We maintain our Neutral recommendation on The Wendy's Company (WEN) owing to its initiatives to boost sales, which is partly offset by capital expenses related to its re-imaging program and a decline in consumer spending.
Amid a volatile U.S. quick-service restaurant industry, Wendy’s remains poised to record increased year-over-year profitability buoyed by sales leverage and cost saving initiatives. We remain optimistic on the company’s solid menu pipeline and marketing initiatives.
Wendy’s has been gaining traction since the beginning of 2013 primarily buoyed by its ‘Right Price, Right Size Menu’ initiative. Under this initiative, the company unveils low priced meals and promotional offers for some of its items, thereby driving sales. On the promotional front, the company is also using digital devices for advertisements which will add to its customer base. As per eMarketer, since 2010, people have been spending more time on digital devices than TV or radio.
Meanwhile, the company undertook a system optimization initiative in Jul 2013. It intends to transition towards franchised operations. As per this initiative, the company seeks to divest 425 company-operated restaurants in 13 U.S. markets, mostly in the West, by the second quarter of 2014.
The company also intends to extend its franchising initiatives to its international markets. Wendy's has growth plans and partnerships in Argentina, the Philippines and Japan. Further, Wendy’s has long-term development agreements with franchisees in the Middle East, North Africa, Singapore, Turkey, Russia and the Eastern Caribbean region.
Additionally, the company is exploring growth opportunities in China, Brazil and other key international markets. These less saturated developing markets offer the company enormous growth opportunities. They have significant growth potential due to their relatively low per-capita consumption.
We believe franchising a large chunk of its system will facilitate earnings and return on equity growth by lowering capital requirements. Moreover, this will also add to the top line in the form of royalty and rental income. The company’s franchised business model allows it to generate strong free cash flow, thereby helping it to maintain a healthy balance sheet.
In the meantime, the company is focusing on its re-imaging efforts. These reimaging efforts will incur significant capital expenditure in the coming years, thus lowering free cash flow. Moreover, an uncertain economy, faltering consumer confidence as well as heightened competition remain concerns for the company.
Other Stocks to Consider
The company presently has a short-term Zacks Rank #3 (Hold). Some better-ranked stocks in the industry include Fiesta Restaurant Group, Inc. (FRGI), The Cheesecake Factory Inc. (CAKE) and Cracker Barrel Old Country Store, Inc. (CBRL). While Fiesta Restaurant Group carries a Zacks Rank #1 (Strong Buy), The Cheesecake Factory and Fiesta Restaurant hold a Zacks Rank #2 (Buy).