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Step Away From the Brinker

Sell this restaurateur if you own it; avoid it if you don't.

The following analysis was published earlier today on Street Insight, and is being republished here as a bonus for readers.

There was little to like from

Brinker International

(EAT) - Get Brinker International, Inc. Report

today when you consider that:

  • EPS and revenue missed targets;
  • same-store sales are lousy across the board for all of its four concepts;
  • poor marketing decisions hurt the company in the quarter;
  • cost pressures are going to hurt margins; and,
  • the company has lightened up on new unit-growth plans for fiscal year 2008.

With the exception of the international growth aspect of the company's expansion plan and continued share buyback, I think that management may have a tough time meeting its earnings expansion goals. Put this all together with a problematic environment for the casual dining segment of the restaurant industry and I think EAT should be sold if owned and avoided if not owned.

Brinker released third-quarter EPS from continuing operations of 44 cents on revenue of $1.12 billion.

The disappointing results were attributed to several factors: decline in dining frequency due to the severe weather, consumer spending and a decision to buy less of media (meaning advertising time) during the quarter vs. last year's period.

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One bright spot was Chili's, which experienced incremental traffic improvement during the month of March and outpaced the industry. However, looking at the company's press release, same-store sales declined by 4.4% in the quarter and 3% for March, so this was a misleading statement from management

Some Cheer in the International Market

EAT added 55 new units systemwide (company and franchised) during the quarter and added to key locations such as Houston, Atlanta and Southern California. The majority of the new restaurants are Chili's brand.

EAT is working to rebalance its company/franchise mix from 80/20 to 70/30 by the end of the year. Franchise success is evident with the Macaroni Grill, and On The Border concepts are generating faster growth than Chili's franchises. Momentum is building in international markets such as the Middle East and Latin America, having added seven new restaurants with a total of nine by year-end, bringing the total international count to 155 in 23 countries. Per the company's press release, a total of 1,756 restaurants were open as of the end of the quarter.

Cutting Back on Capex

The company is cutting back capex by about $35 million from its original estimate to $425 million for fiscal year 2007. Because of a more modest growth plan for fiscal year 2008, EAT now expects $50 million less capex in that year vs. the original estimate, to a range of $250 million to $275 million.

Now EAT expects to open 80 to 90 company restaurants in fiscal year 2008 vs. 145 company restaurants in '07. So far, 101 net new company-owned units were opened since third quarter of '06, increasing sales capacity by 7.9%. Total systemwide openings are expected in the range of 200 to 220 units in fiscal year 2007.

Cost of sales increased from 28.1% to 28.3%. Cost pressures continue for salmon and produce, while the rising cost of corn will impact protein (i.e., beef and chicken) prices in fiscal year 2008. Utility costs were better vs. the prior year. G&A was 3.9% vs. 4.9% due to lower performance compensation. The effective income tax rate was 29.4% vs. 30.9% in the year-ago period.

Repurchase of Shares Continues

EAT repurchased 3.2 million shares in the quarter and 7.7 million year to date. In addition, the company announced that it was entering into an agreement to repurchase $297 million of common stock with a broker-dealer under an accelerated share-repurchase transaction. Since 2001, EAT has repurchased 61.5 million shares, reducing outstanding share count by nearly 20%.

EAT is focused on growth and achieving 15% annual EPS growth.

At the time of publication, Rothbort had no positions in stocks mentioned, although positions can change at any time. Scott Rothbort has over 20 years of experience in the financial services industry. In 2002, Rothbort founded LakeView Asset Management, LLC, a registered investment advisor based in Millburn, N.J., which offers customized individually managed separate accounts, including proprietary long/short strategies to its high net worth clientele. Immediately prior to that, Rothbort worked at Merrill Lynch for 10 years, where he was instrumental in building the global equity derivative business and managed the global equity swap business from its inception. Rothbort previously held international assignments in Tokyo, Hong Kong and London while working for Morgan Stanley and County NatWest Securities. Rothbort holds an MBA in finance and international business from the Stern School of Business of New York University and a BS in economics and accounting from the Wharton School of Business of the University of Pennsylvania. He is a Professor of Finance and the Chief Market Strategist for the Stillman School of Business of Seton Hall University. For more information about Scott Rothbort and LakeView Asset Management, LLC, visit the company's Web site at Scott appreciates your feedback; click here to send him an email.