達美樂 (DPZ) 2006 Q4 法說會逐字稿

Good morning, my name is Russell, and I will be your conference operator today. At this time, I would like to welcome everyone to the Domino's 2006 earnings conference call. All lines have been placed on mute to prevent any background noise. [OPERATOR INSTRUCTIONS]

At this time, would I like to turn the call over to our host, Ms. Lynn Liddle, Executive Vice President of Investor Relations. Thank you, Ms. Liddle, you may begin your conference.

Thanks, Russell. Good morning, everyone. With us today, we have David Mounts, CFO of Domino's Pizza, and Dave Brandon, Chairman and CEO.

With us, or today we are going to be doing a short call that will not include Q&A, and Dave Brandon is going to explain that in the beginning of his remarks. But before we do begin, I will remind you if we make any forward statements, I will forward you to our Safe Harbor statement at the end of our press release

So with that, I would like to turn it over to Dave Brandon.

Good morning, everyone. Thanks for your continued interest and support for our brand and Company. This conference call is different than what you, and frankly what we, are used to. As Lynn mentioned, in light of our recently announced recapitalization and tender offer activities, we are being advised that we must be careful, more careful than we would typically be, with our communications on this call. Now David will review key elements of the recapitalization here in a few minutes.

But I want to point out the fact that he will not be providing any information that hasn't previously been released. But because of the timing of this call, and for the reasons that were just mentioned, we have been advised that we are not able to include our typical Q&A session. And we are going to be more scripted than usual, and I personally don't like that, but that is the way it is.

We have tried to anticipate the issues you would want us to cover in this call and we will try to be as thorough and as open as we can in recapping our performance from last year, as well as commenting on the overall market environment, and some of our general plans for the future.

You should also be aware that we are not able to have our regular follow-up conference calls with analysts today. Again, this is the result of our ongoing recapitalization plan, and the legal advice that we are receiving. So if you have specific questions, I would recommend that you e-mail them to Lynn, and she will answer them as best she can with the guidance and direction of our attorneys.

And if you have questions about the recap or the tender offers specifically, you can also call or e-mail Lynn, although we will tell you right up front, she can only speak to you about information that has already been disclosed in the public documents. So, we will do our best to communicate as openly as possible, given these current constraints. But we look forward to being in a position to have a more typical overcommunicative session with you as soon as that is possible.

As it relates to 2006, it was a difficult, challenging year from every perspective. Others might make excuses regarding a number of issues, including tougher than normal comparisons versus 2005. We had a great year in 2005, and we were constantly comping up against tougher numbers than normal, we had negative economic pressures during the year, with fuel and consumer spending issues.

We had a sluggish category growth environment. In the fourth quarter, I can tell you we had weather patterns that certainly didn't help the pizza delivery business in what typically fuels our activities during that important time of the year. So there were a lot of factors out there that were negative and working against us, but I am not one, nor is my team, prone to making excuses. It is our job to figure out a way to increase our domestic same-store sales, somewhere between 1 and 3% every year. That is kind of our go-forward plan year after year and we just simply didn't make it happen in 2006.

If asked to characterize the year in a number of important areas, I would use kind of a simple grading scale that ranges from below average, to average, to above average. And here's how I would explain what I feel happened as it relates to the core issues in 2006.

The pizza category overall was below average. Although we continued to experience some ticket growth during the year, traffic growth for us and our national competitors, continued to be very hard to achieve throughout the year. National competitors lost share during the year to regional and local players overall, and we believe that one of the reasons for that is that the gap that has grown in the ticket between national players and the local players, and that differential is a factor and certainly one that is being addressed.

Pizza as a category, particularly delivered pizza, lost share of wallet, to less expensive QSR choices in 2006, purchased at both breakfast and at lunch. We have seen these cycles before. We will see them again. And so part of this is just a cycle, but it was a contributing factor to the sluggish traffic counts that we experienced in 2006.

Finally, would I tell you as it relates to the category, consumers were very price and value-oriented, and our value proposition was not as strong as some of the other choices in our category, and outside of our category. And again, all of these issues are being addressed.

On the marketing side, I would really break the year into two parts. The first half of the year, I would characterize as below average. Our promotions required too high of an overall ticket price, and it did not excite consumers. We attempted to push ticket too high, too fast in the first half of the year.

