Dine Brands Global Inc (DIN) 2016 Q2 法說會逐字稿

Welcome to the second-quarter 2016 DineEquity, Inc. earnings conference call. My name is Sylvia and I will be your operator for today's call. (Operator Instructions). Please note that this conference is being recorded. I will now turn the call over to Ken Diptee. Ken, you may begin.

Good morning and welcome to DineEquity's second-quarter 2016 conference call. I am joined by Julia Stewart, Chairman and CEO; Tom Emrey, CFO; and Gregg Kalvin, Corporate Controller. Before I turn the call over to Julia and Tom, please remember our Safe Harbor regarding forward-looking information.

During the call management may discuss information that is forward-looking and involves known and unknown risks, uncertainties and other factors which may cause the actual results to be substantially different than those expressed or implied.

We caution you to evaluate such forward-looking information in the context of these factors for detail in today's press release and 10-Q filings. The forward-looking statements are as of today and assume no obligation to update or supplement these statements.

We may also refer to certain non-GAAP financial measures which are described in our press release and also available in DineEquity's Investor Relations website. I will now turn the call over to Julia.

Thanks, Ken, and good morning, everyone, thank you for being on the call today. Here are the headlines for the second quarter. We delivered year-over-year growth in second-quarter adjusted EPS despite soft comparable sales at Applebee's and IHOP. We also generated free cash flow of $56 million in the first half of the year.

IHOP's second-quarter comp sales increased by 0.2% while lapping over the brand's highest quarterly sales increase in over a decade. At Applebee's we saw a decline of 4.2% in comp sales for the quarter and I will elaborate on this shortly.

As a result of the sales performance at Applebee's and IHOP during the first half of the year and our outlook for the back half, we are revising our 2016 comp sales guidance downward for each brand. We still expect come sales improvement in the second half, but given the year-to-date results we think it is prudent to reset the ranges. Tom will elaborate on these revisions in his remarks.

Applebee's has been number one in casual dining for nine consecutive years as measured by total system sales. Our brand remains strong and we continue to drive brand differentiation for the long-term while testing and implementing short-term traffic driving initiatives.

In May we announced the nationwide launch of certified USDA choice hand cut steaks on a wood fire grill using real American oak. Over 40% of our menu items are now being cooked on the wood fire grill from steaks and chicken, salmon, pork chops and vegetables all now have that smoky flavor guests love.

We are well aware of changing consumer needs and demands, so we are testing several revitalization initiatives to address them. To give you a sense, they include items such as value messaging, revitalizing the bar, Carside To Go and delivery options, the remodels and new prototype programs, leveraging social and digital media to interact with guests in real-time, and simplifying the menu which includes the deletion of 22 menu items this year alone to make room for new menu innovation.

In addition, with an average check of under $14, Applebee's is still near the low end of the scale for casual dining and provides guests with great value which we define as more than just a price point. And we have become more relevant to the younger generation, almost doubling the percentage of millennials in our restaurants in the last four years.

As I said before, changing perceptions of Applebee's and revitalizing the brand will not happen overnight. However, we are already beginning to see a change. And there is more good news, we conducted proprietary research after the launch of hand cut wood fire platform and discovered that 95% of guests that purchased an entree prepared on the wood fire grill said they would repurchase it again, due to the overall taste and quality of the item. This is the start of changing the Applebee's story which takes time.

However, this quality improvement was met head on by consumers looking for value. Based on what we have learned our best hypothesis is that the platform's performance was impacted by not communicating its value proposition. We are currently working very closely with many of our franchisees to test and validate various value messages to help with short-term traffic.

In addition to testing several different value messages with TV, we are also launching local promotional activity across the country to assist with short-term traffic needs. And more good news, while all of this additional traffic generating work is underway, we have made real progress with improved service at Applebee's. Overall satisfaction scores have increased 500 basis points since the launch of hand cut wood fired and 64% of our restaurants are now rated A or B operationally.

To recap, we are changing the story at Applebee's and revitalizing the brand. This will not happen overnight. A major step in our journey was the introduction of the new wood fired cooking platform which, as I said earlier, impacts over 40% of our menu and it doesn't end there.

