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Del Frisco’s Restaurant Group (DFRG) is on the HEDGEYE Restaurants Best Ideas list as a LONG. 

 

We see as much as 25% upside from current levels.

As a reminder we are hosting a conference call on the looming crash in beef prices on Thursday, October 15th at 1:00pm ET, view our invite HERE

As expected, DFRG reported an ugly quarter, but the worst is behind the company and management is adjusting its operating strategy to improve profitability in 2016.  The current EPS estimate of $0.95 for 2016, looks to be manageable given the changes the company is making to the operating strategy.  Importantly, the current estimate does not likely reflect the improved profitability ($0.10-$0.12) from closing the two underperforming stores in 2015. 

THIRD QUARTER FISCAL YEAR 2015 FINANCIAL PERFORMANCE

DFRG reported consolidated revenues of $68.6 million, coming in short of consensus estimates of $70.25 million. A bright spot in their performance was Cost of Goods management, bringing down the cost as a percentage of revenue to 29.0% from 30.2% and versus consensus estimates of 29.48%. Adjusted net income came to $0.9 million, or $0.04 per diluted share, missing consensus estimates of $1.03 million in total but matching consensus EPS estimates of $0.04.

CURRENT SALES GUIDANCE

The company is now guiding to total comparable restaurant sales of -1.0% to 0.5% versus previous estimates of 0.5% to 1.5%.  Consensus estimates are now suggesting 0.1% for the year, well within the range of possible outcomes for the quarter. 

 

3Q15 SAME-STORE SALES PERFORMANCE

Del Frisco’s Double Eagle same-store sales (SSS) declined -1.4%, the decline in comparable restaurant sales was comprised of a -4.3% decline in customer counts, partially offset by a +2.9% increase in average check.  Importantly, the Double Eagle 2-year trends improved by 40bps sequentially.  If you are bearish on DFRG, at this point it’s easy to highlight this performance as a concern.  The issues at the Double Eagle franchise are cyclical, not secular, as this is one of the best brands in the industry. 

DFRG | WHEN UGLY TURNS BEAUTIFUL - CHART 1

Sullivan’s SSS increased +1.2%, the improvement in comparable restaurant sales was comprised of a +0.8% increase in customer counts and a +0.4% increase in average check.  Importantly, Sullivan’s 2-year trends improved by 200bps sequentially.  Sullivan’s has made progress on improving the top line, but we do not have significant improvement built into the model for 2016.

DFRG | WHEN UGLY TURNS BEAUTIFUL - CHART 2

Del Frisco’s Grille SSS decreased -3.5%, the decline in comparable restaurant sales was comprised of a -1.2% decline in customer counts and a -2.3% decline in average check.  In 3Q15, The Grille’s traffic trends improved by 250bps sequentially.  If management can get SSS at the Grille to flat in 4Q, and provide a stronger outlook for performance in 2016, the company’s valuation will improve.

DFRG | WHEN UGLY TURNS BEAUTIFUL - CHART 3

THE 2016 SETUP

We like the 2016 set up for DFRG.

While the company is not providing guidance for 2016, the current consensus numbers look to be conservative.  The company is facing a number of tailwinds in 2016 that will benefit margins and profitability:

  1. A favorable red meat commodity environment in 2H16 and 2017.
  2. Lower costs associated with unit growth.
  3. Margin expansion.
  4. Easy same-store sales comparisons.

SELL BELOW INTRINSIC VALUE

DFRG | WHEN UGLY TURNS BEAUTIFUL - CHART 4

Please call or e-mail with any questions.

Howard Penney

Managing Director

Shayne Laidlaw

Analyst