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Darden Restaurants: Is it serving up value?

Opdateret: 15. mar.


Darden Restaurants has distinguished itself as a formidable player in the American dining industry with a broad portfolio of well-known eateries. Therefore, Darden Restaurants should benefit from the increase in the average annual expenditure on food consumed outside the home by United States households, which reached a record high in 2022. The question at hand is whether now is the right time to buy shares in Darden Restaurants, and that is what I will explore in this analysis.


This is not a financial advice. I am not a financial advisor and I only do these posts in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.


Since attending the workshop with Phil Town, I have decided to make some changes to the layout of my analyses. I will perform additional calculations and also provide a brief explanation of why the company is significant to me. If you want to learn more about my company evaluation process, please visit the "MY STRATEGY" section on my website.


For full disclosure, I should start by mentioning that at the time of writing this analysis, I do not own any shares of Darden Restaurants. If you would like to view the stocks in my portfolio or copy my portfolio, you can do so on eToro. Instructions on how to do so can be found here. I don't own any stocks in Darden Restaurants' competitors either. Thus, I have no personal stake in Darden Restaurants. If you want to purchase shares or fractional shares of Darden Restaurants, you can do so through eToro. eToro is a highly user-friendly platform that allows you to start your investment journey with as little as $50.



Darden Restaurants was founded in 1968 as Red Lobster Inns of America. They were acquired by General Mills in 1970 and became a separate publicly traded company in 1995 when General Mills distributed all of the outstanding stock to its stockholders. It is a multi-brand restaurant operator and one of the largest full-service restaurant companies in the world. Their restaurant brands include Olive Garden, LongHorn Steakhouse, Cheddar's Scratch Kitchen, Yard House, The Capital Grille, Seasons 52, Bahama Breeze, Eddie V's Prime Seafood, The Capital Burger, and the recently acquired Ruth's Chris Steak House. Darden Restaurants operates 1.995 restaurants primarily in the United States and Canada, and they have 143 franchised restaurants around the globe. Darden Restaurants has four reportable segments: The Olive Garden, which contributed 46,5% of sales; LongHorn Steakhouse, which contributed 24,9% of sales; Fine Dining (including The Capital Grille and Eddie V's), which contributed 7,9% of sales; and Other Business (including Cheddar's Scratch Kitchen, Yard House, Bahama Breeze, Seasons 52, The Capital Burger, and results from their franchise operations), which contributed 20,7% of sales. Darden Restaurants' brands, especially The Olive Garden and LongHorn Steakhouse, are well-known in North America. These brands, combined with Darden Restaurants' commitment to quality food and service, are what give Darden Restaurants its moat.


Their CEO is Rick Cardenas. He joined Darden Restaurants in 1988, starting as a busser at a Red Lobster. Over the years, he has taken on roles of increasing responsibility within the company, ultimately becoming the CEO in 2022. He holds a bachelor's degree in Finance and Accounting from the University of Central Florida, and an MBA from The Amos Tuck School of Business Administration at Dartmouth College. He is also a Certified Public Accountant. He also serves as a member of the board of directors of Tractor Supply Company. Prior to becoming the CEO, Rick Cardenas was the CFO at Darden Restaurants, where he worked closely with the former CEO to shape the company's strategy. This strategy includes a strong emphasis on operations and leveraging its scale and data advantages to drive results. As CFO, he was actively involved in numerous acquisitions at Darden Restaurants over the years, such as Cheddar's Scratch Kitchen, Yard House, and Eddie V's Prime Seafood. Recently, he made his first acquisition as CEO by acquiring Ruth's Chris Steak House. This move is not surprising, as he has emphasized that mergers and acquisitions are a way to allocate capital for long-term growth. When he was introduced as the CEO, the former CEO stated that Rick Cardenas is one of the best strategic thinkers he has ever worked with. It is impossible to judge Rick Cardenas as he has only been the CEO for a short time. However, given his extensive experience in various positions within the company, he undoubtedly brings a wealth of knowledge to the company and the sector. I also appreciate his heavy involvement in strategizing, leveraging scale and data to drive results. Therefore, I will give Rick Cardenas the benefit of the doubt, and I feel comfortable with him leading Darden Restaurants moving forward.


