Don’t Rush Into Bob Evans Farms Just Yet

Bob Evans has lined up a number of cost-reduction strategies, but investors should stay away from the stock for the time being.

Apr 8, 2014 at 7:00AM

Bob Evans Farms (NASDAQ:BOBE), a full-service restaurant chain, has had a topsy-turvy ride this year. The company's shares are flat year to date, which is not surprising as its recently-reported third quarter was weak. However, Bob Evans has done better than its peers Denny's (NASDAQ:DENN) and DineEquity (NYSE:DIN) this year. But will Bob Evans be able to get its business back on the growth path after seeing significant declines in revenue and earnings, and is it really a better buy than peers?

Beaten down badly
In the most recent quarter, Bob Evans' revenue declined 21.7% to $340.1 million, missing analysts' estimates of $350.5 million. Shares fell 8.9% in response to the weak performance, which was a result of severe cold weather in the U.S. and a subsequent drop in foot traffic. Furthermore, Bob Evans' earnings of $0.30 per share trailed the $0.57 per-share consensus by a wide margin.  

So, the present scenario for Bob Evans is not a good one. The company is trying hard to get back on its feet and out of a weather-induced slump by using different strategies. Since most of its restaurants are situated in the Midwest, Bob Evans felt a big impact from the cold weather.

Apart from lower revenue, Bob Evans suffered due to other reasons, such as labor inefficiencies and food wastage. It also incurred expenses for snow removal and faced additional costs for maintaining frozen pipes, water heater replacements, and heating, ventilation, and air conditioning expenses. 

Trying to turn around
This scenario should improve as we move into the hotter periods of the year, resulting in lower costs. The company's new Sulphur Springs, Texas facility is expected to reduce production and labor costs. Bob Evans also struggled with high sow costs that ate into its bottom line. So, in order to reduce sow costs, the company has reduced its trade spending and increased prices.

Bob Evans expects the good times to return in fiscal 2015, and it is engaged in different activities to ensure the same. The company is focusing on margin expansion by analyzing areas where costs can be reduced.

In the restaurant business, Bob Evans expects sales growth on the back of the addition of a bakery segment. Additionally, it expects its food business to do well in the future and deliver productivity savings of $6 million-$7 million.

As a result of plant consolidation and the shutdown of Richardson, Texas, Bidwell, Ohio, and Springfield, Ohio facilities -- along with the efficiencies from Sulphur Springs, Texas, -- Bob Evans expects its profits to grow once again in 2015. 

In addition, Bob Evans authorized a share-repurchase program of up to $100 million for fiscal 2015. Along with the cost-reduction initiatives, share buybacks will help Bob Evans get its earnings growth back on track. 

Bob Evans is also optimistic about its long-term prospects. That's why it has increased its long-term diluted earnings-per-share growth rate guidance to 10%-12%.

In addition, Bob Evans' knife and fork sandwich platform is also seeing good sales growth. Around 40% of its patrons who order a $7.99-priced knife and fork sandwich meal also opt for the $2 make-it-a-three-course-meal option. The company expects this strategy to attract more customers to its restaurants. So, driven by its cost-reduction strategies and other growth-oriented moves, Bob Evans should be able to deliver earnings growth next year.

Don't rush in yet
But currently, Bob Evans doesn't look like a good investment option. The stock is very expensive at 30 times last year's earnings. In comparison, Denny's has a P/E ratio of 25; DineEquity is even cheaper at 21 times earnings. In addition, Bob Evans' dividend yield of 2.5% is lower than DineEquity's 3.8%. Also, DineEquity is seeing good sales growth at its IHOP chain. DineEquity is focused on simplifying its menu and bolstering its social media presence, so it could be a better pick than Bob Evans.

On the other hand, while Denny's doesn't pay a dividend, it is expanding rapidly. Denny's same-store sales have now grown for 10 consecutive quarters, Also, Denny's $4 breakfast sandwiches introduced in January have clicked with customers. Thus, a lower pricing than Bob Evans' sandwich offering could help Denny's gain an advantage in this space.

Bottom line
Bob Evans Farms is in a weak position at present as a result of the cold weather. The company is exploring many cost-reduction programs to increase its earnings. But a steep valuation and better-positioned peers make an investment in Bob Evans a risky proposition.

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Prabhat Sandheliya has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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