How to Fix Red Lobster and Olive Garden in 1 Step

I read a great article by fellow Fool Rich Duprey yesterday which "examined this letter to management, (from activist investment firm Starboard)." The letter bucked recent requests and demanded that Red Lobster not be spun-off.

If you've been following the drama, a slew of activists have piled into Darden Restaurants  (NYSE: DRI  ) recently, and have demanded Red Lobster and Olive Garden be spun off. This would seemingly make sense as Red Lobster and Olive Garden recently had comparable sales declines, of 4.5% and 0.6% respectively. Yet, the rest of their brands, including the up-scale Capital Grille, have done very well.

Now the activists are pushing back in the other direction.

In its letter, to quote Duprey," Starboard said: Red Lobster performs so poorly as it is that separating it will have it trade at a discount even to Darden, which itself is trading at a discount to the underlying businesses it owns and the real estate it possesses." 

So it made me wonder, what's the best solution for Red Lobster and Olive Garden? Should they spin-off, or should they stay a part of Darden?

Let's dig a little deeper.

Examining Red Lobster and Olive Garden's woes
As I'd mentioned in a recent article, restaurant trends aren't favoring casual dining right now. Securities Analyst Andy Barish, of Jefferies Equity Research, recently predicted an oversupply of casual dining restaurant locations continuing in 2014. The culprit is that diners are gravitating upward (to fine dining), or downward (to fast casual). Yet, even with that challenging macro-environment in mind, this company has failed on an operational level compared to its peers.

Three reasons explain why.

1. Copy-cat reflex

It seems like every sub-par quarter leads Darden to attempt to copy competitor Brinker International's (NYSE: EAT  ) menu, especially with Olive Garden.

Recently Olive Garden introduced a burger to its menu. This was introduced so it could compete with Brinker's Chili's; the idea was that traffic was being crimped by dining groups who had that "one person in the group" who wasn't in the mood for Italian food. Yet, last year the chain attempted to copy Maggiano's (also a Brinker brand), when it mimicked a promotion that allowed diners to "take a pasta dish home" when they ordered one.

Which approach is this brand taking in the long term? I couldn't tell you.

Darden's management is chasing whatever seems to be working now, and that's troubling. I think what management missed is that Maggiano's and Chili's, love them or hate them, have defined brands. I don't know what the heck Olive Garden is offering these days, do you?

2. A preference for cutting costs 

In quarters as recently as this past September, Darden has decided  to appease the street after a poor quarter by "cutting costs." Wall Street is one of few bizarre places where news such as "we're firing people," or "where cutting our food costs," are perceived as good news. 

While these measures may "bump" the stock for a few days, they're disastrous long-term strategies for any business. What is a restaurant built on, if not its people and the quality of its food?

While this move helped short-term margins, customers stopped coming back because they were getting smaller portions, worse quality, all the while paying higher prices. The math doesn't add up. 

3. Mindless dividend hikes

What is most troubling, in this on-going saga, is the slew of dividend increases that Darden has issued in recent years. The dividend has nearly doubled, being increased four times in just the past three years. In what world does it ever make sense to increase your pay (to shareholders in this case) drastically, in the face of admitted struggles and failure? 

To be fair, the aforementioned competitor Brinker has also raised its dividend an absurd amount in recent years. If Brinker was facing this type of activism, I'd be pointing this out as well, but it's not.

Is Darden hiking its dividend to "copy" Brinker and keep pace? I don't know. Yet I think, like the copy-cat tendency and the cost cutting, it signals a common theme--that management is far too concerned with appeasing investors. 

How to Fix Red Lobster and Olive Garden in 1 Step
By analyzing this troubling situation, I've come to the conclusion that neither scenario, a spin-off nor remaining part of Darden, is the right move for Red Lobster and Olive Garden.

Rather, the best move, is for a private equity firm to take Red Lobster and Olive Garden private.

It's blatantly clear that management has made decisions based on appeasing traders in the short term. These are good brands that simply have their priorities out of whack.

It reminds me of a pitcher in baseball who's given up several home-runs, and will "try anything" because his confidence is clearly shaken. The coach needs to pull Red Lobster and Olive Garden to the bench, so they can reflect on their strategy.

A private equity firm should come in and buy these brands. Their performance could be removed from the public eye, and they can focus on reinvesting to build a quality product and experience. 

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Read/Post Comments (12) | Recommend This Article (4)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 01, 2014, at 10:24 AM, patdidit1951 wrote:

    THE RED LOBSTER IN ORANGE VILLAGE, OH SHOULD BE COMPLETELY RE-DECORATED. IT DESPERATELY NEEDS A NEW OVERHAUL. I STOPPED EATING THERE-IT'S DULL AND GLOOMY.

  • Report this Comment On February 01, 2014, at 11:20 AM, spicepuzzle wrote:

    Where's the lobster at Red Lobster? Should be called the Red Shrimp. Many dishes that offered small portions of lobster are now off the menu. Broiled platter for one used to have a couple of small Chilean type lobsters. No more.

