The Cheesecake Factory Incorporated (NASDAQ:CAKE) Q3 2023 Earnings Call Transcript

The Cheesecake Factory Incorporated (NASDAQ:CAKE) Q3 2023 Earnings Call Transcript November 1, 2023

Operator: Good afternoon. My name is Emma and I will be your conference operator today. At this time, I would like to welcome everyone to The Cheesecake Factory Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Thank you. Etienne Marcus, Vice President of Finance and Investor Relations, you may begin your conference.

Etienne Marcus: Good afternoon and welcome to our third quarter fiscal 2023 earnings call. On the call with me today are David Overton, our Chairman and Chief Executive Officer; David Gordon, our President; and Matt Clark, our Executive Vice President and Chief Financial Officer. Before we begin, let me quickly remind you that during this call, items will be discussed that are not based on historical facts and are considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results could be materially different from those stated or implied in forward-looking statements as a result of the factors detailed in today’s press release, which is available on our website at investors.thecheesecakefactory.com and in our filings with the Securities and Exchange Commission.

A close-up of a table of people enjoying their meal and conversing in a Denny's restaurant.

All forward-looking statements made on this call speak only as of today’s date, and the company undertakes no duty to update any forward-looking statements. In addition, during this conference call, when discussing comparable sales, we will be referring to comparable sales on an operating week basis, unless specifically stated otherwise. We will also be presenting results on an adjusted basis, which excludes impairment of assets, lease terminations and acquisition-related expenses. An explanation of our use of non-GAAP financial measures and reconciliations to the most directly comparable GAAP measures appear in our press release on our website as previously described. David Overton will begin today’s call with some opening remarks, and David Gordon will provide an operational update.

Matt will then review our third quarter results and provide a financial update. Following that, we’ll open the call to questions. With that, I’ll turn the call over to David Overton.

David Overton: Thank you, Etienne. Third quarter consolidated revenues increased 5.9% over the prior year to $830 million, led by comparable sales growth The Cheesecake Factory restaurants of 2.4% versus the prior year and 12.6% versus 2019, exceeding the Knapp-Track and Black Box casual dining indices for both time periods. Our strategy will always revolve around what we do best, delivering exceptional service and hospitality and delicious, memorable experiences for our valued guests. We believe our position as an experiential dining leader will continue to differentiate us in the industry and drive profitable sales growth over the long term. And with the improved restaurant staffing levels, our best-in-class operators have been able to increase their focus on consistently executing our strategy.

We believe this contributed to third quarter comparable sales at The Cheesecake Factory, increasing sequentially despite the softening sales environment and importantly, traffic at The Cheesecake Factory meaningfully outperformed the broader casual dining industry. On the development front, we opened 2 Cheesecake Factory restaurants to strong demand during the third quarter and subsequent to quarter end 2 FRC locations. We continue to make progress against our pipeline and construction is ongoing on all of our restaurants we had previously planned to open this year. However, consistent with the trends seen throughout the industry, we continue to experience challenges beyond our control, particularly with permitting delays, pushing some of our opening dates to late December.

In order to adhere to our proven development process and ensure new restaurants open well positioned to succeed, we have strategically decided to move some of our openings into the first quarter of next year. As such, we now expect to open as many as 16 new restaurants in 2023 and 4 to 6 new restaurants in the first quarter of 2024. Thus, between 16 openings for this year and 4 to 6 for next quarter, we are effectively at the 20 to 22 new restaurant openings we had previously anticipated earlier this year. The new restaurant openings for 2023 include as many as 5 Cheesecake Factories, 4 North Italia and 7 FRC restaurants, including 1 Flower Child location. Last week, our fifth location in Mainland China opened, including this location, we now expect 2 Cheesecake Factory restaurants to open internationally under licensing agreements in 2023.

Despite the ongoing permitting challenges, we continue to accelerate our development activity and build our pipeline. At this time, our expectations for 2024 are to take another measurable step towards achieving our objective of 7% annual unit growth. I’m also excited to share that last week, we announced plans to develop our third bakery production facility in Charlestown, Indiana. Upon completion, the facility will produce the Cheesecake Factory’s cheesecakes and Signature bakery products for our restaurants and other retailers in addition to providing anticipated distribution efficiencies. Our vertically integrated bakery is a distinct competitive advantage with our desserts driving the strong affinity for The Cheesecake Factory brand as illustrated by our industry-leading dessert sales.

Looking ahead, we will continue to leverage our competitive strength, including the scale of our business, our differentiated brands, best-in-class operators and balance sheet to drive shareholder value and market share gains. With that, I will now turn the call over to David Gordon to provide some additional details on our operations and marketing.

David Gordon: Thank you, David. Since the start of the year, our operating team’s training and development have been firmly centered on the fundamentals of the restaurant industry, great food, great service and great ambience as well as on reinforcing the operational standards that Cheesecake Factory has been built on. We believe these to be foundational for running successful restaurants and delivering consistent performance. This year’s General Managers Conference content was designed with the same principles of focus in mind. The theme was cultivating excellence, and we held several informative programs, panels, speaker-led trainings and leadership seminars focused on hospitality, leadership, executing and performance management with the intent that our general managers take these insights and learnings back to their restaurants to improve operational execution, celebrate wins and further develop their people.

