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Cooking with Gas at AFC Restaurants

Good money can be made investing in overlooked restaurants and specialty retailers, argues Roger Lipton, whose hedge fund, RHL Associates, has scored a 21.5% gain so far this year--on top of last year's 25% return--by investing in such stocks. So he continues to fancy them. His top bet and a major holding: AFC Enterprises (AFCE), which operates and franchises more than 3,600 restaurants and quick-service cafes in 46 states and 28 countries. AFC's more popular outfits include Popeye's Chicken & Biscuits, Church's Chicken, Cinnabon bakeries, and Seattle's Best Coffee. Goldman Sachs took AFC public on Mar. 1, 2001, at 17 a share. The stock shot up to 25 by May, before easing to 19.91 in recent weeks.

Lipton figures the stock could jump 50% in the next 6 to 12 months, based on unit and sales growth and what he thinks is its low valuation. AFC's overall unit growth has been 11% to 13%, which translates, says Lipton, to a 15% to 20% sales growth. The stock is cheap, he argues, trading at 15 times estimated 2001 earnings of $1.20 and 13 times 2002's $1.54. AFC earned 96 cents a share in 2000. The stock sells at 6.9 times estimated 2001 cash flow of $3.13 a share, and 5.4 times 2002's $3.50 a share.

The reality, says Lipton, is that if the company sustains its sales and earnings growth rate over the next year or so, AFC will end up a buyout target of the big restaurant chains. By Gene G. Marcial

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