Wendy’s/Arby’s Group Inc. (WEN) posted second-quarter 2010 adjusted earnings of 7 cents per share, which topped the Zacks Consensus Estimate of 5 cents. Including one-time items, Wendy’s/Arby’s posted quarterly net income of $10.7 million, well below $14.9 million recorded in the year-earlier quarter. However, reported earnings of 3 cents per share remained flat year over year.
 
Total revenue in the quarter tumbled 3.8% year over year to $877.0 million and lagged the Zacks Consensus Estimate of $888 million. Sales from company-operated restaurants dropped 4.1% to $782.7 million and franchise revenue dipped 2.3% to $94.3 million. Revenues were mainly hurt by sluggish sales at Arby’s restaurants.
 
Adjusted EBITDA nudged up 3.2% to $120.9 million, due to reduced general and administrative expense and continued expansion in Wendy’s company-operated restaurant profits.

Wendy’s Operating Highlights

Wendy’s total revenue in the quarter inched lower by 1.3% year over year to $607.4 million due to the decline in both company-operated restaurants (down 1.2%) as well as franchise revenues (down 1.4%).  
 
Wendy’s North America company-operated same-store sales decreased 2.9%, whereas franchise same-store sales were down 1.4%. Continued value promotions by other quick service restaurants were behind the decline.

Company-operated restaurant margin in the quarter expanded 50 basis points (bps) to 16.4% despite the 90 bps rise in commodity costs and weak same-store sales result.

Arby’s Operating Highlights

Arby’s total revenue in the quarter fell 9.4% year over year to $269.6 million due to lower comparable-store sales. Company-operated restaurants sales declined 9.7% year over year to $250.3 million, whereas franchise revenues slipped 5.4% to $19.3 million.
 
Arby’s North America company-operated same-store sales decreased 8.8% whereas franchise same-store sales were down 6.7%.
 
Company-operated restaurant margin in the quarter declined 150 basis points to 13.4%, primarily due to sales deleveraging and a headwind from commodity costs, offset somewhat by advertising costs that have been deferred until the second half of the year.
 
Wendy’s/Arby’s Group Financial Position

Wendy’s/Arby’s Group ended the quarter with cash and cash equivalents of $508.4 million, long-term debt of $1.6 billion and shareholders’ equity of $2.2 billion.

In the first half of 2010, Wendy’s/Arby’s Group repurchased 52 million shares, aggregating to $245 million at an average price of $4.69 per share.

 
Store Update
 
At quarter-end, Wendy’s had 6,546 restaurants, of which 1,391 were company-owned and 5,155 were franchise-operated.
 
Arby’s ended the quarter with 3,685 restaurants, of which 1,152 were company-owned and 2,533 were franchises.
 
Outlook
 
For 2010, Wendy’s expects same-store sales at North America company-operated restaurants to be flat, while Arby’s same-store sales are expected to be negative, though improvements are likely on a year-over-year basis.
 
Wendy’s/Arby’s Group expects adjusted EBITDA to decline approximately 3% to 5% year over year in 2010. The company anticipates lower sales at each brand due to economic uncertainties.
 
Our Take
 
Like all other quick-service restaurants, Wendy’s/Arby’s also focused on value proposition at its Arby’s brand with the expansion of its $1 value menu. Its newly launched $1 Junior Deluxe Roast Beef sandwich has been received well by consumers.            
 
Wendy’s/Arby’s Group has outlined a multi-year turnaround plan to improve restaurant operating margins, revitalize comparable-store sales and expand internationally. The company recently signed deals for the development of 180 dual-branded Wendy’s /Arby’s Group restaurants in Russia and 24 Wendy’s restaurants in the Eastern Caribbean over the next 10 years. Management also remains hopeful about the new premium salad line launched by Wendy’s.
 
While Wendy’s is showing slight improving trends, Arby’s continues to face headwinds with sagging comps and falling margins. We see limited upside potential in the stock until an improvement in Arby’s performance is visible. Moreover, an uncertain economy with a high unemployment rate and faltering consumer confidence along with steep competition will likely restrain the company’s growth in the near term.

 
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