Why Wendy’s Can’t Stomach Any More Arby’s

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Where’s the beef? It’s not at Wendy’s/Arby’s Group any more. Private equity firm Roark Capital Group is going to buy Arby’s, the poorer performing part of Wendy’s, for $130 million plus debt and other considerations, an aggregate valuation of $430 million. I know what you’re thinking: has the buyer ever actually eaten at Arby’s?

Not enough people have, which is why the parent company is dumping control, while retaining an 18% slice of the roast beef sandwich joint. Roark is going to pull off  what very few management companies can achieve—take an absolute mediocrity and make it perform like a star.  Good luck. It’s not that Roark isn’t capable, it’s simply that the strategic problem is so very unattractive.

Arby’s has been around since the mid -60s and has roughly 3,600 units. (Burger King, which started franchising around then, has more than 12,000.) Entrepreneur magazine ranks Arby’s as its 132nd best franchise, a few notches below Benjamin Franklin Plumbing. Being the fourth or fifth biggest outfit in any industry segment is never a good thing. You don’t have the leverage to buy ingredients, to advertise or spread costs like bigger players do.  That quest for scale is what led to the Wendy’s Arby’s merger in the first place. The two also rans were forced together by Triarc, which controlled the roast beef company, with the usual hope that 1+1 would make 3. The merger at the time was valued at $2.5 billion based on a $6.75 share price. The stock has been trading under $5 for most of the year—not what you call adding value.

Triarc, controlled by Nelson Peltz, had a reputation for shaking value out of middling assets, but no one has been able to do much with Arby’s from either a food or value standpoint. And certainly the recession didn’t help. As of January, some 350 Arby’s franchisees were more than 60 days late in royalty payments, and over the last year the whole outfit had $35 million in operating losses. Franchisees threw in the towel on 74 units and 96 company-owned units were closed.

That puts quite a bit of turnaround work on the plate of Roark. The company plans to spend $180 million to continue a revamping of  Arby’s that was already under way. Roark’s specialty is revitalizing franchises such as Carvel, Cinnabon, Seattle’s Best Coffee, Schlotzky’s and Aunt Annie’s. It’s a portfolio approach that allows you to combine operating leverage with management knowhow distributed across the brands. Roark has assembled quite a menagerie of smaller franchise food operations, one that I’m most familiar with in the context of the airport/shopping mall retail continuum. But Arby’s is a big dog—although not quite big enough to bite McDonald’s or Burger King, or even Wendy’s.  That problem doesn’t go away.