Carrols Restaurant Group, Inc.
Q2 2015 Earnings Call Transcript

Published: 4 Aug 2015

[Operator:]

Welcome to the Carrols Restaurant Group’s Second Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question and answer session and instructions will be given at that time. I would like to remind everyone that this conference call is being recorded today, Tuesday, August 4, 2015 at 8

[Paul Flanders:]

Good morning. By now, you should have access 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 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. 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 Accordino:]

Thanks, Paul, and good morning everyone. We were extremely pleased with our performance in the second quarter as we leveraged robust sales growth and to a very solid increase in operating profits. Our strong financial performance in the first half of 2015, combined with our expectations for the balance of the year have caused us to meaningfully raise our guidance for the full year as we will discuss in a moment. For the second quarter, revenues grew by $50.5 million or 30% over the prior year period including a $38 million increase from the 127 restaurants we acquired in 2014 and 2015. Comparable restaurant sales were very strong, and increased 10.3% in the second quarter. Of note, this was our best quarterly comparable sales performance in many years. And as you can see by our sales trends, BURGER KING’s marketing activities have been highly effective in driving sales and customer traffic. The marketing strategy continues to effectively balance value and premium offerings while minimizing operational complexity by leveraging existing menu platforms for many of the provisional items. Premium promotions during the second quarter included a Bacon and Cheese WHOPPER, the spicy BLT Whopper and the A-1 Ultimate Bacon Cheese Burger. The '2 for $5' platform continued to perform well driven by the extra-long Cheese Burger and the extra-long Pulled Pork Sandwich and the Teriyaki Original Chicken Sandwich. Chicken Fries returned to the menu in late March with an extensive promotions through social and digital media have been very effective in driving sales. In June, we began a promotion of our 10-piece chicken nuggets for $1.49, a promotion that has been a good sales and traffic driver. Lastly, the breakfast day part received increased attention with a national promotion focused on our anchored products across sandwich which helped boost our breakfast sales. More broadly, we are experiencing solid sales performance in a number of markets that we entered with the 2012 acquisition which we believe reflects our persistent focus on improved operations, and the reengagement of customers in those markets. Similarly, we believe that the cumulative effect and the extent of our remodeling initiatives over the past three years has improved overall brand perception across the board and is continuing to favorably impact sales. As you can see by our financial results, we were able to very effectively leverage our sales – strong sales performance across the P&L and to substantially increase our overall profitability. The high operating leverage that we’ve instilled in our business because of our P&L disciplines is apparent across the board. It is particularly noticeable at the restaurants that we acquired in 2012 and it’s becoming more evident at the restaurants that we’ve acquired over the past year. Compared to the prior year quarter, restaurant level EBITDA increased by more than 80% and adjusted EBITDA more than doubled. Restaurant level EBITDA margin increased by over 450 basis points to 16.2% and adjusted EBITDA margin increased by approximately 380 basis points to 10.6%. These margin improvements occurred despite ground beef cost being about 4% higher in the second quarter, compared to the same period last year. However, ground beef costs have continued to be lower than the levels we experienced in the second half of last year. We now expect that such costs should remain around the levels experienced in the second quarter and if so, it would be at least 10% lower on a year-over-year basis in the third and fourth quarters. That is of course, more favorable than our initial expectations. I would also like to provide an update regarding our store remodeling initiatives. We have remodeled 38 restaurants in the first half of this year including 28 remodels during the second quarter. We expect to remodel a total of 90 to 95 restaurants for the entire year and to also scrap and completely rebuild another four restaurants. Based on this, we are obviously accelerating the pace of our remodeling in the second half of the year. We are also looking to continue to expand our business and build shareholder value by accretively acquiring additional restaurants. Today, we will close a transaction for the acquisition of five restaurants in Rock Hill, South Carolina, which is just south of Charlotte. We have a number of other transactions that we are evaluating but it would be premature to discuss these today. We will continue to update you as we move these forward. To conclude, we are very pleased with our strong performance in the first half of 2015 and excited with how the year is shaping up. The BURGER KING brand is performing well. Sales have been strong and the brand has increased market share. Our specific focus over the last few years including the impact from our extensive restaurant remodeling and the operational and financial improvements, we’ve made at the restaurants that we’ve acquired are also evident in our results. I will now turn the call over to Paul to further review our financial results.

