達登餐飲 (DRI) 2015 Q2 法說會逐字稿

Welcome and thank you for standing by.

All participants are in a listen-only mode until the question and answer session of today's conference call.

(Operator Instructions)

Today's conference call is being recorded.

If you have you any objections you may disconnect at this time.

And now I will turn the meeting over to Mr. Rick Cardenas.

Thank you, you may begin.

Thank you, Jenny.

Good afternoon.

While I have had the privilege of speaking with many of you during the past several weeks, I wanted to take a brief moment to introduce myself.

My name is Rick Cardenas and I'm the SVP of Finance, Strategy and Technology.

And a large part of my role is leading our Investor Relations outreach.

We welcome those of you joining us today by telephone or the Internet, and I look forward to working with everyone in the analyst and investment community.

With me today is Gene Lee, Darden's interim CEO and Brad Richmond, Darden's CFO.

Following prepared remarks from Gene and Brad we will take your questions.

As a reminder, comments made during this call will include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections.

Those risks are described in the Company's earnings press release, which was distributed earlier today, and in its filings with the Securities and Exchange Commission.

Today's discussion and presentations may also include certain non-GAAP measurements.

Reconciliation of these measurements is in our press release.

In addition, we have also posted a few slides on our website under the Investors tab that provide an overview of our first half financial results, a reconciliation of adjustments to second quarter earnings, and our FY15 outlook.

Now, I will turn the call over to Gene.

Thank you Rick, and good afternoon everyone.

We're pleased to report improved performance in our business in the second quarter.

Brad will provide more financial details in a moment but at a high level, total sales from continuing operations for the second quarter were $1.56 billion, a 4.9% increase from the second quarter last year.

On an adjusted basis, our earnings per share were $0.28, which represents 133% increase year-over-year.

Olive Garden had same-restaurant sales of positive 0.5%, the first positive quarter for the brand since the quarter ended May 2013.

LongHorn Steakhouse continued to deliver strong same-restaurant sales growth with an increase of 2.6%.

We also saw continued gains in our specialty restaurant group, which delivered a 3.2% increase in same-restaurant sales on a blended basis.

I want to take the time now to do two things: provide an update on our go-forward strategy, and discuss key highlights from our operating performance in the quarter.

Let's start with an update on our strategy.

First, we believe our future success needs to start with our ability to improve same-restaurant sales, resulting in increased market share and achieving best-in-class profitability.

In order to achieve these goals and win in the marketplace, we're getting back to basics by increasing our focus on the core operational fundamentals of the business.

In particular, this means providing an outstanding guest experience rooted in great food with terrific service, all delivered in an appealing atmosphere.

We're working hard to improve excellence in each of these areas to provide an outstanding guest experience, and once again achieve industry leading and sustainable same-restaurant sales growth.

Winning in the restaurants must be supported by a guest-focused support structure across our field leadership and our Restaurant Support Center.

As you know, we announced some difficult but necessary decisions last month that made our support structure more efficient, both in terms of cost and decision-making.

Beyond our organizational structure, we are pursuing other significant, non-consumer facing cost savings initiatives.

We have recently engaged with Boston Consulting Group to help with the process and are encouraged by the opportunities identified.

We expect to see meaningful benefits in FY16, and we'll have more details to share in the quarters ahead.

In parallel, with our focus on operations, the Board and the management team also have the responsibility to ensure we're maximizing every element of our business in order to drive shareholder value.

Our initial focus will be exploring options for our real estate portfolio, which includes more than 1,200 owned or ground-leased properties across the country.

We want to be comprehensive and thoughtful in considering the options to ensure we're maximizing shareholder value while also maintaining the best structure for ongoing business.

There are a number of options.

To assist us with this comprehensive analysis, we are engaging advisers with extensive expertise in these types of valuations, including JPMorgan, Moelis & Company, and Skadden & Arps.

The Board and management team will also continue to evaluate other strategies, including franchising and the composition of our brand portfolio.

However, real estate will be the first area of focus.

Of course, there are no assurances we will ultimately pursue any of these options.

While we do not have a set timeline or additional details to disclose now, we plan to provide updates if and when appropriate.

Lastly, a clear priority for the Board is the selection of our next CEO.

The Board is actively engaged in the search process.

Now let's turn to some highlights on our performance in the quarter.

At Olive Garden, we have now had four straight months of positive same-restaurant sales, the first time this has happened since November of 2010.

We believe these results are early signs that our Brand Renaissance Plan is beginning to take hold.

Key consumer metrics on overall experience, quality of food, taste, value, and attentive service continue to trend in the right direction.

Olive Garden's to-go business continues to experience significant growth, with sales in the quarter up over 15% versus last year.

As we have discussed before, this is due in large part to our online ordering platform, which we launched in July.

We experienced an additional increase following the introduction of mobile ordering on November 3, and we now have more than 30,000 online orders coming in every week.

This growth is very important as a check averages 30% higher when guests order online.

Takeout represents 8.6% of our total sales; given the increasing trend for convenience, we believe we can drive takeout sales above 12% over time.

We have now completed 13 remodels, all with various investment levels and the results so far have been encouraging.

Before proceeding with a meaningful capital investment, we will continue to evaluate the performance of these locations over a longer period of time.

We believe opportunity exists to optimize the investment level to improve our returns.

Therefore, we are deferring additional remodels for the rest of the fiscal year as we continue to evaluate our options.

The progress at Olive Garden is really beginning to show, not just in response from our guests, but also in the way our managers and team members have embraced the Brand Renaissance and are leading the charge in the field.

