Does CMG appeal to Saul's board?

Investment Analysis Clubs Saul’s Investing Discussions
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I wrote this on the RB boards:

I had conducted a survey (over at SA I think) a few months ago on CMG stock price, and I believe there were some members who had even voited that the stock could go down to $250. I can’t imagine it going there because it is still my favorite restaurant. But I sold out of this between $560 and $600, watched it go down to $400 and then back up above $520 and now back to $440. What a ride! I am glad I am out, because such volatility is injurious to my health. Especially since the position I sold was about 12-16% of my portfolio.

I think I am prepared to get back in, fully knowing that this could go down further. I never once doubted that CMG will eventually recover and resume its growth. When this first occurred in Nov, my initial estimate based on similar issue with TacoBell was a 1 year recovery. It is quite possible that we might get a recovery of the business within a year. But who cares whether it is 1 year or 18 months? It matters a little but not a whole lot. Near term cash flows do get affected. Stock value is present value of its future cash flows. Near term cash flows carry more weight than long term cash flows. But it was selling over 35 times when it was at $600 and the trailing 12M EPS was 16.84.

2016 EPS estimates have been dramatically lowered to around $6.50 (I am not surprised, but this time it appears analysts overshot on the downside, just like their estimates for 2016 in early jan at around $13 was probably overshot on the upside).

Regardless, I believe CMG will return to normalcy, which means EPS over $16.50 and then growth related to new restaurants will eventually bring the EPS above $20 by 2018 or 2019. At $20 with 35X multiple or even higher as growth resumes, we can see a $700 stock.

Please advise what am I missing? Do you expect their profitability to improve or be hurt due to food safety measures? I think in the long term it improves, as they will move out certain tedious operations like chopping tomatoes for salsa out of the store into a central kitchen, which could improve productivity actually.

Also longer term, they have growth levers such as more aggressive catering, breakfast, hopefully Shophouse or the burger chain at some point, all potentially adding to a lot of upside.

We no longer have to perform some crazy math like I used to (using FCF and removing capex to assume steadiness in long run) to justify the high valuation. Current valuation can be justified by plain old Forward PE which frankly assuming $20 in 2019 is not that insane at 22 or 23.

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Hi Huddaman,
With a high priced stock like that, you get caught up with the $50 and $100 moves. One way to deal with that is to think of it as if you have 10 times as many shares at a tenth the price. Then this:

But I sold out of this between $560 and $600, watched it go down to $400 and then back up above $520 and now back to $440. What a ride!

becomes:

But I sold out of this between $56 and $60, watched it go down to $40 and then back up above $52 and now back to $44. What a ride!

It’s still a ride but not nearly as scary. Hope that helps

Saul

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Why are restaurant PE’s seemingly always around 30 - 35? I just don’t understand. That seems really high…but the weird thing is that it doesn’t seem related to growth potential.

2 examples:

BWLD - Buffalo Wild Wings grows revenue by about 20% each year. Their current PE is just under 30.

MCD - McDonald’s has actually had less revenue and earnings the last 2 years. Their PE is also just under 30.

I don’t get it.

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MCD - McDonald’s has actually had less revenue and earnings the last 2 years. Their PE is also just under 30.

I don’t get it.

I’m by no means an expert in restaurant stocks, but I
think what is going on with Macy’s stock is applicable
to McDonald’s as well…namely, investors are not
interested in the brand, but rather the underlying real
estate portfolio.

Recently, fund manager David Einhorn took a position
in Macy’s as an activist, and asked management to spin off
the real estate portfolio into a REIT similar to what
Sears recently did with the Seritage REIT…my first thought
when Einhorn took that position was that if getting control
of Macy’s real estate portfolio alone is worth buying Macy’s
stock (because let’s be honest the business itself is mediocre),
then McDonald’s real estate portfolio makes the stock a
screaming buy.

One key piece that I didn’t mentioned is that in both the
case of Macy’s, Sears, and McDonald’s, much of the real
estate portfolio is kept on the books at cost, which likely
understates its true worth by a wide margin.

Just my thoughts on why McDonald’s still gets the premium
valuation despite the US consumer slowly moving away from
their product.

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Recommendations: 5

MCD - McDonald’s has actually had less revenue and earnings the last 2 years. Their PE is also just under 30.

I don’t get it.

I guess it could be because the margins are so low it is purely a function of asset base or debt levels etc rather than growth of operations.

Ant

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Another thought on high p/e’s for restaurant companies. These restaurants have been around “forever” and an investor could reasonably believe that in 10 years they will still be in business. The 10-year view is clearer than for growing tech companies.
Now, combine that with Graham’s 1/3 safety standard. The 10-year AA corporate bond today is 2.47% which inverts to a 40.48 p/e equivalent. 2/3rd’s of that is 27.
Add to that the concept that you need get rich only once, and invest in a McD’s for 3. Sleep well, check the portfolio next year some time. Sweet.

KC

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