You could be forgiven for having overlooked the proxy contest at $650 million market cap Fiesta Restaurant Group, operator of just over 340 restaurants in five southern states, although given it’s Cinco de Mayo today, a shout-out for its Taco Cabana brand seems appropriate.

A couple of things make this situation worthy of a closer look, however, as the company hurtles towards its June 7 proxy contest with JCP Investment Management. First, cooking chicken is currently a rough business with inflation in poultry prices and the restaurant industry as a whole is struggling – Buffalo Wild Wings, Chipotle Mexican Grill, BJ’s Restaurants and Panera Bread are just some of the dozen or so recent targets in the sector – and Fiesta had also briefly attracted the eye of Starboard Value analysts.

Fiesta Restaurant Group

Fiesta Restaurant Group

 

Second is the pace of change that has occurred since the beginning of the engagement. Proxy statements filed by each camp suggest JCP first made contact in July last year, before opening a dialogue with then-CEO Timothy Taft on August 9. Two weeks later, Taft said he would retire at the end of 2016 – a date that was rapidly moved forward to the end of September as JCP crossed the 5% threshold and sought a settlement for board seats.

Since then, the company has appointed a new CEO (Richard Stockinger, who once led Benihana) and a chairman, Stacey Rauch, who is the former head of McKinsey’s head of North American Retail and Apparel. It also reportedly explored and ruled out selling itself, said it will close around 40 restaurants and added a further two independent board members. Despite a heavy sell-off in March, the stock is up around 7% since August 9 – a development both sides will probably seek to claim credit for.

Fiesta’s response to the threat posed by JCP is far from foolish. The activist has a won one, lost one record in proxy contests, but has also joined four boards without a fight. Moreover, it has a little help from its friends. Invested in Fiesta alongside the fund and its founder James Pappas – scion of another Texan restaurant family – are usual suspects Joshua Schechter and Bradley Radoff, plus Bandera Partners (the fund of Dear Chairman author Jeff Gramm) and Thomas Purcell – the former co-chief investment officer of Viking Investors. Together the group owns 8.4% of the stock, making it the third largest investor behind Wasatch Advisors and BlackRock.

Moreover, with earnings falling 56% between 2015 and 2016, only a major revamp will do. As a recent Wells Fargo analyst report pointed out, Fiesta’s growth strategy has left it with a stagnant sales-to-cash investment ratio, only marginally better than Buffalo Wild Wings’.

A difficulty for Fiesta will be making the contest a referendum on the future, rather than on the past. None of the three new directors are up for election to the staggered board this year, and JCP is basing its campaign on historical performance, as well as the fact that the two directors it is seeking to replace were nominated by Jeffries Capital prior to Fiesta’s being spun-off from Carrol’s Restaurant Group in 2012. As at Buffalo Wild Wings, the company’s low rate of franchising is also an issue.

Jeffries had sold its stake but its parent company, Leucadia, recently bought slightly over a million shares (almost 4%) and JCP reckons it still has “outsized influence.” The conflict may not be all that strong, but it could rile disappointed shareholders. Meanwhile, Fiesta has suggested that its concerns over adding Pappas to the board stem from the failure of Jamba – whose board Pappas also sits on – to file its 10-K. Neither issue is likely to be decisive, but if the contest is close you’ll hear more about them.

Article by Activist Insights