[Paul Flanders:]

Thanks, Dan. Our restaurant sales increased 30% to $219.1 million in the second quarter from $168.6 million in the prior year period including $38.8 million of sales from the 127 restaurants that we acquired in 2014 and 2015. Comparable restaurant sales grew by 10.3% with increases of 11.5% at the restaurants acquired in 2012 and 9.4% in our legacy restaurants. The overall sales increase reflects a solid 5.4% increase in customer traffic and 4.9% increase in average check. We are pleased with the increasing momentum that we’ve seen in our sales trends over the past few quarters. On a two year stacked basis, comparable restaurant sales were up 8.3% in the second quarter, increasing sequentially from a 5.9% two year comparable sales increase in the first quarter of this year. More importantly we are effectively leveraging these sales increases into strong increases in operating profits. Adjusted EBITDA more than doubled to $23.3 million in the second quarter, compared to $11.5 million in the prior year period and adjusted EBITDA margin increased approximately 380 basis points to 10.6%. Restaurant level EBITDA margin was $35.6 million in the second quarter an increased $15.9 million or over 80% compared to the same period last year, including a $4.8 million contribution from restaurants acquired in 2014 and 2015. Restaurant level EBITDA margin was 16.2% and improved 455 basis points over the year ago period as we effectively and substantially leveraged higher sales across nearly all expense line items. Restaurant level EBITDA margins increased 366 basis points in our legacy restaurants and increased 743 basis points at the restaurants acquired in 2012. Cost of sales as a percentage of sales were more than 200 basis points lower in the second quarter, compared to the prior year period. This reflected improved operating performance at all of our restaurants, lower cost for certain commodities, most notably bacon and cheese and the impact of the 3% effective price increase. As Dan said, beef cost has been lower than we originally anticipated, but $2.36 per pound they were still about 4% higher than in the second quarter of last year. More importantly, we now expect beef cost to be much lower in the second half of 2015 than what we experienced last year at the same time. This has been reflected in our revised guidance which I will get to in a moment. General and administrative expenses were $12.9 million in the second quarter of compared to $8.6 million in the second quarter last year. These expenses increased in part due to additional cost related to our restaurant acquisitions in 2014, including district manager cost travel, and restaurant manager training. In addition, bonus expense was $2.3 million higher based on our performance compared to essentially no expense in the second quarter of 2014. As a percentage of restaurant sales, general and administrative expenses increased 77 basis points to 5.9% as the higher bonus expense offset the favorable leveraging all other G&A costs. Depreciation and amortization was $9.8 million in the second quarter, an increase from $9.0 million in the prior year period, due primarily to remodeling initiatives and our acquisition activity over the past year. As a percentage of restaurant sales, depreciation and amortization decreased 90 basis points to 4.5%. Interest expense held steady at $4.7 million compared to the same period last year. Borrowing cost on the 8% senior secured second lien notes issued during the second quarter are 325 basis points lower than the old notes. This interest savings is being partially offset by the increased borrowings used to increase our available capital. Related to the refinancing, we recorded a $12.6 million charge for the tender and redemption premium to repurchase and redeem the old notes and to write-off unamortized deferred financing costs in the previous financing. Income from operations which is before the loss on extinguishment on the debt increased significantly from $1.6 million in the second quarter of 2014 to $12.4 million in the second quarter of this year. Net loss for the second quarter was $5 million due to the $12.6 million charge related to the debt exiting interest. The net loss in the second quarter last year was $1.9 million which included $1.2 million income tax benefit. No benefit from income taxes was recorded in 2015 since we have recorded a valuation allowance against our deferred income tax assets. At this time, we do not anticipate recording any income tax benefits or expense in 2015. At the end of the quarter, our cash balances was $61 million with total outstanding debt of $209.2 million. Total capital expenditures during the second quarter were $13.6 million and included $10.9 million for remodeling 28 restaurants. Finally, based on our results for the first half, and our outlook for the remainder of the year, we are revising our guidance for 2015 which has a remainder is a 53 week fiscal period. Total restaurant sales are expected to be $830 million $845 million compared to $815 million to $830 million previously estimated. Comparable restaurant sales on a comparable 52-week basis are expected to increase between 5% and 7% compared to 3% to 5% previously estimated. Commodity costs are now expected to decrease 1.5% to 2.5% compared to an increase of 1% to 2% previously estimated. As I just mentioned, we anticipate these costs to be lower than our prior expectations. General and administrative expenses excluding stock compensation costs are expected to be $47 million to $49 million excluding and have increased due to the higher bonus expense given our improved financial performance. We previously estimated these costs will be $44 million to $46 million. Adjusted EBITDA is expected to now be between $60 million and $65 million and increase from our prior guidance of $48 million to $52 million. Capital expenditures excluding acquisitions are expected to be approximately $50 million to $55 million, including $38 million to $42 million to remodel 90 to 95 restaurants and to scrap and rebuild another four restaurants. Capital expenditures were previously estimated to be $45 million to $50 million. And lastly, we expect to close up to 25 restaurants, 20 of which were already closed in the first half of this year. So as Dan said, we had a very good quarter. Sales were robust and we are able to effectively leverage the strong top-line increases to substantially higher operating income and adjusted EBITDA. We have also meaningfully increased our guidance for the full year based on these results along with our revised outlook for the balance of the year. And that concludes our prepared remarks. So we will now open the line for questions.

