The U.S. restaurant industry was a little under the weather in
the latter half of 2013. The downbeat mood was accentuated by Fed's
"taper talk," the temporary government shutdown in October and
concerns regarding consumer spending trends. The consumer
confidence index was under pressure, declining from September to
November straight due to the government shutdown and concerns
regarding consumer spending over the next six months. But sentiment
had started steadily improving, though the recent stock market
weakness could potentially reverse that.
The industry is dependent on broad macroeconomic factors, with
dining out being a largely discretionary activity. The economic
climate largely influences restaurant choices for customers. We
believe issues related to "Obamacare," volatility in housing data
and fuel prices and excess supply may continue to cast shadows on
the long-term picture. Additionally, an extensive focus on value
proposition along with moderate pricing power could prove
unfavorable for margins if exercised on a long-term basis.
However, we expect the outlook for the restaurant industry to get
better driven by innate fundamental strengths, reflecting an
improving economic backdrop. Statistics bear out this relatively
favorable environment. Restaurant-and-foodservice sales are
anticipated to be $683.4 billion in 2014, up 3.6% year over year,
as per the National Restaurant Association. In real terms, this
will mark the fifth consecutive year of growth in restaurant sales.
The strength in the U.S. restaurant industry is backed by pent-up
demand from consumers to live and eat well.
A recent survey by the National Restaurant Association revealed
that the Restaurant Performance Index (RPI), measuring the present
condition and outlook on the U.S. restaurant industry, was 101.2 in
November, up 0.3% sequentially and the highest since Jun 2013. The
Current Situation Index, which measures comparable store sales,
traffic count, labor costs and capital expenditures in the industry
was 101.2 in November, also up 0.3% sequentially and the highest in
the last six months. The latest index is indicative of the
underlying strength in the industry.
Moreover, yearly hikes in dividends on a regular basis by some
The Cheesecake Factory Inc.
Brinker International, Inc.
) underscore their efforts to consistently return shareholder and
franchisee value irrespective of the economic peaks and valleys.
Domestic and International Unit Expansion
After emerging from a lackluster economy that lasted for three
years, most of the companies had stepped up their pace of
Not content with domestic expansion alone, the companies were
looking to test waters as well as developing taste buds in foreign
shores. Restaurateurs are primarily concentrating on the emerging
markets that provide ample opportunities for expansion. The
burgeoning middle income population in emerging countries
encourages these companies to shift their spotlight from the
somewhat saturated domestic market.
Red Robin Gourmet Burgers Inc.
) and The Cheesecake Factory have been quite active on this front.
Refranchising, Revamping & Innovating Menus - a Common
Though refranchising was common in the restaurant sector, it has
gotten a boost lately given the benefits of this business model
even in an anemic economy. The franchise-centric model helps to
reduce volatility in earnings and enhances cash flow generation.
Burger King Worldwide, Inc.
Domino's Pizza, Inc.
Yum! Brands, Inc.
) are examples of highly franchised brands.
Additionally, restaurants are responding in different ways to
address heightened competition in a somewhat over-supplied domestic
market. Most industry players are remodeling their restaurants to
give an up-market feel as well as rolling out new and smaller
prototypes to augment the perception of value and drive traffic,
thereby reducing construction and occupancy costs and enhancing
returns on capital.
Darden Restaurants, Inc.
The Wendy's Company
) have been working along these lines.
This is not the end. Having stabilized their financial positions,
the operators are constantly striving to add offerings to their
menu card in order to cater to the ever-changing palates of
customers while making better food presentation. McDonald's Corp.,
Brinker International, Inc. and
Buffalo Wild Wings Inc.
) are keenly focusing on this strategy.
A few like Burger King have introduced a coaches program under
which it has coaches keep an eye on its low-performing outlets.
This program helps in improving operations, thereby ensuring guest
satisfaction. Besides providing conventional food items like
sandwiches, pizzas and beverages, a couple of companies like
CEC Entertainment Inc.
) and Buffalo Wild Wings provide exclusive social gaming
opportunities to its customers that help in boosting guest traffic.
Restaurateurs are offering loyalty programs at their units to
enhance value dining. This is a ploy to encourage sales at a time
when customers are spending less on dining and need added
incentives. Most of the operators rely on social media for
promotions by incorporating
), online review sites,
) and blogs aggressively into their marketing mix. National
Television advertising is also an important tool for promotion.
Digital Ordering & Delivery Gaining Precedence
The National Restaurant Association notes that technology will make
pervasive inroads into the restaurant sector. Smartphone apps will
lure consumers to the restaurants while video menu boards in
quick-service restaurants and the growing application of tabletop
devices in casual dining give operators some of the latest tools to
push sales. A National Restaurant Association survey shows that 24%
of consumers between 18 and 34 years consider a restaurant's
technology options when selecting where to go.
