5 Reasons Darden Doesn’t Look So Delicious

by Alyssa Oursler | December 4, 2012 1:31 pm

5 Reasons Darden Doesn’t Look So Delicious

Darden Restaurants (NYSE:DRI[1]) — parent company of Red Lobster, Olive Garden, LongHorn Steakhouse and some other names that you may or may not have heard of — sure isn’t sitting well with investors today.

From January to October, the stock had gained an impressive 25%. Since then, though, it’s lost nearly all of that — thanks in large part to a double-digit drop by midday Tuesday.

What’s causing everyone to dine and dash? Well, here are five reasons the stock isn’t very appetizing right now:

1. Bleak numbers. A not-so-hot outlook was the main culprit for today’s sell-off. Darden, which is slated to report second-quarter results on Dec. 20, now expects earnings of 25 to 26 cents per share. Wall Street’s expectations? Nearly double that: 47 cents per share.

And the full-year isn’t any prettier. The company cut its fiscal 2013 outlook to an EPS range between $3.29 and $3.49 — again far behind the Street’s expectations of $3.88.

2. Countless excuses. So what’s the deal? Good question. Darden cited several different reasons[2] for the ugly forecast, including Hurricane Sandy, its acquisition of the Yard House USA chain, bad publicity regarding healthcare and failed promotions.

On the one hand, you could look at this as simply bad luck: Lots of headwinds hit the company at the same time, and while the result will be grim, the problems should blow over.

On the other, a scattered list makes it feel like the company is just grasping for straws and hasn’t quite pinpointed what’s going wrong, much less how to fix it.

3. A confused identity. The most highlighted excuse was that the company’s promotions didn’t resonate with cash-strapped diners. As The Wall Street Journal put it[3], Darden has been trying to update its chains to make them “feel both more affordable and trendy.”

And that brings us to our next problem. Take a second, and think about Darden’s restaurants. Olive Garden’s “When you’re here, you’re family” atmosphere is hardly cutting-edge. As for Longhorn, it seems difficult to mesh a steakhouse with affordability to begin with … much less to make a Texas-themed restaurant trendy. And when I think of Red Lobster, all I picture is wood paneling and tanks of live sea creatures.

In theory, a successful revamp of the restaurants could change such perceptions, but it hasn’t worked yet, and doesn’t sound like a promising possibility.

4. Ugly margins. Affordability, on the other hand, seems like a much more promising way to attract customers. So let’s say the company tosses out some promotions that diners do want. Then what?

That’s a double-edged sword in itself. If more people come by to get plateloads of food at low prices, Darden will just be getting razor-thin margins — hardly enough to turn things around.

The lunchtime soup, salad and breadsticks deal for only $6.95, for example, is a go-to at Olive Garden. And while it’s cheap to make, the seven orders of breadstick and four bowls of salad my friends have gone through probably adds up.

The same was true for the endless pasta deal my friends and I exploited as much as possible, trying several flavors and packing leftovers into a box. The deal is no longer offered — possibly because the the most appealing promotions aren’t the path to profits, unfortunately.

5. Not the first crack.  Even when the stock was climbing, cracks were evident in the company’s foundation. Back in September, shares got a boost when Darden reported better-than-expected earnings. However, even then sales were slowing, but that was masked by the addition of over 100 new restaurants.

In its most recent update, Darden noted that total sales are expected to rise 7.5% to 8.5% but that U.S. same-restaurant sales are expected to be flat or down 1% for the company’s three leading chains.

The only good news hidden in this mess? Well, such low expectations could mean even a slight beat could give shares a boost when earnings do come in. Plus, today’s sell-off has upped the stock’s dividend yield to over 4% and lowered its price-earnings tag to only 10 times forward earnings.

But in the end, slowing sales, an ugly earnings outlook, random excuses, an unsuccessful revamp and unpopular promotions — which wouldn’t be all that profitable not matter how popular — sound like a five-course meal of red flags that you’re probably better off passing on.

As of writing this, Alyssa Oursler did not own a position in any of the aforementioned securities.

Endnotes:
  1. DRI: http://studio-5.financialcontent.com/investplace/quote?Symbol=DRI
  2. several different reasons: http://www.latimes.com/business/money/la-fi-mo-olive-garden-darden-obamacare-20121204,0,6293689.story
  3. The Wall Street Journal put it: http://online.wsj.com/article/SB10001424127887323901604578159013418434232.html?mod=googlenews_wsj

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