It seems ages ago, but it was really only eight years back when Denny’s became “America’s Diner.” The gist of the new campaign wasn’t to pivot or reposition one of the country’s largest sit-down chains. Rather, Denny’s wanted to make sure it promoted and stressed what it stood for already: A brand firmly rooted in family dining, but built around the following mantra: “We Love Feeding People.” This came from a newspaper article written way back that quoted Denny’s founder Harold Butler explaining why he started the brand. But one of the pitfalls of casual dining—especially family dining—is that, all too often, it rests on its laurels. These brands were so ingrained in American culture that they tossed aside the marketing roadmap. You could find your way to Denny’s, or IHOP, Waffle House, Huddle House, and so forth, without every tapping Yelp or picking up a local guide. Yet what happens when you become too rooted in purpose and history? You become wallpaper for a generation that isn’t even sure that decorating style ever existed. As iconic and legacy-driven as Denny’s is, though, you could argue it’s also one of the most active shifters in the restaurant game. And they’re not alone. IHOP (look no further than IHOb), Huddle House, and others have adapted in an effort to reach younger consumers and inspire loyalty that doesn’t require memories as kindling. In many instances, this goes beyond marketing and social (Denny’s is pretty … eccentric digitally). It comes down to the assets, models, and growth strategies involved.

For this article, we’re going to focus on Denny’s, which released preliminary fourth quarter and fiscal year 2018 results on Monday. The brand saw its same-store sales lift 1.4 percent domestically in Q4, including 2.1 percent at company-run restaurants and 1.2 percent at franchised. For the year, comps upped 0.8 percent (1.8 percent at corporate and 0.6 percent at franchised). On a two-year stack, Denny’s domestic systemwide same-store sales increased 1.9 percent. Denny’s has achieved eight consecutive years of systemwide same-store sales growth. Total system sales have grown by about $500 million since 2011 (from $2.4 to $2.9 in billions) and adjusted EBITDA upped 26 percent over the last six years ($81.7 to $103.3 in millions). While that’s all good news, naturally, what’s the breakdown? And how does it project moving forward? Denny’s opened 30 restaurants this past year, including nine international units. But it closed 56 to reach a total of 1,709 locations. Denny’s also completed 203 remodels during fiscal 2018. And as part of its new refranchising strategy, unveiled in Q3, Denny’s sold eight company restaurants—the first transaction since the announcement. Perhaps more interesting for Denny’s, however, is how the restaurant is shifting. It managed to move the system from a 60 percent to 90 percent franchised model earlier in its history. That’s about to ramp up once again. Denny’s family-friendly food hasn’t changed: The refranchising strategy is going to define Denny’s performance and shareholder return in the coming months. Impressively, the chain has opened nearly 350 new restaurants since 2014, or 20 percent of its overall system. That includes 60 international locations since 2011 in five new countries. Denny’s said in November that it wanted to refranchise to the level where it would get to 95 or 97 percent franchised owned from today’s 90 percent. And do so over the next 18 months. That would equate to 90–125 company-operated restaurants sold. As of June 27, there were 190 corporate stores and 1,540 franchised or licensed locations.

So shift the scale by eight franchised stores. Why is Denny’s doing this? There are always arguments to both sides of the chain model. But in this specific case, Denny’s said, “transitioning to a lower risk business model” would have accretive impacts on adjusted earnings per share and adjusted free cash flow, and also allow development-focused franchisees the chance to expand without starting from the ground-up. New operators are also able to come into the fold this way. It’s a growth stimulator, in other terms. CFO Mark Wolfinger said the transition to a more asset-light business model could reduce annual capital cash expenditures associated with maintenance and remodel costs by between $7 million and $10 million. Denny’s could also generate pretax refranchising proceeds (in excess of $100 million in this case) and earn about $30 million from selling between 25 and 30 percent of the 95 properties currently owned. With that, Denny’s could purchase higher-quality properties in the future, it said. Denny’s said it expects to upgrade the quality of its real estate through a series of “like-kind” exchanges. Cash proceeds from the sale or property are not captured in cash capital expenditures while purchases of property are included. A like-kind exchange, also known as a 1031 exchange, is a transaction or series of transactions that allows for the disposable of an asset and the acquisition of another replacement asset without generating a current tax liability from the sale of the first asset. This can get pretty technical but essentially Denny’s can garner better real estate by selling lower-volume stores and redeploying those proceeds in favor of better spots. It’s an optimization path. Denny’s said the restaurants being sold are producing average-unit volumes between $1.9 million to $2.1 million. The one’s Denny’s plans to keep: $2.7 million to $2.9 million. As a company, AUVs were $1.8 million in 2011. They were $2.3 million in 2017. On the franchised side that number went from $1.4 million to $1.6 million in the same span. Also, franchise operating margins expanded by 670 basis points to 71.7 percent ($99.5 million) from 65 percent ($82.6 million). In savings from refranchising, Denny’s said $10 million to $12 million will be broken down as follows: 25 percent to franchise support cost sharing; 50 percent to corporate support; and 25 percent to field support. Denny’s has been here before. Much of the current team led the past transition to a 90 percent franchised operation. In Denny’s current system, 35 franchisees have more than 10 restaurants, each collectively comprising over 60 percent of the franchise system. – Source: fsr.com