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Cracker Barrel Old Country Store, Inc. (NASDAQ:CBRL)

2013 Consumer & Retail Conference

March 13, 2013 8:50 am ET

Executives

Lawrence E. Hyatt - Chief Financial Officer and Senior Vice President

Analysts

Andrew Charles

Andrew Charles

I'm Andrew Charles from the restaurant team here at Bank of America Merrill Lynch. It's our pleasure to continue the restaurant portion of our conference. Pleased to be joined from Cracker Barrel by Larry Hyatt, CFO; as well as Coco Kyriopoulos on IR. I encourage you to ask Q&A after Larry's presentation. And without further ado, I'll let Larry speak.

Lawrence E. Hyatt

Thanks, Andrew, and good morning, everybody. First of all, I would like to extend apologies from Sandy Cochran, our Chief Executive Officer, who was scheduled to be joining us, but because of something that occurred at the very last moment, she has not been able to attend today's conference, but she asked me to express her apologies.

And of course, for those of you lawyers in the room, I have to point out our Safe Harbor statement and I'm not going to spend a lot of time on it, but it's available here and posted on the Investor Relations portion of the company's web page, as is this morning's presentation.

All right. One of the key things Sandy always does at this point in the presentation, so I'm going to do the same thing, is I'm going to ask for show of hands, who's eaten at a Cracker Barrel? Okay, I see we do have a couple in the room who have not had that good fortune. And so I'll spend a few moments just with the brand overview. Cracker Barrel is one of the most highly differentiated and successful restaurant brands. The company owns and we operate 621 Old Country stores across 42 states, and we welcome 215 million guests every year. Cracker Barrel is open 364 days everyday except Christmas and we serve all 3 dayparts. Our stores open at 6 a.m. every morning and stay open until 10:00 at night. We've had a very simple mission since our company was founded in 1969. Our mission is pleasing people. All of our stores feature a gift shop offering a unique assortment of retail products, and our retail sales are about 20% of our total sales or in excess of $0.5 billion a year. The concept was originally founded as a welcome break for travelers and as a stop on the interstate highway and we gradually have maintained that over our 43-year history, as 40% of our visitors are visiting us on a travel occasion.

One of the things that makes us unique is the high-quality of our ingredients and the fact that almost everything we serve in the restaurant is handcrafted made from scratch in that restaurant. We believe that, that's an important part of the guest experience and is one of the things which differentiates us from other restaurant concepts. Here's a long list of the high-quality ingredients and I'm certainly am not going to walk you through everyone, but I'll note a couple of my personal favorites. I personally love the halibut and the rainbow trout and something that may seem shocking for someone who grew up in Queens, I have learned to love our catfish and our turnip greens.

Retail is an important part of the Cracker Barrel experience. It's starting with the rocking chairs on our front porch. We sell over 200,000 rocking chairs a year, by the way, and it is our largest retail item in terms of dollars. Retail doubles at the restaurants waiting area and we believe is a significant differentiator for the Cracker Barrel brand. The retail area is also very important to the economic model, it is about a 2,000 square foot retail store. Our retail sales exceed $400 a square foot and our average retail gross margins in the 50% range. And those are relatively impressive numbers for anyone in the retail business. We focus on retail items which are fun, nostalgic, unique and we focus on a price point in that $20 range. One of the fascinating things to me personally is in a retail store that doesn't have a dressing room, barely has a mirror that we sell $100 million a year of apparel. It has been very successful in delivering the guest experience. We received a number of awards on an ongoing basis from Technomic, Zagat, Fortune, Choice in Chains. But most recently, Technomic recognized us as the #1 full-service restaurant chain in their inaugural Chain Restaurant Consumers' Choice Award in the food and beverage category. A Nation's Restaurants News ran its second consumer picks survey and for the second time, ranked Cracker Barrel as the #1 in the family dining category and ranked us first in about 8 of 10 criteria.

We believe that value creation starts with brand differentiation, and the consumer views us as probably the most highly differentiated restaurant brand. So who is Cracker Barrel's competition? We think for breakfast, it's family dining; for lunch and dinner, it tends to be casual dining; and for travel occasions, it's family, casual, and to some extent, it's QSR. We previously mentioned Technomic survey, we were ranked #1 by the consumer in 7 of 10 items including variety, value and atmosphere. And in the 3 categories, not ranked #1, we were either second or third.

