CAKE - MOONLIGHTING IN NIRVANA

CONCLUSION - I have reservations about CAKE going into the quarter.

Referring to our restaurant industry SIGMA chart, all restaurant companies want to live in Nirvana; with same-store sales positive and margins growing on a year-over-year basis. 

Not all of the restaurant companies in Nirvana are there for the same reasons; some companies may be lapping easy comparisons, driving comps entirely by pricing or thanks to a temporary, but very favorable, cost environment.  In these cases, such companies will not sustain their positions in the Nirvana quadrant. 

It appears that CAKE may be “moonlighting in Nirvana” and could be particularly vulnerable to sliding to a less favorable position in the second half of 2010 and maybe as early as 3Q10.  CAKE’s same-store sales  could also face pressure going forward due to an average check problem; customers have been trading down to small plate and snack items.  This will likely lessen the positive comp and margin impact of management implementing an effective 1% price increase in August, which will give the company about 1.6% of menu pricing entering 4Q10.  It is important to remember that that the company did not realize its full 1.4% menu price increase during the second quarter because of ongoing check management by guests.  Additionally, CAKE, will not be immune to increased commodity pressure with the company highlighting its expectation for higher dairy and fish costs.  Same-store sales and margin comparisons become decidedly more difficult, for CAKE, in 2H10.

Also, for companies such as CAKE and PFCB with high levels of exposure to California, it looks as if the Golden State may provide a headwind.  California tax receipts growth has slowed by over 21% since 1Q10.  Recent comments from other retailers do not suggest that California is falling off a cliff, but clearly some challenges remain:

Nordstrom- California continues to be below the full-line store average, although Northern California performed above the full-line store average. The gap between California and the full-line store average tightened in the month of September.

Ross Stores- Same-store sales in California, where weather was especially warm during the latter part of the month, increased 1% in September.  Overall comp was 2%.

Costco (CA is their largest market) - “On a ‘relative’ basis LA has shown some strength in the last couple of months and quarters - It went from low to slightly negative comps at its trough in the last year-and-a-half to a very slightly positive.  So again, it is improving, but it is certainly been our toughest region from an operating leverage standpoint.”

Safeway - Question from today's conference call (CA also their largest market): "So I guess looking kind of at the environment in general, competitive environment, I mean, it would seem that some of your competitors, especially in California are struggling and you have definitely heard from one of the mass or the club stores that L.A. seems to be a particularly strong market. I am just wondering if you could comment a little bit on the competitive environment in California and if you are seeing a greater ability to capture share seeing the weakness that some of your competitors are experiencing?

Answer from SWY CEO: "I think that California is a combination of things. It is a combination of I think the second highest unemployment in the country running at 12.6 plus the fact that you've got some competitors that are really struggling, and I think that those two things kind of tend to offset one another. The high unemployment working against you, some of the regional players struggling, actually work in your favor, and I don't think anyone is really expecting the economy to get better any time soon, and so we think it is all about taking business and taking market share which is what our marketing programs are designed to do. To me the price parody is just the price of entry. It is everything else that you do to differentiate yourself that takes market share. And so price parity is very important would have been great if we had had that at the front end of the recession. Would have been great if we all had understood that this was going to be the longest recession in my adult life. But, you know, that’s just the way it is."

CAKE - MOONLIGHTING IN NIRVANA - cake vs ca sales tax

Howard Penney

Managing Director