While there's much more we have to do, we definitely feel that we're moving in the right direction.

LongHorn Steakhouse same-restaurant sales increased 2.6% for the quarter, the seventh consecutive quarter of growth and industry outperformance.

The same-restaurant sales growth this quarter was driven by check growth, due primarily to a launch of Bold Bites in June.

Bold Bites are smaller, individually portioned appetizers designed to satisfy guests seeking more choice on portion and flavor.

While a core focus is to continue to offer great steaks, we introduced a new menu this quarter that expanded our variety beyond steak.

This menu received positive feedback from both our operators and our guests.

At LongHorn, we're also focused on elevating our guest experience and improving service through more consistent execution of our current standards, and our guest satisfaction scores show that we're at all-time highs for numerous key attributes including food taste, server attentiveness, server knowledge, and value for money.

The combination of disciplined operational execution and compelling marketing has driven our growth at LongHorn, which we expect to continue on both the top and bottom line.

The Capital Grille recorded its 19th consecutive quarter same-restaurant sales growth.

The brand continues to outperform the competitive set, and its operating profit was higher than last year, despite high beef inflation.

In October, the Capital Grille launched the iPad wine list system-wide.

This change enhances the guest experience, captures incremental sales, and provides us with the flexibility to adjust offerings more frequently.

Yard House had same-restaurant sales of 3.7%, which was 250 basis points above the industry average.

Including the addition of eight new restaurants, total sales growth was 16.2% and total profits increased year-over-year.

Yard House accomplished a lot during the quarter.

The brand launched a one-page all-day menu, along with an independent drink menu that is easier to navigate.

These changes had a positive impact on sales and margins.

Yard House also expanded afternoon and late-night happy hour beverage offerings to include all spirits, a strategy designed to broaden the appeal of these day parts.

The Seasons 52 team is working hard on every area of the guest experience.

The brand returned to positive same -tore sales this quarter; however, total profit was down on a year-over-year basis.

This was due in large part to the underperformance in newer, nontraditional restaurants, such as those in central business districts.

We have learned from these restaurants and are encouraged by the results of our most recent openings, which are in suburban locations where the brand continues to be successful.

Same-restaurant sales at Bahama Breeze were slightly negative, while profits were slightly positive.

The team's working through several profitable sales driving strategies for the second half of the year.

At Eddie V's, same-restaurant sales exceeded the industry, and operating profit was up versus last year, and we're very pleased with the results and progress.

Now Brad will provide us with more detail regarding our financials.

Brad?

Thank you Gene, and good afternoon everybody.

As we reported earlier today, on an adjusted basis, earnings per diluted share from continuing operations for the fiscal second quarter was $0.28, a 133% increase from the adjusted earnings per diluted share in the second quarter last year.

On a reported basis, our net loss per diluted share was $0.24.

The adjusted results exclude approximately $0.52 per share, of which $0.33 were non-cash items.

The breakout of the $0.52 includes $0.16 related to asset impairments at 11 restaurants and lease buyouts of two properties, $0.16 of severance and other costs associated with the support expense reduction efforts announced in November, $0.08 of costs associated with our strategic action plan, $0.07 for the impairment and related tax effects of lobster aquaculture investment, $0.05 of debt breakage costs related to the previously planned retirement of $100 million of the Company's debt.

Now, page 5 in our web-based presentation provides the impact of these adjustments on a P&L line item basis.

We continue -- we will continue to operate the impaired restaurants.

We will evaluate any potential future closure to optimize the value-creating opportunity as it arises.

Now, second quarter sales from continuing operations increased 4.9% to $1.56 billion from blended same-restaurant sales increase of 1.5%, and the addition of 53 net new restaurants.

Food and beverage expenses were approximately 100 basis points higher than last year.

The unfavorable cost increase was driven entirely by higher beef and dairy cost on a year-over-year basis.

The elevated dairy cost fully accounts for the decline in Olive Garden's quarterly profits.

Restaurant labor expenses were approximately 60 basis points lower than last year on a percentage of sales basis, due to direct labor hour management, sales leveraging, and lower year-over-year restaurant manager incentive compensation.

Restaurant expenses in the quarter were approximately 20 basis points higher than last year, principally due to higher rent.

Excluding the adjustments previously noted in both years, selling, general and administrative expenses were approximately 140 basis points lower on a percentage of sales basis due to the impact of the cost reduction initiatives we have undertaken in the past year and leveraging of our sales increase.

We will anticipate the general and administrative portion of these expenses as a percentage of sales to be below 5% for the entire fiscal year now.

And in total, in spite of the significant commodity pressures, EBIT margins improved 80 basis points versus last year for the current quarter.

We retired $100 million in debt in the second quarter, which brings our total debt reduction to $1 billion for the fiscal year.

Our reduced debt levels contributed to lower interest expense of approximately $13 million in the second quarter, and we expect a $30 million reduction for the current fiscal year.

The annualized reduction we anticipate to be $49 million.

Our tax rate for the quarter reflects a 19% rate on our continuing operations before adjustments.

Because of discrete accounting treatment of many of the adjustment items, our total tax rate on reported quarterly loss was 44%.

Excluding the adjustments, our annual effective tax rate is expected to be closer to 20%.

We estimate our annual effective tax rate on a reported basis will be a credit rate of approximately 5%, driven by the loss attributable to the earnings per share adjustments I previously detailed.

During the second quarter we took delivery of over 8.6 million shares of stock under our previously announced accelerated share repurchase authorization.

