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4 Reasons to Stay Away from Cheesecake Factory (CAKE) Now


The Cheesecake Factory Incorporated CAKE is one of the most recognized upscale casual restaurants chain operating in the U.S. It taps all dining preferences from lunch and dinner day parts to the mid-afternoon and late-night day part.

Despite challenging economic conditions, the company has been expanding in the domestic as well as international markets. We believe that various strategic initiatives have boosted traffic volume and sales.

Nevertheless, over the past six months, Cheesecake Factory with a Zacks Rank #5 (Strong Sell) has lost 14.8%, faring miserably against the Zacks categorized Retail-Restaurants industry’s gain of 8.7%.

Let’s take a look at the factors that make the stock look unattractive at this point.

Earnings miss and downward revision in estimates: The company’s lackluster bottom-line performance in the last reported quarter disappointed investors. Its earnings of 72 cents missed estimates by 1.4%. Sales in the quarter also missed the same by a slight margin.

Consequently, Cheesecake Factory has witnessed its current-quarter earnings estimates decline by 10.5% over the past 60 days, on the back of seven downward revisions as against none upwards. The same for the current year have also gone down by 6.3% due to seven downward revisions versus none in the opposite direction.

Guidance cut: The company now expects fiscal second-quarter 2017 comps to be down roughly 1% at Cheesecake Factory restaurants, after previously projecting an increase in the band of 1% to 2%. In fact, this casual restaurants chain anticipates the lowered comps outlook to impact both margins and earnings per share (EPS) in the fiscal second quarter as well. Earlier, it had guided EPS in the range of 85 cents to 88 cents, for the quarter.

The company revealed that it has been witnessing heightened volatility in week to week sales trends, indicative of uncertainty on the part of many customers.

In fact, it particularly blamed weakness at its U.S. restaurants in the East and Midwest for soggy sales. Unfavorable weather condition in these regions also reduced patio usage – a big draw for the chain. This, in turn, has more than offset positive comps experienced in key markets of California, Texas and Florida.

Notably, at its fiscal first quarter conference call the company had already slashed its fiscal 2017 adjusted EPS projection. Additionally, Cheesecake Factory had cut its comps guidance for the full year as well.

Industry headwinds: Over the past few quarters, the U.S. restaurant space has not been too enticing. Despite economic growth, somewhat lower energy prices and higher income, consumers increased their spending only modestly on dining out, which resulted in low consumption over the past few quarters. This is because, along with wage growth, inflation is also on the rise, which translates to lower real income and in turn less disposable income. The situation has taken a worse turn, thanks to higher health care costs and tightened credit availability in the U.S.

Moreover, as consumers demand high-quality products at lower prices, it is pushing grocery stores to decrease their food prices in order to remain competitive. This is resulting in a bigger gap between food-at-home and food-away-from-home indices.

Consequently, same-store sales growth has been dull in a difficult sales environment. Traffic too has been weak. In fact, the first quarter of 2017 marked the fifth consecutive quarter of negative comp sales for the restaurant industry as a whole, thereby continuing the somber mood. As a result, Cheesecake Factory’s sales have come under pressure.

Rising costs putting pressure on margins: Of late, the company’s profits have been under pressure owing to a rising wage rates scenario. Moreover, pre-opening costs of outlets given the company’s unit expansion plans, and expenses related to sales initiatives are adding to the costs and are likely to hurt profits. In fact, the company projects a year-over-year decline in operating margins in fiscal 2017 given the labor pressure and a little less favorable commodity environment, which in turn will lead to lower EPS.

It is also to be noted that the company has put up a historical (3-5 years) EPS growth of just 0.1%, while the Zacks categorized Retail-Restaurants industry has recorded a gain of 6.7%. Looking at the projected figures we find that the company is expected to grow its EPS by just 1.3%, while the industry average EPS growth expectation is 6.4%.

Stocks to Consider

Investors interested in the restaurants space, may consider these better-ranked stocks instead:

Dave & Buster’s Entertainment, Inc. PLAY surpassed earnings estimates in all of the trailing four quarters with an average positive surprise of 30.50%. Currently, the company carries a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Red Robin Gourmet Burgers, Inc. RRGB is another Zacks Rank #1 company, which has seen current year earnings estimates move up 4.4% in the last two months.

Darden Restaurants, Inc. DRI has also surpassed earnings estimates in each of the trailing four quarters, recording an average positive surprise of 3.35%. It currently holds a Zacks Rank #2 (Buy).

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