Richard McGuire‘s Marcato Capital Management recently sent a letter to James Damian, chairman of the Board of Directors of Buffalo Wild Wings Inc (NASDAQ:BWLD) in which it asks for significant change to the composition of the company’s Board and the management of the company, in order to achieve better value for shareholders. Marcato Capital Management, which owns 950,000 common shares of Buffalo Wild Wings (NASDAQ:BWLD) that amass 5.2% of the company’s outstanding stock, started negotiations with the Board two months ago, and hasn’t noticed a lot of progress since, which is why the fund decided to publicly share its analysis of the company’s business, which it had already presented to management in June. Marcato hopes that now, other shareholders will share their opinions on the subject matter after viewing Marcato’s presentation and put further pressure on the company.
Even though the fund is enthusiastic about the future of Buffalo Wild Wings (NASDAQ:BWLD), Mr. McGuire wrote that significant changes in the company’s business practices are necessary for it to achieve its full potential and to attain the best possible shareholder value. Mr. McGuire said that his activist fund’s main focus is on the company’s capital allocation decisions, which they discuss in detail in the presentation (which can be seen through the SEC filing link below), with the fund determining that the company lacks organizational efficiency and suitable analytical support.
Marcato Capital Management asked for the following changes: changes at the Board, including additional independent directors with practical operating experience, should shareholder approve; improvement of the company’s operational quality (food, services, price/value perception, etc.); the ending of its “emerging brands” growth plans (no more taking chances with new restaurant concepts); and a profound increase in urgency, follow-through, and accountability.
Besides the above-mentioned changes, Mr. McGuire added another higher level issue that needs to be articulated: “there is a glaring deficiency of understanding at the Company in how capital deployment relates to shareholder value creation. Yesterday’s announcement of a $300 million share repurchase authorization further highlights this point, ” he stated.
In the end, Mr. McGuire stated that they are certain about Buffalo Wild Wings’ future success if management appropriately responds to the issues Marcato has raised in a timely manner, and that they are looking forward to further discussing those issues with the board and management.
Buffalo Wild Wings is an owner and franchiser of sports bars and casual dining restaurants. Over the past 12 months, the company’s stock has lost 14.25%. In its financial report for the second quarter of 2016, the company reported earnings per share of $1.27, slightly above the estimates of EPS of $1.26, and revenue of $490.18 million, below the estimates of $498.32 million. Lately, there has been a good deal of analyst ratings activity on Buffalo Wild Wings’ stock; for starters, Jefferies Group reiterated its ‘Hold’ rating on the stock, with a price target of $135 (well below the stock’s current going rate of $168), BMO Capital Markets boosted its price target on the stock to $200 from $161.33 and has an ‘Outperform’ rating, and Deutsche Bank AG also boosted its price target, but to $155 from $145, while keeping its ‘Hold’ rating on it. There were also some downgrades on the stock, coming from Raymond James Financial Inc., which lowered its rating on Buffalo Wild Wings’ stock to ‘Market Perform’ from ‘Outperform’ and Maxim Group, which dropped its rating to ‘Hold’ from ‘Buy’, and has a price target of $170 on it. Finally, Credit Suisse Group AG upgraded its rating to ‘Neutral’ from ‘Underperform’ and raised its price target on the stock to $165 from $130.
Some of the investors in our database that were bullish on Buffalo Wild Wings (NASDAQ:BWLD) at the end of the second quarter were Jim Simons’ Renaissance Technologies, which held a position valued at $26.41 million, Bruce Kovner’s Caxton Associates LP with a $21.32 million position, Ken Griffin’s Citadel Investment Group, and Dmitry Balyasny’s Balyasny Asset Management. Investors that initiated new positions in the company during the quarter included Anand Parekh’s Alyeska Investment Group, which had built a $25.03 million position by the end of the quarter, Michael Barnes and Arif Inayatullah’s Tricadia Capital Management, which acquired a position worth $4.86 million, and Doug Gordon, Jon Hilsabeck and Don Jabro’s Shellback Capital.
