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Executives

Carin Stutz – President and CEO

Bill Koziel – CFO

Analysts

James [Fonda] - Sidoti & Company

Chris Kruger - Northland Capital Markets

Rod [Herasi] - [Clayhill] Capital

Rick [Shea] - [Vardan] Capital

Cosi (COSI) Q3 2012 Earnings Call November 15, 2012 5:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Cosi Incorporated third quarter earnings conference call. [Operator instructions.] I would now like to turn the call over to Mr. Bill Koziel, chief financial officer. Please proceed.

Bill Koziel

Thank you, operator. Good afternoon, everyone. I'd like to welcome you to Cosi's 2012 third quarter results conference call. Joining me on the call today is Carin Stutz, Cosi's president and chief executive officer.

Cosi's earnings release was issued today at market close and is available in the Investor Information section of our website at www.getcosi.com. During the call, we will be referencing supplemental materials, which are also available in the Information section of our website. If you haven't already done so, please access the materials at this time.

As we always do, we will address our regulatory housekeeping matters before we begin. During our introductory comments, and in our responses to your questions, certain items may be discussed which are not based on historical fact. Any such items, including expected results, and any details related to expected performance should be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

All such forward-looking statements involve risks and uncertainties that could cause our future performance and financial results to differ materially, and therefore, you should not place undue reliance on these forward-looking statements.

We refer all of you to our filings with the Securities and Exchange Commission for a more detailed discussion of the risks and uncertainties that may have a direct bearing on our operating results, our performance, and our financial condition.

For the call today, Carin will begin with comments about our business, and we'll update you on various initiatives for 2012. I'll then take us through a review of the results for the quarter. At the end, we'll open the call for your questions.

I'll turn now it over to Carin.

Carin Stutz

Thank you Bill, and to everyone on the call we sure appreciate you joining us today. Well, while it might not be apparent in our third quarter results, we do continue to make progress on our long term goal to build Cosi into a valuable and relevant brand and a prosperous business.

But let me be direct, I do not consider the current financial results to be an acceptable reflection of our vision. That said, this was still a progressive quarter for Cosi, one of learning and innovation, and I remain confident that we’re on the right path.

Right now, our efforts are divided into two camps. One is focused on improving and maximizing our existing portfolio and the other is focused on crafting and executing our store of the future. Let me share with you our thinking about the evolution of the Cosi brand experience.

We’re going to take the best of today’s Cosi menu and supplement it with fresh, flavorful new items that are more representative of where we want to take the Cosi brand. With today’s trends looking for more freshness and transparency in food and ingredients, Cosi has the opportunity and should play in that space very nicely.

We will position Cosi as an urban café for cosmopolitan tastes, moving back to our roots, with leading-edge food and flavors and more contemporary in our food and our design. The hearth will remain a focal point. Our fresh-baked flatbread will still be front and center, as we’re the only chain in our segment baking bread from scratch throughout the day. However, the hearth has been underutilized, and we’ve discovered it’s a wonderful oven for roasting fresh vegetables and baked fruit. We’ll do more to capitalize further on this brand defining asset.

Newest to our team is Michael Foley. He’s our vice president of strategic innovation. Michael is a third-generation restaurateur whose achievements and accolades in this industry are numerous. He’s the winner of the James Beard Award for his culinary innovation, and Michael is also the creator, owner, and operator of the successful Printers’ Row restaurant group.

Over a 25-year period, his company operated five restaurants, two vineyards, and a farm. Additionally, Michael was one of the originators of the farm to table movement, having cofounded the Chicago Green City Market and many of the citywide farmer’s markets. His culinary talent and his creative vision are already adding meaningful energy and velocity to our process of transformation.

Also, to support our team on an updated design, we’ve partnered with a firm called Big Red Rooster. They’re a design firm based out of Columbus, Ohio, and we selected them based on their focus on the customer experience as well as the work they had previously done in the more premium fast casual restaurant space.

