A rocky start to this week’s trading reminded investors that volatility has not miraculously disappeared. But history tells us we are in store for an extended post-midterms rally, and consumer confidence is high heading into the holiday shopping period. This cocktail gives the bulls plenty to get excited about over the next few months.
Nevertheless, the lingering threat of uncertainty means investors should approach this stretch with prudent strategies. One thing to avoid right now is a company that is both noticeably underperforming its industry and witnessing lackluster business trends. This is exactly why Red Robin Gourmet Burgers (RRGB - Free Report) has earned our “Bear of the Day” designation today.
Red Robin Gourmet Burgers is a casual restaurant chain known for its burgers, fries, and relaxed—primarily suburban—dining locations. There are more than 550 Red Robin restaurants across the U.S. and Canada, including company-owned and franchised stores.
Red Robin reported its most recent quarterly results last week. The burger chain posted earnings of $0.16 per share, beating the Zacks Consensus Estimate by four cents. Revenue totaled $294.9 million, down about 3.5% from the year-ago period. Comps at company-owned stores were down 1.9%, and restaurant-level operating margin contracted to 16.8% from 18.6%.
Management also issued lackluster guidance for 2018. Red Robin now expects earnings to fall between $1.60 and $1.80 per share, which was below where estimates stood before the report. In the previous quarter, Red Robin said comps are now projected to shrink 1% to 2%, whereas previous estimates saw comps improve 50 to 150 basis points.
Analysts have since scrambled to move their estimates for future periods lower on the back of this negative outlook:
Red Robin shares have significantly underperformed the industry over the past year, but the stock did surge after its earnings report, as the bottom-line beat was seemingly enough to convince investors that the worst was over.
But as we can see from the above chart, earnings estimates are on the decline for Red Robin. This means that there is a divergence between the company’s share price momentum and its earnings outlook momentum. This is a troubling trend when earnings estimates are on the way down, as we expect share prices to eventually follow that indicator.
This divergence has also stretched Red Robin’s valuation. Here’s a look at how the stock has traded based on its projected forward 12-month earnings over the past six months:
Because of the divergence described above, RRGB’s forward earnings multiple has surged rapidly and is now close to moving above its average. This is still a discount compared to the broader industry’s average, but 19x is hardly cheap for a restaurant chain with shrinking margins, bad traffic trends, and rocky guidance.
The better way to play this industry would be to focus on companies that analysts are actually optimistic about—those that are seeing positive revisions to their earnings estimates. This is the crux of the Zacks Rank, so the easiest way to find these stocks is looking at our #1 (Strong Buy) list. Current restaurant industry members on the list include Papa Murphy’s (PZZA - Free Report) and The Habit Burger (HABT - Free Report) .
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