Expansion Into Canada And Latin America And AI Initiatives Will Strengthen Quick-Service Restaurants

Key Takeaways

• Strategic international expansion and closures of underperforming units aim to improve sales growth, operating margins, and earnings.
  
• Enhancing digital and operational capabilities, alongside breakfast and beverage promotions, is expected to boost net margins and profitability.
  
• Challenging market conditions and operational costs could hinder Wendy's profitability and net margins, despite technological investments and strategic restaurant closures.

Catalysts

Operates as a quick-service restaurant company in the United States and internationally.

• Wendy's plans to accelerate international expansion, with a focus on markets like Canada and Latin America, supported by new incentives that should drive system-wide sales growth and increased revenue.
  
• The commitment to enhancing digital capabilities, seen in a 40% global digital sales increase and improvements in the Wendy's app, is expected to boost revenue through a higher digital sales mix.
  
• Initiatives such as AI voice-enabled order taking and a focus on operations excellence could enhance efficiency and drive improvements in net margins and overall restaurant profitability.
  
• Wendy's closure of underperforming units and focus on opening new locations in better trade areas is expected to lead to improved average unit volumes (AUVs) and operating margins, positively impacting earnings.
  
• Continued emphasis on breakfast sales growth and new beverage promotions, including partnerships like the one with Coca-Cola, are likely to enhance higher-margin segments, thus improving net margins and profit contributions over time.

Wendy's Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Wendy's's revenue will grow by 3.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from 8.8% today to 10.0% in 3 years time.
• Analysts expect earnings to reach $243.7 million (and earnings per share of $1.3) by about December 2027, up from $193.8 million today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as $219.2 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 21.2x on those 2027 earnings, up from 17.9x today. This future PE is lower than the current PE for the US Hospitality industry at 23.6x.
• Analysts expect the number of shares outstanding to decline by 2.64% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 10.36%, as per the Simply Wall St company report.

Wendy's Future Earnings Per Share Growth

Risks

• The decision to close additional underperforming restaurants in outdated locations may offset new openings, potentially leading to flat unit growth in the short term and impacting revenue and net margins.
  
• The Wendy's system is experiencing labor rate inflation and customer count declines, leading to flat U.S. restaurant margins, which could adversely affect net margins and overall profitability.
  
• The increase in general and administrative expenses, driven by employee compensation, benefits, and professional fees, may continue to offset gains in franchise royalty revenue, potentially affecting net earnings.
  
• In response to a challenging macroeconomic environment, Wendy's experienced a softer growth rate in same-restaurant sales in the third quarter, suggesting potential vulnerabilities in sustaining revenue growth.
  
• The implementation of AI voice-enabled order-taking technology presents execution risks and may not immediately lead to the anticipated labor efficiencies or margin improvements, potentially affecting earnings.

Valuation

• The analysts have a consensus price target of $20.49 for Wendy's based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $29.0, and the most bearish reporting a price target of just $17.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $2.4 billion, earnings will come to $243.7 million, and it would be trading on a PE ratio of 21.2x, assuming you use a discount rate of 10.4%.
• Given the current share price of $17.06, the analyst's price target of $20.49 is 16.7% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.