Darden Restaurants Inc. has reportedly hired investment firm Goldman Sachs to review recommendations from activist investor Barington Capital Group L.P. that call for breaking the company into two restaurant companies and monetizing its real estate holdings.
The New York-based hedge fund, which represents about 2 percent of Darden shares, released Thursday contents of its Sept. 23 letter to Darden’s board, calling for dividing Orlando, Fla.-based Darden into one company with its mature and brands, and the other with its smaller “higher-growth” and specialty brands like Seasons 52, Eddie V’s, and .
Barington also urged sale-leasebacks of Darden’s real estate or the creation of a separate management company.
“The status quo is clearly not acceptable, as highlighted by Darden’s disappointing first-quarter results and negative investor reaction,” wrote James A. Mitarotonda, chief executive at Barington, in the letter to the board.
Mitarotonda said the company break-up and real estate measures could “generate in excess of $3 billion to $3.9 billion in enterprise value in the next 18 to 24 months.” He added that the fund had met with Darden executives and also suggested further cuts in operating expenses beyond the 85 layoffs and $50 million a year in administrative costs the company announced in September.
Darden’s director of communications, Rich Jeffers, reiterated Friday that last week’s statement would be the company’s only comment on the matter. The company said then that it welcomed Barington’s input about how the company’s board of directors could enhance shareholder value.
“The board will take the time necessary to thoroughly evaluate Barington’s suggestions, just as the company does for any of its shareholders,” Jeffers said.
Mitarotonda said other restaurant companies have succeed by focusing on core brands, citing McDonald’s Corp.’s divesture of, and Donato’s Pizza; Brinker International’s sale of Corner Bakery, Macaroni Grill and On the Border; and the division of Lone Star Steakhouse into Del Frisco’s Restaurant Group.
Darden, which is the nation’s largest casual-dining company, with more than 2,150 restaurants, reported in September a 36.6-percent decline in profit for the Aug. 25-ended first quarter. Net income fell to $70.3 million, or 53 cents per share, from $110.8 million, or 85 cents per share, in the year-earlier period. Revenue rose 6.1 percent to $2.16 billion, compared with $2.03 billion in the prior-year period.
Same-store sales at Darden’s 832-unit Olive Garden and 704-unit Red Lobster chains slipped in the first quarter. Olive Garden’s same-store sales fell 4 percent, and Red Lobster’s comparable sales at U.S. units fell 5.2 percent.
Among Darden’s other brands, same-store sales rose 3.2 percent at 438-unit LongHorn, 2.7 percent at 36-unit Bahama Breeze, 3.2 percent at 50-unit Capital Grille and 2.1 percent at Eddie V’s. Same-stores sales showed declines of 4.4 percent at 31-unit Seasons 52 and 1.5 percent at 46-unit Yard House.
Monetizing real estate holdings
Many of those locations could be monetized through sale-leaseback transactions or by creating a public market real estate investment trust, Mitarotonda said.
“Darden owns substantially more real estate than its peers, including the land and buildings of approximately 1,048 restaurants and the buildings on an additional 802 ground-leased sites,” he wrote, adding that Barington estimated the value of those real estate assets at $4.2 billion.
Barington also said it was convinced Darden could reduce its operating expenses by $100 million to $150 million a year.
“While the company recently committed to reducing operating support spending by $50 million a year, we believe that a rigorous internal review of the company’s cost structure will reveal significant additional cost reduction opportunities,” Mitarotonda said.
The company said it aimed in September to make cuts and save $50 million per year in annual general and administrative expenses beginning fiscal 2015. Darden at the same time said president and chief operating officer Drew Madsen would retire at the end of Darden’s second quarter in November.
“Barington Capital has taken the first step in being the ‘activist’ who fights for the significant changes needed at Darden,” New Haven, Conn.-based Hedgeye Risk Management LLC said in an Oct. 11 note.
Hedgeye suggested breaking the company into an Italian-cuisine company with Olive Garden and Seasons 52; a seafood company with Red Lobster and Eddie V’s; and a steak company with LongHorn and The Capital Grill. Hedgeye recommended spinning Yard House off as separate public company and selling Bahama Breeze.
“We are of the view that Darden has been in steady, long-term decline, and until management or a third party makes significant changes, we will continue to see the earning power of the company erode,” Hedgeye said. “We believe that Darden has become ‘too big to perform’ in the highly competitive casual-dining industry.”