Wednesday, December 31, 2008

What's Steak 'N Shake worth anyway?

Let's look at the latest annual report for fiscal 2008:

http://www.sec.gov/Archives/edgar/data/93859/000009385908000078/form10k2008.htm

Under the section titled 'Franchising':

We also take advantage of opportunities to refranchise certain Company-owned restaurants that are typically located in tertiary markets. (emphasis mine)

Under the section titled 'Subsequent Events':

On November 26, 2008, we refranchised seven restaurants to an existing franchisee. We received proceeds of $2,660 in conjunction with this transaction. (emphasis mine)

The latest refranchising values each of the seven restaurants at an average of $380K/restaurant. The company owned 415 restaurants after the refranchising. Using the numbers from the refranchising yields a value of $157.7 million for the entire chain (415 restaurants * 380K/restaurant). But, wait. The refranchised restaurants more than likely came from tertiary markets(as opposed to primary/secondary markets), as per the language in the 10-K. So, $157.7 million seems to be a rock-bottom valuation based on the most recent transactions. The fact that these restaurants went to an existing franchisee is also encouraging. This bodes well for future refranchising efforts as well as the stated aim of growth through franchising. From http://www.steaknshake.com/franchise/benefits.asp, the goal is to have 1000 SNS units(currently 490) in operation throughout the US.

There's more though. In fiscal 2008, SNS sold and leased back 11 company-owned restaurants for $15.993 million. This values each of those properties at an average of $1.4539 million. Going as far back as 2004, the lowest value I can see for a property that was sold and leased back was $600K. These numbers suggest that the restaurants that SNS refranchised were more than likely not owned, but rather leased. The 1st quarter's 10-Q for fiscal 2009 should confirm it either way. We'll need to look at the total number of operating and capital leases still on SNS' books and see if they went down by the amount of restaurants refranchised (i.e. 7), given that Sardar has said there will be no more new store openings for the foreseeable future.

Update on March 5th 2009: Actually, it'd be easier and less convoluted to just look at how many Company-owned and operated restaurants there were in the 4th quarter of 2008 as compared to the 1st quarter of 2009. It turns out that the number of Company-owned and operated restaurants is exactly the same in both quarters(146). This makes it clear that the 7 refranchised restaurants were indeed leased at the time of the refranchising.

If the refranchised restaurants were indeed leased, the value of $157.7 million for the entire chain would need to be revised upwards on two counts:
Inclusion of restaurants from primary and secondary markets that are presumably more profitable.
Inclusion of 146 restaurant properties that are owned that are likely worth somewhere between $87.6 million(at $600K/property based on the sale-leaseback transaction in 2004) and $212.6 million(at $1.4536 million/property based on the sale-leaseback transaction in fiscal 2008).

How much is the company selling for today? $166.82 million. Based on the numbers above, I believe the price today not only discounts the future under Sardar, but is also discounting the present.

Qualitative factors: Management under Sardar that is highly ethical and shareholder friendly, and obsessively focused on cash flows and returns on invested capital.

Quantitatively cheap as can be seen from the numbers above. It's hard to see a permanent loss of capital from these levels unless the decline in sales continues unabated. Thankfully, there is a glimmer of hope in this filing about sales in the 1st quarter of fiscal 2009:

http://www.sec.gov/Archives/edgar/data/93859/000009385908000082/form8k122208.htm

Although guest traffic and same-store sales were down(.9% and 1.4% respectively) compared to last year, the declines are both marginal and a significant improvement from last year's comparables(down 9.5% and 13.3% respectively). Although this is only the second full quarter under Sardar, the sales decline needed to be arrested quickly. Looks like excellent progress, given the environment we are in. We'll see if this was enough to generate positive free cash flow for the quarter. The trend in guest traffic will be worth keeping an eye on as we go along.

In the meantime, as Charlie Munger is fond of saying, you sit on your rear and wait while Sardar does his thing.

Often wrong but seldom in doubt,
Ragu

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