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2011 was a good year to be in the chain restaurant business. According to research firm Technomic, the largest 500 names in the sector registered annual growth in 2011 that was considerably higher than that of the previous year -- 3.4% vs. 1.8%, respectively. Americans love their chains; the McDonald's (NYSE: MCD ) and Burger Kings that crowd the nation are doing well, and the future is expected to be just as good or better. But for investors, not all burritos, burgers, or beef sandwiches are created equal.
Healthy equals sales
McDonald's is a blue-chip stock -- and justifiably so. The company is swimming in money and knows its business cold. It's also taken some knocks in recent years for the scant nutritional value of its menu. It has mitigated this by introducing healthy food options while still selling plenty of Big Macs. Annual revenue growth for the company was 12% in 2011, and net income margin was top of its class at over 20%.
However, that 12% growth was leapfrogged by several younger and (sorry!) hungrier companies that are slowly nibbling at the giant market share of the Golden Arches. Not coincidentally, these have a much stronger emphasis on fresh ingredients and relatively healthy menu offerings. A company that has had consistent success with this approach has been Chipotle Mexican Grill (NYSE: CMG ) .
McDonald's once owned the bulk of the company, and it should have held on: CMG has been a runaway success, particularly since its 2006 IPO. CMG hit the market at $22, and it's never looked back -- the stock currently trades at nearly $420 a share, which is close to its one-year high. There's little indication it will lose ground, as revenue is zooming ahead (at 24% year over year for 2011).
In terms of profitability, anticipated EPS growth stands significantly higher than its rivals at 61%. That's three times the level of a roughly comparable rival like Panera (Nasdaq: PNRA ) . Meanwhile, Chipotle's margins are close to 10%, outpacing most restaurant chains that aren't McDonald's. The only slight minus is its popularity; now that investors have run up the stock, its PEG ratio is one of the highest in its peer group.
Annual Revenue Growth
Fiscal 2011 Sales (millions)
|Yum! Brands (NYSE: YUM )||11%||$12,626||21.8||0.7|
Source: Yahoo! Finance.
Speaking of Panera, it too has powered ahead these last few years. It was notable for being one of the few chain restaurants that didn't cut prices (in the form of "value" offerings) during the recession. The move worked and the company continued to grow. Now that the economy is slowly crawling out of the mud, more people seem to be scarfing down its slightly higher-end sandwich offerings.
Panera's numbers don't quite approach Chipotle's, but the important line items are growing substantially. Revenue and net profit increased 18% and 21%, respectively, in the company's most recent fiscal year. Expected EPS growth over the next two years also looks nice at 46%. And on a forward P/E basis, Panera stock is also substantially less expensive than that of its burrito-slinging rival.
American convenience sells abroad
The old-school approach works better for companies with a commanding presence overseas. Exhibit A is Yum! Brands, which has benefited from the early and decisive roll-outs it made years ago in fast-growing emerging economies like China.
American consumers might look down on the company's fast food outlets like Taco Bell and KFC, but international customers are clamoring for their products. As a result, revenue has grown steadily for the company, and net profit margins are around 10%, which is above average for this industry.
Yum! is a good fast-food play for those who like the company's targeted international approach and believe it has some distance to run. The stock is a little pricier than McDonald's on a forward P/E basis and offers a lower dividend yield, but its two-year anticipated growth on the bottom line is expected to be triple that of the Golden Arches.
Chain restaurants can be a thriving business, particularly in the U.S., be they large sit-down places like Darden Restaurants' Red Lobster or small takeouts like Taco Bell. As a nation we love to eat, and we put a high value on convenience. These days, who's got the time to cook dinner or a snack, anyway? Our twin habits of dining out and eating on the run won't fade anytime soon -- if ever.
As a result, there are a lot of names on the stock market operating in the chain restaurant business. It's a good sector to be involved in as an investor, but like a customer debating whether to get a box of McNuggets or a salad, it's wise to be choosy. Stocks like Chipotle and Panera look expensive compared to their peers, but they've proven they can deliver growth. Look for them to continue doing so into the near future, at least.
The more established restaurant stocks offer dividends, but they're far from the only companies making payouts to their shareholders. We've scoured the market to come up with a bunch of solid income picks in our FREE report, "Secure Your Future With 9 Rock-Solid Dividend Stocks."