Denny's Corp (DENN) 2015 Q1 法說會逐字稿

Good day and welcome to the Denny's Corporation First Quarter 2015 Earnings Conference Call. Today's conference is being recorded. At this time I would like to turn the conference over to Mr. Whit Kincaid, Senior Director of Investor Relations. Please go ahead, sir.

Thank you, Blake. Good afternoon. Thank you for joining us for Denny's First Quarter 2015 Earnings Conference Call. With me today from Management are John Miller, Denny's President and Chief Executive Officer; and Mark Wolfinger, Denny's Executive Vice President, Chief Administrative Officer, and Chief Financial Officer.

Please refer to our website at investor.Dennys.com to find our first quarter earnings release, along with any reconciliation of non-GAAP financial measures mentioned on the call with their corresponding GAAP measures. This call is being webcast and an archive of the webcast will be available on our website later today. As a reminder, will be filing our 10-Q today as well.

John will begin today's call with his introductory comments; Mark will then provide a recap of our first quarter results along with a brief commentary on our annual guidance for this year. After that, we will open it up for questions.

But before we begin, let remind you that in accordance with the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995, the Company knows that certain matters to be discussed by members of Management during this call may constitute forward-looking statements. Management urges caution in considering its current trends and any outlook on earnings provided on this call.

Such statements are subject to risks, uncertainties, and other factors that may cause the actual performance of Denny's to be materially different from the performance indicated or implied by such statements. Such risks and factors are set forth in the Company's most recent annual report on Form 10-K for the year ended December 31, 2014, and in any subsequent quarterly reports on Form 10-Q.

With that, I will now turn the call over to John Miller, Denny's President and Chief Executive Officer.

Thank you Whit, and good afternoon everybody.

We are pleased with our strong start to the year, growing sales, adjusted EBITDA, net income per share, and free cash flow. Other highlights include refinancing our credit facility and our Board of Directors authorizing a new $100 million share repurchase program. We remain committed to investing in our brand, to grow revenues and profits while also returning capital to shareholders through our share repurchase program.

Our top-line and profitability growth was primarily driven by achieving the highest quarterly same-store sales above Company and franchise restaurants in more than a decade. Our same-store sales have continued their steady growth, we now have achieved positive comparable sales 15 of the last 16 quarters, and our expectations for 2015 point to the trend continuing.

The execution of our brand revitalization strategy focused on improving the food, service, and atmosphere at our restaurants and that's positioned Denny's to benefit from the improving consumer economic environment. Our success is a testament to dedication and hard work from countless individuals delivering the Denny's diner experience every day.

The growth in guest traffic demonstrates how we are truly benefiting from solid execution of our initiatives to deliver a differentiated experience, making the brand more relevant every day with every shift and to every guest. Although we've made meaningful progress to date, we believe we are still in the early stages of our revitalization strategy.

One of the highlights from this quarter was the significant improvement in our Company restaurant operating margin, driven by the same-store sales growth and solid execution via our restaurant operators. Although we are a highly-franchised business, we like owning a meaningful base of restaurants as it provides strategic and financial strength to our business.

The 160 Company restaurants which make up less than 10% of the system have average annual sales around $2 million compared to $1.5 million for the system. Collaboration with our franchisees on ways to be more efficient with our service and improve the profitability of our menu benefits both franchise and Company restaurants alike.

Although growing restaurant-level profitability will primarily come through increases in same-store sales and traffic, the margins of our traffic-driving strategies remain very important. The product mix improvements we are seeing are coming from a number of areas, including a more profitable $2 $4 $6 $8 Everyday Value Menu.

In the quarter we saw guests move away from value as the incidence rate of the $2 $4 $6 $8 Everyday Value Menu decreased by 300 basis points compared to the prior-year quarter. In addition, guests are ordering more appetizers and higher-priced premium entrees on our core and limited-time-only menus. We are doing a better job of meeting our customers' expectations through our better menu offerings, execution of service standards, and messaging.