However, in the second half of the year, I would really give our marketing calendar and activities an above average ranking, because we executed two very strong product promotions, backed with good creative, and those took the form of both our brownie squares, our free brownie squares promotions, and our Brooklyn-style pizza. Two very good products, good, creative, and we believe that the marketing effort behind those two particular activities was strong.

However, results are not just about national marketing, and that prompts me to turn my attention to our operational performance. I would rate our operational performance in 2006 as below average. I do not believe we did a substantially better job than our competitors, and we have to, because we are the ones who pioneered pizza delivery, and our customers still and should regard us as the experts in pizza delivery.

Our operational performance slipped during the year, and we are addressing that issue very aggressively throughout our system. When our operators encountered sluggish sales during the first part of the year, they tended to do what operators do, and began adjusting staffing levels and managing down labor costs, and it put them in a tough position in the second half of the year to take advantage of some of the sales opportunities that were created. And that was unfortunate.

But as I discussed in our last call, we have increased our field force, and we continue to put heavy focus on both local store marketing, and our operational execution at the retail level. We need to do a better job of stepping up to the fact that pizza is local, and national marketing cannot be relied upon to be the primary driver of sales.

Sales are owned and operated by local managers and operators, and in reflection, too much reliance was placed on our national media roll-up strategy in 2006, and not enough emphasis was put on our local operations and our local marketing.

Now, happily, we had many things go right 2006, starting with our international business which continues to sustain terrific results in every measurable way. Our international division delivered a plus 4 comp. Right in the middle of the range of expectation that we have set for the investment community, and consistent with their ongoing pattern. In addition to same-store sales growth of 4%, we had a net 236 store growth performance in 2006.

And we signed some notable new franchise agreements with master franchisees when we sold the rights to France Belgium in the Netherlands to our largest franchisee in the Domino's global system. Domino's Australia U.K., now known as Domino's Pizza Enterprises, Limited. And we continue to make progress with our long-range plan to create the right partnership and plan to expand our presence and business interests in China.

Together with moderate domestic store growth, and domestic sales declines, our strong international performance helped us to post 2006 global retail sales of $5.1 billion. 2006 is the first year in many during which we underperformed versus our plan, and we are not happy about it. The shortfall was completely a result of softer than expected domestic same-store sales, and we are passionately committed to making the adjustments we need to make to correct that situation.

However, this year does a great job of illustrating the resiliency of our business model, because despite some tough terrain domestically, I would rate our overall financial performance as above average in 2006. We implemented tight cost controls and once again demonstrated our ability to flex our G&A spending as required, as we continued to provide increased income from operations.

And in what we would characterize as a disappointing year in some respects, we generated $113 million in free cash flow, which we deployed aggressively to build shareholder value. 5.6 million share repurchase from Bain, nearly $30 million in dividend payments, and we achieved a 16% stock appreciation for the calendar year.

Going forward, we see some opportunities to help us jump start our domestic sales, our value proposition to the consumer has to be stronger to re-establish graphic growth, our customers must feel that they are getting the bang for the buck that they expect with their pizza meal, not just some of the time, but all of the time. We must find the right mix of value meal bundles, pricing and new products, to attract those who moved to cheaper alternatives during 2006.

We have a significant opportunity with our marketing mix, clearly the game has changed about how marketers need to reach their consumers, and we are no exception. The world is no longer sitting in front of their TVs bound to watch commercials. They are either TIVOing or zapping commercials, or they're on the web, they are on the go, and they are harder to reach. TV will always be important for our category and our brand and Company, but we need the resource differently, in recognition of the fact that TV alone is not enough to sustain positive sales. It will take investment in a diversity of channels, to reach all of the consumers we will need to continue to drive our growth.

Most important is the passionate execution of local store marketing. As I said before, pizza is local. And we cannot forget how important it is for us to deploy a certain portion of our marketing resources time and money, against the local communities that we serve. These media-related issues and initiatives are very much macro in nature, and will take time, given that advertising buys and promotions need to be planned and booked well in advance. We will be making some changes in these areas, and they will have more of an effect in 2008, than the impact that they will have this year.

