Good News — A Pullback Is Coming For This Market Leader

Making a profit in the restaurant business is tough. Of the 153 companies listed in the industry on Yahoo Finance, only 90 are profitable. 

Even the success stories have to contend with razor-thin margins and net profits averaging just a dime for every dollar of sales. If you can build a name, though, that strong brand identity can mean a lifetime of stable earnings and consistent growth.#-ad_banner-#

High barriers to entry, like the marketing dollars it takes to build those brands, make newcomers rare and opportunities to invest before a company has been proven even rarer.

That’s why this company’s bad news may just turn out to be good news for investors.

This brand has been around since 1990 but only really gained widespread recognition since its IPO and expansion in 2005. When the brand took off, it became the strongest in its category. Shares are up more than 570% since the 2009 low and could have a lot further to go, judging by management’s strong expansion plans.

Wish you had gotten in on that kind of growth before the price took off? You may get another chance soon.

California Votes To Increase Its Minimum Wage
In California, a bill signed into law last month will raise the state’s minimum wage from $8 to $9 next year and to $10 an hour by 2016.

This would not be a problem for most large, publicly traded restaurant chains with diversified sales across the United States, but this particular company has its corporate office and more than 95% of its company-owned stores in the state.

With labor being the single biggest cost to a restaurant’s business, Jamba Juice (Nasdaq: JMBA) — with 4,300 employees in California — could be hit disproportionately by the Sunshine State’s increase. California last raised the minimum wage in 2008, by $0.50 to $8 an hour. That year, Jamba Juice saw its labor costs surge by 17.1% over the previous year. Labor as a percentage of store revenue increased from 33.5% to 36%.

  Shares of Jamba Juice are up more than 570% since the 2009 low and could have a lot further to go, judging by management’s strong expansion plans.


While the company has been shifting to a franchise model over the past few years and company-owned stores in California only account for 35% of its total restaurants, the increase in costs could be significant over the next year. Jamba Juice’s California employees currently make an average of $8.30 per hour.

Labor costs of $63 million equaled 30% of total company store revenue in 2012, and revenue at company-owned stores increased just 0.1% to $215.1 million. Company stores account for 94% of total revenue.

The company was just able to turn a net profit of $302,000 in 2012, though preferred dividends moved overall earnings to a negative $0.03 per share. 

Expectations are high and call for a rebound in earnings to $0.36 in FY2013 and $0.66 in FY2014. For the company to post expected earnings off of sales growth expectations of just 4.2%, management would have to perform miracles in margin improvement. I have similar expectations for sales growth, but margins will probably remain weak and could get worse as labor costs jump in 2014. 

This could bring earnings back to a loss, and investors might lose interest in a company that has had trouble making money in the past. I would look for the price to dip to around $11 a share on a surprisingly weak earnings report over the next three quarters, almost 20% down from the current price.

Strong Brand And Franchise Model
So that’s the bad news. The good news is that this pullback may give long-term investors another opportunity to get into a best-in-class brand at a cheaper price.

Jamba Juice is the No. 1-selling smoothie brand in the nation and was the top-of-mind smoothie brand in a 2012 Ipsos survey. The company has more than 100 million annual visitors and 1.6 million fans on Facebook (Nasdaq: FB). That kind of brand identity is worth big money and could even set the company up as a takeover target if shares get too cheap.

CEO James White turned the company around in 2009 with a menu expansion and the new franchisee model. Revenue growth may be weak as the company transitions to franchise royalty payments, but the profit outlook should improve and free cash flow should grow. Profit margins at the stores have almost doubled from 2008 to 20% this year, and net income turned positive for the first time in 2012.

The company is seeing significant growth in its new JambaGo self-service stands, especially in schools that are looking to add healthy alternatives for their students. Plans are also being made to leverage the brand into packaged goods for sale in grocery stores.

Risks to Consider: If you’re interested in JMBA, don’t wait for too much of a drop past my $11 target. The company has a strong brand in the juice and healthy alternatives market with a good domestic and international footprint.

Action to Take –> Avoid shares of Jamba Juice for now on problems in its core market. Revenue growth has been sluggish, and rising labor costs could mean drastically missing expectations. The company has a strong brand and may be a good long-term pick on a cheaper price.

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