The Tastiest Investments in Restaurants

NEW YORK ( TheStreet) -- Restaurant earnings, on the whole, are bad enough to make any investor's stomach churn.

Already this quarter we have seen shares of companies like Darden ( DRI) and Brinker ( EAT) tumble after they reported better-than-expected earnings, but on disappointing sales. "These companies are surpassing expectations through lower commodity costs and labor efficiencies," Stifel Nicolaus analyst Steve West says. "But Wall Street is tired of this and wants to see quality earnings."

Well, Wall Street will just need to be patient. Sales in the sector are not expected to turn until the third quarter of 2010, at the earliest, when they reach the anniversary point of the easiest annual comparisons. And consumer price index data released earlier this month paints a dreary picture. Food away from home rose just 2.6%, the lowest level of growth year-over-year since 2003.

Regardless, even though the outlook for the sector for the remainder of the year is bleak, some stocks that the savvy investors should consider gobbling up.

"Right now, and over the next several quarters, it is actually a good buying opportunity, since the rate of change is still positive," Larry Miller, analyst at RBC Capital Markets, says.

McDonald's ( MCD), for one, continues to be the most talked-about chain in the sector.

The fast-food behemoth consistently has something to look forward to in its pipeline. Its much-hyped McCafe is only in the beginning stages of growth. In its next stage of development, McDonald's will add McFlurries and shakes to the menu, West says.

McDonald's also recently launched a new Angus burger, which West suspects has been taking market share away from competitors like Burger King ( BKC).

And while rivals have been drastically slashing prices and offering steep promotions, McDonald's has been holding prices steady, allowing it to retain its margins.

But the best part about the No. 1 fast-food chain is that, on a valuation basis, it's actually cheap, West said.

Then there is Darden -- owner of Olive Garden, Red Lobster and LongHorn -- which is the winner on the casual-dining side and offers the most protection for your portfolio.

In its first quarter, Darden was one of the few chains that saw a profit increase, with earnings rising 15% to $94.3 million, or 68 cents a share. (Although the company did see same-store sales slip 5.3%, while it said its full-year earnings will come in at the low-end of its guidance of $2.59 to $2.85 a share.)

Then there is BJ's Restaurants ( BJRI), which, while a smaller player in the sector, has been a model for bigger companies, West says.

West expects the company to report a 92% surge in its EPS to 15 cents a share when it releases its third-quarter results after-market today.

Better still, BJ's may also be one of the only companies to see revenue growth.

Stay away from companies, however, that have resorted to aggressive discounting, like Brinker and DineEquity's ( DIN) Applebee's, Miller warns.

Brinker's Chili's Grill & Bar is offering a three-course meal for two people for just $20, while Yum Brands ( YUM) has also been highly promotional and has announced that it anticipates more of such deals.

In its third-quarter earnings call, Yum -- which owns and operates Pizza Hut, Taco Bell and KFC -- said it plans to re-focus efforts in the near-term around value relevant price points in the three core domestic brands. Taco bell is promoting its new Black Jack Taco for 89 cents and its line of half-pound burritos for $1.99. KFC is offering its Grilled Chicken Value Box for $1.99 and its KFC Ultimate Value Menu features 12 items all under $2.

Miller also advises to stick with names like Texas Roadhouse ( TXRH) and California Pizza Kitchen ( CPK), which have continued to offer a decent value for consumers without resorting to drastic price cuts.

"It's hard to unwind these discounts even when consumers come back," he says. Who would want to pay full price after paying just $20 for an entire meal for two people?

-- Reported by Jeanine Poggi in New York

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