Now let me address the existing portfolio of restaurants. We’re doing exactly what we set out to accomplish this year. We had three objectives, and the first was to reduce the menu and continue to innovate around food. And as I mentioned on our last call, we cut 15% of our menu and 18% of our SKUs.

We did experience some impact initially as menu cuts always result in the elimination of someone’s favorite item. But we still believe the reduction was necessary to simplify our operations and better define what we stand for as a brand.

As we continue down this path, we’re now focused on innovation and improving our existing menu. We’re sourcing higher quality and fresher ingredients. We’re cleaning up items, so think fresher, less preservatives, from the introduction of an all-natural chicken to roasting freshly cut seasonal vegetables in our hearth.

We’re also exploring opportunities to enhance our coffee and tea selection. We’re introducing lighter roasts and flavored coffees on self-service beverage stations. We know we have upside on hot beverages, being in the bakery café segment. And we’re also excited about some new products that we have in test that are targeted to launch in the first quarter, and we’ll be talking about that very soon.

We also have initiatives to drive traffic for the balance of the year. These include our current seasonal offerings, our most popular annual holiday turkey and stuffing sandwich, which has quickly shot to the number one position for us in the sandwich category. We’re also featuring a new seasonal steak and cranberry chili, and it’s equally popular this year. Next we’ll follow that with an indulgent lobster sandwich for the month of December.

Our second initiative was improving throughput and we’ve completed our objectives for this year. We’re seeing improved efficiency, with better maintained equipment, operating systems, and the conversion of 10 more restaurants to our pay-first model. We will continue to focus on improving our speed of service every single shift.

And very importantly, we want to be EBITDA positive for the year. It will now be down to the wire as we had a difficult couple of weeks with Hurricane Sandy. All affected restaurants are now open, and we’re getting back on track.

The third quarter sales did not meet expectations, but we saw progress and momentum build throughout the quarter. Approximately 25% of our sales deficit for the quarter occurred in early July, as we were adversely impacted by the year over year timing of the July 4 holiday.

But the reality is we must deliver top line growth. We’ve streamlined our operations to set us up to be stronger in operations and hospitality. So now it’s about getting traction with some of our new initiatives and innovative product rollouts. We’ve shared these with our franchisees, and they’re very supportive, and very encouraged, that we are moving Cosi in the right direction.

Let me address two other topics. One is restaurant closures, and NASDAQ compliance. We’ve closed three restaurants so far this year, the net effect of which on an annual basis will be slightly accretive to our results. We have two others that will close at the end of the year as the leases expire, and a third location where the lease ends in February.

The impact of this group will be somewhat dilutive to earnings, and this is solely due to the closing of our location at the World Financial Center at the end of December as a result of the landlord’s decision to reposition that food court to focus on one-of-a-kind, chef-driven concepts. We’re actively seeking a replacement site. There are also three underperforming restaurants that we’re currently working with the landlords to achieve an amicable exit, which we expect to be accretive to our results on an annual basis.

And then lastly, I want to address our current noncompliance with the NASDAQ listing standards. As you well know, following the announcement of the rights offering, our share price dropped below the $1 minute required for NASDAQ compliance. Since our stock remains below $1, we expect to receive a noncompliance and delisting letter from NASDAQ on or shortly after November 21. At that time, we will file an appeal asking for an extension and a hearing to present a plan to regain compliance.

And with that information, I’ll now turn the call back to Bill to give you a financial update.

Bill Koziel

Thanks, Carin. Pages four and five of the supplemental information will guide you as I review our financial and operating performance for the third quarter. For the quarter, we reported a net loss of $1.354 million, or $0.02 per share, which reflects a 9%, or $137,000 improvement in our operating results as compared to the prior year.

Let’s look now at the components of our results for the quarter. As announced today, our system-wide comparable restaurant sales in the third quarter decreased by 0.7%, as measured for restaurants in operation for more than 15 months. Franchise comparable restaurant sales increased by 2.3% in the third quarter, as compared to the same period last year.

