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Edited Transcript of TAST earnings conference call or presentation 8-Nov-17 1:30pm GMT

Thomson Reuters StreetEvents

Q3 2017 Carrols Restaurant Group Inc Earnings Call

Syracuse Nov 11, 2017 (Thomson StreetEvents) -- Edited Transcript of Carrols Restaurant Group Inc earnings conference call or presentation Wednesday, November 8, 2017 at 1:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Daniel T. Accordino

Carrols Restaurant Group, Inc. - President, CEO & Chairman

* Paul R. Flanders

Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer

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Conference Call Participants

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* Brian Michael Vaccaro

Raymond James & Associates, Inc., Research Division - VP

* Bryan Cecil Hunt

Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst

* Fred Wightman

* Jeremy Scott Hamblin

Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail

* 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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Welcome to the Carrols Restaurant Group Third Quarter 2017 Earnings Conference Call. (Operator Instructions) I would like to remind everyone that the conference call is being recorded today, Wednesday, November 8, 2017, at 8:30 a.m. Eastern Time, and will be made available for replay.

I'd like now to turn the conference over to Paul Flanders, Chief Financial Officer. Please go ahead, sir.

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [2]

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Good morning. By now you should have access to our earnings announcement released earlier this morning, which is available in our website, www.carrols.com, under the Investor Relations section.

Before we begin our remarks, I'd like to remind everyone that our discussion will include forward-looking statements, which may consist of comments regarding our strategies, intentions, guidance or plans. 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, especially the risks that could impact our business and results.

During today's call, we will discuss certain non-GAAP measures, which we believe can be useful in evaluating 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. When we refer to acquired restaurants today, we'll be discussing those restaurants acquired from 2015 through 2017, while our legacy restaurants include all of the company's other restaurants, including the restaurants acquired before 2015.

With that said, I will now turn the call over to the President and CEO of Carrols Restaurant Group, Dan Accordino.

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [3]

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Thanks, Paul, and good morning, everyone. Overall, we had a mixed performance during the third quarter. Although we achieved strong growth on the top line, our growth in adjusted EBITDA was more modest as we continued to experience margin pressures from the ongoing level of promotional activity as well as higher commodity and labor costs.

Restaurant sales increased 19.4% in the third quarter compared to the prior year period, reflecting sales contributions from our most recently acquired restaurants, along with a very strong 7.5% increase in comparable restaurant sales. The gain in comparable restaurant sales consisted of a robust 4.8% increase in average check and a healthy 2.7% increase in customer traffic.

Sales were strong across all day-parts with notable contributions from both premium and value-oriented promotional offerings. Key drivers included the new 2 for $6 WHOPPER Mix & Match promotion, the premium Rodeo King and Mushroom & Swiss King Sandwiches, along with the Chicken Parmesan Sandwich and our Crispy Buffalo Chicken Melt. These also had a favorable impact on increasing our average check.

Our guests also enjoyed Burger King's expanded milkshake line with offerings such as the OREO Shake, Froot Loops Shake and Lucky Charms shake.

Our breakfast day-part continued to perform well. Promotions included the 2 for $4 Mix and Match breakfast sandwiches, featuring our newly -- new freshly baked biscuits along with CROISSAN'WICH, various breakfast burrito offerings and our 3 pancake deal for $0.89.

Lastly, October sales trends remain strong, giving us a good start for the fourth quarter. In the third quarter, restaurant-level EBITDA and adjusted EBITDA, both increased on an absolute basis over the prior year period, enabling us to leverage a number of expenses given our strong sales performance. As I said earlier, however, the growth in EBITDA was modest due to continued margin pressures, primarily from cost of sales and restaurant labor expense. As a result, adjusted EBITDA margin contracted 102 basis points compared to the third quarter of 2016.

We expect sales trends to remain firm for the balance of the year and have raised our top line guidance. However, as cost headwinds continue to pressure margins in the fourth quarter, we are lowering our adjusted EBITDA guidance to reflect these cost pressures and our operating results for the first 9 months of the year. Paul will discuss our guidance in greater detail.

