Darden's Decline Could Mean Opportunity

Shares of Darden Restaurants (NYSE:DRI) fell as much as 10% on September 23 after reporting disappointing first-quarter sales following Tuesday's market close. However, overall indications are that it is holding up very well in a challenging consumer climate. If the shares fall any further, it will be tough for investors to pass it up.

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Recent Results
First-quarter sales fell 2.3% to $1.73 billion as new-store growth was more than offset by a blended 5.3% decrease in same-store sales at the three primary concepts: Olive Garden, Red Lobster and Longhorn Steakhouse. Olive Garden accounted for 47.5% of total sales, posted negative comps of 2.9% and opened 33 net new stores. Red Lobster made up 34.9% of sales, saw a more dramatic 7.9% dip in comps, and opened 11 net new locations. Longhorn Steakhouse was acquired as part of the purchase of RARE Hospitality in late 2007 and accounted for 12.2% as comps fell 6.2% and 14 net new stores were opened during the quarter. The balance of sales stemmed from the Capital Grille steakhouses and Bahama Breeze, the former of which was also acquired as part of the RARE acquisition.

Darden ended the quarter with 1,778 restaurants in the U.S. and Canada, and held expenses in check to post 67 cents in diluted earnings per share. This represented a 15.5% year-over-year increase and stemmed primarily from lower food and beverage costs and other direct restaurant expenses. A slightly lower income tax rate and moderate share repurchase activity also helped boost the bottom line.

Future Expectations
Despite the strong earnings growth that came in ahead of analyst projections, sales were weaker than anticipated and caused management to temper same-store sales expectations for the full fiscal year. It now expects negative 3% comps at the three main concepts as total sales growth could increase as much as 1%, though it will likely come in flat to slightly negative given current trends. Management expects earnings growth to range from -2% to 8% from the $2.65 reported last year.

Competitive Landscape
Darden continues to boost respectable sales and earnings in a difficult operating environment for nearly every casual dining concept. According to the company's industry measure, first-quarter comps fell 7.8%, giving Darden a relative win as rivals, such as Brinker (NYSE:EAT), struggled in their most recent quarters. Brinker's Chili's, On the Border and Maggiano's franchises posted high single-digit declines in comparable sales, and the company sold off its Macaroni Grill, though it did retain a minority stake.

Shares of O'Charley's (Nasdaq:CHUX) plummeted recently as sales and comps fell about 7%, and the company said it would lose money for the next couple of quarters. Ruby Tuesday (NYSE:RT) was able to stem the slide in comps during its fourth quarter, but still posted a full-year loss and recently had to sell shares to shore up its balance sheet. And finally, P.F. Changs (Nasdaq:PFCB) posted a 6.8% comparable sales decline and expects a less than positive sales environment for the current year.

Bottom Line
Given the beleaguered industry climate, Darden is holding its own and is one of the few companies to find a handful of staid restaurant concepts capable of coupling expansion opportunities and profit gains over time. If all goes according to the high end of current company guidance, Darden will eke out positive top- and bottom-line growth for the full year. The stock is not at all unreasonable at under 13 times forward earnings expectations and would be a compelling investment opportunity if its shares continue to trend downward and fall back below $30 per share. (To learn more, see Sinking Your Teeth Into Restaurant Stocks.)


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