Investors who lost optimism for Buffalo Wild Wings (NASDAQ:BWLD) and sold off their positions during the second quarter were Richard Chilton’s Chilton Investment Company, which said goodbye to a position worth $11.52 million, and Sheetal Duggal’s Thrax Management, which dropped a position valued at $1.48 million at the end of March.
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Ownership Summary Table
| Name | Sole Voting Power | Shared Voting Power | Sole Dispositive Power | Shared Dispositive Power | Aggregate Amount Owned Power | Percent of Class |
|---|---|---|---|---|---|---|
| Marcato Capital Management | 0 | 950,000 | 0 | 950,000 | 950,000 | 5.2% |
| Richard T. McGuire III | 0 | 950,000 | 0 | 950,000 | 950,000 | 5.2% |
| Marcato | 0 | 255,740 | 0 | 255,740 | 255,740 | 1.4% |
| Marcato II | 0 | 23,465 | 0 | 23,465 | 23,465 | 0.1% |
| Marcato International Master Fund, Ltd | 0 | 670,795 | 0 | 670,795 | 670,795 | 3.7% |
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Page 1 of 49 – SEC Filing
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
SCHEDULE 13D
UNDER THE SECURITIES EXCHANGE ACT OF 1934
(Amendment No. 1)*
| Buffalo Wild Wings, Inc. |
| (Name of Issuer) |
| Common Stock, no par value |
| (Title of Class of Securities) |
| 119848109 |
| (CUSIP Number) |
| Richard T. McGuire III Marcato Capital Management LP Four Embarcadero Center, Suite 2100 San Francisco, CA 94111 (415) 796-6350 |
| (Name, Address and Telephone Number of Person Authorized to Receive Notices and Communications) |
| Copies to: Richard M. Brand Aly El Hamamsy Cadwalader, Wickersham & Taft LLP One World Financial Center New York, NY 10281 (212) 504-6000 |
| August 17, 2016 |
| (Date of Event Which Requires Filing of this Statement) |
If the filing person has previously filed a statement on Schedule 13G to report the acquisition which is the subject of this Schedule 13D, and is filing this schedule because of Rule 13d-1(e), 13d-1(f) or 13d-1(g), check the following box. ☐
Note: Schedules filed in paper format shall include a signed original and five copies of the schedule, including all exhibits. See Rule 13d-7 for other parties to whom copies are to be sent.
*The remainder of this cover page shall be filled out for a reporting person’s initial filing on this form with respect to the subject class of securities, and for any subsequent amendment containing information which would alter disclosures provided in a prior cover page.
The information required on the remainder of this cover page shall not be deemed to be “filed” for the purpose of Section 18 of the Securities Exchange Act of 1934 or otherwise subject to the liabilities of that section of the Act but shall be subject to all other provisions of the Act (however, see the Notes).
