Don't EAT This Stock Just Yet

 | Jan 26, 2012 | 7:40 AM EST  | Comments
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Does anybody follow Brinker International (EAT) anymore? In the late 1990s, Brinker was the restaurant growth story. Led by its Chili's restaurant chain, Brinker latched on to the casual-dining concept with a vengeance. Americans ate up its juicy burgers, sizzling fajitas and gooey nachos. They washed it all down at the full-service margarita bar.

But, when the Tex-Mex concept hit the wall in 2007, management thought it would be a good idea to borrow tons of money to buy back stock. Turns out that wasn't such a good idea. (Well, it was a good idea for people, like me, who short stocks!) By 2008 the stock was down some 80% from its high, and the company was desperate for a break. Recently, though, Brinker seems to have gotten its act together and the stock is on the move. Will this name be the turnaround restaurant story of 2012, or is it just soggy leftovers?

To pedal back, by 2007 the whole Tex-Mex casual dining concept got old. In an effort to boost its sagging shares, the company borrowed hundreds of millions of dollars to repurchase its stock. Then, in 2009, the financial crisis hit. In just three years, from 2005 to 2008, long-term debt rose 120% to $900 million.

With its back against the wall, management was forced to unload its less-important restaurant concepts. It sold off 80% of Romano's Macaroni Grill for $131.5 million. Then, in March 2010, the company dumped another chain, On the Border Mexican Grill & Cantina, selling it to Golden Gate Capital for $180 million. By fiscal 2011, the company managed to cut its debt burden in half and could finally begin to focus on growth.

On Tuesday, Brinker reported second-quarter earnings per share of $0.44, beating the consensus estimate of $0.38 on a 1.5% increase in revenue. Same-restaurant sales rose 1.7%, just a hair under the company's goal of 2%.

Much of the 1.5% revenue growth seems to be unsustainable, as it was driven by menu promotions at Chili's. Management believes 2012 will be better, and it forecast a 2% to 3% increase in same-restaurant sales. Despite higher commodity prices, margins jumped 50 basis points to 17.9%. Management thinks the improvement in margins is real, and it forecast a further 400-basis-point increase over the fiscal year. The stock fell $2.50 on the news.

The company plans to spend over $130 million on capital expenditures in order to freshen up the interior and exterior of the restaurants and improve the operations in the kitchens. It's also looking for new ways to lower the operating costs of its locations.

While the stock has risen from the depths of despair, I need to see more top-line growth here. Improvements in margins are welcome, but management's estimate of a 400 bps improvement seems like a long shot. Brinker needs to reenergize the brand and the menu before cautious consumers come back. For now, I'll stay at the bar and hold off on ordering anything off the menu.

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