Volume 19, Number 2 • Restaurant Finance Monitor, 2808 Anthony Lane South, Minneapolis, MN 55418 • ISSN #1061-382X
February 20, 2008
OUTLOOK
Dig In Time
During times like today’s environment it gives an organization
like ours a unique opportunity to sit back and look at the world
differently… people tend to get more motivated when times are
tough. — Brinker Chairman and CEO Douglas Brooks.
Given the dour mood permeating the economy and equity
markets of late—“Major Indices Set For Worst January
in History” declared a CNBC headline January 31—Mr.
Brooks deserves kudos for his willingness to seek out a silver
lining under such bleak circumstances. After all, he made
the remark during Brinker’s recent quarterly conference call
that was decidedly short on positives, save for the booking
of some one-time refranchising benefits. Too bad the real
motivation, of late, has been on the part of Brinker investors
dumping shares.
To be fair, Brinker hardly deserves to be singled out in this
regard. Nearly every public restaurant company (and many
private ones, too) has taken it on the chin over the past few
months, and the drubbing has not been limited to the legacy
bar & grill crowd. Even the mighty fast food giants, with the
notable exception of McDonald’s and Burger King, would
be sell-off candidates if not for their impressive international
sales growth, punctuated by those nice currency conversion
benefits.
If admission of a problem is the first step toward recovery, then
the falloff in industry traffic does have a silver lining. After
years of overly robust supply growth—even in 2007, casual
dining chains grew units more than 5 percent—nearly every
management team has reduced unit expansion plans in favor of
improving returns to capital. And chains like The Cheesecake
Factory and Panera have vowed to limit any new units to the
highest quality ‘A’ real estate sites, discipline often forgotten
in the heat of rapid expansion.
While the industry is guilty of bringing some of its traffic
problems on itself, current challenges stem from a variety
of sources, most well out of the hands of any one restaurant
company. There is, of course, the current cyclical economic
downturn that has been magnified by a never-before-seen
explosion—and subsequent implosion—of home prices. And
inexorable changes in demographics and consumer tastes are
at work, too.
Outlook continued on page 6
Jimmy John Liautaud, Franchising and
Refranchising Top Monitor’s Franchise
Finance & Development Conference Agenda
April 28-30, 2008 • Rio Hotel, Las Vegas
Franchising and refranchising in the restaurant business are
booming as chains seek to improve their return on capital
by devoting more of their system growth to franchising.
We partner with Franchise Times magazine to produce
the 11th annual Franchise Finance & Development
Conference. The conference is a unique blend of finance
and franchising and is a worthy event for franchisors,
prospective franchisors, and financial institutions who
focus on franchise financing.
The conference focus is on franchise sales and development,
refranchising of company stores, target marketing to multiunit franchisees, the latest franchisee sales and recruitment
techniques, and practical franchise growth strategies as
presented by growth company CEOs. Attendees will have
the opportunity to benchmark themselves against the best
franchise sales organizations. In addition, attendees can
source financing for themselves and their franchisees.
Our keynote speakers include Jimmy John Liautaud
of Jimmy John’s Gourmet Sandwich Shops. In addition,
Dave Hamilton, Chief Restaurant Officer, McDonald’s
USA, and Don Armstrong, a McDonald’s franchisee and
chairman of the National Leadership Council will discuss
the franchise cooperation that is driving McDonald’s
successful turnaround. And as an interesting twist, our
luncheon keynote speaker is Vincent Bugliosi, the attorney
who successfully prosecuted Charles Manson.
If you are already in franchising, considering franchising, or
looking for financing you should attend our conference this
April. For more info, call us 800-528-3296 or download a
brochure at www.franchisetimes.com.
Inside This Issue
Finance Sources.....................................................pages 2-3
Credit Markets......................................................pages 4-5
Development Outlook..............................................pages 8
Market Wrap............................................................. page 9
Analyst Reports...............................................page 10 & 11
© 2008 Restaurant Finance Monitor
FINANCE SOURCES
GE Capital Acquires Merrill Lynch Capital; Funds Roark Capital Group Closes On Second Private
Restaurant Transactions
Equity Fund
In early February, GE Capital Solutions purchased Merrill
Lynch Capital. Financial terms were not disclosed. The
acquisition will add more than $10 billion in assets and $5
billion in commitments to GE Capital Commercial Finance’s
base of $260 billion. This does affect the franchise sector, as
Merrill Lynch Capital, Franchise Finance Group has been
folded into GE Capital Solutions, Franchise Finance.
GE Capital Solutions, Franchise Finance “is excited about
the acquisition of Merrill Lynch Capital’s Franchise Finance
Group,” said Darren Kowalske, president and CEO of GE’s
franchise finance group.
“Both organizations are thrilled to bring together our existing
strengths and will continue to service customers throughout
the restaurant and C&G (convenience and gas) industries,”
added Fred Hoekstra, GE managing director, who was the
managing director of Merrill Lynch Capital’ s franchise group
before joining GE after the acquisition.
GE Funds Operators
GE Capital Solutions, Franchise Finance recently provided $58
million to Sizzling Platter, LLC, a multi-concept company
with 37 restaurants. The financing will be used for refinancing
existing debt, developing new units, and acquiring a Salt
Lake-City based Little Caesar’s franchisee with 51 locations.
Owned by Valor Equity Partners, Sizzling Platter’s portfolio
includes Sizzler Steakhouse, Red Robin Gourmet Burgers,
Ruby River Steakhouse, Spaghetti Mama’s and Hopper’s.
The company will use the financing to grow the concepts in
Colorado, Idaho, Washington and Nevada.
Private equity firm the Halifax Group purchased PJ United,
the largest Papa John’s International franchisee. The Halifax
Group partnered with existing PJ United management to
lead the buyout. PJ United operates 116 Papa John’s stores
in six states. GE provided $30 million in financing for the
acquisition.
GE Capital Solutions, Franchise Finance offers financing
to the restaurant sector, including funds for purchasing
real estate or equipment, new construction or remodels,
acquisitions or refinancing. For more information on GE,
contact 866-438-4333.
Spirit Provides Funding on Smokey Bones Deal
Private equity firm Sun Capital Partners has acquired the
73-unit Smokey Bones chain from Darden Restaurants.
Spirit Finance Corporation provided $83 million in sale/
leaseback and senior financing to help close the deal.
Sun Capital Partners affiliates own Boston Market, Friendly
Ice Cream, Sweet Tomatoes, Chevy’s Fresh Mex, Fazoli’s,
Bruegger’s and other restaurants brands.
Spirit Finance is a diversified real estate investment trust whose
principals have been associated with real estate financing
strategies since 1980. For more information, contact Jeff
Fleischer, senior vice president-acquisitions, at 480-315-6620,
or by e-mail at jfleischer@spiritfinance.com.
Roark Capital Group, a private equity firm that focuses on
investments in consumer and business services companies,
many of these franchised concepts, recently raised $1.0 billion
for their second fund, Roark Capital Partners II, LP. Their first
fund raise, in March 2005, was $413 million.
