Red Robin Gourmet Burgers' (RRGB) CEO Steve Carley on Q1 2014 Results - Earnings Call Transcript

May.20.14 | About: Red Robin (RRGB)

Red Robin Gourmet Burgers, Inc. (NASDAQ:RRGB)

Q1 2014 Earnings Conference Call

May 20, 2014 10:00 AM ET

Executives

Steve Carley - CEO

Stuart Brown - CFO and SVP

Denny Post - CMO and SVP

Eric Houseman - President and COO

Analysts

Joe Buckley - Bank of America Merrill Lynch

JR - Stephens

Alex Slagle - Jefferies

Alton Stump - Longbow Research

John Glass - Morgan Stanley

Jeff Farmer - Well Fargo Securities

Robert Derrington - Wunderlich Securities

Dave Carlson - KeyBanc Capital Markets

Peter Saleh - Telsey Advisory Group

Bryan Elliott - Raymond James & Associates

Steve Anderson - Miller Tabak

Operator

Please standby. Good morning, ladies and gentlemen. Welcome to the Red Robin Gourmet Burgers Incorporated First Quarter 2014 Earnings Call.

As a reminder, part of today’s discussion will include forward-looking statements within the meaning of federal securities laws. These statements are commonly identified by words such as continue, plan, expect, believe, intend, should, and other terms with similar meaning. These statements include, but will not be limited to, statements that reflect the Company’s current expectations with respect to the financial condition of the Company, results of operations, plans, objectives, future performance including the Company’s traffic and revenue-driving initiatives, sales growth expectations, previously announced franchise acquisitions, expected operating margins, anticipated costs, expenses, intentions with respect to expense management, plans for development of capital, resources, and other expectations discussed within the course of this call.

Although the Company believes the assumptions upon which preliminary or initial results, financial information and forward-looking statements are based are reasonable as of today’s date, these forward-looking statements are not guarantees of future performance and therefore investors should not place undue reliance on them. Also, these statements are based on facts known and expected as of the date of this conference call, and the Company undertakes no obligation to update these statements to reflect events or circumstances that might arise after this call.

Participants on the call today should refer to the Company’s Form 10-K and other filings with the SEC for a more detailed discussion of risks, uncertainties and other factors that could impact the Company’s future operating results and financial conditions. The Company has posted its fiscal first quarter 2014 press release and supplemental financial information related to the quarter’s results on its Web site, www.redrobin.com, in the Investors section.

I will now turn the call over to Mr. Steve Carley, Chief Executive Officer of Red Robin. Please go ahead, sir.

Steve Carley

Thank you, Jamie, and thanks everybody for joining us this morning. With me today are Eric Houseman, President; Stuart Brown, Chief Financial Officer; and Denny Post, our Chief Marketing Officer. After Stuart and I deliver our prepared remarks, we will all be available to answer your questions.

Q1 marked another strong quarter for Red Robin. We continue to differentiate Red Robin from our competition and grow market share. As you can see on Slide 2, we generated a 5.4% increase in same-store sales, improved our restaurant-level operating margin by 90 basis points and grew earnings per share by $0.16 or 24%, recognized earnings per share were reduced by $0.03 due to acquisition costs. The comparable restaurant revenue gain stems from a 4.9% increase in average check as well as a 50 basis point increase in guess count.

Despite industry headwinds, we outperformed our peers in traffic for the eighth consecutive quarter. We notched a 315 basis point positive variance to the category over the 16-week period as measured by Black Box Intelligence. We attribute most of this to our marketing programs new product innovation and guest engagement initiates implemented in our restaurants. We also believe we’re seeing the continued benefits of the new plating and presentation, the new menu and RRR service components that we piloted in our original brand transformation locations and consequently accelerated through the entire system last summer.

