Carrols Restaurant Group, Inc.
Q4 2015 Earnings Call Transcript

Published: 3 Mar 2016

[Operator:]

Good day everyone and welcome to the Carrols Restaurant Group fourth quarter and full year 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. [Operator Instructions]. I would like to remind everyone that this conference call is being recorded today, Thursday, March 3, 2016 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, 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 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 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.

[Dan Accordino:]

Thanks, Paul and good morning everyone. Our strong fourth quarter performance capped off a very successful year at Carrols and we are pleased with our accomplishments in 2015. We successfully executed against our stated objectives and demonstrated the strength of our business model and the continuing opportunity that we have as we move through 2016 and beyond. I will begin by briefly reviewing some of the highlights for the year. In 2015, we grew total revenues 24% to $859 million including a strong 7.4% increase in comparable restaurant sales and restaurants that we acquired over the past two years contributed $123.6 million in incremental sales, representing an almost 18% increase in revenues. In April, we completed a refinancing of our debt. We lowered our borrowing rate considerably while using the refinancing to raise an additional $35 million in capital. We effectively employed this new capital as we continued to opportunistically acquire restaurants from other Burger King franchisees. Over the course of the year, we purchased 55 restaurants, expanding our ownership to 705 Burger King restaurants by year-end. We also continued to aggressively remodel restaurants and completed the reimaging of 94 units in 2015. Over 60% of our restaurants were updated to the 20/20 design image at the end of 2015. We have significantly improved profitability across the board as we successfully leveraged our strong sales performance in 2015 while also benefiting from more favorable commodity costs. In addition, the considerable impact from improvements to operating and financial performance of the restaurants we have acquired since 2012 is evident in our 2015 results. In 2015, adjusted EBITDA more than doubled to $76.7 million and restaurant level EBITDA margins increased almost 400 basis points. Lastly, adjusted net income, which excludes the costs and charges related to our debt refinancing and certain other items, was $16.9 million compared to an adjusted net loss of $10.4 million in 2014. I would like to particularly recognize the efforts of our entire team whose hard work supported these contributions and thank all of our employees for their part in our success in 2015. For the fourth quarter in 2015, turning to the fourth quarter we posted an 18.7% sales increase along with a solid 5.1% increase in comparable restaurant sales. When coupled with more favorable commodity trends, namely a 28% decrease in beef cost in the fourth quarter of 2014, we successfully leveraged these sales gains into considerable improvements in overall profitability. Restaurant level EBITDA increased 87% to $36.8 million from the prior year period. Restaurant level EBITDA margin increased 589 basis points to 16.1% and adjusted EBITDA doubled from the prior year period to $23.7 million. I should point out that the fourth quarter as well as the full year included one extra week in 2015. This extra week contributed an estimated $16 million in sales and $4 million to adjusted EBITDA. Our customers continue to respond well to Burger King's marketing initiatives which were effective in driving sales in the face of an increasingly competitive and promotional environment. The brand continues to successfully leverage existing menu platforms featuring premium products to build brand and check, while effectively balancing value offerings to drive traffic. Premium promotions included the Hearty A.1. mozzarella cheeseburger and the Halloween Whopper, the 2 for $5 menu continues to be a key platform for promoting a variety of menu of premium limited time offers. During the fourth quarter, we featured the Extra Long Jalapeno Cheeseburger, the Extra Long Sriracha Cheeseburger and the new Chicken Burger as 2 for $5 offerings. Buffalo Chicken Fries, an extension of the chicken fry platform, were successfully promoted as a limited time offer beginning in late October. The value-oriented promotions of 10 Chicken Nuggets for $1.49 reintroduced in mid-November also continued to be an effective traffic driver. And of note, breakfast has been our fastest-growing day-part for the past couple of quarters as Burger King has increased its focus nationally on our breakfast products. In early January, we began promoting a 5 or $4 offering, which consists of a bacon cheeseburger, crispy chicken nuggets, small fry, a small drink and chocolate chip cookie. This is a very compelling value and seems to be resonating well our customers, while effectively competing with similar price point offers from our major competitors. We have strong momentum coming into 2016, which we believe provides a solid foundation to build on as we move through the year. In 2016, we expect that Burger King's marketing and product innovation will continue to incrementally build on this momentum and drive increased sales. From a margin perspective, we expect commodity inflation to remain relatively benign in 2016, given the significant declines that we have seen in beef cost over the past six months. On the other hand, labor cost pressures are expected to increase as labor markets tighten and we feel the impact of mandated minimum wage hikes in a number of states. Our acquisition focus growth strategy gives us the ability to positively impact overall restaurant margins, as we improve performance at recently acquired restaurants. 46 of the 55 restaurants that we acquired in 2015 were just added in the fourth quarter and will be an immediate focus for us in 2016. We plan to continue our aggressive reimaging program and intend to remodel or rebuild another 85 to 95 restaurants this year with approximately 75% of our restaurants remodeled by the end of 2016. We would anticipate in notable reduction in capital spending as we wind down this accelerated remodeling program in 2017. And lastly, acquisitions continue to be an important element of our strategic growth plan and we intend to continue pursuing these opportunities. As highlighted this morning's release, we closed on our first acquisition in 2016 last week with a purchase of 12 restaurants in Central Pennsylvania. On a related note, we recently an completed upsizing of our credit facility, which increases the amount of capital that's available to fund the acquisitions in 2016. In summary, we are extremely pleased with what we achieved in 2015. It was a very good year. And with that, I will turn the call over to Paul.