In terms of acquisitions, we have acquired 60 restaurants in 2017, and the integration of these locations is progressing well. We also anticipate completing the acquisition of 4 restaurants in Maine over the next couple of weeks, and we have a number other possible transactions that we are evaluating.

As detailed in our press release this morning, we have provided some initial guidance for 2018. We expect Burger King's marketing and promotional strategy will continue to drive sales and that cost pressures on key inputs, namely food cost and labor, will begin to ease somewhat in the coming year. We also expect that reductions in our nondiscretionary capital expenditures should generate increased free cash flow available to fund growth initiatives, specifically restaurant acquisitions and new unit construction. We will further evaluate the allocation of these incremental funds and our available capital as we move forward and provide additional guidance in the future.

In closing, we are pleased to be experiencing positive momentum from Burger King's promotional offerings, which are enabling the brand to increase market share within QSR. At the same time, we believe that our acquisition growth strategy is integral to building shareholder value over the longer term and can able us to expand margins as we improve performance of acquired restaurants and further leverage our infrastructure.

With that, I will now turn the call over to Paul for financial review.

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [4]

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Thanks, Dan. Restaurant sales during the third quarter increased 19.4% to $285.2 million, with restaurants acquired since the beginning of 2015 contributing $59.6 million of sales compared to $26 million in the third quarter of last year.

Comparable restaurant sales increased 7.5%, reflecting a 4.8% increase in the average check, including 2.5% of menu pricing along with a 2.7% increase in customer traffic.

Comparable restaurant sales increased 7.5% at our legacy restaurants and 7.7% at our acquired restaurants. In the year-ago period, comparable restaurant sales were flat.

Adjusted EBITDA was $24.2 million in the third quarter compared to $22.7 million in the prior year period, while adjusted EBITDA margin decreased to 102 basis points to 8.5% of restaurant sales due to the factors that Dan mentioned earlier.

Restaurant-level EBITDA was $37.7 million in the quarter compared to $34.8 million in the third quarter of '16. Restaurant-level EBITDA margin was 13.2% of restaurant sales and 136 basis points lower than the prior year period.

Cost of sales as a percentage of restaurant sales was 197 basis points higher in the third quarter compared to the prior year. This included the impact of commodity inflation, particularly higher ground beef prices, which lingered through much of the quarter. Beef cost in the third quarter was $2.21 per pound or more than 11% above the third quarter of 2016. Beef prices did, however, recede to $2.09 per pound in September and have remained at or below that level so far in the fourth quarter.

Cost of sales were further impacted by higher promotional discounting compared to the prior year period and by negative sales mix changes due to higher cost on certain new or limited-time premium sandwiches. Effective menu pricing of 2.5% in the quarter also has some of this impact.

Restaurant labor expense increased 41 basis points to 32.1% of restaurant sales compared to the prior year quarter due primarily to a 7% increase in our average hourly rate and some reduced labor efficiency due to the higher promotional levels. Due to strong sales gains, we were, however, able to leverage our restaurant management costs.

General and administrative expenses were $14.7 million in the third quarter compared to $13 million in the prior year period and decreased 30 basis points to 5.2%. Note the G&A expenses in the third quarter of 2017 included $0.5 million of acquisition cost and $0.7 million of stock compensation cost, which together were $0.3 million higher than in the previous year.

Net income was $2.8 million in the third quarter of 2017 or $0.06 per diluted share compared to net income of $4.5 million or $0.10 per share in the prior year period. Net income in the third quarter of 2017 included $1 million of impairment and other lease charges, $0.5 million of acquisition expenses and a $0.4 million insurance gain from a restaurant fire. For the same period last year, net income included $0.7 million of impairment and other lease charges and $0.5 million of acquisition expenses.