For our company-owned locations, comparable sales decreased by 2.5% in the third quarter as compared to the prior year period, due primarily to a 3.2% decrease in traffic, partially offset by a 0.7% increase in average check. The decline in traffic for the quarter was largely driven by our dinner day part and softness on the weekends in many of our suburban locations throughout the quarter.

The increase in average check was largely due to the approximately 1% price increase taken in the second quarter of 2012, which were partially offset by the impact of lower average check associated with our breakfast business, where we continue to experience growth.

Total revenues for the third quarter were $24.4 million, compared with $25.3 million for the prior year quarter. The contribution of franchise fees and royalties decreased by $129,000 in the third quarter to $739,000. Last year’s third quarter benefited from forfeited fees related to a terminated area development agreement.

The 2012 third quarter decrease in company-owned restaurant net sales of $848,000 was comprised of the aforementioned 2.5% decline in comparable restaurant net sales and $245,000 in sales from locations closed during and subsequent to the third quarter of 2011.

At the end of the 2012 third quarter, there were 129 Cosi restaurants, of which 52 were operated by franchisees. This, as compared to 138 Cosi restaurants at the end of the 2011 third quarter, of which 58 were operated by franchisees.

The cost of food and beverage for the 2012 third quarter was comparable to the prior year at 23.5% of restaurant net sales. So the impact of the increase in average check related to the second quarter price increase was offset by higher costs on certain commodities.

As we look at labor and related benefits expense, as a percentage of restaurant net sales, that improved over the past year by 40 basis points in the third quarter to 36.2%. This improvement was due primarily to the continued efforts to more effectively manage the deployment of hourly labor during peak and nonpeak operating hours and partially offset by higher healthcare related costs and the deleveraging impact on labor resulting from the decrease in comparable restaurant net sales.

Other restaurant operating expenses improved over the past year by 10 basis points in the third quarter, to 11.9%. The improvement was due primarily to lower year over year costs associated with repair and maintenance of company-owned restaurants, partially offset by higher costs for third-party credit card fees.

Occupancy costs for the third quarter of 2012 were 20.6% of restaurant net sales, or 80 basis points higher than the same period last year. The increase was due in large part to higher year over year rent expense as well as the deleveraging impact of the decline in comparable net sales on fixed expenses.

The total restaurant cash flow for the 2012 third quarter was $1.844 million, resulting in a cash flow margin rate of 7.8%, compared to $1.973 million, or 8.1%, in the 2011 third quarter.

As part of our continued efforts to control costs, we’ve reduced general and administrative expense by 9.8%, or approximately $325,000, to just under $3 million, or 12.3% of total revenues, for the 2012 third quarter. This compared to $3.3 million, or 13.1% of total revenues, in the prior year period.

This year over year improvement was due primarily to lower third-party professional fees and the lower marketing related expenditures and then partially offset by certain CEO-related relocation expenses that were recorded in the quarter.

Cash, cash equivalents, and short term investments were approximately $16.3 million as of October 1, 2012, and Cosi had virtually no debt. Net income after excluding depreciation, amortization, and noncash stock based compensation expense was approximately $700,000 for the nine months ended October 1, 2012. This reflects an improvement of approximately $1.5 million over the same period last year.

Capital expenditures for the 2012 third quarter were $516,000, and were primarily for repairs and maintenance of existing company-owned restaurants. So on slide five, we have provided a reconciliation of the non-GAAP measures from slide four to our reported quarterly results.

Ladies and gentlemen, this concludes our brief presentation portion this afternoon, and Carin and I look forward to answering your questions. Operator, can you please open the line for questions?

Question-and-Answer Session

Operator

Yes, sir. [Operator instructions.] And your first question comes from the line of James [Fonda] with Sidoti & Company. Please proceed.

James [Fonda] - Sidoti & Company

Can you just talk a little more about the variance between your franchise businesses and the company-owned restaurants?

