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Country Syl Ckng Restaurant Chain Co Ltd (NYSE:CCSC)

Q1 2014 Earnings Conference Call

May 19, 2014 08:30 am ET

Executives

Bill Zima - ICR Inc.

Hong Li - Chairman of the Board, Chief Executive Officer

Adam Zhao - Chief Financial Officer

Analysts

Michael Vieten - Stifel

Operator

Hello and welcome to the Country Style Cooking Restaurant Chain Company Limited First Quarter 2014 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) After today's presentation, there will be an opportunity to ask questions. (Operator Instructions) Please note, this event is being recorded.

Now, I would like to turn the conference over to Bill Zima. Mr. Zima, Please go ahead.

Bill Zima

Thank you, operator. Hello, everyone, and thank you for joining us on today’s call. Today, you will hear from Country Style Cooking's Chairwoman and Chief Executive Officer, Ms. Hong Li, who will give an interview of the first quarter 2014, followed by the company’s Chief Financial Officer, Mr. Adam Zhao, who’ll provide business updates and financial results.

Slides that illustrate aspects of the company's operations and financials can be accessed at Country Style Cooking’s Investor Relations website at ir.csc100.com.

Before we get started, let me review the Safe Harbor statement regarding this conference call. Please note that the discussion today will contain certain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995.

These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations.

To understand the factors that could cause results to materially differ from those in the forward-looking statements, please refer to our prospectus filed with the Securities and Exchange Commission on September 27, 2010.

We do not assume any obligation to update any forward-looking statements except as required under applicable law. Additionally, during this call, financial results will be referred to in Chinese RMB unless otherwise noted.

At this point, I’d like to introduce Ms. Hong Li, Chairwoman and CEO of Country Style Cooking.

Ms. Li will speak in Mandarin and Mr. Zhao will translate into English.

Ms. Li, please go ahead.

Hong Li

[Foreign Language]

Thank you, Bill. Welcome, everyone, to Country Style Cooking's first quarter 2014 earnings call. We are pleased to start 2014 with a strong quarter and expanded network of 303 restaurants covering 29 cities. We continue to broader our presence in key geographic areas and we entered a new geographic market in April, by opening our first Mr. Rice restaurant in Yuan City, in Hubei province.

Our quarterly revenue reached at RMB346.8 million beating the top range of our previous guidance forecast and our adjusted net income showed a great improvement from the prior year period. The increase in 223.3% to RMB19 million, comparable restaurant sales growth was 2.5% for the first quarter, reflecting the popularity of our two restaurant brands and new initiatives for two brand synergy effects.

During this quarter, we continued to execute on a number of important growth initiatives. This included the introduction of new products and combo sets, expansion of our e-commerce delivery service and store expansion into Hubei province, which is a new region for CSC Group.

The new items and combo sets, we are rotating through our menu, which includes a newly designed breakfast offering provides higher value to our customer dining experience. We believe offering a rich choice of delicious and affordable food offerings is the basis of customer satisfaction and our success in the Southwest and Central China region.

We continue to make strides positioning CSC as a fashionable fast casual restaurant brand, differentiated from the cafeteria type experience offered by Mr. Rice. This is a right strategy for the group and it will drive our comparable store sales growth in the long-term.

Our company in general evaluates opportunities to improve our operational efficiency. As previously discussed, we've been promoting our online and mobile ordering system as well as prepared card.

During the first quarter, prepared card contributed around the RMB$7 million, which is 2% of our total revenue. Online orders reached 8,000 orders per day as customers utilized our call center outline APB, WeChat and website. We see great potential for the number of online delivery orders to keep growing as we further advertise those outline initiatives.

2013 was a challenging year for the consumer sector in general as companies struggled with food, labor and rent inflations as well as a slower customer spending environment. While the macro economy in China remains challenging in 2014, we experienced positive same-store sales growth in the first quarter and we expect it to maintain its momentum in the remaining three quarters of the year.

On that note, I would now turn the call over to Adam, who will review our financial results.

Adam Zhao

Thank you, Ms. Li, and thanks everyone for joining us. For those of you who choose to access our IR website, ir.csc100.com, you can review the investor presentation slides that we have posted there, which illustrate some of the points that will be addressing on this call.

For quarter one 2014, total revenue increased 12.9% to RMB346.8 million, mainly driven by our expanding restaurant network. At the end of the first quarter, we had 54 restaurants under Mr. Rice brand, which contributed RMB41.2 million to total revenue during this quarter, representing 146.7% growth from the same period last year.

We had 303 restaurants in operation as of the end of quarter one 2014, up from 262 at the end of one last year. Of the 303 restaurants, 156 are in Chongqing and 97 are based around the City of Chengdu in Sichuan province. Revenues from those to markets accounted 98.89% of our total revenue.

In quarter one 2014, costs of food and paper increased 7.4% year-over-year to RMB155.3 million primarily due to the expansion of our restaurant network. As a percentage of revenues, cost of food and paper was 44.8% in this quarter compared to 47.1% in the same quarter last year.

Restaurant wages and related expenses during this quarter increased by 19.6% to RMB72.9, the increase was attributable to increased wage levels and the company's overall expansion of its employee base.

