DineEquity, Inc.

$DIN - NYSE - Restaurants and Leisure
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Press Release $DIN DineEquity, Inc.

0 COMMENTs 15 Apr
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Fitch Affirms DineEquity's IDR at 'B'; Outlook Stable

CHICAGO--(BUSINESS WIRE)-- Fitch Ratings has affirmed the ratings of DineEquity, Inc. (DineEquity; NYSE:DIN) as follows:

DineEquity, Inc.

--Long-term Issuer Default Rating (IDR) at 'B';

--Senior secured bank credit facility at 'BB/RR1';

--9.5% senior unsecured notes at 'B+/RR3'.

The Rating Outlook is Stable.

At Dec. 31, 2012, DineEquity had approximately $1.4 billion of total debt.

KEY RATING DRIVERS:

DineEquity's ratings balance the company's high financial leverage with its consistent free cash flow (FCF) generation, national scale, and leading market share in the U.S. casual dining and family dining categories. The ratings incorporate the firm's financial strategy which following the successful completion of its refranchising program in October 2012 reflects an increased emphasis on returning cash to shareholders.

On Feb. 27, 2013, DineEquity announced a capital allocation strategy that includes a first quarter $0.75 per share common dividend and a $100 million share repurchase authorization. As anticipated, DineEquity used refranchising proceeds and FCF to reduced debt by over $1 billion since its November 2007 acquisition of Applebee's for $2.1 billion and is now comfortable with debt and leverage levels.

The firm's business strategy includes operating under a less capital intensive 99% franchised model and maximizing its business by ensuring strong brands. Franchise new unit development and managed general and administrative costs in order to generate meaningful FCF is also a key part of this strategy. Same-store sales (SSS) growth is being supported with menu innovation, good restaurant operations, and effective marketing/advertising.

At Dec. 31, 2012, DineEquity's system of restaurants consisted of 3,615 units of which 2,034 operated under the Applebee's brand and 1,581 operated as IHOP units. Approximately 95% of these restaurants are in the United States and about 5% are in international markets. Average annual sales for Applebee's and IHOP franchised units during 2012 were approximately $2.4 million and $1.8 million, respectively.

DineEquity's credit profile is enhanced by its stable source of royalty based revenue and the high level of profitability provided by its franchise operations. During 2012, the firm's franchise operations represented 50% of its $850 million of corporate revenue and had an operating margin of 73.9%.

Applebee's domestic franchisees are mainly large multi-unit operators where over 70% own more than 10 units. IHOP system of domestic franchisees is more diverse as approximately 90% operate 10 or less restaurants. Fitch believes DineEquity's franchise system is in good shape as the company has not reported any material collection or delinquency issues with its royalties. Moreover, many existing franchisees purchased company-operated units sold by DineEquity during the refranchising process.

Refranchising occurred faster than Fitch had anticipated, resulting in considerable debt reduction. However, due to the actual versus projected impact of refranchising on the firm's income statement, deleveraging was not as pronounced as Fitch had expected. Cash flow from operations and FCF during 2012 was also lower than Fitch had forecast due mainly to higher cash taxes on refranchising proceeds. Nevertheless, DineEquity's credit metrics are commensurate with its current ratings.

For the latest 12 month (LTM) period ended Dec. 31, 2012, rent-adjusted leverage (defined as total debt plus 8 times gross rent-to-operating EBITDA plus gross rent) was 6.0 times (x), down from nearly 7.0x at Dec. 31, 2008. Operating EBITDA-to-gross interest expense plus rent was 1.7x, up from 1.5x, and funds from operations (FFO) fixed charge coverage was 1.3x, down from 1.4x.

DineEquity generated $36 million of FCF during the LTM period, down from $95 million in 2011, and had an EBITDA margin of over 30%. As mentioned above, FCF was lower than anticipated due mainly to higher cash taxes on refranchising proceeds. Fitch defines FCF as cash flow from operations less capital expenditures less dividends. Receipts from long-term receivables from franchisees, which are accounted for as cash flows from investing activities, are not included in Fitch's FCF calculation. During 2012, these receipts totaled $12.3 million in 2012, and per SEC filings are expected to approximate $14.2 million in 2013 and $15.2 million in 2014.

