Carrols Restaurant Group Inc (TAST) 2021 Q3 法說會逐字稿

Good morning, and welcome to the Carrols Restaurant Group, Inc., Third Quarter 2021 Earnings Conference Call. (Operator Instructions) I would like to remind everyone that this conference call is being recorded today, Wednesday, November 10, 2021, at 8:00 a.m. Eastern Time and will be available for replay. I'll now turn the conference over to Ms. Gretta Miles, Controller for Carrols Restaurant Group. Please go ahead.

Thank you, Melissa, and Good morning, everyone. By now, you should have access to our earnings announcement released earlier this morning and an earnings presentation that are both 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, including answers to questions posed to management may include forward-looking statements or comments with respect to our strategies, intentions or plans and the future direction of revenues, input costs or other aspects pertaining to our businesses. 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, both with respect to forward-looking statements as well as risks that could impact our business and results, including, among other things, the impact of COVID-19.

During today's call, we will discuss certain non-GAAP measures that we believe can be useful in evaluating our performance. The 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 with our earnings release. With that, I will now turn the call over to our Chairman and CEO, Dan Accordino. Dan?

Thanks, Gretta, and Good morning, everyone. Before I discuss our third quarter 2021 top-line, let me address the elevated labor and commodity cost headwinds that we and the restaurant industry generally are experiencing. They both hit our adjusted EBITDA and margins hard in the quarter. From a labor standpoint, in the third quarter, we worked to keep our restaurants open from at least 6:00 A.M. to 11:00 P.M. in order to take advantage of the economy reopening. Given the competition to recruit and retain workers, we were required to increase average hourly wages of our team members by 13.3% and pay ship premiums and overtime in order to meet customer demand.

In addition, the Delta variant further challenged our ability to keep our restaurants staffed during the quarter given sporadic location specific closures. At least for now, that challenge has abated so far this quarter. We believe we will continue to experience labor headwinds for at least the next 6 to 9 months. Our supply chain was constrained on numerous levels. We use a combination of frozen beef from overseas suppliers and fresh beef from domestic suppliers. Beef represents about 1/4 of our commodity basket, container ships carrying frozen beef were stranded off the coast of California unable to unload their product in a timely manner during the third quarter. This supply constraint contributed to our beef costs increasing 15.5% compared to last year. Domestic food and paper producers and distributors supplying most of our commodity requirements face labor constraints, along with higher fuel costs and many passed those increases on to us.

The questions we're struggling to answer are, what portion of the higher labor costs are transitory and will commodity costs follow their traditional cyclical patterns and revert to the mean. We don't have these answers, but we do know that the inflationary cost pressures we experienced during the third quarter were not expected to the degree that they impacted our industry. The economic conditions stemming from the pandemic and its effect on the labor force, supply chain and consumer habits continue to be challenging to navigate and difficult to predict.

Turning to our sales in the third quarter of 2021, comparable Burger King restaurant sales rose 2.7% during the quarter, with a sequential improvement in trends from July through September as year ago comparisons eased, and we rolled out pricing increases in late July and in August. We estimate that we lost about 1% of same-store sales growth due to COVID and staffing related challenges that reduced operating hours in the quarter. During the third quarter, the eat in and takeout channels combined contributed about 14% to total sales at our Burger King restaurants, while drive-thru was approximately 80% and we also benefited from a 4.7% mix in delivery sales, which compared favorably to a 2.9% mix in the third quarter of last year. The average check size for delivery held at $17.53 compared to $17.56 in the second quarter of 2021. Our overall third quarter average check for Burger King rose to $9.23, including delivery compared to $9 in the second quarter. Overall, our Burger King average check increased 7.8% year-over-year as a result of higher menu prices and reduced promotional discounting.

To further mitigate input pressures, we have taken an additional [0.8%] percent in pricing in early October at our Burger King restaurants. We believe that the impact of price increases on customer demand in the current environment is small. Based on the price actions we have taken so far this year, lower promotional discounts and possible further price action expected next year, we believe that our Burger King average check will increase in the mid- to high single-digit percent range in the first half of next year.

