Ruth's Hospitality Group, Inc.
Q3 2015 Earnings Call Transcript

Published: 30 Oct 2015

[Operator:]

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to today's Ruth's Hospitality Group, Inc. Third Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following the formal remarks, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions. As a reminder, today's conference call is being recorded. I would now like to turn the conference over to Mark Taylor, Vice President of Financial Planning and Analysis. Please go ahead, sir.

[Mark Taylor:]

Thank you, Deanna, and good morning, everyone. Joining me on the call today is, Michael O’Donnell, Chairman and Chief Executive Officer; and Arne Haak, Executive Vice President and Chief Financial Officer of Ruth's Hospitality Group. Before we begin, I'd like to remind you that part of our discussion today will include forward-looking statements. These statements are not guarantees of our future performance, and therefore, undue reliance should not be placed upon them. We would like to refer you to the Investor Relations section of our Web site at rhgi.com as well as the SEC's Web site at sec.gov for copies of today's earnings press release and our recent filings with the SEC for a more detailed discussion of the risks that could impact our future operating and financial results. I would now like to turn the call over to our Chairman, President and CEO, Mike O'Donnell.

[Michael O'Donnell:]

Thanks, Mark, and thank you all for joining us on the call today. We are pleased to report third quarter results, which demonstrated continuation of our strong operating momentum. Our total revenues grew 8.8% reflecting the impact of our new store openings as well as our continued same-store sales growth. Our income from continuing operations increased by 20% due to growth in revenues, margin expansion, driven by improvements in both food and operating costs. Our earnings per share from continuing operations increased by 23.4% showing the impact of our ongoing share repurchase plan. Comparable store sales growth increased 3.3% in the quarter and was consistent across the three months. Our comparable traffic was slightly negative, down 0.5 percentage point year-over-year. This trend has rebounded in the fourth quarter, as traffic has turned positive in the low-single digit range. Our sales remain positive in the low-to-mid single digit range, however, the pace of sales growth is anticipated to slow this weekend, due to the shift of Halloween to Saturday this year. As many of you know, we celebrated our 50th anniversary earlier this year and just last weekend, we were honored by the James Beard Foundation with a dinner at the James Beard House. The success we’ve had over the last 50 years has been accomplished by staying true to the timeless formula of our founder, Ruth Fertel. This formula is based on offering the highest quality food, beverage and service and a warm and inviting atmosphere. However, our success would not be possible without the support of our outstanding team members and our franchise partners who remain the heart and soul of our business. We continue to move ahead with Ruth’s 2.0, which is our initiative to continue to evolve our menu, operations and facilities ensuring that Ruth’s Chris Steak House experience stays relevant for our guests now and in the future. Earlier this year, we conducted an initial menu test as part of the Ruth’s 2.0 ongoing menu refresh. It included several new menu items, many of which were premium offerings. The test was successful. These new menu items are appealing to both our current loyal guests as well as the next generation of guests without adding operational complexity. We subsequently rolled the new menu out to an additional 43 locations bringing the total number of locations featuring the new items to 52 at the end of the third quarter. We will continue to expand this menu initiative to an additional eight restaurants in the fourth quarter and to all remaining corporate locations in the first quarter of 2016. Our franchisees have also begun introducing the new menu. We expect 10 franchised restaurants to be offering these new menu items by the end of the fourth quarter with the balance to follow in the first half of 2016. During the quarter, we also made progress on Ruth’s 2.0 facility remodel initiative. As we have discussed, this remodel program is a dynamic three to five-year initiative designed to enhance our guest experience and potentially expand our capacity. In the Ruth’s 2.0 design, we brought in some of the elements from our recent successful openings like bar areas that encourage our Sizzle, Swizzle, and Swirl Happy Hour and full entrée dining. We have also incorporated timelessly elegant dining rooms and enhanced private dining spaces. In summary, we are very pleased with the progress so far on the Ruth’s 2.0 initiative. We completed our first two remodels at company locations during the third quarter. We’re working on another three to five restaurants and expect to have seven restaurants completed by the end of this year. On the development front, our second Dallas location is set to open next week and completes our openings for 2015. This restaurant showcases the Ruth’s 2.0 design elements and is located in the uptown Dallas area. We currently have three signed leases for new company-owned Ruth’s Chris Steak Houses in 2016. This includes Albuquerque, New Mexico, which we anticipate to open in the first half of next year followed by locations in Cleveland, Ohio and El Paso, Texas, which we expect to open in the back half of 2016. On the franchise side of the business, there are two restaurants currently under construction. San Antonio, Texas is expected to open during the fourth quarter of this year and marks our third and final opening by franchised partners in 2015. A location in Jakarta, Indonesia is also under construction and expected to open in the first quarter of 2016. Additionally, our franchise partners in both Philadelphia and Mississauga, Canada will relocate their existing restaurants in the second half of 2016. During the third quarter, we continued to execute on our plan of returning capital to the shareholders in a balanced manner complementing our organic growth initiatives. We repurchased 402,000 shares in the quarter and our dividend is 20% higher than in the prior year period. We believe that our ability to consistently return capital to our shareholders while supporting organic growth is a true testament to the strength and consistency of our brands and operations. Now I would now like to turn the call over to Arne who will discuss our third quarter results in more detail and give you an update on our full year guidance.

