Sonic offers a tasty trade in burgers

The chain has one of the better balance sheets and returns on equity, as well as a relatively low valuation within the sector.

By Minyanville.com Oct 9, 2012 6:14PM
Image: Hamburger (BananaStock/Jupiterimages)By Steve Smith, Minyanville

It's amazing that even as the food industry has exploded due to fusion, locavore sustainability, and celebrity chefs, the humble hamburger has seen one of the biggest booms in terms of both offerings and sales growth.

This group includes everything from the global behemoths like McDonald's (MCD) and Burger King (BKW) down to regional favorites like In-N-Out Burger on the west coast and Five Guys on the east coast. And let's not forget that any worthwhile gastropub needs a signature burger, sometimes in the whopping $30 to $40 price range. The burger has reaffirmed itself as America's must-have menu item.
 
But I'm not here for a taste test or even to assess which hamburger offers the best value for your hard-earned dollars. Instead, I want to look at which one could be the best investment. And given the fast-food nature of the product and the fact that I'm focused on options, we want something that can deliver profits hot and fast.

With that in mind, I'm going with Sonic (SONC), a chain with some 3,500 locations concentrated in the southeast. The restaurant concept is inspired by the 1950s with both drive-through and car hop service. Sometimes the servers even wear roller skates. And that’s great marketing, which I’ll discuss in a moment. 
 
Nearly 100% beef
 While McDonald’s, Burger King, and Wendy’s (WEN) have expanded their menus to include chicken, fish salad, and smoothies, Sonic has remained true to its burger-based roots. This is not to say that it doesn’t offer a variety of nuggets, wraps, and liquid concoctions. But Sonic tries to keep its menu tight. It has actually bridged the burger-hotdog gap that others have attempted (but failed) to cross. Having the two major food groups -- burgers and hotdogs -- in all their variations is a major selling point in the car-centric markets Sonic serves.

Sonic has also scaled back on the outrageous items, such as the Frito Dog or the bacon milkshake, which it seems to offer as more of a response to competitors like Jack in the Box (JACK) or Yum Brand's (YUM) Taco Bell brand. For Sonic, these seem to be more like marketing tools, often featured in a revitalized and humorous advertising campaign, as opposed to menu staples that will drive long term growth. It’s a hook to get cars in the port and sell the basic burgers, hotdogs, and shakes.
 
A lean financial profile
Sonic has one of the better balance sheets and returns on equity, as well as relatively low valuation within the sector. Let's look at some basic metrics using McDonald's as the bulletproof benchmark and Red Robin Gourmet Burger (RRGB) as its closest competitor in term of size; both have a market cap of approximately $500 million, and a comparable number of restaurants in similar geographical locations. The below number are all based on 2012, which includes year-end estimates.



While no one can seem to touch the profit margins of McDonald’s thanks to its scale and efficiency, Sonic stacks up favorably in terms of value and return on equity. The growth rate is also a respectable 15% over the past five years -- but I will admit that expansion is somewhat limited given the current concept, which relies on seasonable weather and a car culture. 
 
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