[Operator:]

[Operator Instructions] We will go first to Will Slabaugh from Stephens Inc.

[Will Slabaugh:]

Yes, thanks guys and congrats on the great quarter. I wanted to ask you first about the improvement we are seeing in same-store sales and margins at the acquired restaurants which continues to outpace the system. I know, maybe a tough question to answer, just given the multiple acquisitions baked into that group of stores. But can you just kind of broadly about where you are in that process of improving the margins and the sales in the acquired restaurants?

[Daniel Accordino:]

Yes, the cap store numbers that I talked to were for the units that were acquired in 2012 which is, we said are performing at a higher rate. The stores acquired last year not in the cap base, with the exception of, I think core restaurants, but obviously, it’s clear that in the case of 2012 acquisitions, we are seeing improved sales trends in a number of the markets that we entered with that acquisition. So we said, I think, our sense is that it’s we’ve been – for three years and steadily improve the operations. So remodel less stores and both of those are contributing. In terms of their margins, I think they are pretty close to where we – where they should be that they are in respective volume levels. There maybe still be a few basis points in cost of sales, but I’d say we are mostly there. The restaurants we acquired over the last year, the starters were in much better shape operationally, and certainly we are making much progress there very quickly and in fact, their cost of sales is an example they are already within about a 100 basis points where we expect them to be. So we are making good progress there.

[Will Slabaugh:]

Got it. That’s helpful, and then, could you talk a little bit more about the pipeline for potential acquisitions, what that looks like out there?

[Paul Flanders:]

It’s difficult to predict that. Will, this is Dan. We are working on – we have four deals currently that are in one form or another of moving along in addition to the five restaurants that we will close on this afternoon. So, it’s reasonably robust. We are seeing deals. But it’s difficult to predict what that flow will look like.

[Will Slabaugh:]

Fair enough. And then last question from me, can you talk just a little more about what your suppliers are telling you about the price of ground beef into the second half and 2016? We can see the futures and the current spot prices look quite a bit better here than the past couple of months. But, just curious on what the chatter is out there from what the suppliers are saying?

[Daniel Accordino:]

Well, at this point, we really only seen visibility from our supplier, which is – RSI which is the call up through this year, but essentially, where we had expected, initially we expected beef costs are going to be in the sort of the $2.60, $2.65 range when we came into the year. As you know, last quarter we’ve lowered that with a view towards sort of $2.50. $2.55 beef. We were at $2.36 now in the second quarter and we’ve actually come down below those levels. So our sense is that, we should probably at least be we are in the third quarter, for the second quarter, I mean. So our outlook is based on about $2.35 price.

[Will Slabaugh:]

Got it. Thanks guys.

[Operator:]

We’ll go next to Greg Badishkanian of Citi.

