Restaurants increase convenience and give many people a place to unwind. Still, their demand can ebb and flow with the broader economy because consumers can always cook meals at home when times are tough, and the market seems to be baking in a downturn for the industry - over the past six months, it has pulled back by 1.4%. This performance mirrored the S&P 500’s.

A cautious approach is imperative when dabbling in these companies as many will light cash on fire by opening new locations without the proper justifications. Keeping that in mind, here are three restaurant stocks that may face trouble.

Restaurant Brands (QSR)

Market Cap: $21.65 billion

Formed through a strategic merger, Restaurant Brands International (NYSE: QSR) is a multinational corporation that owns three iconic fast-food chains: Burger King, Tim Hortons, and Popeyes.

Why Are We Cautious About QSR?

1. Day-to-day expenses have swelled relative to revenue over the last year as its operating margin fell by 3.6 percentage points
2. Investments to defend its competitive moat have ramped up over the last year as its free cash flow margin decreased by 3.3 percentage points
3. High net-debt-to-EBITDA ratio of 5× increases the risk of forced asset sales or dilutive financing if operational performance weakens

Restaurant Brands is trading at $66.07 per share, or 17.5x forward P/E. Check out our free in-depth research report to learn more about why QSR doesn’t pass our bar.

BJ's (BJRI)

Market Cap: $1.02 billion

Founded in 1978 in California, BJ’s Restaurants (NASDAQ: BJRI) is a chain of restaurants whose menu features classic American dishes, often with a twist.

Why Do We Steer Clear of BJRI?

1. Disappointing same-store sales over the past two years show customers aren’t responding well to its menu offerings and dining experience
2. Gross margin of 14.3% is below its competitors, leaving less money for marketing and promotions
3. ROIC of 0.9% reflects management’s challenges in identifying attractive investment opportunities

BJ’s stock price of $45.99 implies a valuation ratio of 26.3x forward P/E. To fully understand why you should be careful with BJRI, check out our full research report (it’s free).

Noodles (NDLS)

Market Cap: $36.18 million

Offering pasta, mac and cheese, pad thai, and more, Noodles & Company (NASDAQ: NDLS) is a casual restaurant chain that serves all manner of noodles from around the world.

Why Do We Avoid NDLS?

1. Weak same-store sales trends over the past two years suggest there may be few opportunities in its core markets to open new restaurants
2. Cash-burning history makes us doubt the long-term viability of its business model
3. Unfavorable liquidity position could lead to additional equity financing that dilutes shareholders

At $0.79 per share, Noodles trades at 1.3x forward EV-to-EBITDA. Read our free research report to see why you should think twice about including NDLS in your portfolio.

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