What happened

Shares of Dave & Buster's (PLAY -1.78%), Bloomin' Brands (BLMN 1.01%), and The Chefs' Warehouse (CHEF 1.14%) all dropped roughly 10% on Monday as the broader markets reacted to a jump in coronavirus cases in the U.S. and overseas, which could signal trouble for already struggling restaurant stocks.

So what

The U.S. had consecutive days of record new COVID-19 cases over the weekend, with the West and Midwest being the most severely hit. While the markets have rebounded from the initial spread in March and April, they are reacting not only to a spike in new cases but also to tightening restrictions in Europe. The notion that the globe could be trending toward more restrictions once again is enough reason for a small sell-off in stocks of restaurants that would almost certainly be hurt.

PLAY Chart

PLAY data by YCharts.

The Chef's Warehouse will give investors a glimpse into the industry's recovery when it reports results for its third quarter on Wednesday. Investors will be able to compare the results to the prior quarter, when the company had just over $240 million of liquidity but also a sharp 51.3% decline in net sales. While management noted that the second quarter was one of the most challenging in company history, it also did see gradual improvement from April to June, and it will be important to see if that momentum continued or plateaued through September.

Dave & Buster's has largely yet to recover from its decline in March, but it has announced a couple of positive developments. As of Oct. 4, the company had reopened 98 of its 136 locations in compliance with local health restrictions and guidelines, and comparable-restaurant sales consistently improved during the third quarter, moving from an 87% decline in July to a 75% and 62% decline in August and September, respectively. The arcade and restaurant company also intends to raise $500 million from senior secured debt due in 2025 for liquidity and relief from COVID-19 impacts.

Man and woman high fiving at an arcade

Image source: Getty Images.

Lastly, Bloomin' Brands, the parent company of Outback Steakhouse and Carrabba's Italian Grill, among others, noted late last week that it significantly outperformed industry comp benchmarks and witnessed strengthening sales trends. The company is also generating consistent positive cash flow and believes it has ample liquidity. It recorded weekly sales momentum through the third quarter with in-restaurant sales continuing to improve and its off-premise business retaining roughly 50% of the incremental sales volume it recorded while the vast majority of its dining rooms were closed due to local restrictions.

Now what

Ultimately, the initial impacts of COVID-19 have crippled restaurants that didn't adapt with strategies like pickup and delivery. Many have survived by taking on different forms of debt, but if a second wave of restrictions hits, or if consumers again turn more cautious, it could spell disaster for restaurants just barely hanging on with limited liquidity and rough balance sheets.

Investors need to do their due diligence on the liquidity and health of companies in the broader consumer discretionary segment.