Cheesecake Factory: Sit On These Shares

| About: The Cheesecake (CAKE)


The company had a good first quarter, despite pressures from rising wages.

International expansion will be the key for strong growth in the future.

High-end mall traffic has remained strong, which is advantageous considering its presence in these locations.

We still see some upside ahead this year, but holding long term will prove far more fruitful.

As a few readers may be aware, we have been tracking the progress of The Cheesecake Factory (NASDAQ:CAKE) for a few months now. Last time we spoke about the company, we classed it as a hold following a 12.5% rally in its share price from when we had first bought in a couple of months earlier. This took it up to what we classed as fair value, but following a good but not amazing first quarter, we feel it is time to take another look at how the company is progressing and whether there is an investment opportunity here.

As a reminder, previously we had been forecasting full-year earnings per share to come in a $2.63, with management guiding to $2.56 to $2.68. This would be an increase of 11% from a year previous when the company delivered earnings per share of $2.37. One thing we always feel is worth pointing out is that this is a 53-week year for the company, equating to an estimated bonus of 5 cents earnings per share by our calculations.

Now, the company beat first-quarter earnings estimates by some margin recently. A slight dampener on this was the fact it narrowly missed on revenue estimates. First-quarter earnings per share came in at 68 cents, 7 cents ahead of market expectations, and revenue came in $553.69 million, $1.4 million below expectations. The market reaction to these results was a little underwhelming and the share price dropped that day by about 0.3%. However, perhaps we could blame the broad market selloff for a lot of that.

But it could also be that management is now guiding to full-year earnings per share of $2.61 to $2.70, according to its earnings call. Which is more or less in line with what the market had been expecting for the full year. The consensus estimate when we last spoke about the company was $2.66 earnings per share. This shifted up by 2 cents following the quarterly result, but perhaps not by enough to get the market truly excited.

We still see a lot of positive reasons to hold Cheesecake Factory's shares, though. Not least the fact that this quarterly result meant it had achieved its 25th consecutive quarter of comps growth. This sort of performance is hard to find on the market, especially in such a competitive environment.

But what attracts us most to Cheesecake Factory is its international expansion plans. The company now has three partners who are opening restaurants across the world. Management has advised that it is seeking more partners, which would boost growth, but enhancing the relationships with its existing partners will be equally as vital. There's a huge opportunity for a fairly rapid growth in the Middle East, which should help fuel the company's plans to open up to five new restaurants overseas each year for the foreseeable future. Previously, management had indicated that each international restaurant was expected to contribute around 1.5 cents on an earnings per share basis. So this expansion alone could be adding an extra 7.5 cents earnings per share for the next few years.

Labor expenses increased 8.5% in the quarter, which was largely expected. The rise in wages across certain regions will be a headwind for the company, but so far it seems to be handling it well. Management has been selectively increasing prices and it believes that customers are responding well to it. This doesn't worry us too greatly as all restaurants are in the same boat really.

We expect rises in disposable income will offset this and ultimately lead to good levels of sales growth. We believe most consumers are well aware of minimum wage increases and the effects that they will have on prices in many industries. For this reason, we see it as business as usual.

Once again, we feel it is worth giving a quick mention to the recent healthy "Super Foods" options the company added to its menu. We cannot help but feel that this will be a big boost to its performance, by pulling in consumers who ordinarily may not have chosen to eat there. There really is something for everybody at Cheesecake Factory, which those millennials looking at dining as a group will find very appealing.

There have been fears that falling mall traffic would be a disaster for a lot of restaurants with a strong mall presence. Fortunately, Cheesecake Factory restaurants are generally found in high-end malls which have not suffered from any falls in traffic. We feel this should allow the company to outperform many of its peers in the year ahead, hence why we are upgrading our earnings per share forecast to $2.67 today.

We still see 20 times earnings as a fair multiple for the shares to be trading on. Based on earnings per share of $2.67, we have a price target of $53.40. This is a return of 4.6% from the last close price, which is great if you already hold the shares. But perhaps not enough to justify buying in at this point.

However, it is worth considering the long-term growth prospects of the company. Perhaps this year's return may not knock your socks off. But with earnings expected to grow by around 12% for the next five years, there will be plenty of share price gains in the future. So, in our view, those with a long time horizon could buy in at this point and sit on the shares for a few years of great gains.

Disclosure: I am/we are long CAKE.

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.

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