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Restaurant Stock of the Year: Wendy's

The Exchange
A Wendy's single with cheese large combo meal is photographed at a Wendy's restaurant in Mt. Lebanon, Pa. The Wendy's Co. reports quarterly financial results before the market opens on Thursday, Nov. 7, 2013. (AP Photo/ File)

Thanks to a combination of menu creativity, a continuing image revamp and big rewards for shareholders, Wendy's (WEN) is our chain restaurant stock of the year for 2013.

Wendy's excelled in a few key areas, but we'll start with where it makes its money the food. This year it was marked by a serious bet on bread, especially with the launch of the Pretzel Bacon Cheeseburger (and later a chicken version) over the summer, but also evident with trials of a brioche roll and flatbreads. Meanwhile, on its value menu, Wendy's changed things up by putting in more variety than it previously had. With dessert, the Frosty line got a waffle cone alternative for those bored with paper cups.

Clearly, Wendy's isn't the only place in town that rolls out trials or permanent new items to prop up traffic in this or any year. McDonald's (MCD), for instance, went with wraps, wings and egg whites, while Burger King (BKW) brought a turkey burger and lower-calorie fries to the table. However, the pretzel bun in particular was an interesting step for a fast-food giant, mimicking what you might see at a mid-priced independent bar and grill.

In the stores themselves, an ongoing remodel is producing a modern, fast-casual feel. McDonald's and Burger King are also in the midst of upgrades, but Wendy's probably has the most notable shift of the Big Three burger shops. Plus, its marketing campaign with "Wendy's girl" Morgan Smith Goodwin has given the company its strongest commercial representative since founder Dave Thomas died in 2002 -- when she's on TV, you know you're looking at a Wendy's ad.

Another critical factor in the restaurant of the year decision has been its restructuring of costs. Wendy's set plans this year to sell more than 400 corporate-owned stores to franchisees. Though revenue is lost when a unit leaves the corporate nest, it makes it easier for the company and investors to plan for the royalties that will result, while decreasing expenses and boosting profit margins. (Wendy's is on track for its best annual profit in years.) It still trails Burger King and some others in terms of its owned percentage, but it will be down to around 15% before long. A lesser component, but still part of the picture, came from Wendy's refinancing of another part of its debt, a decision that will lower its interest payments.

Eat your greens

Stockholders have gotten on board. Of 36 publicly traded restaurants we surveyed, which on the whole have had a stellar run, Wendy's outperformed the group in 2013. Whereas the set was up, on average, 48.8% through the close of trading Dec. 10 the S&P 500 is up 26.4% in comparison Wendy's beat that soundly, gaining 80.4% to $8.48 over that span.

The entire industry was propelled in part, analysts say, by large investors such as growth-fund managers hunting for stocks to meet their investment criteria. "Restaurants, especially the quick casual category, happen to be a group where there are actually a decent number of growth names," says Nick Setyan, an analyst with Wedbush Securities.

Stock offerings from Noodles & Co. (NDLS) and Potbelly (PBPB) gave investors reason to focus on their options, he says. At the same time, older names such as Dunkin' Brands (DNKN) and Burger King have benefited from their heavy reliance on franchising, which gives shareholders visibility into cash flow, and low interest rates, providing room to borrow cheaply if need be.

Among the companies known primarily for their burgers, Wendy's easily surpassed their 56.4% average rise. Narrowing it down further to its larger rivals, it exceeded the 29.7% climb in No. 2 chain Burger King and the 8.2% increase in McDonald's, the biggest American burger seller, by a wide margin. Along with its price appreciation, Wendy's boosted its dividend for the second time in a matter of months. Though the yield's not extraordinary at 2.3%, it is generous relatively speaking, exceeding the 2% average rate of the dividend payers in the restaurant group.

Now, one could make an argument for others, and a few stocks do merit special mention. Sonic (SONC) and Red Robin Gourmet Burgers (RRGB) are each up around 100% so far this year, but they get slight deductions for not paying dividends. Were price appreciation the sole consideration, Taco Cabana operator Fiesta Restaurant Group (FRGI), spun off from Carrols (TAST) last year, would be a sound pick, considering its 203% jump. Buffalo Wild Wings (BWLD) would have been another fine option, with its 101% advance. Or, if you like a socially conscious company, Chipotle (CMG) had a perfectly acceptable 75.3% bounce.

The downside

Wendy's isn't perfect. Despite its message of being "a cut above" and its appeals to the public with fresh ingredient pronouncements, Wendy's is still fast food, not health food. Being a chain, its wages are low, with crew and team members generally reporting pay of $7.40 to $7.69 an hour on Glassdoor.com.  This will bear watching in the months, maybe years, ahead, if a nascent movement by unions and labor activists to raise fast food and retail compensation gathers steam.

Also, same-store sales were sluggish for months, though that's an industry-wide worry, and promotional items have helped Wendy's perform much better of late. Still, it does rely on a shaky consumer, whose spending remains tentative, for its security. Additionally, its board chairman, Nelson Peltz, controls about one-quarter of the stock. If you're an investor, that's fine assuming you have faith in him, but potentially problematic if you don't -- if you disagree with the choices he and his allies make, there's not much you can do about it.

Finally, the share price. Wendy's isn't exactly cheap now in terms of its valuation, and it's hard to see a repeat performance happening easily next year. That would take the stock past $15 a share, a level its earnings aren't likely to justify and one analysts may be hard-pressed to support a mere 12 months out. Doubters have been piling on, with the number of shares sold short tripling in the past year.

So in all probability, the food group will have a new stock of the year in 2014, but that's a call for another time. For now, it's Wendy's.