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Edited Transcript of PZZA earnings conference call or presentation 1-Nov-17 2:00pm GMT

Q3 2017 Papa John's International Inc Earnings Call

LOUISVILLE Nov 2, 2017 (Thomson StreetEvents) -- Edited Transcript of Papa John's International Inc earnings conference call or presentation Wednesday, November 1, 2017 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brandon Rhoten

Papa John's International, Inc. - Global CMO

* John H. Schnatter

Papa John's International, Inc. - Founder, Chairman and CEO

* Lance F. Tucker

Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer

* Mike Nettles

Papa John's International, Inc. - Chief Information & Digital Officer and SVP

* Steve M. Ritchie

Papa John's International, Inc. - President and COO

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Conference Call Participants

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* Alexander Russell Slagle

Jefferies LLC, Research Division - Equity Analyst

* Alton Kemp Stump

Longbow Research LLC - Senior Research Analyst

* Christopher Thomas O'Cull

Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Senior Analyst

* Gregory R Badishkanian

Citigroup Inc, Research Division - MD and Senior Analyst

* Peter Mokhlis Saleh

BTIG, LLC, Research Division - MD and Senior Restaurant Analyst

* William Everett Slabaugh

Stephens Inc., Research Division - MD and Associate Director of Research

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to Papa John's Third Quarter 2017 Conference Call and Webcast.

(Operator Instructions) As a reminder, today's conference is being recorded.

I'd now like to introduce your host for today's conference, Mr. Lance Tucker, Chief Financial Officer. Sir, please go ahead.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [2]

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All right, thank you, Liz. Good morning.

Joining me on the call today are our Founder, Chairman and CEO, John Schnatter; our President and COO, Steve Ritchie; and other members of our senior management team. After the financial update, John and Steve will have comments about our business, and the management team will then be available for Q&A.

Our discussion today will contain forward-looking statements involving risks that could cause actual results to differ materially from these statements. Forward-looking statements should be considered in conjunction with the cautionary statements in our earnings press release and the risk factors included in our SEC filings. Please refer to our earnings release and the Investor Relations section of our website for a reconciliation of non-GAAP financial measures discussed on this call.

Finally, we would ask any media to be in a listen-only mode since this is primarily an investor call.

Now on to a discussion of our third quarter operating results.

Diluted EPS in the third quarter was $0.60, up 5% over the prior year. Third quarter EPS was not materially impacted by the adoption of the new stock-based compensation accounting rules. Third quarter revenues were up 2.2%, driven primarily by higher QCC sales from volume increases as well as increased global comp sales and units. These increases were partially offset by reduced corporate restaurant sales due to the sale of the Phoenix market in the fourth quarter of 2016 which negatively impacted year-over-year revenues by over $8.5 million.

Domestic company-owned margins -- restaurant margins, rather, were down 1.2% from 2016 primarily due to higher delivery expenses, including higher non-owned automobile insurance costs. North America commissary and other margins decreased 1.5% due primarily to higher operating and start-up costs related to the opening of our new quality control center or QCC in Georgia, which opened in the third quarter. International margins increased 2% due primarily to higher comp sales and higher units. In addition, 2016 results included a onetime charge of $800,000 related to U.K. head lease arrangements.

G&A and other expenses were lower by over $3.2 million, coming in at 8.6% of revenues, a 1% improvement versus the prior year. The primary drivers of this improvement were lower management incentive costs and lower restaurant supervisory bonuses.

Our effective tax rate was 26.8% in the third quarter, down 1.6% from the prior year due primarily to a reduction in required state and local reserves, as the tax matter was favorably resolved.

During the quarter, we closed on a new $1 billion debt facility. As of quarter end, we had drawn the entire proceeds of the $400 million term loan but had no balance outstanding on a new $600 million revolver.

As part of the expanded share repurchase authorization announced last quarter, we repurchased $87.7 million of stock during the third quarter. And as of October 24, we had remaining share repurchase authorization of over $485 million. The company expects to implement an accelerated share repurchase program for a portion of the remaining authorization in the fourth quarter and reaffirms its expectation that the entire remaining authorization will be repurchased no later than early to mid-2019.

Our free cash flow, a non-GAAP measure we define as cash flow from operations less capital expenditures, was approximately $72 million year-to-date in 2017, down approximately $11 million from 2016 due to increased capital expenditures and unfavorable working capital changes.

As noted in our press release, we are revising the following aspects of our previously issued 2017 outlook: North America comp sales, revised to positive up to 1.5% from a prior range of 2% to 4%; diluted EPS growth, revised to a range of 3% to 7% from a prior range of 8% to 12%. There's been some confusion this morning and last night with some of the notes I've seen, so to clarify: The 3% to 7% excludes the full year favorable impact on the tax rate of the new stock-based compensation guides. Through the third quarter, that impact has been approximately 5x of increased diluted EPS. Debt-to-EBITDA ratio, revised to a range of 2.5 to 3.5x at year-end from a range of 1.5 to 2x at year-end; block cheese price per pound, revised to the low $1.60s from the prior outlook of the mid-$1.70s. Our other outlook items are reaffirmed. To reiterate what we said on the prior earnings conference call, we do not expect a significant impact on 2017 EPS from the increased share repurchase authorization given the program implementation is so late in the year.