The firm focuses on investments in companies with revenues
ranging from $20 million to $1.0 billion. Their most recent
equity investment was in Batteries Plus, a franchisor of retail
battery outlets. Other investments include: Moe’s Southwest
Grill, Schlotzsky’s, McAlister’s Deli, Money Mailer, Seattle’s
Best Coffee, and Cinnabon.
According to Neal Aronson, Roark managing partner, the firm
has “a very big appetite to grow our portfolio in franchising.” He
questions a strategy of “timing the market” and buying based
only on multiples of cash flow, because “its pretty dangerous
to buy it (a company) when cash flow declines. If you buy at
a lower multiple (only), you could wake up 14 months later
with a company you paid a higher multiple for than it was
worth. If you are buying just on price, you might be buying
into a system that could have challenges.” Roark tries to find
companies with good growth prospects one “can buy in good
times and bad times.”
A few years ago, Roark acquired the Carvel ice cream system,
which was riddled with issues and unhappy franchisees.
Roark’s management team is credited with turning around the
system and working collaboratively with franchisees. While
this worked for Roark, Aronson said they are most interested
in finding companies “with good franchisee relationships we
can make even better.”
For more information on Roark Capital Group, contact Neal
Aronson at neal_aronson@roarkcaptial.com.
Wells Fargo Restaurant Finance Provides Financing
for BK Acquisition; Credit Facility to Potbelly
Wells Fargo Restaurant Finance recently provided an $18
million senior credit facility for Goldco, LLC. The funds were
used for the partial financing of the acquisition of Goldco,
LLC, by Equicorp Investment Partners, LLC, as well as to
refinance existing debt. The acquisition price was not disclosed.
Goldco operates 57 Burger King stores in Alabama and the
Florida pan handle.
Wells Fargo also provided a $35 million senior revolving credit
facility for Potbelly Sandwich Works, LLC, operator of 184
quick service sandwich restaurants in 10 states. The credit
facility will be used to fund future growth, provide ongoing
working capital and other general corporate purposes.
Wells Fargo Restaurant Finance provides customized financing
packages to corporate restaurant brands, large multi-unit
restaurant franchisees and experienced commercial real estate
investors who own restaurant properties. For more information
on Wells Fargo Restaurant Finance, contact Zachary Kalemba
at 760-918-2708.
Page 2
Goldman Sachs Specialty Lending Group Looks
to Restaurants
Kennedy Heads Up Wachovia’s Food Industries
Group
David Felan, vice president and manager of Goldman Sachs
Specialty Lending Group, says his group is making loans to
restaurant chains. Goldman will focus on loan and investment
opportunities with the following characteristics:
Transaction Types: Debt refinancing, leverages and
management buyouts, recapitalizations, expansion and
growth financings, turnarounds, restructurings, and exit
financings.
Committed Amount: Goldman can underwrite secured debt
levels ranging from $20 million to $200 million plus.
Structure: Complete debt solutions provided on a one-stop,
single-lien basis, as well as investments in individual tranches
of debt.
Loan to underlying intrinsic value: Emphasis on intrinsic
value in addition to traditional credit analysis.
Maturity and amortization: Maturities may extend to six
years; amortization varies with transaction-specific factors.
Rates: Blended deal-by-deal with competitive rates.
For more information, contact David Felan at 972-368-5342
or david.felan@gsslg.com.
Investment banking executive Joe Kennedy recently joined
Wachovia Securities as managing director and head of the
Food Industries group in the investment banking division. He
will supervise the structuring and execution of all transactions
in food and beverage, which includes the restaurant sector.
Kennedy was most recently managing director and co-head
of Retail Investment Banking at Banc of America Securities,
and has 15 years of industry experience.
Auspex Provides Advisory on Transactions
B&G Food Enterprises, LLC, a 47-unit YUM! Brands
operator based out of Morgan City, La., has secured $30.5
million in senior secured term loans from CitiCapital to
refinance debt, and a $7.5 million development line of credit to
fund the development and upgrade of new and existing stores.
B&G, owned by Greg Hamer, operates Taco Bell and KFC
restaurants in Louisiana, Texas and Mississippi and is one of
the largest franchisees in the southeastern U.S. Auspex Capital
served as financial advisor to B&G for this transaction.
Jon Munger has formed Northland Restaurant Group, a
company based in Eau Claire, Wis., to purchase 21 Hardee’s
restaurants for $10.6 million. The stores are located in
Wisconsin, Minnesota, South Dakota and North Dakota.
Munger is an existing Hardee’s franchisee who, within
a different entity, currently owns and operates 41 stores
(excluding the 21 NRG stores). A complicated deal, it involved a
distressed situation and the properties were purchased through
a receiver in seven different closings spread over 13 months.
The acquisition was financed through a sale/leaseback of the
real estate, funded by a consortium of private investors, and
the private placement of preferred stock. Auspex Capital served
as the mergers & acquisitions advisor and sale/leaseback and
preferred stock agency for Northland.
Auspex is an investment banking and financial advisory
firm specializing in restaurant deals. Auspex’s services
include buy- and sell-side M&A advisory, debt placement,
asset valuation, institutional private equity and mezzanine
placement, sale/leaseback structuring and placement and
financial restructuring. For more information, contact Shriram
Chokshi, managing director, at (562) 424-5150 or by e-mail
at schokshi@auspexcapital.com.
“Wachovia gave me the opportunity to come and run a bigger
business,” said Kennedy. Because they had some vacancies
in the restaurant practice last August, Wachovia brought in
Kennedy to continue their strong commitment to the restaurant
sector, he added.
Some operators are struggling with labor and commodity costs,
he said, coupled with the fact that debt has become harder to
come by, makes 2008 “a tough environment for operators.”
Despite that, “we’re open for business,” he stated.
Wachovia will focus on restaurant companies with $15 million
of EBITDA on up. They operate actively in all capital markets,
including public and private debt, mergers and acquisitions
and equity. It is Kennedy’s charge to build out the platforms
in these areas for the food and beverage group.
Wachovia Securities Investment Banking practice provides
a complete range of financing and advisory services to the
restaurant industry. For more information, contact Joe Kennedy,
managing director, at joe.kennedy@wachovia.com.
CapGrow Advises Stevi B Sale
Private equity firm Argonne Capital recently acquired Stevi
B’s Pizza, a 28-unit franchise chain, with locations in seven
states in the Southeast and Midwest. Capital Growth Advisors
(CapGrow) advised the sellers in the transactions. Terms were
not disclosed.
Argonne Capital is an Atlanta-based private equity firm
with $60 million under management. One area of focus is
the restaurant industry, and their portfolio includes the two
largest franchisees in the IHOP system. For more information
on Argonne Capital, contact Karl Jaeger, managing director,
at 404-364-2984.
Capital Growth Advisors is a provider of fee-based financial
consulting services to the multi-unit restaurant industry. For
more information, contact Reid Sherard, president/CEO, at
(734) 997-0813 or by e-mail at reids@capgrow.net.
