Wedbush analyst Nick Setyan has put forth the sector overview and 2023 outlook for U.S. restaurants. The analyst said, for the most part, share prices of restaurants increased even as 2023 estimates declined.
The trend was driven by the expectation that since peak inflation is in the rearview and restaurant pricing is catching up, the current '23 margin and earnings expectations are more reasonable. The recapture of the margin thesis is also corroborated by the outperformance of company-owned restaurants. Setyan questioned why didn't full-service see a stronger recovery in transactions in 2022, a year of post-COVID normalization.
As a category, they took fewer price increases than Restaurant Brands International (NYSE:QSR) and grocery. Yet, QSR's pandemic-driven share gains have remained surprisingly sticky. In order for margins to recover in line with current 2023 expectations, more price increases are necessary because of mid-single-digit inflation in '23.
However, unlike in '22, grocery inflation will not outpace restaurant inflation, the analyst said. While all three, Wingstop Inc (NASDAQ: WING), Domino's Pizza Inc (NYSE: DPZ), and Papa John's International Inc (NASDAQ: PZZA) are well positioned from a relative value perspective, we believe WING is unequivocally positioned for transaction-led Same-store sales growth and margin upside. The analyst expects SSS growth upside at Domino's, and given its valuation, Setyan vies it as an attractive proposition.
The analyst also downgrades Papa John's from Outperform to Neutral. Restaurants Brands burger is relatively well positioned as well, with both top and bottom-line expectations reasonable. The analyst also expects its marketing scale to drive transaction growth with a continuation of ‘cultural' innovation, with ‘Famous Orders' and the recent ‘Adult Happy Meal' as examples.
Full service to remain under pressure, with two standouts likely sustaining share gains, Texas Roadhouse Inc (NASDAQ: TXRH) & Darden Restaurants Inc (NYSE: DRI). Dine Brands Global Inc's (NYSE:DIN) 100% franchised model should allow it to sustain its value positioning without margin consequences, added the analyst. Setyan is concerned that Denny's Corp (NASDAQ:DENN) and One Group Hospitality Inc (NASDAQ:STKS) have overly optimistic margin expectations to hurdle in 2023.
So, both DENN and STKS are downgraded from Outperforming to Neutral. The analyst cited that fast casual may start to feel a top-line squeeze more than it has thus far, rendering it difficult to meet comparable sales and margin expectations. Shake Shack Inc (NYSE:SHAK) urban recovery continues, but at a much slower pace than analyst originally expected.
Its already high average check is not helped by ongoing high-single-digit price increases, the analyst added. The analyst has downgraded Shake Shack from Outperform to Neutral.