In terms of the trends in our Burger King sales by daypart, most remained steady. The breakfast and evening late night dayparts, however, continued to recover in the third quarter of 2021 compared to the same quarter of 2020. Breakfast increased 9% and contributed 12% of our sales in the quarter, and evening late night improved 10% and contributed 13% of our sales in the quarter. We once again outpaced the overall Burger King system as we have done for 21 out of the past 23 quarters. Our third quarter 2021 comparable Burger King restaurant sales increase exceeded the U.S. Burger King system by 430 basis points. We believe we were able to drive positive comparable sales and outperformed the system during the quarter through a combination of menu price actions and actively reinstating restaurant hours.

As an update, in October 2021, comparable sales at our Burger King restaurants increased 5% compared to October last year, continuing the sequential improvement we have been seeing since July of 2021. Popeyes comparable restaurant sales in October increased 0.7%. Only in place a short time, Burger King's Royal Perks loyalty program is already beginning to have a positive impact on increasing the level of one-on-one engagement with our customers and reducing the use of paper coupons. This platform, which is currently accessible in our restaurants only through the BK mobile app will also be available to our dining room and drive through guests beginning next month.

To conclude, today, we are facing our cost challenges head on with more aggressive pricing, which we believe will help alleviate the margin pressure that we are currently facing. Looking ahead, we believe we will be able to begin recapturing a portion of the margin erosion we are seeing this year as the benefits from menu pricing actions and lower promotional discounts continued to improve comparable sales and cost comparisons potentially ease on a relative basis.

Finally, as we announced in September, I will be retiring as Chairman, CEO and President by June 30 next year. I have been with the company for 50 years, a long tenure by any measure. I believe that now is the right time, both for me and for Carrols to begin the transition to the next-generation of leadership. My intention over the coming months will be to work with our Board of Directors and management team to identify my successor and help that person succeed in their new role.

And with that, let me turn the call over to Tony to review our quarterly financials.

Thank you, Dan. Total restaurant sales for the third quarter increased 3.6% to $421.7 million compared to the prior year period of $407 million. Our Burger King comparable restaurant sales increased 2.7% during the quarter with an average weekly sales preferred King restaurant of $30,186. This is an improvement of 3.1% from 2020 levels and more importantly, exceeded 2019 levels by 4.9%. The primary difference between overall sales growth in the quarter to comparable Burger King restaurant sales growth was due to the contributions from the 19 restaurants acquired during the second quarter of 2021 and 3 newly opened Burger King restaurants, offset by the closure of 17 Burger King restaurants since the end of the third quarter of 2020.

Let me give you our Burger King performance by region as we operated 1,027 restaurants as of the end of the Q3 across 23 states. In the Northeast, representing 21% of our Burger King restaurants. Comparable sales were up 5.7%. In the Midwest, representing 29% of our Burger King restaurants, comparable sales were up 3.2%. In the South Central, representing 24% of our Burger King restaurants, comparable sales were up 1.7%. And finally, in our Southeast region, representing 26% of our Burger King restaurants, comparable sales decreased 0.9%.

With respect to our Popeyes restaurants, which represented less than 5% of our total revenues in the third quarter of 2021, comparable restaurant sales decreased 3.2% versus a positive 5.5% during the same period the previous year. Staffing challenges during the evening hours of operation this past quarter were particularly impactful to Popeyes comparable sales. However, our results still represented a 3.8% increase on a 2-year basis. We outperformed the Popeyes U.S. system by 140 basis points in the latest quarter.

As a result of the inflation challenges experienced in the third quarter, adjusted EBITDA decreased $15.5 to $18.6 million, while adjusted EBITDA margin decreased 400 basis points to 4.4% of restaurant sales. Cost of food, beverage and packaging as a percentage of net sales increased 130 basis points, primarily because of higher beef, pork and other commodity costs. Commodity inflation in the quarter was 9.2%. Recall that last quarter, we stated that our food supplier forecasted beef costs would be between $2.40 and $2.45 a pound from September to December of 2021. At least as far as September is concerned, this did not come to pass and as it was $2.68 per pound in the quarter overall. Although we have seen modest reduction in beef costs in the last 2 weeks, we now believe that commodity costs will remain elevated through the remainder of the year.

