Wendy's Upgraded to Strong Buy - Analyst Blog

On Mar 11, 2014, Zacks Investment Research upgraded The Wendy's Company WEN to a Zacks Rank #1 (Strong Buy), driven by its improved outlook for 2014 provided at its fourth quarter earnings call.

Why the Upgrade?

Wendy's posted mixed fourth-quarter results on Feb 27, 2014. Earnings of 11 cents per share beat the Zacks Consensus Estimate by 10.0% and increased 22.0% year over year, driven by a decline in total costs and expenses.

However, total revenue declined 5.9% year over year and also fell short of the Zacks Consensus Estimate by 2.1% due a reduction in the number of company-operated restaurants. The reduction comes in the wake of a system optimization initiative undertaken by the company since Jul 2013 that aims at transitioning towards franchised operations. We believe that the company's franchised business model will boost earnings and help the company to generate strong free cash flow, thereby enabling it to maintain a healthy balance sheet.

Meanwhile, the company experienced year-over-year growth in comps during the quarter driven by the successful promotions of the Pretzel Pub Chicken sandwich and Bacon Portabella Melt on Brioche rolled out during the third quarter of 2013. North America company-operated restaurant margins increased 40 basis points (bps) to 16.3% driven by comps growth and lower paper and beverage costs.

Despite sluggish sales, the decent performance on the earnings front signals that the restaurateur is successfully transitioning itself and working on its cost structure. Meanwhile, the company also expects earnings to improve year over year in 2014. Company-operated restaurant margins at Wendy's are expected to be within 16.8%–17.0%, helped by strong comps and aggressive cost-savings initiatives taken by the company. Driven by an optimistic outlook, estimates for 2014 largely moved upwards. Moreover, the average positive surprise for the last four quarters came in at 31.67%.

Menu innovation, re-imaging of units, net domestic unit growth and international expansion set a more bullish tone for the company for the near future.

Other Stocks to Consider

Other players in the restaurant industry, which look attractive at current levels, include Brinker International, Inc. EAT, Buffalo Wild Wings Inc. BWLD and Carrols Restaurant Group, Inc. TAST, all with a Zacks Rank #2 (Buy).