Our core menu showcases a number of fresh ingredients with more pictures and opportunities for upselling. In June we will again update our core menu as our part of continued menu optimization work, which will include a combination of revisions and additions offset by some deletions. Our limited-time-only strategy continues to focus on showcasing fewer but harder-working options, offering traffic-driving appeal as well as operational efficiencies.

In the first quarter, we showcased Skillets Across America and our current menu is called Denny's With a Twist. This menu puts a spin on a few of our traditional diner favorites like the Red, White, and Blue Slam, the Banana Bread French Toast Slam, and the Sriracha Spicy Super Chick'n, a twist to our hard-working Super Bird turkey sandwich.

We continue to look to enhance our media and in-store merchandising efforts with new partnerships. We have launched a new kids menu in partnership with DreamWorks animation to feature characters like Shrek and the Penguins of Madagascar. We have also teamed up with NASCAR star Denny Hamlin to reach race fans across the country.

Our social media investment continues to grow and we are a leader in connecting with millennials as measured by our clout score. The Grand Slams video series has generated over 15 million completed views. In a crowded marketplace these efforts help keep Denny's name at top of mind and create a connection with the brand.

Our heritage remodel program is critical to our revitalization strategy, America's Diner positioning, as it further reinforces the improvements made to date to our food and service initiatives. With less than 20% of the system reflecting the enhanced atmosphere, we believe we are still in the early stages of our brand revitalization. This year we will continue to accelerate remodels at Company restaurants with a target of completing approximately 50 remodels by the end of the year.

As our brand revitalization efforts continue to gain momentum with our guests, we remain focused on executing our initiatives to achieve our goals for consistent gains in sales, improvements in customer return scores, margin growth, and increased unit growth. Our goal is to continue our growth in earnings per share through our highly-franchised business while generating significant free cash flow to both reinvest in the brand and return to shareholders.

We will continue to make investments in our base of Company restaurants, primarily through our heritage remodel program. In addition, we remain committed to returning value to shareholders through our share repurchase program which started in late 2010. We have repurchased approximately 22 million shares to date, and with a new $100 million authorization we look to continue to prioritize repurchasing shares over debt repayment.

In closing, we are very pleased with our continued momentum by consistently growing same-store sales and guest satisfaction, and plan to continue to expand the geographic reach of Denny's and consistently grow profitability with our very capable franchisees, with our highly-franchise business. As we move through the early stages of revitalization, we're committed to delivering the full potential of the Denny's brand.

With that I'll turn the call over to Mark Wolfinger, our Chief Financial Officer and Chief Administrative Officer. Mark?

Thank you John, and good afternoon everyone.

Our first quarter results were highlighted by growing domestic system-wide same-store sales by 7.2%, growing adjusted net income per share by 41%, and generating $13.2 million of free cash flow after capital expenditures. During the quarter, Denny's opened 9 system restaurants and closed 17 system restaurants, including one Company-operated restaurant. Denny's total operating revenue including Company restaurant sales and franchise and license revenue increased $8.3 million or 7.4% to $120.2 million, primarily due to the increase in same-store sales.

Same-store sales at domestic franchise restaurants increased 7.1% due to favorable product mix and higher menu pricing, along with a rise in same-store guest traffic. Franchise and license revenue grew 4.8% to $34.2 million, primarily due to an increase in royalty revenue resulting from the growth in same-store sales. Franchise operating margin of $23.2 million improved by $1.3 million, primarily due to the increase in royalty revenue, partially offset by an additional $700,000 in direct costs.

Franchise operating margin as a percentage of franchise and license revenue expanded by 0.7 percentage points to 67.9% compared with the prior-year quarter. This improvement was primarily due to the increase in royalties.

Same-store sales at Company restaurants grew 7.6% due to increases in both same-store guest traffic and same-store guest check average. The improvement in same-store guest check average was driven by both favorable product mix and higher menu pricing. Sales at Company restaurants were up $6.7 million or 8.4% to $86 million, primarily due to the same-store sales growth and the reopening of the Las Vegas Casino Royale restaurant in November 2014.