As we discussed on our last earnings call, we increased our advertising this quarter adding more weeks of TV. Some of these added weeks done in the first quarter to support Red’s Tavern Double value messaging and the extension of our finest line of burgers. We’ve made strides over the past two years in key brand attributes such as product variety, service and value, improvements that our guest rewarding us for with more visits, while pleased with this progress we still have significant opportunities when compared to our best-in-class competitors.

In the first quarter, we permanently extended Red Robin’s finest line up with the DGB the Damn Great Burger and the Black and Blue Burger giving guests three premium burgers to choose from. We now have three distinct burger menu platforms. Red’s Tavern Double starting at 6.99 everyday to our famous Gourmet Burgers ranging from 8.99 to 10.49 and our finest Half Pound Black Angus burgers price starting at 12.99 and above. All are served with our famous Bottomless Steak Fries. Through these efforts, we continue to reinforce our positioning as the undisputed burger authority.

As our PPA growth indicated trial of these finest burgers was strong as people traded up from our other burger lines. Our favorable growth and average check also reflects better accommodating the over 21 crowd at the bar while remaining at top destination for families. Our improved guest service model was being reinforced by our new labor management system, which creates a labor schedule customized to an individualize restaurant’s traffic pattern and unique product mix. The guide manages us to schedule the right people at the right place in the right time every shift. The rollout was smooth and adoption exceeded our expectations, which benefited our four-wall profitability in Q1.

Turning to brand transformation, we’re pleased with the traffic driving sales lifts from the 34 locations transformed to-date. We just recently finalized a new brand identity for signage and exterior design. I will now go back and complete the exterior updates on these 34 locations. The new design will be incorporated into our remodel going forward, as we plan to fully transform at least 50 restaurants this year in select markets.

Our roadmap can be summed up the three Es, guest engagement, operational efficiency and footprint expansion. Having addressed engagement let me briefly touch on two franchise acquisitions related to our expansion strategy. First we acquired four franchise restaurants in the upstate and Mid Hudson areas of New York in February. We now own and operate a total of 12 locations in New York State and have three additional restaurants under construction. We took a second step when we announced plans to acquire 32 franchise restaurants in Canada and the United States for approximately $40 million. We expect to close on this transaction late this summer. The acquisition included 14 U.S. locations and 18 Canadian locations at British Columbia and Alberta which in aggregate generate annual revenues of approximately $88 million. We’ll integrate the U.S. stores into our operation while managing the Canadian group separately.

Our plan is to employ the same Project Red strategic approach to enhance the Canadian business that we utilized so successfully a few years back here in the States with Red Robin. Leading our efforts will be Denny Post who in addition to our Chief Marketing Officer role is also being charged with running our Canadian operations as the President of Canada, spearheading that integration. She’ll be supported by our experienced and proven operations team who will work closely with the corporate office in Vancouver to implement Project Red and ensure as seamless as transition as possible.

Most importantly we intend to respect our longstanding Canadian guest and make decisions that will further cement their relationship and affinity to the Red Robin brand. As an organization we’re thankful to have sufficient bench strength to support these integrations, thus allowing the team members in these restaurants to continue serving their guest without distraction. With these acquisitions we will be realigning our senior operations team by increasing the number of regional vice presidents from its current level of six to eight. This will reduce average spend into control and provide greater career growth for a couple of our regional operations directors too.

In addition to Red Robin Gourmet Burgers’ expansion, we are well positioned for our Red Robin Burger Works development. We have four of our updated Burger Works 2.0 sites in development in downtown Chicago and Washington DC. In addition we closed one of our original locations which was in a low traffic satellite location on an urban commuter college campus here in Denver. The 2.0 prototype is much more closely aligned with the flagship Red Robin brand. Red Robin Burger Works development will continue in dense urban areas and downtown business locations with heavy daytime traffic for the foreseeable future.

With that I’ll now pass it over to Stuart.

