A Ghoulish Trick
Morton's Restaurant Group
By Tom Jacobs (TMF Tom9)
October 24, 2000
Trading at $19 3/8 as of October 23, 2000
For 10 years, I lived in and loved Chicago. Big, loud, and down-to-earth, what you see in Chicago is what you get. Upscale restaurant chain Morton's of Chicago (NYSE: MRG) fits that image: Yup, it's classy and pricey -- $68 per person, on average -- but no airs, just good food and good service. You won't get wildflower salad next to porcini mushrooms en croute, but you won't have to ask your waitperson what anything means. Mostly steak, steak, and more steak, which you can watch being cooked in the kitchen -- or lobster, displayed with a flourish tableside. All with quality control: A Morton's in any town will be as good as a Morton's in Chicago or New York.
The Morton's Restaurant Group stock looks like a value, selling at about 11 times 1999 earnings, and just under 10 times projected 2000 earnings, with a projected growth rate of 19%. It's closing unprofitable Bertolini's restaurants and expanding the profitable Morton's restaurants. My colleague David Marino-Nachison (TMF Braden) sang Morton's praises last November when it announced a further stock buyback.
But I say, to heck with all of it. I'd short the stock in a New York (which is where Morton's corporate offices are located) minute.
At the peak of its game, loaded with debt
Morton's latest 10-K states that it derives almost all of its weekday restaurant revenue and most of its weekend revenue from businesspeople on expense accounts. Also, its 20% revenue increase from 1998 to 1999 was largely due to expansion and quarterly price increases.
Most people would say this is good, but I see trouble.
It doesn't take much to look around and see that the economy is red hot and humming along. We are in the midst of a terrific economic expansion (middle or end, I don't have a crystal ball), and all you have to do is follow urban real estate prices for about three minutes to know there are boatloads of cash floating around. I don't know what's causing it, but I do know this: When the times are good, the world is full of businesses and people willing to pay an average tab per person of $68. Unfortunately, these are not the Fool or any people I know, but they obviously exist. Morton's same-restaurant figures show it: Year-over-year increases were more than 9% through July 2000.
But the economy doesn't have a lot of upside left in the luxury department. What's the first thing to go? Expense accounts. The yachts, the European vacations, and -- you guessed it! -- the $68 dinners. I am not predicting a recession, but I am talking about a stock that's priced to perfection, ready to take a hit at the slightest disturbance of its perfect universe: price increases, expenses accounts, and the expansion that's driving a lot of the revenue increase.
Guess what happens when a company with 3.6% net profit margins feels the squeeze? If it's Morton's, its long-term debt, which just happens to be a whopping 68 times equity, becomes concrete overshoes -- laced with a current ratio (current assets/current liabilities) of 0.69, and working capital of a negative 8.4 million dollars.
With the stock trading at 5% less than its 52-week high, I'd say that life favors the shorts on this one.
Borrowing to buy back stock? Gimme a break
If you needed signs that management isn't up to the challenge of some slight disruption, ask yourself what on earth is a company with long-term debt 68 times equity doing buying back stock?
Ordinarily, Fools like steady or declining share counts. We don't want our hard-earned shares becoming diluted. But, more than anything, we really don't like management borrowing money to buy back shares, especially when $114 million in total debt overhangs $2.2 million in cash. What shareholder thinks that it's better for a company with razor-thin net profit margins -- that is using debt to finance expansion in the U.S. and abroad -- to buy back shares rather than keep the cash or -- what a novel idea! -- pay off some of the debt!
Management thought Morton's stock was a good investment? What, they thought that somebody was going to mistake them for an optical networking infrastructure firm and bid their stock up like JDS Uniphase (Nasdaq: JDSU) or Corning (NYSE: GLW)? And, their stockholders put up with that!
To be fair, Morton's has a good Foolish Flow Ratio. Whoopee-doo to that. Any restaurant has the advantage of collecting cash on the spot, which is always sooner than when it has to pay suppliers. (Somebody who knows the restaurant business better will undoubtedly flame me for this, but....) And restaurants can manage inventory well. Use the food, or it goes bad.
Mark my words, it will only take a slight ill wind to topple Morton's mountain of debt. When that happens, the shorts will do the Halloween Danse Macabre on the graveyard of the stock.
Morton's? A ghoulish, screaming short. Hahahahahahahahahah!
A Trick or Treat represents the opinion of one Fool and in no way should be taken as the opinion of either the Motley Fool, Inc., the company in question, or representative of anyone or anything other than that specific Fool's thoughts.
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