Chili's Owner Brinker International Offers a Real Value Menu

 | Feb 22, 2018 | 12:00 PM EST
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Say the words "value menu" and McDonald's (MCD) probably comes to mind, but the burger chain's shares are anything but cheap right now. By contrast, the casual-dining firm Brinker International (EAT) offers a much larger portion of value for your investment dollar.

You probably don't recognize the Brinker, which rallied by some 7% Wednesday to close at $34.98. But you almost certainly know its brands:

The chain has managed to survive and prosper over the past decade even as its segment faced a double order of headwinds. Minimum-wage increases, rapidly escalating health-care costs and hard-pressed consumers all contributed to tough conditions for sit-down restaurants. Still, EAT has managed to post decent operating numbers across the board since fiscal-year 2008:

It's worth noting that 10-year performance outlined above didn't start at an auspicious point. We now know that the global market crash and the Great Recession were just getting going, ultimately knocking EAT shares down from $18.44 in February 2018 to less than $4 in November of that year. Earnings per share didn't bottom until fiscal-year 2010, falling to $1.18 from $1.44 just 12 months earlier.

In that light, it's fair to view Brinker's 102.5% 10-year total return as a real triumph, and that doesn't even include Wednesday's rally. And despite Wednesday's run-up, Brinker has rarely been as cheap as it is now.

The stock averaged a 14.8x multiple and about a 2.5% dividend yield from 2010 to 2017. Its four best entry points (denoted with green stars below) all had P/Es well under that, and the stock later rallied back from each:

EAT's two "should have sold" moments (the red stars above) came only when investors had pushed the stock's valuation above typical levels. Current yields were sub-par at those points as well.

Brinker was trading at $32.50 as I prepared these charts on Feb. 20, which was just 9.4x this fiscal year's estimate of $3.45 in earnings per share. (Its forward multiple is more like 10.5x following Wednesday's rally.)

The stock's well-covered $0.38 quarterly payout provides a 4.62% dividend yield. Both metrics represent bargain pricing on a company that's executing quite well. Analysts have been raising, not lowering, forward projections.

A simple regression-to-the-mean multiple on fiscal 2018's earnings estimate suggests that EAT could exceed $51 a share within six months. That's far from crazy.

After all, EAT topped out between $47.90 and $63.40 in each of the five years from 2013 through 2017. Present-day EPS is higher now than in all of those years except 2015, when the stock established its all-time peak north of $63.

Independent analyses from both Standard & Poor's and Morningstar second my positive take on EAT. Both firms now assign Brinker "Four-Star Buy" ratings out of a possible five stars.

S&P holds out a conservative year-ahead goal of $40 a share, but that's lower than the stock's trailing-12-month high of $45.81. Even so, buyers at would see total returns of about 20% if EAT merely meets that modest target:

Morningstar doesn't give stocks 12-month price targets, but does give present-day fair-value estimates, with Brinker's at $39.26. Just reaching that less-than-optimistic level would likewise provide about a 20% total return if it takes a full year:

Apply a typical P/E to fiscal 2019's earnings estimate of $3.90 a share and Brinker might even be in the $55-to-$60 range within 18 months. Value Line's three- to five-year projections assume EPS will expand to $5.50 and that EAT's multiple will stabilize at about 15x:

How to Cook Up Some Profits in EAT

Option traders can establish low-risk put sales out to Oct. 19, 2018, at strikes of $30 or $35. I received $2.80 on the more conservative strike and $5.50 for the in-the-money $35s on Tuesday morning when EAT was trading at $32.50.

In a worst-case scenario, my forced-purchase price with these puts would drop to $27.20 and $29.50, respectively. That's 9% to 16% below the trade-inception price as of Tuesday. Each price was also less than or equal to the lowest price that EAT changed hands at in more than a half-decade:

The Bottom Line

Despite Wednesday's rally, the share price and public perception of Brinker International remains quite negative in historical terms. But the company's corporate performance has actually been quite good and appears poised to improve even further.

In other words, EAT is on the "value menu," with a P/E that's near its lowest level since 2009 and a dividend yield that's at or near a record high. My recommendation: Buy some shares, sell some puts or consider doing both.

This commentary originally appeared on Real Money Pro on Feb. 22. Click here to learn about this dynamic market information service for active traders and get daily columns like this from Paul Price, Tim Collins, Doug Kass and others.

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