Finally, we received several inquiries as to when we will announce our 2018 outlook. As has been our historical practice, we will give our more detailed outlook when we release our fourth quarter results in late February. To give some color at a high level, however: We currently expect to make a number of investments behind our operations, marketing and technology efforts in support of the company's long-term growth. We anticipate seeing the benefits from these investments in foreseeable future, but some of the benefits will not be immediate, so while we are not prepared to provide ranges or numbers at this time, 2018 should be viewed as a year of investing for the future rather than a year where EPS growth will be the focus.

And with that, I'd like to turn the call over to our Founder, Chairman and CEO, John Schnatter. John?

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John H. Schnatter, Papa John's International, Inc. - Founder, Chairman and CEO [3]

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Thanks, Lance. And good morning, everyone. Thanks for joining us today as we discuss our third quarter 2017 results.

Before I move into a business discussion, I'd like to briefly speak to the unprecedented and unpredictable weather we saw during the quarter, including the devastating impact of Hurricanes Harvey and Irma, the earthquake in Mexico and wildfires in Northern California. Our thoughts and prayers are with all of those who were impacted, and we wish them a speedy recovery. While our operations in those markets were temporarily impacted, we are relieved that all our team members are safe, accounted for and are back to work. I would like to commend them not only for their efforts to get back up and running but also for their contributions to supporting the broader communities in their time of need. As an organization, we partnered with The Salvation Army, J.J. Watt's food relief fund and the American Red Cross in both Houston and Florida, respectively, to raise $500,000 in disaster relief funds and feed those who were displaced, with first responders at Papa John's shelters with our Papa John's mobile kitchen units. In addition, I'd be remiss not to mention how proud we are of the efforts of a member of our Papa John's team, J.J. Watt, and his incredible support of the Houston community. He raised over $30 million. This effort encapsulates not only the type of character-driven athletes we partner with but also our entire Papa John's culture.

And now on to a discussion of the business.

We continue to perform pretty well relative to our competition in this challenging and competitive environment. And we're doing a lot of things right. The quality of our pizzas and our service levels are excellent, with great execution from our operators throughout our global business. Brandon Rhoten is getting his arms around marketing really quickly and making a tremendous impact. And our technology team, led by Mike Nettles, continues to build and roll out our exciting, new digital solutions, most recently instant ordering through Facebook. We expect to finish out 2017 with 14 consecutive years of positive North America comp sales. And our international business is on track to have its highest profitability year in our history.

We also just opened a new state-of-the-art QCC in Acworth, Georgia. This happened in the third quarter. The new center will make our operations more efficient in the Southeast, our biggest region; and provides much needed redundancy in disaster recovery capabilities for 4 of our outstanding commissaries. We were just at the new center last week for a board meeting, and [Shane Hutchinson] and [Billy] just did a simply spectacular job. Really proud of those guys.

As I said earlier, we're doing a lot of things right, but even with all of the great things happening at Papa John's, we know that we must continue to invest and evolve to win in this competitive industry. So as Lance noted, over the next several quarters, we will be experimenting with a number of new initiatives. And we'll be making significant investments across the business that we believe will position us for another prolonged period of solid, sustained growth. Steve will give you a high-level detail of what these initiatives may look like in just a few moments.

Now to the NFL. The NFL has hurt us. And more importantly, by not resolving the current debacle to the player and owners' satisfaction, NFL leadership has hurt Papa John's shareholders. Let me explain. The NFL has been a long and valued partner over the years, but we are certainly disappointed that NFL and its leadership did not resolve the ongoing situation to the satisfaction of all parties long ago. This should have been nipped in the bud 1.5 years ago. Like many sponsors, we are in contact with NFL. And once the issues is resolved between the players and the owners, we are optimistic that NFL's best years are ahead, but good or bad, leadership starts at the top. And this is an example of poor leadership.

Before I turn it over to Steve, allow me to reiterate the optimism I have as we wrap up 2017. The long-term outlook for Papa John's is strong as ever because of our outstanding brand positioning, the highest-quality products in the business and dedicated teams both in our global restaurants and in the United States that are hungry to drive this business forward. Our recent commitment to repurchase an incremental $500 million of Papa John's stock should be a clear indication of how strongly I believe and we believe in the future of this business.

To conclude. I'm energized by all we have going on in the business, and I'm confident this team will continue to make decisions that drive value and growth for Papa John's brand for many years to come.

With that, I'll turn it over to Steve.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [4]

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All right, thank you, John. And good morning, everyone.

