MORGAN STANLEY: These 3 restaurant stocks could be crushed by the return of food inflation

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Falling food prices will soon be history, and restaurants could get crushed as prices rise, according to Morgan Stanley.

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"As a percentage of company-operated restaurant sales," said an analyst team led by John Glass, "food costs declined ~40bps in 2015 and another ~70bps in 2016."

The fall in food prices has saved the restaurant business, although it has also led to a drop in sales at restaurants as it has become cheaper for consumers to eat at home.

"Adjusting for pricing shifts in each channel, the slowdown in real restaurant sales was accompanied by an acceleration in real grocery sales," the team found.

However, "restaurants have broadly been beneficiaries of a deflationary commodity environment," the analysts noted. "Commodity deflation, irrespective of impact on sales, has been accretive to profitability across the restaurant industry."

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Morgan Stanley


This benefit from lower commodity prices may soon vanish with the return of inflation.

"Consensus restaurant margins are currently baking in ~0.5% food cost inflation in FY17 and ~1-1.5% in FY18 (based on 1.5-2% pricing)," they estimated. "If inflation re-accelerates to 3% in '18, our coverage would see EPS fall ~6% on average."

In particular, "restaurants with high company ownership and below-peer EBIT margins would be most impacted by a broad based increase in food costs." Bloomin' Brands, Red Robin Gourmet Burgers, and Cheesecake Factory are the most vulnerable.

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Morgan Stanley

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