Why Darden Restaurants Isn’t Worth Your Money

Darden Restaurants (NYSE: DRI  ) , the owner of restaurant chains such as Red Lobster, Olive Garden, and LongHorn Steakhouse, has turned in a patchy performance this year. The stock is up just 13% this year, underperforming the S&P 500's gain of almost 25%. The company's recently declared first-quarter results turned out to be disappointing and it looks like its weak performance might continue in the future.

What gives?

Slower macroeconomic recovery, the impact of the Affordable Care Act, and faltering consumer confidence have primarily been blamed for weak store traffic in general, as consumers start spending less on eating outside and prefer cooking at home. This, in a way, was responsible for Darden not matching up to the revenue estimates in the quarter. It managed to grow its top line a shade above 6% versus the year-ago period to $2.16 billion .

Consolidated comps at its three core brands – Olive Garden, Red Lobster and LongHorn Steakhouse – were down 3.3%. The Specialty Restaurant Group sales increased by a huge 72.7% versus a year ago to $282 million, on the back of comps growth of 3.2% at The Capital Grille, 2.7% at Bahama Breeze and 2.1% at Eddie V's. However, negative comps at Seasons 52 and Yard House by tempered growth.

Also, increased expenses and weak store traffic kept adjusted earnings at $0.53 per share, missing the consensus estimate by a huge margin of more than 23%. Earnings dropped 37%  from the year-ago period.

Some headwinds

The National Restaurant Association expects fullservice sales to total $208.1 billion in 2013, up 2.9 percent from $202.2 billion last year . However, Darden was very cautious on guidance and it reiterated its past guidance on comps of flat to 2% growth. In addition, despite lower revenue in the first quarter, it maintained its earlier guidance of a 3%-5% year-over-year decline in earnings per share.

One thing that all restaurants will have to be well prepared for is the fact that "Retail is eating their lunch" and this trend isn't going to go away. For example, there's a 1% drop in lunch traffic at restaurants since 2008. Restaurants want to put the blame on debt-laden customers spending less but as per data from NPD Group, these customers haven't disappeared from the market but have walked across the street to a Wegmans, Walgreen's, or Walmart to grab lunch.

 This is something that all QSR's and restaurants will have to cope up with and devise strategies in order to ensure that they manage to attain positive comps.

In order to minimize the impact of the economy and consumer spending behavior of a single country on its performance, Darden is also stepping into international markets as a part of its growth strategy, and it is stepping into Malaysia through local chain "Secret Recipe," which operates more than 300 units in Malaysia, China, Thailand, Indonesia, Singapore, Philippines, Brunei, Cambodia, India and Australia.

Looking at peers

When market conditions impact a diversified player like Darden, it is expected that comparatively less diversified players like Ruby Tuesday (NYSE: RT  ) would be affected more severely. It turned out to be that way when Ruby's earnings slipped into the red and the company reported a loss of $0.37 per share as compared to a profit of $0.04 per share in the year-ago quarter. It is not surprising to find that year-to-date, Ruby Tuesday has taken the worst hit as compared to Darden and Bloomin' Brands (NASDAQ: BLMN  ) .

DRI Chart

DRI data by YCharts

The CEO of Ruby Tuesday, J.J. Buettgen, blamed the dismal results on the faltering economy. Ruby Tuesday witnessed a fall of 11.4% in company-owned restaurants and 8.4% at domestic franchised restaurants. As a result, quarterly revenue declined 11.7% year over year to $288.1 million.

Bloomin' Brands is a much diversified player as compared to Ruby Tuesday. Bloomin' Brands has outperformed several of its peers during the last few quarters. However, if comps start to take a hit like almost every other operator in the restaurant space, then things could turn out a bit uncomfortable as it has a pretty thin operating margin, even lower than Darden.

DRI Operating Margin TTM Chart

DRI Operating Margin TTM data by YCharts

In the last reported quarter, Bloomin' Brands' Outback restaurant sales did well, with a 2.8% increase in comps. Bloomin' Brands' fine-dining steak chain was the star performer, though; Fleming's saw a 3.8% increase in same restaurant sales for the 13th consecutive quarter.

Take your pick

Bloomin' Brands' diversified business has been a strength and that's why investors might consider this company for their portfolio. At a P/E ratio of 23.33, Bloomin' Brands isn't expensive as it trades below the industry average P/E of 38.6x. Over a period of five years, Bloomin' Brands' earnings are expected to grow at a CAGR of almost 18%, so growth-oriented investors should take a look at it.

Darden, on the other hand, doesn't look as exciting. Earnings dropped sharply in the previous quarter and the growth forecast for the next five years also doesn't look exciting. Darden's earnings are expected to grow at just 4.54% for the next five years. Investors looking for a fat dividend yield will no doubt be attracted by Darden's 4.20% yield, but its payout ratio of 73% is pretty high and decreasing earnings are another negative.

 
 

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