Engaged Capital Goes Activist on Del Frisco’s

Activist hedge fund firm Engaged Capital has taken a 9.99 percent stake in Del Frisco’s Restaurant Group, calling its performance “abysmal” and urging the dining chain to explore a sale of some or all of its brands.

Engaged, a California-based hedge fund firm that invests primarily in small- and mid-cap companies, said the chain’s restaurants are trading “well below their intrinsic value” and that it thinks the company could find buyers at valuations that would deliver “a significant premium” to the current share price. Shares of the restaurant company surged nearly 13 percent on the news in early trading on Thursday.

Del Frisco’s shares had plunged 47 percent since its 2012 IPO, the hedge fund firm said, blaming weak operating performance by management and the acquisition earlier this year of restaurant chain Barteca for the stock’s decline. Over the same period, shares of Ruth’s Hospitality Group, Del Frisco’s nearest competitor, have nearly quadrupled, the hedge fund firm said.

“Given DFRG’s short- and long-term underperformance, checkered operational execution, and high financial leverage, it is incumbent upon the members of the board to fulfill their fiduciary obligations to DFRG shareholders by initiating a process to explore all alternatives to create shareholder value,” wrote Glenn Welling, chief investment officer of Engaged Capital, in a letter to Del Frisco’s board. Despite these problems, “it owns a number of highly attractive dining concepts, the value of which is clearly not reflected in the company’s enterprise valuation.”

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Engaged Capital wants Del Frisco’s to appoint shareholder representatives to the board, hire financial advisers, and form a strategic review committee composed of independent board members to look into strategic alternatives.

Del Frisco’s did not immediately return a call seeking comment. On Wednesday, the restaurant chain announced it had adopted a short-term shareholder rights plan — better known in M&A parlance as a poison pill — saying it had recently observed “unusual and substantial activity in the company’s shares.” The rights will only be triggered if any person, or person acting as a group, acquires 10 percent or more of its outstanding stock. It expires on December 4, 2019.

Engaged said the company’s Double Eagle and Barcelona Wine Bar chains are particularly attractive, citing Double Eagle’s EBITDA margins of 25 percent and Barteca brand Barcelona’s high beverage sales and “consistently positive” same-store sales. It also said the Bartaco chain, another Barteca brand, has the potential to be a “blockbuster,” noting that it has “outstanding” EBITDA margins of 28 percent.

But the hedge fund firm slammed two of the company’s other brands, Del Frisco’s Grille and Sullivan’s Steakhouse, saying they have experienced “years of margin compression” and negative same-store traffic — which it says resulted in the recent sale of Sullivan’s at a significant discount to book value.

The hedge fund firm also ripped management’s decision to acquire Barteca, arguing that it is less valuable under Del Frisco’s ownership than as a standalone company and accusing Del Frisco’s management team of engaging in the acquisition simply to stave off a potential sale. Welling wrote that this rationale would explain the company’s decision to sign the acquisition agreement before securing financing — a move it says “cost shareholders dearly.”

“Approving a large acquisition to stave off a potential sale of a company is one of the most shareholder-unfriendly actions a board can take,” Welling wrote.