DineEquity Tops, Lowers Guidance

DineEquity Inc. (DIN - Snapshot Report) reported third quarter adjusted earnings of $1.04 per share, comfortably beating the Zacks Consensus Estimate 99 cents and the prior-year earnings of 95 cents. Revenues in the reported quarter plunged 21.2% year over year to $264.5 million.

Inside the Headline Numbers

DineEquity operates under Applebee's Neighborhood Grill & Bar and IHOP brands. Applebee's domestic system-wide comparable-store sales inched down 0.3% during the quarter, with franchise same-restaurant sales dipping 0.4% and company-operated comparable restaurant sales rising 0.1%. Total comparable-store sales declined for the first time since second quarter 2010. The downside in Applebee's comparable store sales was due to lighter traffic, partially offset by an uptick in average guest check.

The domestic system-wide same-store sales of IHOP dipped 1.5% during the quarter due to lower traffic.

Restaurant operating margin at Applebee's company-operated restaurants dropped 60 basis points (bps) to 14.2% during the quarter, attributable to higher commodity costs, and investment in local advertising, which was partially compensated by refranchising of lower margin restaurants and slightly lower labor costs.

Store Update

During the third quarter, DineEquity opened 4 and closed 6 Applebee’s franchised restaurants. The company also opened 13 IHOP franchised restaurants as well as one area licensed restaurant and shut down 4 area-licensed units. At the end of the quarter, DineEquity had 2,010 Applebee’s and 1532 IHOP restaurants.

The company continues to focus on the franchise business model as it is less capital intensive and reduces volatility of cash flow. DineEquity also expects to use the sale proceeds for reducing its debt burden.

Financial Position

DineEquity ended the reported quarter with cash and cash equivalents of $53.9 million and shareholders’ equity of $123.5 million.

The company is in a delevering mode. It has reduced term loan balances by $110.0 million, retired $39.8 million of the 9.5% senior notes and $43.3 million of financing and capital lease obligations for the first nine months of the year.

The company repurchased 534,101 shares of its common stock in the third quarter for a total of $21.2 million.

Outlook

The largest full-service restaurant company in the world expects Applebee's domestic system-wide comparable-store sales in the range of 1.5% to 2.0% (previously 2% to 4%) for fiscal 2011. The company also expects domestic system-wide same-store sales decline of 2% to 2.4% (previously down 2% to up 1%) for IOHP.

For 2011, DineEquity continues to expect capital expenditure of $26 million but toned down its expectation for cash from operation to the range of $117–$127 million (earlier $125–$135 million) and free cash flow in the range of $104–$114 million (earlier $112–$122 million).

Applebee's franchisees plan to open 24 to 28 restaurants by year-end 2011, half of which are expected in the international market. IHOP franchisees expect to open 55 to 60 restaurants (previously 55-60), mostly in the domestic market.

Our Take

We expect the estimates to go down in the coming quarter as the company’s IHOP brand continues to struggle. Additionally, the company cut down its expectation for same-restaurant sales, restaurant operating margin as well as cash flow operating activities. This indicates a tough operating environment for the company.

However, with about 95% of restaurants either franchised or soon to be franchised, DineEquity remains on track to achieve its long-term goal. A share repurchase program is also in place to boost stockholder value. Besides, the company is all set to try a robust pipeline for menu for the remainder of 2011and throughout 2012. Notably, the company either upgraded or replaced over 90% of the offerings since December 2007.

DineEquity, which competes with Brinker International Inc. (EAT - Analyst Report), currently retains a Zacks #3 Rank, which translates into a short-term Hold rating. We are also maintaining our long-term Neutral recommendation on the stock.