Carrols Restaurant Group, Inc.
Q1 2017 Earnings Call Transcript

Published: 12 May 2017

[Operator:]

Welcome to the Carrols Restaurant Group First Quarter 2017 Earnings Call. [Operator Instructions] I would like to remind everyone that this conference is being recorded today, Tuesday, May 09, 2017, at 8

[Paul Flanders:]

Thank you, good morning. By now, you should've accessed to our earnings announcement released earlier this morning, which is available on our website at www.carrols.com under the Investor Relations section. Before we begin our remarks, I would like to remind everyone that our discussion will include forward-looking statements, which may consist of comments regarding our strategies, intentions, guidance or plans. These statements are not guarantees of future performance, and therefore, undue reliance should not be placed on them. We also refer you to our filings with the SEC for more details, especially the risks that could impact our business and result. During today's call, we will discuss certain non-GAAP measures, which we believe can be useful in evaluating our performance. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with generally accepted accounting principles. A reconciliation to comparable GAAP measures is available with our earnings release. I will refer to acquired restaurants, referring to those restaurants acquired from 2015 the 2017, our Legacy restaurants include all the company's other restaurants, including restaurants acquired before 2015. With that said, I will now turn the call over to the President and CEO of Carrols Restaurant Group, Dan Accordino.

[Daniel Accordino:]

Thanks, Paul, and good morning, everyone. The total restaurant sales increased 7.8% in the first quarter reflecting our acquisition of almost 100 restaurants since the beginning of last year. As expected though, we had a modest decrease in comparable restaurant sales as we faced our toughest quarterly comparisons in the prior year. Comparable restaurant sale decreased 0.6% in the first quarter against the strong 5.7% increase in the prior-year quarter. Adjusted EBITDA and adjusted EBITDA margins were lower compared to first quarter of 2016, reflected continuing pressure on wage rate, modestly higher commodity cost along with increased promotions and discounting, which accelerated over the course of the past year. Adjusted EBITDA margin was further impacted by lower margins at the restaurants we have acquired, fixed cost deleveraging from lower comparable restaurant sales along with the seasonal impact of lower average sales volume. In terms of marketing, we continue to future premium products with the 2 for $5 Mix and Match promotion, the 2 for $10 WHOPPER meal deal and new Bacon King Sandwich that was successfully introduced late last year. Burger King also ended its 5 for $4 promotion in January and for a short time promoted a Whopper Junior meal deal for $3.99. Our breakfast day-part continues to perform well during the quarter with a mid-single digit comparable sales increase. Promotion included the 2 for $4 CROISSAN'WICH deal, EGG-NORMOUS BURRITO offering as well as a strong marketing support of 3 large pancakes for $0.89 beginning very late in March. Sales momentum improved in March with the launch of our new crispy chicken sandwich made with a 100% white meat Chicken fillet on a potato bun, and in late March with the introduction of a $3.29 bundle deal featuring two cheeseburgers, a small order of fries and a small drink. More recently, we've been featuring the new Steak House king sandwich and a FROOT LOOPS shake, both of which are being well received. Our comparable restaurant sales turned positive in March and are trending positive so far in the second quarter, with increases and the mid-single digit. We expect that these trends should continue to improve as comparisons ease for the balance of the year and as we gain traction from Burger King's recent product launches and promotions. We have, however, modestly adjusted our 2017 outlook after considering our first quarter results and anticipated cost trends for the remainder of the year. Specifically, these costs have risen recently due mostly to higher prices on imported beef. Although, we believe that these costs will gradually subside as you move to the second half of the year, beef costs are now expected to be higher for the full year. With that, I'll turn to our capital spending plans and our growth strategy. As we mentioned in our last call, we have considerably lowered our planned remodeling from the 100 restaurants annual pace we've been on the past few years. This is intended to increase free cash flow available to opportunistically acquire additional restaurants and for the development of new restaurants. Having said that, we have somewhat increased our guidance with respect to our 2017 capital spending. After reviewing Burger King's remodeling incentive plans, which will lower franchise fees and royalties for a time, we added another 8 to 10 restaurants to our 2017 remodeling plans. In addition, we've increased the number of new restaurants that we anticipate will be constructed and opened in 2017. In terms of our growth strategy, we completed the acquisition of 43 Burger King Restaurants in and around Cincinnati in late February as we previously reported. Our acquisition pipeline for 2017 is also active and we expect to have additional deals to complete as we move through the year. In addition to acquisitions, we are also working on developing a number of new locations and believe that we will have 10 to 15 new restaurants later this year. In closing, despite macro pressures affecting us in our industry, we continue to execute against our stated objectives that remain focused on building long-term shareholder value. With that, I will now turn the call over to Paul for our financial review.