I believe that Darden Restaurants has a moat, and I feel confident with the management. Now, let us analyze the numbers to determine if Darden Restaurants meets our criteria for possessing a strong competitive advantage. In case you want an explanation of what the numbers represent, you can refer to "MY STRATEGY" on the website.


The first metric we will investigate is the return on invested capital, also known as ROIC. I would like a 10-year history with all figures demonstrating growth of over 10% for each year. Darden Restaurants has consistently achieved a high return on invested capital (ROIC), with the exception of 2014, which is not particularly relevant at present, and during the fiscal year 2020 pandemic. It is very encouraging to see that Darden Restaurants has achieved its highest Return on Invested Capital (ROIC) in the past two years, with ROIC significantly higher than before. Overall, I believe that Darden Restaurants has delivered a good Return on Invested Capital (ROIC), and hopefully, Darden Restaurants can continue to deliver as high an ROIC as they have done in the past two years.



The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most significant of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. The numbers are a bit mixed because they have experienced a decline in some years. However, these figures are not alarming. If we exclude the pandemic year of fiscal year 2020 and the post-pandemic spending spree of fiscal year 2021, the numbers appear very positive.



Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. I use levered free cash flow margin because I believe that margins provide a better understanding of the numbers. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. It is not surprising to see that Darden Restaurants has consistently generated positive free cash flow every year for the past decade. The pandemic year of fiscal 2020 had a negative impact on free cash flow, but Darden Restaurants still managed to achieve a positive free cash flow, which is encouraging. Another encouraging development is that Darden Restaurants achieved its highest free cash flow in the past decade in fiscal year 2023. The levered free cash flow margin has also increased since 2019, excluding the pandemic year of 2020, even though it has dropped since 2021, which was affected by the post-pandemic spending spree. The free cash flow yield is not as high as it has been in previous years, indicating that the shares are not cheap. However, we will revisit this later in the analysis.



Another important aspect to consider is the level of debt. It is crucial to determine whether a business has manageable debt that can be repaid within a three-year period. We calculate this by dividing the total long-term debt by earnings. After performing the calculation on Darden Restaurants, I found that the company has 0,95 years of earnings in debt, which is significantly below the three-year threshold. Therefore, debt is not a concern for me if investing in Darden Restaurants.



Based on my findings thus far, I find Darden Restaurants to be an intriguing company. However, no investment is without risk, and Darden Restaurants also has its fair share of risks. One risk is competition. In its annual report, Darden Restaurants mentions that the restaurant industry is intensely competitive. They compete within each market against national and regional chains as well as locally-owned restaurants for customers, management and hourly staff, and suitable real estate locations. Moreover, the expansion of product offerings at fast casual and quick-service restaurants, along with the convenience of home delivery services, could lead consumers to opt for more affordable alternatives or decrease the frequency of their restaurant visits. Darden Restaurants expects intense competition to continue in all of these areas. Another risk is macroeconomics. Darden Restaurants' business results depend on a number of industry-specific and general economic factors, many of which are beyond their control. In their annual report, Darden Restaurants mentioned that general economic conditions, including the slow global recovery from the economic downturn related to the COVID-19 pandemic, geopolitical conditions, and uncertainty about the strength or pace of economic recovery, have adversely affected their results of operations and may continue to do so. Furthermore, macroeconomic factors such as unemployment, energy prices, and interest rates may negatively impact consumer behavior and their financial performance. Laws and regulations also pose a risk. The restaurant industry is subject to extensive federal, state, local, and international laws and regulations. Some of these laws and regulations cover environmental issues, minimum wage, employee benefits, unionization, menu labeling, immigration requirements, and taxes. Insufficient or ineffective response to legislation or government regulation may impact Darden Restaurants' cost structure, operational efficiencies, and talent availability.


