Carrols Restaurant Group, Inc.
Q3 2015 Earnings Call Transcript

Published: 3 Nov 2015

[Operator:]

Good day. And welcome to the Carrols Restaurant Group Inc. Third Quarter Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Paul Flanders. Please go ahead, sir.

[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, 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 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 pleased with our performance in the most recent quarter and the continued momentum we build throughout the year. In the third quarter, we posted a double-digit top line growth, along with a solid increase in comparable restaurant sales. When coupled with more favorable commodity trends and strong operating controls, we successfully leverage these sales gains into considerable improvements and profitability. Based on our year-to-date results, we have also raised our 2015 guidance as Paul will discuss later on the call. BURGER KING’s marketing and promotional tactics are critical in driving sales and customer traffic and the brand success is evident in our sales trends. Comparable restaurant sales increased 6.5% in the third quarter sequentially accelerating to 9.8% on a two-year stake basis. For the nine months comparable restaurant sales are now up 8.4%. BURGER KING’s marketing strategy is also designed to effectively balance value and premium offerings and to provide variety and new flavor profiles, while minimizing operational complexity by leveraging existing menu platforms. During the third quarter, premium promotions included the Hearty A1 Mozzarella Cheeseburger, the Barbecue tender, Bacon, Tendercrisp Sandwich and in late September the Halloween Whopper. On our two for five menu we promoted the extra-long full pork sandwich and introduced the new extra-long jalapeno cheeseburger. The two for five platform continues to performed well. Chicken Fries which were added as a permanent menu item earlier this year have also continued to drive traffic in sales. During the third quarter BURGER KING build on this platform with the introduction of Fiery Chicken Fries as a limited time offer. And just last week this menu platform with further expanded with the introduction Buffalo Chicken Fries which should help sustain the sales momentum in the fourth quarter. Other value offerings such as our 10-piece chicken nuggets for $49 in the King deals value menu remain popular and also continue to drive customer traffic. And lastly, we continue to focus national advertising on the breakfast day part and our anti [ph] breakfast sharing which is across sandwich [ph] As I referenced earlier, our strong top line translated wealth of profitability, specifically higher restaurant level EBITDA and adjusted EBITDA these improvements reflected our effective leveraging of higher sales. The cumulative impact of margin improvements made it acquired restaurants over the past year, as well as lower beef cost. In the third quarter of 2015, restaurant level EBITDA increased over 60% to $33.3 million and adjusted EBITDA almost doubled to $22 million. And now I would like to provide an update on our remodeling program which continues to contribute to our sales growth. Through the third quarter of 2015, we completed 54 remodels and we expect to complete a total of 90 to 95 remodels for the entire year. Since mid-2012 Carrols has invested more than $125 million in remodeling and by year end more than 400 or over 60% of our restaurant will feature the updated brand image. It is fair to say that we have played a key role supporting BURGER KING's brand transformation particularly in our markets. Lastly we continue to also [indiscernible] capital to build shareholder value through our acquisition of other BURGER KING franchisees. We have acquired 15 restaurants in 2015 including six restaurants recently acquired in October. We also have several transactions either under contract or in peak stages of negotiations and believe that we could complete the acquisition as many as 40 more restaurants by the end of 2015. In summary we are extremely pleased with we have been able to accomplish this year along with our strong financial results. So with that, I will now turn the call over to Paul to further review our financial results and update our outlook.

