We are downgrading our rating on Red Robin Gourmet Burgers Inc (RRGB), a chain of casual dining restaurants founded in 1969, to Underperform from Neutral.
The rating downgrade is based on third quarter 2010 results, which were below the Zacks Consensus Estimate, as the company experienced a rise in cost, negatively impacting margins.
The company expects negative same store sales and cost inflation in the fourth quarter of 2010. We thus remain apprehensive regarding the stock in the near term, given eroding margins and lagging same store sales due to a decline in traffic.
Additionally, the company suspended its outlook for fiscal 2010 and provided a little insight for 2011, thus projecting a low visibility on the stock. Moreover, the stiff competition from other resturants like California Pizza Kitchen Inc (CPKI) to lure budget constrained consumers, and the presence of nearly 50% of the restaurants in areas hit hard by the recent housing downturn are causes of concern. These may dampen the company’s growth potential in the coming days.
Third Quarter Results Below Estimates
Red Robin’s third quarter adjusted earnings of 11 cents per share, which missed the Zacks Consensus Estimate of 22 cents, were down 70.3% from 37 cents in the year-ago quarter.
Restaurant operating margin contracted 120 basis points (bps) to 17.5% due to a 100-bps expansion in food and beverage cost and a 70-bps rise in labor costs, partially offset by a 50-bps decline in occupancy costs.
Red Robin has suspended its previous earnings and revenue guidance for fiscal 2010. For fourth quarter 2010, the company expects comparable restaurant sales to drop due to absence of television media campaign as well as tough year-over-year comparison. The company expects commodity and labor cost inflation to continue in the next quarter.
Red Robin remains on track to open 11 new company-owned restaurants, and 4 franchised restaurants in fiscal 2010.
Earnings Estimate Revisions: Overview
Following the third quarter earnings release, the Zacks Consensus Estimate for the company has decreased, with the analysts remaining cautious on the stock. The earnings estimate details are discussed below.
Agreement of Estimate Revisions
A negative inclination can be witnessed among the analysts. Revision trends in the last 30 days drifted toward the downward side. For the fourth quarter of 2010, out of 11 analysts, 8 slashed their estimates.
For fiscal 2010, 4 out of 6 analysts covering the stock decreased their estimates and for fiscal 2011, 9 out of 11 analysts have cut down their estimates. None of the analysts raised their estimates.
The analysts have trimmed their estimates based on a shortfall in third quarter, same store sales are expected to be negative in the fourth quarter, and there is little visibility regarding 2011. Additionally, cost and labor inflation is expected to intensify in the next quarter.
For 2011, the company is only 25% contracted for food commodities, thus margins are expected to remain under pressure in 2011 as well, given higher beef and cheese prices.
Magnitude of Estimate Revisions
In the last 30 days, earnings estimates have been trimmed by 8 cents to 7 cents for the fourth quarter of 2010 and by 6 cents to 23 cents for the first quarter of 2011. The estimates for the fiscal year 2010 and 2011 were also reduced drastically by 27 cents and 24 cents, respectively, to 67 cents and 84 cents.