Adjusted net income was $3.5 million or $0.08 per diluted share compared to $5.7 million or $0.13 per diluted share in the prior year period. Because we had a full valuation allowance on net deferred income tax assets until the fourth quarter of 2016, we did not record any income tax expense in the third quarter of 2016. For comparability to our 2017 results, adjusted net income for the third quarter is presented with a normalized tax provision as if the valuation allowance had been reversed prior to 2016.

Total capital expenditures were $17.9 million in the third quarter of 2017 and $44.7 million for the first 9 months. At the end of the third quarter, our cash balances were $43.8 million and total outstanding debt was $282.4 million.

I will now review our updated guidance for 2017. As a reminder, other than the restaurant acquisitions already completed through the first 9 months of the year, our guidance does not include any impact from potential acquisitions that we might complete during the fourth quarter.

We expect total restaurant sales to be $1.07 billion to $1.08 billion, including an estimated 3.8% to 4.2% growth in comparable restaurant sales. Our previous estimates were for total sales of $1.05 billion to $1.07 billion with comparable restaurant sales up 2% to 3%.

Commodity costs are expected to increase 3% to 4%, including a 9% to 10% increase in beef costs, previously 2% to 4% for commodity cost inflation, including an 8% to 10% increase in beef costs.

General and administrative expenses are still expected to be $53 million to $55 million, excluding stock compensation expense and acquisition-related cost. Adjusted EBITDA is now expected to be $85 million to $90 million, previously estimated at $90 million to $95 million.

Our effective income tax rate is estimated to be negative 6% to negative 8%, previously was 18% to 20%. Capital expenditures are expected to be $75 million to $85 million, which includes remodeling a total of 30 to 35 restaurants, rebuilding of 5 to 7 restaurants and construction of 12 to 14 new units, including 2 to 3 relocations of existing restaurants.

Capital expenditures also include $10 million to $12 million for nonrecurring investments in new kitchen production and product holding systems, new training systems and certain POS system upgrades. Previously, our total cap expenditure guidance was estimated to be $65 million to $85 million.

Lastly, we plan to close 20 to 22 restaurants, of which 17 had been closed at the end of the third quarter. Our previous estimate was for the closing of 15 to 20 restaurants.

As Dan indicated, the press release includes some initial guidance for 2018, which I will quickly review. These estimates do not include any impact from potential acquisitions. This outlook may be further refined and expanded when we release our fourth quarter financial results in late February. We expect total restaurant sales to be $1.12 billion to $1.15 billion, including a comparable restaurant sales increase of 3% of 5%. Commodity cost increases are expected to be somewhat more benign in 2018, and although restaurant wage pressures are expected to continue, wage inflation is expected to be somewhat lower than in 2017. Adjusted EBITDA is expected to be $90 million to $100 million. And lastly, capital expenditures before discretionary growth-related expenditures, namely new restaurant development and acquisitions are expected to be $45 million to $50 million. And that concludes our prepared remarks.

So with that, operator, let's go ahead and open the line for question.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And we can take our first question from Bryan Hunt with Wells Fargo.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [2]

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First of all, I'd like to, maybe, touch on same-store sales on October. Based on your guidance, at least for fourth quarter, I would put same-store sales, I mean, at least at 4%. Is that a reasonable point, is my math working correctly?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [3]

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Yes. I think -- I mean the -- I think the applied guidance is consistent with your math, Bryan.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [4]

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Okay. And can you just tell us how October is from a same-store sales perspective?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [5]

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We're not going to disclose the actual number. We are in the high single digits. And in fact, it's a -- the 2-year transit actually accelerated really since August. As you know, our caps were relatively flat in the third quarter of 2016, and we're up by, I think, about -- a little over 3% in the fourth quarter. So the fact that we're capping at that level against more challenging comparisons, I think, makes us feel pretty good.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [6]

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Great. My next question is, beef has been a headwind and it sounds like at least that headwind is slowing. Is there anything mix-wise that's happening on the menu, either protein or promotional that will cause either 1 commodity cost inflation to decrease and/or mix to improve as we look forward?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [7]

