Carrols Restaurant Group, Inc.
Q3 2014 Earnings Call Transcript

Published: 6 Nov 2014

[Operator:]

Good day, and welcome to the Carrols Restaurant Group Third Quarter 2014 Earnings Conference Call. [Operator Instructions]. I would like to remind everyone that this conference is being recorded today, Wednesday, November 5, 2014, at 8

[Paul R. Flanders:]

Good morning. By now, you should have access to our earnings announcement released earlier this morning, which is also 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 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 our results. During today's call, we will discuss certain non-GAAP measures, which we believe can be useful in evaluating our performance. 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, and a reconciliation table to comparable GAAP measures is available in our earnings release. With that said, I will now turn the call over to the President and CEO of Carrols Restaurant Group, Dan Accordino.

[Daniel T. Accordino:]

Thanks, Paul, and good morning, everyone. We are pleased to report that our sales trends improved in the third quarter of 2014 as we posted a solid 3.3% increase in comparable restaurant sales, our best quarter in almost 2 years. And despite the headwind for more than a 30% increase in beef prices compared to the third quarter of 2013, we were able to increase restaurant-level EBITDA, adjusted EBITDA and our overall restaurant and EBITDA margins due largely to operational improvements that we've made over the past year at the restaurants acquired from Burger King Corporation back in 2012. Total restaurant sales increased 6.8% in the third quarter of 2013 on the strength of our comparable sales increase, sales from the 29 Burger King restaurants that we had acquired through the end of the third quarter offset somewhat by net closings of 14 restaurants over the past year. Burger King's menu strategy continues to center on a balanced marketing approach with refreshed value offerings across the menu. The 2 for $5 mix and match lineup continues to have traction. And during the third quarter, featured the Extra Long BBQ Cheeseburger, Mushroom & Swiss Big King and the Spicy Original Chicken Sandwich. Premium offerings included the Barbecue Bacon Whopper, the A1 Bacon Cheeseburger and the Mushroom & Swiss Bacon Whopper. In August and September, we benefited from the short but successful return of Chicken Fries for a limited time promotion in response to a social media campaign. And most recently, Burger King began promoting its Chicken Nuggets at $1.49 in early October. This attractive value offering has been well received by customers and is driving strong sales trends as we start the fourth quarter. Turning to profitability. Restaurant-level EBITDA increased $1.9 million or 10.2% to $20.5 million in the third quarter of 2014. Restaurant-level EBITDA margin increased 34 basis points versus the prior year period. The increase in restaurant-level EBITDA included an $800,000 contribution from the restaurants that we have acquired in 2014. The year-over-year improvement also reflected higher EBITDA from our restaurants acquired in 2012 due to their strong sales performance in the third quarter this year, improved management of food costs and the impact from the closing of underperforming restaurants over the past year. However, EBITDA at our legacy restaurants declined $665,000 and restaurant-level EBITDA margin has decreased 109 basis points due mostly to pressures from significantly higher beef prices compared to the prior year quarter. Considering that the increase in beef cost negatively impacted margins by approximately 200 basis points, we were generally pleased with our overall results given the significant headwind. During the third quarter, we continued to put the $67 million of net proceeds from the equity offering completed earlier this year to work. We remodeled 25 restaurants during the third quarter, and we now expect to complete 100 to 110 remodels for the full year. We also accelerated our expansion strategy and during 2014 have completed the acquisition of 123 Burger King restaurants in 5 separate transactions. During the third quarter of 2014, we completed 2 acquisitions for a total of 25 restaurants, including 4 restaurants in the Pittsburgh market and 21 restaurants in Western New York. In early October, we completed the acquisition of 30 restaurants in Eastern North Carolina, and as announced in this morning's release, we just yesterday completed our previously announced acquisition of 64 Burger King restaurants from Heartland Food. These restaurants are primarily located in or around in Nashville, Tennessee; Springfield, Illinois; Terre Haute, Indiana; and Evansville, Indiana markets. As of today, we are operating 675 Burger King restaurants across 15 states. Generally, our near-term attention will turn to the integration of these recently acquired restaurants as we implement our operating systems and focus on improving the operating and financial performance of these restaurants. We believe that there will be opportunities to selectively acquire additional restaurants in the future as we execute our long-term growth plan. In short, sales improved in the third quarter and our results were better despite the significant headwind from commodity inflate. We have made significant strides this year in executing our expansion strategy and building momentum as we position the company for future growth. I'll now turn the call over to Paul to continue our financial review.