[Arne Haak:]

Thanks, Mike. For the third quarter ended September 27, 2015, we reported income from continuing operations of $2.6 million or $0.08 per diluted share on a base of 34.3 million shares. This compares to net income from continuing operations of 2.2 million or $0.06 per diluted share in the third quarter of 2014. In the third quarter, total company-owned restaurant sales were $75.2 million, an increase of 8.6% from $69.3 million last year. The growth was driven by a 3.3% increase in comparable restaurant sales, which consisted of a 3.8% increase in average check and 0.5% decrease in traffic. As Mike noted, comparable restaurant sales were positive in each month and consistent across the three periods. Average weekly sales for company-owned restaurants were $87.7 thousand in the third quarter, an increase of 3.7% compared to the $84.6 thousand in the third quarter of last year. Total operating weeks for company-owned restaurants were 858 in the third quarter, up 4.8% year-over-year from 819 in the third quarter of 2014. Franchise income was $4 million in the third quarter of 2015, up 12.7% from the $3.5 million in the third quarter of last year. Comparable sales in our domestic franchise restaurants exhibited similar trends to our company stores and grew 0.6% during the quarter. Comparable sales in our international franchise restaurants declined by 12.2% and continue to be negatively impacted by a stronger U.S. dollar. Excluding the impact of foreign currency translation, international comparable sales would have declined 2.6% and total franchise comparable sales would have been up 2.7%. For the third quarter, total revenues increased 8.8% year-over-year to $80.3 million. Now, turning to our costs, food and beverage costs as a percentage of restaurant sales decreased by 48 basis points year-over-year to 31.5%. This improvement in cost was primarily due to a 3.8% increase in average check, which was partially offset by a 3.1% increase in total beef costs. For the fourth quarter, beef cost are currently trending down, approximately 1% year-over-year and as of today, we anticipate 2% to 3% beef cost deflation for the fourth quarter. Restaurant operating expenses as a percentage of restaurant sales decreased by 149 basis points year-over-year to 52.3%. Similar to the second quarter, the decrease was primarily driven by leverage from higher sales and lower healthcare claims versus the prior year period. Marketing and advertising costs as a percentage of total revenues increased by 20 basis points year-over-year to 2.9%. This increase was due to a planned timing shift in quarterly advertising spend. Our G&A expenses, as a percentage of total revenues increased by 200 basis points year-over-year to 9.3%, primarily driven by an increase in performance-based compensation expense. This brings our year-to-date G&A expenses as a percentage of total revenues to 7.9%. During the third quarter, we repurchased 402,000 shares of stock for $6.4 million on our previously announced $50 million share repurchase authorization. Since the beginning of 2014, we have repurchased 2 million shares for $27.1 million. At the end of the third quarter, we had $33.2 million remaining on our current authorization. At the end of the third quarter, we had $5 million in debt outstanding under our senior credit facility, which was driven by $6.4 million in share repurchases and $2.3 million in CapEx related to the construction of new restaurants. Finally, subsequent to the end of the second quarter, our Board of Directors approved the payment of a quarterly cash dividend of $0.06 to shareholders, representing a 20% increase from the dividend paid in the fourth quarter of 2014. This dividend will be paid on December 3, 2015 to common shareholders of record as of the close of business on November 19, 2015. Now, I’d like to update our outlook for the year for some of our key cost metrics. Overall, we now expect our cost of goods sold to be in the range of 31% to 31.8% of restaurant sales. We continue to expect restaurant operating expenses to range between 46.5% and 48.5% of restaurant sales. We continue to expect marketing and advertising costs to be between 2.9% to 3.1% of total revenues. G&A expenses are now projected to be between $28 million and $30.5 million driven by increased performance-based compensation and recently issued long-term retention-based stock grants that will vest over the next three to six years. We now expect an effective tax rate of 32% to 34%. Capital expenditures in 2015 are now projected to be between $19 million and $21 million. Lastly, we now expect our fully diluted shares outstanding to be between 34.4 million and 34.6 million for the full year, exclusive of any share additional repurchases under the company’s previously announced share repurchase program. With that, Deanna, I’d now like to turn the call over for any questions that we might have.

