A valuation multiple helps investors decide whether to enter or exit a stock. A company’s valuation multiple is impacted by its perceived growth, risk and uncertainties, and investors’ willingness to pay.
For this analysis, we chose the PE (price-to-earnings) ratio due to the high visibility of Jack in the Box’s (JACK) earnings. The forward PE ratio is calculated by dividing the current share price by the EPS forecast for the next 12 months.
Jack in the Box’s PE multiple
Jack in the Box took measures to improve the quality of its products. The introduction of new menu items resulted in better-than-expected 3Q16 earnings. Also, it prompted management to raise the same-store sales growth and EPS estimates for fiscal 2016. It led to a rise in Jack in the Box’s share price and PE multiple. As of November 15, 2016, Jack in the Box was trading at a forward PE multiple of 21.3x—compared to 18.5x before the announcement of its fiscal 3Q16 earnings.
From the above graph, you can see that Jack in the Box’s PE multiple is lower than its peers’ median. Since Jack in the Box owns and operates more company-owned restaurants, its margins are on the lower side. Also, Jack in the Box’s business model doesn’t allow it to expand aggressively. It might have caused the company’s lower valuation multiple. On the same day, Jack in the Box’s peers Restaurant Brands International (QSR), McDonald’s (MCD), and Wendy’s (WEN) were trading at PE multiples of 26.3x, 19.7x, and 28.4x, respectively.
Risks and uncertainties
With the intention of improving the quality of its product, Jack in the Box modified 30 of its core products. It introduced new menu items to improve its same-store sales growth. If the measures failed to generate the desired same-store sales growth, the increased expenses could put pressure on Jack in the Box’s margins and lower its earnings. Analysts expect the company to post EPS growth of 21.7% in the next four quarters. Jack in the Box’s current share price might have factored in the EPS growth. If the company’s results come in lower, the stock could face selling pressure.
You can mitigate company-specific risks by investing in the Consumer Discretionary Select Sector SPDR Fund (XLY). XLY invested 9.4% of its holdings in restaurant and travel companies.
Next, we’ll look at analysts’ recommendations for Jack in the Box ahead of its fiscal 4Q16 earnings.