Carin Stutz

First I want to acknowledge the fact that we’ve got some franchisees doing very well with the Cosi brand, operating with a strong operational bent as well as a strong culture. And I think our operators have an opportunity to catch up. We’re happy about the performance in our urban markets. We’re doing relatively well, but as Bill suggested, we’ve had a little softness in the suburban markets at dinner and on weekends. So some of the innovation work that we’re doing is going to address that.

James [Fonda] - Sidoti & Company

And can you just weigh a little more on how much Hurricane Sandy affected these numbers? Or was it more based on the overall economy? Do you have an opinion on that?

Bill Koziel

First, Hurricane Sandy, that would be a fourth quarter event. This is really third quarter results. But we can speak to that.

Carin Stutz

Yeah, we can speak to that, as obviously the start of this quarter is a bit extraordinary, because of the hurricane. If you think about it, James, where we’re located. So the first two weeks at any given time, we had 51 of our 77 restaurants that were impacted, as well as 20 of our franchise restaurants. So the good news is our people are safe, and we didn’t have any major physical damage, but we’re back operating everywhere.

James [Fonda] - Sidoti & Company

And do you anticipate any inflationary food pressure in the fourth quarter and into 2013?

Bill Koziel

I think for the fourth quarter we think we can hold the line, based on the trend we’re at. But I do think as we look into 2013, there could be some inflationary pressure. We’re looking at items like fuel and grain as still possibly being someplace where we’ll get some headwinds. And we think that looks like it may be a 10-20 basis point headwind that we could see in 2013.

Operator

And your next question comes from the line of Chris Kruger with Northland Capital Markets. Please proceed.

Chris Kruger - Northland Capital Markets

First, on your sales trends, can you talk about month-to-month trends? Were they steady throughout the quarter? Was there any month that stood out, in a good or bad way?

Bill Koziel

I think as we just said on the call here, 25% of that deficit occurred very early in July, and it really revolved around the shift of the July 4 holiday, which as you know ended mid-week this year. It was on a Wednesday versus being on a Monday in the prior year. So we saw some erosion throughout the week versus just being around the weekend. Having said that, we did see some momentum as we moved through the quarter. And so of the three months, September was our best month.

Chris Kruger - Northland Capital Markets

Okay. And back to just looking at company-owned versus franchise-owned, the franchises have been performing better on the comps. Are there any certain markets as a whole that are clearly doing well, or poorly, or anything that stands out in general for either company-owned or for franchises?

Carin Stutz

We’re happy with New York, Philly, Minnesota, our Chicago markets have done well. It’s really, like I said before, some of our suburban locations, where we’ve struggled a bit. So we’re working on operations, and we’ve made some talent changes there as well.

Chris Kruger - Northland Capital Markets

Looking ahead to the fourth quarter, can you refresh our memory on the number of weeks? Do you have 13 operating weeks this year versus 14 last year? Or am I mistaken?

Bill Koziel

We will have 13 operating weeks in the fourth quarter versus 14 last year. We will, as we report these results, do a 13-week versus 13-week comparison. And, as we did last year, we’ll identify what the impact of the 14th week is.

Chris Kruger - Northland Capital Markets

Then as far as Hurricane Sandy’s impact, can you give us a little bit of an idea of how long some of your locations were closed? Number of days or weeks? Or an average number of days that certain locations were closed?

Carin Stutz

Mostly downtown Manhattan obviously is where we were the most affected.

Bill Koziel

It varied a little bit. The initial wave of the hurricane impacted everybody. So think about that Monday-Tuesday. That first week was very difficult. Then we slowly started to get restaurants back online that did not all come back up at the same time, primarily due to having power to the restaurant. So I think we were not necessarily the first in line when people were trying to get power back online.

We are up and running, as Carin said. We did not receive a ton of physical damage. Our people are safe, and we’re now sorting through what that impact is in terms of cost and moving forward.

Carin Stutz

We’ve obviously put a claim notice in with our insurance carrier. We do carry business interruption insurance, and we’re gathering data to quantify our claim.