[Operator:]

Thank you, sir. [Operator Instructions]. We’ll go first to Brett Levy of Deutsche Bank.

[Brett Levy:]

Good morning, gentlemen.

[Michael O’Donnell:]

Good morning, Brett.

[Brett Levy:]

A couple of questions for you. I guess we’ll start with on the new menu that you’ve introduced, what are you seeing in terms of additional check driving?

[Arne Haak:]

Brett, I think we’re pleased with the results. It’s showing up with good preference for our guests. It doesn’t appear to be driving operational complexity for us. And it does appear to be increasing our check mix. However, I think it’s still too early for us to accurately put a number on whether it is driving more traffic or what the exact check is going to be. Cheryl, do you want to add anything to that?

[Cheryl Henry:]

No, I think that’s right, Arne. I think what we’re seeing and one of the things that we’re really looking to do is as we replace some items on the menu, make sure that the guests – it had the guest appeal that we’re looking for in us doing that.

[Michael O’Donnell:]

That, by the way, is Cheryl Henry, our Chief Branding Officer.

[Brett Levy:]

Can you quantify anything more on the new and the remodeled 2.0s in terms of your spend, in terms of any sales lift?

[Arne Haak:]

Look, we’ve done two locations and they’re very, very different. One is more of a defensive remodel in a highly competitive trade area and the other one is Weehawken, which is probably the most offensive in terms of how much capacity we added. We took additional space and built a bigger bar and private dining. So I don’t think there’s anything there to take away and translate into where the program’s going.

[Brett Levy:]

What was your price in the quarter and what are your expectations by quarter for 2016?

[Arne Haak:]

The price for the quarter was about 3%, so you can see a little bit there, there’s some mix improvement in the third quarter of this year. In the fourth quarter, we have about 2% in the menu right now. Obviously, it’s lathered on for the full year and it will be slightly below 2% if we don’t do anything else for next year.

[Brett Levy:]

And I guess just one final question. Within the G&A, can you break out what you saw in terms of the retention as well as what you saw in terms of the incentive comp and how we should think about the fourth quarter?

[Arne Haak:]

Sure. We tried to give you guidance on it. We’ve upped the range. A big part of the way the performance compensation for the whole company is structured is around is the company achieving good results. So last year was not a stronger year and we saw G&A compressed. This year, we’re having a good year and you see it moving forward. The biggest piece of it is the bonus plan and that is well over half of what – and that goes everywhere from restaurants all the way down to the home office, all the administrative people in the home office. The other part of it is what we talked about is the share grant. I think we detailed those for you back in the third quarter and the expense that you’re carrying forward there. But it’s the bonus plan and how it moves. If you look back like two years ago, you’ll see a similar phenomenon that happened. The G&A kind of grew as the company’s earnings grew through the year.

[Brett Levy:]

And I guess just one last technical question. What was the driver of the acceleration in tax rate?