Page 2 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 2 of 10 |
| 1 | NAME OF REPORTING PERSON OR | ||||
| I.R.S. IDENTIFICATION NO. OF ABOVE PERSON | |||||
| Marcato Capital Management LP | |||||
| 2 | CHECK THE APPROPRIATE BOX IF A MEMBER OF A GROUP | (a) | ☐ | ||
| (b) | ☒ | ||||
| 3 | SEC USE ONLY | ||||
| 4 | SOURCE OF FUNDS | ||||
| AF | |||||
| 5 | CHECK BOX IF DISCLOSURE OF LEGAL PROCEEDINGS IS REQUIRED PURSUANT TO ITEMS 2(d) or 2(e) | ☐ | |||
| 6 | CITIZENSHIP OR PLACE OF ORGANIZATION | ||||
| Delaware | |||||
| NUMBER OF SHARES BENEFICIALLY OWNED BY EACH REPORTING PERSON WITH | 7 | SOLE VOTING POWER | |||
| 0 | |||||
| 8 | SHARED VOTING POWER | ||||
| 950,000 | |||||
| 9 | SOLE DISPOSITIVE POWER | ||||
| 0 | |||||
| 10 | SHARED DISPOSITIVE POWER | ||||
| 950,000 | |||||
| 11 | AGGREGATE AMOUNT BENEFICIALLY OWNED BY EACH REPORTING PERSON | ||||
| 950,000 | |||||
| 12 | CHECK BOX IF THE AGGREGATE AMOUNT IN ROW (11) EXCLUDES CERTAIN SHARES | ☐ | |||
| 13 | PERCENT OF CLASS REPRESENTED BY AMOUNT IN ROW (11) | ||||
| 5.2% | |||||
| 14 | TYPE OF REPORTING PERSON | ||||
| IA | |||||
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Page 3 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 3 of 10 |
| 1 | NAME OF REPORTING PERSON OR | ||||
| I.R.S. IDENTIFICATION NO. OF ABOVE PERSON | |||||
| Richard T. McGuire III | |||||
| 2 | CHECK THE APPROPRIATE BOX IF A MEMBER OF A GROUP | (a) | ☐ | ||
| (b) | ☒ | ||||
| 3 | SEC USE ONLY | ||||
| 4 | SOURCE OF FUNDS | ||||
| AF | |||||
| 5 | CHECK BOX IF DISCLOSURE OF LEGAL PROCEEDINGS IS REQUIRED PURSUANT TO ITEMS 2(d) or 2(e) | ☐ | |||
| 6 | CITIZENSHIP OR PLACE OF ORGANIZATION | ||||
| United States of America | |||||
| NUMBER OF SHARES BENEFICIALLY OWNED BY EACH REPORTING PERSON WITH | 7 | SOLE VOTING POWER | |||
| 0 | |||||
| 8 | SHARED VOTING POWER | ||||
| 950,000 | |||||
| 9 | SOLE DISPOSITIVE POWER | ||||
| 0 | |||||
| 10 | SHARED DISPOSITIVE POWER | ||||
| 950,000 | |||||
| 11 | AGGREGATE AMOUNT BENEFICIALLY OWNED BY EACH REPORTING PERSON | ||||
| 950,000 | |||||
| 12 | CHECK BOX IF THE AGGREGATE AMOUNT IN ROW (11) EXCLUDES CERTAIN SHARES | ☐ | |||
| 13 | PERCENT OF CLASS REPRESENTED BY AMOUNT IN ROW (11) | ||||
| 5.2% | |||||
| 14 | TYPE OF REPORTING PERSON | ||||
| IN | |||||
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Page 4 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 4 of 10 |
| 1 | NAME OF REPORTING PERSON OR | ||||
| I.R.S. IDENTIFICATION NO. OF ABOVE PERSON | |||||
| Marcato, L.P. | |||||
| 2 | CHECK THE APPROPRIATE BOX IF A MEMBER OF A GROUP | (a) | ☐ | ||
| (b) | ☒ | ||||
| 3 | SEC USE ONLY | ||||
| 4 | SOURCE OF FUNDS | ||||
| WC | |||||
| 5 | CHECK BOX IF DISCLOSURE OF LEGAL PROCEEDINGS IS REQUIRED PURSUANT TO ITEMS 2(d) or 2(e) | ☐ | |||
| 6 | CITIZENSHIP OR PLACE OF ORGANIZATION | ||||
| Delaware | |||||
| NUMBER OF SHARES BENEFICIALLY OWNED BY EACH REPORTING PERSON WITH | 7 | SOLE VOTING POWER | |||
| 0 | |||||
| 8 | SHARED VOTING POWER | ||||
| 255,740 | |||||
| 9 | SOLE DISPOSITIVE POWER | ||||
| 0 | |||||
| 10 | SHARED DISPOSITIVE POWER | ||||
| 255,740 | |||||
| 11 | AGGREGATE AMOUNT BENEFICIALLY OWNED BY EACH REPORTING PERSON | ||||
