I. Sector landscape and outlook

Over the last few decades, restaurant business has evolved enormously across the world, driven by an increase in the consumer disposable income, higher tour and travel activities, changing lifestyle, taste, dine-out culture, globalisation, business meetings, and technological innovations. There are many categories within the restaurant arena ranging from ethnic, fast food, casual dining, premium dining, family and fine dining, etc., all of them have evolved significantly over the past few decades. All of them have managed to coexist profitably despite intense competition. The restaurant sector has minimal interference of regulations as compared to other industries like telecom, banking and mining businesses, where a lot of regulatory approvals are required to set-up business. Consequently, the industry is exposed to intense competition, but the degree of scalability and money flows enable players to achieve profitability.

COVID-19- A Black Swan for Restaurants Industry

A novel virus which originated in the Wuhan city of the Hubei province in the mainland of China has dragged the global economic activities, and many businesses have succumbed against it. Restaurant businesses are one of those and went through significant pain. Several categories within the restaurant space like ethnic, casual dining, premium dining, family and fine dining have undergone through severe challenges. Many of them are closed since last two and half months and some of them are operating at a significantly lower capacity. The economic costs of this pandemic are certainly huge for the restaurant sector, and footfalls in restaurants to come back to normalcy will take some time. According to several media reports, restaurant sales have dropped as much as by 60% from the normal levels in March.  

Fig 1: Widespread Shutdowns led Restaurant Industry into deep pain

Source: Statista 
 

Fig 2: COVID-19 Impact on the UK food services industry (Monthly decline in March)
 

Source: Priori Data

The UK Story

In the UK, especially the London-based restaurants are hardest hit by COVID-19, because of the slump in footfalls since the beginning of March 2020, and the trend continued strongly after full lockdown announced by Prime Minister Boris Johnson at the end of the March. Closure of restaurants wiped out April, and May 2020 sales and the trend is likely to be the same for most of June 2020. Sales of London-based restaurants have plunged approximately 60% according to City A.M reports, and in the rest of the UK, sales are down by approximately 55%. However, food delivery business witnessed a growth during the pandemic, delivery segment's market share which accounted for 5.5% of the total sales in the past has now increased to 7.4% as there was an increase in the food delivery orders during the lockdown.

The British government has decided to open the economy in a phased manner. Now, the government is considering to allow the restaurants to reopen from June 22, 2020, in a new economy saving plan called "save summer". The senior ministers of the PM Johnson's cabinet including Chancellor Rishi Sunak are now considering allowing hospitality businesses to start serving customers and avoid losing out on a crucial portion of summer trade. 
 

Worst seems to be over

Given the free fall in the restaurant stocks listed on the London Stock Exchange, since the novel coronavirus has gone global and stringent lockdown measures were in place, we believe that the worst is now behind the restaurant sector. The average fall recorded by the 20 listed restaurant players, traded on the main market and AIM segment of the LSE is stood at ~30% on a YTD basis, whereas the broader market indices of the UK- FTSE 100  and FTSE 250 index are down by 14% and 17%, respectively. In our opinion, the relative underperformance was on account of the future earnings uncertainties hovering over the British restaurants. Stocks of Revolution Bars Group PLC, Comptoir Group PLC, Restaurant Group PLC, Mitchells & Butlers PLC, City Pub Group PLC, and Fulham Shore PLC are among the hardest hit within the restaurant arena and plummeted more than 50% on a YTD basis. However, within the league, shares of the United Kingdom-based two pizza delivery businesses, i.e., Domino's Pizza Group PLC and DP Poland PLC have reported positive price change in the same time and up by 56.8% and 10% respectively. The fast-food delivery businesses have performed better as compared to the overall restaurant sector, because of a surge in the food delivery order.

Though the recent announcements by the UK government that they are considering reopening of Restaurants and Pubs have sent restaurants stocks higher on the LSE in a month over period. The average price percentage change in the restaurant stocks stood at 19.6%, with Marston's PLC, Revolution Bars Group PLC, Restaurant Group PLC, and Loungers PLC are among the top gainers, up above 45% in the same time. This implies that a trend reversal is taking place within the heavily beaten down restaurant sector stocks.

