Cracker Barrel: Fair Value At $115

Summary

• Cracker Barrel's operating cash flows have grown at an annualized rate of 5.5%/year over the past decade.
• The percentage allocation of operating cash flows to dividend payouts has dramatically increased, so much that they have have driven the shares to beat the S&P 500 during that period.
• Around 40% of operating cash flows are needed to maintain its current growth rate, limiting the amount that can be paid out as dividends.
• Expect dividends to grow at 5.5%/year, or in line with operating cash flow. With a 3% dividend yield, that predicts total expected return of 8%.
• Cracker Barrel is a sell at the current market price of $155.

Cracker Barrel beat the market last decade

Since 2006, the price of Cracker Barrel (NASDAQ:CBRL) shares - drawn in blue - have soundly beaten the value of the S&P 500 - drawn in orange:

Source: Seeking Alpha

Does this mean that Cracker Barrel is a screaming buy right now? No. I do not believe that this out-performance will continue in both the short and long term.

Why? Cash flow allocation constraints. Businesses use operating cash flow for three things: dividend payouts, expansion, and paying off debt. As we will see later, much of the appreciation in the share price was linked to an increasing share of operating cash flow being dedicated to dividend payouts. That pace is no longer sustainable, and the new long-term pace of dividend growth should be much slower - as we will later calculate, it should be around 5%.

But before we dive into the financials, let's have a quick glimpse at what the business does.

Cracker Barrel

Cracker Barrel is a popular diner-style restaurant, serving home-style meals made from scratch. Their menu includes bacon & eggs, fried chicken, salads, burgers & fries, and various other entrees, drinks, and desserts.

Source: Lunch and Dinner Menus | Cracker Barrel

Quantitative Patterns Of Cash Flows

Let’s begin by examining selected portions of their cash flow statement. All figures are courtesy of Seeking Alpha's Key Data page.

Source: Seeking Alpha (as of Jan 2019)

Green: CBRL has historically relied on self-funded organic growth. Notice however, that operating cash flow growth has been quite slow over the last decade – an overall 71% growth, or around 5.5% annualized growth.

Blue: Notice the massive growth in dividend payouts. In fact, below is a graph that shows that share prices have trended with the dividend payout. This comparison is valid since changes in the share count during this period have been negligible. Share price data were taken from Yahoo Finance, and TTM Total Dividends were taken from Seeking Alpha's Key Data page.

Source: Yahoo Finance

Yellow: Early on, capital beyond what was needed for growth was diverted to paying down debt. Once the debt was paid off, the dividend payout was drastically increased. More recently (this year), CBRL has begun to invest in marketable securities – some proof for an argument that cracker barrel has run out of avenues for growth.

Percentage Allocations Of Cash Flows

Instead of looking at the absolute magnitudes of the cash flows, let’s instead look at the cash flows as a percentage of operating cash flow – we get to see more clearly how management has allocated the operating cash flow.

Blue: By around 2014, we can see that CBRL has settled into a new pattern: about 40% of cash flows are allocated to growth, while another ~35% of cash flows have been allocated to dividends.

Yellow: Assuming that last fiscal year’s behavior was the start of a pattern, about 25% of operating cash flow will be allocated to marketable securities. Note that these percentages now roughly add to 100% - we cannot enlarge one type of spending without shrinking another!

We should predict an 8%/year total returns at current prices.

As mentioned before, CBRL has sustained 5.5%/year growth in operating cash flows – this was fed by using ~40% of its cash flows. If CBRL is to continue growing at its 5.5%/year pace, that ~40% can be considered locked & untouchable.

Hence, we should expect dividends to grow at roughly 5.5%/year, the same rate of growth as that of operating cash flow. And since over the past decade the share price has trended almost exactly with dividend payouts, we should expect returns of around 5.5%/year from capital appreciation.

Simple arithmetic tells us why we should expect an 8% total return from CBRL over the next decade: ~3% from dividends, and ~5% from share price appreciation.

There seems to be only two options left for management to boost share prices: refraining from buying marketable securities, and using those funds for share buybacks and/or further dividend increases. Time will tell how the management will decide on using those funds.

Rates Of Internal Compounding - Check On Calculations

As a sanity check to these estimations, let's actually calculate the returns on assets on CBRL, as measured with total assets (without depreciation) and operating cash flow. The reason we will use total assets without depreciation is that CBRL must pay full price for a new greenfield location.

Figures in millions USD	Total Assets	Accumulated Depreciation	Gross Assets	Operating Cash Flow	Operating Cash Flow Yield on Gross Assets (%)	Est. Annual Growth Rate (%)
Jul-10	1292	617	1909	212	11.11	4.44
Jul-11	1311	665	1976	138	6.98	2.79
Aug-12	1419	719	2138	220	10.29	4.12
Aug-13	1388	772	2160	209	9.68	3.87
Aug-14	1432	824	2256	178	7.89	3.16
Jul-15	1576	878	2454	334	13.61	5.44
Jul-16	1498	932	2430	271	11.15	4.46
Jul-17	1522	995	2517	321	12.75	5.10
Aug-18	1527	1064	2591	331	12.77	5.11
Aug-19	1581	1144	2725	363	13.32	5.33

Est. Annual Growth Rate was calculated by multiplying the operating cash flow yield on gross assets by 0.40, which is the estimated portion of operating cash flows that went into capex. From 2015-2019, the estimated figures average 5% - which agrees with our earlier observation that CBRL has grown organically at approximately 5%.

Valuation

While an 8% total return might be satisfactory for income-oriented investors, this isn't high enough for me - 10% is a more satisfactory number - closer to what the historical average return has been. Let's do some math on what a satisfactory share price should be:

Total Return = Dividend Growth Rate + Dividend Yield.

Since we want a 10% total return and the dividend growth rate is ~5.5%, we should demand a 4.5% dividend yield. At a payout of $5.20 per share, we should demand a price below $115.56.

That price is a solid 25% under what the share price is as of the writing of this article - $155. Therefore, while CBRL represents a solid business, its current share price does not make it a buy - rather, it's a sell, even though it's a very solidly run business.

Happy investing!

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.