DRI | SMOOTH SAILING BUT BIG WAVE APPROACHING

HEDGEYE OPINION

DRI reported impressive results yesterday, with the majority of the success riding the wave of their Never Ending Pasta and Buy One, Get One (BOGO) promotions, reflecting the Company’s intense focus on food, service, and atmosphere. DRI’s Olive Garden brand saw its OG To-Go business post another very strong quarter, as it accounted for 12.6% of total sales in the quarter and grew by 21% compared to the same period last year. Olive Garden also led the way from a same-store sales perspective, as it came in at +2.6% vs Consensus +1.9%, representing a 60bps deceleration in the two-year trend sequentially to 1.8%. Management believes that their favorable menu prices, added customer convenience, in addition to their successful promotions drove this quarter’s positive results.

Going forward, DRI is lapping an unusually challenging comparison, but their two-year SSS trend is projected to remain positive for the foreseeable future. Second only to Bahama Breeze, Olive Garden is facing the steepest projected acceleration in the 2-year average, based on current estimates. In 3Q17, prior to post-earnings revisions, they are projected to achieve a comp of 0.4% on top of a 6.8% last year, or a two-year average of 3.6% which represents a 180bps acceleration in that metric. LongHorn Steakhouse reported same-store sales of +0.1% vs. Consensus +1.6%, with traffic in the red for all three months in the quarter. At LongHorn, management’s focus remains on improving the guest experience by making strategic investments in quality and simplifying operations to improve execution.

Commodity deflation was a tailwind during the quarter, as the Company saw favorable food and beverage expenses due to commodity deflation of ~1.3%. Going forward DRI expects that commodity costs will be flat, as reflected by their unchanged FY17 inflation outlook. With regard to wage inflation, the Company is taking a glass-half-full approach, as they view the current wage and employment environment as favorable to their brands. Although pressures on the federal level may be dampened due to the new administration, state legislation will continue to be a headwind.

Look for catering and OG To-Go to continue to push Olive Garden, and DRI more broadly, forward, especially in an environment where patrons are seeking added convenience at a good price. Olive Garden is currently testing delivery in multiple markets with all the big players, but does not have anything set in stone.

NOTABLE COMPANY THOUGHTS

“Our total inflation estimate between 1.5% to 2% remains the same. However, this inflation expectation now assumes commodity costs are flat to last year and that labor inflation is approximately 3.5%...We’re seeing a lot of wage inflation. And we’ve adjusted our practices.” (Ricardo Cardenas, CFO)

Hedgeye OpinionManagement views wage inflation as a headwind going forward, as their guidance came up a bit compared to the last quarter’s range. This will continue to be an issue across the entire restaurant space for the foreseeable future.

“Historically, these types of environments, when we’ve operated in them before, have turned out to be great for our business. And so I’m optimistic that this wage inflation that we’re seeing is going to turn into discretionary income and some of it is going to end up back in our restaurants.”

Hedgeye Opinion Company management is taking a very optimistic approach to the inflationary wage environment…

"I think we happily saw some great momentum with OG Take-Out, but we also saw some good restaurant momentum.  I think our two promotions in Olive Garden that we ran during the quarter, Never Ending Pasta Bowl and Buy One Get One, are very, very strong value promotions and they’re tough for our competitors to really go against,” (Eugene Lee, CEO).

Hedgeye OpinionOlive Garden’s aggressive promotional activity ultimately led to increased traffic, but it begs the question of whether this traffic can be maintained once such promotions end. However, one thing working in Olive Garden’s favor is its very attractive menu prices.

 

QUICK COMP

  • Comps: +1.7%

—    LongHorn Steakhouse: +0.1% vs Consensus +1.6%

    • By month: Sept. (0.6%), Oct. +1.1%, Nov. (0.4%)
    • Traffic: Sept. (1.1%), Oct. (1.3%), Nov. (1.0%)

—    Olive Garden: +2.6% vs Consensus +1.9%

    • By month: Sept. +1.5%, Oct. +4.5%, Nov. 2.1%
    • Traffic: Sept. (0.7%), Oct. +1.7%, Nov. (0.9%)

—    Specialty Group

    • The Capital Grille: +1.2% vs. Consensus +1.9%
    • Bahama Breeze: +2.6% vs. Consensus +2.3%
    • Eddie V’s: +2.7%
    • Seasons 52: (0.3%)
    • Yard House +0.7%
  • EPS: $0.64 vs FactSet $0.64
  • Total sales from operations was $1.64B vs. FactSet $1.65B
  • Company owned same-restaurant sales: 1.3% vs. consensus 1.4%

DRI | SMOOTH SAILING BUT BIG WAVE APPROACHING - Chart 1

  • Food and beverage costs: 29.1% vs. consensus 29.3%
  • Restaurant margin: 19.5% vs. consensus 19.1%
  • Repurchased $19M shares

 

FY2017 GUIDANCE

  • Reaffirmed FY guidance of EPS $3.87 - $3.97 vs FactSet $3.93
  • Same-store sales +1.0% to +2.0%

Please call or e-mail with any questions.

Howard Penney

Managing Director

Shayne Laidlaw

Analyst


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