Analyst Changes
Thomas Weisel Partners analyst, Matthew DeFrisco, is
headed to Oppenheimer & Co. where he will replace Michael
Smith. Andrew Barish, Banc of America Securities analyst,
has left the firm where he covered restaurants since 2001; and
John Glass leaves CIBC to join Morgan Stanley.
Page 3
Credit Markets
Rough Waters Ahead for Restaurant Credit Markets
The availability of credit “is a big concern for franchisors, and
rightfully so,” says Bernie Siegel, president of Siegel Capital, a
company that specializes in brokering financing for franchisees.
“Many lenders, visible players, have certainly tightened their
credit standards, or have stepped out of the arena completely.”
Case in point: In early February, GE Capital Solutions acquired
Merrill Lynch Capital, which includes Merrill’s franchise
finance group.
It’s no secret the sub-prime mortgage debacle has had an
effect on restaurant and franchise lending. Lenders willing
to do a deal six months ago, are less willing to do so now; but
if they do, its for different terms. According to Chris Hurn,
president and CEO of Mercantile Commercial Capital, a firm
that focuses on funding SBA 504 loans, “Every charter bank
has to have a loan loss provision, and they don’t distinguish
between residential and commercial. It is depressing their
availability to write commercial loans.”
Couple that with a more difficult operating environment,
including rising labor costs and a skittish consumer, makes for
a tough time for those wanting to acquire growth capital.
In some cases for non-bank lenders, they have less credit
available to them, so they have less to lend, says Rod Guinn,
managing director of Wells Fargo Foothill, which specializes
in restaurant lending. “As in prior times, some pull back and
focus on their core industries.”
If lenders are still in the market, “you’ll probably see higher
spreads,” according to Greg Burns, vice president at AIG
Franchise Finance. “You could see lower rates, but the spreads
will be wider.”
And underwriting is more stringent, adds Ethan Nessen,
principal of CRIC Capital, a firm that provides sale/leaseback
financing to restaurants and franchises. “There is less aggressive
amortization and lower loan to value.”
Who’s in, who’s out
Although it’s a generality, most experts agree it’s the guy in the
middle who might fare the best in this market. Why?
Smaller, newer players often don’t have the operating history
lenders need in this tighter environment. When terms were
looser a few months ago, some franchisors with as few as nine
or 10 units could have their franchisees approved by a lender,
Siegel says. “Now, I’m sure I couldn’t get that approved in
today’s environment.”
Those with $8 million to $10 million in cash flow will have a
harder time, says Guinn. “There is one exception, though: The
franchisees in that category have not seen much of a change
in the capital available to them. Franchisees in the $5 million
cash flow range are still getting capital. It’s the franchisors and
independents (restaurants) that have suffered the most.”
The mega deals won’t happen, either. Banks won’t, or can’t,
have that much exposure on one deal, like the Dunkin’ Donuts
or Burger King deals of days gone by.
George Rerat, managing director of acquisitions at AEI Fund
Management, which also offers sale/leaseback financing, says
that bigger franchisees are getting financed, and the terms, at
least if they finance with AEI, are about the same, “maybe up
25 to 50 basis points.”
The much-beleaguered casual dining restaurant sector will be
hard pressed during the next year, as well. “In part, that’s due to
bad reports they (lenders) have seen and a lot of painting with
a broad brush,” says Guinn. A whole sector has been blocked
off from gaining capital, which isn’t entirely fair, he says.
One casual dining franchisee complained about the tougher
credit conditions to the Monitor: “The proposal letter looked
promising. The commitment letter was awful.”
“QSR (quick serve restaurants) is holding up pretty well,” adds
Burns. “Both because of the business model and the price
point.” Consumers are indeed trading down.
Operators also have become more creative: “We’ve seen some
mixed collateral deals,” says Trey Brown, senior managing
director of GE Capital Solutions, Franchise Finance, and
“small operators that have a real estate strategy married to a
cash flow strategy.”
Realistic expectations
One of the larger consequences of the tightening is that both
seller and buyer expectations have changed. And if they
haven’t, they soon will. No longer will operators be able to sell
their businesses for seven, eight, or nine times cash flow, says
David Pittaway, senior managing director at private equity
firm Castle Harlan.
The seller has to keep working, or sell at today’s price. “The
seller is selling because he wants to or needs to rather than
because ‘I can get a nice price for my investment,’” he says.
But sellers who sit and wait for those higher multiples to return
while investors are unwilling to pay higher multiples freezes up
deals, says Guinn. CRIC’s Nessen has noticed more than ever
before an increasing amount of deals that get signed up but
don’t get closed, especially in the last three months, he says.
In some cases, it’s because a buyer may be willing to pay an
unrealistic price. “The sellers out in this market should know
who they are dealing with. At the end of the day, the price may
sound great, but if the underlying assumptions that the buyer
is making aren’t realistic with current market conditions, you
waste a lot of time and money.”
SBA financing
Historically, during a credit crunch, businesses can and often
turn to Small Business Administration (SBA)-guaranteed
financing. But statistics say that SBA lending is down in the
last quarter over a year ago.
“I think three or four months of data is too short of a time
period to make grand pronouncements,” says Mercantile
Commercial Capital’s Hurn. “We’re having our best quarter
Page 4
ever; and a record year.”
As Siegel said, some are cutting back or getting out. “Lenders
overreact,” he says. “It’s in their genes. In harder times, many
of them make bad decisions; they generalize.” He says that
by summer, these lenders will look at their bookings and they
won’t have refilled their pipeline.
Despite that fact, Siegel’s broker business, much of which is
SBA-guaranteed lending, “is way ahead over last year. We
know we are going to send more loans out. There are some
lenders who understand that in lean times like these, they can
grow market share,” he says. “They want to do decent deals,
and it’s an opportune time—and everyone remembers who
was there in lean times.”
Laura Witmer, franchise relationship manager at Wells Fargo
SBA says its business as usual for her. “We’ve always been a
conservative bank; our credit policy hasn’t changed.” As she
sees it, other lenders getting out is opportunity for her.
What she sees impacting people who would normally use
the SBA 7(a) funding is the equity they have in their home.
“Home values are not what they were a year ago, so people
don’t have the cash they used to have,” when it is time to put
their equity on the table in the deal. That lack of equity can
“literally shatter their dreams,” she says.
Witmer recounts the story of a franchisee whose lender had
signed a commitment letter a couple of months earlier, and just
backed out of the deal in early February, well after the woman
had started leasehold improvements. Now the franchisee is
looking for a new lender, and the loan broker was asking
Witmer for help.
If she can’t meet the criteria of the lenders still out there, this
franchisee may be out of luck, says Witmer. But, “these are
dreams, and I try to never lose sight of that. We really want
to help.”
Private equity
Much ballyhooed was the flurry of private equity activity
that played a part in the transaction history of franchises
and restaurants these last few years, sometimes snapping up
companies at unreasonably high multiples. If that’s the case,
those days are over.