Fitch currently expects DineEquity's rent-adjusted leverage to increase to 6.2x in 2013, as EBITDA declines to reflect the completion of the firm's refranchising during the fourth quarter of 2012. Thereafter, Fitch expects rent-adjusted leverage to trend below 6.0x due to SSS and EBITDA growth. Debt reduction, other than the 1% mandatory annual amortization required for the firm's term loan, is not expected to be a priority.

Annual FCF, as calculated by Fitch, is projected to approximate $50 million due to the firm's recently instituted quarterly dividend, despite reduced capital expenditure requirements as a 99% franchised system. DineEquity's guidance includes capital expenditures of $8 million to $10 million in 2013, down from $17 million in 2012 and $26.3 million in 2011. The firm expects FCF of $77 million to $93 million inclusive of approximately $14 million of long-term receivables.

The 'RR1' recovery rating on DineEquity's secured bank facility reflects Fitch's view that recovery prospects for this debt are outstanding and would exceed 90% in a distressed situation. The 'RR3' recovery rating and corresponding 'B+' issue rating on DineEquity's 9.5% senior unsecured notes incorporates Fitch's opinion that bondholders would have above average recovery in the 51% to 70% range if the firm were in financial distress.

Fitch's issue-level ratings incorporate assumptions regarding DineEquity's enterprise value in a distressed situation and the relatively low percentage of secured priority debt in the firm's capital structure. At Dec. 31, 2012, 34% or $472 million of DineEquity's $1.4 billion of total debt consisted of secured term loans, 54% or $760.8 million consisted of the 9.5% senior unsecured notes, and the remaining 12% was comprised of a $52.1 million financing obligation and $135 million of capital leases.

Same-Store Sales and Net New Unit Development

DineEquity's Great Tasting Under 550 Calories and 2 for $20 menu platforms at Applebee's led casual dining peers with healthier meal alternatives and value offerings. Applebee's SSS increased 1.2% in 2012 and 2% in 2011. At IHOP, however, comparable sales have declined for eight consecutive quarters, being down 1.6% in 2012 and 2% in 2011. DineEquity's 2013 SSS guidance is a range of negative 1.5% to positive 1.5% for both Applebee's and IHOP. Fitch views DineEquity's SSS guidance for Applebee's as cautious and believes it reflects the challenging consumer environment and high level of competition in the U.S. restaurant industry. Fitch is concerned about the duration of negative SSS performance at IHOP, given changes to the brand's core menu, promotional strategy, and efforts to improve service quality.

DineEquity's 2013 guidance on new unit development, a key factor for system sales, high-margin royalty and other fee revenue growth, is a range 90-110 across both brands and represents an increase of 2.5% to 3% in total units. DineEquity does not plan to open any company-operated restaurants. The firm has development agreements in place that provide for 46 new Applebee's units and 57 new IHOP units in 2013. As reported in SEC filings, agreements provide for 56 Applebee's units and 40 IHOP units in 2014. The majority of Applebee's franchise agreements include a royalty equal to 4% of monthly net restaurant sales. The royalty rate for IHOP units totals 4.5% of weekly gross sales.

Liquidity, Maturities and Financial Covenants

DineEquity's liquidity is adequate given the firm's FCF and limited near-term maturities. Furthermore, the cash needs of a highly franchised system should be minimal as franchisees generally self-finance unit development and remodeling requirements. At Dec. 31, 2012, DineEquity had $127.4 million of liquidity consisting of $64.5 million of cash and $62.9 million availability after considering $12.1 million of letters of credit on the firm's $75 million revolver expiring Oct. 19, 2015.