[Paul R. Flanders:]

Thanks, Dan. Restaurant sales increased 6.8% to $179.8 million in the third quarter of 2014 from $168.3 million in the prior year period, as comparable restaurant sales increased 3.3% compared to a 0.4% gain from the prior year period. Comparable restaurant sales increased 2.7% at our legacy restaurants and increased 4% at the restaurants acquired in 2012. The 29 restaurants acquired through the end of the third quarter this year, added $7.8 million in sales for the quarter. Our average check was 8% higher compared to the third quarter of 2013. However, customer traffic decreased 4.7%. Guest traffic was lower in part due to fewer low-priced deals, such as the $0.50 ice cream cone that in 2013 were aimed primarily at driving traffic. Adjusted EBITDA increased 9.9% or $1 million to $11.1 million in the third quarter of 2014 compared to $10.1 million in the prior year. And adjusted EBITDA margin increased modestly to 6.2% during the quarter. Restaurant-level EBITDA increased 10.2% or $1.9 million to $20.5 million, and restaurant-level EBITDA margins increased 34 basis points. Restaurant-level EBITDA margins decreased 109 basis points at our legacy restaurants due to commodity cost pressures and higher wage rates, offset somewhat by lower local advertising expenditures. However, restaurant-level EBITDA margins at the restaurants acquired in 2012 improved 223 basis points due to a strong 4% comparable restaurant sales increase, more effective operational controls and the favorable impact from closing underperforming restaurants over the past year. On an overall basis, cost of sales increased 30 basis points as a percentage of sales. As Dan pointed out, ground beef prices were up 32% from the third quarter last year, negatively impacting cost of sales by approximately 200 basis points. The impact of this was largely offset by the improved controls of the 2012 acquired units. Cost of sales as a percentage of sales for those restaurants actually decreased 28 basis points compared to our prior year period and were within 59 basis points of our legacy restaurants. On an overall basis, cost of sales also benefited somewhat by an effective price increase of 2% and by lower promotional discounting. The effect of the restaurants acquired through the end of third quarter of 2014 did not have a material impact on overall EBITDA margins, given their minor contribution in the third quarter. I will just say that as we expected, there are clearly opportunities to make improvements as we move forward with the integration of these restaurants. General and administrative expenses were $10 million or 5.6% of sales in the third quarter of 2014 compared to $8.7 million in the third quarter of 2013 or 5.2% of sales. Included in the third quarter of 2014, G&A expenses was $412,000 of acquisition and integration costs. Depreciation and amortization expense was $9.3 million, an increase from $8.5 million in the third quarter of 2013, due primarily to remodeling initiatives over the trailing 12 months and due to our acquisition activity. Interest expense was flat at $4.7 million for the quarter. Our net loss was $1.7 million or $0.05 per diluted share on a diluted share base of 34.8 million shares compared to a net loss of $2.8 million in the prior year period or $0.12 per diluted share on a diluted share base of 23 million shares. The net loss in the third quarter of 2014 included acquisition, integration cost, along with impairment and other lease charges, which in total were $1.4 million or $0.02 per diluted share after tax. The net loss in the third quarter of 2013 included impairment and other lease charges of $1.1 million or $0.03 per diluted share after tax. In 2014, the tax benefit includes no Work Opportunity Tax Credits for the year since these incentives have not been extended since expiring at the end of 2013. The effective tax benefit was 60.5% in the third quarter compared to 38.6% in the third quarter last year. The tax benefit in the third quarter this year was impacted by $1.2 million or $0.03 per share for additional 2013 WOTC tax credits not approved until 2014 due to a lag in certifications by the respective state agencies. At the end of the quarter, our cash balances were $63.3 million, including $20 million of restricted cash held as collateral for our revolving credit facility. Total outstanding debt was $158.7 million at quarter end, which decreased about $0.3 million from last quarter. While our cash balance has an increase considerably following the completion of the equity offering, we have closed 2 additional acquisitions since the end of the third quarter for a total outlay of $38.2 million, including approximately $13.5 million for the purchase of 12 fee-owned properties. We intend to enter into sale/leasebacks for most of this real estate and expect to complete many of these before the end of the year. Capital expenditures in the third quarter of 2014 totaled $14.1 million, including $10 million for restaurant remodeling. Cash expenditures for the acquisition of the 25 restaurants in the third quarter of 2014 were $12.3 million, including $1.1 million for real estate. Lastly, we've updated our 2014 guidance as follows. Sales trends are expected to be better than our previous estimates and have also been updated for the recent acquisitions. Total restaurant sales are now expected to be $690 million to $700 million compared to our previous guidance of $665 million to $675 million. This includes a comparable restaurant sales increase for the year of 0% to 1% versus our previous estimate of negative 1% to 0%. Commodity costs are now expected to increase approximately 5% compared to our previous estimate of 3% to 4%. This change primarily reflects the persistently high beef cost that we are experiencing in the second half of 2014. General and administrative expenses are still expected to be approximately $37 million to $39 million excluding stock compensation costs. Adjusted EBITDA is projected to be $36 million to $38 million compared to $36 million to $40 million previously estimated. Our annual effective income tax benefit is estimated to be 36% to 38% excluding the nonrecurring 2013 WOTC adjustments in the third quarter. This rate also excludes any WOTC credits for 2014 new hires since these hiring incentives have not been reinstated or extended by Congress. Capital expenditures excluding acquisitions are expected to be approximately $55 million to $58 million, including $38 million to $40 million for remodeling a total of 100 to 110 restaurants in 2014 and $4 million for costs to scrape and rebuild 3 restaurants. Cash expenditures are expected to be approximately $50.9 million, excluding inventory for the purchase of the 123 Burger King restaurants that have been completed through November 5, 2014. Such expenditures include approximately $14.6 million for the purchase of fee-owned real estate. Proceeds from sale/leasebacks are anticipated to be approximately $16 million to $18 million, including $6.5 million completed through the third quarter. And lastly, we've closed 12 restaurants in 2014, excluding relocations, and we expect to close another 6 to 8 restaurants at the very start of fiscal 2015. That concludes our prepared remarks. And with that, we will now open the line for questions.