Stuart Brown

Thanks Steve and good morning everyone. After giving a quick summary of our first quarter results I will spend a few minutes covering our capital deployment activity and then provide additional color on our outlook for the remainder of 2014. Earnings per diluted share were $0.82 in our 16-week first quarter, an increase of 24% over last year which exceeded our expectations. The outperformance results are primarily from greater than expected increase in the average guest check along with a quicker normalization of our new labor management system. These positives more than offset the weather-related headwinds that others have talked about and acquisition-related costs.

Total revenues increased 11.1% to $340.5 million, while adjusted EBITDA increased 13.6% to $37 million and first quarter net income rose 26% to $11.9 million compared to a year ago. If you refer to Slide 7 of the supplemental, comparable restaurant revenue grew 5.4% which was comprised of a 0.5% increase in traffic. About 1.4% increase in price with the remaining 3.5% due to mix shift and increased sales of add-ons. As Steve mentioned our expanded Finest line of burgers resonated with guests and complemented the ongoing sales increases of adult beverages, appetizers and desserts.

Our traffic growth also continued to outpace the industry but absolute growth was below what we expected our traffic growth still outperformed our casual dining peers by 350 basis points as Steve mentioned. We attribute about half of the out performance to our added media and the remainder to other marketing and engagement enhancements that we’ve made over the past year. Remember that we’re off media most of the first quarter of 2013 as we’re revamping our media strategy and producing new creative.

Our restaurant-level operating margin increased to 22.4% in the first quarter from 21.5% a year ago, as a result of the flow through of the higher average check and effective labor management, more than offsetting the increased commodity costs and wage inflation. Our new labor management system which Steve discussed was adopted by our managers more quickly than we expected, the labor standards that are behind the scheduling provide custom schedules to each restaurant based on their unique mix, and enables us to update those standards in real time for any changes in procedures, recipes or sales mix. Depreciation, G&A, selling and pre-opening expenses were together generally in line with our expectations for the quarter, except for approximately $600,000 of acquisition-related expenses.

I now would like to spend a few moments discussing our capital deployment strategy, following the announcements over our franchisee acquisitions. Over the past four quarters we have generated $113 million of adjusted EBITDA, as you can see on Slide 12 of the supplemental with taxes and interest around $13 million and maintenance capital of $10 million to $15 million a year. We have about $85 million of cash flow annually to deploy for growth at the appropriate returns.

Further our debt to trailing fourth quarter EBITDA at the end of the first quarter was about 0.8 times, so our leverage also provides us with the flexibility to pursue value enhancing opportunities as they arise. We anticipate making around $70 million of growth investments this year. The primary investments in this regard are in new restaurants and in remodels under our brand transformation program. We typically achieve an IRR in the mid to upper-teens, and cash-on-cash returns of 20% to 30% on these investments.

Further we’re making investments improving our Burger Works to meet the needs of time-pressed fast-casual guests. We believe Burger Works has a good chance to become an additional growth concept given our advantages of recognized quality and infrastructure leverage. The franchisee acquisitions that we announced were opportunistic in nature with a $48 million combined purchase price we’re adding well run units in markets where we’re currently growing like Chicago and New York State or believe there is potential for growth like in Western Canada.

The acquisition closing later this summer is comprised of 32 restaurants that have been well maintained that have lower average unit volumes than our company-owned units. They have been open for an average of 15 years and we project investing an additional $1.5 million of capital plus remodel cost overtime. We plan to fund the acquisition with our existing credit facility which has more than adequate capacity. While making meaningful investments to create value, we have generated cash in excess of our investment needs which we have used to either pay down debt or repurchase shares. In the first quarter of 2014, we repurchased $7.5 million of stock and over the past year our repurchase is of total $12.5 million.

Before covering our outlook, let me provide a quick update on our IT investments in the Oracle Fusion supply chain system. Last quarter we mentioned that we were testing the system in about 35 units as we worked out some complexities the software was causing at store-level. Rather than subject our mangers to continue testing, we decided to pull the software back into the lab for rework and software updates. We won’t test in restaurant again until this work is completed and don’t have a reliable timetable when it will be ready.