Restaurant labor expense increased 250 basis points as a percentage of restaurant sales in the third quarter of 2021 compared to the same quarter a year ago. Again, the dramatic contrast between the restrained operating environment we experienced in the third quarter of 2020 and the impact on labor costs of the economy reopening was unprecedented. On an absolute basis, labor costs increased $15 million or 12.1% from $126 million to $143 million. The imbalance between the supply and demand for workers required us to quickly increase hourly wages to remain competitive and operational with adequate staffing levels. While the base numbers of hours worked by team members were about even with the same period last year, the dollar impact of the higher average hourly wages increased our labor cost by $6 million in the quarter. Paying team members' premiums to take on additional responsibilities, such as opening and closing our restaurants and over time added $4.8 million for the overall increase in labor. The need for overtime hours for our assistant managers that were restricted last year in response to the pandemic, along with salary increases for retention cost us an additional $3.7 million in the quarter.

Other restaurant operating expenses increased 90 basis points due to a number of factors, including higher recruiting spend and other employee-related incentives, utility rate increases and rising insurance costs. We also installed smart-safes in a majority of our working locations that provide for faster cash collection and greater security, which also added to operating expenses.

Restaurant rent expense in the third quarter decreased 30 basis points as a percentage of sales compared to the prior year period, primarily due to sales leverage. General and administrative expenses fell to $19.2 million in the third quarter of 2021 from $20.4 million last year and declined 40 basis points to 4.6% of restaurant sales. The decrease in dollar terms was due to lower incentive compensation accruals this year and was partially offset by higher regional administrative costs.

Our net loss was $9.9 million in the third quarter of 2021 or $0.20 per diluted share. On an adjusted basis, excluding certain non-operating items, third quarter adjusted net loss was $7.8 million or $0.16 per diluted share. In the prior year period, adjusted net income was $5.7 million or $0.09 per diluted share. Free cash flow for the quarter of the third quarter of 2021 was $13.5 million compared to $23.8 million in the prior year period. The difference is primarily due to the reduction in adjusted EBITDA this year. We ended the third quarter with cash and cash equivalents of $89.4 million and long-term debt, including the current portion and finance lease liabilities of $523.3 million.

We had $47.1 million drawn on our $215 million revolving credit facility and had $9 million of letters of credit issued under such facility. This left $158.9 million of unused availability under our credit facility. And when added to our cash balance, provided us with $248.3 million of liquidity at the end of the third quarter. We funded the special dividend -- special cash dividend of $24.9 million on October 5, 2021.

As a reminder, our ability to utilize our revolver capacity requires compliance with one senior secured leverage ratio and is only in effect when more than 35% of the available capacity is being used. At this point, we are below that threshold and have no maintenance covenant requirement. When in effect, we need to stay under 5.75x senior secured net debt to covenant EBITDA. Our senior secured ratio was at 1.24x at the end of the quarter, so we have considerable headroom to use our current available revolver capacity.

Our total net debt compared to covenant EBITDA is defined in the senior credit facility stood at 4.03x at the end of the third quarter, in line with the ratio at the end of the third quarter of 2020. We did not repurchase any shares of our common stock during the third quarter. We now believe that our net capital expenditures will be below our earlier $60 million target as construction delays have pushed some new builds and remodeling projects to next year. Our current 2021 capital expenditure forecast is $50 million and will include the remodel of 28 restaurants, half of which will be completed this year and the remainder in 2022. This plan includes 9 Popeyes remodels that will mostly be completed next year. We are also building 8 Burger King restaurants in 2021, of which 6 will go online this year. The $10 million reduction in 2021 spend will move into our 2022 capital expenditure plan. On the M&A front, we do not currently have any multi restaurant transactions in the pipeline.