Company restaurant operating margin was 17.1% of Company restaurant sales, an increase of 5.6 percentage points primarily driven by the leveraging effect from the same-store sales and lower product costs. Total general and administrative expenses were up $2.8 million, primarily due to higher payroll and benefits costs, along with additional incentive and share-based compensation. Interest expense of $2.1 million improved by $200,000, primarily due to the expiration of capital leases, and a $21.3 million reduction in total debt outstanding over the last 12 months.

The closing of our new bank facility in the first quarter resulted in a one-time non-cash charge to other nonoperating expense of approximately $300,000, resulting from the write-off of a portion of the deferred financing costs related to the prior facility. On April 1, we announced the refinancing of our credit facility, establishing a new, five-year $250 million revolving credit facility. The refinancing is a reflection of the progress we've made in our brand revitalization strategy and demonstrates the confidence the financial community has in our strategic plan.

In addition to the interest savings, the new facility offers enhanced flexibility for the use of cash, whether it's towards debt repayment, returning capital to shareholders, or using our balance sheet for brand investments, such as direct loans to franchisees and franchisee loan guarantees. By removing the term loan amortization we have no minimum payments, which frees up $4 million to $6 million of cash per year. The refinance facility features interest rate adjustments based on our total debt to adjusted EBITDA ratio.

Since our current total debt to adjusted EBITDA ratio is less than two times, the new interest rate will be at LIBOR plus 150 basis points, which is 25 basis points lower than the corresponding credit spread under our old facility. Taking into consideration our LIBOR interest rate swap, the effective interest rate on our revolver loans is 2.5%, based on our outstanding debt at the end of the quarter. We have entered into a 30-day LIBOR rate swap contract extending beyond the first quarter of 2018, to March 2025, fixing $120 million of debt at 2.4%.

Based on our current LIBOR spread of 150 basis points, this would translate into a fixed interest rate of 3.9%. We will continue to look for opportunities to use cash to also purchase franchise locations, which will enhance our Company restaurant portfolio, or acquire real estate to improve our returns on Company or franchise restaurants.

Free cash flow after capital investments increased by $6.6 million to $13.2 million. We invested $3.4 million on capital expenditures in the quarter, which included remodeling seven Company restaurants. During the quarter we repurchased 450,000 shares for $5.1 million.

Since November 2010, we have allocated approximately $118 million to repurchase approximately 22 million shares through May 1. In conjunction with the refinancing, our Board of Directors authorized a new, multi-year share repurchase program, authorizing an additional $100 million of common stock to be purchased. We have approximately 12.5 million shares authorized for our ongoing repurchase program based on Friday's closing price.

Let me now take a few minutes to expand on the business outlook section of our earnings press release. Based on first quarter results and Management's current expectations, we are raising our 2015 annual guidance expectations for same-store sales and adjusted EBITDA. We are increasing same-store sales expectations to be between 3.5% and 4.5% at Company restaurants, and be between 2.5% and 3.5% at franchise restaurants.

We anticipate the Company margin rate will be between 16% and 17%, primarily supported by leveraging higher same-store sales and lower products costs. We continue to expect the franchise margin rate to be between 67% and 68%. Total G&A expense is expected to be between $61 million and $64 million, which is approximately $3 million higher than initial guidance due to higher payroll and benefits costs, including a higher pension expense accrual, along with higher incentive and share-based compensation levels.

We anticipate adjusted EBITDA will be higher than initially estimated, ranging between $85 million and $87 million. We now expect net interest expense to be between $8.5 million and $9.5 million compared to $9.5 million to $10.5 million, due to both a lower cost of debt and a reduction in outstanding debt.

We continue to expect our annual effective income tax rate to be between 36% and 38%, with cash tax payments being between $6 million and $8 million in 2015, which is slightly higher than our initial expectations. Cash capital expenditures annual guidance of $24 million to $26 million includes remodeling approximately 50 Company restaurants during the year and acquiring a parcel of real estate under a franchise restaurant which closed in April. Despite the increase in our expectations for adjusted EBITDA, our free cash flow guidance remains between $45 million and $47 million, as the increase in adjusted EBITDA is offset by slightly higher cash capital expenditures and cash taxes.