Share-based compensation to restaurant staff was RMB1.1 million. As a percentage of revenues, restaurant wages and related expenses were 21% in this quarter, up from 19.8% in quarter one last year.

Restaurant rent expenses increased 9.3% to RMB35.4 million in quarter one this year, along with network expansion. As percentage of revenues, restaurant rent expenses dropped slightly to 10.2% in first quarter this year from 10.5% in first quarter last year.

Restaurant utility expenses increased 9.7% to RMB20.1 million in quarter one this year. As a percentage of revenue, restaurant utility expenses were 5.8%, down from 6% in first quarter 2013.

Other restaurant operating expenses increased a slightly by 3.5% to RMB12.4 million in first quarter 2014. As percentage of revenues, other restaurant operating expenses was 3.6% in first quarter this year compared to 3.9% a year ago.

Restaurant level operating margin was 14.6% in this quarter, an increase of 190 basis points over the same period a year ago.

Now, If we break out our restaurant portfolio into two groups with the 214 restaurants and the comparable base and other 89 outside the comparable base, then the store level operating margin for the comparable base was 17.1% versus 5.3% for the non-comparable base. This compares to the previous quarter's operating margin of 15.9% and 8.4% for the comparable base and non-comparable base, respectively.

SG&A expenses rose 10.6% to RMB21.4 million in the first quarter this year. The increase was primarily due to an increase in share-based compensation expenses offset by a decrease in disposal loss on leasehold improvements and equipment of closed stores.

Share-based compensation expenses included in SG&A were RMB6.2 million in quarter one this year. As a percentage of revenues, SG&A expenses were 6.2%, compared to 6.3% in quarter one last year.

Pre-opening expenses were RMB2.5 million in quarter one 2014, accounting for 0.7% of total revenues.

Depreciation expenses was RMB19 million, representing an increase of 13.1%, primarily because of the increase in total fixed assets. As a percentage of revenues, depreciation expenses remained at 5.5% in quarter one this year.

Impairment charges fell to normal level of RMB1.4 million. Income from operations was RMB6.5 million compared to a loss of RMB3.1 million in the same period last year.

Now I'd like to review certain below the line items. Interest income for quarter one 2014 was RMB6.6 million. The foreign exchange gain was RMB0.3 million. Other income was RMB1.6 million.

Total below the line other income was RMB8.5 million in the reporting quarter as compared to RMB5.9 million in the first quarter last year. Income tax expenses in quarter one this year was RMB3.4 million compared to RMB0.8 million in the same quarter last year.

Net income for this quarter was RMB11.6 million as compared to RMB2 million in the same quarter last year. Non-GAAP net income was RMB19 million compared to RMB5.9 million in the same quarter last year. Diluted net income per ADS was RMB0.43 this quarter, which is equivalent to $0.07 in dollars compared to RMB0.08 last year.

Non-GAAP adjusted diluted net income per ADS, which excludes share-based compensation expenses plus RMB$0.70, which is $0.11, in the U.S., in quarter one this year compared to RMB0.22 quarter one last year.

The company had approximately 27 million weighted average diluted ADS outstanding during this quarter ended March 31, 2014.

Non-GAAP EBITDA was RMB27.4 million in the first quarter this year compared to RMB13.5 million in first quarter last year. Adjusted EBITDA, which is also non-GAAP was RMB34.2 million in quarter one 2014, compared to RMB21.6 million in quarter one 2013.

As of March 31, 2014, the company had cash, cash equivalents and short-term investments of RMB594.8 million compared to RMB581.9 million as of December 31, 2013. Net cash provided by operating activities was RMB39.8 million for the three-month ended March 31, 2014 compared to RMB28.3 million in quarter one last year.

Inventory was RMB44.8 million compared to RMB43.4 million in quarter one last year. During this quarter inventory turnover days was 28 days.

Turning to our outlook for the second quarter of 2014, the company currently estimates that its revenue will be in the range of RMB340 million, which is $54.7 million in U.S. and RMB306 million RMB, which is $57.9 million in U.S., representing year-over-year growth of approximately 4.3% and 10.5%.

For the full-year, we estimate our same-store sales growth to be in the low-to-mid single digits and will continue to maintain cost control mechanisms to keep expenses under control and aim to improve restaurant level operating margin to mid-to-high teens.

This concludes our prepared remarks. At a point, we will start taking questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question and answer session. (Operator Instructions) The first question comes from Paul Westra with Stifel.

Michael Vieten - Stifel

Hello. This is Michael sitting on for Paul. Congrats on the quarter.

Adam Zhao

Hi, Mike.

Michael Vieten - Stifel

Hi, there.

Michael Vieten - Stifel

I just have a few questions, so I will just ask my first one and then I have a follow-on after that. Basically in the fourth quarter earnings release, you guys had mentioned that you are looking to have a net new store opening of 60 new stores in 2014.

You guys had 10 new stores in the first quarter of 2014, so I was wondering if guys can provide any guidance in terms of when you feel that these stores will come through, will they be in the second half of the year or evenly throughout the remainder of the year.

