When the then-IHOP Corp. bought Applebee’s International Inc. last year, the company’s stock surged. Many believed Chief Executive Julia Stewart could boost the tired Applebee’s chain the same way she did the IHOP pancake chain several years earlier.
But lately, many investors have lost their appetite for what is now DineEquity Inc. The company is saddled with debt, some of its transactions have netted less than the company expected, the restaurants’ performance has not been all that great and the company’s stock is down 36 percent in the last month.
“The capital markets shifted and casual dining has suffered since then,” said John Hamburger, the president of the Franchise Times/Restaurant Finance Monitor. He’s been a critic of the deal, believing an expensive purchase has been worsened by the economy.
DineEquity’s situation may become clearer on Tuesday when the Glendale company reports earnings. But some are in the company’s corner.
“I wouldn’t bet against Julia,” said Ron Paul, president of Technomic Inc., a food industry research and consulting firm. “She’s proven she has the know-how and the ability to turn around a company and a brand.”
Regardless, one problem has been debt. The company took on more than $2 billion to buy the 2,000 or so Applebee’s restaurants. It was to pay $350 million on June 30, but had to push that back to August.
The company reported that it paid the $350 million in mid July, but to do that it sold and leased back Applebee’s new headquarters in suburban Kansas City, Mo., as well as entered a sale and leaseback deal for 181 Applebee’s restaurants and earlier this month sold 26 Southern California Applebees. The deals netted less than the company had expected.
That could be an ominous sign because DineEquity is depending on sales of assets to lower its debt. The basic plan for Applebee’s, as laid out by Stewart, is to move to a franchisee-only model and away from ownership, which will alone cut costs as much as $50 million by 2011.
“If debt reduction does occur along the lines of management’s plan, free cash flow would rise sharply,” said Raymond James & Associates analyst Bryan Elliott in a research note to investors. But he pointed out that the company is still highly leveraged and could breach its debt covenants if its repayment plan gets bogged down if the Applebee’s brand becomes less and less attractive.
Hamburger said he doesn’t see how the debt gets paid even with DineEquity selling all of its company-run stores.
The deal to buy Applebee’s couldn’t have happened at a worse time, Hamburger added, with the housing and credit disasters now in full swing, customers souring on casual dining fare and commodity prices skyrocketing.
Indeed, earlier this month DineEquity reported that Applebee’s same-store sales for the second quarter were off 1.7 percent because of lower traffic. The company added that it now expects Applebee’s to post same-store sales of plus or minus 1 percent for the full year, down from its previous expectation of an increase of 1 to 2 percent, making the chains less and less enticing for possible franchisees to gamble on.
Stock rally
DineEquity would not comment for this article, citing a quiet period before the earnings announcement. But Stewart has said she plans on sticking with the current Applebee’s menu but sprucing up the chain’s atmosphere as well as pushing the new “It’s a Whole New Neighborhood” advertising campaign to give the chain a fresh feel basically mimicking the successful IHOP strategy.
The IHOP turnaround yielded a bounty and acclaim for Stewart with the chain posting same-store sales growth in the past 22-straight quarters. Annual profits jumped 19 percent from 2003 to 2006 although the company posted a loss in 2007 because of costs associated with the Applebee’s deal.
At the beginning of July, after announcing the dip in same-store sales at Applebee’s, shares in DineEquity hit an eight-year low, dropping 46 percent. But shares rebounded some last week.
“The flux in DineEquity shares show investors are looking at whether or not the Applebee’s chain is getting fixed,” said Bob Patterson, president of the Los Angeles-based Paradigm Hospitality LLC. “It will be important to show people that the deal is, in fact, moving forward.”
Also of interest was the fact that Applebee’s second-largest and longest-standing franchisee, Atlanta-based AppleGrove Restaurants, recently sold an 80 percent interest in its company to Polish restaurant management company AmRest Holdings N.V.
“It could be AppleGrove lining up a possible exit strategy in the event DineEquity tumbles,” said Patterson.
“The Applebee’s turnaround is going to take some time,” Paul concluded. “Julia has the ability, but there are a lot of factors involved in the success of this deal that are out of her control.”