[Arne Haak:]

The biggest variable there is a FICA tip credit, so as minimum rates change, as states change their approach to FICA tip credits and also the percentage of dining that comes through private dining, if it’s a fixed gratuity, we can’t use that towards our FICA tip credit. So all of those can move around and affect your tax rates.

[Brett Levy:]

Great. I’ll leave some room for the others. Have a great weekend, everyone.

[Michael O’Donnell:]

Thank you.

[Operator:]

Thank you. We’ll go next to Nicole Miller of Piper Jaffray.

[Nicole Miller:]

Thanks. Good morning. A couple of quick ones. Can you explicitly define the – you said average check increase of 3.8. Is that all price or is there some mix in there as well?

[Arne Haak:]

There’s mix as well. It’s about 3% of it was what was actually priced on the menu if mix didn’t change.

[Nicole Miller:]

Okay, so mix is up just slightly.

[Arne Haak:]

Yes.

[Nicole Miller:]

The 0.8 just so I’m clear is mix. Okay, great.

[Arne Haak:]

Nicole, a lot of it’s – you can think about it a couple of ways. Some of it can be menu preference and some of it can be type of guests. So, our private dining business is actually running very strong right now and that tends to come with a higher average check. So, as we see growth in private dining that can also affect mix as well. So it’s not all just 2.0 and buying a Tomahawk steak.

[Nicole Miller:]

Got it. Thank you. And then what might be a reasonable beef outlook for next year? I was thinking models that would be maybe down low-single digit for beef, maybe it’s more as you exit the year, but I’m not sure? Is that right?

[Arne Haak:]

I don’t know. We obviously don’t have any formal guidance on where we expect beef prices to be in 2016. What we have seen is this year has been a very favorable year in terms of inflation year-to-date. I think our prices are down 2%, which is in large part due to the percentage of cattle that are grading prime. And so it’s been running 4% to 5% and historically it runs 2% to 3%. So while I think the experts are calling and I know you look at – you have to look at the whole broad spectrum of beef. We look at prime beef and just the top end of the highest quality beef. The herd is expected to increase, slaughter is expected to increase. I think broadly, cattle prices are expected to be flat to down. The big question for us is, is this increase in the percentage of beef that is prime sustainable, because if that changes, we can move differently from the broad cattle market. But right now it looks good. We feel comfortable about the fourth quarter. We expect it to be down in the fourth quarter.

[Nicole Miller:]

And then just the last one for me, how are you going to capitalize on the remodels? I know it’s only two but it seems like you had last year celebrating 50 years and you could play on the strength of that and now kind of a brand refresh. So, should we expect a marketing refresh or message change as well or is it more just trial and error as customers come into these remodeled stores and they’ll understand the new look? Thanks.

[Cheryl Henry:]

Hi, Nicole. It’s Cheryl. We are in simultaneous as we launch the remodel program, also a new advertising campaign but really what it gives us the opportunity to do is focus on the local market. So to your point, as we refresh these restaurants, we’ll be speaking to the local markets and making some noise in the markets around what we now offer.

[Nicole Miller:]

Thank you.

[Michael O’Donnell:]

Thanks, Nicole.

[Arne Haak:]

Thanks, Nicole.

[Operator:]

Thank you. We’ll go next to Andrew Barish of Jefferies.

[Andrew Barish:]

Hi. Good morning, guys. Are you contracted on anything with beef right now or are you just buying in the open market?

[Arne Haak:]

We’ve been in the open market all year. We continue to have conversations with our suppliers but our decision to ride the market this year was clearly a good one. We’ll continue to talk to them if we can find a price that’s mutually agreeable. I can certainly see that we would take a percentage of our beef and contract it. But we don’t have any anxiety either about continuing to buy at the market.

[Andrew Barish:]

And what do you think is going on with the traffic numbers this year? I mean you had some weather early in the year and then got back slightly positive and then slightly negative here in the 3Q. What do you see happening out there? Is it some of the corporate spending starting to come in or your business travel slowing down a little bit? What do you think is going on with the traffic numbers?