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Yes. I think -- I mean, we're really seen a shift in 2 things. We're selling lot more WHOPPERs obviously because of the 2 for $6 promotion. And then the volume of chicken has gone up because of -- with launch of new Crispy Chicken Sandwich and the whole product line really based around that. And that selling has been very successful. And I think our view is that the focus next year will be concentrated increasingly on the chicken side of the menu.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [8]

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Fantastic. And then, labor costs up 7% on an hourly basis, very stiff headwind. Would you say you have achieved the peak here, and you would expect kind of labor cost to normalize, may be closer to 3% range going forward?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [9]

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I think -- no, I think we expect there will be some continued pressures. I think our view is not at the level that we've seen this year, but certainly still lingering maybe in the 4% to 5% range next year is our outlook at this point.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [10]

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And then you gave us color on next year. Is there any closures worked into that guidance? And if so, can you give us an idea what the range is?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [11]

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The answer is yes. There are some closures planned for next year. The number, I would say, is relatively comparable to what we -- what we're closing this year, 15 to 20 restaurants approximately. The impact of those are pretty nominal, however, because they're obviously -- they're not negative cash flow, but they're very low EBITDA stores. I think it's less than $0.5 million of EBITDA that's tied in the closures.

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Bryan Cecil Hunt, Wells Fargo Securities, LLC, Research Division - MD & Senior Analyst [12]

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Fantastic. And then my last question is, how would you describe the pipeline of acquisitions? It sounds like you said in your prepared remarks, there was like 4-or-so you haven't managed and think you will close by some point in this quarter. But based on the level of acquisitions you made this year and you have acquired 60 restaurants, do you think that the pipeline is robust enough to match that number again in 2018?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [13]

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Yes.

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Operator [14]

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And we can go next to Greg Badishkanian with Citi.

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Fred Wightman, [15]

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This is actually Fred Wightman on for Greg. I think you said that pricing was 2.5% in the quarter. First of all, is that correct? And then could you just talk about how much more room you think there is to increase that given some of the margin pressure you're seeing?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [16]

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Yes. The -- yes, that's correct. The pricing -- the effective pricing is 2.5% in the third quarter. We've maintained that level or we're slightly above that in the fourth quarter. We'll go with -- right now, given the price increase, we've taken -- we think we'll get about 2% for next year and likely try to drive that below that.

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Fred Wightman, [17]

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Okay, great. And then I think this is sort of the second or third quarter you've mentioned higher promotional costs just pressuring margins, how are you sort of thinking about the headwinds there moving forward?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [18]

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Well, I think -- certainly, one of the reasons I think our lower guidance this year is that the promotional levels have stayed at somewhat higher level than we anticipated. We actually increased another level of promotion between -- sequentially between the third -- between the second and third quarter. I think our view at this point is that the promotions will continue at comparable levels to where we are.

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Fred Wightman, [19]

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Okay, that makes sense. And then just from an industry perspective, a lot of attention now to delivery. Have you seen anything from a competitive standpoint as far as that impacting markets where you compete with some of the bigger QSR burger guys?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [20]

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This is Dan. The answer is no.

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Operator [21]

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We can go next to Will Slabaugh with Stephens Inc.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [22]

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I had a follow-up on the tax rate comment that you made that being negative this year and that being because of tax credit. So I'm curious if you give me a little bit more color there? And then what the cash flow impact is going to be from that for the year?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [23]

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There is no impact on cash flows. As you know, we've got NOLs. What's happening is, because we lowered the guidance a little bit, the pretax number -- the credits in relation to the pretax number are disproportionally high, which is creating an anomaly in the rate.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [24]