Restaurateurs are fast catching up on this growing trend of digital
ordering. So far, Domino's Pizza has been a huge beneficiary of
this trend. The Domino's brand generates more than $2.0 billion in
global digital sales per year. As a matter of fact, the company's
mobile ordering system together with traditional online ordering
accounts for more than 30% of its revenues globally, and is likely
to account for more than 50% of total sales over the long term.
Though delivery was common in the restaurant sector, especially
among pizza chains, increasingly busy lifestyles have given it a
boost. A couple of dining chains like Burger King and
BJ's Restaurants Inc.
) now cater to deliveries. Apart from this, catering initiatives
are also doing the trick for companies like
Panera Bread Co.
Chipotle Mexican Grill, Inc.
Fiesta Restaurant Group, Inc.
) carries a Zacks Rank #1 (Strong Buy). A few companies with a
Zacks Rank #2 (short-term Buy rating) include
Carrols Restaurant Group, Inc.
Cracker Barrel Old Country Store, Inc.
Texas Roadhouse, Inc.
). Despite its Zacks Rank #3 (Hold), we are optimistic about Red
Robin Gourmet Burgers based on its strong third quarter results and
future outlook. Similarly, we are also positive on Zacks Ranked #3
(Hold) company Cheesecake Factory given the momentum in its
Limited Pricing Power:
U.S. consumers are facing the brunt of government budget cuts,
higher gasoline prices, payroll tax increases and delayed tax
refund checks. These factors have put a break to discretionary
spending. The U.S. Department of Agriculture forecasts that
food-at-home inflation as well as food-away-from-home inflation
index in the U.S. is expected to grow in the range of 2.5-3.5% in
This would likely leave less room for consumer companies to
exercise pricing action which would put pressure on restaurant
sales. Moreover, this would keep the overall cost environment for
food commodities tight. Food costs account for about one-third of
restaurant sales, thus making the industry vulnerable to food cost
Global Economy Yet to Recover at Full Swing:
Consumer companies are far from immune to macroeconomic tensions
like implementation of austerity measures in Europe owing to the
sovereign debt crisis and decelerating growth in Asia.
The big chains have considerable exposure in European nations like
France and Germany and in Asian countries like China. Although
debt-ridden European regions have started witnessing improvements,
they have yet to reach pre-crisis levels. Despite improving
economic data, German customers remain extremely value-sensitive.
Among the emerging nations, China and Brazil have their own share
of problems. Japan also continues to be a dampener as it is still
on the way to recovery from the 2012 earthquake.
Affordable Care Act to Hurt Margins:
Since the sector plays a key role in the nation's employment
picture, the recent Affordable Care Act by President Obama,
commonly known as Obamacare, is expected to have an adverse impact
on the operators' margins starting 2014.
The law entails companies to provide coverage for workers or face
government penalties, though it is not applicable for employees who
log less than 30 hours per week on an average. To avoid these
austerities, most companies are trying out different labor models
like involving more part-timers and cutting work hours, which would
hurt margins of the restaurant chains.
Change in Consumer Preference:
The latest trend in U.S. eateries is to serve a healthy menu, owing
to consumer preference for fresh, organic, nutritious and low
calorie food. Rising health concerns and increasing awareness about
obesity and related diseases have led to the shift in consumer
preference toward healthy and "good for you" products. Focus on
child nutrition is also a priority. Though a few companies like
The Hershey Company
) are coming up with low-calorie offerings, the fuss about
nutrition will continue to pose challenges.
There are some names that induce our cautious to bearish outlook.
Arcos Dorados Holdings Inc. Cla
Diversified Restaurant Holdings, Inc.
Tim Hortons Inc.
), each carrying a Zacks Rank #4 (Sell) while
Bravo Brio Restaurant Group, Inc.
Ruby Tuesday, Inc.
) carry a Zacks Rank #5 (Strong Sell).
Famous Dave's of America Inc.
Kona Grill Inc.
Krispy Kreme Doughnuts, Inc.
) hold a Zacks Rank #3 (Hold).
Zacks Industry Rank - Negative Outlook
Within the Zacks Industry classification, the restaurant industry
is grouped within the broader Retail sector. We rank all 260+
industries in the 16 Zacks sectors based on the earnings outlook
and fundamental strength of the constituent companies in each
industry. To learn more visit: About Zacks Industry Rank.
As a guideline, the outlook for industries in the top 1/3rd of all
Industry Ranks or a Zacks Industry Rank of #88 and lower is
'Positive,' the middle 1/3rd or industries with Zacks Industry Rank
between #89 and #176 is 'Neutral' and the bottom 1/3rd or Zacks
Industry Rank of #177 and higher is 'Negative.'
