IHOP Eating Up Applebee's for $1.9B

IHOP Corp. (IHP) said it plans to buy bar-and-grill chain Applebee's International Inc. (APPB) for $25.50 per share to expand beyond its iconic pancake houses, sending IHOP's shares up nearly 12 percent on Monday to an all-time high.

The all-cash deal, which represents a 4.6 percent premium to Applebee's closing price on Friday, is worth about $1.9 billion, based on the company's 75,072,000 shares outstanding as of April 1.

A source close to the deal said it included about $155 million in debt, bringing the total value to $2.1 billion, the figure cited by the companies.

Excluding one-time charges, IHOP expects the transaction to add to earnings beginning in 2008.

IHOP, with its market capitalization of $980.6 million, according to Reuters data, is using securitized debt backed mostly by Applebee's assets to fund the purchase of the much larger company, whose market value is $1.82 billion.

IHOP said it plans to sell, and then lease back, the real estate of Applebee's 508 company-owned restaurants to raise cash to help pay down the debt.

The pancake chain operator, which franchises almost all of its restaurants, said it believes it can cut costs and re-energize the struggling bar-and-grill chain by franchising most of the restaurants Applebee's still owns.

Applebee's, whose shares were up nearly 2 percent, also has about 1,400 franchised restaurants.

"We will fundamentally change (Applebee's) business model, moving it nearly completely out of the role of owner/operator to one that is predominantly a franchisor," said IHOP Chief Executive Julia Stewart, a former Applebee's president.

"In doing so, we believe over time we will create a business model with a lower-risk profile and superior cash-flow characteristics."

IHOP expects to realize cost savings of about $50 million a year.


Morgan Keegan analyst Bob Derrington said the purchase price was within his fair value estimate for Applebee's. At 10 times trailing earnings before interest, taxes, depreciation and amortization, he said it was in line with the multiple recently paid for the Outback Steakhouse chain.

Applebee's has been hit hard by weakened consumer spending and stiff competition from rivals, as well as efforts by grocery stores to sell more prepared meals.

IHOP said it believes sales at restaurants open at least 18 months, a closely watched metric, can increase 2 percent to 3 percent a year once its plan is in place. In the latest quarter same-store sales fell 4 percent due to sluggish customer traffic.

Derrington said Stewart's good track record at IHOP earned her the benefit of the doubt, but he was cautious about the probability of success.

"Can they fix the brand? Can they make it dynamic and grow the concept? I think (Stewart) has some ideas, but a logical person would be skeptical, given how the company has struggled over the last couple of years," Derrington said.

IHOP said it will cease developing new company-owned restaurants, and is aiming for worldwide franchisees to open 30 to 45 new restaurants over the next three to five years.

Its target is to have company-owned restaurants make up less than 5 percent of the total.

Greenhill & Co. advised IHOP and Banc of America Securities advised Applebee's on the deal, which is expected to close in the fourth quarter of 2007.

Derrington said the distant closing date was part of the reason Applebee's shares rose a modest 48 cents on Monday to $24.86 on the Nasdaq.

"As time goes by and the certainty of the deal gets higher, I expect the stock price will get closer to the $25.50 target price," Derrington said, adding that part of IHOP shares' big jump was likely due to short sellers covering positions.

IHOP shares were up $5.29, or 9.4 percent, at $61.54 on the New York Stock Exchange, after rising as high as $63.30 earlier in the session.