We remain Neutral on The Wendy's Co. ( WEN ) with strong breakfast menu, international expansion and closing underperforming stores on the one side, and commodity inflation and a smaller scale of operation compared to the industry biggies on the other.
Wendy's has undertaken a massive remodeling program and is also investing in order to improve its breakfast line-up to drive traffic and improve sales. Breakfast is critical to the company's growth strategy. Notably, over the past five years, breakfast has accounted for as much as 92% of the traffic growth in the quick service restaurant segment and 21% of the total industry traffic, a little less than the 27% that dinner represents. We expect the company to finish the fourth quarter on a stable note with the December launch of W Cheeseburger. The company is now testing a high-quality coffee offering namely Redhead Roasters. Management expected meat cost to rise about 20% on an annualized basis.
The company has also been closing its underperforming restaurants. 2011 was a transitional year for Wendy's. The company completed the sale of Arby's restaurants to Atlanta-based private equity firm Roark Capital Group so that it could focus solely on building the Wendy's brand.
However, U.S. food cost inflation will partially offset the positive fundamentals. Wendy's company-operated restaurant margin for 2011 is anticipated to be approximately 100 basis points lower than prior year, primarily due to higher commodity costs.
Earlier, management commented that Wendy's would convert about 300 restaurants from the old to the new menu and continues to expand new breakfast menu into additional markets this year. Although the company did not provide any update in the latest quarter, considering the shift in menu, we believe there could be a downfall in sales.
The company has signed franchise development agreement for international growth, but the scale of both of its peers McDonald's Corp. ( MCD ) and Yum! Brands Inc. ( YUM ), is much larger than its size. Wendy's currently retains a Zacks #3 Rank (short-term Hold rating).