To conclude, while the near-term cost headwinds affecting our business are certainly clear, as we move into next year, we believe that we'll be able to claw back a portion of the margin erosion we are now experiencing. We believe this will be achieved through menu price actions taken to date and in the future, combined with potentially easing cost pressures on a year-over-year basis, particularly in the back half of 2022. In the meantime, our liquidity example, as is our ability to generate meaningful EBITDA.

And with that, operator, let's go ahead and open the lines for questions.

(Operator Instructions) Our first question comes from the line of Fred Wightman with Wolfe Research.

I just wanted to follow-up on sort of the margin outlook here. And I understand that there's an inherent degree of unpredictability here. But when you guys are talking about clawing back a portion of the margin loss in the back half of next year, how should we think about sort of the structural revisions to the margin performance of the business going forward?

I think it's going to be a combination. First of all, we totally agree with -- it's unpredictable. But we know the menu price increases that we put in place today and how they'll carry over to next year. We plan on doing at least one early year menu price increase next year. So in terms of margins, that will be helpful to margins. The traffic -- the traffic direction is kind of almost out of our hands because it's really reliant on some RBI activities. But we feel good about the menu price increases and that they're holding that we're not -- they're not affecting traffic at this day. And then I just don't -- we don't see the kind of hourly wage. There will be -- will likely be hourly wage increase next year and certainly in the back half, but we don't believe it could possibly be as strong as high as it's been this year, given that it's -- you probably got 3 or 4 years of wage increases in one quarter of this year. So our view is it's unlikely that it will be that dramatic next year. So we'll get some sales leverage based on that. So that's -- again, it's totally unpredictable. We don't -- we have no idea what the labor situation will be like a year from now, but it just seems reasonable.

And then the other thing is, we're seeing stabilization in commodity costs. And even though even though we think that the labor -- the production and distribution aspects of our commodities will not see a lot of relief, you could see some raw materials relief next year. So that could mean that the cost of sales are going up less robustly than they did in the third quarter this year.

Makes sense. And if we just think about the October trends that you touched on, it looks like the 2-year trend decelerated versus what you guys did in the third quarter. So could you sort of touch on what you're seeing on the top-line and when we should sort of expect that to get moving in the right direction again?

We saw 5% in October, and it was -- it consisted of average ticket was up in the low single -- low teens, and traffic was down consistent with what was down in the third quarter, but 5%, 6%. So that's what we're seeing. I think the big driver, we probably think that's -- the price is probably good. The price aspect of it is probably good for the quarter. But again, the traffic piece is a little bit uncertain.

Our next question comes from the line of James Rutherford with Stephens Inc.

Great. Dan, congrats on the announced retirement, and on the very incredible career in the industry. I know we have you for another 6 months or so, but we'll certainly miss you on these calls once that transition happens. So congratulations. Sorry, what was that?

I said, I'll still have another call anyway.

Yes. We're glad. Certainly glad. I want to start off with the staffing levels versus 2019 levels. I'm curious how those trended through the quarter? And as a second part to that question, do you think the wage increases that you've put in place are sufficient to make your stores competitive enough? Or do you expect to need to increase wages again at any meaningful level in the fourth quarter to get those staffing levels back to 2019 levels?

The staffing levels through the quarter actually were pretty consistent. We're ending up with a fair number of applications. The application flows in the past month. The challenge continues to be with retention. I think the core average hourly rate is fine. Where we're seeing the biggest part of the inflation in labor is we're paying premium wages to keep the stores open past 9:00 at night. That's where we seem to be struggling the most and that's true for the whole industry. We really don't want our restaurants to close prior to 11:00 and 12:00 at night. And consequently, when there's an increase to base wage, we pay a premium wage of $0.50 or $1.00 to get employees to work beyond that period of time. So in terms of a percent increase in wages in 2022, my sense is it should be much more -- it will be much less of an increase than what we're experiencing currently.

