2023-05-21 04:22:54 ET
Summary
- Dine Brands is the parent company of Applebee's, International House of Pancakes ('IHOP') and Fuzzy's Taco Shop restaurants.
- Debt has been one of the most concerning risks for the company, given the sensitivity to economic conditions and discretionary spending.
- Despite these challenges, the company's expansion into Fast Casual segment has allowed it to mitigate many downside inflation risks.
- Shares currently trade at a discount relative to it's peers at 13.04x P/E and an 11.54x EV/EBITDA with significant price upside potential.
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(Note: all '$' figures are in USD, unless stated otherwise)
Investment Thesis
Dine Brands' (DIN) recent acquisition of Fuzzy's Taco Shop has allowed the company to further expand its revenue segments from full-service casual dining to more quick-service casual segments. Over the past 5 years, the company has grown EBITDA at a 22.57% CAGR along with ~3% annual growth in SSS%.
We believe that Dine Brands trades at a discount relative to its peers at a 11.5x EBITDA and the growth and cyclical nature of the stock makes it a good investment today despite the challenges.
Assuming SSS% to continue growing at 3%, EBITDA to grow at 20% CAGR, and with shares below the 200-Day Moving Average of $70.42, we recommend a 'Buy' rating on the company at current price of $64.20.
Company Overview
Dine Brands Global Inc., through its subsidiaries, owns, franchises, supports, and operates restaurants under the Applebee's Neighborhood Grill + Bar, International House of Pancakes ('IHOP'), and Fuzzy's Taco Shop brands. As of March 31, 2023, these brands consisted of 3,600 restaurants, across 17 international markets.
Being one of the largest full-service casual dining chains, Dine Brands has expanded into the fast casual/quick-service segment after its acquisition of Fuzzy's Taco Shop in 2022. The expansion has been supported by the company's other brands IHOP and Applebee's restaurant chains opening more ghost kitchens and facilitating for rising demand for take-outs and deliveries.
Revenue Segmentation
The company generates revenues from its five major operating segments:
- Franchisee Operations: Royalties and Advertising fees.
- Rental Operations: Leasing and Sub-leasing.
- Financing Operations: Equipment leases interest.
- Restaurant Operations: Retails sales from 69 company-owned Applebee's restaurants.
Geographically, the majority of the company's revenue comes from the United States despite multiple stores internationally. Total contribution from international operations was ~2% of the consolidated revenue.
Steady Cash Flows
Despite the unfavorable debt situation that the company faces, the management has made constant efforts and commitment towards generating steady cash flows . The shift towards more ghost kitchens and take-out facilities that the company is taking with its Applebee's and IHOP restaurants will allow the company to take advantage of quick-service style restaurants as the consumer demand for full-service casual dining falls in a high inflationary environment.
The company has seen customer satisfaction over the past years at both its IHOP and Applebee's brands, which has contribute to the attractive annual sales growth rate of 3% for the company. To further improve diner retention rates, the company has introduced loyalty programs for its Applebee and IHOP brands. The IHOP "PanCoin" attracts customers to keep using the dining services for free rewards in return.
The company highlighted in its most recent 10-K filing that it aims towards accelerating profitable growth and creating significant value for shareholders and franchisees. The company strategizes to achieve these goals by driving same-restaurant sales, traffic, and system sales growth, and maintaining strong financial discipline in the future.
Industry Analysis
Dine Brands operates in the US Chain Restaurant industry. As per IBIS World reports, the industry saw 1.6% annual revenue growth between 2018-2023 and is expected to see 1.4% in annual growth between 2023-2028. The industry remains highly competitive with low concentration despite some chains having large footprints.
Key external drivers for the industry between 2018-2023 include annual growth of:
- 1.2% in per capita disposable income
- 2.2 % consumer spending
- 0.3% domestic trips by US residents
- 1.4% number of motor vehicle registrations, and
- 1.6% total recreation expenditure
The industry as a whole was heavily impacted by the COVID-19 Pandemic and many companies have faced challenges to make a comeback. The companies operating in full-service dining services have had larger difficulties as many consumers have remained less willing to spend on sit-down meals and other cost-conscious consumers are increasingly eating from a buffet of dining alternatives.
Additionally, access to multiskilled and flexible workforce, the ability to franchise operations, and the ability to quickly adopt to new technology will be key success factors moving forward for companies in the Chain Restaurant industry.
Financials
Since 2017, Dine Brands has grown revenues and EBITDA at 15.78% and 22.57% CAGR, respectively. The company has witnessed steady and strong growth in unlevered free cash flow as the annual unlevered free cash flow between 2017 and 2022 is at 18.1%.