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Got it, got it. And then on the cost of goods impact from the promotions that you mentioned, I wanted to sort of parse out, if I could, the promotional cadence I guess or the degree of the promotion that you're seeing now versus what you've seen historically pressuring your cost of goods versus simply focusing on some things that are a little bit more beef sensitive, i.e., if you're selling more WHOPPERs, et cetera. So how would you characterize your COGS being impacted by this -- the promotions being more because of beef or more because we are simply promoting more?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [25]

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It's a little bit of both to be asked. Good news is beef prices have receded. So that's becoming less of a factor. And actually, sequentially from the third to fourth quarter, it should help cost of sales. But obviously, the main driver is the promotions themselves. And it -- sequentially we're a little bit higher in the third quarter than we were earlier in the year and certainly compared to last year, and I think we start lapping that once we get past the fourth quarter, but that's primarily what's driving it.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [26]

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Got you. And then as far as the store closures that you mentioned, raising those just slightly, are any of those cash flow positive in any significant way?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [27]

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Not in a significant way. I mean, I would characterize similar to how I just described the 2018 closures. We've -- we're not closing restaurants. Obviously, they're making a lot of cash. It's -- they're just marginal units at this point and not severely negative. They are breakeven kind of range and it's just they're in -- they're at values where it doesn't make sense to reinvest and do remodels and then invest additional capital.

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William Everett Slabaugh, Stephens Inc., Research Division - MD and Associate Director of Research [28]

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Makes sense. And then last thing I had was on labor inflation. So you mentioned, hopefully, that is a little bit lower in '18. Can you walk us through the thinking there in terms of why we're kind of peaking this year? Why that acceleration has occurred? And seems like even in the 3Q, probably, a little bit maybe worse than what we thought and then why that may come down a little bit for next year?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [29]

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Yes, this is Dan. There are 2 parts to the wage inflation. One is minimum wage increases, and the other is the competitive environment. In New York State, where we have 130-some stores, the minimum wage went up 9.3% '17 compared to '16 and will go up another 9.3% '18 compared to '17. So that obviously has an embedded effect not only in terms of the hourly rates, but also in terms of putting a little pressure on management's salaries because we have some compression. The reason that we think it will be a tick lower in 2018 compared to 2017 is we're not seeing as much competitive pressure in terms of wages in certain other markets. So that's going to somewhat offset the minimum wage increase in New York. And we don't have significant minimum wage adjustments in any other state in which we do business.

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Operator [30]

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And we can go next to Brian Vaccaro with Raymond James.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [31]

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On the fourth quarter comps, I appreciate the disclosure on October. Can you remind me, do your year-on-year comparisons get more difficult as you move through November and December and -- or monthly comp trends basically stable in the fourth quarter last year?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [32]

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They were a little -- they were stronger in October and November. The month that perhaps is lower would be December. So we're actually lapped by -- in October, was lapped by one of the more significant months already, and we never talked about how we perform against that number.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [33]

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Okay. All right. Great. And back to the third quarter. You significantly outperformed the U.S. Burger King system with that gap widening out quite a bit here. What would you attribute the widening our performance to?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [34]

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I think it's -- this is Dan, again. I think it's probably a function of -- a certain amount it could be geographic because our northeast restaurants did very well. A certain amount is attributable to the fact that roughly 76% of our entire portfolio now has completely remodeled and reimaged. And in the New York markets, primarily Upstate New York market, where we did really well, we own all of those markets. And consequently, I think from a competitive standpoint, we do very well there.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [35]

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All right. That's great. And on the third quarter labor costs, sorry, if I missed it. Paul, what was year-on-year wage inflation in the third quarter?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [36]

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The increase in our hourly rate was 7%.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [37]

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Okay. And it looks like your reported labor costs, if you look at it sort of on a per operating week basis, it was closer to 10% year-on-year. Can you help us bridge the gap between the wage inflation that you're seeing and sort of your reported labor costs?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [38]

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You tricked me on this question last quarter. As I said in my prepared comments, the one -- the other one factor that's driving wages, we've also had somewhat lower productivity because of the -- I'm not saying it's material, but it's having -- it's had some impact and because of the promotional levels. We were, obviously, producing -- when you take -- when you look at in terms of dollars, we're selling more product at the same sales dollars.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [39]

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Yes, yes. Now that's understandable. And are -- is there also a component to it where you are adding hours on some of the more recently acquired units, is that having an impact on that labor line as well?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [40]

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Yes, yes. The 60 restaurants that we have acquired in 2017 still have not met our labor formula. And we expect that they will be on the formula by the end of fourth quarter.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [41]

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Okay. That's helpful.