Okay. And Tony, was that 13.3% wage growth inclusive of the overtime and shift premiums? Or is that additional to that?

No. It was just the base wage.

Okay. That's just the base wage. Okay. And then just one more question for me and I'll turn it back to the queue. But can you give a sense of how menu price trended throughout the quarter? I don't know if you want to give it necessarily by month or whatever, but with the different increases put in place. And overall, where are you running today with the 80 bps you added in October. It went up during the quarter because the first increase was at the end of July, and that was on the backs of March -- late March increased 2%. And then we did a pretty sizable one in August. So I think it ended up for the quarter being about 5%, plus or minus percent of the check increase was due to menu price increases. And right now, we're sitting at about 7.5% from menu price increases.

Okay. And then there's also, I think, a little bit less discounting in there as well, which is not included in the $7.5 million. Is that a fair way to think about total sort of net check.

Yes.

Okay.

It's pretty significant. It's not a small -- I mean, we're -- our discounting is like 300 basis, 300, 400 basis points less this year, this quarter, than it was the year ago period. So it's just an interesting trend that we're seeing that, a, we're raising the prices on some of the promotional items and it's sticking. And there are fewer guests who are sort of spending very few dollars in the restaurant, more of the guests are spending more, which helped drive the average ticket price up and reduce the promos and discounts.

Certainly, it's a very interesting dynamic.

Our next question comes from the line of Jake Bartlett with Truist Securities.

Great. Thank you very much. Thanks for the question. Dan, congratulations on a long and fruitful career. It's been great working with you over these years. I -- my first question was just on the sales trajectory. And I know that RBI has communicated a plan to really take a look at the strategy, work with franchisees, communicate that strategy and then put it into place in 2022 to try to regain market share. But the question is, in the meantime, how confident are you that there's some measures in place or strategies in place to really start to move the needle in the near-term. So rather than waiting for the long-term strategy shift or approach, how confident are you that in the near-term that Burger King can regain some of this market share that it's been losing?

I think it's going to be a challenge for the next 6 months. The marketing plan for the balance of this year, we know what it is, and it was pretty much put in place some while ago. The new plan and the new strategy will be provided to the franchise community at their -- at the convention in December, but it will take a while for that to take effect and implement. So I think the market share challenges will continue for at least until the mid part of 2022, Jake.

Got it. Okay. That's helpful. And then the less discounting, I believe maybe through less paper couponing, it seems good support for margins probably impacting sales a bit, but as you shift over to the digital channel, is this an interim period where you have -- we have less of the paper coupons, but don't have the digital channel quite up to speed because it hasn't been -- loyalty hasn't been launched in store yet. So the question is, once that does happen, would we just expect the discounting to kind of go back to a more normal level just in the form of -- on the digital channel? Or do you think that there's kind of a real permanent shift here in less discounting for the brand?

Well, it's not just the couponing and the digital. There's been changes in the menu. I mean we had the dollar menu on the value items, those caps were all lifted. So we're charging more now for those items on a regular basis. And a year ago, we had a 2 for $5.00 as opposed to currently, we're running a 2 for $6.00 and 2 for $10.00-kind of thing. So I think those changes are probably more relevant than whatever is going on with the couponing, Jake.

And more sustainable.

Got it. Great. And then the last question is really on free cash flow. Tony, maybe if you can just remind us if there's anything lumpy in terms of payment in and outs in working capital, just so we can kind of make sure we understand that. And then as we look to 2022 for CapEx, some of the CapEx has been -- you mentioned pushed into 2022. Any indication on whether you'd expect to maybe open fewer stores than previously planned, given the environment and the cost pressures? Or also whether there's -- how likely it is that there's going to be a capital kind of requirement from whatever measure Burger King put in place to turn sales around.

Any indication on what 2022 CapEx could be? And then just making sure we know that ins and outs on working capital for free cash flow?

