The U.S. restaurant industry was under strain in the latter half of 2013 and the beginning of 2014. This was heightened by Fed’s “taper talk,” the temporary government shutdown in October and concerns regarding consumer spending trends. Rising food costs also added fuel to the fire.
In this scenario, a little caution can do investors a lot of good. Economic events or numbers may fail to restrict the downtrend, but investors may jump to precautionary action to secure the portfolio. We will pick some stocks that are likely to see further downside and it might be an ideal time to trim them from your portfolio.
Before we discuss further about the stocks, let us look at what has been plaguing the sector in the recent times.
Weaknesses Hurting the Sector
Food Cost Inflation: The U.S. restaurant industry has been severely affected in recent times by a rise in food prices. The consumer price index (CPI) for U.S. beef and veal is up almost 10% so far in 2014 — the fastest increase in retail beef prices since 2003-end. With the drought conditions in Texas and Oklahoma worsening to some extent in April, the situation deteriorated further for the beef production industry.
According to the U.S. Department of Agriculture (USDA), overall U.S. food price inflation for 2014, including food bought at restaurants, would gain 2.5% to 3.5%. Food costs account for about one-third of restaurant sales, thus making the industry vulnerable to food cost inflation.
Limited Pricing Power: U.S. consumers are facing the brunt of government budget cuts, higher gasoline prices, payroll tax increases and delayed tax refund checks. These factors have dented their discretionary spending. The USDA forecasts that food-at-home inflation as well as food-away-from-home inflation index in the U.S. is expected to grow in the range of 2.5–3.5% in 2014. This would likely leave less room for consumer companies to exercise pricing action putting restaurant sales under pressure.
Affordable Care Act to Hurt Margins: Since the sector plays a key role in the nation’s employment picture, the recent Affordable Care Act by President Obama, commonly known as Obamacare, is expected to have an adverse impact on the margins for the rest 2014. The law entails companies to provide coverage for workers or face penalties, though it is not applicable for employees clocking less than 30 hours per week on an average. To avoid these austerities, most companies are trying out different labor models such as recruiting more part-timers and cutting work hours, in turn affecting margins.
— Zacks Investment Research