“The pricing is more reasonable,” said David Rego, managing
director of ReInvest Capital, a private equity firm that focuses
on the restaurant industry, and whose past investments include
franchisees of Burger King and Dunkin Donuts. The earlier,
higher pricing “made it difficult for us to get a deal done,”
he says.
Now, says Rego, there is more opportunity for private equity
in this market, because with less access to debt, sellers need
equity more.
On the other hand, says Castle Harlan’s Pittaway, sometimes
“we cannot get the debt financing necessary to pay those high
prices, and we don’t want to fill the gap with equity, because
then we cannot get the returns.”
Guinn, whose Wells Fargo Foothill has provided debt on
private equity deals, says he’s noticed in a couple of cases a PE
firm will “fund more of the balance sheet, but they don’t call
it equity. It’s debt owed to the investor so they can refinance
it with a third party lender when the market gets back to a
more normal state.”
While some private equity sources may have fallen off due to
the challenging operating environment or less debt available,
those that focus on franchise or restaurants, “are as focused
as ever,” says Graham Weihmiller, managing partner of
American Franchise Company, a PE firm targeting franchises.
“Some investor groups, ours included, are willing to put in
more equity to get good deals done, although you may not
get the same leverage as before.” He says that those staying
in, however, will have a “laser-like focus on unit economics
and good trends.”
And this is the common theme: “Do a really good job of keeping
your customers,” advises Guinn. “When capital is tight, lenders
are going to be more picky. If you have negative customer
counts, lenders are going to be more ‘iffy’ about you.”
“Overall, there’s a flight to quality,” agrees GE’s Brown.
“Stronger operators with good operating fundamentals will
always find financing.”
As we turn the pages of this month’s Monitor, we ask ourselves,
is there any good news? “Speculators and flippers are exiting
the market; lenders are taking down deals that are financially
sound. This is good for both restaurant companies and lenders,”
says AEI’s Rerat. “All the change has been healthy.”
MCC’s Hurn believes all the doom and gloom is unfortunate.
“Here we sit, and unemployment is still lower than what I
thought, way back when I was in college, it could ever get to.
Borrowing costs are lower than what we’ve ever seen, matching
the lows we saw three years ago. If you believe in America long
term, now is the time to be buying.”
Mansbach Joins Ferguson Partners
David Mansbach has joined Ferguson Partners Ltd. as
managing director, and will lead the execution of senior-level
assignments within Ferguson Partners’ Hospitality Practice.
Headquartered in New York, he will serve the chain restaurant,
lodging, and gaming sectors.
Mansbach brings a wealth of experience executing senior-level
executive search assignments within the hospitality industry.
He joins Ferguson from HVS Executive Search, where he was a
managing director. He previously worked in various capacities
in sales, marketing and hotel operations for the Plaza Hotel
in New York City.
Ferguson Partners is part of the FPL Advisory Group family
of companies, which offers clients a range of recruitment and
consulting services globally. You can reach David Mansbach
at dmansbach@fergusonpartners.com.
Page 5
Outlook
Dig in (continued from page 1)
A recent presentation entitled “Casual Dining: 2008 Outlook
for U.S. Restaurants,” hosted by restaurant analyst David
Palmer of UBS Equity Research, raised some interesting issues
surrounding the difficulties facing casual dining as well as
the entire industry. Palmer presents compelling evidence that
suggests the reduction in casual dining traffic is partly due to
secular changes in consumer behavior that are larger in impact
than a temporary pullback in discretionary spending.
Knapp-Track data shows chain casual dining companies
enjoyed nearly uninterrupted positive comps for five years
going into 2006, at which point same restaurant sales turned
negative. The segment enjoyed a brief respite of positive
comps last summer, but companies were lapping relatively
easy comparisons from the year prior. And given the degree
to which casual dining chains took price increases over this
time, the degree to which traffic has declined is partly masked
by reported same store sales.
Citing NPD Group data, Palmer points to a reduction from
2005 to 2007 in the restaurant industry’s share of all supper
opportunities, and a corresponding increase in annual supper
meals prepared at home of about nine per year per person.
Because casual dining is so heavily dependent upon the dinner
daypart—they generated 66 percent of sales at dinner in 2006
versus just 28 percent for fast food—a change in customer
behavior at dinner has a significant impact on the segment.
Fast food companies, for their part, are producing domestic
sales growth primarily at breakfast and “snack” dayparts rather
than dinner where they also experience weakness.
The falloff in casual dining traffic has generated considerable
speculation about whether customers are trading down to
cheaper fast casual or fast food restaurants, buying more
prepared food from grocery stores or simply cooking at home
more. Palmer presents particularly disconcerting findings for
the bar and grill segment: Americans increasingly are grilling
their dinners at home and averaged 17 such meals in 2007, up
considerably over just the last five years. (Palmer suggests that
the greater difficulty in replicating an Olive Garden or Red
Lobster meal at home could help explain Darden’s segment
outperformance.)
Perhaps most disconcerting for the industry as a whole is
restaurant use behavior as it relates to changing demographics.
The NPD Group quantifies restaurant use among different age
groups and finds that persons 65 and older, the vast baby boom
generation soon enough, are considerably less-frequent users of
food-outside-the-home options. Additionally, the leveling off
of female participation in the workforce means that a steady
source of restaurant traffic that had been growing since World
War II—working moms—has stagnated.
Taken together, these various secular shifts in the domestic
marketplace are contributing to the most disconcerting data
presented by Palmer, that per capita restaurant use has peaked.
For decades, restaurant companies enjoyed demand that grew
much faster than population as Americans went from eating
less than 170 meals per year in restaurants in the early ‘80s
to around 210 at the turn of the century. That consumption
growth has leveled off and even declined some since, meaning
overall restaurant demand growth is now dependent upon
growth in the population.
Should this consumer behavior continue indefinitely, it
suggests that the restaurant industry is now operating in a zero
sum world. Chains will have to continue to attract customers
at the expense of independent restaurants, and beyond that at
the expense of other chains. This has sobering implications for
unit growth that, belatedly, appear to be finally taking hold.
Another possibility, a far more optimistic one for the industry,
is that a return to the kind of economic expansion seen in the
‘90s will again push per capita restaurant use to new heights
and usher in another period of strong industry growth. The
success fast food companies have had growing breakfast
suggests that consumers can be convinced to alter their
habits in favor of prepared food purchased outside the home.
But with breakfast, chains are starting from a base of very
little penetration with a low-priced product that responds to
commuters’ demand for convenience: a far different scenario
than that surrounding dinner.
Putting aside the larger secular challenges facing the industry,
a more immediate question concerns the current industry
slowdown and how deep and persistent it is likely to be.
Speculation as to whether or not we already are, or soon will
be, experiencing a recession is largely an academic exercise.
The more important question for restaurant operators and
investors alike revolves around the likely trajectory of consumer
spending.
The Goldman Sachs Retail and Consumer Team held a
conference call in late January to address, in part, consumer
health. Goldman economists expect consumer spending to
remain soft throughout 2008, with real personal consumption
expenditure (by far the largest component of GDP) growth
slowing to zero percent by the fourth quarter of this year. If
expenditures indeed go flat, it would represent “the first period
without spending growth since the 1990-1991 recession, and
only the fourth since 1960,” they point out.
