Normally the decision of Wendy's/Arby's Group (NYSE:WEN) to sell off Arby's to a private investment group would not interest me all that much. After all, it's a struggling (and not notably well-run) business selling off a non-core asset that itself has seemingly spent more years struggling than thriving since its founding.

And yet, there is something interesting about this story that investors in the restaurant sector probably should not ignore. Not only is there is a lesson about the durability of brands, but also just how difficult it is to crack into the rarefied air of those chains that really matter.

TUTORIAL: Stock Basics

The Long Strange Trip of Arby's
There are more than a few weird stories in the annals of restaurants - from flatulent tortoises at Rainforest Cafe (now owned by Landry's), weird animatronics, lawsuits and bankruptcies at CEC Entertainment's (NYSE:CEC) Chuck E. Cheese's, and the mass-market success of Hooters. Nevertheless, Arby's still manages to stand out.

The concept was pretty successful almost from the start in the mid-1960s and the company nearly launched an IPO in 1970. Unfortunately, the IPO market died, the company ran out of cash, the banks came in, gutted the business and then ran it into bankruptcy. The founders regained control, got the company growing again and then sold it to Royal Crown Cola ... who had good luck with it until the original managers decided to retire in 1979.

From that point, the story of Arby's is a story of constant rise and fall; an apparently successful underlying food concept being ruined over and over again by inept or greedy management (or ownership), underinvestment, and the lack of a consistent vision for the business. Even this latest round of relatively more stable ownership has been little different - Arby's has languished with an expensive menu and no clear defensible niche of its own. (For more, see Sinking Your Teeth Into Restaurant Stocks.)

New Owners and a New Plan?
Wendy's/Arby's Group announced that it would sell a little more than 80% of Arby's to Roark Capital Group, a private equity company that already operates other food chains like Cinnabon, Moe's Southwest Grill, McAlister's Deli, and Schlotzsky's (another food company with an "interesting" corporate history). Wendy's/Arby's is getting $130 million cash in the deal, while also getting rid of $190 million in debt, and the two companies talked of a total deal value of $430 million.

Now it remains to be seen what Roark can do differently. From the outside, it would seem that Roark does not try to apply a "one size fits all" template to its restaurants - Schlotzsky's is still a fixer-upper as it tries to compete with Subway and Quizno's, Moe's is a growth chain, and Cinnabon is solid steady-state business.

More than anything, Arby's needs to become competitive and relevant again. Compared to McDonalds (NYSE:MCD), Subway or Yum! Brands' (NYSE:YUM) line-up of Taco Bell, KFC and Pizza Hut, Arby's is expensive and the company was late to the game with a value menu. What's more, unlike chains like McDonalds or CKE Restaurants' (NYSE:CKE) Hardee's and Carl's Jr. there is no clear identity to Arby's - it's just sorta there; offering a line of products somewhere between fast food burgers and sandwiches.

The Right Concept, Done Right
Certainly there room for recovery in the restaurant space. Dunkin' Donuts (owned by Dunkin' Brands, which recently filed to go public) has recovered and did so with the seemingly improbable strategy of going straight at Starbucks (Nasdaq:SBUX) in the coffee business. Domino's Pizza (NYSE: DPZ) has trounced Papa John's (Nasdaq:PZZA) in the stock market by refocusing itself not on being the cheapest pizza around, but on actually making pizza that was of higher quality, and Panera (Nasdaq:PNRA) emerged from the weirdness of the Au Bon Pain story to become a real player in the growing trend of fast casual food with a healthier angle.

That suggests that there is plenty of room for Arby's to recover. Sure, Jack In The Box (NYSE:JBX) and Sonic (Nasdaq:SONC) are still floundering, Sbarro has declared bankruptcy, and Long John Silver's has a dicey history of recovery as well (especially now that Yum! Brands is throwing in the towel on it), so it is not as though it is easy. But what Dunkin' Donuts, Domino's, and Panera do prove is that customers will gravitate to a selection of food they like at attractive prices. Sure, it sounds obvious, but the roll call of failed restaurants suggests that it is not easy.

The Bottom Line
What can investors learn from any of this? For starters, be cautious of companies that acquire well-established but under-performing restaurant chains - turnarounds are difficult and take a lot of time. By the same token, at least demand to hear a new story; a clear sense from management about why the business hasn't been working and how the new plan will change things. Last and not least, don't be afraid to just stick with the winners - at the right price, a stock like McDonalds, Yum! Brands, or Chipotle Mexican Grill (NYSE: CMG) gives investors well-run businesses that don't need much (if any) fixing.

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Investing News

    Bank Stocks: Time to Buy or Avoid? (WFC, JPM, C)

    Bank stocks have been pounded. Is this the right time to buy or should they be avoided?
  2. Stock Analysis

    Why the Bullish Are Turning Bearish

    Banks are reducing their targets for the S&P 500 for 2016. Here's why.
  3. Stock Analysis

    How to Find Quality Stocks Amid the Wreckage

    Finding companies with good earnings and hitting on all cylinders in this environment, although possible, is not easy.
  4. Stock Analysis

    Analyzing Sirius XM's Return on Equity (ROE) (SIRI)

    Learn more about the Sirius XM's overall 2015 performance, return on equity performance and future predictions for the company's ROE in 2016 and beyond.
  5. Stock Analysis

    Will Virtusa Corporation's Stock Keep Chugging in 2016? (VRTU)

    Read a thorough review and analysis of Virtusa Corporation's stock looking to project how well the stock is likely to perform for investors in 2016.
  6. Stock Analysis

    Analyzing Porter's Five Forces on JPMorgan Chase (JPM)

    Examine the major money-center bank holding firm, JPMorgan Chase & Company, from the perspective of Porter's five forces model for industry analysis.
  7. Investing News

    What You Can Learn from Carl Icahn's Mistakes

    Carl Icahn has been a stellar performer in the investment world for decades, but following his lead these days could be dangerous.
  8. Stock Analysis

    Analyzing Dish Network's Return on Equity (ROE) (DISH, TWC)

    Analyze Dish Network's return on equity (ROE), understand why it has vacillated so greatly in recent years and learn what factors are influencing it.
  9. Fundamental Analysis

    5 Must-Have Metrics For Value Investors

    Focusing on certain fundamental metrics is the best way for value investors to cash in gains. Here are the most important metrics to know.
  10. Stock Analysis

    Analyzing Altria's Return on Equity (ROE) (MO)

    Learn about Altria Group's return on equity (ROE) and analyze net profit margin, asset turnover and financial leverage to determine what is causing its high ROE.
RELATED FAQS
  1. When does a growth stock turn into a value opportunity?

    A growth stock turns into a value opportunity when it trades at a reasonable multiple of the company's earnings per share ... Read Full Answer >>
  2. What is the formula for calculating EBITDA?

    When analyzing financial fitness, corporate accountants and investors alike closely examine a company's financial statements ... Read Full Answer >>
  3. How do I calculate the P/E ratio of a company?

    The price-earnings ratio (P/E ratio) is a valuation measure that compares the level of stock prices to the level of corporate ... Read Full Answer >>
  4. How do you calculate return on equity (ROE)?

    Return on equity (ROE) is a ratio that provides investors insight into how efficiently a company (or more specifically, its ... Read Full Answer >>
  5. How do you calculate working capital?

    Working capital represents the difference between a firm’s current assets and current liabilities. The challenge can be determining ... Read Full Answer >>
  6. What is the formula for calculating the current ratio?

    The current ratio is a financial ratio that investors and analysts use to examine the liquidity of a company and its ability ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center