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [42]

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The primary issue is, it takes the same amount of labor to manufacture a WHOPPER that you sell at $4.69 as it does to sell 2 of them for $6.

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Brian Michael Vaccaro, Raymond James & Associates, Inc., Research Division - VP [43]

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Yes, yes. All right. Understood. And then the last one for me is, as I think about the '18 EBITDA guidance, it would seem to imply a return to store margin expansion in '18, is that correct or is there perhaps may be some incremental leverage that you expect to see perhaps on a G&A line as well?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [44]

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I think we will expect both.

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Operator [45]

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And we can go next to Jeremy Hamblin with Dougherty & Company.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [46]

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I wanted to just explore how you get out of this cycle of the discounts? And how you historically have seen it play out? Why you have a little bit more confidence? Because it really appears as though that the industry discounts, which is resulting in all 3 of the big burger chains doing quite well on a same-store sales basis. But it doesn't really translate for the franchisees making a lot more money, even when you have huge comps like 7 -- up 7.5%. How do you kind of frame up next year in understanding how that cycle gets broken a little bit so that the combination of menu pricing and strong same-store sales actually translates to better margins? Do you sense that there is -- is there a discussion at corporate level for appreciating that what they're doing is great for the franchisor, but it's hurting the franchisees?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [47]

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This is Dan. I think that the -- I can only speak to Burger King as a franchise or I can't certainly speak for the other two. I think the mindset with the franchisor certainly is that, they are mindful of profitability at the franchisee level, at the restaurant level, and they're not going to see expanded new store development or growth if franchisees aren't profitable. In terms of -- and I also think that the sense is that by the 3 major players continuing to have a balanced approach, which is certainly some level of discounting, but also new product development, that they are increasing market share relative to many of the more -- the smaller and more regional competitors and that's the mindset. In terms of franchisee profitability, if we continue to -- certainly net comes from gross. If we continue to show good sales increases and we have a more benign commodity cost pressure and we manage labor and have less increase in wage rates -- slower increase in wage rates, then we would expect to see increased profitability.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [48]

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Okay. That's helpful. Paul, if you could maybe clarify a bit. It looks like you're on track for cost of sales to be deleveraging about 150 basis points this year. Could you quantify the split of that between commodity cost pressures that are unable to be offset by menu pricing versus the discounting just to give us a proportion of impact?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [49]

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Well, I can -- the answer is yes. I can talk about -- I don't have the year-to-date numbers right in front of me. I'll talk to it in, I think, in context of the quarter, which may probably be helpful. The discounting is -- cost of sales has gone up about 200 basis points year-over-year. About 50 basis points of that is being driven by higher discounting relative to last year, which was also high, you'll recall. The commodity impact has been about 140 basis points, half of that due to higher beef cost. The balance being maybe pork and pork is up this year, bacon and sausage. We've, obviously, improved the chicken sandwich, which has had -- this year, which has had some impact and then there's been some effect from the mix because of that as well. And those are the big components.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [50]

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That's helpful. And then I wanted to just come to kind of the acquisition pipeline. First start out with your G&A guidance, which you kept flat. You mentioned, you've got a small deal closing here in Q4. I think you've got $1.7 million of acquisition costs year-to-date. What (inaudible) G&A number for the full year, is it kind of round to about $2 million even?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [51]

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For acquisition costs?

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [52]

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Correct.