| 255,740 | |||||
| 12 | CHECK BOX IF THE AGGREGATE AMOUNT IN ROW (11) EXCLUDES CERTAIN SHARES | ☐ | |||
| 13 | PERCENT OF CLASS REPRESENTED BY AMOUNT IN ROW (11) | ||||
| 1.4% | |||||
| 14 | TYPE OF REPORTING PERSON | ||||
| PN | |||||
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Page 5 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 5 of 10 |
| 1 | NAME OF REPORTING PERSON OR | ||||
| I.R.S. IDENTIFICATION NO. OF ABOVE PERSON | |||||
| Marcato II, L.P. | |||||
| 2 | CHECK THE APPROPRIATE BOX IF A MEMBER OF A GROUP | (a) | ☐ | ||
| (b) | ☒ | ||||
| 3 | SEC USE ONLY | ||||
| 4 | SOURCE OF FUNDS | ||||
| WC | |||||
| 5 | CHECK BOX IF DISCLOSURE OF LEGAL PROCEEDINGS IS REQUIRED PURSUANT TO ITEMS 2(d) or 2(e) | ☐ | |||
| 6 | CITIZENSHIP OR PLACE OF ORGANIZATION | ||||
| Delaware | |||||
| NUMBER OF SHARES BENEFICIALLY OWNED BY EACH REPORTING PERSON WITH | 7 | SOLE VOTING POWER | |||
| 0 | |||||
| 8 | SHARED VOTING POWER | ||||
| 23,465 | |||||
| 9 | SOLE DISPOSITIVE POWER | ||||
| 0 | |||||
| 10 | SHARED DISPOSITIVE POWER | ||||
| 23,465 | |||||
| 11 | AGGREGATE AMOUNT BENEFICIALLY OWNED BY EACH REPORTING PERSON | ||||
| 23,465 | |||||
| 12 | CHECK BOX IF THE AGGREGATE AMOUNT IN ROW (11) EXCLUDES CERTAIN SHARES | ☐ | |||
| 13 | PERCENT OF CLASS REPRESENTED BY AMOUNT IN ROW (11) | ||||
| 0.1% | |||||
| 14 | TYPE OF REPORTING PERSON | ||||
| PN | |||||
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Page 6 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 6 of 10 |
| 1 | NAME OF REPORTING PERSON OR | ||||
| I.R.S. IDENTIFICATION NO. OF ABOVE PERSON | |||||
| Marcato International Master Fund, Ltd. | |||||
| 2 | CHECK THE APPROPRIATE BOX IF A MEMBER OF A GROUP | (a) | ☐ | ||
| (b) | ☒ | ||||
| 3 | SEC USE ONLY | ||||
| 4 | SOURCE OF FUNDS | ||||
| WC | |||||
| 5 | CHECK BOX IF DISCLOSURE OF LEGAL PROCEEDINGS IS REQUIRED PURSUANT TO ITEMS 2(d) or 2(e) | ☐ | |||
| 6 | CITIZENSHIP OR PLACE OF ORGANIZATION | ||||
| Cayman Islands | |||||
| NUMBER OF SHARES BENEFICIALLY OWNED BY EACH REPORTING PERSON WITH | 7 | SOLE VOTING POWER | |||
| 0 | |||||
| 8 | SHARED VOTING POWER | ||||
| 670,795 | |||||
| 9 | SOLE DISPOSITIVE POWER | ||||
| 0 | |||||
| 10 | SHARED DISPOSITIVE POWER | ||||
| 670,795 | |||||
| 11 | AGGREGATE AMOUNT BENEFICIALLY OWNED BY EACH REPORTING PERSON | ||||
| 670,795 | |||||
| 12 | CHECK BOX IF THE AGGREGATE AMOUNT IN ROW (11) EXCLUDES CERTAIN SHARES | ☐ | |||
| 13 | PERCENT OF CLASS REPRESENTED BY AMOUNT IN ROW (11) | ||||
| 3.7% | |||||
| 14 | TYPE OF REPORTING PERSON | ||||
| OO | |||||
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Page 7 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 7 of 10 |
This amendment No. 1 to Schedule 13D (this “Amendment No. 1”), amends and supplements the Schedule 13D (the “Initial 13D”) filed on July 25, 2016 (the Initial 13D and, as amended and supplemented by this Amendment No. 1, collectively the “Schedule 13D”), by the Reporting Persons, relating to the Common Stock, no par value (the “Shares”), of the Issuer, a Minnesota corporation. Capitalized terms not defined in this Amendment No. 1 shall have the meaning ascribed to them in the Initial 13D.
