The less-worse trade is in the late innings.  We’re at valuation levels where things have to start growing in order to maintain momentum in the stock.

- Mitchell Speiser (subscription required), Analyst, Buckingham Research, who has a Sell rating on PF Chang’s, quoted in “Is This Stock Overcooked? Restuarant stocks are getting frothy, perhaps none more than PF Chang’s” (subscription required), Barron’s, April 27

PF Chang’s China Bistro (PFCB) is an excellent case study in the junk quality of the 7+ week rally since March 9th.  The stock closed at $17.39 on March 6th.  It is currently trading around $32 - up 84% in 7+weeks.

Last Wednesday morning they reported 1st quarter earnings of 56 cents a share - destroying street estimates for 33 cents.  Morgan Keegan called the quarter a “blowout”.

But a closer look shows a low quality of earnings.  Due to the economic environment, they opened up far fewer stores which decreased preopening expenses by $2.3 million or 7 cents a share after tax.  Changes in losses from discontinued operations and net income attributable to non controlling interests contributed another 3 cents after tax compared to the year ago period.

Even excluding those 10 cents, they still beat last year’s 40 cents a share.  I do admit it was a pretty solid quarter given the environment.  But the revenue environment is still brutal with same store sales at PF Chang’s restaurants down 6.6% from a year ago. 

Also interesting was a dramatic change in outlook by PF Chang management.  Two and a half months ago, on Feb. 11, they were calling for a 20% drop in income from continuing operations compared to 2008.  That would be $1.16 based on 2008’s $1.45 in income from continuing operations.  Last Wednesday they upped their forecast to $1.45-$1.50 a share due to “incremental operational improvement opportunities”.

The stock was off to the races on the report - up 20% on big volume.

But even at management’s new higher earnings guidance, at $32 the stock is trading at a 21-22 forward multiple.  That’s just too high for a restaurant company with falling same store sales in a tough consumer environment.  Way too high. 

I can’t see putting a multiple higher than 12 on forward earnings for a stock like this in this environment which means a top stock price of $18 -44% below the current price.

This is just one example of how speculative, over-extended and low quality the current rally is.