Western Sizzlin Heating Up

Western Sizzlin Corporation (WSZL) engages in the operation and franchising of buffet restaurants. There are five wholly owned company restaurants, and slightly under 130 franchised units. In 2006, Sardar Biglari, investment fund manager of the Lion Fund, became Chairman of the Board of Directors for the company. Mr. Biglari, along with a second group of shareholders (Jonathan Dash and Shawn Sedaghat), controls the company.

For a company its size, Western Sizzlin has been involved in a tremendous amount of change and controversy. Once Sardar Biglari took over the Board, he soon began purchasing shares in another restaurant company, Friendly Ice Cream Corporation (FRN). Though much larger than Western Sizzlin, Mr. Bilgari was able to leverage Western Sizzlin's balance sheet to purchase 531,318 shares of FRN as of 21 November 2006, and along with his Lion Fund's purchases in FRN, he became the largest shareholder in the company.

Mr. Bilgari and current FRN management are locked in a proxy battle that will most likely resolve itself in the company's upcoming annual meeting. Since Western Sizzlin and the Lion Fund's initial purchases of FRN, the stock has moved from the high 7's to the low 12's.

Western Sizzlin's core business has been on the decline for years, but the company still generates over 1.5 million dollars in free cash flow a year, and an alliance with another buffet company, Star Buffet (STRZ), can hopefully stabilize or even slightly grow the number of units in the company's system.

At the end of 2006, Western Sizzlin launched a rights offering to shareholders that increased shares outstanding from 1.2 million to 1.8 million (the shares were sold for 7 dollars for every two rights a shareholder held at the time). This gave the company 4 million dollars to extinguish debt that was used to purchase FRN shares, and also added around 2.5 million dollars to the company's balance sheet.

Valuation:

After the rights offering, the company should have between 2.5-3 million dollars in cash on its balance sheet after all liabilities. With 531,318 FRN shares worth $11.80 a share owned by the company, that adds another 6 million dollars to the company's equity value (potential tax liabilities are not included). I estimate the total cash value of WSZL's balance sheet to be between 8.5 and 9 million dollars.

As for the company's core business, it can produce about 1.5 million dollars in free cash flow. There are also initiatives in place to update the company's image with the Wood Grill Buffet concept, as well as the alliance with Star Buffet to potentially help with future unit attrition.
I would place a value of between 9 and 12 million dollars on the company's core business, based upon its free cash generating capabilities.

This creates a total value of the company between 17.5 and 21 million dollars ($9.7 and $11.5 a share). There is not a huge margin of safety between the company's intrinsic value and the stated market price.

I believe that if Sardar Biglari is able to win his proxy fight against FRN's management, he will merge WSZL with FRN, with WSZL receiving a premium for its shares. There are a number of reasons I think this will happen:

1. By merging WSZL and FRN, the Lion Fund would be able to consolidate its position, assuming it is a stock transaction. I believe it is unlikely that Mr. Biglari would be Chairman of two publicly traded companies.

2. With FRN purchasing WSZL, FRN would also be purchasing and retiring shares in itself, due to the 531k shares WSZL holds in FRN.

3. Western Sizzlin is a very small public company, and its share of Selling, General, and Administrative costs decreases the operating cash flow of the company significantly. By merging the two companies, FRN could easily absorb much of the overhead that WSZL is currently paying as an independent company, and could potentially add over 2 million dollars of cash flow to FRN as a segment of FRN. On page 11 of Western Sizzlin's 3rd quarter 2006 10Q, it is evident that corporate overhead is consuming a very large portion of the company's income.

Western Sizzlin, under the guidance of Mr. Biglari, could turn out to be a strong performer, if it is purchased by Friendlys. If Sardar wins in his proxy fight with Friendlys, WSZL would be worth a look.

Disclosure: I do not hold any shares in WSZL or FRN

WSZL vs. FRN 1-yr chart