operating (16.0%) and free (40.5%) cash flows quite well post-recession, though its current Price-to-Cash Flow ratio (10.4X) is below industry norms (13.6X). Using a measure similar to the PEG, we can also see that CAKE is trading at a PCFG ratio of 0.8, furthering the undervaluation argument.
Now, Cheesecake Factory did impress with its second quarter earnings release last month, reporting an EPS growth of 15% year-over-year. The company reached adjusted earnings of $0.51 a share, 2 cents above the Street’s average estimate. Comparable sales were up 2.1% YOY in its Cheesecake Factory restaurants, but down nearly 3% in its much smaller Grand Lux chain. By the end of 2012, analysts are predicting that CAKE will reach earnings of $1.91 a share, up 16.8% from last year. One year ahead, this estimate rises another 12.9% to $2.16 a share. This two-year estimated EPS growth (31.7%) is greater than DRI (22.9%), RT (-12.2%), and DIN (3.5%) combined.
Going forward, fairly valued shares of CAKE can eclipse $38 by Christmastime; they currently trade in the $32 range. By the end of 2013, this upside stretches to $45 and change, making a 40% appreciation in a little over a year a real possibility. WealthLift’s Sentiment Index rates Cheesecake Factory as a strong buy, with nearly all of the community’s users placing an “overperform” rating on the stock.
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Fool blogger Jake Mann doesn't own shares in any of the companies mentioned in this article.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.If you have questions about this post or the Fool’s blog network, click here for information.