I'd like to start by thanking our franchisees and operators around the world for their continued commitment to executing on our brand promise in this challenging and ever-evolving industry. Our continued success will soon produce our 14th consecutive year of sales growth for North America and our 13th consecutive year sales growth in international. We fully expect many more years of consecutive annual growths to come from both business segments. Despite all of our success, our mission statement inspires us to constantly find new ways to get even better. Our strong brand foundation and founding principles will be the platform for a transformational series of strategic investments that we have just started to implement. These significant initiatives will capitalize on evolving consumer trends and create sustainable growth well into the future. After a business update on our Q3 results, I will provide commentary on the specifics.

Let's start with our strong international comps for the quarter of 5.3%. The improved results from Q2 marked our 30th consecutive quarter of positive comp sales growth. Sales were very solid across most of our markets, with significant growth experienced in the quarter from China driven by further optimization of our restaurant model, brand design enhancements and increased integration with third-party aggregators, broadening our accessibility channels. In the U.K. we also experienced improved sales growth from prior quarter driven primarily by our enhanced branding efforts with messaging and media distribution in support of the national launch of our pan pizza. Overall, I am very proud of Jack Swaysland and the entire international team. I firmly believe the future is very bright for the international business.

On the domestic front, we produced comp sales growth of 1%, marking our 28th consecutive quarter of positive comp sales. We were pleased to produce yet another quarter of positive sales. However, the results were below our internal expectations. Multiple factors negatively impacted our comps for the quarter, including an increasingly competitive environment; temporary store closures from the natural disasters; and another year of unexpected decline in viewership of the NFL, combined with significant negative consumer sentiment of our association with the league. These NFL challenges have persisted into Q4, and the negative impact is -- into our projected results has been reflected into our updated full year sales and earnings guidance.

Now on to the future. I would like to provide some color around the 3 strategic investment areas that I affectionately refer to in our business as the 3-legged stool, as each leg must be equally strong and well balanced to produce sustainable growth.

Let's start with where the rubber meets the road, operations. Our SVP of North American operations, Edmond Heelan; and his team will focus on 3 major areas: culture, customer experience and efficiencies through technology. We believe people are priority always at Papa John's and will therefore increase our investment in selection tools and onboarding systems to enhance our talent and culture. We will continue the expansion of our Go Left leadership development program, which continues to show great promise in improving overall leadership performance. These efforts should reduce our restaurant-level turnover, increase employee engagement and result in improved operational KPIs and customer experience. We are continuing efforts to better understand our customer through advancing analytic tools and an enhanced customer experience team we call PIE to keep our eyes on the product, image and experience. On image, we have recently started the initial stages of a store redesign initiative to enhance the customer perception and our team members' environment; lastly, an investment into third-party business efficiency advisers and new kitchen technologies to increase store-level productivity, improve order accuracy and enhance team members' experiences with delivery technologies to improve delivery driver's safety and reduce insurance claims.

On the digital technology front, Papa John's has always taken a very proactive and innovative approach to customer engagement. Our guiding focus remains on the customer and providing them with a better experience that unlocks lifetime customer relationships, increases brand affinity and offers Papa John's a sustained competitive advantage. And while we have established a strong leadership position, we recognize that technology investment cycles need to accelerate in order to drive digital innovations and continue to delight the customer. We have identified a cohesive customer-centered technology strategy that will continue to differentiate our brand while delivering a better digital experience. In 2018, our CIDO, Mike Nettles; and his team will be making investments to better serve our digital customers, engaging with them in a more personalized, meaningful way. No longer content to just deliver a superior digital experience with our own website and mobile channels, we will take the Papa John's experience to a number of other non-native channels and engage both existing and potential restaurant customers. And behind all of this investment will be a complete redesign of our entire digital platform and digital solutions capabilities, leveraging enhanced data analytics and insights to ensure industry-leading platforms are sustainable, efficient and effective for many years to come. Our customers deserve a better pizza experience than they can get anywhere else; and we have the plan, resources and investment model to deliver in the near future.

The final leg of our 3-legged stool is our branding. Our CMO, Brandon Rhoten; and his team are working diligently to solidify our growth strategy by enhancing our brand differentiation; value perception; and the overall investment approach. His team has been working to define our brand personality in the articulation of our brand voice. We also most recently invested in an attribution tool to help us better understand what works from a marketing perspective. All the digital technology investments I just outlined will enable us to reach new customers and provide one-to-one personalized messaging capabilities. We know it's critical that we invest in the future of marketing, which for our business is clearly digital and e-commerce. To that end, I am pleased that, yesterday, we announced via a press release that we have chosen a digital-first agency of record to handle all creative regardless of channel. That agency is Laundry Service. Laundry Service is ranked on Ad Age 2017 A list; and has a client list that includes progressive marketers like Apple, Nike and T-Mobile; and will help us evolve our marketing in an increasingly digital world.

