Restaurants increase convenience and give many people a place to unwind. But it’s not all sunshine and rainbows as they’re notoriously hard to run thanks to perishable ingredients, labor shortages, or volatile consumer spending. These factors have weighed on the industry over the past six months as its 1.1% return has fallen short of the S&P 500’s 3.5% gain.
A cautious approach is imperative when dabbling in these companies as many will light cash on fire by opening new locations without the proper justifications. With that said, here are three restaurant stocks we’re steering clear of.
Yum China (YUMC)
Market Cap: $17.25 billion
One of China’s largest restaurant companies, Yum China (NYSE: YUMC) is an independent entity spun off from Yum! Brands in 2016.
Why Do We Think Twice About YUMC?
- The company has faced growth challenges as its 5.1% annual revenue increases over the last six years fell short of other restaurant companies
- Disappointing same-store sales over the past two years show customers aren’t responding well to its menu offerings and dining experience
- Lacking pricing power results in an inferior gross margin of 20.3% that must be offset by turning more tables
At $50.17 per share, Yum China trades at 17.5x forward P/E. Check out our free in-depth research report to learn more about why YUMC doesn’t pass our bar.
Brinker International (EAT)
Market Cap: $6.74 billion
Founded by Norman Brinker in Dallas, Brinker International (NYSE: EAT) is a casual restaurant chain that operates the Chili’s, Maggiano’s Little Italy, and It’s Just Wings banners.
Why Are We Cautious About EAT?
- Limited expansion of restaurants suggests it’s prioritizing efficiency over growth at this stage
- Estimated sales growth of 4.2% for the next 12 months implies demand will slow from its six-year trend
- Challenging supply chain dynamics and bad unit economics are reflected in its low gross margin of 17.7%
Brinker International’s stock price of $154.73 implies a valuation ratio of 13.5x forward P/E. Dive into our free research report to see why there are better opportunities than EAT.
Kura Sushi (KRUS)
Market Cap: $706.5 million
Known for its conveyor belt that transports dishes to diners, Kura Sushi (NASDAQ: KRUS) is a chain of sushi restaurants serving traditional Japanese fare with a touch of modernity and technology.
Why Are We Out on KRUS?
- Weak same-store sales trends over the past two years suggest there may be few opportunities in its core markets to open new restaurants
- Cash-burning history makes us doubt the long-term viability of its business model
- Depletion of cash reserves could lead to a fundraising event that triggers shareholder dilution
Kura Sushi is trading at $59.90 per share, or 32x forward EV-to-EBITDA. Read our free research report to see why you should think twice about including KRUS in your portfolio.
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