Chris Kruger - Northland Capital Markets

You stated that Big Red Rooster is your design firm. Is there any timeframe or goals to show signs of progress with that? How should we look at that?

Carin Stutz

We do have a timeframe. We haven’t specifically called that out yet. But we’re on a countdown to get our first restaurant open. So I would say that we start construction probably somewhere in the first quarter. And obviously it depends on when the real estate is ready, but we’re excited and moving aggressively.

Operator

Your next question comes from the line of Sean Gordon, a private investor. Please proceed.

Sean Gordon

I actually have a handful of questions for you. I, for one, love your flatbreads, but my wife is not a flatbread person. Have you guys ever considered adding a second type of bread, whether it’s ciabatta or a fluffy type of bread?

Also, obviously with the success of Chipotle and avocado in general, will avocado be joining the menu? There’s a huge liking, obviously, to that product.

You also mentioned hot coffee and tea. Would you guys consider partnering with a name brand, not that it has to be Starbucks, but [mud] coffee, or is there somebody else to help drive traffic through the other hours of the day?

Also, the one by my office, and also the Cosi near my apartment, the beverage selection when it comes to cold beverages is very limited. I think you guys are leaving money on table by not having a broader display of cold beverages out there. And certainly all the stores too have free water cups. While it’s nice, I think it does cost you money having those cups out and accessible to everybody. Most restaurants don’t make it that easy. It’s nice, but I think it does cost you.

Another thought was with the success of just seeing Pret pop up a lot through the city, would you consider having some core sandwiches packaged ready to go somewhere in Cosi, because some people just won’t deal with the queue, and there’s always a queue at Cosi when you walk in during core hours.

Another thought was just around the cuts of the meats. I sometimes, while I eat there frequently, just find they’re sometimes a little chunky and clumpy. And have you guys considered going with thinner cuts or pulled or shredded meats?

Happy to hear you’re looking to go healthier around some of the products you’re choosing, whether it be free range or possibly antibiotic free.

Also like the idea of vegetables and possibly you mentioned something about baked fruit. And I do think there’s an opportunity for you guys to add more around that. I know Boston Market had done that early on, adding all those side dishes. And that’s something where you guys could steal one out of their page book and do it further.

Also, s’mores. I think in my early days of knowing Cosi, s’mores was a big thing. I think since then I don’t see it out as much. I think you guys should reassert that core competency and strength and build on that, whether it’s that product alone or adding some chocolate fondue and fruit. I think that was something that was fun, and I think it got a little bit lost in time.

Other questions, and I’m sorry I have so many, on the cosmetic side of things, the way the stores look. First, the music is a little inconsistent between some of the stores I go through. I think you should potentially look to consolidate and make it more of a coffee shop, relaxing kind of a sound.

I also look over the lighting and I don’t see any energy-efficient light bulbs, while you guys are cutting costs. I do think efficient light bulbs would save money, especially when you guys have a lot of company-owned stores.

And then last question around cosmetics is I know there was a move last quarter to clean up stores, and then you said you challenged some of the stores to do work on their own, of which you were impressed by some of the work they had done. But then I read something on the internet where you did go in and do something in the Chicago stores, and you may do some renovations to the New York stores. Is something happening on that front? Or is the development just around new stores through Big Red Rooster?

And the very final question, hopefully you remember all these, on the quarterly cash burn, if we didn’t have the capital raise in the quarter mixed in there, how much money would you guys actually burn for this quarter?

I’m happy to repeat any, since I asked a lot.

Carin Stutz

Hey Sean, I know you just gave us about 13 topics. And I don’t know that everyone would have as much interest in hearing all those answers today. So I would recommend that maybe we could do a call either right after or tomorrow to go through some of the details on this.

What I would say from all of the product information, I would say 75% of those are on our radar screen, that we’re either looking at, that we have an opinion on one way or another. It’s obvious you’re a very loyal Cosi guest, that you would pick up this level of detail, and we love that.