[Arne Haak:]

I think across the whole industry, you’ve seen that traffic is a bit mixed this whole year. Our traffic was modestly negative in the quarter and while it’s actually improving, October is off to a good start. So we’ve seen it – it kind of got better while they were all slightly negative, they all were getting a little bit better. You do see some pockets of weakness. And it’s hard to say that – and hopefully this isn’t something that’s spreading but you see it certainly in some of the Texas oil markets where business is being affected there. You see it in some of the major metropolitan areas where you have more tourism or people coming in the dollars stronger, places like New York, you’re seeing it. We have the nice benefit of – at the same time, we look at other parts of our portfolio and it’s nice to have a large portfolio of restaurants, and so we can see that. And there are places that are doing really, really well. So I think there’s pockets of it. But just from a geography perspective is mix as well.

[Michael O’Donnell:]

Andy, this is Mike. We have stayed very true to our message and have not been in the discount business. Some of our competitors have been far more aggressive around sort of a discounting strategy. And I think we’ve seen a little bit of that showing up in some of the markets. But as Arne said, we’re seeing a strong October and we think we’re going to have a very good fourth quarter and holiday season. Our early bookings for holiday season look very good, so we’re very excited about it.

[Andrew Barish:]

Great. And then just lastly on the number of 2.0 remodels for next year, what are you thinking as you wrap up your plan for '16 in terms of number of units?

[Arne Haak:]

Andy, it’s dynamic would probably be the word that I would use to describe it. Probably 7 to 10, 8 to 10, it will depend – we’re going to work around kind of new restaurant builds and so that gets first priority and then we’ll work those in around that.

[Michael O’Donnell:]

Andy, as you know, we don’t quote, so we have to pick and choose where we think the restaurants are going to be on the slower side. The fourth quarter is always very busy for us and so is the first quarter of the year. So if we get kind of movement around some of the buy-ins and make sure that we’re making it as easy as possible on the restaurants.

[Andrew Barish:]

Thank you.

[Arne Haak:]

Thanks, Andy.

[Michael O’Donnell:]

Sure.

[Operator:]

Thank you. [Operator Instructions]. We’ll go next to Brian Vaccaro of Raymond James.

[Brian Vaccaro:]

Good morning and thanks for taking my questions. Arne, can you give a little – I appreciate the regional comp color there. Can you talk about those – just give us a quick take on California and Florida, two of your largest, on the company side?

[Arne Haak:]

They’re both very good. I hate to say it is generic of that, but they are two of the stronger markets across our system.

[Brian Vaccaro:]

Okay, all right. And can you quantify over on the private dining side, you said private dining was quite good in the third quarter. Can you give us a sense of what your private dining sales were up year-on-year in the third quarter?

[Arne Haak:]

I don’t think we disclosed that but I will tell you it’s running ahead of what the comp sales were. So that business is running stronger than the comp sale trend.

[Brian Vaccaro:]

Okay, all right. And you said the bookings were positive thus far in fourth quarter bookings so far, okay. I guess --

[Arne Haak:]

No, go ahead. That’s fine.

[Brian Vaccaro:]

Shifting over to beef, can you just talk about choice versus prime differences in the third quarter and kind of similar dynamic in the fourth quarter?

[Arne Haak:]

If you look at it all year and this goes to the point on the percentage of prime beef that’s grading in its prime, if you look at the full year, it’s as if you’ve always seen that fillets have been running higher and that trend continued in the third quarter. So while we saw roughly 3% increase in beef cost, our fillets, which are the upper end of choice and prime were up 7% while our prime cuts were actually down. So, we’ll see how that plays out. If the grading stays strong, that helps the prime cuts. If the size of the herd and the supply of beef gets better, that should help the fillets. So we’ll keep an eye on it and we’re obviously rooting for down prices.

[Brian Vaccaro:]

Yes. And I guess on the non-beef side, it looks like – just looking at your reported margin this quarter, you said – your food cost ratio, I should say, being down 50 basis points with beef down 3%. Maybe give a little color on the non-beef basket if you could and sort of what you’re thinking as you move into '16 on the non-beef side?

