In a previous article I discussed companies that have long been at proverbial war with each other in the manufactured drink market. I would like to continue that line of articles by talking about restaurants that constantly battle each other for market share. In the below article I have broken restaurants out into three subgroups. The first group, fast food chain restaurants, is convenient restaurants that are built with drive-through convenience. The second group, faster food restaurants, is designed for people who want better lunch options but don't want to wait to be served. This group often includes your internet cafe style restaurants. The third group, casual dining restaurants, is restaurants where you sit and wait to be served. I have only included the most notable competitors for each group.
- Fast Food Combatants
In the current American society where everyone is on the move, fast food restaurants cater to consumers who just wants something to eat fast that won't slow down their day. There are many companies of note in this sector. Below is the breakdown of three such companies.
McDonald's Corp (MCD)
MCD is the standard bearer for fast food restaurants. Its profit margins and its ability to innovate and re-invent are unmatched by any competitors. Its finances over the last four years tell us everything we need to know.
MCD has seen significant revenue growth of over 20% for the last four years. This is quite a feat considering the economic landscape of its largest market the United States. MCD has benefited from consumers trading down. They have found value in MCD's food offerings and MCD continues to demonstrate the ability to squeeze every ounce of profit from its business model. This is exemplified in its consistent 20% profit margin. MCD has also continued to reduce the number of its outstanding shares as a way to continue to support its stock price valuations. MCD also pays out a very impressive 3% dividend, which rewards its buy and hold investors. This consistent value of buy and hold investors is also one of the primary reasons that MCD sports a beta of 0.34. Not only does MCD reward its investors with cash and growth but it also rewards them with stability even in the face of volatile markets. I currently rate MCD as a buy.
Yum Brands Inc (YUM)
YUM has made a very concerted effort over the last two years to carve away at MCD's market share. YUM has proven itself a worth contender and has placed renewed emphasis on innovating new product offerings. Let us take a look at its finances over the last four years.
YUM has actually outpaced MCD's revenue growth over the last four years. YUM has grown revenues by 25% since 2009. YUM has not only seen impressive revenue growth but it has continued to optimize profit within its existing business. As you can see the profit margins for YUM Brands increased from 9.8% in 2009 to 11.7% in 2012. This is an optimization increase of almost 20%. When you combine these two factors, growing revenues and increased optimization, YUM is proving that growth is possible even with the currently sluggish world economy. YUM's EPS has increase by 52% over the last four years; this equates to an average annual profit increase of 13%. YUM also sports a rather nice dividend yield of 2%, which ensures that investors see in cash the increased profitability of this company. Although YUM does trail MCD in many performance metrics it is seeking to expand its market as evidenced by the joint venture with PepsiCo to create and distribute the Doritos Locos Tacos. Not only is YUM innovating new product offerings but its continued focus on increased efficiency will ensure that investors gain every penny of possible profitability. I currently rate YUM as a buy.
Wendy's Co (WEN)
WEN is a perfect example of a company that has really suffered through the great recession. It trails significantly both YUM and MCD in performance metrics and is currently struggling to find its place in this market. I have included WEN in this list not for current performance but for future rebound considerations.
WEN has clearly struggled with profitability over the last couple years. WEN's profit margins and slim revenues are falling and net income is sporadic. WEN also currently sports outstanding debt equal to 73% of its market cap. Based on these numbers you may wonder why I have even bothered to discuss this company as a contender. WEN has made a concerted effort to expand its product offerings lately and is seeking to expand its brand into Ecuador with the help of another investment group. Latin American economies are some of the fastest growing economies in the western hemisphere; and should WEN succeed in Ecuador it may view Latin expansion as the path to future growth. WEN is not a buy as of today but listen very closely to how the Ecuador expansion goes because that may give you a future clue as to whether or not WEN can provide future growth potential. I currently rate WEN as a wait and see investment.
- Faster Food Combatants
The current generation of American workers has undergone a demand shift in the last couple of years. The rising costs of healthcare has brought with a wealth of people that have started to demand better and healthier lunch alternatives. Below are a few companies that have stepped up to meet this new market demand.
Chipotle Mexican Grill Inc (CMG)
CMG is a company that has been extremely popular with investors looking for the next big thing. It is trendy, it is organic, and it continues to grow at breakneck speed and its following is very loyal. I will be honest with you I generally visit CMG at least twice a week. The food is very good and when you consider the quality of the food you are receiving compared with other chains the prices don't look that bad. Let us look at what kind of a market it has been able to create for itself.
CMG has been able to grow revenue by an impressive 80% over the last four years. The revenue growth is impressive but when you also consider the increasing profit margin CMG become much more attractive. Organic produce is a hard commodity to rely on because the demand for it has only started to increase within the last couple years. The supply side is still working to ramp up production to meet demand. This is one of the most impressive qualities of CMG; it has been able to build a reliable supply chain of products that until recently did not have high demand. Not only has CMG been able to build this supply chain but it has been able to increase its margins as supply has started to increase. CMG is perfect example of a forward thinking company that will not sacrifice principal just to make a dollar. CMG would rather make forward looking investments whose gain will be reaped at a later time. CMG's committed management and sheer performance has me rating CMG a buy.
