ORLANDO FLA. Darden Restaurants Inc. and Rare Hospitality International Inc. generally is viewed as positioning both companies for revvedup growth, even as some observers expressed concern about the continuing sluggishness in the casual-dining segment. —The pending merger of casual-dinnerhouse giants
Orlando-based Darden said Aug. 16 it would acquire the Atlanta-based steakhouse operator for about $1.4 billion, or $38.15 per share in cash, a nearly 39-percent premium over Rare’s average closing stock price for the 30 days before the announcement. —The pending merger of casual-dinnerhouse giants
The purchase gives Darden, parent of the Red Lobster and Olive Garden chains, an established presence in a new category, steak, as well as the long-desired growth vehicles it has been unable to create internally. Meanwhile, Rare, parent of the LongHorn Steakhouse and Capital Grille brands, stands to benefit from Darden’s deep pockets and economies of scale. —The pending merger of casual-dinnerhouse giants
The transaction received unanimous approval by the boards of directors at both companies. Darden will finance the deal through cash and newly committed credit facilities of $1.2 billion and a $700 million senior revolving credit. The company expects to commence the tender offer for all outstanding shares of Rare common stock Aug. 31, and the deal is expected to close in October. —The pending merger of casual-dinnerhouse giants
The acquisition raised the eyebrows of some analysts, however, who noted that the $1.4 billion price, roughly 10 times projected 2008 EBITDA, or earnings before interest, taxes, depreciation and amortization, represented a substantial premium—especially when compared with the recent acquisitions of OSI Restaurant Partners Inc. and Applebee’s International, which were closer to 8.5 times EBITDA and 9.7 times EBITDA, respectively. —The pending merger of casual-dinnerhouse giants
“DRI’s willingness to accelerate unit growth at a time when most other casual-dining chains are significantly cutting back is interesting,” John Ivankoe of JPMorgan said in a research note. “Given broad-based sales weakness in the casual-dining sector and escalating operating-cost pressures, late-cycle new unit returns are clearly depressed across most casual-dining concepts. However, the multiyear success at DRI’s core Olive Garden concept—three years of positive same-store-sales [growth]—demonstrates that this management team knows how to effectively market/revive brands and consistently meet customer needs in a profitable manner.” —The pending merger of casual-dinnerhouse giants
Clarence Otis, chairman and chief executive of Darden, admitted that the price is a premium one. “We negotiated for awhile,” he said. “It’s a reflection of what is going on in current markets, where stocks have been beaten down. But at the end of the day, we feel good about this price. It is a premium, but it still allows us to be accretive on an after-tax earnings basis this fiscal year and break even on an EPS basis.” —The pending merger of casual-dinnerhouse giants
He added, “What’s really exciting to us is we are now in three of the biggest segments of the restaurant business: seafood, Italian food and steaks. And we’ve partnered with people that know how to do the steak category.” —The pending merger of casual-dinnerhouse giants
Rare currently operates 283 casual LongHorn Steakhouse restaurants and is franchisor of four others, all in Puerto Rico. The company also operates 28 upscale Capital Grille restaurants. It recently shed its Bugaboo Creek Steakhouse brand. Rare posts annual sales of around $1 billion. —The pending merger of casual-dinnerhouse giants
Darden operates 1,397 casual-dining restaurants, including 680 Red Lobster units, 614 Olive Garden outlets, 23 Bahama Breeze restaurants and seven Seasons 52 units. The company, which boasts systemwide sales of more than $5.6 billion, also owns the 73-unit Smokey Bones barbecue chain, which it put up for sale earlier this year after closing 54 branches. —The pending merger of casual-dinnerhouse giants
Otis expects the merged company’s most sizeable concepts—LongHorn, Red Lobster and Olive Garden—to continue to grow at their current paces, with LongHorn, which currently has a strong presence in the Southeast, adding about 35 units annually and broadening into new regions. Capital Grille will open about five new units a year, Otis said. —The pending merger of casual-dinnerhouse giants
Otis noted that by adding Rare’s concepts to Darden’s portfolio, the company will be better able to sustain total-sales growth of 7 percent to 9 percent per year, up from 5 percent to 6 percent, even if any one concept should experience a shortfall in its growth plan. He also noted that significant savings of a still undetermined amount would be realized by combining operations. —The pending merger of casual-dinnerhouse giants
To that end, Rare’s headquarters will move to Orlando. Philip J. Hickey Jr., chairman and chief executive of Rare, will stay on for 12 months as an exclusive advisor to Otis and the Darden executive team, while other senior executives from Rare will remain with the combined company. —The pending merger of casual-dinnerhouse giants