This contributed $0.01 to second quarter EPS, which is consistent with our previous expectations, and is expected to have a positive impact of $0.11 on our FY15 EPS.

The annualized impact of the $500 million accelerated share repurchase is anticipated to be approximately $0.17.

Now, turning to our commodity cost outlook.

Food cost inflation in the second quarter net of our cost savings efforts was approximately 4.3%, driven by beef and dairy inflation.

For the fiscal year, our current expectation is that our commodity basket will see net inflation of approximately 3%, which is higher than the 2% to 2.5% we communicated in September.

And with this, this implies a 2% to 2.5% inflation rate for the second half of our fiscal year.

That's up from our previous expectation of approximately 1% for that same period.

Looking at it category by category for the remainder of FY15, beef costs are higher on a year-over-year basis with 15% of our usage covered.

Seafood costs are lower on a year-over-year basis with 90% of our usage covered.

Poultry costs are higher on a year-over-year basis with 70% of our usage coverage.

Wheat costs are higher on a year-over-year basis with two-thirds of our usage covered.

And dairy costs are higher on a year-over-year basis with approximately one-fourth of our usage covered.

This is approximately the same total coverage that we had at this point last year, but with less coverage in beef and dairy because we expect market prices to be lower than what we could have previously contracted for.

Now let's turn to our guidance for the full fiscal year.

We expect same-restaurant sales growth for Olive Garden to be even to plus 1% to last year, LongHorn Steakhouse to be approximately 2% to 3% above last year, and our specialty restaurants also to be up approximately 2% to 3%.

We continue to expect to open approximately 37 net new restaurants for the fiscal year.

I should point out that there are some key drivers of the significant EPS growth that we have anticipated in the second half of the year and they're detailed on the bottom of page 6 in our presentation.

But I want to highlight that they really include the general business improvement that we're seeing, including the wrap on last year's severe winter weather, the benefits of our debt reduction, the benefits of the accelerated share repurchase program, and the fact that this year contains an extra or 53rd week.

Now we anticipate adjusted diluted net earnings per share from continuing operations to be between $2.25 and $2.30 for FY15.

On an unadjusted basis or reported basis, we anticipate net diluted earnings per share from continuing operations of $1.30 to $1.35 for the year.

Consistent with our commitment to maximize free cash flow, we are also lowering our projected FY15 capital expenditures.

This reduction is from the plan to -- that is driven really by evaluating the results and the spending levels of the Olive Garden remodel program, and more broadly, a greater focus on capital spending.

We expect to finish the year a little over $300 million compared to the $325 million to $350 million previously communicated.

In the second half of the year we will continue our share repurchases of up to $200 million, funded with our free cash flow.

Before we take your questions, Gene has a few closing comments.

Gene?

Thanks, Brad.

Let me conclude our prepared remarks with a few additional thoughts about the past several months and the progress we have been making across our business.

First, I would like to acknowledge that this is our first earnings call since the election of our new Board of Directors.

Our Board has been engaged in the business from day one, and the management team and the Board are working well together in order to ensure we have the right strategy to drive long-term value creation for our shareholders.

This change has brought about a positive energy across the Company that extends from our management team all the way to our restaurants.

Our teams are excited about our sharpened focus on restaurant operations and we're all motivated to build on the momentum in the business, both in the top and the bottom line.

Second, we are pleased with the early indicators that our strategic initiatives are driving improved operating performance.

These initiatives are not a quick fix, but rather a journey designed to strengthen the most important elements of our business: improving the quality of our food and the service we provide to our guest.

There's still a long way to go and we are committed and excited to continue to drive toward reaching our full potential.

We believe the strong foundation we have laid across all of our brands during the past year will help us continue to improve sales and earnings growth during the back half of this fiscal year and into FY16.

Finally, I want to take a moment to thank our employees for the dedication in providing a great experience for our guests.

This has not been an ordinary year for Darden, yet despite all the noise and potential for distractions, our restaurant teams are as focused as I've ever seen them.

Their efforts are an integral part of our positive results this quarter and our employees should be very proud of the progress we've achieved.

With that, we'll open up the floor for questions.

Thank you.

We will now begin the question-and-answer session.

(Operator Instructions)

Jeff Farmer, Wells Fargo.

I recognize it's still very early, but just going back to some of the marketing and advertising savings that Starboard had pointed to several months ago, I'm just curious if the new board has had a chance to look at some of the media efficiencies, the effectiveness of the current game plan.

I'm curious if the there's any early updated thinking on potentially what a new marketing strategy would be moving forward.

Jeff, this is Gene.

I think we're continuing to look at our marketing strategy and becoming more -- as efficient as we possibly can.

When we think about how we spend money, our marketing dollars, especially in the large brands -- we look at Olive Garden and there's our primary message on television, our secondary message on television, and then our third, which is our lunch messaging on television.

Then we have digital and then we have some local messaging after that.

Right now what we're focused on is optimizing the right mix between promotional, secondary, which is more brand, and then lunch.

And we've moved to approximately 25% of our spend to be digital, and we believe that we've been able to and we will reduce some of our working media, but our real focus from a savings standpoint right now is to continue to reduce our nonworking media.

We've also engaged A & M to come in and work with the Olive Garden management team to do a comprehensive review of the go-to-market strategy, how we develop products, how we bring them to life, how we then advertise and how we spend all our advertising dollars and what is the right mix.

And so this has been a project that we've been working on for some time and we continue to change the media mix each and every quarter to try to optimize it.

We have some really good diagnostics supporting our -- that provide great analysis for us, and we think that we're doing a much better job with that over the last nine months or so.