In making their projections, Goldman economists use a
proprietary discretionary cash flow measure that attempts
to get beyond simply looking at disposable income, which
includes such non-wage items as healthcare benefits that
don’t directly correlate with consumers’ propensity to spend.
Their proprietary metric subtracts from disposable income
this type of non-cash compensation, but adds in mortgage
equity withdrawals and consumer credit borrowing. They
then remove financial obligations related to housing, debt
services and “essential” expenditures like energy and food at
home in an effort to dig down to the actual dollars available
for consumer spending, or discretionary cash flow.
This discretionary cash flow measure does a good job of
tracking broad consumer spending. Statistically it is more
highly correlated with retail same store sales growth than that
of restaurants, though a look back over the last decade shows
a clear relationship between the direction of restaurant comps
and this discretionary cash flow metric. It was particularly
Page 6
well correlated with the steep decline and subsequent rise of
comps during 2002 and 2003.
After growing at a healthy clip of 4.5 percent or better through
all of 2006 and early 2007, discretionary cash flow slowed
dramatically last year and is estimated to have turned negative
during the fourth quarter. Goldman economists expect even
deeper reductions in consumer spending power through the
first half of the year before a resumption of positive trends this
summer on the way to better than 4% growth in discretionary
cash flow in the final quarter of 2008.
In a recent economic outlook speech by Richmond Federal
Reserve president Jeffrey Lacker, the economist offered a
similar prognosis: “My sense is that we will see sluggish growth
for at least half a year before a gradual firming begins.” He did
caution, however, that should job growth continue to decline
as early indications suggest it did in January, a more protracted
slowdown is certainly possible. In 2007, the domestic economy
produced on average just 95,000 jobs per month, well below
the 175,000 monthly average achieved during 2006 and below
the rate needed to absorb growth in the labor force.
Refranchising Mania
During times like these, when all of the operating variables
seem to be conspiring at once to thwart any chance of
profitability, the franchise business model takes center stage.
Companies that can claim a low company-to-franchised
restaurant ratio boast of their “insulation” from the ills borne
by their less-franchised peers. Concerned about rising food
and labor costs, remodeling needs, negative traffic, falling
margins? Not to worry, dear shareholder, the franchisees will
contend with those pesky problems. Our royalty comes off
the top line.
There finally seems to be acceptance that the solution to
declining sales is not to build more restaurants, at least not
with company funds. Expansion is giving way to retrenchment.
Capital is dear. Management is promising a renewed focus
on returns on investment and, of course, returning capital
to shareholders. That means not merely curbing new unit
development, but selling restaurants, too.
Refranchising is all the rage. IHOP plans to sell more than 400
Applebee’s to help finance their highly leveraged acquisition,
though they’ve already conceded that they won’t get the
multiples they were banking on when they projected $550
million in refranchising proceeds. Brinker recently unloaded
76 Chili’s to one of its existing franchisees and will continue
to sell units and whittle down its majority company-owned
restaurant base.
Wendy’s had planned to refranchise some 400 units this
year, though thanks to its marathon “Special Committee”
deliberations they’ll be lucky to get half of those done. Jack
in the Box wants to refranchise up to 120 units this year and
more down the road. CKE is selling Hardee’s. Denny’s is
selling Denny’s. Yum! sold over 300 restaurants in 2007—less
than they hoped—and will continue to refranchise until
their company-owned proportion is reduced to less than 10
percent.
One wonders where all of these franchisees will come from?
IHOP is courting private equity money, and no doubt huge
swaths of restaurants will end up in PE firm portfolios. But is
there really a ready supply of would-be restaurant franchisees
out there eager to buy a Denny’s or Wendy’s or Applebee’s
right now? And assuming there is at a reasonable price, will
they be able to get financing?
Apparently yes. “There’s always twenty times more buyers than
there are sellers,” assures Manny Armesto, senior vice president
of the restaurant merger and acquisition firm The Praetorian
Group. And, he says, as long as buyers have successful multiunit operating experience financing shouldn’t be a problem.
This question about franchisee financing is a common one
during earnings call Q&As these days, and responses have
been uniformly positive. Burger King CFO Ben Wells had
this to say: “On the micro level we have actually gone out
and checked with the franchisees that are most likely to be
developing and asked them if they’re having any trouble
with access to capital, and it’s actually just the opposite:
capital is readily available. In fact, it’s going to sound a little
bit incongruent, but we’re actually seeing a number of them
reduce their cost of borrowing as they refinance.”
The same sentiment was echoed by Wendy’s during the
company’s recent earnings call. Brinker executives were a bit
less positive, with CFO Chuck Sonsteby acknowledging “the
current credit market challenges are making transactions a
little more difficult to complete.” Brinker VP of Operations
Guy Constant added, “… we certainly found when we worked
with existing franchisees that have a track record with lenders
that they’ve still been able to get transactions done, but there’s
no question that this market is putting a little more pressure
on folks who might be newer to the industry to get those
deals done.”
—Paul Olson
Wheat, Wheat and Less Wheat
All there is in life is wheat. Oh, wheat! Lots of wheat! Fields of
wheat. A tremendous amount of wheat! Yellow wheat. Red wheat.
Wheat with feathers. Cream of wheat.
—Woody Allen
Two miles from the Monitor’s world headquarters, across
the fallen I-35 bridge, lies the venerable Minneapolis Grain
Exchange, the principal market for hard red spring wheat.
HRS, as it is called, is used in the production of flour for bread,
bagels and hard rolls. HRS has been traded on the exchange
since 1881. Little do the housewives, househusbands, bakers
and the restaurant operators of America realize how this
exchange will impact them during the next few months. HSR
wheat closed at $19.35 a bushel on February 15, an all-time
record. U.S. wheat supplies are expected to fall to 60-year lows
according to the U.S. Agriculture Department. Canada reports
that their wheat stocks are 30% below a year ago and 23%
below the 5-year average for stocks. Our fearless prediction:
Restaurants will pay more.
We assume that private equity and hedge funds are buying
up farmers at times of these record prices?
Page 7
2008 development outlook
Are All The Good Corners Taken?
By Ben Cary & Nick Shurgot
Trinity Capital
It is no secret that the public perception of restaurants as an
investment opportunity has enjoyed an interesting cycle over
the past few years. Due in part to the record setting availability
of private equity capital and increasing leverage capacity,
industry insiders have quietly (and not so quietly) wondered
how these companies will generate the growth necessary
to support lofty valuations. Now, with doom and gloom
throughout the financial media, these same companies are
faced with lofty growth goals and a litany of “new” challenges:
declining sales, minimum wage increases, steep increases in
commodities costs, and excessive leverage. This situation is
not limited to the realm of leveraged buyouts, but has also
impacted public valuations, with several large concepts trading
well below 6x EBITDA. The market is saying that they don’t
believe the growth story.