The information set forth in response to each separate Item below shall be deemed to be a response to all Items where such information is relevant. The Schedule 13D is hereby supplementally amended as follows:
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Page 8 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 8 of 10 |
| Item 4. | Purpose of Transaction. |
On August 17, 2016, Marcato sent a letter to James Damian, Chairman of the Board of Directors of the Issuer. The letter is attached hereto as Exhibit C and incorporated by reference in this Item 4 in its entirety.
| Item 5. | Interest in Securities of the Issuer. |
(a) – (e) As of the date hereof, (i) Marcato and Mr. McGuire may be deemed to be the beneficial owners of 950,000 Shares (the “Marcato Shares”), constituting approximately 5.2% of the Shares, (ii) Marcato, L.P. may be deemed to be the beneficial owner of 255,740 Shares, constituting approximately 1.4% of the Shares, (iii) Marcato II, L.P. may be deemed to be the beneficial owner of 23,465 Shares, constituting approximately 0.1% of the Shares and (iii) Marcato International Master Fund, Ltd. may be deemed to be the beneficial owner of 670,795 Shares, constituting approximately 3.7% of the Shares, each based upon 18,297,886 Shares outstanding as of July 25, 2016, as reported in the Issuer’s Quarterly Report on Form 10-Q for the quarter ended June 26, 2016.
Marcato, L.P. may be deemed to have the shared power to vote or direct the vote of (and the shared power to dispose or direct the disposition of) 255,740 Shares. Marcato II, L.P. may be deemed to have the shared power to vote or direct the vote of (and the shared power to dispose or direct the disposition of) 23,465 Shares. Marcato International Master Fund, Ltd. may be deemed to have the shared power to vote or direct the vote of (and the shared power to dispose or direct the disposition of) 670,795 Shares. Marcato, as the investment adviser of Marcato, L.P., Marcato II, L.P. and Marcato International Master Fund, Ltd., may be deemed to have the shared power to vote or direct the vote of (and the shared power to dispose or direct the disposition of) the Marcato Shares. By virtue of Mr. McGuire’s position as the managing partner of Marcato, Mr. McGuire may be deemed to have the shared power to vote or direct the vote of (and the shared power to dispose or direct the disposition of) the Marcato Shares and, therefore, Mr. McGuire may be deemed to be the beneficial owner of the Marcato Shares. The number of Shares set forth above includes options, which give the Reporting Persons the right to acquire beneficial ownership of Shares.
Except as set forth in the Initial 13D, there have been no other transactions by the Reporting Persons in the securities of the Issuer during the past sixty days.
The limited partners of (or investors in) each of Marcato, L.P., Marcato II, L.P., and Marcato International Master Fund, Ltd., or their respective subsidiaries or affiliated entities, for which Marcato or its affiliates acts as general partner and/or investment manager have the right to participate in the receipt of dividends from, or proceeds from the sale of, the Shares held for the accounts of their respective funds in accordance with their respective limited partnership interests (or investment percentages) in their respective funds.
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Page 9 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 9 of 10 |
| Item 7. | Material to be Filed as Exhibits. |
Exhibit A: Joint Filing Agreement*
Exhibit B: Schedule of Transactions in Shares*
Exhibit C: Letter, dated August 17, 2016
* Previously filed.