Thank you.

Jeffrey Bernstein.

Gene, just maybe a follow-up on that last, thinking about the broader industry, perhaps.

Just wondering if you could talk about your confidence that the most recent uptick, one, in the industry is sustainable and maybe the key drivers you think has led to that, and how do you decipher between the broader improvement and the macro relative to the Olive Garden-specific initiatives, just seems like it would be difficult to decipher if your initiatives are actually working versus the macro.

And maybe just as a follow-up, if you could just prioritize what you think are Olive Garden's specific initiatives that you think would be the most compelling or effective that have driven the improvement.

Yes, Jeff, I think I'd start with saying that Olive Garden's performance against the industry in November actually significantly improved, where we beat the industry both on guest count and on a sales basis.

The comment that the overall industry has picked up, that's not what November Knapp-Track is saying.

November Knapp-Track actually was weaker than October; we're actually seeing some deceleration in casual dining.

And so I'm very pleased that Olive Garden performed as well as it did and moved ahead of the industry in November with pretty much a straight up comparison.

It wasn't like the prior months where we were moving Never Ending Pasta Bowl, we slid that back so that kind of -- that messed a little bit with the comparisons.

But, so, when I look at the improvement that I think we're seeing in Olive Garden has more to do with us gaining against the industry versus a situation where we have a rising tide and all boats are being lifted.

And you think if you prioritized the different initiatives that you think Olive Garden's already put in place, is there a couple that you'd say these are having an immediate impact and that, you think, is the driver of that narrowing of that gap or reversing of that gap?

Yes, I think I'm going to point to two, I think, very important things.

Number one was the commitment to put a $9.99 price point on the menu with everyday value.

And so that preference on that item continues to grow and what that is enabling Dave and the team to do is to pull back on the promotional intensity of their messaging and the pricing of those promotions and we believe that is a real key to driving long-term success.

The second piece that I believe is really important in the Olive Garden momentum is to-go.

To-go has been -- we define that as an important opportunity.

We put resources behind it, quickly enabled us to get to online ordering and we're seeing that business grow at 15%.

We believe that this continued upside in this -- and this is driven by a consumer need state of convenience.

Consumers want convenience, Olive Garden has great food that travels very, very well and we believe we're delivering on that consumer need state extremely well and that's why we're experiencing this kind of growth in takeout.

So those two things, everyday value, not having to rely on our promotional activity to be such a deep discount, and then to-go, I think, is really driving some positive momentum in the business.

Howard Penney, Hedgeye Risk Management.

My questions was on the Olive Garden.

In the first quarter you specifically called out how well the Olive Garden was doing in the press release, and then in the second quarter you didn't and you didn't mention the Renaissance Plan as well, and now the remodels don't sound like they're going too well and/or they might be too expensive.

So without a remodel program, can you talk to the extent of which you can actually improve the Olive Garden and the Renaissance Plan without improving the asset base?

Thanks.

Alright, let me clarify a couple thoughts around the remodel plan and then I'll get back to the essence of your question.

We are very pleased with the initial results of the remodels.

What we're having difficulty reading is at what level of investment is necessary to create the highest return on that invested capital?

We know the key to remodeling an Olive Garden is for the team to figure out how to add between 20 and 28 seats in each of the buildings.

That's an important part.

And so that's kind of a given in our remodel package.

From there, how do we best utilize the dollars that we have available and what's the right investment level?

And that's why we're pausing, because we don't have a long enough time at this point in time to read the different investments that we have out there.

But I do believe, going forward as we move into 2016, we will have to refresh some of these older buildings.

On the overall confidence on the business, I believe that there's -- the four pillars that we've been talking about are key.

The first is around menu.

We have to continue to deliver everyday value, choice and variety, and convenience, and I think we're doing a very good job on all three of those things but there's still work to be done.

We know that we have to simplify the menu to increase our speed of service and improve our quality.

So although we made some very good first steps, work to be done.

We know from an operations standpoint we can improve our service and if we can improve our service, we know we can improve the frequency of our guest.

Third is communication.

We have to improve how we communicate with our guests, with the voice in which we communicate.

So we've got to improve our television advertising.

We think there's some things that we can do from a digital standpoint and one of our big upsides with our very large database is to refine our customer relationship management And really work to develop the appropriate loyalty program that will make people choose Olive Garden over other competitors.

The fourth piece of the pillar has been about the remodel and the touch points.

And there are a lot of other things we can do inside these restaurants to improve the overall atmosphere that doesn't mean changing the sticks and bricks.

But there are things like uniforms, plateware, flatware, music, things like that that can really improve the overall atmosphere that we're working on, we're implementing those changes, and we believe when we combine all those together, that we'll have a business that has a compelling value proposition that will continue to grow over time.

Brian Bittner, Oppenheimer and Company.

I have two questions.

The first question is on the earnings outlook.

Can you just walk us through what exactly drove the increase in the midpoint of the guidance?

I know it was a small increase but it still, I think, highlights the confidence you guys have in the rest of the year.

So are you more comfortable with just the cadence of comps or is it being driven by what you're doing on the G&A line?

If you could just first walk us through those dynamics, I'd appreciate it.

Thanks, Brian.

This is Brad here and I think you were provided some supplemental information.

You can go to our website and we detail some of these key drivers for us.

Many of those are in place.

So the debt pay-down has reduced interest impact.

I think it's at $30 million in my prepared comments for the year, I should have said $38 million, but you can see that that adds roughly $0.18 in EPS.