As David alluded to earlier, we believe our increased focus on consistent execution and operational excellence is yielding positive results across multiple key areas. Let me just share a couple. First, we have seen measurable improvements in guest satisfaction. Our internally measured net promoter score metrics across both the dine-in and off-premise are consistently exceeding pre-pandemic levels. In addition, our volume of reviews on third-party sites has not only increased since the start of the year, but the aggregate rating of these reviews has meaningfully improved and continued to trend incrementally more positive. Second, our enviable staffing position continues to improve. Our industry-leading retention rates are now running above pre-pandemic levels.

Furthermore, our already high staff engagement scores improved significantly from a year ago. These improvements have supported the continued moderation in wage inflation, which is now trending below pre-pandemic levels. As David mentioned earlier, we believe these operational improvements contributed to both comparable sales and traffic outperforming the industry in the latest quarter. Now turning to sales trends. The Cheesecake Factory off-premise sales for the third quarter totaled 21% of sales, just below second quarter levels, consistent with historical seasonality of lower off-premise mix during the summer months, potentially indicating a return to more normal seasonal patterns. On-premise incident rates remained above 2019 levels with no material change to daypart mix.

However, incident rates continue to normalize on a year-over-year basis as we lap the heightened spending from the prior year. North Italia third quarter comparable sales increased a solid 8% from the prior year and 28% versus 2019. The 4-wall margins for the adjusted mature North Italia locations, was 12.5%, down from 15.4% in the previous quarter. North Italia margins were impacted by seasonally lower sales and higher utility costs, which were exacerbated by record high temperatures in the Southwest where North Italia has a higher level of concentration. We just rolled out a 3.7% menu price increase in October in part to support our margin objectives for this concept. We remain excited about the potential growth trajectory of various concepts within FRC’s portfolio, including culinary dropout.

We just opened our newest culinary dropout in Charlotte, North Carolina to strong demand with average sales of $175,000 over the first couple of weeks. We now have 9 locations open, averaging over $200,000 per week so far this year. Culinary dropout strong cash-on-cash returns positions this concept as one of the more promising experiential concepts within FRC’s portfolio given the attractive unit economics. We are testing the geographic portability and currently have plans to open another location this year in Atlanta as well as another 2 to 3 locations a year over the next 2 years across the Southeast, Texas and Southern California. Before I turn the call over to Matt, let me provide a brief update on our rewards program. As a reminder, our overarching objective is to leverage data analytics and insights to engage more effectively with our guests and drive incremental sales while maintaining our restaurant level margins.

While we are just now entering our fifth month of the program following the national launch of Cheesecake Rewards on June 1, we continue to be encouraged by the level of member activity and engagement we are seeing. As we have previously stated, we’re taking a very deliberate approach as we expand the program and therefore, do not anticipate seeing a measurable impact to sales for the first year or so. That being said, early demand continues to exceed our internal expectations and member satisfaction scores are over-indexing, reinforcing our belief that we are on the right path. During the fourth quarter, we will be testing additional acquisition tactics and activation campaigns to better understand the key elements of our various strategies that resonate well with rewards members and are the most effective in increasing membership enrollment and engagement and driving frequency.

And with that, let me turn the call over to Matt for our financial review.

Matt Clark: Thank you, David. Let me first provide a high-level recap of our third quarter results versus our expectations I outlined last quarter. Total revenues of $830.2 million increased 5.9% over last year despite finishing just under the low end of the range. Adjusted net income margin of 2.3% was also just short of the guidance we provided, predominantly driven by the lower sales. G&A and depreciation combined as a percent of sales were slightly better than expectations. And we returned $27.7 million to our shareholders in the form of dividends and stock repurchases. Over the past 12 months, our financial results have substantially stabilized, forming a foundation we believe we can build from. Over that period, our total revenues were $3.46 billion, with adjusted net income margin of 3.5% and adjusted EPS of $2.44.

Now turning to some more specific details around the quarter. Third quarter sales at the Cheesecake Factory restaurants were $628.1 million. Comparable sales increased 2.4% versus the prior year and 12.6% versus 2019. Sales for North Italia were $62.4 million, a 15% increase over prior year, supported by comparable sales growth of 8% versus prior year. Comparable sales versus 2019 increased 28%. Other FRC sales totaled $58.6 million, up 12% from the prior year, and sales per operating week were $121,900. Flower Child sales totaled $32.2 million, up 11% from the prior year, and sales per operating week were $80,000 and external bakery sales were $17.4 million during the third quarter of fiscal 2023. Now moving to year-over-year expense variance commentary.

