Weighing Wall Street's Appetite for Restaurant Stocks

is rocking meme mustache right now. Uh. He absolutely looked fantastic. He thought it was a video webcast, so my apologies, uh to you. Greg. Alright, alright, I was I need to keep some facial hair for my uh for my girlfriend. I don't think she's ever seen me with a clean shaven face, so that's that's why we kept it on. It looks good, Man, looks great, all right, man, So let's let's get into it. I want to pick your

brain on some things. Um. You know, Greg does a great job over there at Guggenheim, and our respect is works. So I'm excited that I could have him on here. First so uh FED chair Powell claims that the U S consumers in a good place, right, But you know, as you and I know McDonald's and Wendy said, low income consumers were pulling back in one queue. Uh so, what's your data telling you about second quarter restaurant performance? Yeah, it's interesting. I mean, we're we're at an absolute time

of uncertainty. UM. I've been speaking with a lot of public and private restaurants for the the last couple of weeks, and I think if you would have asked UM any of these restaurants three or four weeks ago, how is the consumer holding up, they would have said, Everything's fine, It's totally fine. Consumers really strong. I mean you look, you look back at uh nasstrack numbers for UM for May, we were still running an up six. UM in April

that was that was an up seven. So I mean those results are are are very healthy, and that's usually the middle and higher income guests UM. And then on the quick service you've seen you saw pretty good results in one Q. I think I think some of the UM companies have said very slightly at the margin, you've seen a little bit of degradation UM in the lower and consumer and customer. What I've heard the last couple

of weeks is a little bit of office um. But it but it's hard because as anyone who's who's looked at daily or weekly data points before, there's so much noise and and so a week or two doesn't make a trend. But I think with so much scrutiny on the consumer right now, a lot of companies and investors may be trying to extrapolate the trend and so um, it's really hard to tell. I thought that consumer has

been in a really good spot. I mean, you've looked at how much people have saved and and and checking account balances, um. And they basically tripled uh, checking account balances in the US during the pandemic. UM people you know, took down revolving credit card balances. That has come back to where it was two years ago. Um. But you could probably have another four or five six months of

runway on that. UM. And so I think I think things are okay, um, but there are slight slight cracks at the edges, which which is understandable given how much inflations out there. Yeah, and so what uh you know with some of those companies that you've spoken to some of these management teams, you know, what are some of their concerns around the consumer? Is it inflation? Is it

you know, lapping stimulus from last year. Is it? Is it the wealth effect from the implosion we've seen in crypto and and the stock market declines that we've seen. I think all of the above. I mean, there's UM the other one that has not gotten talked about. But I was speaking with an executive today about is UM

maybe code COVID has researched a little bit. Maybe that's having a you know, fifty basis points semifive basis point impact on trends And if there's so, I I bring that up because UM, there's just so many different cross currents on the consumer now. I think it's hard to hard to parse it out. UM, but inflation has to be a part of it. And UH. One thing I was looking at recently is if you look at UM

the consumer. UH. There's a consumer expenditure survey put out by the Bureau of Labor Statistics, and it shows, UM the amount of money that is basically being spent by pulling the numbers up right here, but the amount of money that's being spent by the lowest death sile of consumer incomes on grocery and restaurants and gas the portion of their total spending UM. The lowest death sile spends UH three of their expenditures on gasoline. The highest death

sile spends two point two. So gas is and you're spending one point six of your of your expenditures on gasoline. There's there's eight basis points of higher CPI for the lowest and con consumer. Same thing with food at home, but to a lesser extent. About ten of their expenses are on groceries UM. For the highest it's about five percent, and that's up twelve percent. So you just you just get you know, a few different lines. I guess the point I'm trying to make is the stuff that is

inflating the most shelter shelters UM. Actually in the CPI only have five and a half percent, but UM, I think anyone who's gone out there and tried to rent the home recently knows UM that it's the rest are not of five and a half percent UM. That's usually twenty of the lowest incomes expenditure and eight percent for the highest income. And so there's just all these things that are pressuring the CPI inflation the most hit the

lowest income consumer the most aggressively. Yeah, and it's uh, you know, my mentor in the stock business taught me that, you know, you think like the other guy. And and part of that included, you know, thinking like middle income

consumers of lower income consumers. People in middle America don't live like your I uh Greg, you know Bleo on the coast lived lived very different, right, and so um, fifty dollars out of your budget because of increased gasoline prices is fifty last dollars you're going to spend at