At Dec. 31, 2012, scheduled maturities of long-term debt were immaterial until Oct. 19, 2017 when the remaining balance on DineEquity's term loan becomes due. The term loan amortizes at 1% of the $472 million balance at Dec. 31, 2012. DineEquity's 9.5% notes, which have a remaining balance of $760.8 million, mature on Oct. 30, 2018.

Financial covenants in DineEquity's secured credit facility include a maximum consolidated leverage ratio (defined as total indebtedness minus no more than $75 million of cash-to-EBITDA) and a minimum interest coverage ratio. The maximum leverage ratio is 7.0x in 2013 but steps down 0.25x annually through 2016 to 6.0x. The minimum coverage ratio is 1.75x in 2013, stepping up 0.25x in 2016. At Dec. 31, 2012, the actual ratios as reported by DineEquity were 4.6x and 2.5x, respectively. Fitch estimates that EBITDA would have to decline by approximately 35% to breach the maximum leverage covenants and that cash interest charges would have to increase by 42% to breach the minimum coverage ratio test.

On Feb. 5, 2013, DineEquity repriced and amended certain covenants for its senior secured credit facility. Interest is now computed at LIBOR plus 2.75% with a LIBOR floor of 1%. Previously, the term loan had a margin of 3% and a LIBOR floor of 1.25% and the revolver had leverage-based pricing with a LIBOR margin ranging from 4% to 4.5%.

Amendments included reducing limitations on the firm's capital allocation options. Leverage thresholds for excess cash flow (ECF) prepayments were eased such that 50% of the firm's ECF must be used to prepay term loans if consolidated leverage is 5.75x or greater. If leverage is less than 5.75x but greater than or equal to 5.25x, 25% of ECF must be applied to term loan prepayments. Lastly, no ECF requirement exists if leverage is less than 5.25x. Fitch anticipates that DineEquity will not be required to make any ECF prepayments with its 2013 ECF as consolidated leverage per the credit facility was 4.6x at Dec. 31, 2012.

DineEquity's senior unsecured notes do not have financial covenants. The notes contain a Negative Pledge clause that requires equal and ratable security if non-permitted secured debt is incurred and have a change of control put option at 101% of principal plus accrued and unpaid interest.

RATING SENSITIVITIES:

An upgrade of DineEquity's IDR could occur if rent-adjusted leverage declines to the mid-5.0x range due to higher than expected EBITDA growth, as significant debt reduction is not anticipated. Improving SSS growth at IHOP and FCF stability or growth would also be required for an upgrade.

Conversely, the firm's IDR would be lowered if there is a material increase in leverage, due to debt-financed share repurchases or acquisitions. Persistently negative SSS performance, a loss of market share, or significant store closures would be viewed negatively. Changes in recovery ratings could be driven by changes in capital structure or significant increases or decreases in EBITDA.

Additional information is available at 'www.fitchratings.com'. The ratings above have been initiated by Fitch as a service to investors. The issuer did not participate in the rating process other than through the medium of its public disclosure.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology' (Aug. 8, 2012);

--'2013 Outlook: U.S. Restaurants - Intensifying Competition, Food Inflation, and Legislation to Drive Operating and Financial Strategies' (Dec. 19, 2012);

--'DineEquity, Inc.' (Sept. 11, 2012).

Applicable Criteria and Related Research

Corporate Rating Methodology

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684460

2013 Outlook: U.S. Restaurants (Intensifying Competition, Food Inflation, and Legislation To Drive Operating and Financial Strategies)

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=696952

DineEquity, Inc.

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=688836

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=788630

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

Fitch Ratings
Primary Analyst
Carla Norfleet Taylor, CFA, +1-312-368-3195
Director
Fitch Ratings, Inc.
70 W. Madison Street
Chicago, IL 60602
or
Secondary Analyst
Bill C. Densmore, +1-312-368-3125
Senior Director
or
Committee Chairperson
Sharon E. Bonelli, +1-212-908-0581
Managing Director
or
Media Relations
Brian Bertsch, New York, +1-212-908-0549
brian.bertsch@fitchratings.com

Source: Fitch Ratings

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