To conclude. I am very excited about the upcoming investments and initiatives that act upon the voices of both our internal and external customers. There will be some transition time for the full financial benefits, but the future will soon be getting even brighter at Papa John's.

With that, I will turn it over to Lance for questions.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [5]

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All right, Liz, we're ready for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Will Slabaugh with Stephens.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [2]

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I wanted to follow up on your comments you made a minute ago around the persistence of some of the sales softness into 4Q. I know you guys don't give exact quarter-to-date numbers, but I'm curious if you could talk a little bit more around kind of what you've been seeing in terms of is it mainly the NFL and that association with the league that you would say dragging you down now that you've worked through the hurricanes. Or is there something else going out there competitively or otherwise that might be softening sales a little bit?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [3]

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Sure, Will. It's Steve. I would say predominantly, yes, the NFL situation has persisted, and the pressure that it's applying to our sales that has bled into the start of the fourth quarter. Clearly, we make a sizable investment in the NFL. And as we just upped our partnership with the NFL last year, we also upped our investment levels and upped our creative solutions that we would apply to that. So we expected significant tailwinds coming from the NFL coming into the fourth quarter, and what we've experienced is more headwinds. So we have -- basically contribute that into what we've provided in the guidance on the fourth quarter. Clearly, it is still an increasingly competitive environment. And we are rolling over a strong pan launch that launched actually on October the 10th of last year. So some strong things that -- from a challenging or from a perspective of sales from last year, but predominantly, I would say it's the NFL pressure that we expect to persist unless a solution is put in place.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [4]

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Understood. And if I could also ask about the tech platform redesign, what should we expect from a customer standpoint as that gets redesigned? And how should that both -- benefit the customer? How should that benefit same-store sales? And I guess, how quickly can all this be rolled out to where we might see that benefit show up in the numbers?

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Mike Nettles, Papa John's International, Inc. - Chief Information & Digital Officer and SVP [5]

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Will, this is Mike Nettles. Great question. And we want to keep a lot of our strategic innovation plan kind of close to the vest, so we won't be talking much about specific features, but I can tell you from a consumer perspective we are very well understanding of how much they've embraced mobile technology, how much that's actually impacted our digital mix and what the differences are in mobile technology versus maybe more traditional web and browser-based technology. So because of that, because of the insights we've been able to gain out of that, we're really driving the system harder to connecting to as many other environments and channels where a consumer might actually be thinking about food, thinking about meal choices so that it makes it simpler, faster, easier and far more effective for them to be able to engage our brand and order the pizza from us accordingly. Today, they have to jump to one of our solutions. In the future, as you've seen with Facebook Instant Ordering and several other channels that are on the way, you're going to see the ability for them to jump right into ordering something without having to leave somebody else's ecosystem. We're excited about that, and you'll see more about that coming in the year to come. We're also well aware of the performance of our systems. And we're constantly making significant investments in improving the speed and the overall accuracy of those systems, all the way down into operations, so that Edmond and team actually have modernized technology to really up our quality game. That's a big part of what makes Papa John's better. It is the quality of our product, and we want to be able to empower our operations teams with the right tools and technologies to deliver on that promise accordingly.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [6]

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And Will, it's Steve. I -- just a couple of more comments. So clearly, these are some of the things I outlined in my prepared remarks from an investment standpoint. So we've just started the initial investment stages and expect that this is going to be predominantly kind of pushed up throughout the sum of 2018. We hope to get some benefit in the latter part of 2018, but clearly the predominant amount of benefit comes in 2019 and beyond.

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Operator [7]

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Our next question comes from the line of Alex Slagle with Jefferies.

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Alexander Russell Slagle, Jefferies LLC, Research Division - Equity Analyst [8]

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A question, a follow-up question on -- from Will's on the NFL. If there is -- if you could provide any commentary on what you could do on your end to sort of make the best of it for the balance of the year.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [9]

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Sure, Alex. It's Steve. I'll start, and then I'll turn it over to Brandon to kind of outline some of the things we're doing. So clearly, we've had a long-standing relationship with the NFL, and it's served us quite well just in terms of the overall brand awareness. We're actually the #1 recognized partner with the NFL 2 years running. So we get the benefit when things are going well, and clearly we're going to get the downside implications when things aren't going that well. So we've done a number of things to make some changes that we're not going to be able to get the full leverage of the NFL. However, some of the investments are there. So those dollars are locked, so Brandon has been working on a number of things that I'll turn it over to him to kind of outline here.

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Brandon Rhoten, Papa John's International, Inc. - Global CMO [10]

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Yes. I mean just to kind of stage up the issue here is the NFL has 8 of the top 10 prime time shows. So it's experiencing a significant decline, which is leading us to have to look at other investments to create that reach and create consumer preference to our brand. So we are experimenting with digital initiatives, for example. Laundry Service is an excellent example of that. We have decided that we're going to move forward with a creative agency which is built around digital because we know in this changing media landscape we have to adapt. And we have been doing that over the last couple of months, learning a lot. And moving forward, using partners like Laundry Service, we're going to find a way to proceed.

