Market Overview

Bank of America Upgrades Jack in the Box; Who Else Could Benefit?


On Friday morning prior to the opening bell, analysts at Bank of America Merrill Lynch (NYSE: BAC) upgraded shares of Jack in the Box (NASDAQ: JACK) to Buy from Underperform. The firm also raised its price target on the stock from $21 to $32. During Friday's trading session, JACK shares have reacted positively to the analyst upgrade and were last trading up more than 4% to just under $27. The analysts wrote that "our rating change is driven by higher estimates reflecting a combination of better sales at the flagship Jack in the Box brand and much more modest food cost inflation that magnifies the effect on margins."

They also pointed out that JACK is trading at the lowest EV/EBITDA multiple in the universe of quick service restaurant stocks that they follow at a discount to peers of roughly 30%. The analysts said that they are not factoring in a sum-of-the-parts valuation for Qdoba into their price target, but that "success at Qdoba would be a positive for valuation."

One of the catalysts for increased operating momentum that the analysts point to at Jack in the Box is an improvement in speed of service at the drive thru window. They noted that the company has a much broader menu than its quick-service competitors and also serves its entire menu all day, which puts it at a disadvantage in regards to service time. However, the analysts note that at McDonald's (NYSE: MCD) and Wendy's (NYSE: WEN), "a 6-second improvement in service times has historically improved same store sales by 1%."

The company is renewing its efforts to bring down service times, and Merrill Lynch believes that the implications of lower service times are "substantial" for Jack in the Box. One of the catalysts that the analysts mention which should be a headwind for the entire sector is lower food inflation. As input costs decrease, margins in the quick-service industry should increase.

One of the most likely beneficiaries of this trend is fast-food giant McDonald's which has seen its share price pull back recently. Year-to-date, the stock has lost nearly 12%, in part on concerns about Europe. The stock has been a tremendous long-term performer, however, and is currently yielding more than 3%.

Other names that should be able to benefit from similar trends as Jack in the Box include Wendy's (NYSE: WEN) and Yum! Brands (NYSE: YUM) which operates and franchises KFC, Pizza Hut and Taco Bell. Yum Brands, in particular, has been a strong stock in 2012, rising nearly 12% so far this year. The shares are also yielding around 1.73% at current levels.

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