There are also numerous reasons to invest in Darden Restaurants. One reason is that Darden Restaurants has a significant scale. Their significant scale fosters strong relationships with their suppliers and generates cost advantages that a single brand would not be able to achieve independently. Darden Restaurants has a supply chain advantage that allows them to obtain better pricing for their food. This advantage enables them to offer better prices to consumers, who may then choose Darden Restaurants over competitors due to the better price-to-quality ratio. Another reason is the extensive data and insights. Darden Restaurants serve over one million guests daily across their portfolio of brands, providing them with the opportunity to gather extensive data and insights. By harnessing the scale and depth of this data, their businesses can more accurately plan by using technology to inform sales forecasting, labor scheduling, and inventory management. They are also able to better understand their guests, enabling them to reduce friction in their experience and market to them more effectively. Finally, they are able to optimize their menus and make purchasing and pricing decisions based on guest insights and historical trends. The acquisition of Ruth's Chris Steak House. When Darden Restaurants make acquisitions, they use a set of criteria to evaluate a potential brand. The dining concept should offer full-service options and appeal to a broad range of guests. It should also have the potential for faster growth than the target outlined in their long-term framework and be significant enough to positively impact their financial performance over time. To be an excellent fit, a brand must also enhance their strategy by aligning with their scale, fitting their culture, and complementing their portfolio of iconic brands. Thus, management has high hopes for the acquisition and believes that it will enable them to attract a broader range of fine dining guests, expanding beyond their current market competition. Management expects that the acquisition will result in annual synergies of $20 million and an increase of 20 to 25 cents in diluted net earnings per share by the end of fiscal year 2025.



Now it is time to calculate the share price of Darden Restaurants. I perform three different calculations that I learned at a Phil Town seminar. The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 8, which is from the fiscal year 2023. I have selected a projected future EPS growth rate of 11% (Finbox expects EPS to grow by 11,1%). Additionally, I have selected a projected future P/E ratio of 22, which is double the growth rate. This decision is based on the historical higher P/E ratio of Darden Restaurants. Lastly, our minimum acceptable rate of return is already set at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $123,53. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Darden Restaurants at a price of $61,77 (or lower, obviously) if we use the Margin of Safety price.


The second calculation is known as the Ten Cap price. The rate of return that a company owner (or stockholder) receives on the purchase price of the company essentially represents its return on investment. The minimum annual return should be at least 10%, which I calculate as follows: The operating cash flow last year was 1.546, and capital expenditures were 594. I tried to review their annual report to calculate the percentage of capital expenditures allocated for maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 416 in our calculations. The tax provision was 135. We have 120,7 outstanding shares. Hence, the calculation will be as follows: (1.546 – 416 + 135) / 120,7 x 10 = $104,80 in Ten Cap price.


The final calculation is referred to as the Payback Time price. It is a calculation based on the free cash flow per share. With Darden Restaurants' free cash flow per share at $8,11 and a growth rate of 11%, if you want to recoup your investment in 8 years, the Payback Time price is $106,76.


I find Darden Restaurants to be an intriguing company. There are some uncertainties with the management because the CEO is relatively new. However, he has extensive experience with the company and has contributed to the current strategy, which has increased ROIC and free cash flow. Therefore, I am comfortable with Rick Cardenas leading Darden Restaurants moving forward. There are some risks for Darden Restaurants moving forward. One concern is that the current macroeconomic environment may impact consumer behavior and consequently affect Darden Restaurants' profitability. However, I believe that this will only be a short-term situation as the economy will eventually improve. Laws and regulations, as well as competition, pose long-term risks for Darden Restaurants. However, the company has been in business for decades and has ample experience in managing these risks. Darden Restaurants benefits from scalability and extensive customer data, and it will continue to benefit from this in the future. Furthermore, their recent acquisition of Ruth's Chris Steak House indicates that they are poised to capitalize on the growing trend of U.S. consumers spending more on dining out. This move will enable them to attract a broader spectrum of fine dining guests, and expanding their market. Overall, I believe that the potential outweighs the risks, and Darden Restaurants could be a good investment if it reaches the Payback Time price of $106,76.


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