The Zacks Industry Rank for the restaurant industry is currently at
#228. This is in the bottom 1/3rd of all industries ranked,
highlighting the group's near-term Negative outlook.
In this fourth quarter 2013 earnings season, results from nearly
102 S&P 500 companies have already been declared. The
restaurant industry falls under the broader Retail-Wholesale
sector, which has an earnings as well as revenue beat ratio
(percentage of companies coming out with positive surprises) of
27.3% for the fourth quarter.
Earnings growth of 7.2% was seen at the sector in the fourth
quarter, down from 10.7% growth in the third quarter of 2013 due to
higher inflation costs. On the revenue front, the sector recorded
an increase of 6.2% in the fourth quarter, up from a 3.8% increase
in the prior quarter.
Looking at the Consensus earnings expectations for fourth quarter
of 2013, earnings are expected to decline 0.1% in the fourth
quarter of 2013. For 2014, the sector is poised to expand around
9.1% with 11.1% growth in the first quarter itself.
Revenue is expected to grow 2.2% in the fourth quarter of 2013. For
the next year, the sector is poised to expand around 4.4% with
10.5% growth in the first quarter 2014.
For more details about earnings for this sector and others, please
read our '
Among the companies which have reported earnings this season,
Darden Restaurants posted dismal fiscal second quarter 2014 results
with earnings missing the Zacks Consensus Estimate and also
declining year over year due to higher expenses. Weak results
reflect underperformance in its core brands, Red Lobster and Olive
Brinker International's fiscal second quarter 2014 earnings and
revenues however beat the Zacks Consensus Estimate by a penny and
1.0%, respectively driven by strong comps. Meanwhile, McDonald's
reported better-than-expected fourth quarter 2013 earnings, while
revenues missed the consensus mark.
A look at the Earnings ESP in the table below shows that Yum!
Brands and Burger King Worldwide could miss the Zacks Consensus
Estimate in the next quarter (fourth quarter 2013).
In hindsight, the performance of the restaurant sector was more or
less satisfactory in recent times. For 2014, the industry is
expected to generate growth as it focuses on inspired ways of
meeting consumer demand. However, the sector will continue to face
headwinds from a weak consumer spending environment and higher food
and labor costs. Overall, the restaurant industry is expected to
sustain its pace of recovery in 2014, albeit at a slower clip, as
it contends with several global economic concerns.
Our proprietary Zacks Rank indicates the movement of the stocks
over the short term (1 to 3 months). At present, respectively 22.0%
and 33.0% stocks hold a positive and neutral outlook, while the
remaining 45.0% is negative.
ARCOS DORADOS-A (ARCO): Free Stock Analysis
DIVERSIFIED RST (BAGR): Free Stock Analysis
BRAVO BRIO RSTR (BBRG): Free Stock Analysis
BJ'S RESTAURANT (BJRI): Free Stock Analysis
BURGER KING WWD (BKW): Free Stock Analysis
BUFFALO WLD WNG (BWLD): Free Stock Analysis
CHEESECAKE FACT (CAKE): Free Stock Analysis
CRACKER BARREL (CBRL): Free Stock Analysis
CEC ENTERTANMNT (CEC): Free Stock Analysis
CHIPOTLE MEXICN (CMG): Free Stock Analysis
FAMOUS DAVES (DAVE): Free Stock Analysis Report
DINEEQUITY INC (DIN): Free Stock Analysis
DOMINOS PIZZA (DPZ): Free Stock Analysis Report
DARDEN RESTRNT (DRI): Free Stock Analysis
BRINKER INTL (EAT): Free Stock Analysis Report
FACEBOOK INC-A (FB): Free Stock Analysis Report
FIESTA RESTRNT (FRGI): Free Stock Analysis
HERSHEY CO/THE (HSY): Free Stock Analysis
JAMBA INC (JMBA): Free Stock Analysis Report
KELLOGG CO (K): Free Stock Analysis Report
KRISPY KREME (KKD): Free Stock Analysis Report
KONA GRILL INC (KONA): Free Stock Analysis
MCDONALDS CORP (MCD): Free Stock Analysis
PANERA BREAD CO (PNRA): Free Stock Analysis
RED ROBIN GOURM (RRGB): Free Stock Analysis
RUBY TUESDAY (RT): Free Stock Analysis Report
CARROLS RESTRNT (TAST): Free Stock Analysis
TIM HORTONS INC (THI): Free Stock Analysis
TEXAS ROADHOUSE (TXRH): Free Stock Analysis
WENDYS CO/THE (WEN): Free Stock Analysis Report
YUM! BRANDS INC (YUM): Free Stock Analysis
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