We will continue to allocate our excess cash towards supporting reinvestment in the brand and our Company restaurants, as well as returning value to our shareholders. That wraps up our guidance commentary and I will now turn the call over to the operator to begin the Q&A portion of our call.

(Operator Instructions)

Will Slabaugh, Stephens Incorporated.

Thanks guys, and congrats again on another good quarter. I just wanted to -- one, I was wondering if you could walk us through any progression on common momentum during the quarter? And maybe if you were seeing and secular trends across different geography, such as maybe the West Coast versus the Northeast, didn't know if we could get any more color on that?

Will, this is John; thank you for the comment. We are seeing things start to level out across the country. But we are seeing the strongest results out there in California, Arizona, Florida, those would be the stronger performers across the quarter.

Your question about momentum throughout the quarter, obviously we're not guiding into Q2, but we had a little bit of -- I think that the story of Q1 is we have favorable mix shifts in the quarter, pricing carrying over, it will be the easiest comparable, weather was a little bit favorable compared to last year. And then we have a geography that sort of is performing the best in improving our overall -- our footprint, I think, favors the brand whether it's weather or distribution of units and so forth. So obviously we raised the guidance so we are confident on the year, but Q1 had the easiest comparisons.

Right. Thank you. And along with that, I may have missed this, did you give a specific breakdown of the traffic and check component of comp?

I can give you a little bit of detail. Q1 we were positive on traffic, around [1.7%] system-wide, [2.1%] Company. Check was up about [5.4%] overall and that's about, [2.1%] Company pricing, [2.7%] franchise. The rest is mix shift.

Awesome. Thank you.

Michael Gallo, CL King.

Hi, good afternoon. Just two questions, one a follow-up on the last question. I was wondering if the mix shift is a result of how people are using the menu more or is it more a function of faster day part growth at lunch and dinner?

And then I was also wondering if we can just dig in a little bit on the increase in the SG&A guidance for the year? Is this primarily just a function of higher incentive comp, or is there something else going on there? Thanks.

Thanks Mike, this is John again. Could you give me the first question one more time? (Multiple speakers)

The first question was the increase in check, which was obviously pretty robust in the quarter. You mentioned mix shift was a big part of that. I was wondering how much of that was mix in terms of perhaps people getting more appetizers or things like that versus a shift between growth in the day part at lunch and dinner versus breakfast, which obviously carries a higher check?

Traffic positive was a good trend for us. As I mentioned in the answer to Will's question, we're starting to see this level out across the country so we're seeing positives everywhere. And the positive traffic is primarily benefiting breakfast right now even though it's positive in all four day parts, breakfast, lunch, dinner, and late-night.

The shifts in mix I think are primarily -- the biggest driver is the $2 $4 $6 $8 change. 300 basis points moving from that 18% to 21% range all last year, but 300 basis points quarter to quarter down over the last year, 21% to about 18% in this quarter. So that obviously moves the check up when you have your people saying we're buying off the value menu and chasing the more premium LTO items or core menu items.

And then on the SG&A front?

Yes, SG&A, you really -- share-based compensation or rather the incentive compensation is about half of that difference and the other is just changes in our payroll and benefits. And then we have a pension program we are trying to address so that that creates the other half of it. You saw in the guidance the change in quarter is very similar to the annual number as a result.

Okay and then just one more question on the Company store margins. How much was the impact year-on-year from having Vegas in the numbers versus not having Vegas?

It was about 40 basis points in the quarter. It was about 70 basis points all of 2014 impact.

Great. Thanks very much.

Alton Stump, Longbow Research.

Thank you and good afternoon.

Good afternoon.

Great job on the quarter. I guess as you go back to the changes you made to the $2 $4 $6 $8 which would appear have been helping not just obviously mix but also margin, what have been the lessons learned? And is there a case to be made to make some more changes going forward over the next 6 months to 12 months given what has been ever a successful move so far?

