Investors Get a Treat With Champps - TheStreet

If you're hungry for good food and growing profits, check out Champps Entertainment (CMPP) .

This Denver restaurant company operates 34 Champps Americana restaurants and franchises a dozen more. Started in St. Paul, Minn.. in 1987, the upscale, casual eateries feature a sports-theme bar and restaurant with a broad menu, from bar food to full meals. Champps also offers a full array of interactive promotions to draw late-night crowds, from karaoke and bingo to various giveaways. For the sports fan, the typical Champps is chockfull of big-screen televisions with your favorite sporting events.

Once a division of the company that also owned the Fuddruckers hamburger restaurants, Champps is now a pure play on the upscale, casual American eatery. Given recent performance and future plans, it's worth a look from patient investors. (Not to mention my experiences at a local Champps show long lines, good food and better-than-anticipated service.)

Solid Pace

In the past year, Champps has shown its ability to operate in a difficult environment. Although the company is expected to produce earnings per share of 43 cents in the fiscal year ending in June compared with 50 cents in fiscal 2001, its prospects bounced back quickly. After earning only 15 cents a share in the first half of the current fiscal year, compared with 32 cents in 2001, Champps' third quarter of 14 cents a share was in line with the 15 cents posted in the third-quarter 2001.

That's not bad considering

same-store sales declined about 1% over the nine-month period. (Third-quarter same-store declines of 0.8% were due in part to Easter coming in March this year.)

Opening new restaurants was key to keeping pace with earnings. By the end of June, Champs will operate 34 restaurants, compared with just 28 at the end of June 2001. However, even as overall costs have increased with new restaurants, the company has held administrative costs flat over the past year -- at about 5% of sales; it is on par with other growing, full-service restaurant companies.

Champps is all about smart, rational growth. In its third-quarter earnings discussion, the company increased its estimate of new restaurants to open in 2003 to 10 to 12 from the previous estimate of eight to 10. Analysts believe the company can fund that growth through internally generated cash flow and its existing credit capacity. Five Champps are under construction.

While same-store growth must return to the black for any restaurant to have staying power, the Champps story is still fueled by adding new restaurants. The concept has proved successful in major markets -- new stores average $98,000 to $99,000 in weekly revenue. And the company remains focused on top-50 markets. In the first half of fiscal 2003, Champps will open restaurants in Chicago, Houston, Cleveland and Pittsburgh. By the end of 2003, Ladenburg Thalmann restaurant analyst Scott Tilghman estimates Champs will have 44 stores open, up from an average of 31 in 2002.

That growth, combined with expense control, should boost margins and profits. "We are expecting margins to improve by roughly 50 basis points, as the company has locked in its cost of goods sold by signing annual contracts on all its food purchases," notes SunTrust Robinson Humphrey restaurant analyst Howard Penney.

"Labor costs should be contained, as hourly wage rates have been holding pretty steady with the potential for training cost reductions due to lower management turnover." Penny expects same-store sales to grow 2% in the fourth quarter and about 0.5% same-store growth next year. He rates the stock buy with a $14.50 price target, and his firm has not provided banking services for the company.

Tilghman pegs operating fair value at between $14 and $15 a share, but says the company will be able to take advantage of previous tax losses to add value. "Given that the company has better than $50 million of carryforwards to avoid taxation of profits, we suggest that it implies another $4 of value," he notes. His price target is $18, and he rates the stock buy. Ladenburg Thalmann has not provided banking services for Champps.

Appetite for Risk

Even with a solid concept like Champps, the start-up restaurant business is loaded with risk. A protracted economic slowdown will continue to depress same-store sales and add substantial risk to new restaurant openings. As 2002 showed, both the pace and cost of opening new restaurants are adversely affected by slowing sales.

Second, while the Champps concept is relatively mainstream, many new restaurants prove to be fads, and growth slows considerably after the first couple of years. While we think Champps has proved it is beyond that period, the impact of a new store failure is more significant in the formative years than in the more mature growth phase.

Finally, Champs is relatively illiquid, with just 12.2 million shares outstanding. So, while Tilghman finds the company's balance sheet adequate to meet capital needs, he'd also "like to see the company issue additional equity to improve the liquidity situation for potential investors."

Champps is one of those Peter Lynch-like additions to the portfolio. Of all the new restaurant concepts I've seen in the past several years, Champps is near the top of the list. Although illiquidity and execution risk are high, for patient investors, this is a small-cap restaurant-growth story that should satisfy your appetite. I give it 2 1/2 barrels.

Barrelology

A couple of notable happenings in the Barrel portfolio in the past week.

Last week's selloff in

SurModics

(SRDX) - Get Report

was related to concerns about new clinical data on drug-coated coronary stents that may lessen

Johnson & Johnson's

(JNJ) - Get Report

potential dominance in the market. There is no doubt going to be competition in the stent business. However, with a $4.8 billion market expected to develop by the end of 2003, there is plenty of room for competition. And, SurModics has multiple partners and business opportunities beyond the coronary stent market. The mid-$30s is a good entry point for long-term investors.

Endocare

(ENDO)

should benefit from last weekend's American Urological Association conference. The company's presentation shows that the company's cryoablation treatment for prostate disease is gaining acceptance among urologists.

"Johns Hopkins, Mayo Clinic and Sloan Kettering are expected to start cryoablation programs with Endocare's Cryocare system for prostate cancer treatment," notes SunTrust Robinson Humphrey analyst Robin Swanberg.

Do you have candidates for Bottom of the Barrel? If so, shoot me an email with the company's name, why you think it qualifies, and your full name and hometown. If I profile your suggestion, I'll send you a

TSC

gift to commemorate your pick.

Christopher S. Edmonds is president of Resource Dynamics, a private financial consulting firm based in Atlanta. At time of publication, neither Edmonds nor his firm held positions in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While Edmonds cannot provide investment advice or recommendations, he welcomes your feedback and invites you to send it to

Chris Edmonds.