Darden Looks to Budding Firm For Expansion
07/13/2012| 02:46pm US/Eastern
--Darden buys Yard House for $585 million in all-cash deal
--Darden says Yard House has potential to open 150 to 200 locations in the U.S.
--Yard House joins other specialty Darden brands including Capital Grille and Bahama Breeze
Darden Restaurants Inc. (>> Darden Restaurants, Inc.) is buying one of casual dining's rising stars, Yard House USA Inc., to help it continue opening new restaurants once it has tapped out of Olive Garden and Red Lobster expansion in the U.S.
Darden, which owns the Italian and seafood chains as well as LongHorn Steakhouse, has been expanding what is known as its specialty-restaurant group--which includes higher-end chains such as Capital Grille and Bahama Breeze--through small acquisitions. But its $585 million all-cash deal to purchase Yard House represents a significant investment.
Lately, Darden's smaller specialty-restaurant group, which Yard House will soon join, has been outperforming its more mature, core brands.
Darden has seen its business fluctuate with the shaky economy. Last month, the company said the "frustratingly slow" economic recovery was forcing it to focus more on affordability at Olive Garden and Red Lobster to stay attractive to value-oriented customers. However, it is also facing higher food costs and tougher competition.
"Yard House gives Darden greater exposure to both younger and more-financially resilient customers," demographics that Olive Garden and Red Lobster seem to have lost, Darden Chief Executive Clarence Otis said during a conference call Thursday night.
Yard House, which opened its first restaurant in 1996, now has 39 restaurants in 13 states. Its vast burger and draft-beer menu is more upscale than most bar-and-grill establishments, and industry analysts said the next generation of casual diners is looking for this more-polished feel.
Yard House is also "poised to take massive market share from aging mass-casual competitors, as baby-boomers continue to shift their dining-out preferences towards better environments where they can control the pace of their dining experience," said Cowen analyst Paul Westra.
Darden says Yard House has the ultimate potential of opening at least 150 to 200 locations in the U.S., and is on track to open six to eight new locations each year for the next two years. Darden currently has 786 Olive Garden locations in the U.S.
"And now, with the inclusion and the support and, frankly, the muscle of Darden to help us there, we think we can possibly increase those numbers, but time will tell," Yard House Chief Executive Harald Herrmann said during the conference call.
Yard House generates sales of about $800 per square foot, second only to the legendary Cheesecake Factory (>> The Cheesecake Factory Incorporated) among national casual dining chains of size, noted Raymond James analyst Bryan Elliott. "We believe it will play a key role in sustaining Darden's top-line growth goals as the core Olive Garden and Red Lobster concepts approach their ultimate footprint potential within the next few years," Mr. Elliott said.
But still, competing for guests with a burgers-and-beer motif is tough. The market is full of similar concepts, making it difficult for restaurants to stand out.
"As we look at the bar-and-grill segment, it's an enormous segment," Mr. Otis said. "The challenge is to be differentiated in that segment...Yard House is very differentiated, and that's what's driving the high average unit volumes that it enjoys."
Yard House's younger customers are also ordering more alcohol, a menu category that carries a much-higher profit margin than food. About 30% of Yard House's sales come from alcohol, which is double the average for mid-scale bar-and-grill chains, said Miller Tabak analyst Stephen Anderson. Darden wants to implement some of Yard House's bar expertise in its other restaurant chains, which Mr. Anderson said are lacking.
With the addition of Yard House's projected $368 million in sales in fiscal 2013, Darden's specialty-restaurant group should generate about $1 billion in annual sales, the company said. But that is still less than a third of what Olive Garden generated last fiscal year.
Darden's shares were recently down 12 cents to $50.08, as "investors may be disappointed in the reduction in expected cash return to shareholders," as a result of the acquisition, said Bernstein analyst Sara Senatore. The deal is expected to lower Darden's per-share earnings in fiscal 2013 by about three to five cents, from acquisition costs and lower share buybacks by the company.
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