S’mores, I’m not sure which restaurant you frequent as much. They’re on the menu wherever we’re allowed to have an open flame. We love them as well.

And let’s see, just kind of speaking about Big Red Rooster, and I think we referenced on the last call, based on the Chicago reimages, we like the look there, but we still felt that it was a little dark.

And we talked about Cosi being more of an urban café, if I were to describe that. We’re looking more to describe the feeling, the look, the ambiance of Cosi. It’s not meant to be geographic at all. When we use urban, we want to use it in the context of being more modern, more trendy, more stylish in both our food and our interior design.

And so with that said, we still believe there’s an opportunity to still reposition, reimage Cosi a little bit more than we did in the Chicago market. We’re excited about that.

I’ll let Bill address the quarterly cash burn, and then I will set up a call with you afterwards. We can talk about some of those specific menu items.

Sean Gordon

That would be great.

Carin Stutz

Okay, thank you. I love your comments.

Bill Koziel

As it relates to the cash, we did erode some cash, excluding the rights offering in the third quarter, from the second quarter. And that is primarily three items. One is we did have negative EBITDA off the financial statement, so that’s about $460,000 of negative EBITDA, which impacted that number. Then you have the capex spend for the quarter, which was just over $500,000.

And then lastly, there is a timing on our payroll disbursements. So depending on what off-week hits, there’s a payroll accrual that hits the balance sheet. That number was $1.5 million at the end of the second quarter. It was $750,000 at the end of the third quarter. And so it will be $1.5 million at the end of the fourth quarter. So it’s just a timing on how payroll hits the balance sheet as we roll through the year.

Operator

And your next question comes from the line of Scott Banks, private investor. Please proceed.

Scott Banks

I just want to follow up on the last gentleman’s question. Carin, my first question is how much time per quarter are you spending in stores, and how many stores are you actually visiting per quarter?

Carin Stutz

That’s a great question. Well, more than you think. At this time, I spend more time in our franchise restaurants than the first two quarters. But I’m in a restaurant every day. I will tell you that. I start my morning at Cosi. And I would say I’m spending probably 30-40% of my time in the restaurants.

Scott Banks

In terms of the gentleman’s last question on brand consistency, within the existing portfolio can you further comment on what the strategy is to create that brand consistency, whether it be the music he’s talking about, whether it be menu boards, whether it be furniture and fixtures, whether it be slight reimaging? What’s going on on that front? And the follow up to that would be the restaurants that cannot convert to pay-first, what happens there?

Carin Stutz

I’ll work backwards on that. As far as the pay-first, we’ve looked at both options, and as you try to go through the size of our menu, it’s a little difficult to do the cafeteria style pay last for guests who are not familiar with the Cosi brand.

So where the pay-first works well is when we’re positioned in an office building with fairly captured market, and people know how to use Cosi. Where it becomes difficult is in a tourist market or someone’s experiencing Cosi for the first time, and they don’t know which line to get in, the soup or the sandwich, or the salad line. And it becomes a little more difficult to figure out how to use Cosi.

My belief is in 2012 a person shouldn’t have to walk into a restaurant and figure out how to use it. And that’s why we believe that pay-first, in most situations, is the best. We have a couple of them that are in office buildings, where we have the same guests that come to us on a regular basis, where we may hold the line there, but you will see, for the most part, us continue to focus on pay-first.

Scott Banks

I guess what I’m getting at is a lot of the dominant concepts that are showing the growth, it’s very streamlined. So I guess what I’m trying to get at is can you really streamline the existing portfolio across the board and how do you look at that?

Carin Stutz

Obviously the beauty of those concepts is you take one flavor profile and you walk through the line and it works. Because whatever you pick, whatever combination of flavors you pick, at the end your item is going to be delicious. We have got such a varied menu right now that really all the elements don’t go together. They don’t work together in the same lines.

So I think that Cosi already has some good brand equity that we want to continue to build on. So it’s tough to convert back to that model, unless we were just going to pick salads alone. So I understand your thinking on that, but we choose to go in a different direction, where we’re going to go with the pay-first model, and we feel good about that, that it’s still going to allow our guests to have great sandwiches, great salads, great soups. And we believe we’re going to be able to deliver that.

