News Analysis: The Future For Arby's, Wendy's

The $430 million sale of Arby's Restaurant Group Inc. to Roark Capital could be qualified as addition by subtraction for both the 3,600-unit Arby's and its former sister chain, the 6,600-unit Wendy's.

Restaurant securities analysts noted that the terms of the brands' separation — with Arby's leaving parent company Wendy's/Arby's Group Inc., and Wendy's remaining — represented a fair value for Arby's and will allow both chains to go their own ways with fresh infusions of cash.

Atlanta-based Wendy's/Arby's Group now can focus solely on Wendy's growth initiatives, a goal that company executives said motivated the January announcement that Wendy's/Arby's Group would seek strategic alternatives for Arby's. Areas of focus for Wendy's will include its test of a new breakfast platform, currently in six markets, with a goal of being in 1,000 stores by year-end; expanding internationally to as many as 8,000 locations; and adding as many as 1,000 domestic stores over the next few years, while remodeling many units along the way.

As part of the deal announced Monday, Roark Capital will pay Wendy's/Arby's Group $130 million in cash and assume $190 million in Arby's-related debt. Wendy's/Arby's Group also will receive an $80 million tax benefit. The company also retains an 18.5-percent stake in Arby's, valued at $30 million, letting it still reap any of the upside should Roark successfully turn around the sandwich chain's business.

As for Arby's, Roark has announced that it would spend $180 million at the start of the deal, with $130 million going to Wendy's/Arby's Group to pay the cash portion of the purchase price and the remaining $50 million earmarked for liquidity and growth capital for the sandwich chain. Roark officials said the private-equity firm would invest an additional $50 million through 2013 to fund more growth opportunities.

Wendy's Gets A Cleaner Balance Sheet

As Wendy's attempts to grow a significant presence internationally and realize its remaining potential in the United States, the brand should have a healthier balance sheet to do so. The sale's $130 million cash proceeds and the assumption of $190 million in debt by Roark Capital represents a $320 million swing in Wendy's net debt-to-earnings ratio.

Though the company would have to forgo Arby's trailing-12-month earnings before interest, taxes, depreciation and amortization, or EBITDA, of $53 million, Wendy's/Arby's Group's debt would fall to 2.2 times EBITDA. The presale ratio is 2.7 debt-to-EBITDA. Following the close of the sale, Wendy's/Arby's Group would have $630 million on hand.

Jeffrey Bernstein, restaurant securities analyst for Barclays Capital, wrote in a research note that "the economic value to Wendy's from the total $430 million transaction is significant, in our view." Having $630 million in cash would offer "shareholder value creation opportunities above and beyond the above-mentioned business reinvestment" like breakfast, international growth, and domestic-system remodeling, he wrote.

Breakfast is currently being tested in Pittsburgh, Kansas City, Phoenix, San Antonio, Shreveport, La., and Louisville, Ky. Other menu upgrades include relaunched French fries and a Berry Almond Salad, and upcoming revamps of the chain's hamburgers and chicken sandwiches. Menu development and marketing will be overseen by president David Karam in the interim, following the departure of chief marketing officer Ken Calwell, who will become president of Papa Murphy's.

As a precursor to planned domestic expansion, Wendy's will choose a new prototype in the second half of 2011, which also will help drive its remodeling program.

Bernstein also noted that Wendy's achieved most of the goals company officials set for the chain when it merged in September 2008 with Arby's parent Triarc Cos. to form Wendy's/Arby's Group, including meaningful store-level margin improvement despite its same-store sales taking a beating from the recession.

"On the flip side, Arby's has struggled over the same period," he wrote, "with comps falling double digits for much of that time due primarily to a lack of value offering and intense competitive pressures in the sandwich segment."

Arby's Gets Growth Capital

Arby's had begun to build some sales momentum, logging domestic same-store sales gains of 2 percent in the fourth quarter of 2010 and 5.5 percent in the first quarter of 2011. While those results were lapping very negative numbers from a year earlier, the brand had put several marketing initiatives and executive changes in place to drive a turnaround.

Last May, Hala Moddelmog, former president of Church's Chicken, was named president of Arby's Restaurant Group. She then hired Burger King veteran Diana Petrovich-Tao as chief operating officer and named BBDO the chain's new advertising agency.

By February, Arby's had broken a new advertising campaign, "Good Mood Food," to market new items like the Angus Three Cheese & Bacon Sandwich. Before the focus on premium items in the new campaign, Arby's had begun to gain sales traction thanks to its $1 Value Menu.

John Glass, analyst for Morgan Stanley & Co. Inc., noted that that Wendy's/Arby's Group elected to keep a minority stake in Arby's to benefit from any possible upside that could result from these initiatives.

"[Arby's] has very depressed 5-percent EBITDA margins — low to mid teens would be more 'normal' for this type of business," he wrote. "Roark Capital will immediately inject $50 million of capital into the business and has commitments to add another $50 million over time, giving Arby's a welcomed capital injection."

Glass called the deal's valuation "reasonable," noting that the $350 million sale price — which excludes Wendy's/Arby's Group's $80 million tax benefit — is 6.6 times Arby's trailing-12-months EBITDA of $53 million. Bernstein agreed, noting that the deal's multiple was fairly in-line with major restaurant industry buyouts of the past year, including the going-private sales for Burger King Corp. and CKE Restaurants Inc., which went for an average of 7.7 times earnings.

Atlanta-based Roark Capitals' other recent foodservice acquisitions include Il Fornaio America Corp., which owns the Il Fornaio and Corner Bakery Café brands, as well as Wingstop and McAlister's Deli.