[Arne Haak:]

Sure. Just a point of clarification, our beef was actually up 3%. I think you said down 3%. So our beef was up 3%. As you look at the commodity basket in the quarter, we ran right around 2% inflation. So if you take out beef, 40% of it at 3%, you can see there is some inflation in other places. I think the place where you’re seeing it but the biggest dollar impact has been beef. The other places where we’re seeing it, I think you’re seeing some of it in produce has been another area that was challenging. But for the year, it’s been – this year it’s been a pretty good year. I think overall we’re running flattish, up 1% in terms of the whole commodity basket. So that’s good. For next year, I think it’s still too early to give a strong opinion. I think it looks – there will be pluses and minuses. The biggest one that we’re focused on is beef. I think that’s – beef and probably some of the higher end seafood and lobster, but beef is the one that we got our eyes on.

[Brian Vaccaro:]

Okay, all right. Yes, sorry I misspoke on the decline --

[Arne Haak:]

That’s okay.

[Brian Vaccaro:]

Last thing just on the – one last nitpick. On the other OpEx line in the third quarter, can you help us with the magnitude of the claims shift or the lower claims, just how much of a benefit that was?

[Arne Haak:]

Brian, I can follow up with you offline. I don’t have it in front of me. It’s a similar trend that we’ve seen all year.

[Brian Vaccaro:]

Okay.

[Arne Haak:]

And I think our Q will be coming out this afternoon, there will be some color there as well.

[Brian Vaccaro:]

Got you. Thank you.

[Michael O’Donnell:]

Sure.

[Operator:]

Thank you. We’ll take our next question from Kieran McCabe of Sidoti & Company.

[Kieran McCabe:]

Great. Thank you. I guess part of my question has been answered a bit but maybe a little further color on sort of the geography – strengthened geography or weakness in other areas like you mentioning maybe Texas and New York being kind of weak but very strong in California and Florida. I guess my question kind of goes to the psychological impact of some of the weaker pockets, is there any concern that those places that are stronger may be impacted by some psychological impacts? And has there been any kind of thing historically if you look back where you’ve had weakness in one area but strength in another?

[Michael O’Donnell:]

Let me try and answer. I’m not sure that – all of our restaurants are doing a wonderful job in operating business and there’s some outside influences as we’ve discussed that maybe having an impact on those individual restaurant [ph]. I don’t want to make it sound like there’s enormous weakness in some places, there’s not. We just see some weakness, as Arne described, in some specific markets relative to oil and some we believe is being impacted by tourism from an international basis. So, the restaurants are positive. The people are positive. They like what we’re doing with 2.0. They’re very encouraged by what’s taking place in the new menu and the feedback that we’ve been getting from our guests around the new menu items. And I would tell you that even restaurants that are not showing the growing that some other are, are still very positive about what is taking place inside the restaurants.

[Kieran McCabe:]

That’s great. Thank you.

[Arne Haak:]

Kieran, just to add to that, if we look at – every year, there’s always something that – there was a big produce conference, it was in California this year. This year, it went to Atlanta and so last week sales were weaker. There’s always something that’s moving around. But the overall health still looks pretty good. We look at what’s the percentage of our restaurants that are trending positive and that’s very consistent to last year. So I don’t think – we’re not psychologists about the consumer. You have to ask someone else about that. But I think overall we’re encouraged about how our business looks today.

[Kieran McCabe:]

Okay. I guess basically kind of driving my question there, I don’t want to infer any over weakness in any particular area but I was just kind of thinking more about how people feel competent about their businesses and their own kind of wealth, and if they’re impacted – if you guys are seeing any kind of change in that since you’re a little more geographically diverse and probably less intensive in the energy space. So I was just trying to get a sense of general feeling from your customers about their purchasing power. And then I guess the other one was, you outlined the development plan for next year. I guess is it still right to think about I guess longer term three to five stores for company-owned as well as for franchise?

[Michael O’Donnell:]

Yes

[Kieran McCabe:]

Okay, great. Thank you.

[Operator:]

Thank you. With no further questions, I’d like to turn the conference back over to Mike O'Donnell for any closing remarks.

[Michael O'Donnell:]

Thank you. Thanks everybody for joining us on the call today. And as always, it’s a great day to go out and eat steak. Thank you.

[Operator:]

Thank you for your participation. That does conclude today’s conference.