BJ's Restaurants (
) was a growth stock darling for years. Between 2004 and 2011, BJRI
traded at an average forward P/E of 37 times. Prior to the 2009
market collapse, its average NTM P/E was a hefty 48 times.
Investors loved both 20-25% earnings growth and average units
volumes that rose from $3.8MM to $5.7MM (square footage growth
played a role).
So much for that. After an impressive 41% increase in 2011,
operating income fell 2% in 2012 and another 42% in 2013. Earnings
have missed sell-side estimates six quarters in a row. Earnings
misses are like cockroaches--see one and you are sure to see more.
Smart investors who sold when the first cockroach appeared avoided
a 57% slide in the stock.
Management has attributed revenue shortfalls to the following:
customers staying home to watch the Summer Olympics, customers
staying home to watch the political conventions and Presidential
debates, intense price competition from mature casual dining
chains, renewed unit openings from previously stalled competitors,
competition at lunch from Chipotle, Panera and other fast casual
chains, hot summer, cold winter, other severe weather, high gas
prices, low movie attendance, higher taxes in California, pressure
on comps from longer honeymoon periods, industry-wide restaurant
sales weakness, fewer shopping days between Thanksgiving and
Christmas, increased online shopping, and overlapping high school
and college graduations in California.
To counter the above, BJ's has done the following: created a
Beer Master program, added hand-tossed pizza, added television in
some markets, added a rewards program, increased coupon mailings,
tried a co-branded limited time offer, worked to increase speed of
service, and cut back the total number of menu items while adding
more sub-$10 options and healthier entrees. Management plans to
reveal its turnaround plan at a February 27 Analyst Day.
Change underway but little to show for it
BJ's has a new CEO and change is afoot. As the above list makes
it clear, management is trying a lot of different things to halt
the slide in traffic, but these efforts have not come to much. The
company's commercials were awful and likely did more to hurt than
help the fledgling brand. If they had not been removed from BJ's
YouTube channel, I would have embedded one here. Videos for The Big
Poppa's Smokers LTO were also deleted. Management has a new
creative ad agency and plans to introduce new ads this quarter. The
company is also looking for a new Chief Marketing Officer. Good or
bad, TV is a red flag for a nascent brand. Done wrong, it can be a
margin-killing treadmill. Thus far, increased marketing spend has
hurt BJ's margins without adding traffic.
Management also increased the use of discount coupons. This too
can be a brand dagger. Done wrong restaurant coupons signal
desperation, shift the focus from experience to price, and attract
bargain-centric, unlikely-to-be-loyal customers--another treadmill
that can end poorly. Coupons can make the relationship with
customers almost adversarial.
Management is working to simplify and streamline both the menu
and food prep. The number of menu items has dropped from a
CAKE-like 165 to 130. The company has pushed hard to grow the lunch
day part albeit with a strong price emphasis--$5.95. A Two Can Dine
for $20 deep dish pizza in-unit promotion encouraged customers to
trade down and did nothing to lift traffic. New menu items like
hand tossed pizza fizzled. A low price, $6.95,
burger is currently being promoted and this is also having a
negative impact on average check. A new menu will debut at the
beginning of March.
Management has high hopes for a new order-and-pay by smartphone
or tablet option that will roll out later this year. They believe
this could reduce table turn time from one hour to forty minutes
and thereby reduce weekend lines and make BJ's relevant to more
occasions including lunch. I do not know if this will be a traffic
driver but it sounds cool and I do hate waiting for the check. I do
wonder if this will require a roving geek to solve customer IT
problems and how waiters will know if departing customers paid or
The brand means--CAKE with beer?
I don't know what BJ's brand means--beer is part of it. The
concept does not lend itself to something clear cut like Buffalo
Wild Wings--Beer, Wings, Sports. The new CEO appeared to be
struggling with this in his first couple of conference calls. It is
fair to assume that the brand answer will be part of the analyst
day presentation. The company's current tag line-- "Wow! I love
this place."--is almost a rebuttal. "I thought it was going to
suck. What a surprise." A new campaign will kick off next month
with a new tag line: "At BJ's, we are pursuing amazing!" Let me
know when you get there.
BJ's started out as a chain of pubs near beaches in California
then evolved into a brewpub with in-house brewing and more recently
into a Cheesecake-like upscale casual diner with a similar long
menu but lower prices and a lot more beer. Management describes the
concept as casual-plus--Cheesecake's quality at Chili's prices.
Read that however you want.
