I don’t know if you caught the news in between the Dow flirting with 14,000 and Bear Stearns finally acknowledging the meltdown of two of its hedge funds, but IHOP announced yesterday that it would purchase Applebee’s in an all cash deal worth about $1.9 billion ($2.1 billion if you throw in the additional debt they will assume). These days, a deal of this size is really just a ho-hum deal, so I wouldn’t be surprised if it didn’t cross your radar screen. But I found this deal interesting.

There are many levels at which you can analyze this deal. You can look at it from a business strategy perspective to gauge whether the two companies fit. You could object to the deal on the grounds that IHOP is a down-market brand and they are acquiring a more up-market player (although it’s unclear how much more up-market Applebee’s is…). Integrating up-market and down-market brands can be extremely difficult – just ask the folks at Daimler and Chrysler.

You could look at this deal from a business portfolio perspective. In that sense, you might point to the complementarities in product offerings (hence the title). This pairs a traditional breakfast joint (and late-nite munchy joint) together with a lunch and dinner venue. Not sure what kind of specific synergies this might generate (I haven’t thought about it long enough), but it certainly rounds out the firm’s product portfolio.

Don’t get me wrong, there are some synergies here to be gained – common management of franchisees and franchising contracts, shared supply chain and supply chain management, scale economies in purchases and sales (marketing and advertising), etc. Are these synergies enough to overcome the premium paid of around 4.5%? It’s too early to tell.

However, for those of you who know me, you know that I’m less concerned with the ability to generate synergies that help offset the premium paid, and more concerned with the ability to keep integration costs under control.

The potential to achieve synergies in such deals usually exists. The real battle is in achieving them. That happens during integration.

Which brings me back to the what’s interesting about this acquisition. Specifically, the current CEO of IHOP (Julia Stewart) used to be the President of Applebee’s domestic operations. She spent 4 years in that role. Now I’m not sure how many employees Ms. Stewart brought with her when she left Applebee’s for IHOP (that would be interesting to know), but even if she didn’t bring any, she likely still has an incredibly detailed understanding of Applebee’s operations. Think about the ex ante benefits in due diligence, and the ex post benefits to the development and execution of an integration plan. What more could you ask for to help an integration process run smoothly?

As I’ve said in the past, you can get a sense (not a perfect predictor by any means of course, but not a bad one either) of the future success or failure of a deal based on the reaction of the equity markets to the announcement. If the equity market reaction to this deal is any indication, this should be a swimming success. Applebee’s shares rose 2.2% (after having received an offer with an attached premium of 4.5%) while IHOP’s shares rose 8.9%. Although a 2.2% bump on a 4.5% premium offered is not very impressive, likely reflecting that the market isn’t convinced that the deal will go through, the 8.9% bump is pretty impressive for IHOP. It’s even more impressive when you think that at the very least IHOP is transferring cash that belongs to its shareholders to the shareholders of Applebee’s.

My take is that part of that bump in IHOP’s share price is a result of the spot on assessment of the value that Ms. Stewart brings to the integration of these two firms. I bet that the bump would be much less had IHOP announced the acquisition of any other restaurateur. Might the share price appreciation also have something to do with the 4.5% premium that IHOP paid, which is less than the industry average? Maybe, but given the recent, and expected, slowdown in the restaurant industry as consumer spending declines, I’ll go with the former.

This entry was posted on Tuesday, July 17th, 2007 at 7:22 pm and is filed under Corporate Strategy. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.