3 Restaurant Stocks to Watch Despite Industry Challenges

The restaurant industry is navigating a challenging macroeconomic environment marked by inflation, high operating costs, and declining traffic due to menu price hikes, leading to a 12.7% underperformance against the S&P 500 over the past year and a low Zacks Industry Rank. Despite these headwinds, the sector is experiencing robust sales growth, with August figures reaching $99.5 billion, propelled by average check growth, strategic expansion, digitalization, and strong off-premise sales. Amidst this mixed outlook, Dutch Bros (BROS) is highlighted for rapid expansion and strong growth projections, Red Robin Gourmet Burgers (RRGB) for menu innovation and cost management, and BJ's Restaurants (BJRI) for operational efficiency and remodeling efforts.

Analysis

The restaurant industry is navigating a challenging macroeconomic environment characterized by persistent inflation, reduced consumer purchasing power, and declining traffic, primarily due to rapid menu price hikes. This has led to increased operating costs and wages, pressuring margins, and is reflected in the industry's Zacks Industry Rank #214 (bottom 11%) and its 12.7% underperformance against the S&P 500 over the past year. The aggregate negative earnings outlook for constituent companies further underscores these difficulties.

Despite these significant headwinds, the sector demonstrates resilience through robust sales growth, with August figures reaching $99.5 billion, a 0.7% increase from July. This growth is primarily driven by average check increases, strategic expansion efforts, and significant advancements in digitalization and off-premise sales. Partnerships with delivery platforms and the adoption of ghost kitchens are key catalysts in this shift, helping to offset traffic declines.

The industry's forward 12-month P/E of 22.6X currently trades below the S&P 500's 23.82X and the broader sector's 25.05X, positioning it near its five-year low valuation. This mixed outlook suggests selective opportunities exist within the sector, particularly for companies demonstrating strong operational execution and growth strategies. Dutch Bros (BROS) stands out with a 68.3% gain over the past year and projected 2025 earnings growth of 38.8%, indicating strong market confidence.

Red Robin Gourmet Burgers (RRGB) shows improving fundamentals with a narrowed loss per share and benefits from menu innovation and cost management, despite a 14% stock decline over the past year. BJ's Restaurants (BJRI) is also focused on operational efficiency and remodeling, with anticipated 2025 earnings growth of 45.6%. These individual company strengths contrast with the broader industry's struggles, highlighting the importance of bottom-up analysis.

Key Decisions for Investors

• Given the mixed industry outlook and underperformance, investors should adopt a highly selective approach, focusing on companies with proven growth strategies, strong operational efficiency, and effective cost management.
• Closely monitor macroeconomic indicators like inflation and consumer spending, while prioritizing companies that are aggressively leveraging digitalization and off-premise sales channels for sustained growth.
• Consider the industry's current valuation near its five-year low as a potential entry point for high-growth companies like Dutch Bros, but exercise caution with those facing significant traffic declines or margin pressures.