a restaurant or or discretionary wise. So um, you know that's why we've seen kind of you know, heard commentary from McDonald's went and he's basically saying that, you know, lower and consumers are starting to trade down, and um, um, you know I'm just being foolish. I guess what they're spending than they have, right. I remember when boj Angles went public, we were talking to them and and just the uh they said they could see it in their

daily comps. They could see when people got paid every month, and so um, a lot of Americans live paycheck to paycheck thankfully. Uh, you know, I don't think you or I do. Um. And and so it's it's something as difficult as a restaurant analyst to truly get in the minds of of everywhere in this country who who is in that situation? Um, but that's how a lot of people have to live. Yeah, yeah for sure. All right, So now I'm gonna give some props. Don't get a

big head on me. But you know, in November we were restracting our heads about two margin assumptions. Right to your credit estimates have come way down. But are they low enough? Uh No, they're not. Um. And this is where it gets into a little bit of a tricky situation because um, how stops trade. And I've tried to kind of try to emphasis emphasize this to people, is

there's two ways to have a stock out perform. You either need to have a belief that the earnings of the company will be higher than the market things, or that the multiple of the company will be higher than the market things. So it's I've always thought it's a little bit arrogant to have a view that the multiple should be higher. And so if you know a lot of it comes down to I think numbers will beat or miss UM. But right now what's embedded in in

stock prices is clearly lower than where the sell side is. UM. The sell side numbers are always a bit of bit slow to move. UM. You know. I was just looking h maybe a week ago at earnings revisions so far this year, and you know, most companies for EPs revisions there's somewhere down between two and which with most of being down four or five, six seven percent, which is not a huge move if you if you think the consumer is gonna get really tight, and especially given how

much the the cost pressures have moved UM. And a lot of the stocks again this was this was a week or two ago. But we're down you know, fifteen to thirty five percent, and so stocks have gotten cheaper, restaurants stocks have gotten cheaper. UM. But I think very clearly street numbers are generally too high UM. And I think where investors are leaning in right now is where they have confidence that the numbers will be relatively close

to where consensus numbers are. UM. And you've you've clearly seen that and how the stocks have traded, Yeah, for sure. Degree And uh, you're comment about multiple is a great one, right, and I think it explains why in this sector of the stock market, long short investors tend to do so much better than long only, right, Like it can be arrogant to to claim that a stock or or some

names in the sector deserve a higher multiple. I think it's a lot easier case to say X y Z company should have a superior multiple to ABC for all these reasons. Right, Yeah, completely completely, And I'd love I'd love to talk to some of the some how much things have changed on the expense side from the beginning of this year, Because when companies were guiding and you know, even on fourth Courter earnings call an end of January early February, a lot of companies were saying, look, the

labor situations tight. We're maybe paying seven eight nine percent wage inflation year every year this year, expecting that this year, um, but the commodity situation, shion has gone a little bit worse. For expecting five or six percent commodity inflation. Now those numbers are thirteen to sevent on the commodity side, ten to twelve percent of food side. And if you're a restaurant, you just can't really price that through as the margins have been down. Yeah, and actually uh yeah, I mean

we've seen unprecedented you know, a menu pricing. Um, you know, and and last time we saw this into a recession, you know, during the Great Financial Crisis, it was the pizza makers, right, it was Dominos and Papa John's raised their prices aggressively into a recession. And even though pizza remains one of the cheapest ways to feed a family, uh,

it really hurt transactions for for both of those chains. Right. So, um, I guess can you talk a little bit about pricing and and who's being more conservative, uh, you know in your covered universe, and then also maybe a little bit about who you think can of performed during the recession. Yeah, for sure. And um, the one point I'd make on pricing it it's very difficult right now. If your Chilis or Applebee's are all going, I'm just using those examples,

figure out how much your guest is paying. It's pretty easy. Four customers coming to the restaurant, and you take the amount they paid and divided by four and that's your average check. But if you're McDonald's or Taco Bell or Wendy's and you have a car come through the drive through, you don't know if that's one person or two two people, or you know someone's taking home defeat effinitively at six and so trying to part out average checks, particularly for

quick service right now is very difficult. But UM, in terms of base level menu pricing, in the fourth quarter, as you exited the year, most companies were taking four or five six percent pricing, and I think McDonald's was probably the quickest UM to get high pricing. I guess Chippola would be another example, but McDonald's and Chippole were probably the two. They were most aggressive quickly about getting