So for the past 5 quarters, we have had positive same-store traffic, positive same-store restaurant sales, positive same-store retail sales and for every one of those 5 quarters, outperformed Knapp-Track. And in fact, we have outperformed Knapp-Track on same-store sales, same store traffic for 23 of 26 quarters. Second quarter of the current fiscal year, first quarter in 10 years that we had positive same-store traffic versus prior year positive same-store traffic. And it appears that the investment communities noticed us over the course of the past 14 months, we have significantly outperformed virtually every comparable equity measure.

Last year, the company laid out a strategic plan that had 3 elements. The first one we referred to is enhancing our core, focus on traffic, value consistency in execution and brand, expanding our footprint through the profitable addition in a measured way of new stores and expanding our brand through leveraging its power in new channels outside of the 4 walls.

Within that strategic framework, we've identified 6 priorities for the 2013 fiscal year. The first is to refresh select menu categories that will reinforce the value message and create healthier options for the Cracker Barrel guests. Second is to continue to grow retail sales through refinement of the unique merchandise assortment. Third is to continue to build on the successful handcrafted by Cracker Barrel advertising campaign, which we've taken into new marketing channel. Fourth is to invest in and leverage technology in a commitment to support the guest experience as we reduce costs. The fifth is to continue our balanced approach to capital allocation to enhance shareholder return. And the sixth is expanding the brand outside of the 4 walls with a specific focus in 2013 on expansion of the company's e-commerce platform and an introduction of Cracker Barrel's branded products into supermarkets.

Since fiscal 2010, this has translated into steadily improving earnings per share. Our balanced approach to capital allocation includes a competitive dividend. We currently have a dividend yield which actually, because of the recent appreciation in our share price, is a little below 3%. And that's on a dividend payout ratio that, in our mind, is a very sustainable 44%. In the last fiscal year, we paid down $25 million of debt, repurchased $15 million of shares, we reinvested $80 million and we still had a cash balance at the end of the year that was $100 million higher than at the beginning of the year.

So Cracker Barrel as an investment proposition, we have a unique brand and a highly differentiated experience for the Cracker Barrel guest, as a virtually new board and an energized management team that is exceeding in driving change, a strategy that focuses on building upon recent success and developing a long runway in creating shareholder value.

And with that, I'd be happy to respond to any questions.

Question-and-Answer Session

Andrew Charles

So I'll start off the Q&A. I encourage the audience to participate as well, just wait for the microphone to get to you. But Larry, maybe I can talk, you mentioned on the last call that you were going to make some enhancements to radio advertising, maybe just begin with discussing a few of the changes you think you need to implement?

Lawrence E. Hyatt

Pass the microphone back and forth. Let me spend a few moments talking about the changes that we've made to our advertising strategy over the past year, and I'll then specifically talk about radio. We're about to get a second mic. Cracker Barrel spends about 2% of sales for advertising, and about half of our advertising spend goes to our 1,600 billboards. Our billboards are becoming iconic part of the Cracker Barrel. We believe that Cracker Barrel is among America's Top 5 billboard advertisers. And we get in excess of 24 billion impressions a year from those 1,600 boards. The additional 1% spend has historically gone to a mix of spot television and spot radio. And we historically spread the spot television at various times in the year, and we were advertising in DMAs that in the aggregate we're covering about 60% of Cracker Barrel stores. One of the changes that we made in the past year was moving off of the spot broadcast television and moving on to national cable. Now we do 2 concentrated 5-week flights of cable: One, at the beginning of the Christmas holiday season; one, at the beginning of the summer travel season, focused to reach a 25- to 54-year-old female customer. So you will see us on the Lifetime channel, and the Hallmark Channel, and the Oxygen channel but if you ever see us on the MTV or on ESPN, that means somebody made a mistake. The message is largely a brand message around handcrafted by Cracker Barrel, transmitting some of that timeless values of the Cracker Barrel experience. Radio tends to be spot, which is how one would typically buy radio. And it's, again, it focus on markets which accounts for roughly 60% to 65% of Cracker Barrel stores. And historically, it's more of a product message than it is a brand message, which is the nature of radio as a medium, so we focus on the limited time offerings that we have on our menu and things of that nature, it's more of a call to immediate action. Sandy Cochran mentioned on our second quarter call that TV has proven to be very effective. Cable has proven to be very effective and the messaging has proven to be effective. And that radio continues to be an effective medium also, but it appears we have opportunities in radio to get even better. And so while there's no specific changes to speak about now, that's one of the things that's very high on the company's list for 2013, is to identify ways to improve the effectiveness of the company's radio advertising. We continue to think it's an important medium, but we continue to think that we have opportunities of getting even better at it.

