Key takeaways from Barington Group's 84-page Darden proposal (Part 7 of 9)
Reducing operating and advertising expenses
After splitting Darden Restaurants Inc. (DRI) into two restaurant groups, one higher and another with mature growth, further value could be unlocked by reducing operating expenses and refocusing advertising spending to be more in line with its peers. Sometimes there are benefits to being different from competitors, but right now, Darden’s strategy does not seem to be the right one, as it continues to underperform industry peers. It’s like Microsoft trying to be Apple: it never will be.
Spinoff to create opportunity
Cutting down advertising expenses (as a percent of revenue) is one step Darden could take to unlock shareholder value. Barington Capital Group also believes operating expense could be reduced from the creation of two companies, as it streamlines operations and eliminates corporate functions that duplicate brand-level work. We believe it may even add some extra economies of scope as the mature-growth company targets similar U.S. demographics where price and cost are becoming even more important, while the high-growth company continues to work on concepts to differentiate and maintain their uniqueness.
Not enough operating cuts
As a response to declining profits due to promotions, Darden recently announced that it’s “taking steps that will reduce its annualized operating support spending by approximately $50 million.” While this is a start, the company could do more. JP Morgan’s October 8, 2013, report said, “The company’s $50 million reduction out of $848 million total SG&A in Fiscal 13 was generally not considered enough.” If Darden can bring its SG&A down to its peers’ SG&A, the company could be saving at least $95 million a year. To put it differently, Darden is losing more than $95 million every year.
A switch in advertisement strategy
As part of its effort to reduce and refocus its advertising spending, Barington notes that Darden should abandon its outdated and expensive advertising strategy. While peers spent 2.5% of revenue on advertisements, Darden spent 4.8% of revenue in its most recent fiscal year. Much of this has been driven by TV advertising campaigns for the Olive Garden and Red Lobster brands, which Barington believes should be replaced and could be further optimized with direct targeting such as loyalty cards, direct email, and social media.
The Wall Street Journal‘s following quote suggests the problem doesn’t only lie in Darden’s advertising expenses but also in its core business strategy:
- “Olive Garden has struggled to increase sales… as diners continue to follow deals. Meanwhile, its competitors have invested in the quality and execution of their food, so Olive Garden is ‘suddenly not as competitive,’ says John Glass, restaurant analyst at Morgan Stanley. Earlier this year, Olive Garden’s marketing focused mainly on the taste of the food and new dishes. Reversing course, it’s now advertising deals like $6.95 unlimited soup, salad and breadsticks lunch special.” –December 21, 2011
Yet those deals have cut into Darden’s margins lately. If Darden can’t maintain customers by advertising the taste of its food and new dishes, and it can’t maintain profits with deals, Darden’s core brands are essentially stuck in the middle (more information can be found in our previous Darden series). A spinoff could be its mature brand’s only savior.
Browse this series on Market Realist:
- Part 1 - Cheat sheet: Barington Capital’s 84-page Darden reccommendation
- Part 2 - Why Darden underperformed its peers by about 100% over 3 years
- Part 3 - Darden’s poor margins show divergence from management’s expectation
- Consumer Discretionary