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The Next McDonald's
No matter how much nutritionists may hate it, fast food joints - called quick-service restaurants (QSR) in the industry lingo - are here to stay. With Americans still in mass-migration away from their kitchens and into the clutches of the "do it for me" food industry, dozens of chains are trying to lock in their own recipe for becoming the next McDonald's (NYSE: MCD). Should investors order up any of these aspirants?
Chipotle Mexican Grill - Spicy Growth, Hot Valuation
Chipotle Mexican Grill (NYSE: CMG) is less than 20 years old, but it has already made a splash in the QSR segment by capturing over one-third of the Mexican-themed segment. Chipotle boasts of fresh ingredients and the ability to customize any order to the diner's tastes (so long as it includes the ingredients they have on hand), and customers have responded in force.
With returns on capital already second only to well-established Yum! Brands (NYSE: YUM), Chipotle can probably triple its store count without worrying about cannibalization. Unfortunately, Chipotle's success has not gone unnoticed by the Street. As the most expensive stock of this bunch, a great deal of growth and expectation is already built into the price. Chipotle is an excellent candidate for the watchlist, but the vagaries and risks of this sector are such that I would never reach and overpay for it. (For more, see What Owning A Stock Actually Means.)
Should Investors Look Inside This Jack In The Box?
People may not realize it, but Jack in the Box (Nasdaq: JACK) is only about 11 years younger than McDonald's, and the company has made it this far by adding quirky twists to the tried-and-true format. Although a food-poisoning scare set the company back significantly, growth has rebounded with a differentiated menu, savvy advertising and the acquisition of the Qdoba quick-service Mexican chain.
Jack is in a tricky spot, though. The stock is not interesting if the company does not plan to expand into the rest of theU.S.
Panera Bakes Up A Winning Formula
From the ups and downs of Au Bon Pain, Panera Bread (Nasdaq: PNRA) has emerged as one of the most successful QSR concepts out there. Focusing on sandwiches, soups, salads and other seemingly healthy fare, Panera has carved out an appealing niche. Better still, the company manages to break up its sales throughout the day better than almost any other chain, and that is good for growth, margins and returns.
Panera can probably double its store count before worrying about saturation, and the company's partial franchise model should help maintain what is already a solid cash flow yield. I happen to think that Panera is an excellent company, but the stock looks more like a "growth at a reasonable price" (GARP) play. That is all well and good, but I prefer to buy growth at an unreasonable (low) price whenever I can. (For more, see Analyzing Restaurant Stocks.)
Will Sonic Go To Light Speed?
Like Jack in the Box, Sonic (Nasdaq: SONC) is older than most investors probably realize, with the company's history stretching back to 1945. Over the decades, the company has expanded and contracted multiple times, but Sonic currently operates about 3,500 units, concentrated especially in the South.
Sonic has tried to distinguish itself with a unique menu and its anachronistic drive-in format, and until recently it was working. Unfortunately, same-store sales have been going the wrong direction lately. Moreover, Sonic has a challenge in balancing the mix of value-priced offerings that attract customers. The company's smaller scale hurts profits, with premium products that bring in profits and distinguish the company from rivals - but scare off bargain-eaters.
Sonic has the lowest returns on capital in this foursome and the most questionable near-term growth outlook. It is, however, among the cheapest depending on your valuation metrics. Though Jack in the Box looks attractive on certain "price to" ratios, Sonic is very attractive on a cash flow basis.
The Bottom Line
Becoming the "next McDonald's" is an oft-repeated goal, but so far only Subway has really come close to the bullseye. That does not mean, though, that investors can not profit by successfully identifying the next top-tier chain. In other words, do not waste time worrying about whether or not a chain has everything it needs to go to No.1. After all, maybe the eventual winner is a currently private company like In-n-Out or Runza.
In the meantime, though, investors should stick to some tried-and-true rules. Seek out companies that offer a different experience, and ones for which customers will pay up. Buttress with good growth and margins, ample expansion prospects and good momentum in returns on capital. Last and not least, take a lesson from the industry, and check out the value menu before ordering up a stock for your portfolio.
