Restaurant Industry Stock Outlook: May 2015

The U.S. restaurant industry began 2015 on a solid note. Per TDn2K’s Black Box Intelligence, the first quarter of the year proved to be the best for the industry since the Great Recession. Despite inclement weather and a faltering U.S economy, same-store sales grew in all three months of the first quarter at an average of 2.8%. Improved job prospects, rising wages, lower gasoline prices and renewed optimism as a result of the housing recovery were the biggest contributors.

Driven by higher same-store sales and a continued optimistic outlook for future business conditions, the Restaurant Performance Index in March was above 100 for the 25th consecutive month, the Current Situation Index was above 100 for the 13th consecutive month, and the Expectations Index was above 100 for the 29th consecutive month.

Meanwhile, with severe winter weather conditions subsiding, restaurant sales rebounded in April, which possibly signals better second quarter results. Per TDn2K’s Black Box Intelligence, same-store sales rose 1.9% in April. Given the positive factors, the restaurant industry is expected to generate sales of more than $709.0 billion in 2015 -- marking the sixth consecutive year of real (inflation-adjusted) sales growth for the industry.

However, the growth rate is quite modest owing to a still constrained consumer spending environment. Despite moderate improvement in economic growth, consumers are increasing their spending slightly as they are busy saving. This is reflected in traffic trends that have not shown much improvement. Meanwhile, a fluctuating consumer confidence index reflects uncertainty. Additionally, rising food and labor costs and currency rates remain headwinds. Nevertheless, per market analysts, the overall industry is relatively well positioned compared to the past years.

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 earnings outlook and fundamental strength of the constituent companies in each industry.

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 #49. This implies that it is in the top 1/3rd of all industries ranked, highlighting the group’s near-term positive outlook. We believe that the positive outlook reflects improving same-store sales trends.

Earnings Trends

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We group the restaurant industry in the broader Retail sector and the industry has stood out for strong results this earnings season. For the Retail sector as a whole, the earnings and revenue beat ratios have been one of the best in the entire S&P 500 index at 73% for earnings and 48.6% for revenues (as of May 22, 2015).

Earnings grew 6.9% in the first quarter while on the revenue front the sector recorded an increase of 11.2%. The upside on both the fronts reflects initiatives taken by the companies to boost traffic trends.

Earnings are expected to increase 3.8% and 6.9% in the second quarter and full year 2015, respectively. Meanwhile, revenues are expected to grow a respective 5.9% and 6.4% in the second quarter and full year 2015, possibly on improving consumer sentiment.

First Quarter Numbers

Among the companies in our coverage universe, restaurateurs like Domino's Pizza, Inc. (NYSE:DPZ) posted solid first quarter 2015 results with earnings and revenues beating the Zacks Consensus Estimate on strong domestic and international comps. Darden Restaurants (NYSE:DRI), Chipotle Mexican Grill (NYSE:CMG) and BJ's Restaurants, Inc. (NASDAQ:BJRI) posted mixed results with earnings beating the consensus mark but revenues marginally missing the same. Buffalo Wild Wings Inc. (NASDAQ:BWLD) and Panera Bread Company (NASDAQ:PNRA) however disappointed investors by missing out on both fronts, primarily due to higher costs.

A look at the Earnings ESP in the table below shows that Domino's Pizza and Chipotle Mexican Grill could once again beat the Zacks Consensus Estimate in their upcoming quarterly results (second quarter 2015).

Bottom Line

The restaurant industry has improved dramatically since the second half of 2014. Overall, the restaurant industry is expected to sustain its general pace of recovery in the rest of the year, albeit at a slower rate, as it contends with several global economic concerns. It remains to be seen whether restaurateurs succeed in dealing with the headwinds coming their way.