However in 2007, we will continue to work on executing at the highest level possible, particularly at the store level. If we can outperform the regional and local players in each market, which is what we really need to do, and that is very much a comment about operations, as well as local store marketing, we will beat them as a result of our national brand leverage. Pizza is sold neighborhood by neighborhood, and service and local store marketing will be the key to our success. We expect that the cycle will change in our category as it has so many times in the past.

So in conclusion, history does repeat itself in this business. When we took the Company public in 2004, we set parameters for our business for investors to see, based on nearly 50 years of operating experience. We said we expect moderate same-store sales growth, between 1 and 3% domestically, and 3 to 5% internationally. We said we could grow stores by 200 to 250 net new units a year with the majority of these coming from international. And together these inputs would bring us to between a plus 4 and a plus 6% growth rate most years in global retail sales growth.

With a business model that is primarily franchise, including a profit sharing distribution company, and has very low capital needs to grow, double-digit bottom line growth is achievable and sustainable, based on that level of performance. We have shown that consistently ever since Bain Capital purchased the Company in 1998, and I see nothing that leads me to believe the opportunities and growth prospects are any different than they were at that time.

So that is our story. A strong cash flow business that has performed reliably over the long run. It is different from many other retail and restaurant businesses. In that it is not just about the same-store sales comp game, it's about the business model and the job we do deploying our cash flow on behalf of our shareholders, which as the recent announcements would suggest, we continue to stay committed to doing.

With that, I will turn things over to David to provide some more specifics on our 2006 financial performance.

Thanks, Dave, and good morning, everyone.

Before I spend some time reviewing our 2006 results, I would like to make a brief comments on our recently announced recap plan. As we announced on February 7, we are in the process of a leveraged recapitalization that includes four key steps. First, a stock tender for 13.85 million shares at a price between $27.50 and $30.00 per share. Second, an offer to purchase all of our outstanding senior subordinated notes which, by the way, we have already received majority consent for as of this week. Third, the repayment of all borrowings under our senior credit facility. And, lastly, fourth, the funding of these activities with a five-year committed bridge loan of $1.35 billion, of which 100 million is a resolving credit facility. This is an initial step and we have indicated that our intention is to follow and replace this bridge with securitized financing of up to 1.85 billion, of which 150 million is a resolving credit facility.

This is all well disclosed in our filings from February 7th, as well as our 10-K and the press release issued this morning. I want to emphasize that we have designed our recap plan carefully, particularly the share offer price on the equity tender, while the terms of our offer give us the option to increase the price, we will pay for the stock and the tender, we always strive to be very transparent, and we want both our current and prospective investors to know that we believe the price range we have established is appropriate.

And that we do not intend to increase the price or chase day to day market price fluctuations to achieve any particular level of trading volume in a tender. We will not measure success based on how many shareholders tender, or choose not to tender. We will measure success by how effectively we can optimize our capital structure, while offering complete flexibility to our shareholders to either sell their position, or hold and participate in a more leveraged capital structure on a go-forward basis.

In addition we filed an 8-K on February 17th, disclosing that we had entered into a swap derivative that will effectively lock our underlying rate for 1.25 billion of debt financing. This ties to the amount of our expected funding under the committed bridge agreement. This allows our financing plan to be less affected by market rate changes, and allows us to have a known underlying rate, that forms the basis of our borrowing cost as we move forward.

We cannot provide you an estimate of what the fixed rate borrowing costs for securitized notes might be at this time. The securitization process is complex, it's uncertain and these facts cannot be known until the process is successfully completed.

We look forward to providing that information to you at the appropriate time. Further, we expect our bridge lending rate to be approximately 6.5 to 7% on a floating rate basis against 3-month LIBOR for the near term. As noted in our release, our Board of Directors elected to discontinue the payment of our regular quarterly dividends, as we anticipate the payment of a significant special cash dividend. This is in connection with our recap. In addition, we are contemplating a future open market share repurchase program.

The recap plan is further evidence, as Dave mentioned, of our commitment to creating shareholder value and designing creative and effective ways of returning capital to our existing shareholders.

I will focus the remainder of our discussion on our fourth quarter and 2006 results. As Dave said, for all of 2006, we did face a headwind, when compared with prior years domestic sales comps. Our Q4 '05 was up 1.7%, and year-to-date '05 was up 4.9%. As Dave mentioned, it was a challenging quarter, but we did post solid bottom line results.