We are testing and validating several revitalization initiatives while laser focused on enhancing our service to the guest, a key component of price value. And we are testing several value related messages to give guests reasons to visit our restaurants and come back more frequently in the short-term.

We are number one in casual dining and we serve over 1.25 million people a day, we will not be deterred. Our franchisees are supportive and want to be part of the revitalization.

Now let's switch gears to IHOP. Despite achieving its 13th consecutive quarter of positive comp sales, IHOP sales performance wasn't what we had hoped for either. However, it is worth noting that in the second quarter we lapped over the brand's strongest results in over 10 years, a 6.2% increase.

Additionally, we believe that consumer sentiment shifted during the quarter and caused guests to be more conservative and value driven. On sustaining and building on IHOP's momentum, we are reinforcing our breakfast heritage and leadership position through everything that we do. We are testing additional platforms but there is more work to be done.

We are streamlining our menu to make it easier to execute in the back of the house while continuing to build a pipeline of innovative and unique menu items. Evolving our breakfast strength to other dayparts with IHOP's unique ability to provide a personalized offering to consumers will be a key aspect of these exciting changes.

We are driving a significant and exciting remodel program, as we have said before, and we are on track to have approximately 350 restaurants completed in 2016. The cost of the remodel ranges from approximately $100,000 to $175,000 depending on the extent of the remodel.

We are placing a greater emphasis on our food which is made fresh to order with the use of fresh ingredients and certainly differentiates us from fast food restaurants.

As I said earlier, there are parallels with Applebee's. IHOP also needs a compelling long-term value message, so we are communicating an even more pointed value message going forward.

One proven fact of how we'll accomplish this is by bringing back Kids Eat Free This Month. This will be the centerpiece on our new valued strategy which we expect to drive traffic. How we communicate these initiatives in the coming months and years is just about as important as what we are communicating. We have a continued focus on the use of technology including social and digital media to engage with our consumers.

To this end one-on-one daily engagement is central for our social media strategy and we are capitalizing on real-time content opportunities to keep the brand relevant. We are also challenging ourselves to raise the bar and continually strive to take our advertising to the next level. To achieve this our new ad agency of record will assist with developing a new creative message. The new direction we have taken will be reflected in the campaign that kicks off at the end of September to support the introduction of new innovative seasonal items.

Now turning briefly to development which is also a key part of our strategy. As you read earlier in our guidance, we are going to guide on the lower end and suggest that we may overall open five less restaurants. Our analysis suggests there is ample headroom to continue developing Applebee's and IHOP restaurants in the US and internationally. We are working with our franchisees, both existing and new, to expand our footprint in rural, suburban, urban and nontraditional locations.

Additionally, we are currently assessing our longer-term international development projections and will provide an update on our progress next quarter. And with that I will turn the call over to Tom to discuss briefly the quarterly results. Tom?

Thanks, Julia. Good morning, everyone. I will provide a brief recap of the second-quarter's financial results starting with the income statement.

Adjusted EPS in the second quarter was $1.59 compared to $1.53 in the same quarter of 2015. The increase was mainly due to fewer weighted average shares outstanding, lower income taxes, higher gross profit and a decline in cash interest. These items were partially offset by higher G&A.

Regarding gross profit for the second quarter, the slight year-over-year increase was mainly driven by development by IHOP franchisees over the last 12 months and favorability in IHOP royalties and dry mix. These were partially offset by lower Applebee's royalties and the decline in financing interest income.

Turning to G&A, on an adjusted basis to exclude nonrecurring consolidation charges second-quarter G&A was approximately $36 million compared to roughly $35 million in the same quarter of last year. The increase was primarily due to higher personnel-related costs. When including roughly $500,000 of consolidation cost, G&A was $36.5 million.

Please note that G&A for the second quarter also reflects lower incentive compensation accruals due to the comp sales performance of both brands in the first half of the year. And as a reminder there is some seasonality to our G&A and the back half of the year related to our annual franchise conferences which are both scheduled for the third quarter this year compared to the fourth quarter in 2015.