[Paul Flanders:]

Thanks, Dan. I will begin by reviewing our financial results for the fourth quarter and then I will address our dresser 2016 guidance. I want to first point out that fiscal 2015 was a 53-week year, with the extra week falling in the fourth quarter making it a 14-week quarter. The extra week in 2015 added approximately $16 million in restaurant sales and about $4 million in adjusted EBITDA. Restaurant sales increased 18.7% to $229.1 million in the fourth quarter from $192.9 million in the prior year period. Comparable restaurant sales on a comparable 14-week basis, increased 5.1% compared to an increase of 3.6% in the fourth quarter of 2014. Restaurants acquired in 2014 and 2015 contributed 11% to our sales growth with sales of $46.7 million compared to $25.4 million in the fourth quarter of 2014. Comparable restaurant sales increased 4.6% at both our legacy and 2012 acquired restaurants and increased 8.3% at the restaurants acquired in 2014 that were included in the cap base. Our overall comparable sales increase reflects a 4.2% increase in average check along with a 0.9% gain in customer traffic. As our financial results demonstrate, we successfully leveraged these strong topline gains in the substantially higher profitability and margins. Adjusted EBITDA increased 136% to $23.7 million compared to $10.1 million in the prior year period and adjusted EBITDA margin nearly doubled increasing from 5.2% to 10.4%. Restaurant level EBITDA increased 87% or $17.2 million in the fourth quarter to $36.8 million compared to $19.6 million in the prior year period. Restaurants acquired in 2014 and 2015 contributed $6.2 million of restaurant level EBITDA in 2015. Restaurant level EBITDA margin was 16.1% and improved 589 basis points from the year ago period as we leveraged higher sales across nearly every expense line items and in particular cost of sales. Cost of sales as a percentage of sales was 445 basis points lower in the fourth quarter compared to the prior year period due to the favorable impact of lower commodity cost, namely beef, which is approximately 20% of our commodity basket. The decrease in cost of sales also reflected 3% effective menu pricing and improvements in operating performance, particularly in our acquired restaurants. Beef cost averaged $1.92 per pound in the fourth quarter of 2015 or almost 28% below the prior year period and were more than 14% lower sequentially from the third quarter. We expect beef cost to be down 5% to 10% in 2016 compared to 2015. General and administrative expenses were $14.3 million in the fourth quarter compared to $11.1 million in the prior year period. These costs were higher due to incremental field management and training costs associated with restaurants acquired over the past year and a $2.2 million increase in bonus expense. As a percentage of restaurant sales, general and administrative expenses increased 48 basis points to 6.2%. Depreciation and amortization increased slightly over 2014 to $10.6 million in the fourth quarter, but as a percentage of sales decreased 44 basis points to 4.6%. Interest expense decreased slightly to $4.5 million in the fourth quarter compared to $4.7 million in the fourth quarter of the prior year. Income from operations increased significantly to $11.6 million in the quarter compared to a loss from operations of $3 million in the fourth quarter of 2014. Income from operations in the fourth quarter of 2015 included impairment and other lease charges of $0.3 million and $0.8 million of acquisition expenses. Loss from operations in the prior year period, including impairment and other lease charges of $1.7 million and acquisitions acquisition expenses of $1.2 million. Net income for the fourth quarter was $7 million, or $0.16 per diluted share, compared to a net loss of $27 million or $0.78 per diluted share in the fourth quarter of 2014. The net loss in the fourth quarter of 2014 included a $24.3 million non-cash charge to establish a valuation allowance against net deferred income tax assets. As a result, there was no income tax expense recorded in 2015. Adjusted net income was $8.2 million or $0.18 per diluted share compared to an adjusted net loss of $900,000 or $0.03 per diluted share in the prior year period. At the end of the quarter, our cash balances were $22.3 million and total outstanding debt was $209.2 million. Given that we have not doubled EBITDA in 2015, we were able to significantly reduce our leverage. At the end of the fourth quarter, our lease adjusted leverage ratio on a pro forma basis was approximately 4.9 times and net of cash our leverage was 4.7 times. Reducing our lease adjusted leverage ratio to below five times has been an important goal of ours, so we are pleased with where we ended the year. Total capital expenditures in 2015, excluding acquisitions, were $56.8 million including $41.6 million for remodeling. In the fourth quarter of 2015, total capital expenditures were $19.3 million including $13.8 million of remodeling. Cash expenditures for the acquisition of 55 restaurants in 2015 were $52.8 million including $51.1 million in the fourth quarter. Such expenditures included the purchase of 16 fee-owned properties with an estimated value of $22 million to$23 million. We plan to fund the investment in the real estate by selling lease properties in sale-leaseback transactions. We completed sale-leasebacks on three of these fee-owned properties in the fourth quarter for net proceeds of $4.3 million and anticipate completing the remainder in the first half of 2016. And as Dan mentioned, we amended our senior credit facility a few weeks ago to raise the amount available in revolving credit borrowings from $30 million to $55 million, which increases the funding available for the potential acquisition of more restaurants. This amendment also reduced our borrowing rate 25 basis points slightly extending the maturity of the facility. Finally, I will review our guidance for 2016 and I remind you that 2015 was a 53-week year with $16 million of sales and $4 million in adjusted EBITDA for the extra week. For 2016, a 52-week fiscal year, we are projecting the following. Total restaurant sales of $930 million to $955 million including comparable restaurant sales increase of 2% to 4% on a comparable 52-week basis. Between 1% decrease and 1% increase in commodity cost including a 5% to 10% decrease in beef. General and administrative expenses of $50 million to $52 million excluding stock compensation costs. Adjusted EBITDA of $80 million to $90 million. Capital expenditures excluding acquisitions of $75 million to $85 million, which covers the remodeling of 85 to 95 restaurants, including rebuilding four to six restaurants. Our capital expenditures also include the construction cost for six to eight new restaurants, including relocations of four to five existing units. The sale-leaseback of 13 properties acquired in 2015 generating net proceeds of $18 million to $19 million. And lastly, we do not anticipate recording any income tax expense for 2016 as a consequence of having established a net deferred tax asset valuation allowance last year. Also, as noted in the release, we recently completed the acquisition of 12 Burger King restaurants in Central Pennsylvania on February 23. So this acquisition as included in our guidance. We intend to pursue additional acquisition opportunities in 2016. However, those are not included in the guidance due to the difficulty of anticipating the number of transactions or their timing. So in closing, as Dan said, we had a very good year and we believe that we delivered a strong financial performance for our shareholders in 2015. We also believe that we are well positioned for continued success as we move into 2016 as our forward guidance indicates. And with that operator, let's now go ahead and open the line for questions.