Also you had given some information about the concepts, Mr. Rice being little more profitable in terms of unit economics. I was just curious if you still believe that there is going to be a 50-50 split eventually down the road or if you feel that it's just going to be more or less the same percentage of these store concepts?

Adam Zhao

Okay. Thank you. Yes. We did open up 10 stores in the first quarter. It looks like it's not evenly distributed in four quarters around - down to the end of this year. We do have our initial plan and we [flow] of the initial plan to open up new stores. Actually, we achieved the goal in quarter one, because we look at the seasonality of quarter one, quarter two and quarter four, are comparatively flatter last. It's like a flat seasons, so we open new stores very much in line with the seasonality.

Down to the following three quarters, we believe that we can maintain a good pace to open us new stores. We are expecting to achieve such a goal as we did. As a matter of fact, we're doing better than last year controlling our opening pace and to ensure the operating month. We - internal management in the store opening team and our expectation would be positive in terms of store opening.

The second question, it's about our two-brand strategy. Yes. This year, we are expecting pretty much like 30 or 28 stores of Mr. Rice brands and 32 stores of CSC. It's likely that we are going to open up maybe one or two more than our initial plan we allocated the quota to Ms. Rice as we saw very positive signal in certain new regions like Hunan and Hubei province.

The management is confident on the duelist-brand strategy. As we discussed before, Mr. Rice brand shows our higher growing pace as well as to profitability, because it requires less CapEx, and shorter breakeven time period, so it's very likely that after another two years or so you will see in our portfolio, you will see, way more Mr. Rice brand stores in our portfolio and that's management. Thank you.

Michael Vieten - Stifel

Thank you. Okay. If it's all right, I would like to ask you a follow-up question.

Adam Zhao

Ask.

Michael Vieten - Stifel

Sure. You had mentioned that you had entered into a new province, the Hubei province and I'm just curious the 60s stores that you had guided to, are you going to split the - how are you guys thinking about in terms of developing out this the market? Is it the 60-store that you are opening in 2014, is that going to be mostly backfilling current markets that you are in or if you're going into this new market, is it going to be the majority of the stores opening in this province?

Adam Zhao

Well, our balanced growth strategy shows that first of all we are going to further strengthen our leadership in southwest of China, in our home market in Chongqing and Sichuan, which give us the potential in our home market by further penetrating our stores to lower tier cities. That's the first point.

Second point is that we would want to further explore opportunities in the emerging market, which satisfy our model needs like Hunan market and Hubei market. We explored the opportunities the we determined to allocate more opening quota in these two emerging markets supported by the operating data and the financial data.

To sum up, I would say, in our home market we would put the current two-third of our quota like, 38 stores would be in the Southwest area and another 20 stores or so would be opened in the new emerging markets.

Michael Vieten - Stifel

Okay. Thank you. That's very helpful.

Adam Zhao

Thank you.

Operator

Thank you. (Operator Instructions) We have a follow-up question from Paul Westra with Stifel.

Michael Vieten - Stifel

Hi. Sorry, just one more question here. I was wondering if I can get some more clarification on the operating profit margins.

Adam Zhao

Okay.

Michael Vieten - Stifel

It had actually expanded in the first quarter even though that there were some inflation pressures. I was just wondering if you could just give us maybe a little more detail, some clarification in terms of what you consider headwind or tailwind in this margin. Also if you have any ingredients contracted in. Thank you.

Adam Zhao

Well, when you look at our cost structure, you will see that the most challenging part comes from the labor costs. The labor cost would be the most obvious cost factor in line with the inflation. Every player in this market has already faced the pressure from this part.

The good part though that with the growth pace slowing down a little bit, the raw material inflation comes little bit better. I mean, the raw material price increase is not that much as our labor cost increase and it was the other operating costs, especially rent. The rents come along with the inflation very positively. It is very positively correlated with the inflation [CPI].

In the past few quarters or so, the inflation trend was very much certain. I think and the trend is also inevitable that way, so the challenges there - it happens to everybody. Internally, we have our management efforts to take any measure to control the cost factors.

We are struggling and [industry] struggling, but the good point is that we know what we're dealing with. Labor costs, raw material, like you mentioned that we entered a serious raw material procurement annual contract to smooth sort of smooth price fluctuation to make sure that at least we know what the price would be, what the raw material cost would be.

In the meantime, as we discussed that we divided our employee into two different groups, one is full contracted the other would be part-time or summer and winter in turn and helped a little bit.

By putting all those efforts into consideration, the management is still as confident in controlling the cost factors to ensure bottom-line delivery. That's the big picture of our cost structure.

Michael Vieten - Stifel

Okay. Thank you. That was helpful.

Adam Zhao

Yes. Thank you.

Operator

Thank you. (Operator Instructions) All right, as there are no more questions at the present time, I would like to turn the call back over to management for any closing comments.

Adam Zhao

Well, if we don't have any further questions, this concludes the first quarter 2014 earnings conference call. Thank you for your participation and ongoing support and have a nice day. Thank you, operator, thank you too.

Operator

Thank you. The call has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.

Adam Zhao

Yes. Thank you.

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