I'll deal with the CapEx. And Tony can deal with working capital. In terms of opening restaurants in 2022, my sense, Jake, is that we've got some that are already in the works, and they'll open in the first part of next year. Beyond that, my guess is it's probably going to be later in the year, simply because we're having problems getting the equipment and so forth. There's about a 3.5, 4-month lead time now to get kitchen equipment. So even if we wanted to open the restaurants, they would be a -- it's going to occur later in the year. So I think new store development could be less next year than what we had originally planned.

Remodeling. Again, we've got some carryovers on remodel. We've got some that we hope to get completed by the first part of next year. And then we'll see, again, what the supply chain looks like in terms of our ability to get the equipment. In terms of both equipment mandates for both Burger King and Popeyes, there are -- the digital menu board rollout will be completed by second quarter of 2022 in both brands. And the required kitchen equipment for Burger King will be in place by the end of Q1, it's already been ordered. And the required kitchen equipment for Popeyes will be in the second half of 2022, again, because of supply constraints.

Got it. And then Tony, I would just -- the question on the working capital. But Dan, in terms of the equipment for the Burger King and the Popeyes, is that a significant investment to boost up, should we expect that to boost the 2022 CapEx significantly?

I don't think it's going to boost the 2022 CapEx significantly because -- I mean the major CapEx dollars are remodels and whatever new construction we may do. So that will be, as I said, that's going to be somewhat fluid based upon the -- our ability to get the supplies to open or remodel restaurants. The CapEx requirements for both Popeyes and Burger King are quite a relatively small percentage of our overall CapEx budget.

They're lapping what we did this year. So it shouldn't change that much. I'd say the couple of things that are impacting working capital this year are, first of all, we have to repay $10 million plus of the FICA deferment that we received in 2020, those -- that's half of the total. So that will hit on December 31. And then -- so that's a bad guy to working capital. The biggest good guy of working capital is our interest on our interest expense, our cash outflow for interest expense is going to be a lot less than last year because the interest on the bonds actually is payable in the first couple of days of next year. The first -- actually, the first day of our calendar -- our Fiscal 2022. So it will be a benefit to cash flow this year. And then the payment we have in -- the second payment we have in 2022 will actually also be paid in the first day or so of 2023. So just -- that's sort of a new thing now that we have the bonds outstanding.

Our next question comes from the line of Jeremy Hamblin with Craig-Hallum Capital Group.

I'll add my congratulations to you, Dan. It's been a pleasure working with you. And again, you're demonstrating some pretty impressive execution in a really tough environment. I wanted to, Tony, just start actually with the commodity cost feed price. I think that the math on that, what, $2.67 a pound in Q3. I wanted to get an update on where things have kind of trended here to start Q4. And also, I know some of the other commodity costs, whether protein costs, whether it's chicken or pork have also remained elevated. How has that trended here in Q4 and kind of your expectations over the next several months?

I would say that the general view on commodities right now is that they have stabilized, and we're seeing a little bit of recovery there, a little bit of decline, not huge declines. But the current price for beef is a little bit above the average for the third quarter, and it's heading in a good direction, but really slowly. And I'd say the same with all the other, I'd say the same with all the other commodities, they seem to have plateaued and they're slowly -- pork's slowly coming down. Chicken is slowly coming down. So some of the French fries are steady, but seems to be coming down. We have hedges in for some bakery items and from some other items. So we don't have it, but RSI, our food distributor does.

So I'd say holding steady and maybe starting to definitely stabilize, but maybe starting to see some light at the end of town that coming down a little bit, but not a lot. I mean, the inflation in the fourth quarter just because of the comparison to really low commodity costs in the fourth quarter of last year is going to probably be in the low to mid-single teens. So it's still a headwind versus last year. So it's going -- and it's probably going to be the biggest headwind in the fourth quarter that we've seen all year. Mostly because the base was so low last year.

So cost of sales probably trends up slightly from the run rate that you saw in Q3. Was that a fair assumption?

I think it might be a little bit. I think it might be steady because of leverage, sales leverage and lower promotions like that.

You got a lot more pricing.

