The quick service restaurant industry has benefited in recent years from a "wave of refranchising" in which company-owned stores were sold to franchisees, Morgan Stanley said in an industrywide report. The top question in investors' minds is, according to the sell-side firm: what's next?
Morgan Stanley's John Glass, Christopher Carril, and Brian Harbour analyzed the eight largest all or nearly all-franchised restaurant stocks.
After a refranchising trend in the quick service restaurant industry over the past five years, now is the time to "look beyond the refranchising event itself" to identify which restaurant operators still boast catalysts, the analysts said.
Morgan Stanley measured the group of stocks on three different metrics: free cash flow yields, return of cash to shareholders, and income purity.
Here's a summary of the firm's findings.
Free Cash Flow Yields
The most undervalued company on a free cash flow basis is Restaurant Brands International Inc QSR, the analysts said.
Sonic Corporation SONC is "by far" the cheapest on this metric, but has had the most disappointing sales results over the past six quarters, according to Morgan Stanley.
Return Of Cash
Both QSR and Jack in the Box Inc. JACK can return more than 40 percent of their market cap to shareholders over the next three years, the report said.
Wendys Co WEN and Domino's Pizza, Inc. DPZ rank third and fourth, respectively, in terms of having the greater potential upside to existing capital return estimates.
Sonic, Yum! Brands, Inc.YUM and Dunkin Brands Group IncDNKN boast the "purest" franchise income stream, as 80 percent of reported EBITDA comes from royalty and fee income, the analyst said.
This metric is not "easily visible" in reported results and doesn't factor as much in valuation, according to Morgan Stanley.
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