You can look at the share repurchase program that we've done, that's about $0.09 for us.

And then the 53rd week is $0.05.

So the remaining $0.22, $0.27 is really driven by the business improvement which is the same-restaurant sales performance that we've talked about, many of these cost initiatives.

We ended the second quarter at the high end of what we had expected.

We finished the first half of the year with a 26% increase in adjusted EPS to last year.

Our guidance suggests a 34% to 38% increase in the back half of the year.

And obviously that step-up is driven by the larger impact from the debt pay-down and share repurchase and obviously all the 53rd week.

But the core business itself is supported by the comp range that we've been talking about for Olive Garden, flat, 1%, as well as the 2% to 3% for both the LongHorn and specialty restaurants.

So that's really what we've baked into that.

I think a key assumption to point out is the impact of adverse weather during this, mainly in the third quarter, first part of fourth quarter.

And last year was a very severe impact to us, the geographical area hit us where we had the biggest concentration of restaurants and hit us more on the weekends.

So we're obviously hoping that's not the case this year.

Our guidance is built on the -- what we call normalized or rolling five-year average and so we do expect some improvement from that.

But we just don't know.

It's hard to predict that one.

And we'll hope for the best weather and if we can be on the good side of that we'll have more earnings.

If it turns out to be similar to last year, that will put downward pressure on us.

But we believe we look in totality of all the moving parts, if you will, in building the estimate, that our range that we suggested gives us ample room to land somewhere in between there.

Okay.

When I look at the guidance for Olive Garden comps, it does imply about 1% to 2% in the second half, but obviously what jumps out, I think to everyone, is the fact that you're facing comparisons there, weather-driven comparisons at Olive Garden this quarter that are almost 500 basis points easier and the industry obviously does face much easier comparisons as well.

Again, I know you were impacted by weather but how should we think about the cadence of these sales going forward if weather is normalized?

How much upside?

Can we think about two-year trends here holding?

Is that too ambitious?

Or under normalized weather or how can we think about that going forward over these next two quarters of really easy comparisons?

The best way I would define that is with their guidance of flat to 1% for the year, they need to be about plus 0.5% to plus 1.5%.

They're stepping out of the second quarter being up a half a percent.

And so maintaining that run rate is what we have in there, and then a little bit of lift from the weather.

If we make further progress in that business, then what we're anticipating we know how our business model reacts and there's strong flow-through on the incremental sales.

So to greet your point, if weather and other things work better I'm confident that our model will deliver a high end of this range and if the weather's really good or we make further progress, potentially above it.

But I don't think where we are today, that that's the best communication we can say that it's anything above or below that range.

It's our best knowledge of all those pieces today.

Matt DiFrisco, Buckingham Research.

Just wanted to switch gears a little bit on the assessment of the real estate portfolio and the stores in the Olive Garden brand.

You guys were growing through, I guess, the beginning of the recession.

So if I look back sort of from the Olive Garden brand has expanded almost 200 stores from 2007 to now.

Is there -- are we completely done with the process of assessing potential closures of the stores?

I know with the new Board and everything, there doesn't seem to be a lot of process going on as far as looking at the portfolio and the stores.

Are there stores that might be underperforming that could be either relocated or closed down and benefit neighboring stores?

I'm just wondering has there been a study as far as the saturation and the quality of the stores if there's a benefit from closures?

Matt, this is Brad.

And we have a fairly robust and ongoing evaluation of our restaurant portfolio, and in particular with Olive Garden, it has expanded, as you mentioned, over time.

But we look at that pretty carefully and I know that Olive Garden hasn't performed as well as we would like for it to have performed recently, but what I would caution on is it started from very high absolute levels of performance and it's really lost momentum is how I think of that business.

So the absolute performance is quite strong in the restaurants that we have are providing sufficient cash flow for that investment.

But every year we look at that portfolio.

There's two to three, roughly, in that brand that are relocated or rebuilt to service that same trade area.

And so I would not expect any significant changes from that.

We did a thorough review with some of the action we've taken this quarter to look at our overall portfolio, and I think to us it just addressed how strong that brand is and how strong those individual restaurants are performing, but we think there's a lot of upside for those restaurants.

We like where they're positioned.

Matt, this is Gene.

I would just add that Olive Garden restaurant's doing $3.5 million with our margin structure is still very, very productive.

On the lower end, 3.5.

So if we're looking at restaurants that -- we built a lot of restaurants in the last couple years in green space.

These restaurants at $3.5 million, $1 million below the system average, are still highly productive.

Okay, excellent; a follow-up question.

With respect to gasoline prices, I guess the general consensus opinion is that it's a net positive for restaurants.

Have you seen any beginning signs of regional weakness at all or is it too early to see as far as those states that might be more energy-influenced with jobs and the aspirational spender, or has it so far been somewhat of a net positive in incremental dollars and more driving and more consumer dispersion that's been benefiting the restaurant space?

I think that's a very good question.

We have seen no weakness to date in what I would call the oil-dominant markets.

We have seen, as I said earlier, we have seen Knapp-Track weaken starting with the switch in Halloween.

That week was real -- that was a real weak comparison year-over-year and then we haven't seen it get back in November to where it was in October.

So we're on the lookout for signs, especially, probably, in Texas, it would be the place that we would get the first signal that the current energy situation is having an effect on employment and attitude but we have not seen it yet.

John Glass, Morgan Stanley.

Gene, first just sort of a broader-picture question here.

Your new Board was a big proponent or there was a proposal for cutting a significant amount of cost in the business, and it sounds like you've employed some consultants.

