The Cheesecake Factory Reported Solid Results For Reopened Stores

Summary

• The Cheesecake Factory, along with many other restaurant operators, is going through a rough patch. This is reflected in its share price, down more than 45% YTD.
• It is very encouraging that reopened restaurants have recaptured approximately 75% of prior year sales levels, on average.
• The company bought itself substantial time with the Roark Capital investment ($200M) and is now well positioned in case the restaurant industry operating environment takes longer to normalize.
• The company has taken many actions to preserve liquidity to navigate COVID-19, including suspending the dividend and share repurchases, furloughing staff, skipping rent, reducing executive compensation, etc.
• The bad news is that only ~25% of the company's restaurants have reopened dining rooms with limited capacity. I expect better days ahead as more restaurants reopen.

The Cheesecake Factory (NASDAQ:CAKE), along with many other restaurant operators, was significantly impacted by the lockdowns. On a YTD basis, CAKE's share price has fallen more than 45% (versus declines of ~9.8% and ~4.6% for the Dow and S&P 500, respectively).

Data by YCharts

Prior to the coronavirus, The Cheesecake Factory (CAKE) was performing fairly well, delivering solid adjusted EPS growth and attractive free cash flow since 2008. The boost in per share metrics was also aided by substantial share repurchases, reducing the share count by ~30%, from 64M shares in 2008 to 44.5M shares in 2019.

Source: CAKE Investor Presentation May 2020, slide 27

Admittedly, adjusted EPS faced headwinds between 2016 and 2019, but the outlook going into 2020 was bright, especially following the acquisition of North Italia and Fox Restaurant Concepts. The anticipated annual unit growth for CAKE's legacy brands was ~3% whereas for North Italia anticipated annual unit growth was more than 20%+ and for Fox Restaurant Concepts around 15%. To put things into perspective, for example, in September 2019 North Italia had 20 locations in 9 states & Washington D.C., with potential for 200 domestic locations over time.

The good news is that these growth projections still hold today, albeit with a different time frame, depending on when the restaurant industry operating environment normalizes.

Source: CAKE Investor Presentation May 2020, slide 24

Investing in CAKE gives you exposure to high quality, diversified, stable and agile restaurant group, with a history of outperforming the industry.

Source: CAKE Investor Presentation May 2020, slide 26

The company owns and operates 294 restaurants throughout the US and Canada under various brands, including:

• The Cheesecake Factory
• Grand Lux Cafe
• RockSugar Southeast Asian Kitchen
• Social Monk Asian Kitchen
• North Italia

There are also several brands under the Fox Restaurant Concepts subsidiary:

Flower Child, Blanco and Culinary Dropout have been flagged as "Potential Growth" concepts, while the rest have been classified as "Boutique Brands".

Source: CAKE Investor Presentation May 2020, slide 23

Fox Restaurant Concepts will serve as an incubation engine, innovating concepts of the future. One of the Fox Restaurant Concepts brands might prove to be the next hit, who knows?

Internationally, The Cheesecake Factory restaurants operate under licensing agreements in the UAE, Kuwait, Qatar, Saudi Arabia, Bahrain, Mainland China, Hong Kong and Mexico. CAKE also operates bakery production facilities in the U.S. that produce cheesecakes and other baked products for its restaurants, international licensees as well as third-party customers.

During the lockdown, CAKE made headlines when it informed landlords that it won't be able to make rent payments due on April 1 for any of its storefronts. To be fair, CAKE was amongst the first to inform landlords in such a direct manner, and many others followed suit. In addition to not paying rent, CAKE took many decisive actions to navigate COVID-19, including

• shifting to an off-premise model, focusing on digital sales
• eliminating non-essential spending and suspended new unit development
• reducing board, executive and corporate staff compensation
• furloughing a significant number of staff members
• suspending the dividend and share repurchases
• amending its credit facility to provide for certain covenant relief through Q1 2021

Perhaps one of the most important actions was increasing liquidity by raising $200M in convertible preferred equity from Roark Capital.

Source: Seeking Alpha

Following the Roark Capital deal, which was also granted antitrust clearance by the The Federal Trade Commission, CAKE's CEO noted:

This transaction not only meaningfully enhances our liquidity position to navigate the near-term COVID-19 landscape and get our affected staff members back to work as soon as practicable, but also importantly, solidifies our ability to manage the business for the long-term for all of our stakeholders once we emerge on the other side of this crisis," notes CEO David Overton.

I was pleased with the injection of fresh capital and many analysts seem to agree as well. For example, Wells Fargo analyst Jon Tower views the investment by Roark Capital as a positive development as it provides much-needed liquidity for CAKE's business amid the pandemic:

While this will come with added expenses for CAKE & equity shareholders (dilution &/or annual interest expense), we see this as a better alternative than traditional debt financing as it brings aboard a long-­term partner with deep industry roots and an acquisitive past (i.e., Buffalo Wild Wings, Sonic, Arby's, Jimmy John's to name a few in recent years).

Finally, we are seeing some bright spots. Things are now looking much better compared to the past three months, as the economy is starting to reopen. CAKE's reopened restaurants have recaptured approximately 75% of prior year sales levels, on average. The bad news is that only ~25% of the company's restaurants have reopened dining rooms with limited capacity, in accordance with local mandates. Since most stores are still shut, comparable sales are down ~63% QTD, including the impact of 87 full or partial closures due to demonstrations across the U.S. the past weekend.

One thing is for sure, it will take some time until things get back to normal. The good news is that the company bought itself substantial time with the Roark Capital investment. It is very encouraging that sales productivity for reopened stores is reported in the 75% range, as compared to last year's levels. I was expecting much slower progress following the store reopenings. Even though we are in a much better situation today compared to when the lockdowns began, uncertainty is still very high. There is always the risk of a potential second wave of the virus, which will keep investors on alert mode. Also, social distancing comes with its challenges, as it affects the customer experience and limits capacity. That said, CAKE owns iconic, popular as well as emerging brands, which I believe will stand the test of time.

Analyst’s 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.