Sales at Olive Garden Are Plummeting. Why Is the Chain Struggling, and Will It Survive?


Companies are run by people. And people don't like to take responsibility.

Exhibit one: Olive Garden.

At the beginning of last week, the popular Italian eatery reported its worst quarterly performance in more than two decades, saying that same-store sales plummeted by 5.4% in the three months ended Feb. 23.

The reason?

According to executives at parent company Darden Restaurants , it largely had to do with the weather.

"During our fiscal third quarter, underlying conditions in our industry continue to be challenging," said Darden CEO Clarence Otis. "And on top of that, both the industry and our brands were hit with unusually severe winter weather in much of the country."

Fair enough.

Darden isn't alone in blaming the elements for its troubles. Ford did. The housing industry did. And even the chairwoman of the Federal Reserve did, telling Congress that the economy isn't bad, just the weather.

But is this true? Is the environment really to blame for Olive Garden's current travails?

The answer is no. The real culprit is Olive Garden itself, and its lack of flexibility in a shifting industry.

Take a look at the following chart, in which I've separated the chain's quarterly same-store sales performances into four different time periods corresponding roughly to (I) pre-recession, (II) recession, (III) post-recession, and (IV) the last three-odd years.

As you can see, Olive Garden went into the financial crisis in good shape. It recorded impressive same-store sales in the third and fourth quarters of 2008. And its performance in the second quarter of 2009 amounted to the company's 57th consecutive quarter of comparable-store sales growth.

This streak came to a halt with the onset of the crisis the following quarter -- for the sake of clarity, the graph corresponds to Darden's fiscal year, which essentially begins in June, as opposed to the calendar year.

The next six quarters, in turn, were characterized by contraction; the sole exception was the third quarter of 2010. But given the severity of the crisis, Olive Garden's performance during that period shouldn't come as a surprise.

What also shouldn't be surprising is the chain's recovery in the first half of 2011, when same-store sales returned to positive territory. And even the latter half of 2011 when comps were flat isn't unusual given the strong results in the third quarter of 2010.

It's after this, however, that things appear to have fallen apart -- and surprisingly so, given the absence of an obvious catalyst.

As you can see, Olive Garden's same-store sales have now dropped in eight of the last 11 quarters. Thus, while the record 5.4% decline in the most recent three-month stretch was certainly abominable, it's hardly an outlier.

So what's going on here?

The answer appears to be twofold.

In the first case, there's more competition in the food service industry. Chipotle Mexican Grill is continuing its breathtaking expansion, as are both Panera Bread and Noodles & Company.

On top of this, a host of new competitors have taken to the public equity markets over the last few years to fill their coffers and power growth -- Potbelly comes to mind.

In the second case, which is certainly related to the first, it seems beyond dispute that the casual-dining concept is being replaced to a large extent by fast-casual operations like those above, which take less time and don't require customers to tip.

This is what Darden's CEO was referring to when he noted earlier this week, "We certainly recognize that industry dynamics have changed considerably over past two years."

Thus, to bring the conversation full circle, Olive Garden's problems aren't new. As the chart shows, they date back to the beginning of 2012. And, more important, they appear to stem from a paradigm shift in consumer preferences as opposed to a temporary stretch of inclement weather.

This is ominous news for shareholders in Darden -- or, for that matter, any other casual-dining company. Can the restaurant giant battle back? Perhaps, but it'll have to go beyond free breadsticks to do so.

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John Maxfield has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Chipotle Mexican Grill, Ford, and Panera Bread. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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