Red Lobster Cast Overboard for 2.1 Billion Clams. Are Investors Better Off?


Source:  Darden Restaurants

Red Lobster has brought out the seafood lover in San Francisco-based private equity investment firm Golden Gate Capital. The firm, which controls over $12 billion in capital and has a history of acquiring or investing in big consumer names, is purchasing the Red Lobster chain from parent Darden Restaurants (NYSE: DRI  ) . You might recall three years ago when Golden Gate acquired California Pizza Kitchen. Golden Gate has big plans in store for Red Lobster, but Darden Restaurants has even bigger plans for the cash. Is this a good move or a sign of a managerial problem?

Source: Darden Restaurants

Trading Red Lobster for some green
The deal that was announced on Friday is for $2.1 billion in cash in exchange for its Red Lobster business and "certain other related assets and assumed liabilities." After all the lawyers and middlemen get their share, Darden Restaurants expects to net $1.6 billion. $1 billion of this is earmarked for a much-needed debt pay down. As of February of this year, Darden Restaurants had liabilities to the tune of $5.1 billion.

Darden Restaurants anticipates that the debt pay down will strengthen its credit metrics and allow it to continue to pay its quarterly dividend of $0.55 per share. This dividend currently costs the company nearly $300 million a year in cash. Finally, Darden Restaurants plans to execute new stock buybacks up to $700 million. Based on the current market cap, this should retire enough shares to boost earnings per share by around 10% while also reducing the cash needs for the dividend by 10%.


Source:  Darden Restaurants

Maximizing shareholder value
Darden Restaurants reminds everybody that in the last five years alone, it has returned over $2 billion to shareholders in the form of dividends and share buybacks. It wants you to know, based on that history, that it has a shareholder-first mentality. With that in mind, Golden Gate Capital was selected from a "broad universe of potential financial and strategic buyers." According to Darden Restaurants, the company considered a myriad of value-creating options, and it decided this one was simply the best for shareholders.

Source: Darden Restaurants

Clarence Otis, Chairman and CEO of Darden Restaurants, stated, "Our Board and management team are highly focused on enhancing shareholder value, and we believe this transaction is consistent with the efforts under way to deliver on this responsibility." Darden Restaurants also owns the Olive Garden and Longhorn Steakhouse chains. The sale of Red Lobster will allow Darden Restaurants to focus its attention on these two strong brands. Last quarter, for instance, Red Lobster saw a revenue decline of 8.7% while Olive Garden saw a decline of only 3.4% and Longhorn Steakhouse sales soared by 9.1%. Traffic at Red Lobster declined by double-digit percentages each month of the quarter.

Source: Darden Restaurants

Foolish final thoughts
Back in March during Darden's earnings conference call, COO Eugene Lee stated, "We thought that [a Red Lobster] promotion that we ran in December was going to be more effective than what it was. It tested very well and we were focusing on superior sea food. It really resonated with the consumers in test and then when we put it in market it did not perform at the level we thought it was going to perform at."

It sounds like the problem with Red Lobster, at least in part, is something wrong with their testing and being able to figure out how to make the customer happy in the real world. Is Red Lobster really that much of a distraction or was it a merely a symptom of another larger underlying problem in the organization that happened to hit Red Lobster harder? We will know the answer if Darden is truly successful at engineering a turnaround at Olive Garden.

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Read/Post Comments (3) | Recommend This Article (1)

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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 May 16, 2014, at 4:23 PM, poundwise wrote:

    I'm a little confused by your math. When you claim that a $700 million buyback will increase EPS 10% you seem to be ignoring the consequences of the company not having one of its two major sources of income any more. I think you need to go back and look at how much Red Lobster contributed to net income before making this statement. My guess is that EPS will be substantially lower going forward.

  • Report this Comment On May 16, 2014, at 5:17 PM, nickeyfriedman wrote:

    @ poundwise,

    It will raise EPS by 10%, whatever that EPS happens to be. I didn't say it will raise 2013's EPS.

  • Report this Comment On May 18, 2014, at 1:27 PM, gwatsof195577 wrote:

    A new owner, a fresh perspective?

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