With the cumulative menu pricing we have implemented over the past 12 months to help offset inflation, we continue to realize measurable year-over-year improvement across several key line items in the P&L. Specifically, cost of sales decreased 170 basis points, primarily driven by higher menu pricing than commodity inflation. Labor decreased 110 basis points, predominantly driven by pricing leverage, improved staffing levels and slightly lower medical insurance expenses. Other operating expenses decreased 10 basis points, mostly driven by pricing leverage, lapping some elevated utilities and to-go costs and partially offset by marketing costs, including the rewards program launch. G&A increased 10 basis points and depreciation decreased 10 basis points as a percent of sales.

Pre-opening costs were $6.7 million in the quarter compared to $4.3 million in the prior year period. We opened 2 Cheesecake Factory restaurants during the third quarter versus 3 restaurants in the third quarter of 2022. Higher pre-opening costs for the quarter were mostly driven by delays in opening dates and the mix of concepts. And in the third quarter, we recorded a net expense of $1.5 million primarily related to FRC acquisition-related expenses. Third quarter GAAP diluted net income per share was $0.37. Adjusted diluted net income per share was $0.39. Now turning to our balance sheet and capital allocation. The company ended the quarter with total available liquidity of approximately $300.5 million, including a cash balance of about $64 million and approximately $236.5 million available on our revolving credit facility.

Total debt outstanding was unchanged at $475 million in principal. CapEx totaled approximately $37 million during the quarter for new unit development and maintenance. During the quarter, we completed approximately $14.6 million in share repurchases and returned just over $13.1 million to shareholders via our dividend. While we will not be providing specific comparable sales and earnings guidance, we will provide our updated thoughts on our underlying assumptions for Q4 2023 and full year 2024 revenue and net income margin. For Q4, based on our quarter-to-date performance, most recent trends and assuming no material operating or consumer disruptions, we anticipate total revenues to be between $870 million and $890 million. This essentially assumes a continuation of the trends since the end of September, which notably reflects a meaningful improvement versus 2019 sales levels as compared to our Q3 results.

Next, at this time, we expect effective commodity inflation of low single digits for Q4 as our broad market basket continues to stabilize. We are modeling net total labor inflation of about mid-single digits when factoring in the latest trends in wage rates, which, similar to our commodities continues to normalize as well as channel mix and other components of labor. Based on these assumptions, we anticipate net income margin to be about 4.25% at the midpoint of the sales range. This reflects higher pre-opening expense to support our planned restaurant openings, which we expect to be approximately $10 million in the quarter. With regard to development, as David Overton highlighted earlier, we plan to open as many as 16 new restaurants this year across our portfolio of concepts with as many as 9 openings in the fourth quarter.

And we now anticipate approximately $150 million to $160 million in CapEx to support this year’s and some of next year’s unit development as well as required maintenance on our restaurants. Note the initial cash outlay for the third bakery production facility will be negligible in 2023. Looking ahead to fiscal 2024, as previously mentioned, the macroeconomic backdrop continues to be uncertain. However, we want to provide some initial perspective for next year. Based on our year-to-date performance, more recent trends and assuming no material operating or consumer disruptions, we anticipate total revenues for fiscal 2024 to be between approximately $3.6 billion to $3.7 billion. Total inflation across our commodity baskets and total labor is currently estimated to be in the low to mid-single-digit range.

Based on these assumptions, we anticipate net income margin to be approximately 4% to 4.5%. With regard to development, as David stated earlier, our expectations for 2024 are to take another measurable step towards our objective of 7% annual unit growth. Given the dynamic environment, we continue to face, we are planning to provide additional details on our next earnings call in February. And we would anticipate approximately $175 million to $200 million in CapEx, including required maintenance on our restaurants. This assumes an evenly distributed mix of restaurant openings across the Cheesecake Factory, North Italia, Flower Child and FRC concepts. Additionally, the range includes our preliminary estimate for the initial phase of development for the third bakery production facility.

As we are still in the early stages of this development, I will discuss our initial thoughts, and we will provide additional detail in the coming quarters as the project plans materialize. At this time, we do not expect to incur significant outlays for this project in 2023 or 2024 as we anticipate most of the CapEx to come in 2025 and 2026 in preparation of opening a facility in early 2027. To reiterate David’s earlier remarks, we are pleased to be moving forward with this differentiated capital investment, which we believe will support the future growth of the bakery and enhance our long-term profitability. In closing, we have made significant financial and operational progress over the past four quarters coming out of not only the pandemic but unprecedented supply chain and labor challenges and the highest level of inflation in 50 years.

Our efforts have resulted in a solid position from which we can continue our trajectory of sales growth and margin expansion moving forward. Specifically, the return of predictability to the core operating model and stabilizing guest traffic even inclusive of the macro headwinds and some degree of consumers returning to 2019 behaviors of the lofty spending patterns of the past couple of years, gives us confidence in our ability to make meaningful additional steps in 2024 towards our longer-term goals in the key areas of value creation, growing comparable restaurant sales, expanding restaurant operating margins and accelerating accretive unit growth. And with that said, we will take your questions.

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