Yard House, also based in Orange County and now owned by Darden
), appears to be a BJ's knock-off. It has fully embraced beer as
its defining element along with a "state of the art" sound system
that blasts classic rock "hand selected" by its founder and former
Huntington Beach bartender, Steele Platt. Yard House is using
Darden's cash flow to expand quickly including in some of BJ's
markets in Florida and California. The average check is above $20
versus BJ's $14 but the atmosphere is comparable.
Like BJ's, Yard House tends to open in malls, on pads outside
malls, and in the middle of a chain-restaurant row. This expansion
strategy may be part of the problem for BJ's as these locations
clearly brand the units as chain restaurants. "Chain" is a huge
obstacle to making any restaurant appear even vaguely cool or hip.
This is hard to correct after the fact. BJ's only gets to enter a
market once. Approximately 40% of BJ's locations are in malls or on
pads outside malls.
Sharing a growing number of markets with Yard House isn't going
to help BJ's turnaround. Since the primary point of differentiation
between the two is price, the natural tendency may be to use a
price centered marketing message, which could harm the brand
(whatever it means). That said, market overlap is limited at this
BJ's Valuation Conundrum
BJRI now trades at 52x my 2014 estimate of $0.51 or at 40x the
consensus estimate of $0.66. Either way, that is pretty expensive
for a stumbling turnaround story. Total enterprise value to EBITDA
)) now stands at 10.4x.
The 2012 earnings decline re-branded BJRI for investors as a
broken growth stock. Thus, its prior share price and P/E became
somewhat irrelevant. Investors aren't going to pay a premium for
growth if the growth isn't there. Then with the steeper slide in
earnings last year, BJRI became a turnaround story.
Until there is evidence of a turn, investors might reasonably be
expected to use private market value as a valuation guide. When
earnings are falling or stumbling around, P/E is kind of useless.
And with BJRI in particular, P/E is even less helpful because it
has huge non-cash expense in the form of depreciation.
Private market value is easy to at least ballpark for BJRI
because a fairly direct comparable, PF Chang's China Bistro, went
private in 2012 and this year Chuck E. Cheese accepted, but has not
closed on, an offer from Apollo. PFCB was sold for 8.5 times EBITDA
and Apollo's CEC offer equals 7.5 times. This range suggests that
BJ's private market value, using 2013 EBITDA of $73.7MM, is more or
less $19-$22. Note that EBITDA did not fall as much as EBIT in 2013
because DA (depreciation and amortization) exceeds EBIT (earnings
before interests and taxes). Using 2012 EBITDA of $83MM
(Pre-earnings meltdown) and the same multiples suggests a similar
PMV: $21-24. For discussion purposes, let's call private market
Barring a turnaround, going private is a best case scenario for
BJRI investors. Thus, I would expect BJRI to trade at a discount to
$22 as public investors would likely want a positive return in the
event of a buyout (I don't think I am out on a limb here). As it
stands with BJRI trading at $26, a buyout could result in 15% loss
again barring a turnaround
, is a best case scenario. Clearly, somebody expects a turnaround
and/or there is another scenario.
The other scenario
Almost every public restaurant company is trading at a premium
to its private market value given the metrics above. Activist,
value investors are nevertheless, filing 13Fs and making public
appeals for change. Public restaurant chains getting pressure from
activists include: Tim Hortons (
), Darden, Bob Evans Farms (
), Famous Dave's (DAVE), Ruby Tuesday (RT), and Cracker Barrel
Add BJ's to that list. Luxor Capital, an activist hedge fund
with assets of $7 billion, filed a 13-G on January 17 that revealed
a new 6.1% share of BJRI's outstanding stock. Luxor appears to be a
value player with a "penchant for distressed companies" according
. Luxor is currently active in Punch Taverns (PUB.L) debt
restructuring battle. It had a stake in Tim Hortons at one point
during Scout Capital and Highfields Capital's push to get more
capital returned to THI shareholders.
The activist investor playbook for restaurants includes slowing
or ceasing company-owned unit expansion, selling company-owned
units to franchisees, selling and leasing back owned real estate,
replacing under-performing management, increasing leverage, and
then using the capital created by those changes to increase
buybacks and/or dividends. The poster child for this playbook is
Dine Equity. Activists replaced the management at IHOP, implemented
this playbook, then rinsed and repeated when IHOP bought the much
Not all of the activist campaigns have been this successful. Tim
Hortons complied but the stock is basically flat. Ruby Tuesday's
fate is far from certain. Cracker Barrel has a big new investor but
little incentive to put itself up for sale since it trades at a
premium to its likely private market value.
