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Cheesecake Factory(CAKE), A Sweet Addition for your Portfolio?


Tuesday, August 15th, 2017

In a recent interview with successful fund manager, Joel Tillinghast, the claim was made that to be successful with investing, investors may have to hold ideas that are unpopular over the short term. The Cheesecake Factory (CAKE) has been an unpopular investment this year. It had a 52-week high of $67.14, but it is now trading at $44.40 which is near its 52-week low of $44.02. With this decline, has CAKE become a value opportunity?

The company currently operates 208 restaurants with a majority operating under the Cheesecake Factory name in the United States. The company also has 13 Grand Lux Cafes, 1 Rock Sugar Pan Asian Kitchen, and 15 licensed Cheesecake Factories in the Middle East, China, and Mexico. In addition to the restaurants, the company produces cheesecakes and other baked goods for food service operators, retailers, and distributors. Before investing in this business, it would be important to understand how much of the company’s revenue is generated at the restaurants compared to its production of baked goods. This is an important factor considering the restaurants are usually located at malls and mall traffic has been declining which could hurt potential sales moving forward.

Looking at the valuation ratios, the current Price/Earnings Ratio is 15.74, while the industry average is 24.99. Price/Sales of 0.92 is well below the industry average of 2.56. This would be a positive for the company, as investors are getting a great value for the sales. Price/Tangible Book value of 3.42 which is favorable to an industry average that is not material. In looking at various restaurants in the past, we know the franchising model for many companies often leads to negative equity. We like seeing the tangible equity for the Cheesecake Factory. Price/Cash Flow of 9.12 is also well below the industry average of 17.69. The valuation ratios for the company all look very promising compared to the industry average.

The Cheesecake Factory pays a decent dividend of 2.58% and only uses 32.7% of earnings to pay out that dividend. This is beneficial as the company has excess earnings to invest in other parts of the business after paying the dividend. It also shows the dividend is very safe at its current level.

Sales have grown by 6.02% year over year versus the industry average of 1.70% and EPS has grown by 13.68% over the same time period compared to the industry average of 10.93%. These are both positives, as we like to see sales and EPS increase over time, especially if they are out pacing the industry average.

Turning to the balance sheet, a current ratio of 0.64 is concerning as it does not provide much liquidity to the company. It shows the current liabilities exceed the current assets, which could be problematic. One potential problem that may be holding down the current ratio is the accounting for gift cards. When gift cards are sold, they are not counted as a sale but are rather accounted for as a liability. This is one potential explanation, but this low current ratio would have to be further explored before an investment into this company could be justified. Continuing with the balance sheet, the Total Debt/Equity is phenomenal as it is 0%. This means the company has no debt on the balance sheet, which is a major positive.

Looking forward to December 2018 and using a forward multiple of 16.5 on estimated GAAP EPS of $2.93 gives us a target sell price of $48.35. This would provide a narrow-estimated return of approximately 9%. We only like to buy companies when we have a nice margin of safety of 30%. The company has many positives, but the minimal estimated growth would put it in the hold category at our firm.

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