Darden CEO: Virtual Brands a 'Distraction'

The Olive Garden parent won't be getting in the ghost concept game anytime soon.

September 2020 Danny Klein

Over the summer, Brinker International, Bloomin’ Brands, and Dine Brands dipped into virtual waters. The Chili’s and Maggiano’s parent introduced “It’s Just Wings” to 1,000-plus kitchens via DoorDash in June—a launch that’s producing revenue at a $150-million-per-year pace, the company said, with a potential crop of other brands to follow.

Bloomin’, owner of Outback, Carrabba’s, Bonefish Grill, and Fleming’s, started testing “Tender Shack,” also with DoorDash, in September throughout the Tampa Bay, Florida, market. Dine Brands touts "Neighborhood Wings by Applebee’s." All exist only on third-party platforms, and are served out of established kitchens. Tender Shack, for example, was activated out of a Carrabba’s.

But don’t expect Darden to join one of COVID-19’s most buzzed-about movements.

CEO Gene Lee, speaking to investors Thursday during the company’s Q1 review, said creating a so-called ghost concept “is not the right approach” for Darden. “We want to focus on brands that we’ve got 20-plus years and hundreds of millions of dollars invested in trying to build, and we want to make sure that they’re executing at a high level,” Lee said.

He’d rather put stock in equity and consumer trust. “I think you have a functional need and an emotional need,” Lee said. “And I think that’s what our brand builders have done for decades. And to get on a digital platform and try to do that, I think people are going to try to what they want to do. I’m not saying it’s a good idea or bad idea—it’s not for us.

“Brands are going to matter, and we think it’s a distraction.”

Unsurprisingly, Darden’s hasn’t strayed from its core “back-to-basics” philosophy of late, pandemic conditions or not. If anything, it’s leaned even further.

Menus are slimmed anywhere between 20–40 percent depending on brand. Absolute marketing decreased more than $40 million and Olive Garden eliminated promotional activity altogether. “Removing complexity from our operations has allowed our restaurant teams to execute more consistently in this unique environment,” Lee said.

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Darden Invested $75 Million in its Employees During COVID Crisis

Darden CFO Rick Cardenas added the company’s Q1 performance “significantly exceeded our expectations.” Total sales came in at $1.5 billion, a year-over-year decrease of 28.4 percent from $3.13 billion. Blended same-store sales fell 29 percent and adjusted EBITDA was $185 million. Net income totaled $36.1 million, or 28 cents per share, down from $170.6 million ($1.37 per share), in Q1 2019. Darden added 14 net restaurants in the period.

Adjusted EPS of 56 cents easily passed BTIG estimates of 5 cents. The upside was driven by a 640-basis point outperformance on restaurant margins (restaurant-level EBITDA margin was 17.8 percent in Q1) as well as lower G&A and marketing spend. Longer term, Darden said it can achieve pre-COVID EBITDA with 90 percent of prior-sales levels, and an additional 100–150 basis points of margin if 100 percent of last year’s metrics are achieved.

Put simply, if Darden regains business, a refreshed cost structure and softer competitive environment (due to closures) could provide alluring financials. “Darden is operating a leaner, more efficient company at all levels as evidenced by its menu simplification, restaurant margin performance, and corporate restructuring activity. The profitability momentum is very encouraging and should further support shares though positive sales growth likely remains two quarters away. Longer-term, we still expect Darden to take market share as casual dining capacity is reduced,” BTIG analyst Peter Saleh wrote Friday in a note.

On the corporate restructuring note Saleh referenced, Darden recently reduced its support center and field operations workforce 11 percent. The move is expected to save $25 million to $30 million annually. Per filings, Darden offered early retirement to 250 employees—225 of which have accepted so far.

"When I talk to people and we do some research, people want to get back out socialize. I do think when it comes back, it comes back higher than where we were," says Darden CEO Gene Lee.

Here’s how each brand fared in Q1:

Olive Garden

Average weekly sales: $75,585
Same-store sales: –21.9 percent
Percentage of restaurants: 68 percent
Q2 percentage of restaurants: 91 percent

LongHorn

Average weekly sales: $60,247
Same-store sales: –11.3 percent
Percentage of restaurants: 72 percent
Q2 percentage of restaurants: 96 percent

Fine dining (Capital Grille, Eddie V’s)

Average weekly sales: $89,706
Same-store sales: –27.7 percent
Percentage of restaurants: 57 percent
Q2 percentage of restaurants: 90 percent

Other business (Cheddar’s, Yard House, Seasons 52, Bahama Breeze)

Average weekly sales: $63,890
Same-store sales: –33.9 percent
Percentage of restaurants: 76 percent
Q2 percentage of restaurants: 88 percent

Centering Olive Garden and LongHorn, recent trends signal significant progress, as you’d expect with dine-in returning. Darden’s flagship chains reported comp declines of negative 71.1 percent and 69.2 percent, respectively, in the week ending March 22.

