3Q earnings expectations mixed for restaurants

Third-quarter corporate earnings reports have begun to roll in from restaurant industry bellwethers including Yum! Brands Inc. and Ruby Tuesday Inc., and Wall Street analysts have expressed both cautious optimism and concern surrounding the possible headwinds for the remainder of the year.

The restaurant industry faces a daunting list of concerns affecting both its top and bottom line, from the domestic economy, jobs and touch-and-go consumer spending, to increased competition among brands and difficult year-to-year sales comparisons from a positive 2011.

“Restaurant stocks climb a wall of worry,” Bob Derrington, securities analyst at Northcoast Research, said in a research report. He added, "Solving the riddle of adding sufficient menu pricing to mitigate rising operating costs (commodity, labor/healthcare, taxes) without hurting traffic trends remains a lifeblood decision.”

After a relatively robust second quarter, same-store sales in the third quarter were decelerating, Derrington said. The strongest same-store sales were expected in the fast-casual segment, with gains forecasted to be in the mid-single digits. The quick-service segment sales gains were expected to be in the low-single digits, and casual-dining sales forecasts were flat to slightly up, the Northcoast Research report said.

Andy Barish, equity analyst with Jefferies & Co., in his team’s third-quarter preview said same-store sales would be modest, with “investors looking for reassurance that consumers are responding to more aggressive innovation and better promos [and] value.”

“Economic sentiment has not improved materially, and customers are looking for price certainty and strong value,” Barish said. “Many concepts have become much more aggressive about discounting/promotions to drive sales, even those that have typically outperformed the category. We do not see any near-term relief to current trends, and think traffic will remain flat to down through the year end.”

The pending U.S. presidential election, as well as macro-economic issues, and also are weighing on investors’ calculations, said Stephen Anderson, securities analyst for Miller Tabak + Co.

“Global macroeconomic concerns have taken center stage for much of 2012, but more recently the U.S. presidential election has created uncertainty surrounding not only consumer demand (and the possibility of a 'fiscal cliff' at year-end 2012), but also healthcare costs,” Anderson said.

And even despite higher grain costs in the commodities bucket, Anderson said that Miller Tabak + Co. believes that the underlying industry-wide sales trend remains mildly positive, which was evidenced by a recent survey of restaurant operators.

Despite the headwinds, Christopher O’Cull and David Carlson of KeyBanc Capital Markets said restaurant stocks out-performed the broader markets by 20 basis points, or 0.2 percent, in the third quarter.

“Restaurant valuations are currently at a historically high premium to the S&P 500,” the KeyBanc report said, noting that the valuations are “surprising since informed restaurant investors are aware of softening guest-count trends and the difficult comparisons beginning in December.”

Contact Ron Ruggless at ronald.ruggless@penton.com.
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