[Paul Flanders:]

Thanks, Dan. Restaurant sales increased 21.1% to $217.7 million in the third quarter from $179.8 million in the prior year period. Note that our current year results include $39.4 million of sales from the 132 restaurants that we acquired in 2014 and 2015. Total comparable restaurant sales increased 6.5% compared to an increase of 3.3% in the third quarter last year. Comparable restaurant sales increased 7.9% at the restaurants acquired in 2012 and were up 5.7% as our legacy restaurants. The overall comparable sales increase reflected a solid 4% gain in customer traffic and a 2.5% increase in average check. We effectively channel, leveraged the strong top-line increases in the higher profitability and margins. Adjusted EBITDA almost doubled to $22 million in the third quarter, compared to $11.1 million in the prior-year period and adjusted EBITDA margin increased approximately 390 basis points to 10.1%. Restaurant level EBITDA was $33.0 million [ph] in the third quarter and increased $12.9 million, or over 63% compared to the same period last year. The contribution from the restaurants acquired in 2014 and 2015 increased $3.8 million to a total of $4.6 million. Restaurant level EBITDA margin was 15.3% and approved over 390 basis points from the year-ago period as we substantially leveraged higher sales across nearly all expense line items, but particularly cost of sales. Cost of sales as a percentage of sales were more than 280 basis points lower in the third quarter compared to the prior year period. This was largely due to the favorable impact of lower commodity cost, 2.2% of effective pricing and also continued operating improvements. Beef costs have come down all year compared to the elevated levels experienced in 2014. We averaged $2.23 per pound in the third quarter of this year or 15% below the third quarter of 2014 and 5% lower sequentially from the second quarter. Beef is continue to decrease in the fourth quarter and we expect that we will likely average 15% to 20% less in the fourth quarter of last year. General and administrative expenses were $11.8 million in the third quarter, compared to $10.0 million in the same period of last year. These expenses increased in part due to the additional cost related to our restaurant acquisitions in 2014 and 2015, including district manager cost and restaurant manager training. In addition, bonus expense was $1.5 million higher in the third quarter compared to last year based on our improved financial performance. As a percentage of restaurant sales, general and administrative expenses improved 17 basis points to 5.4%, due to the favorable sales leverage. Depreciation and amortization increased slightly over last year to $9.4 million in the quarter, as a percentage of sales decreased 86 basis points to 4.3%. Interest expense decreased slightly to $4.5 million in the third quarter, compared to $4.7 million in the same period of last year. The lower interest rate following our debt refinancing early in the year more than offset our $50 million increase in borrowings. Income from operations increased significantly to $11.8 million in the quarter from about $300,000 in the third quarter of 2014. Income from operations included 400,000 and 800,000 respectively in 2015 and 2014 of impairment and other lease charges and about 100,000 and 400,000 respectively of acquisition expenses. Net income for the third quarter was $7.2 million, or $0.16 for diluted share, compared to a net loss of $1.7 million, or $0.05 per diluted share in the third quarter last year. No income taxes were recorded in the third quarter of 2015 since we currently have a valuation allowance against our deferred income tax assets. There was a $2.6 million benefits from taxes recorded in the third quarter last year. At the end of the quarter, our cash balances were $71.8 million with total outstanding depth of $208.9 million. Given our increases in EBITDA this year, we continue to reduce our leverage. At the end of the third quarter our least adjusted leverage ratio at a pro forma basis was approximately 5.6 times and net of cash our leverage was under five times. Total capital expenditure during the quarter were $11.9 million and included $8.1 million related to the remodeling of 16 restaurants. And finally, based on our results to date, and our outlook for the fourth quarter, we are generating our guidance for 2015, which, as a reminder, is a 53-week fiscal period. Total restaurant sales are now expected to be $840 million to $850 million, compared to $830 million to $845 million previously estimated. Comparable restaurant sales on a comparable 52-week basis are expected to increase between 6% and 7%, compared to 5% to 7% previously estimated. Commodity costs are expected to decrease to 2.5% to 3% and are favorable compared to our prior estimated decrease of 1.5% to 2.5% due primarily to lower beef cost. General and administrative expenses are still projected to be $47 million to $49 million, excluding stock compensation cost. Adjusted EBITDA is now expected to be between $65 million and $70 million, an increase from our prior guidance of $60 million to $65 million. Capital expenditures, excluding acquisitions are still expected to be approximately $50 million to $55 million and we now expect to remodel total of 90 to 95 restaurants, including the scrape and rebuild the four restaurants. Our previous guidance estimated remodeling a total of 94 to 99 restaurants. And lastly, we expect to close up to 25 restaurants, 22 of these have already been closed as of the end of the third quarter. So as Dan said, we had another solid quarter, sales trends were strong and we were effective in leveraging this top line increases in a substantially higher operating income and adjusted EBITDA. Based on our results, we have meaningfully increased the 2015 guidance again, as we expect a strong finish to the year. And with that operator, we'll now open line for questions.

