Description

Business Overview:

Bloomin’ Brands (“BLMN”) is one of the largest casual dining restaurant companies. The Company operates more than 1,450 restaurants across four well-known brands: Outback Steakhouse, Carrabba’s Italian Grill, Bonefish Grill, and Fleming’s Prime Steakhouse & Wine Bar. Outback is the powerhouse of the portfolio, generating $3.2 billion of system-wide sales in 2019 (65% of total), which makes Outback the largest casual dining steakhouse brand in the world.

Opportunity Overview:

Prior to the pandemic, it was challenging to be a casual dining bull on the basis of industry oversupply and persistent labor inflation. Not only has the pandemic alleviated these concerns, but it has turned what were pre-COVID headwinds into clear post-COVID tailwinds. Between 5% and 15% of U.S. restaurants have permanently closed, creating significant market share opportunities for well-capitalized chains, and COVID-driven cost reductions are unlocking a path toward structural margin enhancement for the sector. 

Despite operating results that have outpaced those of the majority of peers during COVID, BLMN’s enterprise value (“EV”) recovery has materially lagged those same peers (see Exhibit 1). Peers are now trading at between 120% (DRI) and 156% (TXRH) of their pre-COVID EVs, well ahead of BLMN’s rebound to 105%.

We believe this gap in EV recovery is likely attributable to BLMN’s lack of disclosure around the post-COVID margin opportunity (which is even more compelling for BLMN than it is for most peers, as our diligence suggests that BLMN’s outsized level of sales discounts weighed on restaurant-level margins going into the pandemic) as well as BLMN’s over-levered capital structure relative to peers.

Below, we outline i) BLMN’s multi-year AUV expansion opportunity arising from shuttered independent restaurants and growth in off-premise volumes and ii) BLMN’s restaurant-level margin expansion opportunity driven by permanent, COVID-driven cost reductions. Together, these opportunities create an underappreciated multi-year EBITDA growth and deleveraging story at BLMN that is not yet reflected in BLMN’s consensus numbers or stock price.

Multi-Year AUV Expansion: On the back of COVID, we see structural upside to BLMN’s pre-COVID AUVs on account of i) independent restaurant closures presenting significant market share opportunities, ii) off-premise volumes driving a sustainably higher percentage of the sales mix, and iii) BLMN’s Tender Shack virtual brand driving incremental sales at existing units. We model 2022E U.S. AUVs that are 7% above 2019 levels, based on i) dine-in AUVs at 102% of 2019 levels (reflecting a 4% uplift from independent closures, offset by 2.0% cannibalization from the increased off-premise volumes, which we assume are 60% incremental to dine-in), ii) off-premise AUVs increasing 41% over 2019 levels (based on BLMN retaining 25.0% of the YoY increase in off-premise volumes in Q3 2020, which implies a 16% off-premise sales mix across the U.S. portfolio and a 20% off-premise sales mix at Outback and Carrabba’s), and iii) Tender Shack being rolled out across all 199 Carrabba’s units (we assume $140k of Tender Shack sales per Carrabba’s unit, in line with EAT’s guide of $143k in per-unit sales for the It’s Just Wings virtual brand in its first year).

-        Independent Restaurant Closures: The National Restaurant Association is already quoting that 17% of U.S. restaurants have either permanently closed or are closed for the long-term, and only 48% of those restaurant owners expect to remain in the industry in any form going forward. U.S. Foods and Sysco are suggesting between 5% and 10% of U.S. restaurants have permanently closed. We believe the market is not fully appreciating the tailwind for large casual dining chains that will arise from a softer competitive environment (U.S. casual dining units are ~86% independent, and independents account for ~60% of industry revenue). By way of illustration, in the case that 10% of independent casual dining units permanently close and industry revenue fully recovers to 2019 levels, surviving operators would see a 6% sales uplift, on average. Prior to the pandemic, achieving that same 6% sales uplift would have taken one of BLMN’s U.S. company-owned units ~5 years to achieve, on average, based on compounding BLMN’s 2019 U.S. same-store sales of 1.2% for ~5 years. Industry closures are beginning to manifest themselves in market share outperformance among casual dining chains. BLMN’s Q3 2020 U.S. comp of -12.8% exceeded the Knapp-Track industry benchmark by 850bps.

-      Incremental Off-Premise Revenue: Off-premise volumes will drive a sustainably higher percentage of BLMN’s sales mix on the other side of COVID. In Q3 2020, takeout and delivery accounted for 39% of BLMN’s total U.S. revenue, representing a ~2.6x increase over pre-COVID off-premise volumes. As dining rooms have reopened, BLMN has been able to retain ~50% of the elevated takeout and delivery volumes it built while dining rooms were closed. In September 2020, with BLMN’s in-restaurant dining capacity still restricted to an average of ~50% of available seats, BLMN reported U.S. same-store sales nearing pre-COVID levels, with combined U.S. comps down just 7.9% and Outback U.S. comps down 7.0%. 

-      Virtual Brands: BLMN launched its first virtual brand, Tender Shack, in early September and has since deployed the concept to Carrabba's units across ~22 states. While the staying power of Tender Shack and other virtual brands remains to be seen, we are constructive on BLMN's ability to leverage delivery-only virtual brands to drive sales at existing kitchens that are ~100% incremental. EAT rolled out It's Just Wings to 1,050 Chili's units in June 2020, and as of January 2021, It's Just Wings was tracking ahead of the ~$150 million year-1 sales target that EAT specified for the brand at launch ($143k in per-unit sales). We model Tender Shack being deployed across all 199 Carrabba's units and achieving $140k in per-unit sales by 2022, which implies ~440bps of AUV expansion at the Carrabba's U.S. level and ~70bps of AUV expansion at the U.S. portfolio level. 

