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Here's Why Investors Should Steer Clear of Cheesecake Factory

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“Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.”- Warren Buffett.

At the moment, the quote fits perfectly for The Cheesecake Factory Incorporated (CAKE - Free Report) as the company’s near-term future looks bleak. Investors need to exercise extreme caution when it comes to the stock as it is unlikely to show any major improvement in the near term. Ever since the company reported its second-quarter 2018 results, the stock has declined 5.4% against the industry’s 4.2% growth.

Let’s delve deeper to find out what’s taking this Zacks Rank #5 (Strong Sell) company downhill.

Cheesecake Factory Vs Industry Scorecard

Higher Costs Continues to Impact Earnings

Of late, Cheesecake Factory’s profits have been under pressure due to a rising wage rate scenario. Moreover, pre-opening costs of outlets, given the company’s unit expansion plans and expenses related to sales initiatives, are adding to the costs and might hurt profits. In the second quarter of 2018, its labor expense ratio was 35.8%, up 190 bps from the year-ago quarter number. This uptick was primarily driven by higher hourly labor, including more wages, overtime and training costs. General and administrative expenses accounted for 7% of revenues in second-quarter 2018, up 80 bps from the prior-year quarter owing to $4.5 million of legal expenses.

In 2018, the company projects food inflation of more than 3%, particularly across poultry, dairy, bread and seafood. Wage inflation is anticipated to be about 5% in the same period.

Negative Estimate Revisions

After reporting lower-than-expected earnings in second-quarter 2018, analysts have lowered their estimates. Over the past 60 days, the Zacks Consensus Estimate for earnings has witnessed a downward revision of 7.9% and 8.6% to 58 cents and $2.45 per share for third-quarter and 2018, respectively. Notably, downward earnings estimate revisions raise questions on the stock’s future earnings potential.

Stiff Competition

The restaurant space is highly competitive as numerous restaurant operators are adopting advanced and prudent strategies to increase their sales. In fact, going by the current retail scenario, adapting to shifting demand has become a major precedence for retailers. In fact, companies with continual digital innovation, focus on product customization as well as launch and delivery of seamless consumer experience can only thrive in the competitive space. Consequently, this puts a lot of pressure on Cheesecake Factory to continuously change its strategies in correspondence to the fickle consumer demand.

Stocks to Consider

Some better-ranked stocks in the same space are Carrols Restaurant Group, Inc. (TAST - Free Report) , Dine Brands Global, Inc. (DIN - Free Report) and Darden Restaurants, Inc. (DRI - Free Report) . All the stocks carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Carrols Restaurant Group’s earnings have surpassed the Zacks Consensus Estimate by an average of 25%.

Dine Brands Global reported better-than-expected earnings in the trailing four quarters, with an average beat of 8.1%.

Darden Restaurants delivered better-than-expected earnings in the preceding four quarters, with an average beat of 3.1%.

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