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Alexander Russell Slagle, Jefferies LLC, Research Division - Equity Analyst [11]

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Got it. And then on the third quarter domestic same-store sales, it sounds like that 1% comp does include the impact of the hurricanes. If you could provide any color on the magnitude of that impact.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [12]

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Yes. Alex, it's Lance. Hurricanes impacted us by less than 50 basis points. So certainly there was an impact there, but it was less than 0.5 points. And I don't really want to narrow it down beyond that.

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Alexander Russell Slagle, Jefferies LLC, Research Division - Equity Analyst [13]

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That's fine, okay. And then the full year domestic guide, I mean it does imply a pretty wide range of outcomes for the fourth quarter, as it's written just positive to up 1.5% (sic) [positive up to 1.5%], but any color from your end on sort of can that fourth quarter be positive or what it's going to take to kind of keep that positive?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [14]

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Sure, Alex. It's Steve. And this kind of goes back to what I've said before. Right now we have -- the only visibility we have is that there's not a solution that's been implemented for the NFL, so if those issues continue to persist, that's why we've built in the bottom side of that guidance all the way down to flat. Clearly, if we can get a solution quickly implemented, that'll give us some tailwind benefit from the NFL partnership, in addition to all the changes that Brandon and his team are quickly trying to implement from a change management investment standpoint. So there's some upside potential to get us closer to the top end of the guidance, but we clearly have built in the potential to go to the bottom end if some of those things are not successful.

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Operator [15]

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Our next question comes from the line of Alton Stump with Longbow Research.

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Alton Kemp Stump, Longbow Research LLC - Senior Research Analyst [16]

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I'm sure this is probably really difficult even for you guys to splice out looking, of course, back to the past when you've had a good NFL rating season versus a bad one, but I mean, is there any way to quantify how much of an impact you think that NFL viewership issues had on your comps either at the end of 3Q or to date in the fourth quarter?

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [17]

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Alton, it's Lance. I'll start with that and let Steve or Brandon jump in if need be. We're not going to quantify and give an exact amount. Obviously, you can tell from the fact that our guidance has changed a little bit there in the fourth quarter and been reduced that it's having an impact, but we're not going to put an exact number on it.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [18]

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Alton, I think it is fair to say that, when we reiterated, reaffirmed the guidance of the 2% to 4%, again the visibility that we have and the expectations that we had was that we were going to get a significant tailwind benefit from the NFL coming off a very rough start in 2016 last year, which clearly is the fourth quarter results. So we expected and so did the NFL expected to get increased viewership and increased ratings, and frankly, we're experiencing the opposite. So some of those things are factors. It's difficult to exactly quantify the impact, but we think it is the predominant amount of some of our sales slowdown.

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Alton Kemp Stump, Longbow Research LLC - Senior Research Analyst [19]

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And then Lance, thanks for the color on of course looking to the [outer year] of the early metrics there. I mean, any sort of insights that you can provide on the operating margin front? Of course, you mentioned it being an investment year, whether or not that means operating margins might be down again next year; or if there's things that you can do to maybe offset from either a cost-savings standpoint and/or a top line standpoint, to offset the higher spending next year.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [20]

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I mean our -- we'll give our full year outlook in February, so I'm going to stay away from numbers. I think, a couple things, a little color I can give you: CapEx is unlikely to be significantly different than what we see this year, so a lot of these investments are going to be on the operating side. And we're still working through the numbers. And we'll give everything kind of at the end of February, once we have it all ready to go, but certainly from an operating margin standpoint, that's not something I'm going to get into a great deal right now other than to tell you that a lot of the investments are in people, resources, tech platforms, things that are going to be running through the P&L rather than the CapEx side.

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Alton Kemp Stump, Longbow Research LLC - Senior Research Analyst [21]

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That's helpful. And then if I can just ask one last housekeeping, and then I'll hop back in the queue, but just as far as your 31% to 33% full year tax rate guidance, I would assume that, that also Lance does not include any benefit either year-to-date or potentially in the fourth quarter from the new (inaudible) accounting rule.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [22]

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That's accurate, Alton. So again, there has been some confusion on this. I spoke to this in my prepared remarks. Overall, for the fourth quarter, I -- we think the tax rate would look like kind of 31% to 33% for the full year, though it'll be 29% to 30%. So without the benefit of the stock comp, it's obviously going to be directionally 1.5 points higher. And with it, it's going to be lower. So I think, full year, 29% to 30%; a little bit higher than that in the fourth quarter.

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Operator [23]

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Our next question comes from the line of Peter Farley (sic) [Peter Saleh] with BTIG.