For the full year we reaffirm our G&A guidance range of between $154 million and $158 million. And please note that this includes a total of approximately $4 million of nonrecurring costs related to our restaurant support center consolidation. And I would like to highlight that these costs do not have an impact on adjusted EPS. We continue to closely manage our G&A.

Now I would like to provide a brief update on the restaurant support center consolidation. The process is nearly complete and is going as planned. Year to date we have taken approximately $5 million in charges. Of this roughly $2.6 million hit G&A primarily for relocation and recruiting related to the consolidation. We also incurred a charge of approximately $2.5 million in lease termination costs related to the facility in Kansas City which were included in closure and impairment costs.

We initially estimated that we would incur approximately $8 million in pretax consolidation costs solely related to the facility in Kansas City. Our original assumption was based on the entire facility being subleased. We now estimate that we will incur a total of approximately $5 million as a result of terminating our lease on two floors of the Kansas City building. Our team members will be moved to one floor that we will retain.

On our tax rate, the tax provision in the second quarter of 2016 was lower due to our adjustment on state deferred taxes as a result of the restaurant support center consolidation.

Now a few comments on the cash flow statement. Cash flow from operating activities were $54 million for the first six months of 2016 compared to $48 million for the same period last year. The increase in cash from ops was primarily due to favorable net changes in working capital due to having paid less interest on our long-term debt and an increase in advertising funds and marketing accruals.

As a reminder, the initial interest payment on our securitized debt in the first quarter of 2015 represented five months of accrued interest through March of 2015. All subsequent quarterly payments, including the payments made in the first and second quarters of this year, represented three months of accrued interest respectively.

The increase in cash from ops and the favorability in CapEx were partially offset by slightly lower net receipts from notes and equipment contracts receivables resulting in free cash flow of approximately $56 million for the first six months of 2016 compared to nearly $50 million for the first six months of last year.

In the second quarter we returned a total of $32 million to shareholders, which includes $17 million in cash dividends and $15 million to repurchase roughly 181,000 shares of our common stock.

Turning to our performance guidance for fiscal 2016, I would like to highlight a few revisions, so please see our press release for details on the complete guidance. We now expect Applebee's comps to range between negative 3% and negative 4.5%. The previous range was between negative 2% and positive 2%. We currently expect IHOP comps to range between positive 0.5% and positive 2%. The previous range was between positive 1% and positive 4%.

We are also making incremental investments over the next few months for testing additional marketing programs at Applebee's as part of our plan to generate traffic. We expect this to result in a decrease of approximately $2.5 million in Q3 franchise segment profit.

Combined with the revised comp sales guidance, we now expect franchise segment profit to range between approximately $342 million and $352 million for the fiscal year. The original franchise segment profit guidance was between $345 million and $360 million.

We will continue to review our performance guidance on an ongoing basis and with that I will now turn the call back over to Julia for her closing remarks. Thanks.

And thanks, Tom. To recap we delivered growth in adjusted EPS despite comp sales being below our expectations. We also continue to generate strong free cash flow. A significant part of our story is that we have two iconic brands: IHOP is the leader in the industry's only growing daypart and we are in the early stages of revitalizing Applebee's, one of the world's largest casual dining chains.

Getting both brands firmly back on track is our top priority. We are taking steps to drive positive and sustainable sales and traffic with a renewed focus on value at each brand. We also continue on thoughtfully exploring a strategic acquisition.

Finally, the consolidation of our headquarters is nearly complete. And we are seeing the benefit of real synergies across the organization which has facilitated more effective collaboration. The consolidation resulted in approximately 100 new hires and has brought our two strong brands under one roof.

In closing, we are confident in our plans and the strategic steps we are taking to drive the business forward. And now Tom and I would be pleased to answer your questions. Operator?

(Operator Instructions). David Carlson, KeyBanc.

I just had a really quick question. Is the thought process being that -- on the free cash flow that after paying dividends you still plan to spend the excess to repurchase shares? And then a follow-up to that being given the same restaurant sales decline and the revised guidance, has it at all caused you to revisit your capital plan?

No.

It hasn't. It hasn't made any significant -- real significant adjustments to our free cash flow when you look at it in totality. And so, we have been doing what we have been doing for the last while and we are not probably going to be making any changes to that.