As you have seen in our press release, we have made a few updates to our outlook. Our comparable revenue guidance remains unchanged and implies lower growth in the coming quarters as the benefits of additional media roll off and pricing moderates to 1.1%. Restaurant level operating margins should be near 21.4% for the year higher than we originally projected as productivity initiatives and the leverage of higher average guest check, offset headwinds from commodities minimum wage and healthcare. The minimum wage in California a state which represents over 20% of our total labor costs increases by $1 or 12.5% on July 1st and then another $1 on January 1, 2016, for 25% increase over 18 months.

The improvement in restaurant-level profits will be partially offset by about a $2 million increase in our depreciation related to brand transformation remodels including accelerated depreciation related to a planned 100 remodels in 2015. Our new store openings we’re on-track to open 24 service Red Robin’s plus 5 Burger Works. Our preopening expenses will be around $6.5 million excluding acquisition cost which will be reported on this line. Also we have increased our projected tax rate to 27.5% as we previously assumed that Watsi would get extended. This has not yet been passed by Congress so we will remove this credit from our guidance.

Our guidance excludes the impact of the acquisition of the 32 restaurants pending closing of the transaction. As previously announced annual sales are approximately $88 million and we anticipate closing in the third quarter. We expect around $1.5 million of additional acquisition and integration expenses coming mainly in the second and third quarters. As I referenced earlier, average revenue per restaurant is about $2.8 million which is about 10% below our average unit volumes. Restaurant-level operating margins are therefore also lower.

Furthermore keep in mind that the additional office in Vancouver, regional management and other related overhead costs will increase G&A and their franchise royalties will decrease. We expect the acquisition will be dilutive to earnings per share in 2014 due to the acquisition expenses and accretive in 2015. We will provide updated guidance including the acquisition on our next earnings call.

Now I’ll turn the call back over to Steve for a few comments before we take your questions.

Steve Carley

Thank you, Stuart. To conclude, we’re off to a solid start in 2014 as we continue to make progress on our engagement, expansion and efficiency initiatives. Our strategic roadmap is enabling us to elevate the Red Robin brand and outperform our peers while staying true to our brand promise. We’re making progress against our goal of exceptional service while significantly improving our restaurant atmosphere through the brand transformation project. We’re laying a strong foundation for our business and we’re building shareholder value by serving more guests more often and leaving them even more delighted with their experience each and every time.

In closing, let me express my appreciation to our entire team, both those in our restaurants who deliver our brand promise and those here in Denver who support our restaurants, for all their efforts, dedication and hard work. We look forward to working even more closely with the 2,500 team members who will officially join our organization upon closing the franchisee acquisition, and I’m confident we’ll have a bright future together.

Now let’s open it up for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question is from Joe Buckley with Bank of America Merrill Lynch. Please go ahead.

Joe Buckley - Bank of America Merrill Lynch

Thank you. Actually, well I guess question is on two topics. First on the sales numbers which were quite impressive with the traffic increase, I'm assuming there had to be some weather impact in those numbers. Have you guys taken a stab at estimating what that might have been for the first quarter?

Stuart Brown

Hey Joe, this is Stuart as in continuing of the past practice we try not to use whether as an excuse one way or another, and so we actually don’t spend a lot of time doing analysis to try to figure out what it was.

Joe Buckley - Bank of America Merrill Lynch

Okay, and then second topic, you gave us kind of a thumbnail sketch of the pending acquisition, but just a few questions on that. What are you including in acquisition costs and like the 600,000 in the first quarter, was that simply related to the New York acquisitions or are there some expenses related to the pending 32 unit acquisition in the first quarter numbers as well?

Stuart Brown

Yes Joe this is Stuart again, and yes most of the 600,000 in the first quarter was actually related -- it includes obviously the New York acquisition which closed as well as than the other 32, and because of the nature of that acquisition with being in U.S. and Canada, there is actually two different legal transactions so I would say that what we've incurred so far is largely legal and due diligence costs. There’ll be a little bit more of that coming as well and most of the rest of the costs will be integration including some market research, we talked about Project Red, so we’re going to do just a little bit of research here in the second quarter for Canada particularly. And then really, just largely, some retraining and a little bit of IT cost and things like that we’ve got to bring them on to our systems here in the U.S.

