IHOP CEO faces another tough order to buy, rejuvenate Applebee's

KANSAS CITY, Mo. -- When Julia Stewart took over at pancake house operator IHOP Corp. more than five years ago, she faced the widespread belief she had just doomed her career.

"I always kind of smile because when I first came here everybody said, 'Oh, the family dining category is dead and you've gone to work for a dying category and a dying chain,"' said Stewart, the Glendale, Calif.-based company's chairwoman and chief executive.

Instead, Stewart, with the help of her management team and the chain's many franchisees, was able to reinvigorate the almost 50-year-old brand, selling most of its company-owned stores, updating the menu and turning around falling same-store sales.

Last year, the chain's annual profits rose 1.4 percent to $44.6 million on $349.6 million in revenue, and sales in restaurants open at least a year increased 2.5 percent. IHOP's stock is up 29 percent from the beginning of the year, and up 114 percent from when Stewart took over in May 2002.

But Stewart faces the same critical looks today as IHOP proposes to purchase Applebee's International Inc. for $2.1 billion, acquiring a much larger restaurant chain that's also become a harbinger of doom for the casual dining industry.

Applebee's, based in Overland Park, Kan., reported a 20.5 percent decline in annual profits last year on $1.3 billion in revenue as same-store sales dipped 0.6 percent. During its most recent quarter, the company said same-store sales were down 2.5 percent and profits were off 29 percent as a combination of high fuel prices and changing consumer behavior has left restaurant dining rooms empty. Other than a brief surge about the time the acquisition was announced, Applebee's stock has remained around $24 for most of the past year.

The company said Thursday it has scheduled a shareholder vote on the proposed sale to IHOP for Oct. 30.

Assuming the acquisition takes place -- a big "if" as the deal is attracting criticism from Applebee's shareholders, including five members of the company's board of directors -- Stewart said she envisions a similar triage to what saved IHOP.

She wants to sell most of Applebee's company-owned stores to franchisees and rejuvenate the company's look and menu to make it stand out from its brethren in the "bar and grill" category.

"What makes Applebee's unique? That's what we've got to market and communicate effectively to guests and execute it, and that's the plan," she said.

Applebee's, like IHOP, is a brand intrinsically woven into the American consciousness by its sheer size -- almost 2,000 units in cities big and small.

But familiarity has bred contempt. While the current economic malaise has struck virtually all the casual dining sector, it has seemed especially virulent with Applebee's, a problem critics blame largely on the menu and the chain's outdated look. By contrast, Darden Restaurants' Red Lobster and Olive Garden chains have enjoyed a resurgence after changing their focus to more fresh items and remodeling their dining rooms.

"Consumers have moved to more differentiated venues. I think the sea of sameness has worked against (Applebee's)," said Ron Paul, president of Chicago-based Technomic Inc., a research and consulting firm that serves the food industry.

Industry observers give Stewart, who served as president of Applebee's domestic operations before coming to IHOP, better-than-average chances for resurrecting the chain, saying that her strength has always been in marketing.

"She understood the power of marketing on a large scale," said Malcolm Knapp, president of the New York-based restaurant industry consulting company Malcolm M. Knapp Inc. "There's a pattern of things you do with a brand with issues. You start with operations and then move to the food platform. Then you can look at the brand and say, 'Do I need to change my message and what I stand for?"'

Stewart has been tight-lipped about her exact plans to change Applebee's image, saying she wants to complete the transaction and then spend some time getting to understand the company's problems. She said that process will run parallel to the sale of most of the 500 company-owned stores at a rate of 40 per quarter, a process that could take until 2010 to complete thoughtfully.

"But absolutely from day one we intend to be working on the brand work," she said. "That's critical."

Stewart also said she'll need the support and guidance of Applebee's network of franchisees, a process she used to great effect during her initial years at IHOP.

Bob Leonard, president of Sunshine Restaurant Partners, which operates the 147 IHOP restaurants in Florida, is chairman of IHOP's franchisee board of advisers.

Leonard said the board spent about a quarter of its time in Stewart's first year helping her get up to speed, weighing in on marketing changes and giving her a general education in how the chain had developed.

"We took what would have been a two- to three-year learning curve, took a lot of potential mistakes out of the learning curve and both sides benefited from it," he said.

He said Stewart still consults with the board frequently, a franchisee-franchiser relationship he said would serve her well in pulling Applebee's together.

"The reality is our chain at 49 years old is relevant and moving forward and has a bright future in front of it still," he said.

Whether the sale happens is still unknown. Under the deal, Applebee's shareholders would receive $25.50 in cash, which some shareholders have said is too low.

Sardar Biglari, whose Lion Fund LP owns about 1 million shares, has said he'll vote against the sale, and the New Jersey Building Laborers Pension and Annuity Funds has filed suit in Delaware state court to block the deal.

Earlier this month, a securities filing detailing the process that led to the sale being proposed showed that five of the company's 14 directors voted against the deal.

The five members, including CEO Dave Goebel and Chairman Lloyd Hill, also said the deal wouldn't sufficiently benefit shareholders and had pushed for keeping the company independent but changing its strategy to refranchise its company stores.

Stewart and her team are working under the assumption the sale will close in the fourth quarter, looking for ways to save costs by combining some business operations. But she said she will keep the two restaurant chains apart, even leaving Applebee's company headquarters in Kansas for now.

"I really see them as very uniquely different and really specializing in their particular areas," she said. "The things that the consumer sees and touches, we're keeping them very separate."