Darden Restaurants (DRI 0.46%) may not be a household name, but the restaurants it owns are ones you have probably heard of before. The biggest is Olive Garden, a business that has been performing fairly well of late. However, the bigger news today is the company's plan to buy Ruth's Hospitality Group (RUTH). Here's why it should be a great fit.
A portfolio
Although Italian casual dining brand Olive Garden makes up around half of Darden's revenue, the company actually has a very broad portfolio. Yes, Olive Garden has outsized importance, but the company also operates LongHorn Steakhouse, Cheddar's Scratch Kitchen, Yard House, The Capital Grille, Seasons 52, Bahama Breeze, and Eddie V's.
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In some ways investors should probably think of Darden as a brand manager more than a pure restaurant company. For example, it once owned the Red Lobster brand, but sold it in 2014. One of the key reasons for the sale was that Red Lobster's sales were trending in the wrong direction. Plus, seafood prices can be volatile, and Red Lobster was nearly as large as Olive Garden in restaurant count, exposing Darden to too much variability on the cost front, while not providing enough synergies elsewhere.
With a market cap of $18.5 billion and roughly 1,850 restaurants, Darden has to buy a lot of ingredients. Having brands that serve similar food and in similar environments amplifies its buying power.
In a buying mood
That is why Darden's 2017 purchase of Cheddar's for $750 million was so attractive. This casual dining brand was a good fit with Darden's portfolio, which already included the roughly similar concept YardHouse. Also, based on Cheddar's relatively modest restaurant count, it offered expansion potential as well. At its acquisition, Cheddar's had 140 company-owned locations (with another 25 franchise locations). Today, it operates 179 locations, and Darden has further augmented its buying power along the way.
On May 3, Darden announced another acquisition. This time it plans to acquire Ruth's Hospitality Group, owner of Ruth's Chris Steakhouse, for $715 million. Ruth's owns and operates 80 steakhouses and has a global reach. There are around 74 franchise restaurants in the mix as well. Darden already operates steakhouses Long Horn and The Capital Grille, so Ruth's Chris will fit in well with the portfolio.
And it will provide both enhanced buying power and further expansion opportunities. Darden believes it will be able to find $20 million worth of synergies by the end of fiscal 2025, highlighting that its savings at previous acquisitions have averaged around 4% to 5% of the target's sales.
Notably, Darden explained that fine dining EBITDA (earnings before interest, taxes, depreciation, and amortization) margins are between 17% and 23%, while casual dining EBITDA margins are between 11% and 16%, so this deal should also help improve the company's overall profitability, as well as help to augment its growth opportunities.
Excluding acquisition costs, Ruth's Chris is expected to add between $0.10 and $0.12 to earnings in fiscal 2024 and $0.20 to $0.25 in 2025.
Getting bigger and more diverse
Darden's reliance on Olive Garden is a risk that investors need to consider carefully. However, as the company expands into new concepts that overlap with its existing strengths, that reliance is reduced. And the company ends up with more levers to support its long-term growth and its buying power with suppliers.
But as a brand manager, it has to make sure that all of its brands work from a portfolio perspective. Red Lobster didn't, but Ruth's Chris does, and it follows on similar purchases that have worked out fairly well for Darden. Investors should probably be pleased with the company's latest acquisition plan here.