[Operator:]

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

[Will Slabaugh:]

I wanted -- if you could give us a little bit more color on how some of the markets you've recently acquired over the past year are progressing, both on the sales and profitability basis?

[Daniel T. Accordino:]

Yes, sure. Well, this is Dan. The initial acquisitions that we did in Fort Wayne, Indiana and Pittsburgh are coming along nicely. We've had those for a little bit longer, each were 4 store acquisitions, and they've been assimilated quite well. The 21 restaurants in Western New York, we knew would be a bit easier to acquire because we've known the operators in -- for quite sometime and the food cost has already been lowered by roughly 75 basis points in just a few months that we've owned them. The last acquisition, one -- the Heartland deal we just did yesterday, so I have no comment. And the Western Carolina acquisition is only 3 weeks old, so it's premature to determine at this point what -- how far long it is.

[Will Slabaugh:]

As you look at your cash and debt levels, what are your future plans for acquisitions?

[Paul R. Flanders:]

Well, as we said in the call, I think our focus in the short term here clearly is to be on integrating and improving the P&L metrics on the units we just acquired between -- in the last 3 weeks, we've acquired almost 100 stores. So I think our short-term focus clearly is going to be on that and I think we'll look forward more, maybe we'll do some small deals between now and the refinancing, but I think we won't see doing anything large between now and then.

[Will Slabaugh:]

And last question for me on quarter-to-date trend. You mentioned the new promotions in October that helped to move comps up a little bit. I didn't know if you could comment on what that looked like relative to what we saw in 2Q -- I'm sorry, in 3Q.

[Paul R. Flanders:]

The October trends are higher than our third quarter comps. We were about 5% in October.

[Operator:]

[Operator Instructions] We'll go next to Bryan Hunt with Wells Fargo.

[Unknown Analyst:]

It's David Cook on for Bryan. One question on the traffic. I know that improved sequentially quarter-over-quarter, but still is down at 4.7%. Can you address that and how you're thinking about that going forward? Is that just something that you will resolve with increased promotions? Are there some other levers you can pull there?

[Daniel T. Accordino:]

No, I think -- this is Dan. I think the traffic certainly is going to be a function of the marketing calendar and we've seen significant traffic improvement with the $1.49 nugget promotion. And the fourth quarter marketing will continue to be aggressive in the first part of 2015 as far as the plan that we've seen so far will be a good mix between traffic generating tactics as well as continuation of the 2 for $5 mix and match.

[Operator:]

Ladies and gentlemen, with no questions in queue, we would like to offer everyone a final opportunity. [Operator Instructions] We'll take our next question from Ken Bann with Jefferies.

[Kenneth P. Bann:]

I was just wondering the lowering of the top end of guidance for EBITDA. Is that primarily because of higher commodity cost or is there something else that's increased in cost in the year?

