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3 Fast-Food Stocks Riding Value Meals to Profits

A new battlefront has opened up in the fast-food wars. While dollar menus have long been a staple and companies have offered a sandwich, fries and drink as a meal for decades, more companies are now creatively packaging menu items into full meals in an effort to get more people through the door.

The latest is Hardee's and Carl's Jr., which announced a $4 meal that includes a double cheeseburger, spicy chicken sandwich, fries and a drink. It joins Wendy's Co. (WEN), Restaurant Brands International (QSR) subsidiary Burger King, McDonald's Corp. (MCD) and Yum! Brands (YUM) eatery Pizza Hut in offering similar-priced meals.

Interestingly, these offerings are taking off while consumers are "becoming more financially healthy," says Will Slabaugh, an analyst for New York-based investment firm Stephens. Typically, such value-focused promotions are introduced when customers are strapped for cash, but today's economy is strong and plenty of jobs are available.

While you can't invest in Hardee's and Carl's Jr.'s, since they're both privately held by CKE Restaurants, there are plenty of other places for investors to get into the market. We took a look at three companies that recently jumped into the fray.

Wendy's turns focus to franchises. Wendy's really got value meal pricing kick-started when in October it introduced a $4 special that included a bacon cheeseburger, fries, chicken nuggets and a drink. Normally, when a company makes a value play such as this, you have to worry about its margins -- the amount the company profits after overhead, labor and food costs are taken away. But Slabaugh says the profit margin on Wendy's $4 meal isn't that much different than its returns on value menu individual items.

Instead, the $4 meals protect Wendy's from a future downturn. The promotion attracts customers who avoid higher-priced offerings -- and that can come in handy if the job market takes a turn for the worse and fewer people have money in their pockets. "(It) sets them up more defensively," Slabaugh says.

Meanwhile, Wendy's has made a strategic shift to focus on franchises, rather than owning its restaurants. By increasing the number of franchisees, Wendy's becomes more of the marketing arm of the brand, while letting franchisees worry about cost of goods and labor.

This model has allowed Wendy's to increase franchise revenues by 30 percent over the past two years. "A more franchise business model makes earnings more stable," Slabaugh says. "It's a brand owner as opposed to restaurant operator. Your worry about labor costs and food cost inflation diminishes greatly."

An improved cash flow has allowed Wendy's to offer a 2.4 percent dividend yield, as well as a $1.4 billion stock buyback plan in 2015. Slabaugh believes WEN stock will rise 14 percent this year.

Pizza Hut is getting attention from its parent again. The pizza chain kicked off 2016 by developing a $5 menu that includes a one-topping medium pizza, pasta, wings and other items. The catch: You have to order two items to qualify for the $5 price.

It's unique for a pizza chain to jump into this price point, competing with the likes of Wendy's and McDonald's. But seeing it work for others has driven the company to try it, says Mark Kalinowski, an analyst for Nomura Holdings.

Also, because Pizza Hut is very much a franchise model like Wendy's, its parent Yum can price meals with less concern about labor costs. And as Yum receives a percentage of the royalty of sales, the company has "a little more incentive to drive sales," Kalinowski says.

Yum is also undergoing a gigantic transition -- spinning off its business in China by the end of the year. This will give renewed focus to the U.S. businesses, including reinvestment into the U.S.-based Pizza Hut.

One goal is to reduce delivery times. The company discovered that consumers are willing to wait two minutes longer for Pizza Hut delivery compared to other delivery companies, but Pizza Hut's delivery times often exceed that margin, Kalinowski says.

Along with remodeling 125 stores and continued growth of Taco Bell, Kalinowski sees the company's stock price jumping 13 percent.

Slim options beyond cutting costs for Burger King. Not to be outdone by Wendy's, Burger King introduced a "5 for $4 deal," which comes with a bacon cheeseburger, fries, chicken nuggets, drink and a chocolate chip cookie. This similar promotion actually led to a Twitter battle recently between Wendy's and Burger King -- which ended with Wendy's bad-mouthing BK's food.

Burger King, which merged with Canadian chain Tim Horton's in 2014 to create Restaurant Brands International, has taken a pricing strategy similar to McDonald's -- it has a series of low-end products and some higher-end offerings. "It's seen more as a value player," Slabaugh says. "It's not a terrible move, but it does limit them versus some of their peers."

Also, the company has been cutting costs for a number of years. David Palmer, an analyst for RBC Capital Markets, estimates that the operational costs per Burger King eatery are $10,000, while Wendy's and Yum Brands have $36,000 and $40,000 in costs on average per restaurant.

With no more room left to cut, Burger King has to find ways to increase sales or its footprint if the stock is to move forward, Slabaugh says.



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