With BJRI, the obvious activist recommendation would be to stop
opening stores, at least until the concept is fixed, lever up, and
return capital to shareholders. The company is unlikely to abandon
its current business model and become a franchiser. Overseas
franchising is an opportunity though.
Other large shareholders of BJRI include T. Rowe Price (14%),
Jacmar (11%), Manning & Napier (6.8%), Baron (5.3%), and
Citadel (4.9%). Jacmar is a private food distribution company that
provided capital to BJ's at a critical juncture in 2001 and at one
point owned 66% of the company. James Del Pozzo, the President of
Jacmar, is on the board. While we surmise that Citadel, a recent
investor, would be receptive to shaking things up, it is tough to
gauge the response of long time holders like T. Rowe, Baron or
Free cash flow could be meaningful
BJ's 2013 adjusted net earnings of $24.6MM were small relative
to its $73.7MM of EBITDA. Until the 10-K is released, let's call
full year free cash flow negative ($5.0MM). The company has no
debt. If BJ's stopped opening new units, free cash flow would leap
to more or less $80 million. (Note that the company spends $10-14
million per year to maintain existing units.) Free cash flow would
then amount to an attractive, but not extraordinary, 10% FCF
Without opening units, BJRI could then buy back ~$80 million of
its shares per year. It could also easily and cheaply borrow up to
3x EBITDA--$220 million. This would allow the company to buy back
~28% of its stock then continue buying in more or less 10% per
year. It might also choose to return capital to shareholders via
dividends but this is less tax efficient.
All of the above assumes that management can at least halt the
slide in restaurant economics, which is no sure thing. If they do
that and figure out how to right the ship then the company could
change course again and restart its expansion. With this approach,
private market value could become a kind of floor to cap downside
risk and shareholders would still have an option on a
No need for the angry activist letter
On its February 18th conference call, management embraced this
scenario as a viable option if it cannot halt the slide in per unit
economics. Greg Trojan, CEO, stated that the company "would explore
alternative uses of capital to create value for shareholders" if
unit level economics do not improve. The company would also
consider walking away from some of the new units planned for 2014
that have not already entered the construction pipeline.
Back to Tim Hortons--much ado about nothing?
Tim Hortons has been there done that. At THI, investors were
frustrated by earnings shortfalls on both sides of the border
though this was coupled with a 36% ROE and lots of free cash flow.
Unlike BJRI, Tim Hortons already returned capital to shareholders
with both a hefty 39% dividend payout ratio and $200-250MM annual
buybacks (relative to a $8B market cap or ~2% of the outstanding
shares). Starting in May 2013 Scout Capital and Highfields
Management began agitating for change. In a letter to management,
Scout advocated increasing leverage to 3x EBITDA then using the
proceeds to buy back more stock. They also advocated a switch to
franchising in the US where returns on invested capital had thus
far been deplorable.
After a new CEO came on board, the company agreed to lever the
balance sheet to 3x EBITDA and use the proceeds to increase THI's
planned buyback to 10% of the public float in the 12 months ending
August 2014 . Management also said it was receptive to franchising
its US locations though it was primarily focused on increasing
revenue at the existing units. THI went from $54 before the Scout
and Highfields positions were disclosed to $58 just after then
reached a peak of $61 in October. THI's earnings continued to
underwhelm and, with a pullback in consumer discretionary stocks in
2014, its stock is back to $52.
For a long-term investor, such as T. Rowe Price, which is THI's
second largest investor and BJRI's largest, Tim Hortons' dust-up
with activists amounted to little. The activists showed up made
noise and left. The stock did a round-trip over nine months though
the halt of capital flowing to the US business would be a smart
move. Tim Hortons' management further upped its dividend last
Fade to black? It happens
Ever notice a closed restaurant? They do that... a lot. Quick
serve restaurant chains can weather a few bad years and come back
or at least stick around--here's looking at you Burger King. And,
plenty of casual dining chains have made the transition from fast
grower to cash cow. But, the majority of casual dining chains that
roll over tend to keep rolling... downhill. Be sure to visit
Chi-Chi's the next time you are in Kuwait or Belgium. Ruby
Tuesday's painful failed transition from fern bar to dinner house
is a more recent example. One BJ's unit is literally built on the
foundation of a demolished Don Pablo's.
Call this post an analyst day preview as I no longer have a
position in the stock. BJRI seems somewhat immune to earnings
misses at this point. The next catalyst for the stock may be the
analyst meeting this week or, more likely, activist noise.
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours. I wrote this
article myself, and it expresses my own opinions. I am not
receiving compensation for it. I have no business relationship with
any company whose stock is mentioned in this article.
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