So what's the timeframe where we might think we get a more definitive answer as how much can be cut, whether it's advertising or whether it's more overhead or whether it's some of the other things that were proposed, what's the timeframe to review that and get a more definitive answer?

So right now we have BCG in working on our indirect spend, which we define indirect spend as it's all spending that is not managed by purchasing.

And our initial findings are very encouraging.

We also have other cost savings initiatives going on and we believe they'll have meaningful impact.

I believe that we will have an update as we enter -- as we get into the next quarter's call and start talking about FY16, we'll be able to, I really think, reveal a range that we think is possible for the Company.

I believe today it's just a little too early for me to put a number out there.

I don't know whether -- if I put a number out there, I'm not sure that would be too high or too low.

And so we just need a little more time to do our due diligence.

Again, we've hired BCG, we've got Alvarez and Marsal in here working on the marketing side on Olive Garden and we have multiple other cost initiatives.

My commitment is that we are going to cut our costs moving forward in all areas of the organization, and so that's where we're at right now and it's just too early for me to give you a number.

That's fair, that's helpful.

And I wanted to just take one thing you mentioned about the takeout business.

It sounded like it grew 15%; I'm not sure if that was this quarter or over a longer period of time.

But that's 8% or 9% of sales and it's growing at 15% of sales, it's a meaningful -- it's over a point of comp, I think.

Is that the right way to think about it, that the takeout business has been the predominant driver of sales recently or am I mixing numbers up?

No, you're absolutely correct.

It's a predominant driver of sales and the way I think about it is some of that business, there's some trading there.

And so we have some people that were trading out of an in-restaurant experience to the to-go experience but to maintain our growth, we're creating capacity and we're filling that capacity in the restaurants.

So it's not like this is totally a negative trade for us.

So your math is correct and it's a big part of our strategy is we've identified convenience as a need state that we can meet for the consumer because of the type of food that we serve.

It's so well-served for takeout.

Joseph Buckley, Bank of America.

Thank you.

I'd like to ask the EPS revision question a little differently.

You've written off a lot of things this quarter.

How much of that narrowing up of the range by $0.03 is simply that depreciation on some of these things written off has disappeared?

Yes, Joe, Brad here.

And that's actually very little impact to the current year.

I think more, the raising of the range is the performance in the second quarter.

We are at the high end of what we had previously expected.

And we look further into the year so we can refine our estimates a little bit.

The impact, the big impacts we talked about in November when we announced our actions that we took then around the reduction in force and those have really been, in the current fiscal year, used to offset this commodity inflation which has gone up quite a bit from what we were previously thinking in the back half of the year.

But we do see that rate of inflation coming down on a sequential basis.

And so we would expect the action we took in November and the other items here to make a meaningful impact to our 2016 earnings expectation.

Okay, and then you mentioned hiring several consultants and banking firms, A & M, BCG, JPMorgan.

Are those costs going to be lumped in additional strategic -- I don't know what you call it here, strategic costs?

Are there more adjustments coming?

And what do you think you're going to spend on the real estate study, the marketing study and the cost study?

So the cost for what BCG is doing will be netted against the benefit we derive.

That's not really a call-out item.

The same with A & M.

Now obviously something in the real estate area, that we do a transaction there, those costs will be netted against that benefit at that particular time.

And so if something's driving a benefit in the current year, the costs to implement that have to be offset against each other.

Chris O'Cull, KeyBanc.

Gene, you talked about some of the changes in strategic priorities but would you help us with sequencing?

Is the Board working with management on developing an overall corporate strategy or a multi-year plan, or is it waiting to complete the CEO search?

And would it implement some of the changes to the real estate ownership before hiring a CEO?

Just trying to understand the sequencing here and then I have a follow-up.

The management and the Board are working together to really look at what all the alternatives are.

And so as we think about it, real estate is the biggest opportunity and it's really not consumer-facing.

I like to say that guests don't walk into a restaurant and say, is this owned or leased?

And so it really doesn't have -- it doesn't affect our ability to really -- doesn't interfere with our focus of creating great dining experiences.

And so we believe we have a good strategy in place to grow shareholder value, and it's really starting at the focus on the core operational fundamentals of the business.

We're working closely with the Board, we look at all areas of improvement, and we believe starting with the real estate portfolio is the most important.

So I see it as two paths.

Operationally, we need to improve the overall day-to-day operations and that's inclusive of a lot of things.

That's inclusive of growing sales, managing costs, so on and so forth.

On the other strategic side, trying to maximize shareholder value, we prioritized real estate as the key priority and as we move forward we'll take another look at some of the other alternatives that could be available to us.

But prioritization is really important.

How much the organization can handle at one time, I think, is a real key consideration.

And so as I said in my prepared remarks, the Board is very engaged.

We think we have a plan that could be executed over the next six months, and that's where we're at at this point in time.

I think we'll come back after we move along in the real estate process and understand how that's going to play out, and at that time we'll take a look at some other strategic alternatives that drive shareholder value.

But most importantly, shareholder -- real great shareholder value is going to be created through improvement in our overall operations.

We must drive profitable same-restaurant sales.

And so we're extremely focused organizationally on that right now.

And I appreciate that.

And my question really wasn't related to -- and I consider some of these tactical changes, even the sale of some real estate.

What I'm trying to understand, though, is Darden, in the future, going to be focused on managing brands that are more mature, that are great cash generators?

Is it going to be focused on unit growth?

Is it going to be focused on a combination of this?

What's Darden Inc going to look like in three years?

Is the Board working through that process?

