Zacks Industry Outlook Highlights: McDonald's, Yum! Brands, Krispy Kreme Doughnut, Dunkin' Brands Group and Darden Restaurants

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Oct 02, 2013, 09:30 ET

CHICAGO, Oct. 2, 2013 /PRNewswire/ -- Today, Zacks Equity Research discusses the U.S. Restaurant, including McDonald's (NYSE:MCD-Free Report), Yum! Brands (NYSE:YUM-Free Report), Krispy Kreme Doughnut Inc. (NYSE:KKD-Free Report), Dunkin' Brands Group Inc. (Nasdaq:DNKN-Free Report) and Darden Restaurants Inc. (NYSE:DRI-Free Report).

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Industry: Restaurant

Link: http://www.zacks.com/commentary/29232/

Not all companies performed equally well in the quarter. While some were laggards, others posted solid results mostly on their individual strength. While 31% of operators missed the Zacks Consensus earnings estimates this season, 60% surpassed theirs and about 9% met. Some operators blamed a softer economic trend for the insignificant growth in revenues.

Industry behemothMcDonald's (NYSE:MCD-Free Report) delivered weaker-than-expected earnings in the second quarter and in-line revenues hurt by comps deceleration, while another renowned operator, Yum! Brands (NYSE:YUM-Free Report), topped its earnings estimate but fell shy of revenue expectations mainly due to issues in China. However, we believe that both the companies will rebound in the long run, once the global issues subside.

Earnings Trend

The restaurant industry falls under the broader Retail-Wholesale sector, which portrays a stable earnings trend in recent times. The second quarter 2013 results for the sector were impressive in terms of both beat ratios (percentage of companies coming out with positive surprises) and growth.

The earnings "beat ratio" was 51.2%, while the revenue "beat ratio" was 32.6%. Total earnings for this sector went up 7.2% in the second quarter from 5.6% growth in the first quarter of 2013. The improvement came from the upside in revenues. On the revenue front, the sector has seen an increase of 4.2% in the second quarter on the top of a 2.8% increase in the prior quarter.

Looking at the Consensus earnings expectations for the rest of the year, we are positive since earnings are expected to grow a modest 3.9% in the third quarter of 2013 and 7.1% in the fourth quarter thereby registering full-year growth of 7.6%. For the next year, the sector is poised to expand around 16.5% with 10.9% growth in the first quarter itself.

While revenue surprises started off on the weak side, the sector is anticipated to gain momentum from the fourth quarter of this year. For more details about earnings for this sector and others, please read our 'Earnings Trends' report.

OPPORTUNITIES

Cooling Commodity Inflation in the US

The food cost inflation seems to have eased as the nation emerged out of severe drought in the Midwest growing region last year. Food costs account for about one-third of restaurant sales, thus making the industry vulnerable to food cost inflation.

As suggested by the U.S. Department of Agriculture (USDA) report, price inflation for all food is expected at 1.5-2.5% in 2013 down from 2.5-3.5% estimated previously. Commodities like fish and seafood, dairy products, fats and oils, sugar sweets, non-alcoholic beverages, cereals and bakery products and other foods will likely witness a decline in prices.

Although USDA expects poultry costs to increase in 2013, feed prices will likely cool off with a favorable weather in the new harvest season, leading to lower poultry prices in 2014.

Domestic and International Unit Expansion

Emerging from a lackluster economy from more than three years back, most of the companies have accelerated their pace of restaurant openings. A relative recovery in consumer confidence has also encouraged companies to return to unit expansion.

Besides spreading their wings in the home country, the companies also aim to test waters in foreign shores. Restaurateurs are primarily concentrating on emerging markets that provide ample opportunities for expansion. The burgeoning middle income population in emerging countries encourages the companies to shift their spotlight from the somewhat saturated domestic market. McDonald's, Yum!, Krispy Kreme Doughnut Inc. (NYSE:KKD-Free Report), Dunkin' Brands Group Inc. (Nasdaq:DNKN-Free Report) and Darden Restaurants Inc. (NYSE:DRI-Free Report) have been quite active on this front.

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