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [53]

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I don't have the number right -- handy. I don't think acquisition costs are going to be significant in the fourth quarter at all. It's just a small transaction. A lot of the work was done before we've got to the fourth quarter. I mean, we, obviously, handled almost everything in-house.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [54]

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Okay. And then as a follow-up question on that. In terms of the acquisition pipeline, you've done a bunch of deals this year, not close as many in the second half of the year. What then -- when you look at the franchisee landscape in the BK system out there and seeing a lot of people who are not making more money this year even when sales are good, are you getting more phone calls as there -- more active pipeline because there is some frustration on the margin front with franchisees? How should we be thinking about that as we're inch closer to 2018 in terms of the opportunity?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [55]

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First of all, we didn't do a bunch of deals this year, we only did two. We did a 43-store acquisition in Cincinnati and a 17-store acquisition in Maryland. So this -- in terms of -- we did the number of restaurants that we had hoped to be able to acquire, but we really did 2 reasonably good-size deals. In terms of the pipeline, I would not characterize the pipeline as a function of franchisee frustration. I would characterize the pipeline as being similar to what we've experienced in the past, where you have second or third-generation operators, which perhaps think it's a good opportunity for them to move on and do something else. But yes, we are getting a number of calls, and we have opportunities both that we have reached out to, and we have opportunities under our right of first refusal. We've looked at more opportunities in 2017 than we closed on, simply because we didn't agree with the sellers' valuation. The things that we're looking at for 2018 so far, the evaluations are becoming a little more reasonable. What we saw in '17 was sellers attempting to value their restaurants of 2015 and '16 cash flows, which obviously we didn't agree to.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [56]

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Right. We like that discipline. In terms of historically, when you see margin compression like this in -- at the restaurant level, do you tend to benefit more when these deals happen? Because I guess as you look forward to next year, in theory, you may be buying at depressed margin levels versus a normalized basis considering the heavy impact of both higher-than-normal labor inflation as well as commodity costs, which are up pretty decently this year? Is it -- if it were to work out better for you guys in those following years when you acquire?

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Daniel T. Accordino, Carrols Restaurant Group, Inc. - President, CEO & Chairman [57]

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Yes.

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [58]

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Great. Last one, Paul. Since you have given us some helpful guidance here on '18. On the CapEx front, how does the kind of initial view look next year? Kind of in a similar range, $75 million to $85 million in CapEx or what is in the plan as it stands today?

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [59]

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Well, the guidance that I provided was focused on nondiscretionary CapEx primarily. So I mean, the range is -- was $45 million to $50 million and excludes any growth capital, i.e., new stores or acquisitions. I think the point of that is, if you do -- if you break out the same for 2017, you'll see that our CapEx -- the core nondiscretionary CapEx is probably $15 million to $20 million lower next year, mainly because of the nonrecurring CapEx we had this year, a little bit lower lever on the remodeling and so forth. We haven't really provided -- we won't provide any further guidance on new stores until we get into the February call. But I think you can get a sense for what the free cash flow...

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Jeremy Scott Hamblin, Dougherty & Company LLC, Research Division - VP and Senior Research Analyst of Consumer & Retail [60]

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But it's fair to me to assume. I mean, I guess the way that I interpreted that was based on the prior comments, that you will have some new development, it sounds like for next year and some additional remodels. So we should be assuming a higher number than the $45 million to $50 million overall.

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [61]

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Absolutely.

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Operator [62]

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And it appears we have no further questions at this time. They can go ahead and turn it back over to our management team for any additional or closing remarks.

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Paul R. Flanders, Carrols Restaurant Group, Inc. - VP, CFP, Treasurer & Principal Accounting Officer [63]

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Okay. Great. I think we said enough for the morning. We thank you for your time. And we look forward to reporting back later in February in the fourth quarter. Have a good day.

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Operator [64]

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And this does conclude today's program. Thank you, everyone, for your participation. You may disconnect at any time, and have a great day.