And yes, we got a lot more pricing on this. Actually, I think the net of it is, it may be -- it may be a little favorable to Q3 just because of the leverage.

Okay. Got it. And then, again, kind of extraordinary environment here on labor. As we look out, typically, you have -- well, you have some days in Q4 around the holiday period that you staff and are kind of lower volume labor. Presumably, it sounds like you're getting people in -- or there's an improvement in terms of having staff there. But is the near-term expectation that labor costs are going to continue to be a challenge despite the kind of menu pricing offsetting some of that impact?

Again, I think for the balance of this year, I think we're in pretty good shape, Jeremy, because things have stabilized recently. Starting with next year, there's a few states that have some minimum wage movement. But generally, the minimum wage just doesn't have much effect on us at all because we're paying more than that currently. So I really -- I think, again, there may be some movement next year, but it's not going to be anywhere near the magnitude of what we're currently experiencing.

I think one other thing we're starting to take a really hard look at that because -- just because it's -- we just we're able to catch our breath after what happened in the third quarter is we're really looking restaurant by restaurant at is staying open to 11:00 profitable? And if we find -- because the labor costs are where they are. And a year ago and 2 years ago, it was kind of a no-brainer on that, but now we're doing analytics. And it's not really -- it's not any like AI special [is bang stuff], but we're starting to look at -- it doesn't make sense to close a 10:00 instead of 11:00 because the traffic we saw over the last 6 weeks in that last hour was not worth staying over given staying open given the labor costs.

So I think that's something if we don't get it going in the fourth quarter, we'll definitely start to be a little much more diligent about that in the first quarter. And the same goes for the -- does it make sense to open it 6:00 versus 7:00 A.M. in the morning. So we're just taking a lot harder to look at that than I think has been in the past. -- been that long, but it seems like it's just -- it's -- given where the wage has gone, it's kind of front and center for us to optimize things a little more than we've had to do in the past on that front because it's more of a question than it was in the past before it was kind of a no-brainer to stay open. So I think that will help.

The other point I want to make, Jeremy, is that we're going to start lapping -- the only 2 quarters left where the labor is probably going to be a big increase versus the prior year, as the fourth quarter and the first quarter of next year. When we get to the -- we started to see the labor issues in the second quarter of this year. So we're going to start lapping that next year. So it should be less of a headwind. It still will be a headwind, but less of a headwind than we certainly saw in the several quarters this year.

Understood. Last one for me is you continue to see underperformance in that South Central region. I know the Southeast also did not perform as strongly. Is there anything that you're seeing? I don't know how that necessarily compares versus the industry. I know that it's been a frustration here for a couple of years now because it's -- they've been stubborn in terms of performance, although you guys have really improved the 4-wall margins. Is there any thought to -- have you ever thought about maybe monetizing those assets, moving out of that region? Or are there other things you think that can be done to kind of stimulate the productivity of those underperforming areas?

Yes. The South Central is primarily the Cambridge restaurants. And actually, they turned around. We're actually positive now in Cambridge, and we're positive on a 2-year basis. So we did what we said we would do. We said it would take us 2 years to get this from a sales standpoint, the margins we got much more quickly than that. So we're making progress there in -- with those restaurants. And because we have a lower labor rate there, I think we'll be -- I think we're making -- we're heading in the right direction.

Right now, the struggle is in the Carolinas. We are negative all across North and South Carolina, and we had a call yesterday with Burger King, and they say that's true for the balance of their restaurants in those markets. And we're trying to drill down specifically, Jeremy, to see if there's a particular reason why it's every aspect of the Carolinas, we're negative in GSA. We're negative in Charlotte. We're negative in Greensboro. And I don't really have -- those are legacy stores. Those aren't new restaurants, and they operate well. And we're trying to determine where the market share is going, and Burger King did not have an answer for us when we asked that question, but we're doing some more analytics on that to see if we can determine specifically if there's a daypart across a region that's creating the challenge. But that's really where I'm most concerned about that right now.

Well, hopefully, the parent can help contribute positively the cause here in the coming months. Best wishes.