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Page 10 of 49 – SEC Filing
| CUSIP No. 119848109 | SCHEDULE 13D | Page 10 of 10 |
After reasonable inquiry and to the best of my knowledge and belief, the undersigned certifies that the information set forth in this statement is true, complete and correct.
Dated: August 17, 2016
| Marcato Capital Management LP¨ | |||
| By: Marcato Holdings LLC, its General Partner | |||
| By: | /s/ Richard T. McGuire III | ||
| Richard T. McGuire III, Authorized Person | |||
| /s/ Richard T. McGuire III¨ | ||
| Richard T. McGuire III | ||
| Marcato, L.P. | |||
| By: | MCM General Partner LLC, its General Partner | ||
| By: | /s/ Richard T. McGuire III | ||
| Richard T. McGuire III, Authorized Person | |||
| Marcato II, L.P. | |||
| By: | MCM General Partner LLC, its General Partner | ||
| By: | /s/ Richard T. McGuire III | ||
| Richard T. McGuire III, Authorized Person | |||
| Marcato International Master Fund, Ltd. | |||
| By: | /s/ Richard T. McGuire III | ||
| Richard T. McGuire III, Director | |||
| ¨ | This reporting person disclaims beneficial ownership of these reported securities except to the extent of its pecuniary interest therein, and this report shall not be deemed an admission that any such person is the beneficial owner of these securities for purposes of Section 16 of the U.S. Securities Exchange Act of 1934, as amended, or for any other purpose. |
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Page 11 of 49 – SEC Filing
Exhibit C
August 17, 2016
James Damian
Chairman, Board of Directors
Buffalo Wild Wings, Inc.
5500 Wayzata Boulevard, Suite 1600
Minneapolis, MN 55416
James,
As you know, investment funds managed by Marcato Capital Management LP (“Marcato”) currently own securities representing beneficial ownership of 5.2% of the shares outstanding of Buffalo Wild Wings Inc. (the “Company”). It has been two months since we first sat down with management to begin a private dialogue about opportunities to enhance shareholder value. Given the Company’s lackluster analyst day presentation and observable discontent among shareholders and research analysts, we have determined that it is appropriate at this point to share our perspectives with the investment community. Along with this letter, we are filing the analysis that we shared with management at our first meeting in June and hope that research analysts as well as current and prospective shareholders will consider this information and express their views on the subject matter.
I should emphasize that we are exceedingly optimistic about the future of Buffalo Wild Wings. In the crowded and competitive restaurant universe, Buffalo Wild Wings offers an experience that is superior to and highly differentiated from those offered at any of the sports-themed competitors in its markets. The benefits of its national scale, from marketing to purchasing to best practices, will continue to position Buffalo Wild Wings as the preferred destination to experience televised sports outside of the home. In fact, we think the Company’s estimated addressable market of 1,700 units (compared to 1,220 expected by year-end 2016) in the United States and Canada may be far too low and deserves to be revisited.
We also believe, however, that Buffalo Wild Wings must make substantial changes to its business practices if it hopes to reach its full potential both as a company and in terms of shareholder value. Our initial conversations with management focused on the Company’s capital allocation decisions, which we discuss below and detail in our attached analysis. Following months of engagement with the Company, we have come to appreciate that suboptimal capital allocation behavior is symptomatic of a larger organizational deficiency: a tendency to favor gut feel and thematic proclamations without
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Page 12 of 49 – SEC Filing
tangible evidence or appropriate analytical support. The management team of Buffalo Wild Wings communicates its strategic and financial rationale to the investment community with inveterate avoidance of specificity. The chronic absence of detail around even the most basic of metrics causes us to question whether the right questions are being asked and answered.