Chipotle Mexican Grill (NYSE: CMG) is less than 20 years old, but it has already made a splash in the QSR segment by capturing over one-third of the Mexican-themed segment. Chipotle boasts of fresh ingredients and the ability to customize any order to the diner's tastes (so long as it includes the ingredients they have on hand), and customers have responded in force.
With returns on capital already second only to well-established Yum! Brands (NYSE: YUM), Chipotle can probably triple its store count without worrying about cannibalization. Unfortunately, Chipotle's success has not gone unnoticed by the Street. As the most expensive stock of this bunch, a great deal of growth and expectation is already built into the price. Chipotle is an excellent candidate for the watchlist, but the vagaries and risks of this sector are such that I would never reach and overpay for it. (For more, see What Owning A Stock Actually Means.)
Should Investors Look Inside This Jack In The Box?
People may not realize it, but Jack in the Box (Nasdaq: JACK) is only about 11 years younger than McDonald's, and the company has made it this far by adding quirky twists to the tried-and-true format. Although a food-poisoning scare set the company back significantly, growth has rebounded with a differentiated menu, savvy advertising and the acquisition of the Qdoba quick-service Mexican chain.
Jack is in a tricky spot, though. The stock is not interesting if the company does not plan to expand into the rest of the
Panera Bakes Up A Winning Formula
From the ups and downs of Au Bon Pain, Panera Bread (Nasdaq: PNRA) has emerged as one of the most successful QSR concepts out there. Focusing on sandwiches, soups, salads and other seemingly healthy fare, Panera has carved out an appealing niche. Better still, the company manages to break up its sales throughout the day better than almost any other chain, and that is good for growth, margins and returns.
Panera can probably double its store count before worrying about saturation, and the company's partial franchise model should help maintain what is already a solid cash flow yield. I happen to think that Panera is an excellent company, but the stock looks more like a "growth at a reasonable price" (GARP) play. That is all well and good, but I prefer to buy growth at an unreasonable (low) price whenever I can. (For more, see Analyzing Restaurant Stocks.)
Like Jack in the Box, Sonic (Nasdaq: SONC) is older than most investors probably realize, with the company's history stretching back to 1945. Over the decades, the company has expanded and contracted multiple times, but Sonic currently operates about 3,500 units, concentrated especially in the South.
Sonic has tried to distinguish itself with a unique menu and its anachronistic drive-in format, and until recently it was working. Unfortunately, same-store sales have been going the wrong direction lately. Moreover, Sonic has a challenge in balancing the mix of value-priced offerings that attract customers. The company's smaller scale hurts profits, with premium products that bring in profits and distinguish the company from rivals - but scare off bargain-eaters.
Sonic has the lowest returns on capital in this foursome and the most questionable near-term growth outlook. It is, however, among the cheapest depending on your valuation metrics. Though Jack in the Box looks attractive on certain "price to" ratios, Sonic is very attractive on a cash flow basis.
The Bottom Line
Becoming the "next McDonald's" is an oft-repeated goal, but so far only Subway has really come close to the bullseye. That does not mean, though, that investors can not profit by successfully identifying the next top-tier chain. In other words, do not waste time worrying about whether or not a chain has everything it needs to go to No.1. After all, maybe the eventual winner is a currently private company like In-n-Out or Runza.
In the meantime, though, investors should stick to some tried-and-true rules. Seek out companies that offer a different experience, and ones for which customers will pay up. Buttress with good growth and margins, ample expansion prospects and good momentum in returns on capital. Last and not least, take a lesson from the industry, and check out the value menu before ordering up a stock for your portfolio.
by
Stephen D. Simpson, CFA
Stephen D. Simpson, CFA, is a freelance financial writer, investor, and consultant. He has worked as an equity analyst for both sell-side and buy-side investment companies in both equities and fixed income. Stephen's consulting work has focused primarily upon the healthcare sector, while he has also written extensively for publication on topics pertaining to investments, security analysis, and healthcare. Simpson operates the Kratisto Investing blog, and can be reached there.
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