New Unit Growth
Restaurant industry revenue growth has barely kept pace with
inflation over the past few years, the only engine for growth
appears to be the old standby: unit expansion. However, it is
our belief that this unit expansion will be different from the
expansion witnessed during the late 80’s and early 90’s. The
domestic restaurant market has seen a doubling of restaurants
per capita from 1980 to 2000, making expansion a very
challenging prospect. In a nutshell, all the good corners are
taken.
Meanwhile, the large QSR concepts are looking overseas to
feed their growth needs. Large increases in the middle-class
and the rapid growth of cities in formerly agrarian societies
such as China and India create fertile ground for expansion.
Over the next three decades, 80% of the world’s urban growth
will take place in Asia and Africa and these two continents
are currently home to 18 of the 20 fastest growing cities in
the world. Recent press would indicate these facts are not lost
on the leaders in the industry:
• McDonald’s had 581 international openings vs. 219
domestic openings in 2007, with a focus on expansion in
India, Russia, and China.
• Burger King opened 250 domestic corporate and franchised
locations between 2004 and 2007, but over 1,100
international domestic corporate and franchised locations
between 2004 and 2007. Specifically, Burger King is looking
to increase store count in China from 10 in 2007 to 250 by
2012.
• In 2008, Yum’s goal for international new unit development
is 750 units and the goal for domestic new unit development
is 350 units.
• Starbucks recently announced the closure of 100 domestic
stores due to lackluster sales and indicated plans to open
more international stores than domestic stores for the first
time in its history.
Implications for Domestic Operations
These facts create a challenge and an opportunity not only
for franchisees of these large concepts, but for all domestic
restaurant operations. Domestic restaurant operations will be
challenged because the traditional tool to expand the bottom
line, unit growth, will not be available for most players.
New concepts will have to deliver compelling offerings and
effectively steal share from existing players, which is how
Chipotle has achieved such dramatic success. In addition, a
shift in focus from development to effective operations within
the “four walls” will be the critical path to success as concepts
attempt to manage an income statement that is being assaulted
from all sides. Concepts that can streamline operations,
minimize supply chain waste, efficiently manage utilities and
otherwise maximize efficiencies will be the winners in the new
domestic market reality. Finally, all of this must be achieved by
not damaging the dining experience for your core customers.
See the recent actions of Burger King and Carl’s Jr. as examples
of effectively implementing this strategy.
All of this does present an interesting opportunity for skilled
operators. This combination of a challenging economic
environment and diminishing development opportunities
will provide the opportunity for the strong to get stronger
through consolidation. First, strong companies can benefit
as franchisors sell corporate stores to focus on international
growth. McDonald’s, Wendy’s, Applebee’s, Yum! and even
regional players such as Hardee’s are all undertaking large
re-franchising efforts in part to deploy the capital overseas.
Secondly, smaller operators will be at a distinct disadvantage
in a marketplace that requires increased efficiency. They will
simply not have the scale to reap significant efficiencies from
suppliers, information technology, personnel and other areas.
This will provide a multitude of exciting options for the savvy,
efficient, opportunistic restaurant company.
What does it all mean?
The new domestic market reality is one that is not only loaded
with challenges, but one that is without the old faithful
tool of expansion. To best capitalize on this, restaurant
operators without the scale or ability to exploit international
opportunities must redouble their operational and promotional
efforts while meeting the demands of their core customers.
Those that accomplish this will likely have an opportunity to
grow as weaker competitors and large corporations shed stores
for entirely different reasons. It is truly a time for you to decide
if you are “all-in” or “all-out”. Do you have a plan?
Trinity Capital is a boutique investment banking firm that
provides financial advice to middle-market businesses regarding
mergers and acquisitions, leveraged and management buyouts,
debt restructuring and private placements of debt and equity.
You can reach Ben Cary and Nick Shurgot at 310-268-8330,
or by e-mail at bcary@trinitycapitalllc.com or nshurgot@
trinitycapitalllc.com.
Page 8
Market WRap
Organic To Go
Food Corp.
Red Robin Gourmet
Burgers, Inc.
Star Buffet, Inc.
OTGO.OB • OTCBB
RRGB • NASDAQ
STRZ • NASDAQ
Private Placement
Acquisition of 16 Restaurants
Purchase of 16 Restaurants
Date: January 25, 2008
Offering: The company entered into
a purchase agreement with certain
accredited investors for the sale of
1,428,572 shares of common stock
plus warrants to purchase an additional
642,858 shares of common stock.
Price: Investors paid $1.40 per share and
warrants may be exercised within five
years for $2.50 per share.
Proceeds: The
company
raised
approximately $2,000,000
Use of Proceeds: For working capital
purposes not including the satisfaction
of company debt or the redemption of
common stock.
Date: January 31, 2008
Acquisitions: The company has entered
into agreements to purchase 16 franchised
Red Robin restaurants, one of which is
currently under construction. In midJanuary the company agreed to buy four
restaurants located in Indiana and New
Jersey, with combined 2007 revenue of
$10,700,000, for $8,100,000. At the
end of January, the company agreed to
buy eight restaurants in Wisconsin from
franchisee Dane County Robins and three
restaurants in Minnesota from franchisee
Minnesota Robins for $20,900,000.
The 11 restaurants had combined 2007
revenues of $31,100,000. An additional
Wisconsin restaurant, currently under
construction, will be purchased upon its
May 2008 opening.
Funds: The company will fund the
transactions, which are expected to close
in the second quarter, with borrowing
under its existing $150,000,000 revolving
credit facility that accrues interest, as last
reported, at LIBOR plus 0.75%
Date: February 1, 2008
Price: Approximately $5,000,000
Acquisition: The company purchased
the assets and facility leases of 16
Barnhill’s Buffet restaurants, including
the rights to use the Barnhill’s name
and related intellectual property. The
restaurants are located in the Southeast
and the acquisitions were made as part
of a voluntary Chapter 11 restructuring
entered into by Barnhill’s. The companies
are negotiating the purchase of an
additional four restaurants.
Funds: The company entered into a
senior secured term loan and revolving
credit facility in relation to the acquisition
and retired an existing facility with M&I
Marshall & Ilsley Bank. The terms of the
facility are not finalized and are subject to
modification depending on the number
of restaurants acquired.
INCOME StATEMENT
Nine months ended September 30, 2007
Revenues.............................$11,188,000
Net Loss............................. ($8,868,000)
Net Loss Per Share..................... ($0.47)
Balance Sheet
As of September 30, 2007
Cash........................................$892,000
Total Liabilities.................... $6,121,000
Shareholders’ Equity............$4,394,000
SUMMARY:
Organic To Go Food Corporation
operates a chain of fast casual cafes, the
first in the nation to be certified organic,
in the Seattle, Los Angeles and San
Diego metropolitan areas. In addition
to its 26 cafes, the company operates
120 wholesales Grab n Go locations and
provides catering services that utilize
central commissary facilities. The cafes
and wholesale offerings are found in these
urban areas and on corporate campuses,
universities and in LAX airport.