  • Report this Comment On February 01, 2014, at 3:44 PM, David1958 wrote:

    They don,t have a Red Lobster here in King sport.Have a Olive Garden.I love the style of olive garden.I know that they serve meals that are ordered.Why not have a meal where you can serve yourself for one price.I know that the Olive Garden is across from Golden Corral.I worked there for 10 years as a cook.I know that is what people are looking for.Price of how much they can get for their money.Family of 4 there can be close to $45.00.Can eat all you want.If Olive Garden and Red Lobster had a buffet for a set price of things that people that go there to eat.Could bring in more customers.

  • Report this Comment On February 01, 2014, at 3:47 PM, David1958 wrote:

    Have customers fill out a list of things that they used to be able to order and see what customers want.If they don,t have it.They will go some where else.

  • Report this Comment On February 01, 2014, at 4:22 PM, da1ryman12 wrote:

    Olive Garden can be fixed with one change: take reservations. They have a great product, but by failing to take reservation they make that good product effectively unavailable, very much less available for their customers. Lack of reservations means long waits, especially at the most popular times. Lunch on business days is out of the question. They may as well make "the slowest service in the industry" their company policy.

  • Report this Comment On February 01, 2014, at 4:51 PM, paulconci wrote:

    The one thing that would fix Red Lobster and Olive Garden here in Chicago is SOAP AND WATER!! There are always several tables with dirty dishes on them, the bathrooms are filthy, which makes me think, if the parts I can see are that bad, what is the back of the house like? I also agree with the reservations idea, Have them use "open table" and then they can all be together.

  • Report this Comment On February 01, 2014, at 8:55 PM, imDanielle2 wrote:

    You want to know what will help Darden.. A huge PR campaign where they start off apologizing for the BS they pulled during the elections and say they are sorry for the way they tried to use their employee's for pawns while supporting the party of HATE! Then start bragging about new employee's pay raises, offer real benefits and promise to treat its employee's much better than they have in the past.. Darden is too stupid to know that they are still being boycotted.. I speak to many people about it all the time and there are many of us who still, will not step foot in they business's because of the BS they pulled during the elections. Despite what they think, a lot of us still remember and we know we can take our dining dollars elsewhere!

  • Report this Comment On February 02, 2014, at 12:21 AM, Specjustinhess wrote:

    I think that bragging about a lie, like employee's pay raises ... because there has not been a pay raise in i think five years.

    While standing for one's belief is commendable, it is usually better if that belief has some accuracy, not to mention if it helps "the cause." But I don't see how hurting employee's pockets will teach Corporate to keep their nose out of political agendas.

    Corporate honchos & their big time investors are still getting paid the big money, the couldn't care less about the $2.13 an hour employee.

    Current events are proof that they will quickly get rid of whom they see as the weakest link not ever considering that if Red lobster is not brining in desirable profits that make the rich richer ... is because Corporate themselves made them the weakest link by not being 100% supportive of their employees by providing safe working environments along with the necessary tools to make the restaurant successful.

    The bare minimum tools will only bring in minimum profits, no matter how hard the hourly employees try to make ends meet with the incomplete backing of their parent company, Darden.

  • Report this Comment On February 02, 2014, at 11:16 AM, Letsknowthetopic wrote:

    Please know your facts before you post on comments on here. Darden has made fortune 100 best company's to work for the past 4 years. No other restaurant company had EVER made the list even once. So let's stop with the $2.13 an hour bit, it's all people ever bring up. If if wasn't worth it to the servers then why are so many people serving at these concepts? They make plenty of money serving. Second point reservations only work for places that are not full during peak times. RL and OG are usually on wait so why would they need to take reservations, that just make the wait longer for the people that walk in. Then the reservation cycle begins where you can't take reservations due to you taking reservations.

  • Report this Comment On February 02, 2014, at 11:28 AM, bigragu1 wrote:

    simple solution

    1. since Olive Garden is NOT a real Italian Restaurant or actual Italian food. Close it and spare us.

    4 Top Rules of Eating Real Italian Food

    1. Again Olive Garden is not real Italian Food

    2. Wine does NOT come in a Box with a spout

    3. Papa John's Pizza Hut Dominos' CiCi are not

    real Pizza

    4. Men dont' drink cappuccino after 1pm. it's only

    for breakfast to dunk buttered toast or anise

    cookie

    Red Lobster

    IF you saw where they get their fish and don't fall for commercial of the Big Ship and processed on board. Try China, Vietnam. Same sanitary standards we have?? Try again !

    Same can be said for all fast food fish places !

  • Report this Comment On February 02, 2014, at 8:06 PM, Joieracer wrote:

    Go back to the right portion size. And stop screwing the the public. They no when there be screwed. Wake up!

  • Report this Comment On February 02, 2014, at 8:08 PM, Joieracer wrote:

    Haven't been back since.

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