October 23, 2011 in Business

Darden sees dining profits fall off table

Universal Press Syndicate

Sometimes, free breadsticks aren’t enough. Thinning margins and sluggish sales at Olive Garden ate into casual-dining juggernaut Darden Restaurants (NYSE: DRI) in its latest quarter.

The company behind Red Lobster, Olive Garden and LongHorn Steakhouse saw net earnings slip 6 percent, while revenue rose 9 percent, approaching $2 billion.

Disruptions caused by Hurricane Irene weighed on Darden’s performance, but profitability still would have inched slightly lower on a storm-free basis. New openings and sales growth at Red Lobster and LongHorn were more than enough to offset the 2.9 percent eatery-level decline at Olive Garden.

There’s no point in wondering what exactly is going wrong at the Italian chain. Multi-concept operators are rarely running on all cylinders. A year earlier, it was strength at Olive Garden that helped pull up a stalled Red Lobster.

Besides, there’s more to running a successful restaurant chain than sales growth. Darden saw food and beverage costs rise faster than sales, as it didn’t pass on higher commodity costs to its diners. And it’s not just Darden being affected by rising costs.

Analysts will be watching how food and beverage costs are holding up elsewhere, but there won’t be a lot of hope for casual dining companies until the economy improves and restaurateurs can wean diners off margin-chomping promotions.

Ask the Fool

Q: What’s so bad about reverse stock splits? – B.A., Worcester, Mass.

A: They rarely involve companies in the pink of health. It’s mainly outfits in trouble that execute reverse splits, in order to prop up their stock prices.

Imagine a stock trading at $2 per share. If you own 150 shares and the company executes a 1-for-10 reverse split, you’ll end up with 15 shares, priced around $20 each. Note that before and after the split, the value of your shares is the same: $300. All that happened is that the company increased its stock price by decreasing its number of shares.

Some reverse splits happen so companies can avoid being delisted from stock exchanges that have required minimum price levels – or not have their stock ejected from any mutual funds that aren’t allowed to own stocks priced below $5.

It’s often smaller, less well-known firms that do reverse splits, but here are some companies you may have heard of that executed them: Citigroup, AIG, AT&T, 7-Eleven, Priceline.com.

If a company you’re interested in plans a reverse split, consider that a big red flag. Odds are, it’s in trouble. And if you see that a beleaguered company is suddenly trading at a higher price, that may signal a reverse split more than an operational turnaround.

My dumbest investment

My dumbest investment was buying into Vonage several years ago. I was taken with its technology and bought at its IPO at around $17 per share. It dropped fast and is trading below $3 per share now. – J.S., Canton, Ohio

The Fool responds: It’s often smart to avoid initial public offerings (IPOs). They’ve been known to surge upon their debut, only to settle down later, hurting their early investors. Remember, too, that it’s never enough for a company to have an exciting technology or a wonderful product. Krispy Kreme Doughnuts had millions of fans, but it still ended up causing many shareholders much pain, as franchisees filed for bankruptcy and debt ballooned. Vonage, meanwhile, had been racking up losses and piling on debt when it IPOed, and it’s still on shaky ground, with a falling customer count and shrinking cash flow.

Don’t take unnecessary chances with your money; remember that there are lots of attractive stocks out there, many of which have little to no debt and strong track records. Don’t be lured by seemingly low prices, either – even $1 stocks can be too expensive.

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