Joe Buckley - Bank of America Merrill Lynch

Okay, and I know you said the threshold on the margins as are the average unit volume is both below your corporate average, but can you size that a little for us, are they at the 20% mark in restaurant-level margin?

Stuart Brown

I mean, again if you sort of look at it in terms of what we were acquiring what we did last year, it’s closer to the mid-teens.

Joe Buckley - Bank of America Merrill Lynch

Okay, and then just the SG&A level of SG&A spend against those restaurants, I know you're keeping the Vancouver restaurant opened and you mentioned adding a couple of regional VPs that is somewhat related to the acquisition, but should we assume kind of a full load of SG&A against that or should there be some synergies maybe from following the U.S. restaurants into what you already have?

Stuart Brown

You will definitely get some synergies here in the U.S. where we can leverage those 14 restaurants. If you think about it sort of in total, sort of the $88 million, and you split it up, the 18 units in Canada, and try to allocate it out, the G&A load of Canada will be about I don’t know probably 5% of their sales. Sort of on average if you look at sort of Canada together, so together it’s you will probably end up with G&A load of everything all end of $3.5 million on an annual run rate.

Joe Buckley - Bank of America Merrill Lynch

Okay, it’s very helpful thank you.

Operator

Our next question is from Will Slabaugh with Stephens. Please go ahead.

JR - Stephens

Yes. Good morning guys, this is JR on for Will, another fantastic quarter, congrats. Switching gears here to the Finest line, I know that's the topic of conversation we've been focused on and just wondering if you could go into little more detail about how that continues to perform, maybe speak to mix a little bit at the same time and kind of have you seen that impact the Tavern mix or similar to last quarter’s mainly both mixing pretty well?

Denny Post

Good morning JR, this is Denny. We’re not going to talk specific mix numbers, but I can assure you that we are continuing to see most of our guest trade from Gourmet into the Finest up the line and each of these platforms representing what they should in terms of value, Gourmet and Finest. The addition of the two permanent DGB and Black and Blue did broaden the line, very pleased with that and we believe there is still room to grow.

JR - Stephens

And Denny, probably you can answer this one as well. The marketing spend increased I know you said it met expectations, just wondering when it was off air, were you able to leverage the loyalty program, is that going to be the game plan moving forward when media is on and off, leverage more of that loyalty program than usual?

Denny Post

Well our overall goal is to maintain top of mind awareness among our guests and potential guest, so yes, we’re trying to use the various vehicles be they digital, television, Red Robin royalty, any of the other things that we participate in, use them to their best extent to maintain our top of mind awareness. And so you will see those stretched out as much as possible, so that we have activity virtually every week.

JR - Stephens

Alright, thanks.

Denny Post

Sure.

Operator

Our next question is from Alex Slagle with Jefferies. Please go ahead.

Alex Slagle - Jefferies

Hi. Thanks. Question on the restaurant-level margin guidance implies deleverage for rest of the year after we have the first quarter being a lot of leverage. Is there something one-time in nature that benefited the first quarter or is it really just more of a conservative same-store sales and inflation outlook for the rest of the year with obviously the high beef cost and minimum wages and benefits, may be you could walk through those pieces?

Stuart Brown

Yes, good morning, this is Stuart. I think the biggest impact will be the increased labor cost in California that really impacted second half and again if you compare it to the original guidance we had in the first quarter assumed that -- in the first quarter it assumed that we would have some additional cost related to labor roll-out that we didn’t have. So, we got those benefits quicker than we thought and rest of it was really, well it was really built in the guidance for the rest of the year. You will continue to get some commodity increase more in the back half than we had in the first half as well.