Our next question comes from the line of William Reuter with Bank of America.

So after the 0.8% price increase in October, I think that we have nothing for the remainder of this year and that you're planning one in early FY 2022, do you have a sense of the magnitude of the FY 2022 price increase you'll implement?

The one that we will be implementing will be at 2% and 2.5% kind of number, which will essentially mirror the increase that we had in March of 2021.

Okay. And that's helpful. And then with regards to your increased labor costs, is there a component of this that's being driven by overtime? I guess I'm trying to figure out if there's some way to adjust the increase in labor and try and figure out if you're not paying some of that, how much your actual wages would be increasing.

Yes. The overtime piece for the team players was not that significant. And so we think if the world goes, it could stay that way to next year, we still could be required to pay over time next year because we can't get the staffing up. Alternatively, if we can get the staffing up, pay less overtime, but we're paying for more bodies. So it kind of would be a wash either way. So I think that's -- that cost base is going to be with us for a while regardless of whether it's coming through over time or more team members. If that -- if the world lets us hire more team members right now, it doesn't seem like we're going to be able to go over the 20 team members per store any time in the near future. So it'll probably look the same a year from now on that front.

And then the overtime for managers was just a reinstatement of over time they had pre-COVID. So there may be some ability to cut that back in the future. But generally speaking, it's kind of getting back to pre-COVID levels.

Our assistant managers are paid hourly, and they have a 50-hour work week during COVID because of all the challenges and the restricted hours and all the rest of that, we moved all of our assistant managers back to a 40-hour work week. And consequently, they received less income, and they didn't obviously -- we didn't have any management over time. So that was reinstated in the third quarter of 2020, and we just lapped that.

Okay. And then just finally for me. You mentioned that most of your wages or a lot of your wages are above state minimum. So it's not going to -- the impacts of rising minimums won't hurt you that much. I guess, looking back at history, if we were to see a dramatic change in terms of the labor environment where the pool grew, is there any precedent for wages going down? Or do you think the wages can only go up?

I think it depends geographically. I think there may be some markets where, in fact, we will be hiring newer employees at a lower rate than what we're currently paying. And there are other places like in New York state, where, I mean, the minimum for fast food workers is $15, and that's the way it's going to be. So I think in the South Central market, in Tennessee, Alabama, Kentucky, South Carolina, I think there may be an opportunity in the future to actually have new employees come in at a lower rate.

It's the only benefit of high turnover. Turnover if tough, but you can potentially roll back some of this stuff with kind of turnover we see at the [C] level.

Our next question comes from the line of Michael Coppola with JPMorgan.

We saw that you guys were planning to use free cash flow to reduce debt. We're curious if there's any sort of magnitude or goal that you had in mind for that outside of the working capital and the free cash flow priorities that you mentioned earlier?

I mean 2 things. Just to clarify, at this point, we have a $220 million swap. So our senior secured debt is until we -- until and if we change that swap, it's -- we're required to stay $220 million and then we have $300 million of notes, obviously. So we sort of have $520 million of debt, and it's not really repayable at this time. We say -- we said in our comments that we reduced net indebtedness, which means we'll build cash to reduce our net debt. So yes, to the extent we generate free cash flow and don't have other extraordinary uses of below free cash flow, which we did have this year, we used the money to reduce our net indebtedness.

But again, our target is to stay at 4x leverage or less. And obviously, we're right at the 4x this quarter, and it's not because of the numerator, it's because of the denominator just because EBITDA was down versus last year on a trailing 12-month basis. So that's really what's -- what drove us back to 4x.

Ladies and gentlemen, that concludes our question-and-answer session. I'll turn the floor back to management for any final comments.

Thank you all for joining us on this call, and we look forward to speaking further with those who would like to speak to us. We have a number of conferences we're attending either in person or virtually over the next month and a half or so, and hopefully, we'll meet a lot of you in person or virtually. Thanks very much, and we'll talk to you in the next conference call in early next year. Thank you. Bye-bye.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.