Dave & Buster's (NASDAQ:PLAY) stock has been surging again since the company reported second-quarter earnings, marking the second straight post-earnings rally for a stock that was forgotten just a few months ago. Shares were up 7% on Friday, and the stock jumped a total of 63% since its bottom in May, a surprising run for a company that is still dealing with a number of challenges.

The eatertainment chain beat estimates on both and top and bottom lines and raised its guidance. Revenue in the quarter increased 13.7%, or 11.4% on a comparable-week basis to $319.2 million, which easily beat estimates at $311.9 million.

On the bottom line, earnings per share increased from $0.71 to $0.84, which breezed past expectations at $0.67. D&B also raised its full-year guidance, calling for full-year revenue of $1.23 to $1.255 billion, up from a previous forecast of $1.2 to $1.24 billion. It also now sees a low-single-digit decline in comparable sales, as opposed to a low-to-mid-single-digit decline, and it boosted net income guidance to $101-$111 million from $95-$110 million.

Based on those numbers, it's not surprising to see the stock moving higher -- but beyond the headline numbers there are some concerning signs.

The entrance to a Dave & Buster's

Image source: Dave & Buster's.

The dirty details

Comparable store sales fell for the fourth quarter in a row, dropping 2.4%, though that did mark a sequential improvement over a 4.9% slide in the first quarter. That improvement may indicate that the worst of the dive in comparable sales is over, but it's worth remembering why comps are such a key metric for a restaurant chain like Dave & Buster's: The figure strips out the impact of new stores, meaning it represents the best measure of underlying demand for Dave & Buster's food and entertainment offerings. Also, growing sales at existing stores is much more profitable than opening new stores, as comparable sales growth comes without the capital and labor costs required to build new stores and hire and train staff. Finally, no restaurant chain can open new stores forever. Dave & Buster's has said before that it sees a capacity of 200 locations in North America. With 117 currently, the company still has several years of store growth ahead of it, but it will eventually need to drive comparable sales higher in order to grow its business.

As a gaming concept, D&B also doesn't have the opportunity that other restaurant chains have to grow through delivery and take-out. It can't use platforms like Grubhub, which have become increasingly popular among casual dining chains.

Dave & Buster's gross margins also compressed in the period, meaning it kept less of the money it made off of food and amusements; food costs rose 40 basis points, and amusement costs ticked up 30 basis points. Other restaurant-level costs rose, but profit growth benefited from the company's lapping a $2.6 million litigation charge from a year ago. Even aside from that, profits still would have grown due to new store openings -- but the business is becoming less profitable on a percentage basis.

The benefit of low expectations 

Dave & Buster's surged following the recent earnings report mostly because the company blew past estimates. In fact, the company has consistently benefited from low expectations from Wall Street, and has beaten analyst estimates in every quarter since it went public in 2014, as the chart below shows.

Quarter Estimate Result Surprise
Q3 2014 ($0.09) ($0.06) 33.3%
Q4 2014 $0.28 $0.33 19.6%
Q1 2015 $0.37 $0.46 23.7%
Q2 2015 $0.23 $0.40 77%
Q3 2015 $0.03 $0.12 361.5%
Q4 2015 $0.43 $0.53 23.8%
Q1 2016 $0.59 $0.72 21.4%
Q2 2016 $0.44 $0.50 13.9%
Q3 2016 $0.14 $0.25 85.2%
Q4 2016 $0.59 $0.63 7%
Q1 2017 $0.81 $0.98 21%
Q2 2017 $0.57 $0.71 24.6%
Q3 2017 $0.24 $0.29 20.8%
Q4 2017 $0.60 $0.61 1.7%
Q1 2018 $0.93 $1.04 11.8%
Q2 2018 $0.67 $0.84 25.4%

Source: Etrade.

Even during the company's recent struggles, Wall Street has continued to underestimate it, which has helped drive the stock up more than 60% since May. And in spite of its challenges, Dave & Buster's still has its strengths. Operating margin remains impressive at 16%, wider than that of most restaurant chains, as amusements are a high-margin business. The company is also introducing new proprietary games and new store models, and expects virtual reality initiatives to pay off, including its new Jurassic World VR Expedition game. Comparable sales should improve due to those initiatives and the company lapping easier comparisons.

Dave & Buster's appears to be on the path back to steady growth, but the anticipated comeback in fundamentals has only just started. If the company can return to comparable sales growth, profits should start to surge again; but that's a big if. With challenges from food delivery and Fortnite, it may be difficult for D&B to return to the robust growth we saw from it just two or three years ago.