Andrew Charles

And then you said that women between ages 25 and 54 are your largest demographic -- or sorry, that's what you're targeting. Has that historically been your largest demographic?

Lawrence E. Hyatt

Let me see if I can find kind of a delicate way of saying this. As a guy who's been married for 34 years, I know who the decision-maker is in my family.

Andrew Charles

Very good. And then your real estate strategy is historically located at interstate highway locations, and do you see non-interstate being part of the real estate mix this year or just -- do you like the mix that you have right now or are you considering more off real estate locations?

Lawrence E. Hyatt

Yes. Right now, travel customers make up about 40% of Cracker Barrel visits. Travel customers tend to spend more. They tend to spend more in the restaurant, they tend to spend significantly more in the retail store. And about 85% of the company's stores are the traditional Cracker Barrel locations, it's the exit ramp of an interstate highway. We have found that in those markets where we have high-brand recognition, it's possible to develop a non-interstate location very successfully. So that will always be a part of the new store, a development mix, but it will never be a majority of our store development in any given year.

Andrew Charles

Got you. And then you spoke at the Analyst Day about a smaller prototype that you would be using. Can you please talk about that impact that's had on your returns?

Lawrence E. Hyatt

Sure. We have, for about the last 8 years or so, have developed a store that's 10,000 square feet, 207 seats. The prototype that we are using now is a little less than 9,000 square feet, about 177 seats. And we've had some savings in terms of the capital investment although actually not as much as it might seem because it certainly isn't proportional to the square footage because since a lot of the investment in the Cracker Barrel is in the back of the house, and the back of the house is still, it's the same kitchen equipment, the same configuration. We see additional opportunities to both reduce the investment costs as well as potentially enhance margin through further enhancements and changes to the new store prototype. We're not at a point to specifically speak about its impact on economic returns.

Andrew Charles

A question from the audience?

Unknown Analyst

Yes. I have a pretty general question. So Cracker Barrel operates in sort of a hybrid of a family dining casual dining market, I was wondering if you could speak broadly as to the different dynamics you're seeing. For example, have you seen people trade down from casual dining, et cetera.

Lawrence E. Hyatt

Question is whether when we look at the market, are we seeing people trading down from casual dining to family dining. Looking at trends, the largest trend that we are seeing in the restaurant industry, and a lot of this is generational, is the shift from full-service to various limited service format that would include fast casual as well as QSR. We are seeing that more than we are seeing trading in between the casual dining category and the family dining category.

Unknown Analyst

Larry, I'm intrigued by your menu strategy. As you talk about the opportunity for better for you, it seems like that's a real meaningful chance to expand your customer base. So I know you've been doing low-carb for a number of years, but when you talk about better for you as a strategy with the menu, is that something that's already on there that, as a customer, I haven't noticed, or is this more on the come. And then once it's fully implemented, how do you plan on getting that message out to either your current customer or probably more importantly, the low-frequency user who hasn't been in there in a while?

Lawrence E. Hyatt

Couple of observations there. One is, low-carb was popular with the various diet about a decade ago. And we see a need to be responsive to what the customer now is looking for in the way of a healthier dining option. And we've said that we expect, some time by the summer, to have what is literally a new menu category called Wholesome Fixin's. And for those of you who participated in our Analyst and Investor Day last year, you actually had an opportunity to see some of the potential menu offerings that we are intending to put on as part of the Wholesome Fixin's menu category. The expectation is that we will have a large number of new items at lunch and dinner that will all be complete meals, less than 600 calories. That we will have a number of new breakfast offerings, complete meals, less than 500 calories. And that we will eventually have an entire menu category on the breakfast menu and the lunch/dinner menu called Wholesome Fixin's because we've seen market research that suggests that if -- that healthier items are just on the regular menu and you have a star or you have an asterisk, or what many restaurant companies do a red heart next to it, it's too hard for that customer to find. That if instead you really have it as a separate menu category, it sends a powerful message, "Hey, there are actually healthier dining options here." And we see this in 2 or 3 ways. One, it's something that defensively that we are going to have to do because we -- the law will eventually, although at this point no one still knows exactly when, but eventually will require menu labeling so that the customer is going to see it. And so the customer has to have healthy dining options. Second is, particularly in view of who the family decision maker is. There's typically in many families, there's a veto vote, "Gee, I'd really like to go to Cracker Barrel, but there's not a healthy option there." Well, now it's going to have a healthy option. Third, it is in terms of the demographic changes as the baby boomers eventually give way to the millennial's. There's far more of a consciousness in the millennial's about, at least thinking they're dining healthy.