Starbucks Corp (SBUX)
SBUX has been included in this list because there is a very large segment of the American population that chose to live on fancy coffee and muffins for lunch. Personally I need something a little more substantial but this market segment is enough that SBUX has recently even started to increase its lunch time offerings of prepared sandwiches. SBUX was hit pretty hard during the great recession because people found it easy to go without their $4 coffee and instead chose to make it at home. The SBUX customer base has slowly started to return over time.
SBUX has increase its revenue stream by 35% over the last four years and has placed a renewed focus on increasing profit margins. Although I would like to see some slightly higher profit margins for a company that serves high-end products, we can see even SBUX's pricing power has been affected by the sluggish economy. SBUX has some questions surrounding its performance potential and until we know with more certainty that its customer base has returned to stay we must view SBUX as a wait and see investment.
Panera Bread Co (PNRA)
PNRA originally started out as the St Louis Bread Company as I found out on one of my business trips to St Louis. PNRA has seen impressive growth over its time as a publicly owned company. PNRA along with CMG cater perfectly to the current generation of workers who in recent years have been looking for healthier alternatives to the standard fast food takeout chains.
Revenue has increase by 57% over the last four years and much like CMG, PNRA is seeing its profit margins continue to increase as supply chain improvements are made and long-term supplier contracts continue to increase in scale. This larger supply contracts give PNRA the ability to buy the same supplies in larger quantities, something that suppliers really appreciate. Increasing profit margins and the current revenue growth rate has me rating this stock a buy.
- Casual Dining Combatants
We have seen decreased demand for casual dining restaurants due to the American consumer trading down in this current economic environment. There are still some notable companies in this sector that have found a way to remain profitable even with some very strong economical headwinds.
Darden Restaurants Inc (DRI)
DRI has done a nice job of continuing to expand its product offering with acquisitions. DRI acquired Yard House for $585 million dollars and also Eddie V's Prime Seafood in 2012. Both of these acquisitions have helped to bolster DRI's specialty restaurant group, which is the faster growing division of DRI. The DRI brand offers more diverse restaurants than most other casual dining companies with currently eight different restaurants represented.
Red Lobster, Olive Garden and Longhorn Steakhouse have seen stagnant customer traffic over the last year, which has slowed DRI's revenue growth rate. DRI's specialty restaurant group has stepped in to fill the gap that both core chains have left. DRI's specialty restaurant group saw a sales increase of 2.3% while the three previously mentioned restaurants saw a 4.6% decline in sales. Of all the casual dining restaurants DRI is the only one that appears to be able to weather fluctuations in customer traffic while still increasing return to its investors. DRI also sports a very nice 4% dividend yield that represent on 50% of its annual earnings per share. I currently rate DRI as a hold that should be bought on dips.
DineEquity Inc (DIN)
DIN owns and operates both IHOP and Applebees restaurants. IHOP acquired the struggling Applebees restaurant chain in 2007 in an all cash transaction. DIN has spent the last five years re-franchising almost all of the Applebee's restaurant chain and using the proceeds to reduce overall debt. This re-franchise action is evidenced below by the falling revenue numbers.
Although the re-franchising action has reduced total revenue intake by selling company ownership of restaurants to independent franchise owners, it has allowed DIN to significantly reduce its outstanding debt. In 2012 alone DIN reduced outstanding debt by $332 million dollars. By selling franchise rights to independent owners, DIN has reduced its overall revenue share but has transferred local market risk to the franchise owners. While I normally do not support company efforts to reduce revenue, I understand the purpose behind DIN's strategy and in this case am fully supportive of the re-franchising effort. DIN also sports a very nice dividend yield of 4.4%. The above information leads me to rate DIN as a hold investment that would be bought on market dips.
Brinker International Inc (EAT)
EAT owns both Chilli's Bar and Grill and Maggiano's Little Italy restaurants. Eat just like all the other restaurants mentioned in this article saw its revenue take a hit due to the global recession evidenced by the drop in revenue in 2010 comparable to 2009.
Since 2010 EAT has stabilized its revenue stream and has taken the opportunity to repurchase outstanding shares by some 20% over the last three years. EAT has increased net income by 50% since 2010, which has in turn increased its profit margins. Since 2009 EAT has more than doubled its profit margins from 2.1% to 5.3%. Eat also pays a dividend that currently yields 2% and represents only 40% payout ratio of company earnings as of the latest quarter. Based on its current fundamentals, I rate EAT a buy.
The restaurant segment has experienced many speed bumps over the last couple of years. Some have been able to navigate them more smoothly than others. There are also many more potential speed bumps - one of them specifically is Obama-care and the effect that it will have on profit margins for these larger companies. It remains to be seen how companies will handle this speed bump because no one really knows the effect it may have. It could potentially cut into company profits, which would result in a corresponding share price drop. Please keep a watchful eye out for this potential issue and factor it into your decision as well. Please leave your comment below and let me know what you think of these companies.