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Peter Mokhlis Saleh, BTIG, LLC, Research Division - MD and Senior Restaurant Analyst [24]

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Great. I just wanted to come back to the comments on the competitive environment. And Steve, what are you guys seeing on the competitive environment? And -- or what has changed maybe over the past couple months? Has anything changed, or is it more of the same?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [25]

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Yes, Peter, it's Steve. I mean I think it's remained relatively consistent just in terms of the promotional environment. I will say that we are tracking an increased investment from a competitive standpoint. Our 2 largest competitors have both increased their investment, the introduction of a loyalty program by one of them and then doubling down on the marketing efforts of a loyalty program from the other one. So I think that's remained relatively consistent, so we feel like, as always, we've been able to navigate through that. As I said, our 14th consecutive year is soon to come from a sales growth standpoint, and we don't anticipate that stopping in 2018. We just got to find the right balance. And as Brandon alluded to, things are changing. Consumers' behaviors are evolving where they're absorbing media, so we think that we have made a very good strategic decision with the selection of an agency like Laundry Service that has got a digital focus. Clearly, we have brought on a CMO with a heavy digital skew that understands that consumer and understands that space. So the way that we market in the future will be different than the way we have marketed historically. So I couldn't be more excited about the future, but that's what we have spoken to. There is going to be some transition to make some of these transformational changes from a tech and a marketing standpoint.

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Peter Mokhlis Saleh, BTIG, LLC, Research Division - MD and Senior Restaurant Analyst [26]

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Great. And then just back to the NFL commentary: How much of your -- the ad dollars that you spend on the NFL or in partnership with the NFL, how much of that is locked versus how much of that can you shift to other areas and away from the NFL, at least for the time being?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [27]

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Peter, I don't want to quantify specific numbers, but there is a portion of some things that we can do some reallocations on. We do spend a significant amount of our media investment in television. So there were assets that were already created from a creative standpoint. And we stopped usage of those assets that were predominantly focused on promoting our association with the league, so those are more lost dollars. So we have been working with the NFL. They recognize some of the declines that we're experiencing. And they've made some offsetting investments to help us try to offset this by some of -- with some additional buys, but we've had to make incremental investments into other spaces, like Brandon had alluded to, with the social media partners and direct response and digital buys to try to offset some of it. So it's really kind of a wash based on the incremental investment we've had to make to offset some of the benefits we get from a reduction.

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Peter Mokhlis Saleh, BTIG, LLC, Research Division - MD and Senior Restaurant Analyst [28]

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Got it, okay. And then in terms of what you're seeing in terms of the competitive environment and what you're seeing with the NFL, does this change your posture at all on the value proposition and how much value you're willing to -- how aggressive you're willing to be on value?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [29]

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Sure, Peter. It's Steve. I think this category has always been a value-centric category. I think it's always going to be striking the right balance if you're speaking to value around price. We look at value on the overall equation. And clearly, we've done a lot of research. Each year, we do research. And we still are identified as the highest-quality provider in perception that the Papa John's brand is the provider of the highest-quality product. So we're going to continue to lean in on that. We will be leveraging the balance of how we use price versus the equity layer of our marketing approach. That's why this transitional period that we're going into is how do we leverage these different assets to be able to attract the right customers in a more personalized manner. So as we introduce some of these investments, we think that there'll be ways to continue to make sure that we're hitting the value-seeking consumer but also seeking the consumer which is the largest portion of our base which is the consumer looking for quality. So I don't think it's necessarily changed the perception of value, but certainly the actions strategically and tactically how we implement that will be different as we move into the future.

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Peter Mokhlis Saleh, BTIG, LLC, Research Division - MD and Senior Restaurant Analyst [30]

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Great. And then just my last question, maybe for Lance. I recognize that you guys are making investments in 2018, but how should we be thinking about the unit growth predominantly on the franchise side in 2018? And should we expect an acceleration in unit growth versus this year, or should it be more of the same?

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [31]

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Peter, I think that's something we'll give more guidance to certainly at the end of February, so I don't want to get into a lot of numbers. It would be kind of surprising if it didn't improve a little bit given that we had a 66-unit closure in India. So we would expect -- the net global number, I would expect to be up, but we're going to work through everything and give you guys numbers at the end of February. So I do reserve the right to come out with something that looks a little bit different then, but that's not the expectation as of today where we sit.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [32]

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Sure, Peter. And I'll just add that we are experiencing some of those challenges, as Lance alluded to, from a closure standpoint, but 2017 is on track to have the potential to be a record year for number of global new openings. And Tim O'Hern and the rest of the international ops and North American ops team is very optimistic on the potential to continue to drive new unit openings. We know that, in order to compete in the future, we have to continue to open units, but we've got to make sure that we're opening units that have profitable bottom lines and driving top line results. So I feel good about the overall long-term side of development.

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Operator [33]

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Our next question comes from the line of Greg Badishkanian with Citigroup.