The company faces financial difficulties due to the large amount of long-term debt on its balance sheet. As of March 31, 2023, the company's long-term debt outstanding was $1.175 billion while the company's common stock and additional paid-in capital stands at a total of $248 million. Retained earnings for the company increased from last quarter and currently stand at $104 million.
The legal final maturity of the Class A-2 Notes is in June 2049, but it is anticipated that, unless repaid earlier, the Class A-2-II Notes will be repaid in June 2026. The renewal date of the Credit Facility is June 2027, subject to two additional one-year extensions at the option of the Company upon the satisfaction of certain conditions.
Dine Brands currently has a negative Total Shareholder's Equity value at -$289 million due to the contra-equity Treasury Stock account with a balance of -$640 million as of March 31, 2023. This large negative amount on the balance sheet comes from the company's Stock Repurchase Program introduced in 2019 to repurchase up to $200 million in share repurchases. On February 17, 2022, the company re-introduced its share repurchase program to repurchase up to $250 million of its shares.
This debt situation of the company is of much concern as the ability to refinance depends on factors outside of their control. It does make the investment risky when taken into consideration lending shortages and uncertainty of interest rates. The current debt to capital ratio for Dine Brands is 108.6% which is quite concerning and thus we believe that it gets reflected in the price of the stock today.
The company's Q1 2023 earnings reported a 10% increase in net income and 20% increase in diluted EPS despite a 7% decrease in Revenue. The decrease in revenue came from a high inflationary environment with company restaurant sales taking the biggest hit. Dine Brands has been able to manage its costs accordingly to maintain a healthy profit margin and the company has shown its determination towards EPS growth.
Despite the inflationary issues and debt concerns, we believe that the company's ability to generate free cash flow and the management's commitment to achieve strong financial discipline in the future will help the company continue its operations and grow significant profits and shareholder value.
Valuation
Based on the 12-month price targets of 6 analysts, the average price is expected to be at $84.00, with four buy ratings, one rating of hold, and one rating of outperform. This target price reflects a 30.85% upside from the current share price. Also, there's upside potential for the stock due to its highly cyclical nature and the likelihood of increased discretionary spending and falling unemployment.
Comparing the company's multiples with its peer averages gave us further indications of undervaluation as DIN trades at 13.04x P/E and a 11.54x EV/EBITDA which is much lower than its peer averages of 17.9x and 13.3x respectively. We looked for companies in the chain restaurant industries in the US to arrive at a comparable analysis. Our analysis for P/E averages excluded BJRI as its 115.4x P/E is an outlier.
Only Denny's Corporation ( DENN ) was the company trading at lower multiples than Dine Brands Global in this comparable analysis. Our decision to not include Denny's was due to its similar debt situation and significant insider selling over the past few months.
Looking Forward: Key Risks
Dine Brands, with its stable and attractive free cash flow growth is positioned to beat its debt situation and thus the company, currently trading at a discount relative to its peers appears to be an active investment. As chain restaurants move from the COVID-19 pandemic to rising inflation as their next big challenge, companies able to share operations by franchising will be able to take benefit of growth.
The biggest risks for the company currently stand at:
- the level of indebtedness.
- compliance with the terms of the securitized debt.
- ability to refinance the current indebtedness or obtain additional financing.
- dependence on information technology; potential cyber incidents.
- implementation of restaurant development plans and the dependence on franchisees.
The one major news that may change our views on the company is its ability to refinance its current debt or obtaining additional financing. The company, with its strong cash flow projections and net income margins, will be highly risky at a level where it will be important for other major players to intervene or lead to insolvency issues for the company.
Looking at some catalysts, currently, the US market for chain restaurants remains highly competitive and saturated, calling for companies to expand restaurant locations overseas to increase market share. Companies like Dine Brands that have established networks for international expansion will be at a competitive advantage to jump on opportunities of international expansion.
Conclusion
To summarize, Dine Brands is a leading chain restaurant company in the US operating under the brands of Applebee's Neighborhood Grill + Bar, IHOP, and Fuzzy's Taco Shop. The company's recent diversification into fast-casual dining segment opens huge profit growth opportunities.
While the company currently faces many challenges with regards to indebtedness and major economic turnarounds, the company's strategy to further diversify revenue streams, grow EPS and shareholder value with its ability to generate strong free cash flow makes it an attractive investment. Moreover, from a comparable company standpoint, we believe that the shares of Dine Brands Global for its current share price of $64.20 are undervalued.
If you're looking for a stock that offers upside potential as the economy recovers and discretionary spending increases, this stock from the consumer cyclical sector is a great pick.
For further details see:
Dine Brands: Challenges Offer Opportunity At A Fair Price