pricing into the business. And you saw that margin in the first quarter where McDonald and again I know some of it depends on traffic, but UM, McDonald's margin and were down four or five where a lot of their competitors were down six seven eight percent UM because their pricing was you know, by six seven and it was a couple of points below McDonald's. I think you get through the rest of this year, you're gonna see eight to ten percent pricing across the board you over year

for most of these companies. UM. Chipotle has obviously been higher with with around thirteen um. And generally what I've heard is very little, uh consumer pushback and these times have to take more pricing, they have to because of the cost pressure. Yeah, and you know the franchisees are are are going to do it, you know, until they start to start really feeling that pushback. Um. You know.

It was interesting though on the first quarter calls, Man, I feel like the Equity Capital Markets guys were in the ears of all of these CEOs because they're all pointing out how you know, there's a couple hundred basis points difference between food at home and food food at home versus food away from home and right, and they're saying, well, food at home is inflation is worse, So that's good for us, and and I get it, but not really because it's still cheaper to buy the food at the

grocery store and cook yourself anyway, slice it right. Yeah. Yeah, I've always thought of it's it's a great question, and I've always thought of what what restaurants really provide is they provide people. Um, let's say you're arrestaurant. You're gonna have a hundred customers come through your restaurant, Uh, and give an evening. I'm just making up the number. Um, those customers could all go home and spend an hour cooking, or you could have you know, six seven cooks in

the back of the kitchen spent two hours cooking. And so it's a huge labor savings tool in the United States is the restaurant industry. That's kind of the value prop that that we provide a we centralized, pretty individualized cooking. We've we've had huge labor eavings over the last really seventy five years from the rise of restaurants. UM. But um, one of the things that you've seen is you've seen more faster wage growth at the lower income UH worker,

and that's usually the restaurant worker. And so the challenge for restaurants right now, I think, more so even than the commodity standpoint, is the fact that broad wages drive your revenue and lower income wages drive your expenses, and lower income wages are rising faster and so there's largin compression and it's actually a bad thing for the economy and the population. But it is a challenge for restaurants

right now in the margin front, for sure. All Right, So who's your what's your favorite name right now and why I'm continuing to lean into McDonald and Yum. And this goes back to my common earlier of where do I see pretty high visibility into hitting consensus earnings numbers UM? And you look this year, McDonald's EPs is down two You'll remember that obviously given the Russia situation, that that would make up the majority of that change is just

just losing that UM. Yama is down two percent as well. It's some more situation with Russia. So really numbers have not moved a whole bunch, but you have UM some of the full service names UM where numbers are you know, down ten fifteen percent and may and may still move lower. There's a lot more uncertainty when you're in the business of collecting revenue and paying out food and paying out labor.

With a company operated model, UM, there's just more risk to numbers right now versus the franchise model, which is generally more UM what McDonald's or Yum or Jack or Wendy's are are employing UM, which your earnings are a little more insulated. I think it's worth getting into the franchise ease as well, because if your franchise, or you're

not completely insulated to cost pressures your franchise ease. If they're feeling it um at the end, that will that will cause slower unit growth at some point down the line. And the biggest risk I think too McDonald's, Yum, Wendy's, Jack in the Box two us are dominoes is if you're franchise in two thousand twenty one, when margins were a three basis points, if they kept leveraging six times and put on a whole bunch of debt and there were a lot of franchise e to frenchy transactions at

that point in time. Banks have been lending it a little more aggressively into the limited service side to The concern I would have is that you may have some challenges in the bank, on the bank lending side to franchise ease in this space. That's that's the that's the spot to watch. Yeah, yeah, i'd agree. You know, on Wall Street loves their unit growth, man, that's for sure, you know. And I'd add to something to that too, man,