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Gregory R Badishkanian, Citigroup Inc, Research Division - MD and Senior Analyst [34]

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Great. And just to follow up on the last question, the franchisee receptivity to opening stores. Have you noticed any change over the last 6 to 12 months in that from that front?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [35]

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Sure, Greg. It's Steve. No, we really haven't. I mean new units continue to be very healthy. Our pipeline by the end of this year will be right back at about 1,000 units in the pipeline. We're still seeing about 70% of our new units in the U.S. opening from existing franchisees. So we came off of 2016 being a record year of profitability for our franchisees; and that's usually a good indication, a barometer of where development is going to go into the future. And on the backs internationally of 7 new countries, and it's very much in the infancy of those new countries, but we've seen very good indications of long-term success potential on those. And the early years of the outset of new units are certainly much softer, but we'd love to see acceleration in the international front as well.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [36]

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And Steve, if I could add something real quick. This is Lance. The pipeline number that Steve referred to, I think there's been some folks that missed the fact that we had to pull 200 to 300 units out for India. So when you look at the pipeline and it looks lower than where it has been before, don't read into that, that folks aren't interested in opening units. Read into it the fact that we had to pull several hundred units out for India, which has artificially lowered that number for a temporary time.

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Gregory R Badishkanian, Citigroup Inc, Research Division - MD and Senior Analyst [37]

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Okay. And then you mentioned the higher investment by your 2 main competitors, so is that having an impact on you, like, third quarter, fourth quarter? Is that more of a potential impact for 2018 and beyond for some of those investments? And does that just mean that you have to continue aggressively investing so it's a maybe net positive for the 3 big players versus the smaller operators that you compete with? How does -- how do those dynamics work?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [38]

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Sure, Greg. It's Steve, and I'll start. And Brandon, if you want to jump in on this one. So I -- we've always been the smaller competitor in the category. We opened our first unit in '84, and the larger competitors all opened their brands in the late '50s and early '60s. So we've always been smaller, so we've had to make sure that every dollar that we invest is working smarter or working harder and smarter for us. So we've been able to be successful with that, Greg. I would say, just in terms of the cadence of the quarters of the impact from the incremental investment, it's really been pretty equal. It continued. Going back to the late third quarter and fourth quarter, the predominant change in our results is really primarily impacted by the challenge with the NFL that's been -- done so well for us in the last several years here. But when the NFL is declining, and you are spending a significant amount of investment from -- all the way from our local team partnership deals all the way up to the overall national partnership effort has an impact to us. But if you start to see a challenge like that, we've got to figure how to be creative and reallocate our investments, which frankly the timing is good with Brandon coming on board. So I'll let Brandon -- I don't know if you've got any other comments you would add to that.

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Brandon Rhoten, Papa John's International, Inc. - Global CMO [39]

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Yes. I mean obviously, if you try to play the media game and it's just a tonnage effort when a competitor ups their spend, it affects you. What we're doing is changing the game. We're investing in infrastructure. We're investing in tools. We're investing in agency partners. So moving forward, we don't have to play the media tonnage game. We can be smarter, instead of spend more, and achieve more. So the future is bright from a standpoint that, when these tools are in place and as we learn, we're not going to need to compete dollar for dollar for TV.

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Gregory R Badishkanian, Citigroup Inc, Research Division - MD and Senior Analyst [40]

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Okay. And I know you're not ready to give 2018 guidance, but just, I mean, thinking it through, if the NFL was the primary contributor to the weakness in 2017, should we -- is there anything that would lead to soft performance in 2018? Or should we kind of return to more normalized same-store sales level? I mean you can talk to it qualitatively if you want. I know you can't -- you may not want to give specific number guidance.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [41]

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Greg, I'll start. I mean I think obviously we've had to react very quickly to the situation with the NFL. So we already had plans locked and in place to leverage the NFL. Now we've got some time here to kind of work through from a -- at least from a top line standpoint what our road map, our calendar looks like, our media allocation, the investments, the usage of a different agency, how we'll leverage tech and the new marketing investments in a different way. We're certainly not in a position where we want to give any kind of specifics around sales guidance for 2018, but as I said multiple times, we expect another year of positive sales in 2018 for both our domestic and our international business.

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Operator [42]

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(Operator Instructions) Our next question comes from the line of Chris O'Cull with Stifel.

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Christopher Thomas O'Cull, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Senior Analyst [43]

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Last year -- Steve, last year, NFL viewership was down quite a bit, but Papa John's comps were up 4% to 5%, so I'm trying to understand why a decline in viewership this year is a much bigger, bigger issue.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [44]

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It's a good question, Chris. So last year -- and I spoke to this just a bit. Last year, we had planned our pan launch and actually started a little bit early at the local level. In early October, we had multiple test markets that had kicked off even in the third quarter. So the big launch of pan and everything that we put behind that masks some of the declines that we were getting from the benefit from -- or the overall headwind we're experiencing from the NFL. So obviously with many weeks and many gains last year and the fourth quarter being down 20% to upwards to 30%, clear we -- clearly, we expected, as we rolled over those gains, we'd see a benefit. So we did certainly. And we put even more investment into the NFL this year to expect we would get that benefit, and rolling over the pan and that NFL headwind and the other things that we have spoken to is what's causing this issue.

