Why Cheddar's is Off to a Slow Start Under Darden
Hurricane Harvey made landfall on the final weekend of Darden’s first quarter. In that short time, the catastrophic storm left a pronounced impact on the casual dining company’s bottom line. Rick Cardenas, Darden’s senior vice president and CFO, said during a conference call that the day before Harvey hit Texas, where Darden has 99 total units across its brands (including 47 Cheddar’s Scratch Kitchen locations), same-restaurant sales for the quarter were up 2 percent. Darden closed the quarter 30 basis points lower. Same-store sales ultimately grew 1.7 percent for the quarter, well shy of the Zacks Consensus Estimate of 2.1 percent. Shares plummeted 6 percent in response, and were trading flat Monday morning at 78.78.
“Both storms had a devastating impact on numerous communities that are home to our guests, team members, and restaurants. In the field, our restaurant teams did a tremendous job of getting our restaurants that had to close back open again, and our teams here at the support center provided outstanding support before, during and after the storm hit,” president and CEO Gene Lee said in the call.
Lee said Cheddar’s, which Darden purchased for $780 million in April, was impacted more by Harvey than the company overall. Darden also exercised its right of first refusal to acquire the 11 units owned by a Cheddar’s franchisee in Georgia as well as the development rights the operator held for stores in Georgia and Alabama. The transaction, which closed August 28, will allow Darden to grow Cheddar’s in those respective markets.
Integration expenses related to Cheddar’s negatively impacted Darden’s earnings per share, which the company reported at 95 cents, an 8 percent increase from this fiscal quarter last year. Darden’s diluted net earnings per share, adjusted for impact from continuing operations with Cheddar’s, totaled 99 cents, a 12.5 percent bump. Cheddar’s same-store sales declined 1.4 percent in its first full-quarter review. That’s a reversal from the first five weeks following the deal’s close, where comps grew 1.3 percent. Despite the slow start, Lee remained confident in the development of his company’s latest acquisition.
“Turning to Cheddar’s, we continue to make good progress on the integration. The planning process is behind us and we are now focused on execution,” Lee said. “We are making significant non guest-facing changes over the next year which we know will have an impact on our restaurant teams.”
When asked about the possibility of another addition to Darden’s restaurant portfolio, Lee said the company is “laser focused on integrating Cheddar’s.”
“We think Cheddar’s is an incredible opportunity for long-term growth, and so we are not even contemplating or thinking about doing anything else until that brand is fully integrated,” he said. “It is firing and has really a good growth platform where it’s contributing at a much higher growth rate than Olive Garden and to add to our overall growth rate, so that’s the focus. Once we have visibility that that has been done successfully then we’ll look at the platform and determine what our next move is.”
Lee said Cheddar’s integration process has been a from-scratch process. The company, he said, was “under-invested in” and the systems were lacking. Unlike some past purchases, when Darden had to update operating platforms, the company is now implementing systems that weren’t there in the first place, Lee said. This includes new distribution, a human resources system, new point-of-sale, and more.
“Every back office system is going to be new. These restaurants don’t have [kitchen display systems]. Seventy percent of the restaurants still have a ticket, just one ticket coming into the kitchen, they don’t even have remote printers,” he said. “I haven’t worked in an environment where we haven’t had remote printers since the 1980s, so there’s a lot of work to be done here.”
“We are also in Cheddar’s starting to run negative check average as we standardize the menus across the system,” he added later in the call. And we believe this was not something in our calculations, but we think this is the right thing to do for the business—to standardize all these menus and processes and procedures.”
Although several Darden concepts beat expectations, Olive Garden fell short of Wall Street projections, despite the Italian eatery’s 12th consecutive quarter of same-restaurant sales growth. Olive Garden brought in $989.9 million in sales, about 51 percent of Darden’s total. However, whereas Olive Garden was projected to grow 2.5 percent, the brand only achieved 1.9 percent growth.
Darden, which operates several other concepts including LongHorn Steakhouse and the Capital Grille, reported to investors that total sales increased to $1.936 billion, a 12.9 percent surge over first quarter sales in 2017. Darden barely beat the Zacks Consensus Estimate, which predicted $1.931 billion in total sales. That figure includes 11.2 percent growth from the addition of 141 Cheddar's.
The Capital Grille exceeded expectations of 1.7 percent growth, notching quarterly growth at 2 percent. LongHorn Steakhouse also excelled, surpassing projections of 2.2 percent growth with quarterly growth of 2.6 percent.
Although Olive Garden failed to match Wall Street projections, Lee said Darden was proud of the quarter’s growth.
“I think that we’ll continue to compete effectively. The loyalty between both LongHorn and Olive Garden with our guests, and especially Olive Garden—what Olive Garden means to the American cultural fabric—is just incredible,” Lee said. “Olive Garden is an important brand in American society, and I think it’s going to compete effectively now and for a long period of time.”
Following their dip on Tuesday, Darden’s stock price trended slightly upward over the rest of the week.