Gene Lee, Rare’s president and chief operating officer, will become president of Darden’s new Specialty Restaurant Group, which will include Capital Grille, Bahama Breeze and Seasons 52. David George will remain president of LongHorn Steakhouse, and John Martin will remain president of Capital Grille. W. Douglas Benn, Rare’s chief financial officer, will continue with the combined company as a senior leader of the team with day-to-day responsibility for integration. —The pending merger of casual-dinnerhouse giants
By acquiring Rare, Otis believes that Darden is positioned to capture the long-term growth opportunity in full-service restaurants, and some observers concurred. —The pending merger of casual-dinnerhouse giants
“Clearly, casual dining is maturing, but growth and demand, while at a lower level than historically, is still there,” said Bryan Elliot, an analyst with Raymond James. “Also, supply is being rationalized. God made us so we have to eat every four to six hours. It must be acknowledged that consumer pressures are high, but it is cyclical and secular.” —The pending merger of casual-dinnerhouse giants
Further, while some dining segments may be overcrowded, steak is not one of them, said Matthew DiFrisco at Thomas Weisel Partners. —The pending merger of casual-dinnerhouse giants
“There will be continued demand for steak away from home,” DiFrisco said. “I would say bar and grill is suffering, and Darden has avoided that. Rare was just at the beginning of a strong advertising program, and that will be aided by Darden’s proven advertising muscle.” —The pending merger of casual-dinnerhouse giants
DiFrisco conjectured that Darden would be positioned to take market share from steakhouse competitors Outback and Lone Star. He added: “The returns at the store level are high. Longhorn’s [return on investment] is 20 percent, while Capital’s is north of 25 percent.” —The pending merger of casual-dinnerhouse giants
Otis said that Darden has been looking at Rare for 10 years. —The pending merger of casual-dinnerhouse giants
“I am not being facetious here,” he said. “We’ve looked at folks in the industry to understand how we can get better. We’ve been admiring Rare and what they do for a long time.” —The pending merger of casual-dinnerhouse giants
The deal between the two companies has been in the works since early June, when Darden sent Rare a letter of interest. Hickey, Rare’s chairman and CEO, said that the offer was unsolicited and “came out of the blue.” —The pending merger of casual-dinnerhouse giants
For Darden’s part, however, an acquisition has been anticipated since earlier this year, when Otis announced that the company was shopping for an established chain in the 100-unit range that could even be a franchise system. In the recent past, the company has had trouble growing its internally developed brands, such as Smokey Bones, which is now for sale, and China Grill, which was abruptly folded in the mid-1990s after growing to about 50 units. —The pending merger of casual-dinnerhouse giants
Despite the recent spate of private-equity buyouts industry-wide, Hickey said Darden’s was the only offer on the table. —The pending merger of casual-dinnerhouse giants
Analysts cautioned that the merger was not a harbinger of any flurry of M&A activity to come. —The pending merger of casual-dinnerhouse giants
Rare’s board did an exhaustive analysis of the deal before deciding it represented the best value for shareholders, Hickey said, adding that management recently was asking itself, “Should we take on more debt, buy back stock or find another means of enhancing value?” —The pending merger of casual-dinnerhouse giants
Both Otis and Hickey agree that successfully integrating the two companies will be paramount. —The pending merger of casual-dinnerhouse giants
“There must be a lot of details attended to without interrupting the strong business momentum that we have at each of these brands,” Otis said, “and we have to do so without the customer noticing and without adversely distracting employees.” —The pending merger of casual-dinnerhouse giants
Elliot with Raymond James said that while the primary risks include such things as cultural clashes and loss of operating talent, he sees them unlikely in the marriage of Darden and Rare because the merging companies have similar cultures. —The pending merger of casual-dinnerhouse giants
“Darden is buying the brand because it thinks it will continue to be successful,” he said. “It’s not broke, so it is not trying to fix it.” —The pending merger of casual-dinnerhouse giants
John S. Glass of CIBC World Markets said in a note that the deal is “strategically” a strong fit from both a concept perspective—as steak is the largest category in casual dining—and a cultural one. He added that both companies have a tradition of operational excellence. —The pending merger of casual-dinnerhouse giants
Hickey agreed that the companies share a number of cultural touchstones. In addition, many of his employees have worked at Darden and vice versa, he said. —The pending merger of casual-dinnerhouse giants
“We’ve always admired them and freely copied their successful policies and procedures,” Hickey said. “Some of our people see it as coming home. The people at Darden are incredibly people-focused from both a guest and an employee perspective, and in the end that is how you drive shareholder value.” —The pending merger of casual-dinnerhouse giants