[Paul Flanders:]

Thanks, Dan. Restaurant sales during the first quarter increased 7.8% to $239.9 million from $222.5 million in the prior-year period. Restaurants acquired since the beginning of 2015 contributed sales of $37.7 million compared to $18.7 million in the first quarter of last year. Comparable restaurant sales decreased 0.6% over a strong 5.7% increase in the first quarter of 2016. Comparable restaurant sales decreased 0.6% in our Legacy restaurants and 0.8% in our comparable acquired restaurants. Over all, comparable restaurant sales reflected a 2.6% increase in average check and a 3.2% decrease in customer traffic. Restaurant-level EBITDA was $27.9 million in the first quarter of '17 compared to $30.7 million in the first quarter of 2016. Restaurant-level EBITDA margin was 11.6% of restaurant sales and decreased 219 basis points from the prior-year period. These decreases reflected a higher level of promotional activity since last year, continued pressure on labor costs and deleveraging fixed cost due to the comparable sales decreased and seasonably lower average sales volumes. Adjusted EBITDA was $13.9 million in the first quarter compared to $18.5 million in the prior-year period, while adjusted EBITDA margin decreased 252 basis points serves for the 5.8%. Cost of sales as a percentage of restaurant sales was 26 basis points higher in the first quarter compared to the prior-year period. This included the impact of increased ground beef prices, which at $1.92 per pound or 2.8% above the first quarter of 2016. Effective menu pricing was 1.8% in the quarter and helped offset some of the impact from higher promotional discounts. Restaurant labor expense increased 141 basis points to 33.8% of restaurant sales compared to the prior year quarter, due primarily to more than a 6% increase in our average hourly rate and deleveraging on management cost. General and administrative expenses were $15.6 million in the first quarter compared to $13.2 million in the prior-year period and increased 56 basis points to 6.5% as a percentage of sales. The increase was largely due to incremental field management and training costs associated with restaurants acquired over the past year. G&A expenses in the first quarter of 2017 also included $718,000 of acquisition cost, $883,000 of stock compensation costs, which combined were $600,000 greater than the first quarter of 2016. Our net loss was up $5.6 million for the first quarter or $0.16 per diluted share compared to net income of $2.1 million or $0.05 per diluted share in the prior-year period. Net loss in the first quarter included $0.5 million of impairments and other lease charges and $0.7 million of acquisition expenses. For the same period last year, net income included $0.2 million of impairments and other leased charges, $0.4 million of acquisition expenses and $0.5 million gain from a partial condemnation. The adjusted net loss was $4.8 million or $0.14 per diluted share compared to adjusted net income of $2.3 million or $0.05 per diluted share in the prior-year period. Because we had a deferred income tax asset valuation allowance until the fourth quarter of 2016, we did not record any income tax expense in the first quarter of last year. For comparability to 2017 results, adjusted net income for the first quarter presented with a normalized tax provision as if the valuation allowance has been reversed prior to 2016. Total capital expenditures were $12.5 million in the quarter and expenditures for the acquisition of 43 Burger King Restaurants totaled $20.4 million. At the end of the quarter, our cash balances were $2.7 million and total outstanding debt was $245.4 million including $37.5 million drawn under our revolver. With that, let me review our guidance for 2017. As a reminder, other than the 43 restaurant acquisition completed during the first quarter, our guidance does not include any impact from other potential transactions that we might complete during the year. We expect total restaurant sales to be $1.03 billion or $1.06 billion, which includes an estimated 2% to 3% growth in comparable restaurant sales. Our prior guidance estimated restaurant sales of $1.02 billion to $1.07 billion with a 2% to 4% increase in comparable restaurant sales. Commodity costs are expected increase approximately 1% to 3%, including a 2% to 4% increase in beef cost compared to our previous estimate of a 0% to 2% increase in commodities with beef costs down modestly. General and administrative expenses are still expected to be $54 million to $56 million, excluding stock compensation expense and acquisition related cost. Adjusted EBITDA is expected to be $90 million to $95 million compared to a $90 million to a $100 million previously. Our effective income tax rate is anticipated to be at 18% to 20% compared to 20% to 25% previously. Capital expenditure is expected to be $65 million to $85 million, previously $55 million to $75 million, which includes remodeling a total of 28 to 32 restaurants, previously 20 to 25. The rebuilding of 6 to 8 restaurants which is previously 5 to 7 and the construction of 10 to 15 new restaurants, previously 7 to 15, and then includes 2 or 3 relocations of existing restaurant. Capital expenditures also include $10 million to $12 million for non-recurring investments in new kitchen production and product holding systems, new trading systems and certain POS system upgrades. We now plan to close 15 to 20 restaurants versus our previous estimate of 20 to 25 closing. At the end of the first quarter, we had opened 1 new restaurant and closed 9 restaurants. And that concludes our prepared remarks. And with that, operator, let's go ahead and open the lines for questions.