Scott Banks

I know, I do agree with the pay-first. I’m just saying at some of your locations it’s still order first. So my question was, if some of those locations cannot convert to pay-first to create that brand consistency, even if they’re profitable, do you close them? That’s what I was asking.

Carin Stutz

No, it just takes some additional care by our managers in helping people use the Cosi restaurants.

Scott Banks

And last topic, it was great to hear that you guys are attacking the coffee market. I think that’s a huge runway that gets people in the stores on a regular basis. They’re creatures of habit. They stick to that same cup of coffee three, four, five times a week. It exposes them to the brand. It exposes them to the restaurant, the products, etc. Can you comment on what you’re doing to really compete on that front. Obviously it’s a competitive front, but it seems that that’s the foundation where everything can be built off of to get people in the store on a regular basis.

Carin Stutz

We know the breakfast day part, as you suggested, is more routine. People get in the same routine, while lunch is more a rotation. So people have to like your coffee to want to come in there.

My experience with Cosi is we skew slightly female, and we have really one coffee that’s very, very bold. So one of the things we’re doing is we’re experimenting with some lighter and medium roasts, as well as a flavored hazelnut coffee. And we put that in a self-service model to, what we would say caters to that urban clientele that’s in a hurry, and wants to get in and get out and make the coffee the way they’d like.

So we are expanding our coffee line. We’re putting it out on the counter for the guests to come in and get exactly what they want, and get a refill without having to get back in line. So we’re excited about that.

Scott Banks

From a social media perspective, a lot of companies are aggressive, they’re innovative. It’s a lot of grass roots stuff. Can you comment on that front in terms of what you’re doing to build the brand loyalty through things like Facebook and stuff like that that’s obviously working throughout the industry?

Carin Stutz

Yeah, we are continuing to grow that. We were very fortunate to be able to do a digital media strategy program with some interns from the Northwestern School, the [McGill] School of Business. So they’ve recently presented us a social media/digital strategy that we’re looking at right now. So we’ll be more prepared to talk about that.

We have been trying to grow our database. I think we’ve, in the last probably six months, grown it about 14%. But we’ve got a lot of work to do there. But we agree with you. That’s definitely an avenue that we’ve got to do a better job with a brand our size.

Operator

And your next question comes from the line of Rod [Herasi] with [Clayhill] Capital. Please proceed.

Rod [Herasi] - [Clayhill] Capital

I just wanted to go back to something that was asked a couple of times, and I wasn’t quite clear on what you meant. The difference in the comp performance between the company-owned stores and the franchise stores. You mentioned something about seeing softness in the suburban market. Are you saying that basically the company-owned stores are more disproportionately suburban? Is it a regional sort of thing like that that’s causing this differential? Or were there other factors at play?

Carin Stutz

We’ve kind of classified our portfolio as like one-third central business district; one-third urban, that surrounding metropolitan area; and then a third suburban. So that’s how we would look at it. We’ve just had some markets that underperformed. I can tell that by the overall performance, by the guest feedback that we received, and we’ve had to make some leadership changes in those markets to drive better performance. So without saying more, I would say it’s just somewhat self-inflicted in some of our markets that have caused that. We have really a couple of groups of franchisees that continue to do well, as well as our airport locations and our international locations that have also done very well.

Rod [Herasi] - [Clayhill] Capital

So the franchisees are really not suburban, or at least not meaningfully so?

Carin Stutz

I think they’re similar to us in their profiles.

Rod [Herasi] - [Clayhill] Capital

So then it sounds like it’s not really a geographic thing, it’s more just maybe certain area managers weren’t performing. Is that fair to say as a generalization?

Carin Stutz

I would say that I don’t think the business has to do with necessarily that it’s suburban. It may be just coincidental, that that’s where we are with our performance, but again, I’m going to take ownership of that, and say it’s somewhat self-inflicted, and we’ve got to do a better job operating in those restaurants that underperformed.

