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Cheesecake Factory posted poor 3Q earnings as commodity costs hit the bottom line but – perhaps less transient – the top-line also missed.

CAKE posted a disappointing number after the market close, with EPS coming in at $0.36 versus expectations of $0.38.  Total same-store sales came in at 0.8% (including 40 basis points of negative impact from Hurricane Irene).  Cost of sales, restaurant margins, and operating margins were all the wrong side of expectations by 10 basis points in each case.  Dairy costs, which management claimed earlier in the year would be favorable in the fourth quarter, were a significant headwind in the third quarter and overall food costs are going to be more of a headwind than expected – by ~$1.00 – in the fourth quarter.

Here are our Top 10 Takeaways from the CAKE quarter:

  1. The concept’s top-line struggled through the quarter as price was taken and gas prices were elevated.  Consumer confidence is not, according to the company, improving quickly. 
  2. There was roughly 1.6% of pricing on the menu which implies, given the comp, -0.8% of negative mix shift in the quarter.  Management expects the mix drag on the top-line to continue until incidence of alcoholic and non-alcoholic beverages increase.
  3. On the brighter side, the company’s new units perform – from a sales perspective – above the average of the rest of the store base.  Additionally, the new store openings have been quite geographically diverse: California, Texas, Florida, and the Northeast.
  4. California, Texas, and Florida were highlighted for ongoing strength.  It came as a slight surprise to us given the decline in California Retail Sales and Use Tax Receipts in September. 
  5. Margins were a disappointment this quarter with commodity costs the most obvious culprit.  As management put it, “normalized for commodity cost, margins are healthy, as we effectively leverage costs across our P&L.
  6. Food costs remain a wild card for the fourth quarter.  Dairy prices have been extremely volatile and the company seems less confident on this line than they were prior.  Cheese prices will be worth watching in our weekly commodity monitor (chart below).
  7. From a top-line compare perspective, the fourth quarter is easy (versus a 0.9% rather than a 2.8% in 3Q). 
  8. The sentiment on the name is extremely bullish given the less-than-perfect fundaments and we believe that there is plenty of room – and reason – for downgrades to follow this poor quarter (second chart below).
  9. The company’s guidance won’t go far towards halting any downgrades in their tracks.  The company guided to $1.80-1.90 in EPS versus the Street at $1.87 and 1.5% to 2.5% comps versus the Street at 2.3%. 
  10. Strong Knapp figures didn’t seem to show in CAKE’s results.  While the stock has been beaten up recently, we remain negative on the name

CAKE: STILL A STRUGGLE - cake quadrant

CAKE: STILL A STRUGGLE - cake ss sentiment

Howard Penney

Managing Director

Rory Green