[Operator:]

Yes sir, thank you. [Operator Instructions] And we will take our first question from Greg Badishkanian from Citi.

[Unidentified Analyst:]

Hey, guys. This is actually Fred on for Greg this morning. Just wondering if you could give a quick update if you are seeing any change in the competitive environment. Just given some same store sales trends at some of your major competitors?

[Paul Flanders:]

Well, we're not going to disclose I guess where we are at this point. But I will say that, in the fourth quarter of last year we were up about 3.6%. Our toughest cap was in October last year where we up between 5% and 6% due to launch of the $1.49 nugget promotion last year. Well, we say is, we are clearly positive against that strong cap last year. And I think, if you look at our guidance implicitly there, our guidance for the rest of the year that we expect to be up low to mid-single digits in the fourth quarter.

[Unidentified Analyst:]

Okay. Great. And then you guys talked to - you called out sort of the changes in beef costs. Is there anything else that you are seeing in the commodity basket or is really just the lower beef costs driving, you know, I guess this is the second quarter in a row you brought that outlook down?

[Paul Flanders:]

Well, we’ve brought the outlook down because beef costs have continued to come down lower we expect them to be this year. So clearly beef cost are the largest driver of the - in the cost of sales change. You know, I think in the third quarter probably benefited, it’s about 130 basis points. I think the only other thing I know probably in 2015 is bacon cost are substantially lower than they were last year, but I think other than that the basket is been pretty stable.

[Unidentified Analyst:]

Okay. Great. And then just last thing. Could you guys talk about just sort of what you're seeing broadly within the labor environment, continuing to see some tightening, any push back, or you know, that you're seeing on that front?

[Daniel Accordino:]

Yes, this is Dan. Yes, we are seeing, you know, labor continues to be a challenge. Not because necessarily of the mandated wage increases - minimal wage increase, but primarily because the competitive environment seems to be - retail environment seems to be a little stronger in many of our markets and consequently we have to - our wages have gone up a bit in terms of attracting labor.

[Unidentified Analyst:]

Okay. Great. Thanks.

[Operator:]

And we'll take our next question from Brian Hunt with Wells Fargo.

[Brian Hunt:]

Paul and Dan, thank you for your time this morning. I was wondering if you’d look at sales, are there any regional differences that you would call out in performance across your store base?

[Daniel Accordino:]

The Southeast and the Midwest are doing best– this is Dan. The Southeast and the Midwest are doing best, Brian. All markets are up. Every single DMA in which we operate is positive on a year-to-date basis. But the Southeast and the Midwest tend to be a little bit stronger than Northeast.

[Brian Hunt:]

Okay. Great. And you touched on food cost coming down throughout the year. I mean, is there any way you can give us an initial look into 2016? I mean, from where I sit, I would imagine that your H1 food cost in 2016 could continue to be double-digit lower year-over-year, is that kind of fair assessment?

[Paul Flanders:]

Yes, I think that's fair. I mean, we were still - I think in the first quarter of last year we were still above $2.40 a pound. And so obviously, we’re well below then we expect that these costs are going to continue to at least be stable to where they are for next year is our current anticipation. So yeah, we would be down in the first quarter, low double-digit, I would estimate.

[Brian Hunt:]

Great. You mentioned in your press release the pipeline of acquisitions you could complete 40 by the end of the year. On the food space that you mentioned…

[Daniel Accordino:]

That’s 40 more Brian.