We direct this concern not only toward management, but also toward the Board of Directors whose duty is to oversee, evaluate, and incentivize management in such a way as to ensure that the business is run in shareholders’ best interests. We are committed to doing our part to help the business achieve its full potential. We expect that the necessary changes will include the following:
| 1) | The introduction of fresh talent at both the Board and management levels. The Company must improve its experience and sophistication in areas of restaurant operations, franchise system development, corporate finance, and capital markets. We are confident that the Board would benefit from adding independent directors with operating experience in the restaurant industry, in particular with a franchised restaurant concept. We note that no current director has direct restaurant operating experience outside of the CEO. We would also stress that any changes to the Board should only be made after consultation with interested shareholders, and we would view any unilateral action to change the composition of the Board as a hostile act of entrenchment. |
| 2) | A greater focus on operational excellence within Buffalo Wild Wings’ core business. The Company must improve in key operational areas such as food quality, price/value perception, speed of service, technology implementation, food cost optimization, and labor engineering – all areas where it is substantially underperforming its potential, and, that if improved, can drastically help restore the Company’s customer value proposition. Efforts to drive “growth” primarily through new unit openings and franchisee acquisitions currently take unwarranted precedence over maximizing same-store sales and restaurant-level margin opportunities at core Buffalo Wild Wings. Over the long-term, neither system growth nor franchisee acquisitions will be able to compensate for a decline in the profitability of the core concept. |
| 3) | Cessation of “emerging brands” growth plans. Buffalo Wild Wings’ continued success is not an inevitability; as such, we believe the Company should remain singularly focused on its largest earnings driver rather than placing wild bets, however small, on hit-or-miss “growth drivers”— particularly those in the highly competitive, non-core, fast casual space. Experiments with new restaurant concepts are distracting management from advancing Buffalo Wild Wings’ core brand. At this point in time, any corporate resources, be they personnel, capital, or attention, would be better allocated to addressing the operational improvement opportunities at core Buffalo Wild Wings. |
| 4) | A profound increase in urgency, follow-through, and accountability. A review of past years’ earnings reports reveals a number of Company “priorities” that have since dragged on without meaningful progress, the most obvious example being the bungled roll out of table-side order and pay functionality. The commentary in the current period regarding the near-term goals |
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Page 13 of 49 – SEC Filing
| for these programs is the same that it was two and three years ago despite the Company having missed its initial execution objectives. Even now, management is content to highlight the opportunity while very little tangible progress has been achieved. This issue is representative of a much larger issue of management’s persistent failure to execute and the Board’s failure to hold management accountable. |
| 5) | An audit of managerial decision tools and a reconciliation of business outcomes as compared to forecasts. Despite frequent assurance from management of the use of DCF- and IRR-based forecasts to approve investments such as remodel campaigns, new unit openings, or acquisitions, our experience with retail and restaurant businesses has taught us that those processes can be highly flawed. We take seriously the tendencies of development staff to reverse-engineer projections to achieve a stated hurdle rate or highlight data with a selection bias to support past decisions. The Board must review past capital investments to ensure that outcomes compare favorably with the underwriting process. We recommend starting with an assessment of the Company’s large franchisee acquisition in 2015, which based on all available data, has been an unmitigated disaster. That such an obviously misguided decision could be made under the guise of rigorous analysis underscores the weaknesses in the Company’s capital allocation processes and need to commit to a disciplined capital allocation program. |
The list above speaks to functional changes that will improve business performance. At a higher level, however, there is an intellectual divide that must also be addressed: there is a glaring deficiency of understanding at the Company in how capital deployment relates to shareholder value creation. Yesterday’s announcement of a $300 million share repurchase authorization further highlights this point.
Management self-identifies its objectives to be those of a “growth company” but does not appear to have a clear sense of what that exactly means or how (and if) achieving this poorly defined “growth” objective is best for shareholders. Growth in revenue or earnings simply cannot be evaluated without consideration for the capital deployed in the achievement. This basic principle of corporate finance is tragically underappreciated by the current management team.
Instead, management celebrates consolidated revenue growth without discriminating between revenue derived from growth in royalties from franchisee unit development, same-store sales growth (itself a product of tension between higher price and declining traffic), new company-operated unit growth, and the purchase of units from franchisees. Each of these revenue streams has a radically different margin profile and comes at a radically different capital cost (franchise royalties in particular come at no cost whatsoever). Most importantly, the income derived from each of these different revenue streams receives a radically different value in the market due to its unique degree of capital intensity and predictability. Management and the Board should be solely focused on growing market value per share, determining which types of revenue growth will best deliver that outcome.