Chris, I think that's a -- you're talking about a real comprehensive, longer-term strategy and I do think that the Board and the new CEO will have to work through that and will have to -- after they make their decision, will have the right form in which to inform the public of the long-range plan.

Diane Geissler, CLSA.

I just wanted to ask a follow-on question to that very topic on the decision about remodels versus real estate.

I appreciate the real estate is not a customer-facing strategy but to the extent that you're delaying remodeling of your portfolio, I'm assuming because you want to determine if you want to sell and lease back or do some other kind of financial structuring, weren't the early indications on the remodeled units that the lift in same-store sales was something like 600 basis points?

I think there are two distinct, different, issues.

Finding a way to utilize our real estate to increase shareholder value is one.

The decision to hold and slow down the remodels is really around this idea that we have, out of the 13 out there, we have five or six different investment levels and the results, as you mentioned, have been very positive.

But the investment level -- the performance between investment level A and investment level C is not that different.

And that's causing us to pause and to say, what is the right investment level that we need to make and get the appropriate return on that investment to drive and refresh the Olive Garden business?

And so I see this more as just being prudent, slowing down, and making sure that we're making the right investment.

Half of these 13 restaurants have been done for less than 60 days.

The initial read is very, very difficult.

What we're trying to do here is really just be prudent and make sure that we measure twice and cut once.

That's all we're doing.

(Multiple speakers) I would just emphasize the point that Gene is making, and it's around capital discipline.

This was a significant capital investment, and so we want to have a thorough evaluation.

I think the key that we're trying to turn right now is the durability of these results and separating between the investment levels so that we optimize the return that we can get on this investment.

And then to the first part of your question, real estate opportunities that we may pursue are totally independent of the remodel choices that we have.

Today, we operate a number of leased restaurants and so we don't anticipate doing anything that would hamper our flexibility to operate these restaurants.

So I would separate those two items as different decision points.

So a sale and leaseback of some restaurants wouldn't prevent remodeling down the road.

Not in anything that we're aware of.

Sara Senatore, Sanford Bernstein.

Can I ask a question about a different piece of business that you also talked about from a strategic perspective?

And that's the SRG, I think initially I was under the impression that that might be the easiest thing to do which is to hide that off into a separate Company.

Right now it sounds like you're more focused potentially on the real estate or refranchising.

So can you talk about whether SRG, that that's still something that's on the docket?

And how do you think about prioritizing that versus some of these other things?

Sara, everything is still on the table and being analyzed.

We believe, after working with the Board and discussing what the options are, we believe that addressing the real estate opportunity is the right decision.

As we decide what the right brand portfolio is, what brands are in the Darden portfolio, if there is a spin, it's something that the Board wants to evaluate.

However, I do think it's important for them to gain a better understanding of how all these businesses work before those types of decisions are made.

And so everything is still absolutely on the table.

There were hard choices that had to be made and we thought that the real estate, at this point in time, was probably the least disruptive and the opportunity that hopefully could give us a chance to increase shareholder value.

Thank you.

And if I just may ask about the real estate, is there any portion of the business that could not tolerate a sale leaseback, where margins are -- I just want to know if it really wouldn't make sense to then burden them with rent expense, is there sort of a percentage of the store base where you just couldn't do that?

None that we're aware of.

When you look at the strength of our individual restaurant's financial performance, nothing comes to our attention at this point.

John Ivankoe, JPMorgan.

I wanted to get back to the previous question about, I guess, potential cost opportunities in 2016 and I think, Gene, you described it as the non-controllable or controllables are that which was -- those costs that were not controlled by the purchasing department and presumably that means labor.

The cost per labor hour typically goes up, I guess it always goes up, really, in any economy.

So understanding that labor cost per hour is going to go up, how big of a restructuring might be possible on your labor line and are you confident at this point that that can be done with not only no customer disruption but actually customer benefit?

John, I think you're referring to labor at the restaurant level, and the way I would talk about labor at the restaurant level is about developing a system that's as efficient as it possibly can be.

I think it's the opportunity of all operations departments inside the restaurant industry to be rethinking how they deliver the guest experience inside their building.

And we, as we move forward, it's going to be important for us to increase productivity of all of our operations and that starts with how we build our menus, how we design our preparation procedures, how we design our cooking procedures, how we design how we service the guest.

And so there's going to be pressure on our ability to become more efficient.

The methodology that I like to use in this business is how many labor hours do we need to use to create a guest?

And we need to become -- we need to create more guests in every labor hour that we use.

And so you are correct.

There will be pressure on the labor line.

We just can't continue to ask our people to work harder.

We have to design more effective operations, and I firmly believe that starts with how you design the menus.

We also need to use technology and then we need to think about simplification.

Simplification is something that a lot of restaurants are talking about today, but it's going to be an important part moving forward, how simple can you create an operation and still have the value proposition that you need to drive the business.

And Gene --

I'm Bradley, I would just add one thing.

When you look at our cost basket, food and beverage is about a third of it, and labor at the restaurant level is really another third of it.

So there's still a lot of opportunity outside of restaurant labor to pursue on top of how Gene was talking about we could go at restaurant labor itself.

So we see a wide area of opportunity.

First thing that we've been tackling is the G&As and we've made tremendous progress in that area.

You can look at our year-over-year performance has been pretty good, and the fact is we look forward, we see our self below 5% for G&A as a percent of sales.

Yes, and I certainly see that.

But the question was really at the store level as Gene pointed out.