Let's review what drove net income starting with our top line. Our global retail sales increased 2.7% during the quarter. This was driven by same-store sales growth in our international business, and increases in our worldwide store counts of 287 units year-over-year. As for same-store sales, domestically, our same-store sales decreased 4.4% for the quarter. Our company-owned stores were down 1%. They were rolling over a positive 3.3% in Q4 of '05, but our franchise stores dropped 4.9%. They were rolling over a positive 1.5% in the Q4 of '05.

As for international, we are very pleased to let you know that they increased 3.9%, after rolling over a 3.8% increase in Q4 of '05. This was as the 52nd consecutive quarter of same-store sales increases in our international operations. Also driving global retail sales was our worldwide store counts. We added 128 new stores to the portfolio during the quarter. This brought the total to 287 that I mentioned before.

Leading the way was our international group, and as Dave mentioned, 236 of those were from international. The 287 units that we opened is ahead of the long-range outlook of 200 to 250 stores a year that we have provided you. Further facts on our income statement.

Our total revenues for the fourth quarter were 435.3 million. We remind that you revenues are not always a good measure of our top line growth, and this quarter was a good example of why they are not. We had a $22 million, or 4.8% decrease from year-ago levels. This was driven by the sales of stores, from our domestic and international operations, to franchisees. Lower volumes in our distribution business. This was partially related to lower domestic same-store sales, and lower cheese prices, which accounted for $6.9 million decrease in revenues. The average cheese block price for the fourth quarter was $1.30 per pound, versus $1.46 last year. This was an 11% decrease.

Next I will go to the bottom line earnings. Our diluted EPS as reported on a GAAP basis was $0.49 in the fourth quarter, and $1.65 for the full year of '06. There were several special items affecting comparability with 2005, when looking at it on a GAAP basis. We have disclosed these items in the press release that went out this morning, but I would like to quickly touch on a couple of the larger items.

First, we sold our operations in the Netherlands and France during 2006. This resulted in a $0.09 increase to 2006 diluted EPS on a full-year basis. There were significant 2005 items as well. We sold our entire equity investment in our master franchisee in Mexico during the fourth quarter, and we recorded charges relating to our Netherlands operation.

Collectively, all special items positively impacted Q4 in the full-year '05 EPS by $0.15 a share. Again, these items are detailed in our earnings release. But after considering all of these special items, our diluted EPS was $0.49 in the fourth quarter of '06, versus an adjusted $0.44 in the fourth quarter of '05, or an 11% increase. And our adjusted EPS annually was $1.56 for the full year of '06, this should be compared against an adjusted $1.43 for the full-year '05, or a 9% increase.

Summary, our earnings results were most impacted by weaker domestic sales, strong performance in our international business, and the reduced share counts due to the share repurchase in the first quarter of '06. We lowered our weighted average share count to 63.7 million shares in the fourth quarter of '06, from 68.3 million in the fourth quarter of '05.

Our balance sheet leverage had us with a total debt figure of $741.6 million. This was a $3.9 million increase from 2005. It resulted from our additional borrowing of 100 million in our term loan, that along with $45 million of cash from operations, was used to fund a share repurchase in the first quarter of '06. It was offset by $95 million of voluntary prepayments of our term loan made during the year. Our effective interest rate went from 5.8% in '05, to 6.5% this year. This was due mostly to rising market interest rates.

Interest expense was 6.2 million higher for the full year of 2006, at a total of $55 million. Our total leverage ratio stood at 3 times EBITDA, down slightly from '05 year-end leverage ratio of 3.1 times. Our capital expenditures we incurred approximately 20.2 million of CapEx during 2006. This is down from the 28.7 million we spent in 2005, which included increased spending related to our world resource center refurbishments, which completed in 2005. This concludes our financial update.

Once again, we want to thank you for your time. Normally this is where we take your questions. But as there is no Q&A on this call, I will hand it back to Dave for closing comments.

My only closing comments are to remind you that it feels awkward to us to not be in a position where we can talk in more detail about any areas of interest. But we will have to make up for that at a future time. Just want to thank you for your time and attention today. We look forward resuming our regular investor calls with Q&A, after our recapitalization process is complete. Thank you all very much.

This concludes today's conference call. You may now disconnect.