Alex Slagle - Jefferies

Okay, good. In terms of your previous comments about cost of goods and labor each probably being up a little bit year-over-year, is that still the outlook or is the labor management employment that roll out…?

Stuart Brown

Yes so the outlook both in the cost of goods both from a commodity as well as a mix impact, so the Finest burger from a COGS impact obviously has a bigger piece and then in the California labor too.

Alex Slagle - Jefferies

Okay. And what was the commodity inflation in the first quarter and then expectation for the second, any color on that?

Stuart Brown

Yes, the first quarter was around 2.5% and we think for the year, it will continue to be still around three.

Alex Slagle - Jefferies

Okay, thank you.

Operator

Our next question is from Alton Stump with Longbow Research. Please go ahead.

Alton Stump - Longbow Research

Yes, thank you. Good morning and a good job on the quarter.

Steve Carley

Thank you.

Alton Stump - Longbow Research

Just a follow-up, on the input cost front, I think it was actually up by 2.5%, 3% range that you have guided to previously for the full year and you just mentioned that it’s in that range still I guess, how is that the case with recent beef cost inflation, any color on where your hedged at or how much you are hedged on the commodity front mainly beef?

Stuart Brown

If you look -- again ground beef we buy, all fresh ground beef and we buy it on the spot market or view of it is as we go and try to buy forward that you are usually paying such a premium over the current market price that whatever short-term benefits you can get long-term you will end up paying more. So, we buy ground beef as on the spot. The rest of it if you look in our supplemental the schedule out of our commodity contracts by group and we are pretty well locked in really through the fall on most costs and the product progress of the negotiating new bread contract and a few others that’s the next one burning off in June or July.

Alton Stump - Longbow Research

Okay, that’s helpful. And then just one quick follow-up, I realized it’s actually one quarter into the year, so it’s always difficult to look or change your full year comp growth guidance but what’s impressive you were able to put up a positive guest count even with harsh weather in the first quarter. Any color on how you think guest count, how that will trend over the course of the year to get to that low single-digit comp guidance, is that looking for a flat number internally or would you expect it to go down again, any color there?

Stuart Brown

Yes, I mean guest count growth, this is after the scheduled dining industry that’s been negative for the last x number of years and on a same-store basis about 2% again as the industry continues to add new stores faster than a population growth that flat continues to sort of be the new up. So, I mean we are going to be plus or minus zero, we are happy with those. I will point out that comps get tougher right versus what we are cycling over a year ago from a guest count perspective and then also just as I sort of touched on in my prepared remarks on the same-store sales basis like the first quarter benefited from the extra media. We are burning some price off. We got about 30 basis points of price in the first quarter that will be burning off and then other thing probably on the mix standpoint is appetizers we rolled out the 3579 in May last year. So, we will be lapping that.

Alton Stump - Longbow Research

Okay, great, that’s helpful. Thanks guys.

Operator

Our next question is from John Glass with Morgan Stanley. Please go ahead.

John Glass - Morgan Stanley

Thanks. First, can you just talk about the labor productivity, it sounds like you got a higher adoption and faster adoption. Are we seeing in the first quarter the full benefit now then or did it kind of accelerate the adoption through the quarter, so it could in fact improve in subsequent quarters?

Eric Houseman

Yes John, this is Eric. We saw, we rolled it out in October and November of last year and it was very well adopted by our operations teams in the field, so we did probably realize the full benefits in Q1 of this year.

Steve Carley

John, the only thing I will add is going back to project blueprint that we often talk about in these calls, is if you look at what that allows us to do now, so as we change procedures in the restaurant, and we have just gone through and done a study on pre-portioned items in the restaurants as we make those labor changes we can affect that labor model right away. So, the tool enables us to continue to identify savings and in flow those through.

John Glass - Morgan Stanley

And you mentioned there was an advantage this quarter because your advertising was increased particularly versus a year ago where you are still retooling it. Can you remind us what the second quarter comparisons are from an advertising standpoint?

