Brinker International, Inc. (EAT) is on the Hedgeye Restaurants SHORT bench.
HEDGEYE OPINION
Knapp-Track’s bleak comparable sales and traffic metrics were undoubtedly a precursor of what may lay ahead for the casual dining space, as Brinker International, Inc. (EAT) once again reported disappointing earnings numbers today, with both company and franchise owned restaurants missing revenue estimates (Company $748.7 million vs FactSet $763.2 million; Franchise $22.3 million vs FactSet $23.4 million).
Company-owned same-store sales also posted a significant miss, with Chili’s units posting a -3.3% vs FactSet -0.8%. Domestic Chili’s franchises posted a same-store sales miss as well (-3.0% vs FactSet -0.1%). Traffic was the primary driver of the disappointing results in 2Q, as traffic at Chili’s company-owned units was -6.5%, representing a 250bps decrease YoY. Additionally, it is worthy to note that the company cut its FY17 EPS guidance by ~10% at the mid-point to $3.05-$3.15 (prior guidance was $3.40-$3.50). This adjustment further signals how EAT’s management team believes the remainder of the fiscal year will play out, with the restaurant downturn persisting throughout.
EAT’s Q4 had a lot of moving pieces, with management noting that at the beginning they were outperforming the category, but hit the skids due to their Veteran’s Day debacle. Although they eventually moved past that event, the negative downturn in the industry in December was too much to overcome. As it relates to other companies we follow, EAT reiterated thoughts provided by Knapp and other industry sources, that slowing mall traffic due to e-commerce is hampering performance of restaurants in close proximity. As a reminder, 90% of CAKE’s locations are in or in close proximity to malls, and although they are adamant they are in ‘A’ malls, they will not be immune to this factor. CAKE remains a top SHORT for us this earnings season.
Overall, Chili’s is one of the better casual dining brands in the industry, but the aggressive discounting and promotional activity has made it very difficult to keep pace, despite the company’s commitment to improving the customer experience in an effort to attract more millennial customers. Going forward, we expect to see similar results from other casual dining brands, as no one is immune to the downturn.
NOTABLE COMPANY THOUGHTS
“For the casual dining category, Q2 comp sales were well below our expectations, particularly in the back half of the quarter. We believe the primary driver of this was the near-term impact of lower holiday retail sales traffic and the ongoing headwind from lower food at home pricing.”
HEDGEYE – Two major headwinds working against EAT here. With the advent of online shopping, brands with a large footprint near malls have felt the squeeze, especially during the holiday season.
“We'll especially take a big interest in how some of these bigger aggregators, you know, the Postmates, the Ubers, the Amazon; how those Guys are coming to market and what they're bringing with regard to viable business models; how well they deliver our products to see if that's really the best way to go or not.”
HEDGEYE – Not surprising to hear management relay this information, as delivery is the next frontier for restaurants. EAT’s management team has a big decision ahead of it, as who they partner with for delivery will play a key role in their success moving forward. It’s notable, that they did not mention GRUB, as we don’t believe they don’t have a sustainable business model long-term.
“The fastest growing segment of our business has been To-Go. It's grown every year over the past five years and it's gone from 9% of sales to close to 10.5% today. We have invested in a new online platform and we're excited about the opportunity it gives us to further enhance that experience, make it more compelling, and market is more aggressively to consumers.”
HEDGEYE – Further doubling down on their commitment to consumer convenience, as their To-Go business has proven to be a significant value driver.
“Today we note that 1/3 of our guests dine on a value platform and we continue to test multiple options to maximize the offering and drive traffic across our dayparts.”
HEDGEYE – According to management, the 25%-30% range is where restaurants feel comfortable offering without sacrificing much margin, but as you can see EAT is above that range. Further illustrating how competitive the industry has become.
“And so the bigger question on cost of sales I think for us is, you know, are we giving a competitive value proposition out there that in the face of, you know, a lot of folks out there from fast food on really lowering prices and giving bigger portions potentially. So that's where we're more focused, not that quality isn't critical.”
HEDGEYE – Management is very aware of how competitive the promotional environment has become, and they are committed to remaining competitive with regard to pricing, while still maintaining food quality.
QUICK COMPS
Revenue:
- Company: $748.7 million vs. FactSet $753.5 million
- Franchise: $22.3 million vs. FactSet $23.4 million
- Costs of Sales: 25.8% vs. FactSet 26.2%
- Restaurant margin 15.1% vs. FactSet 15.5%
- G&A 4.3% vs. FactSet 4.5%
- EPS: $0.71 ex-items vs. FactSet $0.74
FY17 Outlook:
- EPS $3.05-3.15 vs prior guidance of $3.40-$3.50 and FactSet $3.36
- Total revenues now estimated to decrease ~2.0%-2.5%
- Comps -1.5% to -2.0% vs prior guidance at lower end of 0.5%-2.0%
- Restaurant operating margin is estimated to be down ~90bps YoY
- G&A expense is now estimated to be an increase of ~$6.0 million to $8.0 million
- Depreciation is estimated to be flat to an increase of ~$1.0 million
- FCF estimated to be $205 to $215
Please call or e-mail with any questions.
Howard Penney
Managing Director
Shayne Laidlaw
Analyst