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Page 14 of 49 – SEC Filing
Additionally, management frequently highlights growth in average unit volumes, but fails to acknowledge that this growth has been accompanied by an increase in per unit construction and pre-opening costs from $840K in 2003 to $2.6M in 2015, leading to a significant decline in the returns on invested capital. We perceive that the pursuit of higher average unit volumes (management’s barometer for “growth”) has led the Company to deploy ever-greater amounts of capital into larger units tailored to more populous, but also more competitive, and more expensive markets. Similarly, remodel costs for the current Stadia program are increasing over prior remodel budgets, and the Company has not articulated the basic return on investment methodology that illustrates why the new remodels are attractive, why the current remodel cost is appropriate, or if similar outcomes could be achieved at a lower cost. Might shareholders and customers alike be better off if capital were instead invested into smaller-format units that, at the expense of lower AUV’s, could profitably succeed in smaller, less competitive markets with lower construction and operating costs, producing higher returns on capital?
Management appears to believe that realizing its identity as a “growth” company means delivering EPS growth of 15% or greater. However, even this statement is made without any design as to how that will be achieved. Beneath the headline, there is no calculus as to how same-store sales, operating margin expansion, franchise vs. company unit growth, franchisee acquisitions, and share repurchases will combine to produce such a result. Just how this earnings goal is achieved, and in particular how much capital is required to achieve it, will dictate the multiple of EPS at which the shares will trade. This is the vital and missing link between earnings creation and shareholder value creation. The apparent lack of sensitivity to this connection is the primary impediment to shareholders earning an attractive return on their investment in the future.
Unfortunately for shareholders, the easiest growth to come by has been the kind that is BOUGHT, requiring the most capital and offering the lowest returns. As same-store sales have decelerated and the law of large numbers has made it difficult for new unit additions to sustain historical revenue growth rates, management has turned to buying in franchisees in its pursuit of “growth.” The large franchisee acquisitions in 2015 were telegraphed to investors, under the pretense of being “opportunistic,” as helping the Company achieve its goal of growing sales and net income. At the same time, the Company did not offer any concrete rationale for why this transaction would create more shareholder value than allowing the units instead to be sold to a third party buyer – an outcome that would have retained the existing high-value franchise royalty stream and avoided a major capital outlay at an excessive and unprecedented multiple, and moreover would have avoided the additional cost and distractions of transaction fees, remodel requirements, regional G&A investments, integration risks, and operational complexity.
Despite the Company’s refusal to disclose key financial metrics of the transaction, it is clear to us that the acquisitions of 2015 were mistakes and would not be approved today if an appropriate methodology were employed. This acquisitive behavior is almost certainly reinforced by an incentive compensation system, designed by the Board, that rewards (if not preconditions) management for maximizing absolute growth in revenue dollars, net income dollars, and store openings – all metrics that fail to acknowledge the capital required to achieve these outcomes and whether the returns on that capital investment are appropriate. In contrast, most other high-performing restaurant companies emphasize metrics more explicitly tied to shareholder value, including operating income (not sales),
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Page 15 of 49 – SEC Filing
EPS (not net income), and ROIC and total shareholder return — all of which are absent from management’s incentive compensation design.
We are confident that Buffalo Wild Wings is in a strong position to compete and succeed in the future. However, we believe this opportunity will be squandered if our concerns highlighted here are not addressed with urgency. We look forward to a vigorous discussion of these factors with the Board and management going forward.
Sincerely,
Mick McGuire
CC:
Dale Applequist
Cynthia Davis, Compensation Committee
Michael Johnson, Chairman of Compensation Committee
Warren Mack
Oliver Maggard, Compensation Committee
Jerry Rose
Sally Smith, CEO, President
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