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3 Best Restaurant Stocks to Buy in August

By Rich Duprey - Aug 9, 2020 at 7:08AM

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These three restaurant chains just might be worth feasting on this month.

The restaurant industry wasn't exactly thriving before the coronavirus pandemic hit, and then it was upended after establishments were limited to takeout and delivery.

Some chains like Ruth's Hospitality, which operates the upscale Ruth's Chris Steakhouse, didn't have much of a to-go menu to speak of, and its business was obliterated during the crisis. On the other hand, Yum! Brands has been converting its Pizza Hut chain into a mostly takeout operation, which helped soften the blow even though one of its biggest franchisees still declared bankruptcy.

The three restaurant chains below, however, have held their own, not only during the COVID-19 outbreak, but before it too, so investors should feel comfortable settling in for a slice of their stocks.

Man carrying food tray

Image source: Getty Images.

Drive-thru excellence

Much like Yum! Brands' prescient conversion of Pizza Hut to takeout, Chipotle Mexican Grill (CMG -0.98%) had the foresight to begin installing drive-thru windows at its restaurants. That made its to-go business all the more easier to switch to when it had to close down its dining rooms.

The company recently opened its 100th Chipotlane and said that 60% of the new restaurants it opens this year will feature a drive-thru window, while 70% of the ones it builds next year will have one.

Chipotle's stock isn't cheap, as it trades for over 130 times trailing earnings, 68 times next year's estimates, and more than 90 times the free cash flow it produces (all through Friday's close). Yet its second-quarter earnings report shows why it might be worth the premium the market is assigning.

While revenue was naturally down during the period on lower same-store sales, its digital order business tripled, and as restaurants began reopening, its profit margins improved and comps quickly turned positive.

The Mexican food chain remains a consumer favorite and its menu of healthy foods continues to resonate, giving investors reason to expect the gains to continue.

Casual dining's not done

The owner of Olive Garden and Longhorn Steakhouse has been trading mostly sideways since recovering much of the ground lost when the bottom dropped out of the market in March. Investors undoubtedly want to see if Darden Restaurants (DRI -1.26%) and the rest of the casual dining segment can survive the coronavirus calamity. After all, California Pizza Kitchen recently filed for bankruptcy, joining CEC Entertainment -- the owner of Chuck E. Cheese -- Matchbox Food, and Garden Fresh Restaurants. A number of others are walking the edge.

Yet Darden is financially sound, and its Olive Garden chain has survived the worst onslaught of the pandemic. It was one of those restaurants that had a long-established off-premise business already in place, and takeout orders tripled.

Social distancing will prove a challenge as the chain's interior design is not conducive to the practice, but management is experimenting with Plexiglas partitions to make it work. Longhorn Steakhouse, on the other hand, is ready for the rodeo when restaurants reopen because its dining rooms are basically one big room where seating can be allocated as needed.

The market may be too pessimistic, though. Darden shares trade at 26 times estimated earnings for fiscal 2021 (which just began in June), even though Wall Street expects the restaurant operator to grow earnings at over 26% annually for the next five years.

Being everywhere to serve

Domino's Pizza (DPZ -1.62%) is a double beneficiary of current restaurant protocols in the coronavirus era. Its business is all takeout and delivery, but best of all, pizza may have become the unofficial food of the pandemic for consumers.

U.S. retail sales for the pizzeria were hotter than melted cheese stuck to the roof of your mouth, as revenue surged 20% in the second quarter from the year-ago period on a monster 17% gain in comps. Domino's practice of "fortressing," or flooding a market with more stores that raised concerns about cannibalization, also seemed to pay off.

CEO Richard Allen told analysts last month: "I am if anything more enthusiastic about fortressing given what we've seen during the pandemic and the increased sale and momentum that we've had there around our delivery business."

Domino's is another restaurant the market has marked for a premium valuation because it is primed for this environment -- trading at roughly 35 times the next four quarters' earnings -- yet analysts still see long-term earnings growth of 15% annually. Coupled with its proven operational skills, this makes the pizza joint a likely winner still going forward.

Rich Duprey has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Chipotle Mexican Grill. The Motley Fool recommends Domino's Pizza. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Chipotle Mexican Grill, Inc. Stock Quote
Chipotle Mexican Grill, Inc.
CMG
$1,694.00 (-0.98%) $-16.73
Domino's Pizza, Inc. Stock Quote
Domino's Pizza, Inc.
DPZ
$410.18 (-1.62%) $-6.77
Darden Restaurants, Inc. Stock Quote
Darden Restaurants, Inc.
DRI
$130.70 (-1.26%) $-1.67
Yum! Brands, Inc. Stock Quote
Yum! Brands, Inc.
YUM
$117.51 (-0.37%) $0.44
Ruth's Hospitality Group, Inc. Stock Quote
Ruth's Hospitality Group, Inc.
RUTH
$19.46 (-1.21%) $0.24

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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