[Operator:]

[Operator Instructions]. First, we will hear from Will Slabaugh, Stephens Incorporated.

[Billy Sherrill:]

Thanks guys. It's actually Billy on for Will right now. So congrats on another great quarter and thanks for taking the time to answer a couple of questions. I wanted to ask first about your opinion regarding the current competitive environment in the space? I know something you called out in the release and something we have obviously heard referenced a lot this earnings season. So wanted to get your take on how you are thinking about that moving forward? What Burger King needs to do as a brand to perform in this environment? And along with that, just wanted to make sure that there is any implied softness to start the year off in your 2% to 4% guide?

[Dan Accordino:]

This is Dan. I think that we may have the competitive environment, frankly it has been competitive now for some time. The Burger King marketing calendar in 2016 is responding to that, as it did in 2015. So we are quite confident in the marketing platform that Burger King has and we think that our guidance is appropriate, given the marketing calendar and the competitive environment that we see.

[Billy Sherrill:]

Thanks. That's helpful. And just one more follow-up, if I could. I noticed you call out the fairly dramatic gap to the upside in comps to the stores that were acquired in 2014. So I was wondering, first what percent of that store base is remodeled? And how much of that improvement would you attribute to that? Or how much would you say just overall improved operational execution on your part?

[Dan Accordino:]

I think it's primarily operational execution. The 2014 store base has not been remodeled at any greater rate than what we have been remodeling the balance of the portfolio. But our business model essentially says that we buy restaurants where we think by virtue of improving the operations and doing some local store marketing and rehabilitating the asset that there is tremendous sales upside and I think that's what we are seeing in the 2014 acquisitions and we saw that in 2012. It was a bigger store base in 2012. So it took us a bit longer to realize all of those results. But it's essentially activity that we have done in the restaurant, as opposed to simply capital dollars.

[Billy Sherrill:]

Great. That's helpful. Thanks guys and congrats again.

[Operator:]

Thank you. Our next question comes from Bryan Hunt, Wells Fargo.

[Dave Cook:]

Good morning. It's actually Dave Cook, on for Bryan. Thanks for taking my questions. I wanted to touch on traffic. I think you all posted 90 basis points traffic gain in the quarter, which is down fairly materially from your two most recent quarters. Any thoughts on the traffic trends you are seeing?

[Dan Accordino:]

The traffic was positive all year long. I think that the competitors, particularly Wendy's had their 4 for $4 offering that started early in the quarter which may have had some impact in October. We saw the momentum pick up certainly as we moved further into the quarter and obviously Burger King has responded here early in January by the addition of the 5 for $4 offering. So we are confident that the traffic numbers remain pretty good.

[Dave Cook:]

Okay. The 450 basis points of savings on the cost of sales side, could you roughly allocate that between commodity savings, pricing, operating leverage?

[Dan Accordino:]

I would say the effect of the overall performance improvements was probably 60 to 80 basis points of the improvement, commodities were probably 300 of it. And those are the major components. We had a little bit of impact from price increases. We had about 3% menu price increase effective in the fourth quarter. That's really what's driving it.

[Dave Cook:]

Okay.

[Dan Accordino:]

And the commodity, obviously that's been driven by the lower beef cost.

[Dave Cook:]

Yes. And then on your 2016 guidance for commodities, you cited beef being down 5% to 10% and then commodities overall down 1% to up 1%. I guess what is offsetting those expected declines in beef costs?

[Dan Accordino:]

Well, we are seeing increases in various other items. Pork prices were very favorable for us in 2015. And so we are seeing increase in those more recently. Tomatoes and some produce items have gone up. I think that the real swing item will be where the beef cost settles in. I think that's what's implicit in the variability of the guidance.

[Dave Cook:]

Okay. That's all I had. Thanks for your time.

[Operator:]

Thank you. Our next question comes from Jeremy Hamblin, Dougherty & Co.

