The fast food industry has had a good year with the tailwind of low gas prices and many of these companies paying a nice dividend that becomes attractive when growth stocks are floundering. Sonic Corp. (NASDAQ:SONC) is one fast food restaurant that has a better outlook than most going into 2016, with a consensus estimate of 13 analysts with a mean price target of $34, which shows over 15% upside from today's price of $29.19. The Street also ranks SONC as a buy, with Jim Cramer recently commenting on the favorable macroeconomic environment and great management on his show Mad Money.
What SONC has going for it that some of its fast food rivals do not are good margins and growth. The most recent earnings report showed quarterly YoY revenue growth of 4.3% and excellent earnings growth of 23.50%. Compared to McDonald's (NYSE:MCD) negative 5% revenue growth and 22% earnings growth, SONC looks pretty good, and MCD's stock went up almost 30% last year while SONC's has been flat. This makes now a good time to buy. And MCD's growth figures look better than they are because their compares from last year were easy to beat. While it may seem like a good thing that MCD's stock is up near 30%, when you look at the numbers the stock is at a scary valuation. MCD trades at an earnings multiple of 25 when it's really not performing all that well. Most of the stock's upside can be attributed to very low expectations after having a very bad year in 2014, with investors seeing any growth at all as a bullish sign. All MCD really did this year was start offering all-day breakfast and announce that it would start making menu changes and such, most of which haven't materialized.
SONC, on the other hand, has a forward P/E of only 19 and is showing actual growth in both revenue and profits. When you compare these two stocks, it's clear that SONC is a better investment at this point in time. Recent research has shown that consumers are spending the largest portion of their savings from low gas prices at restaurants. In fact, the average American is spending 20% of their gas savings at restaurants, with fast food chains raking in most of that because the savings from gas aren't quite enough to be going out to high-end fine dining establishments. Since low income individuals are helped the most by low gas prices, they are also more likely to spend it at fast food restaurants than their higher earnings counterparts.
Another reason a lot of this money is going to fast food restaurants is because they are often located nearby gas stations where the savings are actually occurring. It appears that consumers are literally spending the money immediately on things like cigarettes and booze, which you can by inside the gas station, and then drive next door for a hamburger. With more and more experts forecasting a sustained low gas price environment, this will not change anytime soon. And with the market plunging over the past few weeks, one thing about SONC's business should give you confidence as an investor: People don't stop eating fast food during bear markets. This makes fast food chains, especially ones with good margins and growth like SONC, a good place to park your money while you weather the storm.
The average restaurant has pretty low margins, which they have to make up for with lots of traffic and sales. Depending on the type of restaurant, the average margin ranges from only 2-6%. So SONC's 10.92% margins are more than double the industry average. And its return on equity is stellar at 328%. This is a very strong figure that indicates the company is being run very well in a time when efficiency becomes extremely important as a business may need to cut costs and weather the storm of a more difficult market. With that being said, I expect SONC to continue to grow considering the favorable gas prices and the new menu items that the restaurant continues to come up with that are increasing sales. Both the seasoned jumbo popcorn chicken and $9.99 meal for two have been hits with customers.
So the company is innovating, growing, and being run well by management, while the stock price is cheaper than its competitors. Considering all of the above, and the small 1.47% dividend yield to boot, this makes SONC a good part of the conservative investor's portfolio at a time when it looks prudent to be more defensive and take advantage of the positive macro-environmental trends that exist; in this case, continued low gas prices.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.