Morgan Stanley's Restaurant Pair Trade: Upgrade Darden, Downgrade Restaurant Brands

Darden Restaurants, Inc. DRI may offer investors better opportunities based on a post-COVID pandemic demand for dining out, while Restaurant Brands International Inc QSR has fewer catalysts to improve slumping sales.

The Analyst: John Glass upgraded Darden's stock from Equal-Weight to Overweight with a price target lifted from $122 to $142. The analyst downgraded Restaurant Brands from Overweight to Equal-Weight with an unchanged $66 price target.

The Darden Thesis: The bullish case for Darden's stock is based on five catalysts, according to Glass:

1. The market is underappreciating the upcoming "robust" consumer demand for dining out through 2022. Darden in particular faces easy comparisons in the coming year as it avoided third-party delivery platforms and faced capacity limitations.
2. Darden communicated a near-term path to lift EBITDA margins at least 150 basis points above pre-pandemic levels.
3. Darden can grow its unit counts organically or by acquiring one of the restaurant chains that boast above-average growth rates.
4. Darden is backed by a strong balance sheet that allows the company to return cash to shareholders.
5. Darden's market cap, liquidity, and index inclusion favor the stock makes it "the best name" for investors looking for exposure to a top-line recovery story.

Brands that are part of Darden include LongHorn Steakhouse, Olive Garden Italian Kitchen, Seasons 52, Bahama Breeze, The Captial Grille, Eddie V's Prime Seafood, Yard House, and Cheddar's Scratch Kitchen. 

Related Link: 3 Reasons Why Chipotle's Stock Could Hit $1,650

The Restaurant Brands Thesis: The case against Restaurant Brands' stock is based on three factors:

1. Tim Hortons' Canada sales and Burger King U.S. sales trends have lagged peers even before the pandemic and offer investors little confidence recent initiatives to spur growth will succeed.
2. Competitors have increased the pace of their investments in technology and Restaurant Brands will need to reinvest at an even higher rate or fall behind even more.
3. The stock is trading at a discount versus its own pre-COVID levels and its peers, but there is simply no clear catalyst that would justify a re-rating higher.

Popeyes Louisiana Kitchen is also part of Restaurant Brands. 

DRI and QSR Price Action: Shares of Darden Restaurants were trading higher by 2% at $123.74, while shares of Restaurant Brands were lower by around 2% at $61.65.

(Photo: Darden Restaurants)