I think scale matters right. Like McDonald's can put items on their value menu for a dollar or three dollars that you know, Jack in the box and when they's just just can't match right, well, then McDonald's has done a great job. I mean, obviously they got a little bit um tripped up if you go back to kind of two thousand twelve to sort of fifteen range Thompson and US what negative um And then they and then obviously with the lunch ball, they breakfast starts start to

turn around this business. They if you drive around the US and you go look at the assets that McDonald's has put in the ground the last three or four or five years of experience of the future and compare it to some of the other brands. Um, their stores look better and and it's just a more enjoyable experience

of the sales volumes are three million dollars. A lot of their peers are um one eight to two million dollars, and so the franchise ese are making a hundred and fifty two hundred thousand dollars a year more in cash flow from some of their peers. That's a great position to be in when your prices are are even more reasonable than your peers. That's a great point. Yeah, management Guns management has done a hell of a job over there. UM. Yeah, I guess let's talk about Jack in the Box a

little bit. Man. It's a name we've talked about a little bit, you know. It's There's a lot of things going on right now. Right. I think it's kind of a story. I think it's a story where a lot of people lost money on it in the past or underperformed to being invested in the past. So I think it's it may be a hard sell, UM, but there's definitely some things that are interesting going on right the acquisition, potential sale at least back. Why don't you talk to

us a little bit about Jack in the Box. Yeah, I know it's it's um, Jack in the Boxes. It's it's got a new management team, UM. Darren Harris was just came out of the CTO a couple of years ago, UM, and he's he's made a few changes. Obviously. They sold Cadoba a few years ago to Apollo. UM just recently closed on the acquisition of Del Taco. And I think some out there go, all right, you're swapping one Mexican chain for another Mexican chain. What are a doing? UM?

But I think they're completely different stories. And I say that because UM and not to criticize Cadoba, but Cadoba

really tried to be a Chipole national competitor. UM. You know, they rushed into a lot of markets and generally got to a little bit low lesser scale than Chipole and say did very stretched UM unit base they were I think it was in forty eight states there there um uh their portfolio, whereas Dell talk was much more concentrated into I think it's thirteen to fifteen states out west UM, very similar states toward Jack's unit presences UM. And so

I actually think the acquisition from that perspective makes some sense. UM. I think the criticism that investors have for this is an increasing your company operated exposure UM and and that just creates more earnings volatility, which is which is fair UM. But but but Jack's managing I think has done a pretty good job of le into you just set yourself. I think two questions ago. Uh. Wall Street loves the unit growth. UM. They've been signing up a ton of

development agreements. UM. The goal is to get to four percent unit growth in the next couple of years from zero today. I don't think Wall Street expects really any acceleration. And so even if they start, you know, getting units in the ground and show a path to one and a half to two and a half percent unit growth sometime in the next two to three years. That would be a very very positive sign for the stock. Um. It's uh, it's very it's very cheap. Um. Cheap isn't

necessarily working in this market. Um, but it's I think the manager team is doing the right things on trying to accelerate store growth. Yeah. And if you know, if you think the stock is cheap, they're gonna have they should have a lot of cash to you know, between the refranchising and the sale least back to buy back cheap stock. So as a former equity trader, uh, you

know that always gets the intendants up, you know. Um. Yes, and if they if they think the stocks cheap, I think they'll lean into repurchase this to your point, sorry I cut you off. No, No, it's all good man. Um. So let's get into a couple more of your names before we finished up here. What's it gonna take for Burger King to turn its US business around? Yeah, Burgusking is an interesting one because, um, the volumes of their stores are kind of more than the one point four

to one point five million dollar range. We talked earl about McDonald up for three and so the franchisy cash flows are not as healthy as at a Wendy's or McDonald's. UM. And the other big challenge they have is that, UM, I think because of that, franchisees have not put the capital into the back, into the brands, into the assets in the way that McDonald's has the last couple of years. UM. You know, they've got a new brand management in Tom Curtis,

who's a former Domino's executive. UM. He's looking at things a lot, a lot differently. A lot of what he's focused early on so far has been on the operational side of things. UM. You know, they've done several things the last couple of years. They they started handbreading their chicken, UM, which initially drove sales a bit, but from from every indication, UM, is a little bit too complicated and adding too much

labor versus the benefit that they're seeing on the sales side. UM. And so he's going through and he's changing a few things that I expect that to UM kind of shift back towards UH, you know, non handbreaded chicken. At some point in the next few months. UM. You know, they've taken the whopper back out of some of the value platforms and they're trying to premium Premium is eyes I don't know if that's a word, but premium eye it again. And so I think he's doing the right things on

the on the operational side. But you look at UH. They have a public French as he Carrol's t a sp UM and the stock is down massively over the last twelve months because of this margin pressure on the business. Because of this margin pressure on the industy treat UM. And when you're a little bit lower on the totem pole on a u V s your French as you

feel it more aggressively. UM. The company has a lot of cash importance, has been generally performing, you know, okay, UM, and I think they're gonna make some reinvestments into the business. We expect a big advertising fund investments sometime in the next three months. UM. That could be a couple hundred million dollars UM. But I think at some point they probably have to make and investment co investment the French at ease on the assets, on reimaging the stores, UM.