Brian Vaccaro, Raymond James.

Julia, I wanted to just start out with the wood fired grill platform at Applebee's. And appreciate some of the details around the initial guest response. But can you remind us sort of what has been done so far to build awareness around the platform? And what the plan over the next several quarters would be to continue to drive awareness there?

Sure. So in the middle of second quarter we began the advertising that talked about the fact that we have this wood fired platform and also that we were hand cutting our new USDA choice certified steaks, so -- on the American oak, which is -- that was the major thrust. So for the balance of the year you will see more of it about both the value messaging, but it also relates to other products that go on the wood fired platform.

So the only thing we talked about in the initial launch was about steaks. But over 40% of the menu at this point is affected by the wood fired platform. So the balance of the year you will see that. So, for instance, right now we are in the middle of salads, which has -- many of them are on the protein that is on the salad is on the wood fired platform and also making dressing in-house.

So, it continues those quality cues, but a lot of it related to wood fired. The reason I mentioned the testing is we think there is an opportunity to bring in a stronger value message. So that was the marketing, if you will, and then there was PR and there was additional in-store re-messaging that we did as well with the launch.

Okay, all right. That is helpful. And secondly, I wanted to ask about your perspective sort of on the broader industry weakness and maybe from two angles. First, sort of the ongoing debate regarding the health of independents and their relative performance versus the chains. Could you share your perspective from what you are seeing on the ground or hearing from franchisees in that regard?

Yes, it is very interesting. I think you have heard me say for some time that the consumer is lumpy and bumpy and I would continue to say that. I think in general terms there hasn't been a huge shift in market share. What you saw a couple of quarters ago in terms of independents versus chain is very similar. I mean we are so big to make a change in that category mix shift would take a lot.

So in general you are seeing very much the same in terms of market share and so forth that we saw, I would say even three quarters ago. So it's not huge changes and shifts. I think you are going to see that it would reflect probably over several quarters.

All right. And then you mentioned your mix of millennials in terms of the consumer mix is up significantly over the past four years. Could you share where that percentage stands these days?

Sure. Millennials are now over 40% of the mix at Applebee's, that is significantly higher than many of our close in chain competitors. I don't have the way to get at the independents, but that is through the work that we have been doing both in revitalizing the brand -- and clearly there is no question the social and digital strategy has made a significant inroad as well.

And the bar, that is one of the advantages we have at Applebee's. The bar does attract the millennial and we have programs to enhance it. I think you heard in my prepared remarks about the revitalization of the bar.

Great, thank you.

John Ivankoe, JPMorgan.

I wanted to go two different places. First just the overall attitude and willingness of not only the Applebee's franchise system to reinvest, but are you sensitive, Julia -- you have some experience in this industry. Are you worried about potential closures or non-renewals of the franchise system especially as growth for the brand was so robust 20 years ago?

Well, I will start by saying that we only have 32 franchisees in the Applebee's system who own almost 2,000 restaurant. So this is a very well healed, sophisticated, thoughtful group of franchisees who have over the years invested millions and millions of dollars in this business.

Just like our IHOP franchisees bleed blue our Applebee's franchisees bleed Applebee's. They care deeply about it, it is their primary business and they want to see it as successful as we do if not more so. So they are highly committed and, as I said, they have been willing to test all along with us and continue to do so because they too believe that consumers' expectations and demands are changing.

When you have 40% or more of your consumer base is millennials, their expectations are different than a baby boomer's, if you will. I am grossly simplifying but you get the gist. So the needs have shifted and the franchisees I think are -- because they are so savvy, are willing to move with us. If that means a closure here and there as it has over time then we figure it out and we work with our franchisees.

But I think you are also seeing more and more franchisees willing to realize if the shift of the trade area moves they move with that new trade area. So it is not just about closures, it is about moving to new areas of growth and development and they are very focused on that. So they have been terrific partners in that whole arena.

And you made this comment in your prepared remarks about potential growth of Applebee's in the US. I mean as you have conversations with these 32 franchisees and they have a sense of their pipeline, what may be closing, what may be moving, what might be opening. Can the system sustained at the number of units that it has today? I mean what is kind of your view over the next couple of years in terms of the US Applebee's store count?

