Wendy's Shows Signs of Finding the Beef

As I was gallivanting around New York City yesterday, licking my Phillies-vs-Yankees wounds, running into Phillies shortstop Jimmy Rollins in Starbucks, spending time at TheStreet.com and conducting various business meetings, one of my favorite ideas, Wendy's/Arby's (WEN - commentary - Trade Now), was reporting third-quarter earnings.

There were no great surprises in terms of the top and bottom lines: total revenue came in just under expectations at $903.2 million and earnings from continuing ops came in at $.06 per share, meeting expectations. Once again, however, that excluded some impairment charges and merger-related expenses. I, for one, will be glad when that's all behind us -- it still makes for difficult comparisons.

Wendy's company-owned restaurants reported same-store sales down 1.4%, but franchised stores did better, up 0.4%. Overall, this is not too bad. One of the most positive aspects of the quarter was the continuing improvement in restaurant margins, which grew 400 basis points on the year to 16.5%. Cost cutting is one of the keys to this company's turnaround and I was pleased with the progress. The company still has work to do here, though, in order to hit its target of 500 basis points ($100 million in incremental annual EBITDA) in restaurant margin improvement by 2011.

Not surprisingly, Arby's continues to struggle. Total revenues fell 6.7% to about $290 million and the restaurant margin fell 450 basis points to 12.1%. Same-store sales at company stores fell 6.5% and were even worse at franchised stores, down 10.2%. Arby's continued to be hurt by the consumer's unwillingness to pay up for premium fast food as well as competitors' discount offers. In October, the company launched a $5.01 combo and expanded the number of stores offering a $1 value menu. Historically, the company has shunned the value-menu mentality, so it will be interesting to see if and how this will impact the fourth quarter. While Arby's remains both a concern and a drag on company performance, it accounts for less than 30% of total revenue.

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At the time of publication, Heller was long WEN.

Jonathan Heller, CFA, is president of KEJ Financial Advisors, a fee-only financial planning he recently launched. Jon spent 17 years at Bloomberg Financial Markets in various roles, from 1989 until 2005. He ran Bloomberg's Equity Fundamental Research Department from 1994 until 1998, when he assumed responsibility for Bloomberg's Equity Data Research Department. In 2001, he joined Bloomberg's Publishing group as senior markets editor and writer for Bloomberg Personal Finance Magazine, and an associate editor and contributor for Bloomberg Markets Magazine. In 2005, he joined SEI Investments as director of investment communications within SEI's Investment Management Unit.

Jon is also the founder of the Cheap Stocks Web site, a site dedicated to deep-value investing. He has an undergraduate degree from Grove City College and an MBA from Rider University, where he has also served on the adjunct faculty; he is also a CFA charter holder.