With a portfolio this size (1,807 restaurants as of August 30), however, results are all over the map. LongHorn, for instance, is closer to 2019 levels than Olive Garden mostly due to its Georgia base. Meanwhile, Olive Garden continues to feel the drag of 100 California restaurants, as well as a Times Square, New York City, unit that generally pushes $15 million per year—roughly three times a typical Olive Garden.

Considering NYC’s indoor-dining ban, set to end September 30 with 25 percent capacity restrictions, the restaurant has weighed Darden 50 basis points in comps. The company starts every week $300,000 in the hole, Lee said, and is a vivid reminder of how bizarre the COVID operating climate is. The restaurant is producing just $2,500 per day.

Outdoor capacity hasn’t played much of a role, either. Lee called it “de minimis” for Darden overall, especially Olive Garden. That could change somewhat as Florida—Darden is based in Orlando—approaches cooler months. “It's been raining every single day here for the last six weeks,” he said. So as Darden drops outdoor capacity up north, it should pick up some in the South.

Yet it’s really gaining additional capacity inside that’s going to inspire recovery. Getting California back. Benefiting from restrictions expanding to 50 percent from 25 percent, and so on.

And while some of this remains out of Darden’s reach, the company is working to add seats where it can. It’s installed booth partitions, where permissible, in about 500 restaurants. Lee expects that to double. Doing so adds six or seven extra tables per restaurant. Some areas are getting bar tops back, too.

Overall, 68 percent of Darden’s restaurants operated with at least partial dining room capacity in Q1. As the period exited, coverage was up to 91 percent.

This is something Olive Garden, in particular, has waited for. Lee said a good percentage of the added off-premises business Darden’s witnessed of late hails from people showing up to crowded restaurants. It’s “being generated by people coming to the restaurant that can't get in because the wait is too long and there is no place to wait inside our restaurants,” Lee said. “And so, we think that those people have a tendency to just opt into the off-premises experience.”

In Olive Garden stores that featured some level of dining room capacity all of Q1, average weekly sales pushed north of $75,000, or 80 percent of prior-year levels.

In other terms, demand is outpacing capacity. Lee said regulations have restricted visits more than consumers’ desire to dine out has. “So far … we have seen no change in demand based on COVID levels in a market unless capacity restrictions change. So, [for] example, we're in South Florida when we had the spike after the Fourth of July and the restaurant restrictions were very limited, we definitely saw demand dropped. But that was not because of the consumer, it was more because of the restrictions the local municipalities put on us,” he said.

“We see a pretty resilient consumer out there. I know that's hard for you guys in New York to imagine, but the rest of the country is not operating that way,” Lee added to a group of investors. “And so, I would tell you that what we're seeing is it's all being controlled by the local municipalities—that they're managing demand more than the consumer.”

All of these factors lead to sales volatility, and will for the foreseeable future.

Which is why, Lee said, it’s so vital for Darden to streamline menus and improve processes and procedures on the backend to counter uncertainty.

The company invested in technology to remove friction. This includes providing guests multiple ways to order inside and outside. Additionally, deploying mobile solutions for customers to let Darden know when they’ve arrived to dine or pickup curbside to-go. Lee said they’re also working to expand mobile payment options.

Across Darden’s three largest chains (Olive Garden has 871 restaurants, LongHorn 524, and Cheddar’s 165), more than 50 percent of the off-premises business in Q1 was fully digital transactions where the guest ordered and paid online.

Olive Garden’s take outside the four walls jumped 123 percent in the period, year-over-year, to 45 percent of total sales. Online business made up nearly 60 percent of that, more than tripling 2019 figures. LongHorn grew off-premises more than 240 percent to 28 percent of its business.

The big COVID shift for Darden—like countless full-service operators—was changing to-go execution from guests walking in the restaurant to getting their food outside. That’s where tech comes in. Early on during COVID, guests needed to notify the restaurant when they pulled up, which wasn’t ideal for either side. “Eventually, we'll get the geofencing and we'll catch up to what some of the bigger retailers are doing,” he said.

“We actually think that there is a big benefit in this consumer shift because we're going to take all these people that were in our dining room, I mean in our front door picking up food, and they will never enter our building again, which makes it a better experience for our dine-in guests,” Lee added. “…. We think we can do curbside much more cost effectively than we can do picking up the food inside the restaurant.” Those savings will stem from efficiencies. The difference of having five or six people standing at a bar top waiting for food versus a car pulling up.

As far as how the broader off-premises movement matures, Lee took an outlier stance. His theory is once dining rooms open up and life normalizes a bit, with concerts and football games, etc., “I actually think off-premises will dip down below where it was. I think there's going to be a huge surge for on-premises dining,” Lee said. “I think people are tired of this experience and they're utilizing this experience right now. But when I talk to people and we do some research, people want to get back out socialize. I do think when it comes back, it comes back higher than where we were.”