Those are great questions. I think looking backwards that lessons learned are that it is a great tool for the brand. That you don't want to mess with it too much if traffic is a challenge, but if you can grow traffic and reduce the mix on your value menu at the same time, it means you have the very best of circumstances.

And so how much more is in there is hard to know precisely. The biggest changes are the lower number of $2 items being sold as dinner entrees, which was a change that was required. We think we've optimize that and they're now really traded more as add-ons and/or dessert options.

The $4 continues to be the strongest part of this, and you can sort of see when people pay and have the incidents roll throughout the month. So value's as important part of the makeup of these guests, and so it is an important lever to have. So we think it's in a good spot right now, we think the margins are friendly and we're happy to have it on the menu.

The other big changes we made is a number of the $8 entrees included a beverage. We don't think we were getting full credit for that and they were being sold on the merit of the $8 price. And so adding the beverage back to the overall check for that equation was a big margin driver, with some consequence to mix where customers then opted into other core menu items that had a slightly higher price or similar price but a better margin.

So I'd say that it's fairly optimized at the moment, and hopefully that answers your questions.

Yes, that's great. Thanks John. And then just one quick follow-up if I could.

If I stay of a mix topic, it would seem like you've had success launching new products at the higher end of your price point range, and consumers have been willing to pay up for better new items, even if they are above average ticket. A, is that true, and B, is there more opportunity to launch new products at the higher end of your pricing menu?

I believe A, it is true. It's statistically still insignificant. The most statistical significant changes in the mix and check have come from the decline in the $2 $4 $6 $8 menu. But there are more salmons and sirloin steaks being sold, they weren't on the menu before.

So yes, check is also being driven to some degree by higher price or perceived to be higher-quality menu items. Is there room for that? I certainly think so.

Twice a year we print new menus and make at additions and deletions strategically based on what happened in LTOs and other tests. And then twice a year when we are not printing we make other adjustments to the menu. So we continue to evolve with where the consumer wants to take it, and they have shown a willingness to buy more traditional dinner entrees at Denny's than historically.

That's great. Thanks so much.

Tony Brenner, ROTH Capital Partners.

Thank you. I wonder if you can separate the increase in same-store sales of Company stores from those that were remodeled and those that had not yet been remodeled up to the first quarter?

Sure. The Company-outperformed franchises represents about 100 basis points of difference because a higher of our total portfolio of stores has been remodeled versus the franchise. (Multiple speakers) That's just the Company versus franchise portfolio to portfolio. But it is a few hundred basis points different in the remodel versus the not.

Okay, so then the franchisees with a much less incidence of remodeling were basically outperformed by several hundred basis points; is that a fair conclusion?

Or their remodeled stores also outperformed the non-remodeled stores by the same amount.

Okay. Last question. At what point, if ever, might we see the number of new store openings exceeding the number of stores being closed?

I think you will see the guidance here is that we're still dotes in the single digits and we are guiding to have positive new store growth again. We had our best first quarter in quite some time with nine openings. That beat the first quarter of last year and that's on top of 21 that opened in the fourth quarter of 2014. So we are seeing momentum.

We also had a lot of closings in this first quarter but again, we are guiding for the year to be a fairly normal year in that 2% or 35-ish range. So obviously we look forward to the day that the closing's slow and the openings continue to build momentum. We have been working very hard on that and the gross number of openings in the Denny's brand is still among the top in the full-service players out there. So as the closings mitigate through time, you will see that net increase.

Alright. Thanks.

(Operator Instructions)

Mark Smith, Feltl and Company.

Good afternoon, guys. First off, Mark, I just want to confirm, you guys said 16% to 17% restaurant-level margin was the new guidance?

On the Company side that's right, Mark, so 16% to 17% is the annual guidance range, and again, the first quarter number was about 17.1%.

Perfect. And then can you guys give an update on international restaurants, on the opportunity and where we are at today?

