Wendy's Earnings: Earnings Miss but Strategic Roadmap Looks Sensible

No-moat Wendy's second-quarter earnings fell short of expectations, with $538 million in sales and $0.22 in diluted EPS missing our respective $574 million and $0.28 estimates. The principal culprit was slowing comparable store sales growth in the U.S., with the firm's 5.1% print falling short of our 7.5% forecast as traffic (down 1%) posed a headwind. Slightly more concerning was the margin of Wendy's underperformance relative to category peers, with Burger King and McDonald's posting 8.3% and 10.2% U.S. same-store sales growth, respectively, in the most recent quarter. We suspect that Wendy’s relative underperformance is attributable to its lower-income clientele and predominately suburban footprint, and view cautious pricing—up just 5%—as sensible against that backdrop. As evidence, restaurateurs that increased prices more aggressively over the past few quarters, like narrow-moat Papa John's, have seen sharper drops in transaction volume, and we expect consumer restaurant occasions to become increasingly value-driven over the next few quarters. On balance, as we juggle the firm's earnings miss and the likely implications of an increasingly price-sensitive consumer—slower comparable store sales growth and increasing promotional volume—we expect to lower our $23 fair value estimate for the firm by a mid-single-digit percentage. Shares continue to look fairly valued.