Expect Morton's to Market Perform

Morton's Restaurants' (MRT - Snapshot Report) reputation for serving world-class food and hospitality will remain strong and drive sales longer-term. We think when the economy improves in the late 2009-2010 time frame, Morton's can grow earnings at a Compound Annual Growth Rate of 10% to 13% by adding new units and growing same-store sales through increased boardroom utilization, and modest price increases.

However, the restaurant industry's profits are suffering from higher costs and declining traffic, and Morton's is no exception. We have noted in the past that Morton's extreme reliance on corporate spending and moderate financial leverage will work in reverse as the economy slows down. At this point, visibility to the second half of 2008 and 2009 earnings is murky and therefore we think the risk/reward is not favorable.

Roughly, 80% of Morton's customers are business people dining on expense accounts. In an effort to boost comps, and broaden its customer base outside business clientele, Morton's is remodeling its bars, now called Bar 12-21, to attract new customers  who might not ordinarily eat at a high-end steakhouse but if impressed, may return and dine at the restaurant. We imagine the management will also boost its marketing initiatives to drive traffic further.

Morton's shares trade at a discount to competing upscale steak and seafood chains, despite returns that are in line to superior than many of its competitors. In the last economic downturn, Morton's was hit harder than many of its competitors, owing to shriveling sales and high debt levels. In addition, private equity firms still hold 36% of Morton's shares, and we think their eventual selling may pressure the stock. Therefore, at this level, we believe shares of Morton's are fairly valued, and should perform in line with the market. Our six-month target price is $7.

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