Yes, as you know, we announced -- gosh it has probably been two years ago that we thought Applebee's could do a couple hundred more restaurants and that was over the old modeling work that we have done. But Jim has been with us for a year and has done even new and more sophisticated modeling and that number is still very relevant. So that work is in progress.

The mapping that he does individually by DMA and we -- each franchisee is a very thoughtful review of where they are, where they could grow and what the map suggests as either trade areas develop or grow or move. And that work is going to be in progress -- well really the end of this year and the beginning of next year to really hone in on that sophisticated level of development and where we might be able to go.

What will be interesting in that work, and I've really never talked about this before, much similarly to the work we are doing at IHOP is whether there are fill in opportunities in existing markets where you use a smaller footprint or you look at different ways to outlay that marketplace. That is the work that Jim and his team actually have been working on, will be finalizing and then literally sitting down with each individual franchisee.

These are -- all of these franchisees are sophisticated developers, but they want that additional mapping work, which we are in the process of finalizing. So, that will be an opportunity for them to really stretch their wings and can look at the growth potentials by DNA. Some have more potential than others.

So, can you give us color to the extent that it is appropriate about kind of the state of those 32 franchisees? Should we expect to see more consolidation? Maybe there could be some fragmentation, maybe there are some generational issues amongst what -- I think some of these are family-owned businesses, that may be transitioning. How do you anticipate that franchise community changing? And can that be to a benefit to you in the next few years?

I think you will always -- and I have been saying this for years on both businesses. There is always buyers and sellers, that is no different this year than it has been any other year. You will always see a couple of transactions from an existing franchisee to a new franchisee, whether they are in the system today or not.

Our recruiting efforts this year, just like any other year, have produced a handful of interested parties who would like to become franchisees. So, I think that buying and selling, if you look over the last, gosh, I will say five years, in any given year you have had a handful of franchisees sell and a handful of either new franchisees or existing franchisees buy. I don't see that as any different this year.

Okay, thank you. I may change directions for a second. It looks like your net debt to adjusted EBITDA is around [4.25] I think, is that what you guys calculate?

Yes.

A little bit higher than that mid-4s.

Okay, mid-4s. What is the appropriate target leverage ratio for the Company at this point? And just remind us what kind of either refinancing opportunity. Or I guess probably better said at this point, tack on ability that you have to the current facility. That if you wanted to put more leverage, half a turn or a turn or whatever, could you and would you I guess is the question?

So let me start off with saying we have said for several quarters when asked that question that we are very comfortable with where our leverage ratio is today, we feel very good about it. But I will let Tom answer in terms of the [refi] specifics.

No, I think that is fair. We can't really refinance the securitization for a while anyway and it runs out -- the total period of it is seven years and it runs through 2021. And so, there is no urgency to do that. We feel pretty good about where we are and as it stands now don't propose to make any significant changes to it. There is some room to borrow more under the securitization potentially, but we will have to evaluate that as needs arise.

And then just to refresh your memory, we do have the revolver, which is $100 million, we have that revolver as well. And (inaudible) drawn against the revolver like [5]?

About 5.

Yes, it is really tied up in the letters of credit, but we always have the revolver as well. Sorry, I didn't mean to interrupt.

Oh, please. And then in addition to that revolver you are carrying $118 million of cash. How much of that is -- can be returned to shareholders? I mean how much of that do you want to perpetually holdback versus could be used for other purposes?

Well, a fair bit of that money is advertising and gift card related and all that. So what you should look at is a metric that we talk about when we talk about our annual free cash flow and the amount we return to shareholders. And that has been pretty consistent over the last couple years and that is sort of the way to kind of look at it.

Okay, thanks.

Michael Gallo, CL King.

One question and one follow up. First on wood fired grill, Julia, I know you noted very strong purchase intent and customers seem to really like the product. I was wondering whether with some of the changes whether perhaps some of the core price points might be too high for where the customer is today.

I know you are addressing it a little bit here on air with the $8.99 salads. But can you speak to whether some of these changes and improvements might have priced it a little above your core customer? And then also I have a follow-up question. Thanks.

