What To Make Of Darden's Earnings Report

Darden Restaurants, Inc. DRI reported mixed fiscal second-quarter results and analysts are mixed on the Olive Garden parent company's outlook.

The Analyst: Wedbush analyst Nick Setyan maintains a Neutral rating on Darden's stock with a price target lifted from $115 to $123.

KeyBanc Capital Markets analyst Eric Gonzalez maintains an Overweight rating on Darden with a price target lifted from $124 to $130.

Raymond James analyst Brian Vaccaro maintains an Outperform rating on Darden with a $130 price target.

Wedbush analyst Nick Setyan maintains a Neutral rating on Darden with a price target lifted from $115 to $123.

Quarter Recap: Darden reported EPS of 74 cents versus the Street's estimate of 70 cents, mostly driven by lower advertising spend. Blended comps were lower by 20.6%, led by a 19.9% decline at Olive Garden and an 11.1% decline at LongHorn.

Vaccaro said comp declines can be attributed to mandated dining room closures as 25% of the company's restaurants remain closed for dine-in and the remaining 75% of system units are open at different capacity levels. Store margins of 17.9% beat expectations of 17.4% and were higher by 140 basis points as the company also benefited from strong labor cost controls.

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Will Get Worse Before Getting Better: Darden continues to prioritize improving its cost structure, streamlining its operational processes, and getting rid of unpopular menu items, Gonzalez said. A step back in advertising spend and fewer discounts mean the flow-through rate on incremental sales is close to 50% versus 40% pre-COVID. This gives management confidence that EBITDA can fully recover to 2019 levels even if sales are 10% lower.

Meanwhile, the company continues to leverage its digital platform and social media channels to "capitalize on buzzworthy opportunities," such as its name being dropped in a recent Taylor Swift song. While these catalysts could pay off over the longer-term, the near-term picture isn't as appetizing. The company will still need to contend with an environment that discourages social gatherings and indoor dining.

"While dining restrictions continue to weigh on NT results, we believe Darden is setting itself up well for FY22 and it will exit the pandemic in a position of strength," the analyst wrote in a note.

Guidance Commentary: Darden's fiscal third-quarter outlook of 50 cents to 75 cents in EPS is short of the Street's $1.34 estimate, while EBITDA of $170 million to $210 million is also shy of the Street's estimate of $299.5 million. Wedbush is now modeling a full quarter same-store sales decline of 30% at Olive Garden and down 21% at LongHorn.

Setyan said the case for upside is based on easing lockdown constraints as the quarter progresses.

Quick Post-Vaccine Recovery: Darden's notable sales miss didn't fully translate to margin disappointment as the closely watched restaurant-level and enterprise margins "barely missed," Glass wrote in a note. Management deserves credit for its "fundamentally re-sculpted" cost structure, lower labor and complexity, and moving away from discounting.

Moving forward, modeling the company's near-term top line is "challenging" given too many variables. However, recent initiatives to improve the business structure makes the case for Darden's "swift post vaccination recovery."

DRI Price Action: Shares of Darden Restaurants traded lower by 1.3% to $114.62 at publication time.

Photo credit: Mike Mozart