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Del Frisco’s Restaurant Group Inc (DFRG): A Solid Small-Cap Stock

Complementary Brands

Del Frisco’s is different from its competitors in that its brands are quite similar and therefore complementary. In contrast, larger competitors such as Darden Restaurants, Inc. (NYSE:DRI), Landry’s, and Ruth’s Hospitality Group, Inc. (NASDAQ:RUTH), owner of Ruth’s Chris Steakhouse, have multiple brands, but the brands are unrelated to each other. For example, there is little awareness that Longhorn Steakhouse and The Capital Grille are owned by the same company, Darden Restaurants, Inc. (NYSE:DRI). When a customer thinks of going to Longhorn, there is no thought about the association to one of the world’s leading steakhouses, The Capital Grille. Likewise, there is little brand association between Ruth’s Chris Steakhouse and Mitchell’s Fish Market, though they are both owned by Ruth’s Hospitality Group, Inc. (NASDAQ:RUTH). For Del Frisco’s, this is not the case. In particular, there is a strong brand connection between Del Frisco’s Double Eagle Steakhouse and Del Frisco’s Grille because they both use the name Del Frisco’s. Another way in which Del Frisco’s brands complement each other is when looking at various locations. A particular location may not be well suited for a Del Frisco’s Double Eagle Steakhouse but it may be a good spot for a Del Frisco’s Grille. For Darden, if a location is not good for an Olive Garden then it also unlikely to be a good fit for a Red Lobster or Longhorn as the price point is similar across all three brands.

Thoughts on Darden

Darden recently reported fiscal fourth quarter results:

1). $1.01 EPS vs $1.15 EPS a year ago
2). Profit missed forecasts by 3 cents

3). 2.2% same store sales growth

In my opinion, Darden is a solid investment. Currently, Darden is trading at 15 times forward earnings and has a dividend yield of 4.4%. While the company has stumbled somewhat in terms of operational performance, the company has strong brands which I believe are likely to continue generating solid profits for shareholders. That being said, I see no near-term catalyst to send shares surging. Instead, I see Darden as a good long-term investment.

Ruth’s Hospitality

Like Darden, I view Ruth’s as a solid, investable company. Over the past few years, as shares have rallied from the low single-digits to the mid double-digits, Ruth’s has made improvements. In particular, it has reduced the amount of debt outstanding. For a small company such as Ruth’s, this is important as a high debt load can put the company in a risky position during economic downturns such as 2008. Ruth’s does trade at a forward PE ratio close to 20 and thus is not a cheap stock. If shares were to pull back in the coming months, I would consider investing. However, current valuations are a bit rich for me.

More on Del Frisco’s

Growth

Del Frisco’s plans to open 3-5 new restaurants every year. Currently, Del Frisco’s operates a total of 34 restaurants, which is considerably smaller than some of Del Frisco’s leading competitors. The Capital Grille operates 48 restaurants, Mortons operates 70 restaurants, and Ruth’s Chirs Steakhouse operates 159 restaurants (including franchised units). Clearly, there is room for Del Frisco’s to grow without saturation.

Balance Sheet

Currently, Del Frisco’s has $9 million in cash and no debt. Before coming public in July 2012, as shown by the chart below, Del Frisco’s had some debt. However, the company used a portion of IPO proceeds to pay it off. Del Frisco’s lack of a debt load is advantageous for a few reasons. Firstly, Del Frisco’s does not have any interest cost, which means that earnings are not reduced. Furthermore, no debt means Del Frisco’s is well positioned to handle any significant downtown in either the economy or capital markets. Finally, no debt means Del Frisco’s could issue debt down the road if desired for various purposes such as a share buyback or a takeover of another company.

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