[Paul R. Flanders:]

No. It's primarily being driven by these beef -- higher beef prices. We had the -- on the last time of the last call, which is obviously when we issued our latest guidance, beef prices were running more -- they were up from the prior year, but they were probably $0.20 to $0.25 lower a pound than where they are right now. They jumped up very shortly after the call, unfortunately. So a lot of this -- and effectively, what's happening in the guidance is we've obviously added a lot more stores for the fourth quarter and the increased EBITDA effect from that has been offset by the beef -- higher beef prices.

[Kenneth P. Bann:]

Okay. And can you give us any idea what your outlook at this point is for next year for beef costs?

[Daniel T. Accordino:]

Well, we don't obviously purchase the beef. It's purchased by the co-op. But based upon the intelligence that we're getting currently in terms of the forecast, we're looking at beef to be roughly the same as what it is currently, at least for the first 6 months of next year where it's going to be a pretty significant increase over the first 6 months of 2014.

[Kenneth P. Bann:]

Okay. And then in the table that you gave on the average weekly sales, the -- you gave the weekly sales of the restaurants acquired in 2014, I assume that doesn't include the ones you just acquired. And correct me if I'm wrong in that. And then could you comment on what are the -- what's the AUV of the restaurants that you just acquired?

[Paul R. Flanders:]

Yes, the -- what was in the table is the average -- I don't think it was even a partial quarter, but it was for the 29 restaurants that we actually had closed either in the late second or in the third quarter. And as you can see in that table, those average sales are higher than either our legacy or our -- the restaurants acquired in 2012, which is more a function of those particular transactions. The restaurants in Fort Wayne, the 4 restaurants there are, I would say -- sort of average restaurants $1.1 million, $1.2 million kind of volumes. The 4 units we picked up in Pittsburgh are what's partly what's driving that higher volume because those restaurants average about $1.5 million. So you will see that come down when -- as we layer in these additional 94 restaurants, particularly because the Heartland units are a little bit -- are -- they're lower volumes probably between $1 million, $1.1 million on average.

[Kenneth P. Bann:]

And I would presume in the table below that, when you have the restaurant-level EBITDA margin, I would presume then the Pittsburgh restaurants probably have pretty high margins and that's why that restaurant-level margins for those restaurants is pretty high?

[Paul R. Flanders:]

Yes, it's the Pittsburgh restaurants as well -- I mean, the major acquisition was the Western New York. Those are also higher, so the higher volume restaurants and higher margin units. And you'll -- but you'll see that come down as well.

[Operator:]

We'll go next to Brian Vaccaro with Raymond James.

[Brian M. Vaccaro:]

Just a couple of quick ones for me. I wanted to revisit your comments on menu pricing. Can you -- I think you said you took 2% in the current quarter. Can you just talk about how much pricing was in the menu in the third quarter and what we should expect in the fourth quarter?

[Paul R. Flanders:]

Yes, the 2% was not taken -- it's cumulative effect of some pricing we've taken over time. So there was about 2% effect of price in the third quarter, and much of that is carrying into the fourth at this point.

[Brian M. Vaccaro:]

Okay. That's helpful. And then on the acquisition cost you called out here in third quarter, how much are the acquisition costs expected to be and just confirm that those acquisition costs are in your G&A forecast for the year.

[Paul R. Flanders:]

Those costs are not in the G&A forecast. I can't -- at this point right now, I can't tell you what the projection is for those. But there is still -- some of the transaction costs, clearly, for the units we just closed in the fourth quarter are probably in the number already because legal fees and environmental work and so forth has already been paid for.

[Brian M. Vaccaro:]

Okay. All right. And then just one last one...

[Paul R. Flanders:]

I think the bigger effect in the fourth quarter is going to be from -- we've got -- probably 150 people will be out in these restaurants over the next 7 to 10 days as we put our systems in.

[Brian M. Vaccaro:]

Okay. All right. And then just one quick last one. Paul, do you have the ending unit counts at the end of the quarter by class of stores, the legacy in the class of '12. I think there were 25 in '14, but if you could just give us the legacy in 2012, that would be helpful.

[Paul R. Flanders:]

Yes, there is -- I mean, there were 581 stores at the end of the quarter. 289 were what we refer to as the legacy group, 263 were from the Burger King acquisition, and then we -- of course, the 29 restaurants that we had acquired.

[Operator:]

Gentlemen, there are no other questions at this time. I will turn it back to you for closing remarks.

[Daniel T. Accordino:]

All right. We don't have anything material to add at this point. But we appreciate everyone joining us today, and we look forward to speaking with you again after -- when we report year end. Thank you.

[Operator:]

Ladies and gentlemen, thank you for your participation. This does conclude today's conference.