[Operator:]

[Operator Instructions] We'll take our first question from Will Slabaugh with Stephens Inc.

[Will Slabaugh:]

First a question on the positive comps you mentioned in March and in April. Can you talk about what you think has really been driving that, whether it's traffic improvement from some of these lower-priced promotions or bundles you mentioned or maybe check growth from what seemed like a pretty successful launch of the Steak House king here recently?

[Paul Flanders:]

Will, this is Paul, both positive movement in traffic and mostly checks gone up as similar to the first quarter. But I think a lot of this has to with launch of the new chicken sandwich, which is helping to drive traffic for one thing. Very late sort of mid-March, we also added another very value deal $3.29 combo meal with 2 cheeseburgers, smaller order fries and small drink and I think that's also helped gain some traction here.

[Will Slabaugh:]

And I want to talk on your beef comment. You'd mentioned that it kind of flipped for you and now we've seen a market rise with 15%, 20% here in the last couple of weeks only. So I'm curious you did mention a higher prices for imported beef. I'm wondering if there's any more color there. And then what gives your buyers any - the confidence to say that those costs are going to come back down?

[Paul Flanders:]

Yes, we've seen, as I said, we're about $1.92 in the first quarter and it sort of ticked up from there. I think we expected at this point that the beef is going to probably - it's going to be, is over $2 now. So we think we're going to be up 5% to 7% in the second quarter year-over-year, and then our - the expectation is going to start moving down from there, just based on various events and sort of caused the beef to run up earlier in the year.

[Will Slabaugh:]

And the last thing I want to follow up on the pipeline comment. Just to clarify, I think you said you plan on acquiring 10 to 15 additional stores by year-end? So if I heard that wrong, please correct me there. And I was curious if there's anything very close to announcement or this is the general comment around what you expect throughout the next two quarters?

[Paul Flanders:]

The 10 to 15 comment was relative, related to new construction.

[Will Slabaugh:]

Got you.

[Paul Flanders:]

We haven't really given additional guidance on the number of acquisitions. However, as the year progress, we do have a number of deals that are in the pipeline that were currently under evaluation and we see nothing - that necessarily immediate to report at this point.

[Will Slabaugh:]

Great. Thanks Paul.

[Operator:]

We'll take our next question from Brian Vaccaro with Raymond James.

[Brian Michael:]

Thanks and good morning. Just wanted to circle back to the comp reacceleration that you've seen quarter to date. I understand you're pleased with the traction you're seeing on this new product introduction. But Paul, can you also give us the sense of the 2-year trend that you're seeing?

[Paul Flanders:]

Our comps softened up - we have very strong first quarter as in, as we said and then comps softened up in the next six months, really. We're basically flat, up I think 0.7% in the second quarter last year and basically its zero in the third quarter. So we're up against easier comparisons, certainly. But in terms of the 2-year trend, I would say that we're running at this point again, we're up against softer numbers. So we're starting to run positive certainly on a two-year basis at this point and we're only one-month into this at this point.

[Brian Michael:]

So the monthly comparison started to ease in April?

[Paul Flanders:]

There was nothing unusual relative to variations month-to-month in the quarters on the second quarter last year. We came out and we were slightly negative in April.

[Brian Michael:]

Okay, all right. Thank you. And then shifting gears to the CapEx budget, I think you mentioned some incentive program from Burger King. Could you provide some more color on these incentives?

[Paul Flanders:]

Dan, you want to talk about this?

[Daniel Accordino:]

Yes, go ahead, Paul.

[Paul Flanders:]

No, I said, you go ahead and take that.

[Daniel Accordino:]

Paul. Yes, this is Dan. The depending upon whether it's a remodel or a creep and rebuild, there is a multi-year reduction in both your royalty and advertising fee. So what we're doing is remodeling restaurants that - it's actually an early remodel incentive. So these are restaurants that we otherwise would be remodeling in the next 3 to 5 years. We're actually going to accelerate those remodel to take advantage of further reduction and advertising and royalty.

[Brian Michael:]

Okay. That's helpful. And then last one Paul. Can you share what the ending unit counts were for your legacy and acquired unit basis?

