You may have seen full service restaurant chain Bob Evans ( BOBE ) or restaurant and "country store" chain Cracker Barrel ( CBRL 3.12% ) at an interstate exit near you and think it's a good idea for investment. However, it always pays to do your research to see if a company is growing its revenue and free cash flow, and holding some of that cash flow for reinvestment. It's also important to figure out what drives these publicly traded businesses.
Down on the farm and beyond
Bob Evans operates 563 locations in the United States in approximately 19 states . The company's two major segments include Bob Evans Restaurants which provides a family restaurant atmosphere and Bob Evans Foods or BEF Foods which distributes food to grocery store chains throughout the United States. Brands include Owens and Country Creek.
Bob Evans steady decline
Over the past five years revenue, net income, and free cash flow declined 7%, 104%, and 81% respectively. The extinguishment of $157 million in debt contributed to the negative five year net income comparison. A steady decline in revenue in Bob Evan's former subsidiary Mimi's Café' contributed to the overall decline in revenue and net income.
Mimi's Café presented a French style bistro theme representing a vast deviation from the farm style family theme of Bob Evans. In a right move, Bob Evans decided to sell the chain in February 2013.
Free cash flow declines stem from increasing capital expenditures during the past three years, most notably the huge capital commitment to the BEF Foods segment in 2013 due to plant expansions. Moreover, Bob Evans committed capital funds to the remodeling of Bob Evans restaurants throughout 2013 and 2014 with further plant expansion for BEF Foods.
Looking at Bob Evan's most recent balance sheet, its $5.4 million in cash clocked in at 1% of stockholder's equity last quarter which resides in the minuscule range. You should feel comfortable with cash to stockholder's equity balance of at least 10%.
Bob Evans' long-term debt to equity balance registered at 0.17% during the quarter due to its debt pay down efforts. Long-term debt creates interest that chokes profitability and cash flow over the long-term. Investors should look for long-term debt to equity ratios of 50% or less. In the most recent quarter, operating income exceeded interest expense by 34 times versus only six times at the same time last year. The rule of thumb for safety resides five times or more.
Bob Evans pays a dividend. The best way to evaluate a company's dividend sustainability is to look at the percentage of free cash flow a company pays out in a year. Like long-term debt to equity, a good figure lies at 50% or less meaning that 50% of a company's free cash flow gets paid in dividends and the other 50% gets used for other things.
Last year, Bob Evans paid out 85% of its free cash flow due to depressed cash flow stemming from heavy capital commitments from the company. Currently the company pays its shareholders $1.24 per share per year and yields 2.5%.
The old country store and restaurant
Cracker Barrel represents a slightly larger chain of 624 company owned stores spread across 42 states. Cracker Barrel offers its customers an interesting consumer experience. Upon walking into a location you can shop for merchandise such as toys, DVDs, and an assortment of candy while waiting for a table. This experience gives the company an edge over its many competitors. Over the past five years the company derived 80% of its overall revenue from its restaurants and the remaining 20% from its country store merchandise.
Fundamentally, Cracker Barrel fared better than Bob Evans over the last five years with revenue, net income, and free cash flow growing 12%, 78%, and 40% respectively. Store expansion and same store sales in the last three years contributed to the revenue gains. Higher margins stemming from relatively lower expenses contributed to the gains in net income. Higher net income and relatively lower post-recession capital expenditures contributed to the increase in free cash flow.
Looking at Cracker Barrel's balance sheet from its most recent quarter, its $88 million in cash equated to 18% of stockholder's equity. However, it held $389 million in long-term debt equating to 80% of stockholder's equity. This represents a reduction from 85% a year earlier. Year to date operating income exceeded interest expense 11 times versus five times the same time in 2013.
Last year Cracker Barrel paid out a frugal 34% of its free cash flow in dividends. Currently the company pays its shareholders $4 per share per year yielding 4%.
Overall any restaurant chain faces an immensely competitive landscape. They also face a recession weary consumer base serving as a friction to traffic.
Bob Evans should start to see a turnaround as it gets past the underperformance of its Mimi business and invests in the remodeling of its restaurants and its grocery distribution business. Consumers who like Bob Evans and don't have a restaurant nearby can go to the grocery store to buy its food. The new remodeling effort may draw in more consumers. Investors may want to play wait and see as the company trades at 30 times earnings versus 20 for the S&P 500.
Cautiously, Cracker Barrel continues its expansion with seven planned openings for 2014. Investors might want to consider Cracker Barrel as its sports more cash on its balance sheet, better dividend sustainability and yield, and a lower valuation with a P/E ratio of 19 making it slightly undervalued relative to the market.