Yes, so great question, really good question. I think there is two things to remember. In the casual dining space you have a lot of light user base. And so, we recognize, and we have said this repeatedly, that it takes time for people to try the items, come in and actually do it.

We have a huge -- as in all of casual dining there is a huge light user base, so it does take time. So I don't want to underestimate the importance of -- people make it clear, when they are ready to go in they will try at it and they can't wait, that type of thing. So we know that.

The other thing I mentioned is it is less about the price that actually franchisees are charging for it, it was the fact that we didn't put a price point on television. So our hypothesis is some people may have thought, gosh, this is going to be expensive. So, we have a way to counter that with the work that we are doing for the balance of the year. But I think those two things combined are an important factor to remember.

Thank you. And then just a follow-up on IHOP. It has really outperformed for a long period of time and you have done a great job with the brand. I was wondering this quarter whether you really saw anything shifting either competitively or otherwise or was it just more a function of Paradise Pancakes perhaps not being as strong a promotion as Summer Stacks was last year. Thanks.

Yes, great question. And we continue to do well and the brand is, as you might well imagine, iconic in so many ways. I think as I said in my prepared remarks, we recognize there is probably an opportunity as we think about messaging the brand to the consumers to be a little stronger in terms of reminding people what we do differently and better than everyone else.

That is the notion of a new ad agency, that is the notion of being a lot more focused on -- I wouldn't say aggressive, that is probably not a fair word, but being a lot more targeted in our approach about the things we do that virtually no one else can do and talking about them in a more meaningful way. I think I sort of tongue-in-cheek talked about the fact that we have been serving breakfast all day for 57 years and we have been scratch cooking forever and the like.

So, there is probably a bit more of a targeted approach we can do to the messaging that we think we need to get after. The brand is certainly solid and iconic and brings back memories for anybody and everybody. But I think there is an opportunity in the messaging and that is really the focus that I was trying to get across in my prepared remarks.

Just as a follow up to that, I mean am I hearing you right that you don't really see much changing in the dynamic around competitive or geographic or otherwise. It is just from a standpoint of IHOP controlling what it can control, is that fair?

I think that is fair, but I would also say -- and I think I mentioned this a couple of quarters ago, there is no question you have significantly more people in the breakfast space today than you did five years ago. That is why it becomes so important how you message what we do differently than everybody else. We just have to be more laser like in that communication.

Okay, thank you.

Alton Stump, Longbow Research.

Hey, guys, it is actually Brittany Whitman on for Alton this morning. On the wood fired cooking platform, I wanted to ask about the guest traffic that that is driving. Is it mostly just new customers or is it more regular customers coming in more often or what is that dynamic?

I think the dynamic is that you have existing guests who know and love us coming in a lot more frequently. The opportunity is to get that infrequent and light user to come in, thus everything I talked about today about really focusing on the value pieces and driving it home to that light or infrequent user that may be either shopping or just needs to be reminded of what we have got that is new and different.

Right. And is there anything in the platform that maybe you could talk about to sort of keep that going or --?

Well, there is lots of things. And I mentioned it early on, that over 40% of the menu now being impacted by wood fired grill we have a real opportunity to talk about some of those other items. It is not just about steak. I challenge you to go have that pork chop and tell me that is not the best pork chop in America, or the salmon or the grilled vegetables.

I mean, they are really fabulous products and thus this notion of now that we have gone an air talking about salads. But we have a real opportunity not just to talk about the platform but -- and the innovation doesn't stop there. All the things I mentioned to you early on about all the new initiatives that really are focused on the revitalization.

It is not just that wood fired platform but it is a great beginning and there is a lot more to talk about related to that. And this value messaging. Because I always have to remind people we play at the low end of casual dining and there is a real opportunity there to take advantage and optimize that.

Okay, great. Thanks, Julia.

We have no further questions at this time. I would like to turn the call back over to Julia Stewart for closing remarks.

Well, thank you all again for joining us on the call today. We are scheduled to report results for the third quarter on November 1, so if you have any questions in the interim, as always feel free to contact Ken or Tom or myself and thanks again.

Thank you, ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.