Restaurant-level Margin Expansion: BLMN’s U.S. business will emerge from COVID with structurally higher restaurant-level margins as a result of i) increased labor availability, ii) menu simplification, iii) food waste reduction, iv) redirection of marketing spend toward higher-ROI digital channels, and v) a reduction in sales discounts. We model 2022E U.S. restaurant-level margins of 15.0%, or 90bps above 2019 U.S. restaurant-level margins, based on ~26% flow-through of incremental sales as U.S. same-store sales recover from down 12.8% in Q3 2020 to 7.2% above 2019 levels in 2022E.

-       Margins Outperformance to Date: In Q3 2020, BLMN’s U.S. restaurant-level margins declined just 10bps YoY, despite U.S. same-store sales still down 12.8% YoY. As sales recovered from down 39.4% in Q2 2020 to down 12.8% in Q3 2020, BLMN’s U.S. business delivered ~33% flow-through at the restaurant-level. For reference, DRI, which has guided to 100-150bps of structural EBITDA margin enhancement on the back of COVID (70-120bps at the restaurant-level), saw ~18% restaurant-level flow-through as same-store sales recovered from down 29.0% in FQ1 2021 to down 20.6% in FQ2 2021 (~30% flow-through for the LongHorn brand). DRI’s guide implies ~26% flow-through as same-store sales recover from down 20.6% in FQ2 2021 to 100% of pre-COVID levels. BJRI has guided to 200bps of COVID-driven restaurant-level margin enhancement, which implies 42% restaurant-level flow-through as sales return. BJRI saw ~29% restaurant-level flow-through as same-store recovered from down 57.2% in Q2 2020 to down 30.2% in Q3 2020.

-     Sales Discounts: Based on our diligence, BLMN was running a significantly higher level of sales discounts (i.e. price promotions and public relations comps) than its largest casual dining peers going into the pandemic, which weighed on pre-COVID restaurant-level margins. COVID has created a unique window for BLMN management to rationalize sales discounts across the portfolio and capture this idiosyncratic margin opportunity, without having to endure the same scrutiny around quarterly traffic comps that management teams might face in a more normal operating environment. On BLMN’s Q3 2020 earnings call, BLMN CFO Chris Meyer stated, “We are generating our sales with less discounts. That's showing up in check average. We've not needed discounts in this environment to drive traffic, and that is improving the margins and the flow-through. I think there's learnings there for us moving forward.”

Valuation:

We believe BLMN can grow adjusted EBITDA from $397 million in 2019 to $476 million in 2022, representing an increase of $78 million, or 20%, and ~8% favorability to 2022 consensus numbers. Within that $78 million increase, $29 million (37%) is driven by restaurant-level margin expansion of 70bps (90bps for BLMN’s U.S. business), and $37 million (47%) is driven by a reduction in G&A dollars to management’s 2021 target, which BLMN is already surpassing at current run-rate G&A levels. We see BLMN de-leveraging to 1.5x net leverage and 2.8x lease-adjusted net leverage by 2022 – or 2.4x lease-adjusted net leverage in the case that BLMN’s $230mm of convertible notes due 2025 are converted. Our one-year-forward valuation is based on a 2022E EV / EBITDA multiple of 8.0x, which represents slight premium to BLMN’s 5-year average forward EV / EBITDA multiple of 7.3x.

We believe that BLMN will realize multiple expansion as it delivers on above-consensus AUV and restaurant-level margin expansion beginning in late 2021, demonstrating a path toward deleveraging to <3.0x lease-adjusted net leverage. Our base case implies a price target of $32 / share, or 42% upside to BLMN’s current price of $22.66 / share.

BLMN could drive additional upside by refranchising its Outback Brazil business, which has historically delivered mid-single digit same-store sales with 19%+ restaurant-level margins and has attracted interest from private equity buyers. Assuming BLMN refranchises its Brazil business for a gross multiple of 13.5x (11.9x after tax leakage), we believe this would drive $2 / share of additional upside to our base case, or 50% upside to BLMN’s current share price.

In an upside case, BLMN could become a takeout target for DRI, which is currently trading at a 5+ turn multiple premium to BLMN on 2022E EBITDA and would likely take interest in owning BLMN’s category-leading Outback brand and leveraging its restaurant operating capabilities to optimize BLMN margins. In the case of a takeout by DRI at a 9.5x multiple, BLMN stock has 70% upside.

Risks:

-     $15 Federal Minimum Wage: If the Dems are able to change the Senate filibuster rules, we could see the federal minimum wage increase to $15. Assuming the tip credit stays, we believe that BLMN would have to increase prices by ~5% to fully offset this impact (assuming no change to labor hours/productivity, which would be a further offsetting factor). There is a very small chance that the tip credit could be eliminated, but this would bankrupt most full-service restaurant companies, so we think it is a longshot. It is worth noting that in early February the Senate approved by voice vote a measure prohibiting any increases to the federal minimum wage during the global pandemic.

-     Commodity Inflation: Commodity inflation could pressure BLMN’s margins, although BLMN has demonstrated an ability to manage commodity inflation historically (based on disclosures, BLMN traditionally forward buys 70-80% of its commodity basket, and up to 99% for beef).

Financials:

Catalyst

-         Management guiding to above-consensus restaurant-level margins.

-     Stronger-than-expected 2021 EBITDA growth and free cash flow generation, providing line of sight to <3.0x lease-adjusted net leveraged by 2H22 (note there is a clear inverse relationship between leverage and valuation multiples for casual dining companies).