Darden Poised to Stop Its Floundering

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By Louise Kramer
Staff Reporter

Tired of 55-cent hamburgers? Take a look at

Darden Restaurants

(DRI) - Get Report

. The parent of the

Red Lobster

and

Olive Garden

chains, long out of favor, has started to garner some positive momentum on Wall Street thanks in part to early signs of payoffs from projects designed to make the mature chains more attractive to consumers.

"Red Lobster finally looks like things have stopped getting worse," says Damon Brundage, a restaurant analyst with

NatWest Securities

. "Clearly it's fair to say that the consensus is not real optimistic about the stock right now, but I think that may change over the next two to three months." Darden is the only restaurant company for which Brundage has a buy rating now. His firm has done no underwriting for the company.

Stock in Darden, which has been rising in the past several weeks above a 52-week low of 6 7/8 in early March, was buoyed further this week after

UBS Securities

initiated coverage Tuesday with a strong buy recommendation. It closed up 1/8 Wednesday at 9 1/8.

The company, spun off from

General Mills

(GIS) - Get Report

, is slated to release fourth-quarter and fiscal 1997 results June 18. In the third quarter ended Feb. 23, Darden's sales increased $5.7 million from a year earlier to $800.8 million, but due in part to margin-busting programs at Red Lobster, operating income fell 56% to $27.3 million. Earnings were 10 cents per share compared with 22 cents in the prior year. The company has a market cap of about $1.4 billion, which makes it at least an option for big institutional investors who typically pass up the smaller restaurant chains.

"We're obviously very disappointed with Red Lobster in fiscal 1997," says company spokesman Rick Van Warner. But, he adds, the problems should be largely behind the company now.

Darden has 703 Red Lobster restaurants in the U.S. and Canada, and 477 Olive Gardens. The company also has two units of

Bahama Breeze

, a Caribbean-themed concept launched last year in Orlando that has been a hit with customers. A few more may be opened in fiscal 1998, Van Warner says.

Among Darden's fixes -- for which it's taking a fourth-quarter charge of $230 million pretax -- are closures of 24 underperforming Red Lobster and 12 Olive Garden restaurants, and writeoffs for outdated computer systems in its restaurants. The company shut 13 restaurants in the third quarter.

Other initiatives include a menu revamp at Red Lobster with bigger portions at cheaper prices, which was launched last September. It's unclear how that move will translate into profits, one analyst says. Also, the company is reviewing its advertising account, and is cutting down on coupon deals.

Anton Brenner, an analyst with UBS, says Red Lobster -- the thorn in Darden's side -- is poised to claw its way back to health. "Sales trends for Red Lobster will begin to improve," says Brenner. His firm has not done underwriting for the company.

Same-store sales at Red Lobster have been down for eight straight quarters. They've only bobbed up once in the last 12 quarters. Brenner says sales in the last quarter were "less worse" than they've been.

Several analysts say they aren't ready to tie on the bib. Citing disappointing sales trends, Stacy Jamar of

Smith Barney

last week reiterated her neutral rating on Darden and trimmed her earnings estimates for the quarter and for the next fiscal year by 3 cents each. And following what it called disappointing third-quarter results,

Standard & Poor's

on March 12 downgraded its credit rating for the firm from stable to neutral and has not changed it, a spokesman said Wednesday.

Wednesday,

A.G. Edwards

downgraded from buy to maintain, but analyst Jack Russo says the company looks like it's going to find its sea legs. "We've been recommending the stock from its lows of 6 and change and 7," he says. "Our price objective was $10."

First Call

pegs earnings for the quarter at 18 cents per share and at 34 cents for the just-ended year, and at 57 cents for fiscal 1998. Jamar is a penny below for the quarter and the year, at 17 cents and 33 cents respectively. Brenner of UBS says he shares the Street's estimates for the quarter and the year but is a penny above for 1998.

Why did UBS pick up coverage now? "There's a sense that the industry group has probably bottomed out," says Brenner. "It's at the top of everyone's most-hated list. That's always a reason to look. Hard. Darden's operating trends are looking to improve."