For Restaurant Upside, Forget Chipotle

Chipotle Mexican Grill Inc. (CMG) can’t wait for 2015 to end. Two foodborne illness outbreaks. Rising food and labor costs. A sinking stock.

And now, investors are asking a lot of tough questions.

The bears say the end of Chipotle’s scorching run up the chart is nigh. The bottom-feeding bulls say the stock’s hardly been cheaper.

I say, if you’re on the hunt for maximum restaurant upside, forget Chipotle. Treat yourself to a nice steak or some Spaghetti Bolognese instead.

All About the Breadsticks

Founded in 1968, Darden Restaurants Inc. (DRI) operates more than 1,500 restaurants under seven trademark brands across the United States and Canada.

Some of Darden’s signature brands include the iconic Olive Garden, LongHorn Steakhouse, and Capital Grille.

Since 2013, Darden has grown revenue by 27%, boosted net income by 72%, and reduced its debt load by 18%. In fact, five of Darden’s seven brands reported double-digit year-over-year revenue increases in 2015. They’ve also beaten earnings expectations five out of the last six quarters.

That said, Darden lags in gross margin – just 21% compared to the industry average of 45%. And over the last five years, the company has trailed the restaurant industry in earnings per share growth. These factors contributed to recent share underperformance.

But over the last year, the company has dramatically improved operational efficiency and offset declining guest traffic with a 2.9% increase in average check total.

And this June, Darden’s board voted to transfer 430 of its locations into a real estate investment trust (REIT). The REIT will lease the assets back to the company, offloading a large burden from Darden’s balance sheet. The real estate sale will provide Darden with a significant cash infusion, which will pay off much of the company’s $1.4 billion debt load.

From a valuation perspective, the restaurant industry trades at a premium to the S&P 500 Index. But Darden trades at 26 times trailing earnings, compared to the industry average of 32. The company also bests peers in price-to-book and price-to-sales ratios as well as cash flow.