[Jeremy Hamblin:]

Good morning guys. Congratulations on really phenomenal year. I wanted to just get a little more color on the same-store sales guidance for 2016. You are facing tougher comparison in the first half of the year compared to the second half of the year, although there. But in terms of thinking about that 2% to 4% guidance range, should we be thinking first half of the year as on the lower end, back half of the years as on the higher end to get that blended rate? But how do we think about that given that you did an 8.4% and a 10.3% in the first half of last year for an average of 9.4% versus 5.8% in the second half of last year?

[Dan Accordino:]

Yes. I think it's probably fair to assume it will skew a little bit like that. However with the trends we have seen in the first part of the year, sales trends remain very strong early in the quarter. We are benefiting from the effect of this 5 for $4 promotion and the weather has continued to be pretty good in most of our markets. So I would suggest, even though the comparison the first quarters were the most difficult ones last year, our sales trends holding up pretty strongly.

[Jeremy Hamblin:]

Great. And are you able to quantify the weather in terms of number of operating days loss? There is obviously a really huge snowstorm that hit the mid-Atlantic Northeast in the third week of January this year, but you also had obviously tough weather last year with lots of storms. In terms of maybe operating days in Q1, what have you lost this year compared to last year? Or maybe in terms of dollars, how --

[Dan Accordino:]

We can't really quantify it that way. That doesn't take into account restaurants that are open where sales are low. We certainly have some restaurants closed for a couple days when the storm went through the mid-Atlantic. I think what we can say is, just generally the weather has been better year-over-year. If you go back the prior year, if you remember the whole Northeast and I think Buffalo had 65 inches of snow in December. I don't know if that's right, but it was a lot and we didn't have any significant snowfall this year in December in those markets. And so I can't quantify it but I would say, relatively it's been better.

[Jeremy Hamblin:]

Okay. And beef prices, just a little more clarity, where is that tracking right at the moment in terms of price per pound?

[Dan Accordino:]

We have had beef prices --

[Jeremy Hamblin:]

Still below $2.

[Dan Accordino:]

Continue to stay below $2. I would say, so far in the first quarter, we are running between the $1.80 and $1.85 at the top end. So they are down considerably.

[Jeremy Hamblin:]

Okay. And then just a maintenance question. What were the AUVs by vintage for 2015 as a whole, broken down by legacy 2012 and 2014? You happen to have that?

[Dan Accordino:]

I happen to have that. Let's take out the extra week, first of all.

[Jeremy Hamblin:]

Right.

[Dan Accordino:]

But the legacy units were a little short if $1.4 million, $1.375 million, I think. The 2012 vintage, if you will, was about $1.22 million. And then the 2014 units were about between $1.15 million and $1.2 million. And then the newer stores, of course they haven't been onboard long enough because we added most of those in the fourth quarter to make that number meaningful. For last year, I will tell you though, as a group, it probably should be averaging about $1.36 million. So they are a little bit higher volumes than what we brought in 2014.

[Jeremy Hamblin:]

Okay. Great. And then just one final. In terms of labor costs, you called that out as something that might be a little bit of pressure. In terms of your guidance of 2% to 4% comps, should we be assuming that your labor is going to delever this year based on the 2% to 4% comp?

[Dan Accordino:]

Based on those comps, yes. We have got a wage inflation build in of about 4% to 5%.

[Jeremy Hamblin:]

Great. I will hop back in the queue.

[Operator:]

[Operator Instructions]. Hearing next from Brian Vaccaro, Raymond James.

[Brian Vaccaro:]

Good morning. And thanks for taking my questions. I wanted to just ask about some of the recent marketing and menu initiatives at Burger King and particularly the 10 for $1.49 nuggets and also the 5 for $4 bundle. Can you speak to how customers are using the offers? Where they might be shifting from in terms of mix?

[Dan Accordino:]

Well, the 5 for $4 now we have had for about a year. So I think that the difference in the 5 for $4 really is whatever products we happen to be the LTL product that we are introducing into the 5 for $4 and as we mentioned during our comments we had the A1 mozzarella burger and the extra long jalapeno cheeseburger and so forth. So there are always new items that are being introduced as part of that 2 for $5 platform. In terms of the --

[Brian Vaccaro:]

I was asking about the 5 for bundle specifically, not the 2 for $5, the 5 for $4.