[Q –Travis Harbauer:]

Good morning. This is Travis Harbauer in for Greg. Congrats on the quarter guys. Just a few questions. Can you talk about how same-store sales played out through the quarter? And then can you remind us of the monthly cadence of 3Q that you saw last year in terms of same-store sales? And then, kind of what you are expecting this year and then any early reads on trends so far into the quarter?

[Daniel Accordino:]

I would – the sales were pretty steady throughout the quarter. As we mentioned on the previous call, we had April was in the book if you will and we said that was about – April was about 11.5%, May and June were obviously given this with the overall number was 9%, 10% range and I would say, neither one of those months sticks out as being particularly stronger than the other. July, pace has actually picked up a bit, little under 12% comparable store increase in July. But we are starting to – to your point, we are starting to come up against some of the higher monthly caps from last year, particularly, we were up 3%, 3.5% comp in the back half of the year. So we are starting to come up against some of those months.

[Q –Travis Harbauer:]

Perfect, thank you. And then, can you just update us on the returns that you are seeing from the remodels?

[Daniel Accordino:]

I would say, it’s been pretty consistent with how we’ve – most recently described, vis-à-vis, the average costs on these remodels are running about 4.25, 4.30 on average. And we are still seeing about a 10% sales lift. And so the cash and cash return of those – the investment level is in the low to mid-teens kind of rate.

[Q –Travis Harbauer:]

Thank you.

[Operator:]

We’ll go next to Brian Hunt of Wells Fargo.

[Brian Hunt:]

Great, just a few follow-ups. I mean, Dan you talked about you are looking at, there is four deals that are kind of in the pipeline at the moment. Do you care to put a number of restaurants potentially around those four deals?

[Daniel Accordino:]

I would hope Brian that by the end of this year, we will have purchased somewhere in the neighborhood of 20 to 25 restaurants.

[Brian Hunt:]

Okay, great. I appreciate that. And then, continuing on the remodel discussion, after the end of this year, how many remodels will you all still have to complete after the end of 2015?

[Daniel Accordino:]

About 70.

[Brian Hunt:]

Okay and after you finish these closures this year, the 20 to 25 is that mostly complete your closure schedule or is there potentially more in that pipeline as well?

[Daniel Accordino:]

That will always be ongoing closures. I don’t expect that they would be in the 20, 25 number. But I think somewhere in the neighborhood of 5 to 8 closures per year is probably something that there would be – I would be modeling that.

[Brian Hunt:]

Okay, great. And just, two more questions, one, when you look at day part, is there any way you could talk about breakfast, snack, lunch, dinner and how those day parts kind of hashed out for the quarter from a same-store sales perspective?

[Daniel Accordino:]

Actually it was pretty even across all day parts. Breakfast is performing well. Our overall breakfast as a percent of sales is at 15% across the whole company. But the increase actually was pretty well balanced across all day parts, Brian.

[Brian Hunt:]

That’s encouraging. And then my last question is...

[Daniel Accordino:]

Yes it is.

[Brian Hunt:]

If we look at the announcement in New York, a move to $15, an hour minimum wage for fast food workers and now kind of now it doesn’t take place in one year, but over multiple years, can you talk about your plans to manage that potential sizable increase in wages?

[Daniel Accordino:]

Well, right now, I am only focused on 2016, because frankly, we are not really certain how this is all going to play out over time. In 2016, the rate was supposed to already have gone to $9. The new proposal is to go to $9.75, we are already at $8.90 and the rate has been increasing $1 a year for the past three years. So, we will manage that in the same fashion that we have up to this point, where you can price for a bit of it and the rest of it you will attempt to deal with through increased restaurant level productivity. But beyond that, I think it would be premature to see where this is all going to go because, a lot going to happen between now and 2021.

[Brian Hunt:]

And correct me if I am wrong, it sounds like there is a lot of legal issues that have to be overcome before the season gets inactive, is that what you understand as well?

[Daniel Accordino:]

That is exactly what I understand that this is not yet a completed deal.

[Brian Hunt:]

Very good. I appreciate your time and best of luck in Q3.

[Daniel Accordino:]

Thank you.

[Operator:]

[Operator Instructions] We’ll go next to Jeremy Hamblin of Dougherty & Company.

