Wendy’s/Arby’s Group Inc. (WEN) posted third-quarter 2010 earnings of approximately zero cent per share, which lagged the Zacks Concensus estimate of 4 cents. Wendy’s/Arby’s had posted 3 cents a share in the year-earlier quarter. Sales deleverage coupled with higher commodity costs led to the decline in earnings. 

Total revenue in the quarter under review tumbled 4.7% year over year to $861.2 million. Sales from company-operated restaurants dropped 5.0% to $766.0 million and franchise revenue dipped 2.1% to $95.2 million. Revenues were hurt by sluggish sales both at Wendy’s and Arby’s restaurants. Adjusted EBITDA also plunged 19.6% to $100.0 million.

Wendy’s Operating Highlights

Wendy’s total revenue in the quarter dropped 2.1% year over year to $600.7 million mainly due to the decline in company-operated restaurants (down 2.3%) and almost flat performance in franchise revenues. 

Wendy’s North America company-operated same-store sales decreased 3.1% and franchise same-store sales fell 1.3%. Continued value promotions by other quick service restaurants led to the decline.

Company-operated restaurant margin contracted 200 basis points (bps) to 14.5% due to the 160 bps rise in commodity costs and weak same-store sales results.

Arby’s Operating Highlights

Arby’s total revenue in the quarter fell 10.0% year over year to $260.5 million primarily due to lower comparable-store sales. Company-operated restaurants sales declined 10.5% year over year to $240.9 million and franchise revenues slipped 3.9% to $19.6 million. 

Arby’s North America company-operated same-store sales decreased 9.5% and franchise same-store sales dropped 4.1%. 

Company-operated restaurant margin plunged 170 basis points to 10.4% primarily due to sales deleveraging and a headwind from commodity costs.

Wendy’s/Arby’s Group Financial Position

Wendy’s/Arby’s Group ended the quarter with cash and cash equivalents of $520.5 million, long-term debt of $1.6 billion and shareholders’ equity of $2.2 billion.

Wendy’s/Arby’s Group repurchased 52 million shares, aggregating $245 million at an average price of $4.69 per share since the inception of its share buyback program in 2009. Management authorized an additional $170 million to its common stock repurchase program.

In the quarter, management hiked its quarterly cash dividend 33% to 2 cents per share.

Store Update

At quarter-end, Wendy’s had 6,554 restaurants, of which 1,391 were company-owned and 5,163 were franchise-operated.

Arby’s ended the quarter with 3,662 restaurants, of which 1,146 were company-owned and 2,516 were franchises.

Outlook

For 2010, Wendy’s reduced its same-store sales guidance at North America company-operated restaurants to down 1% from flat, while Arby’s same-store sales are expected to be negative, though improvements are likely on a year-over-year basis.

For 2010, Wendy’s/Arby’s Group now expects adjusted EBITDA to be at the lower end of the previously announced guidance of down 3% to 5% year over year.

Our Take

Wendy’s/Arby’s Group has outlined a multi-year turnaround plan to improve restaurant operating margins, revitalize comparable-store sales and expand internationally.

While trends at Wendy’s appear to be improving evidenced from the October month’s result, 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 clearly 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.

One of the primary competitors of Wendy’s/Arby’s, Cheesecake Factory Inc. (CAKE) recently reported third quarter 2010 earnings of 37 cents a share, which exceeded the Zacks Consensus Estimate of 34 cents. The better-than-expected results were driven by comparable-store sales growth, higher traffic and effective cost management.

With challenging market conditions and higher commodity costs, we expect earnings of Wendy’s/Arby’s to remain under pressure in the fourth quarter. However, improvement in some core menu products along with the launch of a cheeseburger line are expected to support its same-store sales, going forward.

The company’s initiative of expanding into breakfast at Wendy’s has been well received so far and a national roll-out is scheduled for late 2011.

 
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