[Brian Hunt:]

Yes, 40 incremental.

[Daniel Accordino:]

Yes.

[Brian Hunt:]

And I’m wondering what in your opinion is causing the acceleration. We’ve seen accelerating M&A in food and beverages, as well as in food retailing here in the last call it quarters or so. Do you believe there’s been a decline in multiples, that’s kind of causing sellers to get a little bit more or be a little bit impatient in terms of selling or again can you just kind of describe the environment maybe what’s causing a potential acceleration and acquisitions?

[Daniel Accordino:]

Sure. All right, no, we don’t see any reduction in multiples in terms of what we’re viewing in rest as sellers. I think in our case what’s happening is we’ve got generational changes in some of the BURGER KING environment. So some cases, these are second, third generation sellers who are exiting the business. And also we’ve been very aggressive in terms of going out and looking for deal opportunities. But no, I would not say, and in terms of the BURGER KING environment we don’t see that the multiples are terribly different than what they've been.

[Brian Hunt:]

Okay. Fantastic. And then lastly, if you complete 40 additional this year for a total of roughly 55, is there any - in your opinion when you look at the potential pipeline, any reason that the number in 2016 couldn’t be materially different from what you’re potentially forecasting for 2015?

[Daniel Accordino:]

We are very active, sorry - we are very active in terms of making sure that in 2016 that the deal flow continues to be significant, yes.

[Brian Hunt:]

Very good. I’ll get back in the queue. I appreciate it.

[Operator:]

And we'll now take a question from Will Slabaugh with Stephens Inc.

[Will Slabaugh:]

Yes, thanks guys. I want to ask about the productivity at acquired stores. It seems to be picking up and driving some of the nice profit upside that we've been seeing here recently. Can you talk a little bit more about your acquired store margins and then the more than that the potential that you think is led for improvement there?

[Paul Flanders:]

I think when you look at the sales increase I mean, margins in all our restaurants despite whether the legacy or acquired does really matter. Margins have been expanding given our ability to leverage the strong sales increases. But the 2015 acquisition by example, I mean, we - I think we're close to 14% margin in the fourth - in the third quarter, which is obviously up substantially from where we were a couple years ago and even compare to last year. So we continue to make improvements there. I think I would suggest that - the only probably significant opportunity at this point is we still have little ways to go and cost to sales to bring those closer to in line with the legacy. But it's not the big number at this point because we've achieved most of the savings. Obviously you can tell the margins on the units we’ve acquired over the last year or so those margins have we’ve gotten those up very quickly and relative to the other two groups of stores, I think that just indication that generally those were better operator of restaurants when we acquired them. And so the operating culture was such that we've - we're able to achieve those results pretty quickly. So there still some opportunities certainly in those stores, maybe 100 basis points of cost to sales by example.

[Will Slabaugh:]

Got it. And just given the strong acquisition pipeline that you mentioned earlier, can you talk a little bit more about your capital position and then if you would expect your cash flow from ops be able to fund at least the majority of the acquisitions going forward? And as you think into 2016, what would you think about some other sort of capital raise as we get into next year or would that be a '17 event or sort of your thoughts around that?

[Paul Flanders:]

Well, you know, our cash business is doing pretty strong. I mean, as I say we're about $72 million in cash at the end of the third quarter. If we were to close the additional 40 restaurants that we think we will by the end of the year, you know, that’s going to take may be $25 million of cash to actually buy the businesses. There is also some real estate that we're buying with number of these transactions which we would intend to do sale/leasebacks out obviously. There is another, I want to say about $20 million to $23 million of real estate. So I think we can probably see a leaseback half of that this year and then we'll finish the sale/leasebacks early next year. So I think if you look at where our cash position is we have to - we complete those sale/leasebacks. We're still going to be about $35 million or $40 million of cash. So I think combined with the operating cash flow, I think we should have adequate flows next year to continue to do the remodels and to buy a reasonable number of stores.