Unknown Analyst

I have one for you.

Unknown Analyst

I'm sorry. I have a follow-up. I guess more importantly, with the kind of emphasis you're going to be putting on that menu as far as new introduction, getting that message out is, are you just going to let the consumer figure it out for themselves when they walk in, are you going to use media? Because, obviously, this is an opportunity for the first time in a long time to be attracting the customer who really hasn't been dining with Cracker Barrel with any frequency?

Lawrence E. Hyatt

Yes. And without sharing potentially, competitively sensitive information, we will make sure the customer knows about it.

Andrew Charles

Larry, do you have any thoughts of take out?

Lawrence E. Hyatt

Yes. We have spent a fair amount of time and focus over the past year on improving the To-Go experience. And To-Go, now, is about 5% of the company's restaurant sales. And the consumer research and the customer satisfaction data showed that we were quite candidly not delivering the Cracker Barrel experience to the To-Go customer. There are 3 things important to the To-Go customer. The first one is the simplicity of placing an order. Second is the speed when it is available and the third, the accuracy. Nothing makes a customer angrier because he's carrying a bag out and he gets the bag home and he open it up and say, "Hey, this isn't the thing that I ordered." or "Hey, I asked for a second packet of ketchup." or "I asked for a thousand island salad dressing and I got ranch." or any of those things. So we spent a lot of time, relative amount of money and a fair amount of training to improve the To-Go experience. And the customer satisfaction scores show that we have had some success there. We don't intend though to compete with the casual diners in terms of going to curbside because that doesn't work for the Cracker Barrel guest or the brand. One of the things that we see as potentially an opportunity is in both meals. Right now, our single busiest day of the year is Thanksgiving. A lot of our Thanksgiving sales are bulk meals out the back door. And the reason why I'm saying that it's out the back door because the volume is so high that we actually set up a separate register out at the back door and the cars are lining up. And we see this as being something that's consistent with the family orientation of the Cracker Barrel brand and potentially is an opportunity.

Andrew Charles

As a follow-up, do you have a strategic advantage in that you are a traditional look so you don't really have to redesign the restaurants every 6 or 7 years.

Lawrence E. Hyatt

Yes. One of the things, and it's certainly isn't my role to offer investment advice to the folks in this room who would do it professionally, but my rule of thumb is if there's a casual dining company I'm invested in that's just announced a new store remodel program, run, don't walk in the other direction. And one of the financial strengths of the Cracker Barrel brand is in our 43 years, we have never, let me say that again, never done a cosmetic remodel. We have never spent 1 dime of our shareholders money on a cosmetic remodel. Why? Because we're on old country store.

Andrew Charles

Larry, I know you remodeled -- so you've refreshed about 1/8 of your billboards in good price point advertising. Can you talk about how that's helped that spend and if it's changed anything in your sales mix?

Lawrence E. Hyatt

Sure. I think I mentioned that we have about 1,600 billboards. Last year, when we introduced the Daily Lunch Specials for $5.99, we converted 200 of those 1,600 billboards to a very sharp value message, Daily Lunch Specials $5.99. That was very effective and we have market research that shows that, that helped drive incremental traffic and incremental sales. Right now, we have 300 of the 1,600 billboards that have a sharp -- how you message. 100 of the 1,600 continue to have a Daily Lunch Special menu. 200 of the 1,600 now are focusing on our Country Dinner Plates where there's a choice of 14 main course options for $7.69. That's still relatively recent so it's kind of hard for us to have a research read on again.

Andrew Charles

Just a quick one on, I guess, the marketplace slowing down a little bit in the last month or 2, have you noticed a pick up in competitive activity that's note worthy or is it pretty much the same as it's been?

Lawrence E. Hyatt

Yes. We've said consistently that we remain cautious in the economic environment and we do with the increase in FICA taxes and all the other stuff. We continue to see a high level of competitive activity, couponing and discounting. A lot of what had been the couponing and discounting deals now are becoming permanent features of our customers menus. Not sure that we've necessarily seen more in the last 30 to 60 days than, say, over the last 5 to 6 months or so. And I believe that's it.

Andrew Charles

Larry and Coco, thank you so much for coming.

Lawrence E. Hyatt

Thanks a lot.

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