Outlook

Despite a recent setback, the restaurant industry has a long road ahead. There are chances that full recovery could take some time, higher than other non-essential industries; but new avenues within the restaurants' space like delivery, takeout and other technological development could support their topline. These new avenues are likely to diversify the risk of zero sales or total closure amid challenging times. Further, the government's plan to allow hospitality sector to reopen would also help many restaurants to come out of the zero sales territory. The market is cheering the reopening news as revenue free-fall would take a backseat to some extent post easing of stringent lockdown measures. We believe that the worst for the restaurant industry is behind now and after discounting the near-term poor earnings, the market has started showing interest in the restaurant counter in a staggered way for a long-term view.
 

II. Investment Theme and Stock under Discussion (CPG, GRG, LGRS and DOM)

After understanding the recent trends in the restaurant industry, let’s now look at the four players from the industry those are listed on the London Stock Exchange. To assess the same, companies’ stocks are evaluated based on Discounted Cash Flow (DCF).

1. LSE: CPG (COMPASS GROUP PLC)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: GBP 23.2 Billion)

Compass Group Plc is a Chertsey, United Kingdom-based vending, and catering service company, which provides great support and food services to millions of people around the globe.



 

 
 
Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~18% over the current price of GBX 1285 at 1:30 PM GMT on 9 June 2020.


 
 
2. LSE: GRG (GREGGS PLC)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: GBP 1.86 Billion)

Greggs Plc is a bakery chain operator in the United Kingdom. It conducts business operations through its retail shops and bakeries.


 
 

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~19% over the current price of GBX 1754 at 1:30 PM GMT on 9 June 2020.


 
 
3. LSE: LGRS (LOUNGERS PLC)

(Recommendation: Speculative Buy, Potential Upside: Low Double Digit, Mcap: GBP 136 Million)

Loungers PLC is a United Kingdom-based company that is an operator of cafe and restaurants. The company operates under the Lounge and Cosy Club brand.



 


Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~19% over the current price of GBX 133.5 at 1:30 PM GMT on 9 June 2020.

 
 
 
4. LSE: DOM (DOMINO'S PIZZA GROUP PLC)

(Recommendation: Watch, Potential Upside: Low Single Digit, Mcap: GBP 1.62 Billion)

Domino's Pizza Group plc is a United Kingdom-based pizza delivery company. The company holds the franchise rights for the Domino's brand in the United Kingdom, Republic of Ireland, Switzerland, Liechtenstein, and Luxembourg.



 
 
 
Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~4% over the current price of GBX 341.6 at 1:30 PM GMT on 9 June 2020.


 
 
Note: All the recommendations and the calculations are based on the current price at 1:30 PM GMT on 9 June 2020. The financial information has been retrieved from the respective company’s website and Refinitiv (Thomson Reuters).

Disclaimer

PLEASE BE ADVISED THAT YOUR CONTINUED USE OF THIS SITE OR THE INFORMATION PROVIDED HEREIN SHALL INDICATE YOUR CONSENT AND AGREEMENT TO THESE TERMS.
References to ‘Kalkine’, ‘we’, ‘our’ and ‘us’ refer to Kalkine Limited.
This website is a service of Kalkine Limited. Kalkine Limited is a private limited company, incorporated in England and Wales with registration number 07903332.
The article has been prepared for informational purposes only and is not intended to be used as a complete source of information on any particular company. Kalkine is not responsible for material posted on this website and does not guarantee the content, accuracy, or use of the content in this site. No advice or information, whether oral or written, obtained by you from Kalkine or through or from the service shall create any warranty not expressly stated.
Kalkine do not offer financial advice based upon your personal financial situation or goals, and we shall NOT be held liable for any investment or trading losses you may incur by using the opinions expressed in our publications, market updates, news alerts and corporate profiles. Kalkine does not in any way endorse or recommend individuals, products or services that may be discussed on this site. You should discuss your portfolios and the risk tolerance level appropriate for your personal financial situation, with a professional licensed financial planner and adviser.