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John H. Schnatter, Papa John's International, Inc. - Founder, Chairman and CEO [45]

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And Chris, this is John. But you need to look at exactly how the ratings are going backwards. Last year, the ratings for the NFL went backwards because of the elections. This year, the ratings are going backwards because of the controversy. And so the controversy is polarizing the customer -- polarizing the country, and that's the big difference here.

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [46]

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I think it's a great point, John. That's a great point because I do think that the negative consumer sentiment is having a big impact on our business. Because last year, with declining ratings, we were able to reallocate some of our investments as we continued to put more money into digital, but less viewership and negative consumer sentiment is the double-down effect that's having the biggest negative impact. It's a great point by John.

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Christopher Thomas O'Cull, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Senior Analyst [47]

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Do you think or do you have any evidence that the growth in third-party aggregators has become an issue?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [48]

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No. And Chris, we track those across the country and most specifically in our major markets where they're predominantly more penetrated. We've not seen any significant impact on the business in those markets. There's the potential for that to have a small impact, which we've taken the approach of also looking at potential partnership opportunities with these aggregators, whether that's through leveraging them through additional sales channel opportunities or leveraging the base of their driver fleet and our driver fleet. So we think there's some creative opportunity with -- as the industry is shifting and consumer behaviors are evolving, that we can turn this into a potential tailwind opportunity for our brand and mitigate some of those challenges of share-of-stomach opportunity.

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Christopher Thomas O'Cull, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Senior Analyst [49]

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Do you think that the direct partnership -- the company's direct partnership with the NFL, though, do you think it's impacted Papa John's more than maybe the overall segment?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [50]

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I think clearly, if you're the #1 recognized partner with the NFL 2 years running, you're going to have a more significant impact from a partnership association than any of the other partners. In addition, many of the other partners are not in a direct-response business like Papa John's in a value-centric category. So yes, Chris, I would think that that's probably a driving factor of why it's had such an impact on our business here in the short term.

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Christopher Thomas O'Cull, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Senior Analyst [51]

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Okay. And then Lance, my last question is what was the impact of the start-up costs and inefficiencies at the new QCC and during the quarter? And what do you expect, if any, impact you'll have -- or it'll have in the fourth and maybe even next year?

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [52]

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So a good bit of a margin decline. And I'm not giving exact numbers, but the big majority of the margin decline was from start-up costs and transition costs because it takes a while to transition the restaurants from other commissaries into Atlanta. I think it's -- or Acworth rather. I would expect to see it persist some in the fourth quarter, probably not quite as bad. And then I think, when you get into next year, the headwind will be largely, if not fully, dissipated.

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Operator [53]

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We have a follow-up question from the line of Alton Stump.

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Alton Kemp Stump, Longbow Research LLC - Senior Research Analyst [54]

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Yes. Just a quick question to follow up on Chris asked about the aggregators and what the impact may or may not be. How about some other players like McDonald's or Panera or there's obviously a lot of [casual change]. (inaudible) is rolling out delivery and/or increased off-premises service in general. I mean, is that having any impacts, from what you can see in the various markets where you compete more head to head with those type of competitors?

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Steve M. Ritchie, Papa John's International, Inc. - President and COO [55]

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No. And it's Steve again. I'll just reiterate. You know what, I don't think -- we've not seen any kind of material impact on our overall sales performance in those markets. What I will say is that it -- just it shouts the importance of making sure that we continue to improve upon the customer experience, i.e. all the investments that we're making in marketing to make sure that we've got the right brand messaging, driving the right customer perception; the investments in tech to drive the right overall experience; and the operation side to make sure that we're providing great product and great service. And we need to make sure that our differentiation is more important than ever as accessibility within the space continues to broaden, but we've seen no impact from aggregators or brands that are partnering with those aggregators. However, again, we're looking at the same kind of partnership opportunities to supplement some of the efforts that we have. There's clearly a unique experience that you have with a Papa John's delivery driver, but there is also an opportunity to expand that to leverage some of these aggregators as consumer behaviors continue to evolve.

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Operator [56]

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I'm not showing any further questions at this time. I'd like to turn the call back to Mr. Tucker for any closing remarks.

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Lance F. Tucker, Papa John's International, Inc. - CFO, Chief Administrative Officer, SVP and Treasurer [57]

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Thank you, Liz. Thanks again, to everybody on the call, for your time. And we will be announcing our full year results at the end of February of 2018. Thank you.

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Operator [58]

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Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program, and you may now disconnect. Everyone have a great day.