[Will Slabaugh:]

Okay. Thanks, Paul

[Operator:]

[Operator Instructions] And we will now take a question from Jeremy Hamblin from Dougherty & Company.

[Jeremy Hamblin:]

Yes, hey guys. Good morning. Congratulations on great results. I wanted to just ask about a couple of the premium menu items, specific to Halloween Whopper and how that performed. I know there was a lot of social media discussion, kind of mix social media discussion. But my sense was in a lot of cases that limited time offer which I think was originally intended to run towards the end of October through Halloween, it really was out in most stores by the middle of the month or certainly by the 20th of the month. Can you discuss I mean, was that lost opportunity in terms of that you run out of buns or can you just elaborate on that?

[Daniel Accordino:]

Sure, Jeremy. This is Dan. The Halloween Whopper was always intended to be a limited time offer and that was every year, our expectation that we would be out of buns by 20th - middle or 20th of the month and continue to use the Halloween Whopper wrap until through Halloween. But it was acute tactic and it - that actually work very well for us for the first two, three weeks of the month. So - and you’re right, the social media was for the most part positive.

[Jeremy Hamblin:]

Great. And then the Chicken Fries, it’s becoming clear that that's really a platform now, not just a single item. I mean, is the expectation I think here now with Buffalo Chicken Fries rolling out last week that this is going to be Barbeque Chicken Fries, Honey Mustard, is it going to be kind of going down that direction where you can see this as a regular item that the company is going to be delivering new products on and continuously innovating?

[Daniel Accordino:]

Well, this is Dan again. I can’t speak to what BURGER KING menu development is going to do with the chicken fries on a going forward basis. I will say the chicken fries is a platform and BURGER KING has been very innovative over the past year or so in terms of leveraging that platform. But I don’t know what specifically they have in mind for the next iteration of chicken fries.

[Jeremy Hamblin:]

Okay. Pricing, I think Paul it was 2.2% in the third quarter. How is that going to trend for Q4?

[Paul Flanders:]

We had - hood in the 2.2 was a price increase from July of 2014. 2014 they graft off during the quarter. So we've got about 1.8% from August through December, plus we just took another minus price increase of about two weeks ago, which will be another 1.5% to that.

[Jeremy Hamblin:]

Okay. So, blended is that something along the lines of maybe three or so for the quarter for Q4?

[Paul Flanders:]

Probably not, probably a little less.

[Jeremy Hamblin:]

Okay, okay. Great. And then, I think there’s concern around impact from McDonald's, all day breakfast. It sounds like you’re pretty pleased if you got - if you’re suggesting that you’ve got low-single-digit to mid-single-digit expectations on comps. But can you speak to how you comped [ph] across your day parts? Are you still seeing strengths in breakfast? Is there anything notable in terms of your day parts and how you comped in Q3?

[Paul Flanders:]

We were positive across all day parts. But I would say notably breakfast actually was the one that we're scrapping up the most, because as we focus national advertising, now the breakfast day part is dense [ph].

[Jeremy Hamblin:]

Okay. And would that still be the case as you've began Q4?

[Paul Flanders:]

Yes.

[Daniel Accordino:]

Yes. The breakfast - this is Dan. The McDonald all day breakfast obviously isn’t going to have any effect on our breakfast. They already sold breakfast for breakfast.

[Jeremy Hamblin:]

No, I understand. Okay. All right. I'll hop back. Thanks, guys. Best of luck, I'll hop back in the queue.

[Operator:]

And ladies and gentlemen, this does conclude today’s question and answer session. I’d like to turn the conference back over to management for any additional or closing remarks.

[Paul Flanders:]

This is Paul. We thank everybody for attend. We think we had pretty good quarter here, look forward to posting some good results as we finish up the year here. We appreciate your attendance today. Thank you.

[Operator:]

Ladies and gentlemen, this does conclude today’s conference. We do thank you for your participation. Have a wonderful rest of your day.