Rod [Herasi] - [Clayhill] Capital

You know, the menu changes and everything else that you’re doing, is it occurring first in company-owned stores and not so much in franchisee stores? Or is that sort of across the base? Or is there sort of a mixture of how these changes are scaling through?

Carin Stutz

We typically take the lead, but the franchisees in most cases have followed suit on everything that we’ve done. I think they agreed that we needed to streamline the menu. We felt that in July, and then we aggressively fought that for the rest of the quarter.

Rod [Herasi] - [Clayhill] Capital

On some of the prior calls, you talked about increasing the throughput and reordering things and improving efficiency in the kitchen, and experimenting with pagers and things like that. I guess you need to see traffic to see all those improvements really materialize into greater sales. But if you could give us some sense of how those initiatives are progressing and if you’re seeing any early results, maybe selectively in certain stores during certain day parts, that hopefully will help us as we see traffic come back. That would be helpful.

Carin Stutz

I think you’re absolutely right. Assuming demand, we know that we can move people through the line much more quickly than we did a year ago. So I feel good about the improvements that we’ve made. We set our operators up to do well, and now it’s up to us to continue to deliver, and make sure we’ve got the right talent in the restaurants to be able to execute the brand.

Rod [Herasi] - [Clayhill] Capital

Is Mr. Blum still serving as a consultant to the company? If you could just talk about your working relationship there, and whether he’s still involved.

Carin Stutz

Yeah, Brad is still with us. He’ll be with us for another month. Brad was really helpful as far as us cracking the brand strategy and the direction of where we wanted to take Cosi. And he’s also been instrumental in helping us find talent and bring talent on board with Michael Foley and Big Red Rooster. And so we’re transitioning now, but he’s been delightful to work with and obviously Brad is still a major shareholder for us. So he’s really not going anywhere. We’ll stay very close with him.

Operator

[Operator instructions.] And your next question comes from the line of Rick [Shea] with [Vardan] Capital. Please proceed.

Rick [Shea] - [Vardan] Capital

I have two questions, the first on the potential new store design, and the second on the franchisee base. As it relates to the new store design, is there a final design? Can you give us any sort of details in terms of size, how it’s set up for catering, return characteristics, or targeted return characteristics in terms of how you’re thinking about it?

And then second, on the franchisee base - and I guess this parallels the work that you’re doing in your own store base - it looks like you’re being more aggressive in terms of what’s above the line and below the line in terms of belonging in the portfolio. Does the same process translate over? And is that something that has to happen with the franchisees? Is everybody on plan with their development and do all those people fit the profile today?

Carin Stutz

I’ll start with your first comment about Big Red Rooster. We’ve recently just brought them on board, and just started our initial meetings with them. We’ll be very quickly looking at some of their first designs and thoughts about what matches Cosi. So all I’m really willing to say at this point is I’m really excited and optimistic about the direction we’re taking. We feel that they understand us and the direction that we’re taking. But it’s premature to be able to comment more on that.

And then Bill, I guess you want to talk about the franchise question.

Bill Koziel

Sure. We are working through the franchise portfolio. You saw some franchise locations close in the quarter as well. But we look at the franchise business. We have some very engaged and strong operators, and we think they’re doing a wonderful job. And then we have some folks that are in the system that really aren’t moving forward. So we’re working through that portfolio and engaging in discussions to clean up that portfolio so that when we get to the other side of this, with the work that Red Rooster and Mike and the team are doing, we’ll be prepared to move forward with engaging the franchisees at a high velocity.

Operator

And there are no further questions at this time. I would now like to turn the call back over to Bill for closing remarks.

Bill Koziel

Thank you, operator. Again, we want to thank all of you for joining us on today’s call. And we look forward to continuing to update you on our progress. Thank you.

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Source: Cosi's CEO Discusses Q3 2012 Results - Earnings Call Transcript
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