[Jeremy Hamblin:]

Yes, good morning. I want to add my congratulations on really impressive performance. On the remodels, you are raising your CapEx guidance by about $5 million and I think the midpoint of the number of stores you are looking to do is up 7 or 8. Are the remodel costs still coming in right around $400,000, are they getting a little bit more expensive? Can you just a little color there?

[Daniel Accordino:]

I’d say it’s been – well, it has gone up over time, but, we’ve been at this sort of 4.25 number for a while. I think what – what you are seeing in the average change in the guidance is the fact that four of the additional remodels that we are doing are not just remodels but they are complete scraps of the building and rebuilds. So those are much higher than the 400,000 which is probably stuck in the average somewhat. Those are more in the neighborhood of about $1 million of these. But the sort of the average is still 400.

[Jeremy Hamblin:]

Right, understood. Okay, great. And then I just want to come back to store acquisition and the pipeline there was obviously recently a deal in Michigan of significance and can you just talk me through the dynamics of, was it just given your capital constraints, was it the lack of participation and exercising the roofer on that, was it more of the size of the deal or the cost that was being paid, would you able to give a little bit more color on that, particular transaction that you didn’t participate in?

[Daniel Accordino:]

We obviously looked at it because we have the roofer in Michigan. The – relative to size, no it’s not too big, we’ve done more than that as you know, in terms of integrating the acquisitions, I think the bigger issue is really one is timing and when their deal came through to us it was probably around the March timeframe which was before we did the refinancing. So, to your point, we didn’t have cap with it.

[Jeremy Hamblin:]

Okay, and would you have thought about doing it if you did have that capital in place, I mean, was the cost higher than what you would have normally paid by a significant factor, or is that more just the timing?

[Paul Flanders:]

It was more the timing. It was more the timing. We are disciplined buyers, but we’ve got to seriously consider that acquisition.

[Jeremy Hamblin:]

Okay, terrific and I am sorry, Paul, did you say that you gave a ground beef price that you guys are currently seeing? I think you said, $2.35 for the year, would that mean you guys are currently seeing something closer to $2.25?

[Daniel Accordino:]

Yes, we are below $2.30.

[Paul Flanders:]

Yes, last week it was $2.23 to be exact.

[Jeremy Hamblin:]

Great. Thanks so much for taking my questions. Best of luck guys.

[Operator:]

We’ll go next to Brian Vaccaro of Raymond James.

[Brian Vaccaro:]

All right. Good morning and thanks for taking my questions. Just a quick – two quick ones if I may. On the G&A, I noticed that incentive comp was up 2 – I think you said $2 million this quarter for obvious reasons. Can you give us a sense of how much you expect the incentive comp to be up year-on-year in 2015? And most importantly, sort of how we should think about G&A growth in 2016, kind of on the current store base and on the current plan if you will? Obviously, they don’t move higher on additional acquisitions, but any help you could provide there will be helpful, Paul?

[Paul Flanders:]

Yes, I mean, the increase year-over-year, this year is more substantial with what we would anticipate going forward, primarily because the bonus increase was pretty significant. We essentially had no bonus expense last year, given the performance last year. So, if – implicit in this guidance is probably about $5 million or $6 million for bonus. As we talked about earlier in the year, we see some other G&A additions as the kind of sequence – impart from the field support for the acquisitions that we did over the last year. But going forward, other than incremental field cost that we would – we need to lay in, as we do acquisitions, generally this overhead should be relatively fixed.

[Brian Vaccaro:]

Okay. That’s helpful. Thank you. And then, also just the ending store count, can you – you have that by class of store at the end of Q2?

[Paul Flanders:]

I do. At the end of the second quarter, we had 281 legacy restaurants, 249 restaurants that we acquired in 2012 and then the 127 that were acquired in either 2014 or 2015.

[Brian Vaccaro:]

Great. Thank you very much.

[Paul Flanders:]

Yes.

[Operator:]

At this time, we have no further questions. I would like to turn the call back over to management for any additional or closing comments.

[Paul Flanders:]

Well, we don’t have too many additional comments. We think it was a pretty good quarter and we hope everyone thinks so too, but other than that we appreciate your attendance on the call. We’ll talk – and update you next quarter. Thanks.

[Operator:]

That does conclude today's conference. We thank you for your participation.