BofA's Restaurant Pair Trade: Upgrade Dunkin, Downgrade Cheesecake Factory

BofA analysts presented to investors a pair trade in the restaurant sector consisting of a bullish stance on Dunkin Brands Group Inc DNKN and a bearish stance on Cheesecake Factory Inc CAKE.

The Analyst: Gregory Francfort upgraded Dunkin Brands from Neutral to Buy with a price target lifted from $72 to $78.

The analyst downgraded Cheesecake Factory from Neutral to Underperform with a price target lifted from $20 to $22.

The Dunkin Thesis: Dunkin is performing better than expected despite a major disruption as many regular morning commuters are no longer stopping for breakfast or coffee, Francfort wrote in the note. In fact, the chain is likely gaining market share from convenience stores as the people who are on the road view a drive-thru as a safer option.

Dunkin's push into digital ordering and loyalty traces back to 2014 and years of investments represent a new tailwind in the COVID-19 environment, according to the analyst. In fact, digital orders rose from 13% in the second quarter of 2019 to 18% in the second quarter of 2020.

Francfort said Dunkin's third-quarter comps through July 25 are down by a low-single digit and this is "well ahead" of April's decline of 32%.

The Cheesecake Factory Thesis: Investors should hold a bearish stance on Cheesecake Factory's stock for three reasons, Francfort said.

First, around 85% of stores or located in or near a mall, and this represents a notable headwind if consumers want to avoid shopping.

Second, many consumers today are willing to dine out only if they can do so outdoors. Only 15% of a restaurant's square footage is outdoors so the chain could see a "bigger negative shock" to its comps than peers with larger outdoor seating.

Third, Cheesecake Factory's stock was trading at an EV/EBITDA premium to some casual dining peers prior to the pandemic but the company's headwinds will now pressure that premium valuation.

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