On Thursday night, Darden Restaurants, Inc. (DRI) announced a $585M cash transaction to buy Yard House USA. Is this a signal that growth at Darden restaurant mainstays such as Olive Garden and Red Lobster has peaked?
Darden Restaurants, the world's largest full-service restaurant company, owns and operates nearly 2,000 restaurants that generate $8.0 billion in annual sales. The company is headquartered in Orlando, Florida, and employs 180,000 people. The restaurant brands include Red Lobster, Olive Garden, LongHorn Steakhouse, The Capital Grille, Bahama Breeze, Seasons 52, and Eddie V's.
In reaction, the stock declined a little over 1% in after hours. The market appears mixed on the deal so far.
Yard House has 39 restaurants in 13 states with an impressive $8.4M in revenue per store. The deal amounts to 1.8x current sales base. Yard House, which launched its first restaurant in 1996, offers contemporary American cuisine with chef-inspired recipes and ethnic flavors along with a wide range of draft beers and other beverages in a stylish and energetic setting.
Darden plans to use cash to purchase the concept from private equity company TSG Consumer Partners LLC. This will cause the company to reduce the stock buyback for fiscal year 2013 to $50M from $200M-$250M. Apparently the company sees a better deal buying the new restaurant concept than its own shares. The company announces the deal as dilutive to net earnings for fiscal year 2013 by three to five cents, though that number includes at least seven cents of acquisition-related costs. Excluding those numbers as most companies do, the deal will be accretive.
The deal also includes approximately $30M of cash tax benefits spread across 2013 and 2014. It isn't clear how much the tax benefits impact earnings, if at all. Some of the highlights of the combined companies:
- Darden has agreed to acquire Yard House USA, Inc., through an all-cash merger with a total purchase price of $585M and expects to derive approximately $30M of future cash tax benefits as a result of the acquisition.
- Yard House currently operates 39 locations across 13 states and has strong growth potential. Average unit volumes are approximately $8.4 million.
- Including acquisition-related costs of approximately seven to ten cents per share, offset partially by Yard House operating earnings, the transaction is expected to be dilutive to Darden's diluted net earnings per share in fiscal 2013 by approximately three to five cents. In subsequent fiscal years, the transaction is expected to be accretive to Darden's diluted net earnings per share and accretive to the company's sales and earnings growth rates.
As part of the earnings report back on June 22, the company announced a 16% hike in the dividend to 50 cents per share. The new yield of nearly 4% should help support the stock from any significant weakness from this deal.
Along with the dividend hike, the company announced Q4 2012 earnings that had disappointing revenue as comp sales at flagship concepts Olive Garden and Red Lobster were negative. Those disappointing results could be what led this company to this deal. A concern exists that the company is becoming too diversified already, with concepts such as Seasons 52 and Eddie V's that aren't even household names yet.
Below are some of the highlights from the updated financial outlook for fiscal 2013 based on the addition of Yard House.
- The company still expects combined full-year U.S. same-restaurant sales growth in fiscal 2013 of approximately 1%-2% for Red Lobster, Olive Garden and LongHorn Steakhouse, and continues to expect to open approximately 100-110 net new restaurants in fiscal year 2013, exclusive of the Yard House transaction.
- The company expects total sales growth of between 9% and 10% in fiscal year 2013 and anticipates that diluted net earnings per share growth from continuing operations in fiscal 2013 will be in the range of 5%-9%
- The company projects that share repurchase during fiscal 2013 will total approximately $50 million, which is down from the $200M-$250M of share repurchase previously projected.
The market reaction tomorrow should be interesting, as a struggling diversified restaurant company takes on the integration of another concept.
Walgreen Co. (WAG) did a similar all-cash deal that involved scaling back a buyback (see the article here). That deal though gave an obviously flat lining concept a great growth opportunity in Europe. It's not certain if this deal provides anything new to Darden.
The deal appears to be accretive when taking out acquisition-related costs, but it isn't apparent whether the company would be better off just buying back its own stock. The nearly 4% dividend yield should attract plenty of buyers though, with growth stalling and the company facing integration issues and a plethora of concepts to juggle the potential upside appears capped.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: Please consult your financial advisor before making any investment decisions.