I will start and someone else may finish this question. We did have a couple of openings this year in Canada, but we're off to a good start.

We do have new more openings in the Middle East opening this year, we've been talking that -- we started talking about that last year when we signed that agreement. It's a 30-unit agreement over 10 years with -- starts in 2015. So we are building some momentum there. We now have 106 international locations; that leads all family dining brands in stores outside the United States and we expect to build on that.

And this might be a fluff question, but John, can you talk just a little bit about relationship with franchisees today and kind of the health of their business?

It's an important metric. I think franchisees are our customer. We have excellent operators in our system, some that have been around a long, long time and some that are brand new.

We care about those relationships, we care about their success, their desire to continue to build restaurants and operate restaurants and delight our guests every day. So what they believe about the brand and its potential and the leadership of the brand is very important to us. I would say that those relationships are well-looked after, we put a lot of time and energy into brand advisory councils and inclusion of franchisees on the major decisions of the Company.

And they are not perfect, but I'd say they are very solid, I'd say they are well above industry norm at this stage. And we would like -- much like international development, we would like to build on that. We worked hard to get there and we think it is very important. But I would say right now it is not a concern, I would say it's very healthy but at the same time we always want to make sure it is improving all the time.

I think the other thing, Mark, this is Mark Wolfinger, is that the other element that we continue to see in a positive direction is interest from outside the system. And that mixes between folks coming new into Denny's and building new stores and new trade areas to franchisees from other brands, very strong, reparable brands coming in and purchasing existing Denny's restaurants and growing from there. So that was little bit of what we saw during the refranchising process but we continue to see it on new franchise growth as well, which I think is a positive signal about the brand and also the relationships with our existing franchise base.

Excellent. Thank you guys.

Nick Setyan, Wedbush Securities.

Hi, this is Colin Radke in for Nick. Perhaps I missed it, but I just wanted to get the update on your guys' commodity outlook for this year?

I will tell you -- it's Mark, Colin, how are you?

Hi, I'm doing well, how are you?

On the commodities side, I would say that the picture has improved a little bit. I think as we talked about commodities expectation for 2015, like late last fall, we talked about maybe a 2% range for commodity inflation. We actually ended 2014 with around 1% inflation in commodities, and that was last fiscal year. Our current expectations are probably going to be in that range, 1%, might be a little bit better than that, but call it around 1% in 2015.

And I know you'll asked the question about how locked are we into our current buy; we are about 70% locked into our current buy. So I would say the commodity inflation picture overall is pretty solid for us at this point.

Okay. Got it. Thanks.

And then just on the comps, so the guidance still implies a fairly significant deceleration even on a two-year stack as the year progresses. Is that just conservatism or is there perhaps something special about this quarter that would lead you to think maybe this momentum wouldn't continue for the rest of the year?

Colin, I'll start and John will probably jump in here. I think a little bit of the reminder, obviously, I think as we mentioned up front and mentioned even perhaps in our guidance when we gave guidance, annual guidance, originally that the first half of the year and certainly the first quarter were probably easier comparable.

So we took that into account into our original annual guidance and that still remains in account today. Some of the changes we made in $2 $4 $6 $8 we made in the latter half of 2014. So as we come into the latter half of 2015 we'll run up against those changes, which I think as John outlined earlier, were pretty favorable as far as impact on things like GCA mix, et cetera.

So we're taking that into account as well. And so I would look at it and say we have tweaked up -- we've taken up our annual guidance, which for both Company and franchise restaurants. And obviously we don't give quarterly guidance and subject to second quarter and third quarter et cetera we'll review our annual guidance accordingly as we did last year.

Got it. Thanks and congrats on a great quarter.

Thank you.

And there are no more questions in the queue. That concludes our question-and-answer session for today.

Thank you, Blake. I would like to thank everyone for joining us on today's call. We look forward to our next earnings conference call in early August to discuss our second quarter 2015 results. Thank you and have a great evening.

Thank you gentlemen, and that does conclude today's conference. We thank you for your participation. You may now disconnect.