Boom Burrito Boom...

Another mind-boggling earnings release. One of the top growing restaurant chains lately, Chipotle (CMG: NYSE), likes to beat analysts' estimates. They have been doing that more consistently than their contemporaries because of their ability to control economy of scale and to keep attracting larger and larger customer base. While I am writing this, CMG has been up for 13.76% since yesterday's close.

Many investors really think it is inflated or overpriced. I am not in clear state to defend CMG's current price or price trend, but I would consider that as emotional bias of investors. Except Berkshire Hathway, all companies trading above $300 face the same problem. Why? These price range belongs to a tiny set of companies from a set of thousands of companies currently being traded. Isn't this bias obvious? I think it is. But let's keep behavioral finance aside and focus on fundamentals. Based on my valuation model (based on $439.07 closing price of 10/17/2013), CMG is still undervalued! Below are the few points which may help make my case:

• Consistently decreasing debt/ equity ratio considering the fact that they have been pretty much at the same place in terms of raising capital through equity.
• Skyrocketing growth in revenues and net income (Needless to write!!)
• Impressive ROE year over year
• Robust growth in operating cash flow
• Free cash flow per share and EPS forecasts are way higher beyond the peers 
• Based on all above, company financials, consensus estimates and other relevant market data, I am getting a fundamental stock price range of $612 to $701.

All I believe is that CMG may not be magnificently undervalued, but it is not overvalued for sure considering all numbers and forecasts.

No need to get panic about Darden...

Oh, there is too much competition. Why do we see so called red indicators in company's financials? Activist investor is demanding spinning off company's restaurants to better access share performance. All of these cause some discomfort to investors who like value investing. Restaurants like those from Darden Restaurants Inc (NYSE: DRI) who have been at the corner of our streets for longer time, are not certainly the growth candidates like Buffalo Wild Wings, Chipotle etc. Therefore, if they are growing slowly or there is no growth, it should not raise investors' eyes.

Restaurants industry faces one of the most fierce competition among other industries. It is significantly driven by consumer confidence, overall economy, weather, cost of raw food materials and diversification. Recently, NRN has released that months of September and October or overall Q4 of 2013 will be testing time for the industry because of US Government Shutdown and debt ceiling issues. Clearly, consumers are not ready to spend as much as they used to do when economy was in so called clear shape 2 months ago.

I have gone through DRI's financials, forecasts and ratios. I have created brief valuation model based on its dividends and free cash flow forecasts. And surprisingly, I have not found anything which makes me join the herd who is cautious about investing in DRI. Despite of 7% growth in revenues from 2012, operating margin squeezed by 12%. The most straight forward reasons behind this are increasing inflation in cost of raw goods and in labor rates. And that led to decrease in net income by 12% as well. ROE stands at 6.4% as compared to 8.3% in 2012.

But as I always believe, cash is the king. DRI has been able to generate $949m cash from operating activities in 2013 as compared to $762m in 2012 and $264m free cash flow to equity holders in 2013 as compared to $122m in 2012. Moreover, DRI has consistently increased distributing their earnings as dividends. It provides good source of income as part of total return. According to my model, at the end of trading day 10/11/2013, DRI's fundamental value based on dividend forecast should be $52.04-$54.89 and based on free cash flow to equity forecast should be $51.73-$56.30. In either case, it is above the closing price of 10/11/2013 which is $50.50.

Looking at my limited "working" experience in equity valuation, I may not provide insightful analysis. But since I use sensitivity analysis to derive fundamental price range, I can surely give my opinion for DRI as "Neutral-- Hold it" looking at the numbers.

Chipotle: Expectations vs Fundamentals...

I never thought that "burritos" would bring me out from hibernation (it has been nearly more than 3 weeks since I wrote the last blog). I love their food. Many of us do. It is Chipotle Mexican Grill, Inc (ticker: CMG). Short, simple and affordable- 3 words help it rule its peers. An inspirational success and growth story. Following chart  says it all:

Phenomenal growth. Handsome return to investors. Stock was worth $38 on November 20, 2008. Stock is worth $330 today. Do I need to show return figures? Company's business model is fundamentally strong. They target fast food consumers who want to spend $5-$10 on their meals. It has nicely managed the global food inflation. Its store operate in all metropolitan area of the US and try to provide affordable options in such areas. Conclusion: Sweet & Sound!

Yesterday, they announced their second quarter earnings. Earnings were pretty good despite of rough outlook of the global economy. All numbers were decent and higher than last quarter. But I heard the voice.... "Clear Disappointment". I am still trying to figure out why I was supposed to hear that. Reason was--- they missed analysts' estimates. What bothers me is they missed it by dozen cents. Negative earnings surprise. I understand that analysts on the street perform all fundamental analysis and provide their estimates. But I still consider a phrase "Failing to meet expectations" which may make another phrase "Clear Disappointment". If we compare all the numbers with its peers and industry overall, they are still the leader. There is nothing wrong happening with its revenue generating model. It is partially because of too much expectations, isn't it?

Based on Chipotle's news, I wonder what happens in the market if mammoth Apple Inc misses its estimates. Worse. Worst. Why? They never respect analysts' estimates and always believe it positive earnings surprise!! Yesterday, they announced those bottom line numbers 25% greater than estimates. And that sends the story to investors for their EXPECTATIONS from Apple in the next quarter...

Where's the dinner tonight?

Well, being a connoisseur of food, I love to visit world cuisines and new restaurants in the proximity. And that includes few restaurant chains as well. I am a global individual, ain't I? Restaurant/dining sector was punished hard during the recession of 2007. Few chains were not able to produce profits for consecutive 2 years. And few bounced back like a marathon spring. But as they are saying, gone are the days! Restaurant Performance Index (RPI) is up again and back at 2005-2007 levels. Consumers have started to hate cooking food at home and so the sector components have started to cook some profits after years.

Here are some of the characteristics of this rebounding and bullying sector:

• Industry leaders: Chipotle Mexican Grill, Inc (CMG), Panera Bread Company (PNRA), BJ's Restaurant Inc (BJRI) and Domino's Pizza, Inc (DPZ) are leading the sector with handsome growth and stock appreciation. 
• Other growth proponents: Few restaurants chains have not been able to beat the market, but they have succeeded to help sector to boost its performance. They are Yum! Brand, Inc (YUM), Darden Restaurants, Inc (DRI), Red Robin Gourmet Burgers, Inc (RRGB), The Cheesecake Factory Incorporated (CAKE), California Pizza Kitchen, Inc (CPKI), Papa John's International, Inc (PZZA) and many others.
• Turnarounds: A rise in consumer confidence, fall in unemployment rate, introduction of breakfast menus like Subway did, diversification in the traditional core menu like Domino's did by introducing all those gourmet pastas and subs and expansion of operations in emerging markets where consumers have newly found wealth to spend. 
• Optimism: Rise in IPOs is a good indication of industry optimism. Recently, Arcos Dorados Holdings, Inc (ARCO), Bravo Brio Restaurant Group, Inc (BBRG) and Country Style Cooking Restaurant Chain Co. Ltd (CCSC) went public. Leading coffee giant Dunkin Donuts Inc has just filed for an IPO under the ticker of DNKN.
• Pessimism: This sector is not an exception and that is the reason why it has also been affected by rising oil prices and skyrocketing inflation. These macroeconomic factors have caused restaurant chains to increase the noticeable prices in their menus.

... Mind well! Subway Restaurants have the honor of being considered as the world's largest restaurant chain after their locations figure surpassed McDonald's Corp (MCD) in the beginning of this year. And and and... The world's largest restaurant chain is still not publicly traded.