[Paul Flanders:]

Yes. As you know, we rejiggered the groupings again, obviously. The acquisitions, as I said, are represented in the acquisitions from '15, '16 and now 2017. The total restaurants that are in that group of stores is 153 to the balance, which I think should be 636. Are now considered Legacy restaurants.

[Brian Michael:]

Thank you.

[Operator:]

[Operator Instructions] We'll take our next question from Jeremy Hamblin with Dougherty & Company.

[Jeremy Hamblin:]

Good morning, guys. Wanted to ask some follow-up questions on the labor cost. You mentioned, I think, that hourly rate is up 6% thus far. You also noted higher management cost. I'm assuming that's kind of the assistant managers and GM's within stores. And I'm wondering if you could provide a little bit more color on both of those items. How much of the increase in labor cost is statutory versus just the tight and competitive labor market? And then the second part of the question is, on the management cost, is that increase in the lower end wage part of the reason why you're calling out management cost. So you're having to raise significantly the wages that you're paying for assistant managers and GM's because there's maybe not enough of a gap between the hourly workers and the managers?

[Paul Flanders:]

There's certainly, also wage pressures on the management wages. But I was - what we alluded to was that we have some deleveraging on the management labor, that's more of a function of the seasonality and the sales numbers. First quarter, obviously, is our lowest average volume quarter just more due to the winter and the consequence is the fixed cost, which our managements basically fixed costs, we've got some negative leverage on that. We don't expect to see a lot of deleveraging on management during the year but there are some - obviously some underlying wage pressures there as well. They said that the hourly rate is up about 6,%, that's consistent. I think with where we were running in the fourth quarter, I think, what our expectation was that when we talked in the last call and so we are seeing some continued pressure there. It's certainly statutory in some places, New York is a good example. But a lot of this has been driven by the tightness in the labor force in most markets.

[Jeremy Hamblin:]

And then as a follow up. When you guys do acquisitions, a lot of time do you actually add labor into the stores to make sure they're running more effectively and presentable to your customer, a good customer experience. Is any of what we're seeing on the labor side; one, should we expect that in Q2 that even though, your comping much better that you still would expect a decent amount of deleverage on that labor line item because of that factor? And the presumption, I guess, in the second half of the year is we should be thinking about 50 basis points or more deleveraging kind of all the quarters?

[Paul Flanders:]

Yes, I think that's a fair way to think about it until perhaps we get to the very late part of the year when we start seeing these increases accelerate.

[Jeremy Hamblin:]

Which increases?

[Paul Flanders:]

The wage increases. The rate of increase was accelerating later in the year.

[Jeremy Hamblin:]

Okay. And then just coming back to the acquisition pipeline and I think what you had indicated before is we should not be expecting any additional deals to close until at least Q3. You did highlight that you've got a few deals in the pipeline with potential to be completed. Is the commentary still stand on that, at least nothing until at least Q3 and probably more likely Q4?

[Daniel Accordino:]

No. This is Dan, Jeremy. No, I would expect that we will see at least one transaction be concluded in Q2.

[Jeremy Hamblin:]

Okay, great. And then Paul, one last thing. Menu pricing, where does that stands today in terms of the Q2 run rate? And where do we - just in terms of what we think it will be the remainder of the year, we looking at kind of 2% range?

[Paul Flanders:]

Yes, we were at 1.8% in the first quarter. We had a price increase, it dropped off, although we lacked from last year, we just took a little bit of pricing early January and then a small price increase, I want to say in late March but we're at about 1.5% right now, 1.5%. There's some price changes on select item that we're in the process of making. I don't know what the effect of that is yet. I think we're hoping to push this to 2% in the near term and I think that's about we're probably be running for a while.

[Jeremy Hamblin:]

Okay. So probably on a blended basis, not quite - probably something like 1.7%, 1.8% in Q2 and then...

[Daniel Accordino:]

Yes. For the second quarter, yes.

[Jeremy Hamblin:]

And then I guess just based on that commentary around traffic trends than on a stacked basis, it sounds like you've seen a pretty nice improvement than - at least a little bit of improvement even on a stack basis?

[Paul Flanders:]

Yes. We've certainly seen that in the second quarter so far.

[Operator:]

And this does conclude our question-and-answer session. I would now like to turn the conference back over to management for any additional or closing remark.

[Paul Flanders:]

We don't really have any additional comments. We certainly appreciate your time today, and we will certainly look forward to updating you in another 3 months or so. Thank you. Goodbye.

[Operator:]

This does conclude today's conference. I thank you all for your participation and you may now disconnect.