[Dan Accordino:]

I am sorry. The 5 for $4 bundle, I really don't know from a day part standpoint, whether we are seeing more of that at lunch or dinner. I don't know. I would say, it's probably pretty evenly balanced. The 10-piece $1.49 is an incremental purchase. We are seeing absolutely as an add-on and it has significantly impacted our, what we would call our snack business, from 2% to 4%.

[Brian Vaccaro:]

Okay. That's helpful. I wanted to ask about the comp guidance. Paul, what does that assume in terms of pricing? And are you expecting mix to continue to be positive into 2016? How should we think about the average check dynamics going forward?

[Paul Flanders:]

The guidance, we are going to have 2% to 3% price included in that 2% to 4%. So we are expecting traffic to be flat to slightly positive.

[Brian Vaccaro:]

Okay. All right. And just one quick maintenance one for me. Do you have store counts at the end of 2015 by class, the legacy, class of 2012 and class of 2014 to 2015?

[Paul Flanders:]

Yes. The legacy units were 281 restaurants, 2012 acquisition was 246 restaurants, the 2014 restaurants, we bought 123 in 2014 and 55 in 2015.

[Brian Vaccaro:]

Okay. And how should we be thinking about closures above and beyond obviously relocations and whatnot in 2016? And that's all for me. Thank you.

[Dan Accordino:]

I think generally, we will be closing fewer stores in 2016 than we have historically in most of our leases and franchises that we are dealing with in 2015, 2016 will be 2017 closures.

[Brian Vaccaro:]

Great. Very helpful. Thanks.

[Operator:]

Thank you. At this time, we will take a follow-up question from Jeremy Hamblin, Dougherty & Co.

[Jeremy Hamblin:]

Yes. Just building actually on that last comment about closures and just want to make sure I understood on the capital expenditure this construction of six to eight new restaurants. Does that mean that you are actually opening up a couple of new organic units?

[Dan Accordino:]

Yes.

[Jeremy Hamblin:]

So like two to three.

[Dan Accordino:]

Yes.

[Jeremy Hamblin:]

Okay. And what is the current buildout costs on those? On the new ones?

[Dan Accordino:]

$1.4 million, excluding land and then we will generally do a sale-leaseback. If we can purchase the land, we will do a sale-leaseback on the entire new build.

[Jeremy Hamblin:]

Okay. And just in terms of the potential acquisition pipeline, how does that compare today versus where it stood a year ago? Are you still seeing lots of opportunities of franchisees who are maybe getting towards retirement age? How does that pipeline look today?

[Dan Accordino:]

The pipeline looks very strong. I can't speak whether they are getting close to retirement age, but we are looking at a good number of deals currently.

[Jeremy Hamblin:]

Okay. And then just one other. I wanted to, I know it's only been a week or two in stores, but the grilled hot dogs, how consumers responded to that initially?

[Dan Accordino:]

Well, I think there has been an overwhelming response. The advertising for the grilled hot dogs, it doesn't even start until today. So all you have seen so far is what you have seen on social media and we are selling between 80 and 120 grilled hot dogs per store per day with no advertising. And the test markets would indicate that most of those purchase are incremental and associated with a higher average check.

[Jeremy Hamblin:]

So that's really going to drive mix, I guess, at least in the short-term. And this is a permanent menu item, correct?

[Dan Accordino:]

That's the intent, yes.

[Jeremy Hamblin:]

Okay. Congratulations guys on a great year and thanks for taking the questions.

[Operator:]

Thank you. We have no further questions in the queue at this time. I would like to turn the call back over to management for any additional or closing remarks.

[Dan Accordino:]

Okay. Great. We are glad to wrap up 2015, starting to see it go, it was a very good year. We look forward to reporting good results in the coming quarter. And we will talk to everyone then. Thank you.

[Operator:]

And thank you. That does conclude today's presentation. Thank you for your participation.