INCOME StATEMENT
Twelve weeks ended October 7, 2007
Revenues.......................... $188,698,000
Net Income........................... $8,173,000
Net Income Per Share....................$0.49
Balance Sheet
As of October 7, 2007
Cash..................................... $9,702,000
Long Term Debt............... $144,885,000
Shareholders’ Equity........ $272,235,000
SUMMARY:
Red Robin Gourmet Burgers, Inc. owns
and operates 246 casual dining restaurants
in 27 states and franchises 134 restaurants
across 24 states and two Canadian
provinces.
Page 9
INcOME STATEMENT
Twelve weeks ended November 5, 2007
Revenues.............................$15,087,000
Net Loss.............................. ($1,011,000)
Net Loss Per Share..................... ($0.32)
Balance Sheet
As of November 5, 2007
Cash........................................ $497,000
Long Term Debt...................$6,399,000
Shareholders’ Equity.......... $16,734,000
SUMMARY:
Star Buffet, Inc. is a multi-concept
operator with 54 restaurants across 15
states that operate under four reporting
segments based on brand similarities. The
company’s restaurant portfolio includes
16 Barnhill’s Buffets, 12 franchised
HomeTown Buffets, seven JB’s Family
Restaurants and five Whistle Junction
restaurants.
Analyst Reports
Brinker International
EAT – NYSE
(Market Perform)
Recent price: $18.75
Brinker International, Inc. owns 865 and franchises 395 domestic Chilis, owns 216
and franchises 17 domestic Macaroni Grills, owns 137 and franchises 29 domestic
On The Borders and owns 41 Maggiano’s restaurants. The system also has six owned
and 166 franchised international locations.
Buffalo Wild Wings
BWLD – NASDAQ
(Hold)
Recent price: $25.00
Buffalo Wild Wings, Inc. owns and operates 161 and franchises 332 Buffalo Wild
Wing bar and grill restaurants.
Jack in the Box
JBX – NYSE
(Outperform)
Recent price: $25.86
Jack in the Box, Inc., at fiscal year-end, operated 1,436 and franchised 696 Jack in
the Box restaurants and operated 90 and franchised 305 Qdoba Mexican Grills.
Friedman, Billings, Ramsey & Co. analyst Howard Penney believes “management
is taking the right steps” in terms of the company’s transformation, but continued
weak fundamentals in the near-term have him reiterating a Market Perform on the
stock. Management is undertaking a number of strategies to reduce capital spending
and improve returns on its existing assets as it transitions, like much of the industry,
toward a high-margin business model. Management has reduced company-unit
expansion for the foreseeable future in an admission that, as Penney puts it, the
“current casual dining environment does not justify or easily facilitate the construction
of new company stores.” It’s also actively refranchising units in an effort to lower its
company-to-franchise store mix. Outside the U.S., Brinker hopes to take advantage
of the international success of other restaurant companies by doubling its presence
abroad, largely through franchise partners, over the next few years. Penny cautions
that while Brinker is moving towards a sustainable model, “changes cannot come
fast enough” for the company.
While Buffalo Wild Wings continues to produce positive comps and meet long-term
earnings targets, a slowing trend against a challenging economic backdrop has BB&T
Capital Markets analyst Barry Stouffer maintaining a Hold on the stock. The
company’s recently released fourth quarter results included a number of factors that
make year-ago comparisons difficult, but Stouffer characterized the results as “generally
in line with expectations,” an “encouraging” performance given the rest of the casual
dining segment’s difficulties. For the quarter, same store sales were up 3.4 percent at
company restaurants and 2.3 percent at franchised units, a definite slowdown from
the 8 percent or better comps seen at company units over the first three quarters of
2007. But management stressed that average weekly sales continue to outpace comps
which suggests new units are opening strong, and the company continues to meet its
unit growth goals adding 13 company and 19 franchise units in the quarter. With
a current stock price around 20x his 2008 EPS estimate, Stouffer calls the stock’s
valuation “attractive.” But he also sees “significant downside EPS surprises” should
comps moderate and that should limit its “appreciation potential.”
Impressed with the ability of Jack in the Box to consistently beat comp and EPS
expectations “despite a challenging economic environment,” Wachovia Capital
Markets analyst Jeff Omohundro maintains an Outperform rating on shares of
JBX. Back in January, the company featured The Big Deal limited time offer, a
combo meal that has produced positive traffic in the past when consumers were under
pressure. Omohundro expects this “timely and relevant” offer to buoy sales for the
fiscal first quarter ended in late January and expects comps of 3 percent after lapping
5.6 percent comps from the prior year. In addition to the combo offering, Jack in the
Box has had good success with its new breakfast and coffee offerings and its “product
innovation” with products like its Ciabatta sandwiches and sirloin burgers. And the
analyst likes the QSR space overall given the customer propensity to tradedown at
times of “consumer spending pressures.” Management is aggressively selling company
units as it moves towards a more franchised model, but even without refranchising
proceeds, shares of JBX are trading below its average peer group multiple.
Page 10
O’Charley’s
CHUX – NASDAQ
(Market Perform)
Recent price: $11.93
O’Charley’s, Inc. owns and operates 229 and franchises 11 O’Charley’s casual
dining restaurants and owns 115 Ninety Nine and 10 Stoney River Legendary Steaks
restaurants.
P.F. Chang’s China Bistro
PFCB – NASDAQ
(Market Perform)
Recent price: $27.39
P.F. Chang’s China Bistro, Inc. owns and operates 172 P.F. Chang’s China Bistros,
144 Pei Wei Asian Diners and one Taneko Japanese Tavern pending sale.
The Cheesecake Factory
CAKE – NASDAQ
(Buy)
Recent price: $20.55
Citing the “difficult operating environment” and guidance that is “materially” below
prior consensus expectations, analyst Robert Derrington of Morgan Keegan & Co.
lowered his rating on shares of O’Charley’s to Market Perform. The company’s fourth
quarter comps were negative at all three concepts despite rising check averages, as
traffic deteriorated significantly across the board. Management blamed severe weather
and calendar shifts for some of the sales shortfall, as well as the deletion of the longrunning Kids Eat Free program at the O’Charley’s concept. The disappointing sales
generated just $0.12 of EPS for the quarter, well below guidance, and management
has now significantly lowered 2008 EPS projections in light of what it expects will
be “flat to declining” same store sales and higher than expected “rebranding” costs.
To “reconcile” his projections to this updated guidance, Derrington has reduced his
comp and revenue expectations, and given the resulting deleverage, his projected
restaurant level margins, too. The company plans to spend $300,000 per unit to
rebrand 110 restaurants in 2008 in hopes of improving sales, but Derrington’s lower
rating will stand “pending a sustained improvement” in operations.