And so we'll see how this plays out. But I have a neutral on the stock just because I think you need some more certainty on these things before you can can get involved. Um, but that's that's where heads are heads are at. Yeah, the asset base is definitely dated, and you know, to your point, money flows to where

it's treated best. And with so many multi un multi concept of multi chain operators out there, they're going to invest in the brands that are not going to cover off the ball before they're going to invest in somebody like Burger King has been been struggling, you know for

a while here, especially since Wendy's launched for breakfast. Yeah, I think that's where if restaurant brands international kind of UH ponies up some money, I think, um, that will convince the franchise ease to invest alongside of them, and that probably is the catalyst that you need to see a turnaround there for sure. Alright, And since you mentioned Wendy's, let's finish up with Wendy's. Man, what's what are the odds try and UH pulls the trigger and acquires the company.

I don't think it's high. I think it's low. Um, you know, I think if you're trying and I understand the sentiment. You've you've done a pretty good job the last few years on the business. UM sales for restaurant or up loaded mid double digits UM, your earnings are up substantially, and the stock has gone from you knows a share hit sixteen before they filed there UM there. I think it was at UM say that they that they were looking at it UM. It's a business that's

been running well. They've they've got sort of three levels of how they're trying to accelerate their growth. The first one is they're trying to accelerate international unit expansion UM. The second is by pushing to breakfast the last couple of years, and the third is by pushing the Ghost Kitchens partner with Reef Kitchens UM. I think the one that has the greatest chance of actually structurally changing the

algorithms of the business is if international really works. However, there's nothing to truly gone poorly this this is a business is performing pretty well UM, and the market for a few reasons, I think one has punished them for a few reasons. I think one is the company has set their expectations always with a little bit of a bullish outlook UM and, So I think it gets back to the question of maybe there's a little bit more risk to the numbers and there's a McDonald's yum UM.

I think that's one part of it, and the other part of it is is a couple of these drivers Breakfast and Reef have had a little bit of a hiccups recently. But stock is sort of ridiculously cheap, and I think that's what try and was trying to highlight and emphasize with their UM with their release and UM.

But I don't I don't think it's something that will necessarily close or happen UM as long as the market kind of uh trades to stock a little bit more favorably than it was when it was down at fifteen six year. Yeah, that's interesting because to your point, you know, uh, Top Pentagor and the team there has has done a nice job, right. So I don't I don't see really, um too many areas of improvement for try And. So I don't know if it makes an attractive takeover candidate.

But the one thing I think that I point out is franchise margins are a lot lower there uh than there are a lot of their competitors, Do you have any insight into that the franchise e margins the franchise market original corporate side. So they're they're burning lower margins on that franchise business than most of their competitors. It's it's so hard to parse out some of the frenchise margin components. UM. Wendy's is involved a bit more in

the real estate than some of its peers. And obviously there's there's a few different ways if you're a franchise or to make money. You can make money on a royalty stream, which is generally four to five percent of sales and carries with it a very high margin of UM. Real estate, which can be six to ten percent of sales, will carry with it a thirty or forty percent margin UM. And then there's the advertising funds, which if you're flowing in through your p n L maybe four or five

percent of sales but at zero percent margin UM. And so, and then there's technology fees which will have varying degrees in margins UM. But so it's a little bit hard

to stack up the franchise margins UM. You know, I think one of the things that is a part of the cataus and why the stock is always with a little uh chief on e VD, but's odd expensive on PE is the fact that they flow thirty to forty million dollars more of d n A through their income statement than they run in capex um and so that should come down over time and help the EPs growth um and make the stock look a little more attractive

on a P basis. But even here it's pretty reasonably priced. Alright, good stuff, man. Well listen, we're running up on time, so uh, I appreciate you, thanks for coming on. Um, you know, I learned a few things hopefully uh hopefully our our audience picks up a few tidbits as well. Man, But thanks for thanks for coming on, and uh I look forward to you to having you on again. Like thanks and congrats on your recent award. I respect what

you do in the industry and you're you're you're very good. Um, you're a very good analysts and and very on top of your relationships and trends. So thanks for the time. Thanks Greig,