P.F. Chang’s looks for edge lost in economic crisis

The glitzy, upscale Chinese restaurant, which wooed investors last decade with its rapid growth story, still generates more sales dollars than most of its competition. However, it's not doing so well compared to its own past performance, and other casual-dining chains are seeing improved same-store sales. P.F. Chang's hopes more menu innovation, ramped-up marketing efforts and restaurant remodelings will help stop the loss of market share.

However, investors willing to hang on for the upside may have to wait a while. The company recently cut full-year earnings guidance and warned of 2% to 3% declines in comparable-store sales, or sales at company-owned restaurants open at least 18 months, of at the Bistro and quick-casual chain Pei Wei Asian Diner. The stock is down nearly 30% over the past year, closing Tuesday at $29.91.

P.F. Chang's opened its first namesake Bistro in 1993, followed by Pei Wei in 2000. The concepts quickly became two of the major growth stories in the industry, said Bryan Elliott, restaurant analyst at Raymond James.

As the economy soured in 2007, the development of new shopping centers and neighborhoods grew stagnant and consumers had less discretionary money, putting a damper on P.F. Chang's expansion strategy. The Bistro now has about 200 locations and Pei Wei about 170, though both metrics have remained roughly flat since 2009.

Other chains shifted to a strategy that achieves growth from existing restaurants rather than new ones, but P.F. Chang's didn't engage in much innovation and marketing efforts.

Second-quarter earnings dropped 29% as guest traffic and sales declined. "We are not happy with our recent performance, but we are not discouraged," Chief Executive Rick Federico said last month on a conference call. "We have gained greater clarity into the issues and are taking immediate steps to improve our operating performance."

The company declined to comment for this article.

According to Elliott, "the company has been roused to action by its recent results. They now have to move to the next stage of the life cycle and effectively manage the asset base that they already have, as opposed to growing that base."

The new strategy requires a different skill set than opening lots of restaurants at a very rapid pace. Industry analysts say Cheesecake Factory Inc. (CAKE) did the best job adjusting to the post-financial crisis casual-dining scene by turning over its menu items regularly, adding "small plates" and continuing to broaden its menu.

In July, P.F. Chang's said market research shows its Bistro is losing market share to Cheesecake Factory and bar-and-grills such as DineEquity Inc.'s (DIN) Applebee's and Brinker International Inc.'s (EAT) Chili's, which are offering more Asian fare.

Malcolm Knapp, a veteran restaurant industry consultant, said the Bistro has only marginally lost market share, but that the "rejuvenation efforts" likely will take at least a year to bring the restaurant back to its previous levels.

"They were never really badly broken, but definitely lost their edge," Knapp said. "When you're so successful for so long, you don't bother to make changes, but now they are shifting their model from a static one to a continuous improvement one, and I have confidence that the new approach will pay off."

The company is preparing its first separate lunch menu at the Bistro and combo meals at Pei Wei, both of which offer smaller portions at a better price and are doing well in test markets.

The Bistro is experimenting with lower-priced dinner menu items. It continues to focus on happy hour, which helps drive traffic during a typically slow time of day, and is launching a call center for carryout orders, which frees up hosts in restaurants and should increase customer spending on phone orders.

P.F. Chang's plans to invest about $25 million to remodel its restaurants next year, with the majority going into the Bistros. The company said a recently remodeled Bistro in Dallas has outperformed the rest of the Dallas market's sales by 5% to 6%.

But there's limited visibility as to when the new initiatives will return value.

Raymond James's Elliott rates P.F. Chang's a buy, saying the upside is there and the stock is heavily undervalued. But Janney Capital Markets lowered its ranking to neutral following the second-quarter earnings.

"While the shares' valuation may be attractive for value-oriented, patient shareholders, the stock should act as 'dead money' for the near term at least," Janney analyst Mark Kalinowski said. "Simply put, there are better restaurant stock investment ideas elsewhere."