While William Blair & Company analyst Sharon Zackfia believes “the worst is
behind” for P.F. Chang’s, she prefers to “wait on the sidelines” for the time being and
reiterates a Market Perform rating for the stock. The company beat fourth quarter EPS
expectations thanks to a beneficial tax rate, without which it would’ve matched the
consensus $0.33 estimate. Though same store sales were negative at both the Bistro and
Pei Wei concepts, fourth quarter revenues were better than expected as new Bistros,
not yet in the comp base, experienced sales that were “nothing short of exceptional,”
proving the concept is “far from saturation.” Given positive new unit performance,
the company is largely going forward with earlier expansion plans with 17 additional
Bistros and 25 additional Pei Weis expected for the year, and management “sees no
reason” to reduce planned 2009 openings, either. Management expects some margin
pressure in 2008 for Bistro operations due to labor, commodity and marketing cost
increases, while labor initiatives and “maturation of the store base” should improve
margins for Pei Wei. Overall revenue guidance is for 14 percent growth.
The Cheesecake Factory, Inc. owns and operates 139 The Cheesecake Factory
restaurants, 13 Grand Lux Café restaurants and two bakery production facilities.
Goldman Sachs analyst Steven Kron has adopted a “more constructive view on
certain casual diners” after two years of negative sentiment on the sector and has
added CAKE to his Americas Conviction Buy list. In the recent earnings call,
management announced that it will slow unit development significantly and use
the capital expenditure savings to improve operations and make opportunistic share
repurchases. Kron characterizes the company as moving into “Stage III” of the retail
lifecycle wherein a company trades “sales for profits” through slower growth and
“greater capital discipline.” This stage often “follows a period of multiple contraction”
like the one CAKE has experienced with its share price sitting at a five-year trough
valuation. Though the company has seen sales pressure and declining new unit
productivity, Kron views the “concept, operations and social relevance as among the
best in the casual dining industry,” and with more selective growth and renewed focus
on operations the stock is poised for “a more favorable trajectory.” Kron calculates a
$24 price target implying a 18x multiple of his calendar 2009 EPS estimate.
Page 11
The Restaurant Industry Claims More Victims
When Wind Point Partners, a Chicago-based private equity
fund, put up $80 million to buy Vicorp Restaurants for $225
million in 2003, they never thought in a million years they’d
come up with a goose egg. Wind Point bought Vicorp—108
company and 116 franchised Village Inn restaurants, and 152
company-owned Baker’s Square restaurants—at a reasonable
five times cash flow, a steal when compared to deal multiples
of the past two years.
The seller was Goldner Hawn, a private equity sponsor that
had arranged a going-private transaction of the company only
two years earlier for $175 million. Goldner monetized the
real estate, paid down a substantial chunk of the debt, built
the EBITDA to around $45 million, and then cashed out.
“It was a great asset, and the brands are tried and true and
have been around a long time. It’s not trendy,” said Michael
Solot, a principal at Wind Point Partners, at the time of the
acquisition.
Wind Point turned to Debra Keonig, a former McDonald’s
executive, to run the company. Although the two Vicorp
restaurant concepts would be considered “mature” by most
reasonable standards, Wind Point was optimistic about its
plans to grow the brands. But, operational problems, weak
same store sales and the current retail recession has hindered
results.
If the junk bond market is any indication of its prospects,
Vicorp is headed for bankruptcy. The company’s $126 million
of 10.5% senior notes are trading at $.25 on the dollar. A
bankruptcy filing would undoubtedly mean a loss of Wind
Point’s equity investment.
Vicorp has hired Piper Jaffray & Co. to provide financial
restructuring services. According to the Piper engagement
letter, a copy of which was published on the SEC’s EDGAR
database, Piper’s services will include evaluating the company’s
potential debt capacity, advising the company with respect
to various restructuring options, negotiating an out-of-court
restructuring of the company’s senior notes, or advising on
a plan of reorganization or recapitalization of the company.
Piper will be paid a fee of $50,000 per month for the first two
months of the engagement and $100,000 per month thereafter.
In addition, Piper can earn additional fees for a restructuring of
the company’s notes and its revolving credit facility and term
loans currently held by Wells Fargo Foothill and Ableco, a
unit of Cerberus Capital.
We spoke to one restaurant industry analyst who called the
chances of a successful Vicorp restructuring out of bankruptcy
court as “slim” and said the company needed the financial
equivalent of a “Hail Mary” pass to survive in its present
form.
Buffet’s Holdings filed for bankruptcy on January 22, listing
debts of $1.1 billion including a syndicated term loan of $527
million and $300 million of senior notes, both of which
were issued just 16 months ago. Other large creditors include
distributor U.S. Foodservice ($8.7 million), ad agency W.B.
Doner ($4.7 million), distributor Saladino’s ($4.4 million),
and distributor Van Eerden ($2 million).
Soft sales was the culprit, although it should be noted the
company operated on the narrowest of financial margins
since its acquisition of Ryan’s Restaurant Group in 2006 at
an estimated 8.6x EBITDA. The Buffet’s-Ryan’s deal was a
leveraged buyout in a true sense of the term. In addition to the
debt mentioned above, the combined company completed a
sale-leaseback of the Ryan’s real estate on 275 restaurants for
$567 million at a 10.15% cap rate. Realty Income Corporation,
a San Diego-based real estate investment trust, currently owns
116 of those locations, comprising almost 7.7% of their entire
portfolio.
Problems with the integration of the Ryan’s deal plagued
the company since closing on the transaction. Overall, the
company reported for the recent 12 weeks, revenues declined
7.5% from the prior year, due to a 9.7% decrease in guest
counts, offset by a 2.2% increase in average check. The
company has since closed 52 restaurants in 23 states.
Unsecured creditors, equity holders, and the holders of the
$300 million in senior notes are expected to receive little
from the bankruptcy reorganization. The equity was owned
by Caxton-Iseman Investments (77%), Sentinel Capital
Partners (7%), and members of Buffets senior management
team. Caxton-Iseman received an advisory fee equal to $2.2
million in 2007, and $16.8 million in 2006 in connection with
the Ryan’s merger. Sentinel received $200,000 in 2007, and
$500,000 in connection with the Ryan’s merger.
Through various recapitalizations over the years, both CaxtonIseman and Sentinel recovered their initial equity investment
made in 2000, when they funded the company’s going-private
transaction.
RESTAURANT FINANCE MONITOR
2808 Anthony Lane South, Minneapolis, Minnesota 55418
The Restaurant Finance Monitor is published monthly. No part of the Restaurant Finance Monitor may be copied, quoted or distributed without the
express written consent of the Publisher. It is a violation of federal copyright law to reproduce all or part of this publication by copying, facsimile
or other means. The Copyright Act imposes liability of up to $100,000 per issue for such infringement. The Restaurant Finance Monitor is not
engaged in rendering tax, accounting or other professional advice through this publication. No statement in this issue should be construed as
a recommendation to buy or sell any security. Some information in this newsletter is obtained through third parties considered to be reliable.
President: John M. Hamburger Publisher: Mary Jo Larson Research Director: Paul Olson
Subscription Rate: $395.00 for two years $225.00 per year.
TO SUBSCRIBE CALL (800) 528-3296 FAX (612) 767-3230 EMAIL info@restfinance.com
Page 12