CKE Restaurants' Solid Q1 Ignites Shares

CKE Restaurants (CKR) had been in a recent funk. Its shares had lost more than half their value, while a lackluster economy wasn't helping matters either. Then, CKR suddenly got its "mojo" back, as its shares vaulted nearly 40% in the past three months, thanks to a stellar first quarter earnings blowout. CKR delivered a staggering 35% increase in earnings from $0.23 to $0.31 despite a 6% drop in revenues, handily beating analysts' expectations of $0.27. The sales dip was attributable to a shift from company owned stores to franchised locations. Despite the burger purveyor's operating income being virtually unchanged, a 20% reduction in its outstanding shares proved to be the catalyst behind the impressive earnings gain.

A closer look: The company is weathering the storm of higher fuel and commodity prices practically unscathed, as its cost containment program seems to be on track. CKR's food and packaging costs dropped 6%, while payroll was also trimmed 6%. Selling, general and administrative charges eased 3%, occupancy expense compressed 4%, advertising fell 7% and depreciation was 5% lower. Although all of these cost components experienced a net drop on the income statement, they were all marginally higher as a percentage of sales. First quarter earnings were also negatively impacted due to a $1.1 million facility action charge versus a $250,000 gain, but were positively impacted by the company's 410 basis point drop in its income tax rate from 40.3% to 36.2%.

The commodity meltdown: Both feed corn and wheat have already dropped more than 30% from their highs. The drop in feed corn will make it cheaper for farmers to raise beef,pork and chicken, ultimately creating more supply and lower prices. Lower wheat prices will enable CKR to satisfy its bread needs more cost effectively while crude oil plummeting 20% is just the icing on the cake. Second quarter earnings should get minimal benefit from these lower costs, however, third quarter results will see a marked improvement.

2009 earnings estimates: Analysts expect CKR to generate earnings of $0.86 on revenues of $1.51 billion equating to a forward PE of only 15, low for its peer group. I expect that analyst estimates are on the conservative side as they appear not to factor in the impending drop of input costs. CKR could earn well over $1.00 if commodity prices extend their declines. The other fast food titans, Yum! Brands (YUM), McDonald's (MCD) and Burger King (BKC) all sport forward multiples of 18, while Jack in the Box (JBX) carries the honor of the lowest valuation, at only 12 times 2009 estimates.

Same store sales have been encouraging: CKR has put together a nice string of same store sales results, as its period 5 (ending 6/16) produced 2.6% sales growth and period 6 (ended 7/14) produced a whopping 5.2% increase. This Wednesday, CKR is scheduled to report period 7 sales (ending 8/11) as well as provide color on its recent cost trends. If the company is able to produce another increase in period 7 while keeping costs in check, second quarter earnings estimates of $0.21, on sales of $353 million could be blown out of the water.

The bottom line: The company is making considerable progress. It actually added stores for the first time in a decade, with a net of 74 stores gained. One half of those gains were the result of a successful international franchising campaign. Besides the addition of international franchises, the company is also gaining traction from its remodeling program as well as refranchising efforts. Although the shares have already appreciated over 40%, momentum players may want to take a closer look, as the stock could add another 20% clip of appreciation before summer ends.

Disclosure: Long CKR