And if I may continue on that theme, do you remember a couple of years ago at one of your analyst meetings, I think it was Dave George that was talking about some kitchen simplicity and operation to menu simplicity at Olive Garden that he was beginning to work on, and maybe paralleling some of the experience at Olive Garden that maybe would be an opportunity at LongHorn.

So have these initiatives not yet been implemented, are they just beginning to be implemented, or is there still a longer runway to go in terms of the menu and kitchen simplicity that would presumably help on the cost side?

When Dave got to Olive Garden, one of the first things he did was implement significant change to the kitchen operation which created, I believe, approximately $20 million in cost savings and so he's developing what he would call phase two of kitchen simplification now.

But a lot of that is going to come from how the menu evolves over time.

We also are looking at ways to prepare our soups more effectively and more efficiently, looking at ways to prepare our sauces more efficiently.

So there's some production opportunities available to us in Olive Garden.

As far as LongHorn goes, the nature of a steakhouse business is that it's extremely simplistic.

That's why we create 2.7 guests for every labor hour we use in LongHorn and we create 2.1 guests for every labor hour we use in Olive Garden.

And so the opportunities for simplification in LongHorn, although they are there, are not as great as the opportunities for simplification in the Olive Garden operation.

Keith Seigner, UBS.

Two quick ones from me.

To go back to the to-go business, the takeout business, and congratulations on such good success with that, as we think about that being a big part of the same-store sales, as you mentioned, how do we think about the margins on the to-go business versus the base business?

As this business continues to have this kind of momentum, how do we think through that marginal margin?

First of all, let me just reiterate that the check average is significantly higher with the online ordering and when we move people away from ordering meals off the menu and move them to more of a bulk order, the margins improve.

And so in other words, when we get orders for trays of lasagna, family meals, they've got meals that they're offering for four, for eight, for twelve, for sixteen.

The next evolution now is to get more into this catering and delivery type business, which we think is a huge opportunity.

So the answer to your question, margins do improve when we get to the bulk takeout orders.

Obviously, the margins when we're doing meals to go, are the same as they are as in the restaurant, except we lose the beverage occasion which helps leverage our margins down in the restaurant.

So we're relying on this bulk business to improve the overall takeout margins.

Okay, thank you.

And then another question, just to follow up, lunch specifically, there's a lot of competitive intensity in lunch, a lot of different concepts really trying to get creative and draw in that incremental traffic.

Can you talk a little bit about the traffic trends that Olive Garden is seeing at lunch, and maybe some of the specific programs you have in place there to address the increased competitive intensity?

Yes, Keith, lunch is definitely an opportunity at Olive Garden.

We're feeling much more pressure with guest counts at lunch than we are at dinner.

It is -- lunch is based around the convenience for a lot of people.

The interesting thing about the Olive Garden lunch experience is that we have multiple constituents at lunch.

We have guests who are looking for convenience that want to get in and out.

We have guests that are looking for a business lunch that want to be in for an hour, hour and 15 minutes.

We have a lot of guests that come to lunch, this is their big day out and they're looking for a two-hour experience.

And so we're trying to satisfy different constituencies and have offerings for all of them.

We have what we call, we believe is the ultimate fast casual lunch at Olive Garden: soup, salad and bread sticks.

It's the original fast casual offering, 30% of our guests buy that.

We believe the key to re-energizing our lunch business is some sort of evolution of this product and this offering.

It's been out there since 1981.

It is a great, great product.

As you would expect if 30% of the people that are coming in are buying it.

But we need to continue to innovate around that product.

We've done some work with the salad toppers and some other menu items like the trios.

And so we're making progress.

We think lunch is really about fast, fresh, and value, and we think we have great food that can deliver on that.

It's going to be price-competitive.

Lunch is very much about price, and we have to figure out how we create the appropriate value to re-energize lunch.

We, on average, do 275 guests a day at lunch.

That's -- I would put that up against any other casual dining restaurant operator out there.

We start from a place of strength and what we need the to do is we need to continue to deliver on the consumer need states for that meal occasion.

Priya Ohri-Gupta, Barclays.

I was hoping you could provide maybe some initial thoughts about how you're thinking about your credit ratings, particularly with regard to the evaluation of your real estate portfolio and the opportunities that lie there, and specifically whether as you create shareholder value there are also opportunities for debt paydown in some capacity.

Thank you.

I think fundamental to all this, and we haven't said in this call so far, but is that we do understand and value the importance of the investment-grade credit profile and so a lot of our actions are geared towards that.

We would include that in the consideration set for any type of real estate opportunity, should it come along.

I think as we look at what we put out as our guidance and expectations for this year, along with the debt paydown that we've done, we've talked about adjusted debt to adjusted capital being in that 55% to 65% range.

We see ourselves in the -- near the bottom of that range as we move through the year.

So we're making progress there.

And the coverage ratio with this type of earnings performance gets closer to our target and gets below three times.

And so we're making progress there.

I think Gene talked about, earlier, the success that we have in running the business will help us make further progress here.

And then we'll look at the opportunities as they come along for any type of action on the real estate to consider that as well.

Thank you.

And then one thing I wanted to follow up on is, Joe, you asked a question earlier about all the other activities, our adjustments that we made in the quarter and what was their impact.

And I'd say it was fairly minor.

I actually had a chance to go back and look at those.

It's about $0.01 is the impact on the annual EPS from those in the current year.

So it does add a little bit, but maybe less than it seems like on the surface.

And there are no further questions over the phone at this time.

Thank you, everybody, for your questions.

We look forward to speaking to you soon, and again, appreciate all the questions you've asked.

Thank you.

That concludes today's conference call.

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