Focus Article: Cracker Barrel Old Country Store, Inc. (CBRL)

Cracker Barrel Old Country Store, Inc. (CBRL) $67.19

The Company:

Cracker Barrel Old Country is ten all-American country themed restaurant that started in 1969 in Lebanon, Tennessee. Cracker Barrel restaurants also have an attached retail shop that sell everything from rocking chairs to jars of fried apples. The company generates about 20% of its sales from the retail shops. In the fiscal year 2011 ended July 2011, the company generated on average over $3.2 million in restaurant sales and over $0.8 million in retail sales per store. Cracker Barrel, which emerged as a small restaurant in the 1970’s with the objective of catering to interstate travelers, now has 600 stores in 42 states. There is still room for the company to expand as they don’t have a single location on the west coast.

The Proxy Battle and Poison Pills:

Cracker Barrel has been the subject of a proxy battle by Sardar Biglari, who owns 18% of the company through his publicly traded holding company Biglari Holdings (BH). Biglari Holdings consists of four companies, including two restaurant chains and two investment management businesses. The restaurant chains, Steak ‘n Shake and Western Sizzlin, generated more than 90% of Biglari Holding’ operating earnings. Sardar Biglari took over the 500 location strong Steak ‘n Shake restaurant chain in 2007 and turned around a company that was losing $100,000 a day to one that started posting earnings of over $100,000 a day in 2011. Mr. Biglari used to manage a fund called the Lion Fund that he founded in 2000 as a young 22 year old investor. The Lion Fund with $100 million in assets under management, eventually merged into Biglari Holdings and represents the investment management part of the business.

Sardar Biglari has been referred to as the next Warren Buffett as well as a “combative investor” by New York Times after he lost a battle to take control of a Michigan based insurance company. He launched a website called Enhance Cracker Barrel to make his case for why investors should boot out the current Chairman of the company and another director that heads the compensation committee. Mr. Biglari claims that he does not want to acquire all of Cracker Barrel and would like to serve on the company’s board to improve operations at a company that saw customer traffic decline in 26 out of the 29 quarters through the end of 2011. It is a little ironic that he questions compensation and bonuses paid to management and current directors, when his compensation from Biglari Holdings, which is structured the way a hedge fund manager would get paid, has been controversial.

One key fact that Biglari states about Cracker Barrel is,

“In fiscal 1998, Cracker Barrel, under its founder Danny Evins, achieved operating income of $164.9 million with 357 stores, or $462,000 of operating income per store.  For fiscal 2011, Cracker Barrel produced operating income of $167.2 million with 603 stores, or $277,000 of operating income per store.  By simply closing the productivity gap — realizing the additional $185,000 of operating income per store that the Company was able to achieve in fiscal 1998 — Cracker Barrel’s 603 stores would earn an additional $110 million in operating profit. I estimate the market would value the increase in profit at over $1 billion, based on the Company’s current earnings multiple.”

Mr. Biglari’s attempts to gain a seat on the company’s board were thwarted last year. Management’s attempt to adopt a poison pill provision that gets triggered when an investor acquires more than 10% of the company was also defeated. However the company managed to adopt a poison pill provision this April that will be triggered when an investor acquires more than 20% of the company. Mr. Biglari refused an offer by the company to nominate two directors that did not include himself during the 2012 annual meeting to be held in November.

Real Estate:

Sardar Biglari’s plan for improving Cracker Barrel’s financial performance also includes unlocking value from the substantial real estate the company owns. Cracker Barrel owns most of its stores instead of leasing them like most retailers. One way to unlock value from the company’s real estate portfolio would be to sell its real estate and then lease back the locations for the long-term. The company used such a sale and leaseback option three years ago to sell one distribution center for $12.4 million and 14 stores for $3.23 million each. Cracker Barrel’s enterprise value is $1.95 billion following the 31% jump in the stock price year-to-date and a 64% increase over the last year. Assuming the company owns the real estate for 500 of its 600 stores (a big assumption) and assuming it can sell all stores at an average price of $3 million (another big assumption), the company’s real estate portfolio could be worth $1.5 billion.

Business Statistics & Financials:

Operating under a new CEO and under pressure from Sardar Biglari, operating metrics have indeed improved at Cracker Barrel this year. In fiscal Q4 (ended July), the company reported an improvement in customer traffic, revenue, gross margins, operating margins and earnings. According to the company, comparable store traffic increased 1.4%, comparable store restaurant sales increased 3.8% and comparable store retail sales increased 3.1%. Adjusted earnings (adjusted for an extra week this year) were up 18.8% to $1.20. Adjusted earnings for the full fiscal year were $4.34/share, an increase of 13.9% from $3.81 for fiscal 2011.

The company used the $220 million in operating cash flow it generated to pay down debt, repurchase shares and increase its quarterly dividend. When the company reported fourth quarter results earlier this month, it once again bumped up its quarterly dividend to 50 cents per share (current annual yield works out to 2.98%) and announced a $100 million share buyback program. For fiscal 2013 (ending in July 2013), the company is forecasting earnings of $4.50 to $4.70 per share on revenue of $2.6 to $2.65 billion, giving the company a forward P/E of 14.61 at the mid-point of its forecasted range.  The company trades for less than 8 times EBITDA, more than 4 times book value and has $525 million in long-term debt on its balance sheet.

Competitors:

Insider Buying:

One insider purchased stock on the open market over the last six months as listed below. You can view a list of all insider transactions for Cracker Barrel Old Country Store here.

Risk Factors:

Cracker Barrel faces some of the same risks we have discussed in the past for Cheesecake Factory where an economic slowdown in the U.S could hurt results. In addition, management’s focus and attention are sapped by this proxy battle with Mr. Biglari, which has also shaved several cents off reported earnings.

Management may also be taking actions such as aggressively increasing the dividend, announcing a share buyback program and painting a rosy forecast for fiscal 2013 ahead of the annual meeting that may not be in the long-term interest of investors. Given the run-up in the stock over the last year, if the company does not deliver on these expectations, the stock could see a sharp pull-back.

Conclusion:

I like several things about Cracker Barrel including its improving operating metrics, the possibility of expanding to the west coast, the involvement of Mr. Biglari and some of the recent shareholder friendly actions taken by the company. My key concerns are that the stock may give back some of these gains rapidly in a general market pullback and that management forecasts might be too rosy in light of this proxy battle.