Steve Carley

Yes, that will be pretty consistent in terms of weeks on air for the remainder for the year that quarter pretty consistent in terms of weeks.

Denny Post

Way than weeks.

Steve Carley

Yes.

John Glass - Morgan Stanley

Okay, and then finally I think you said 100 remodels in ’15 is that correct and I think that’s an uptick from which you’ve previous talked about at least 50 a year is there a reason for that or clearly there is greater confidence is the sales lift better or is this just now that you’ve got better visibility there is no reason not to accelerate?

Stuart Brown

Yes so it’s probably more your latter it’s greater visibility there is no reason not to accelerate. As Steve mentioned we’ve finalized we think as the exterior that seems to be working well and initial feedback on that is good and really our goal is to get the whole system done by the end of the 2016.

Denny Post

And our guest feedback continues to be very strong.

John Glass - Morgan Stanley

Great, thank you.

Operator

Our next question is from Jeff Farmer with Well Fargo. Please go ahead.

Jeff Farmer - Well Fargo Securities

Great, thank you. Just keeping on that topic, so I think you’ve had these, the first wall of reimage restaurants have been done for something like 18 to 24 months at this point. I am curious how the sales and margins have trended and I guess more importantly what you’ve learned about how your customers are sort of reacting to the three zones in the restaurants, have they learned quickly? What’s sort of the anecdotal feedback then and any other highlights on how these restaurants are working would be very helpful?

Denny Post

Jeff I’ll let Stuart speak to the speak specifics around what we’ve seen from a financial standpoint, but I can assume that the guests we’ve done what we call Dine Alongs where we go in without them realizing we’re from Red Robin, visit competitors in our restaurants and get their impressions as well as some quantitative feedback pre-post on all of these locations and the guests really appreciate particularly the zones. They love the fact that we still welcome our core guest of families and do at constantly update a job of relating to small children and welcoming those families in. But for the adult parties which still constitute the majority of our guest. They really like the opportunity to be seated in the bar to be with other adults and to have a different experience while still enjoying the same great burgers. And then again that gathering space that we designed operates as a flex in between the two. We’re also beginning to learn about patios and some of things in this overall development. So all-in-all guest feedback has been extremely strong. Stuart, you want to talk through the results?

Stuart Brown

Yes just in terms of the sales impact that we’ve talked most of the impact is really on guest counts what we saw from the original 12 is once the anniversary -- we continue to see a little bit of actually outperformance versus the control group which is better than what we expected certainly usually when you hit the anniversary it sort of plateaus so relative to that control group continue to perform well and that’s one reason we went ahead and pulled some of those brand transformational elements forward and are starting to seeing the whole system benefit in some of the service changes and plating and presentation.

Denny Post

Well and that anniversary experience also speaks to guest discovering the new environment and we’re getting to appreciate it and use it for other occasions.

Jeff Farmer - Well Fargo Securities

Well that’s all but just one other follow-up. I think my understanding is that something along the line of 50% of your market development in 2014 is going to be in sort of less developed or less mature markets I think its Florida, New York, New Jersey and things like that. So I am curious if we should expect maybe a little bit of sales or margin headwind associated with sort of a little bit more rapid development of these newer markets or if that’s just a little bit overblown on my part and you shouldn’t see anything really in terms of our margin or top-line pressure with that development strategy?

Stuart Brown

Jeff, I think that’s completely fair. What we find as we move into new markets while there may be some initial pent-up demand for you get a little bit of honeymoon sales that overtime the annual average unit volumes when we move into new market is a little bit lower than our legacy markets and it just takes a little while to sort of build that up as we build the brand recognition and market penetration, start to really be able to leverage royalty. Right, it’s hard to do that when you just got a couple of units in a marketplace. So we saw that when we entered the Washington DC Baltimore market a number of years ago and continue to build that out, we expect to have the same pattern in New Jersey and New York, New England and Florida.

Jeff Farmer - Well Fargo Securities

That’s helpful and just final one. So I think it is roughly 50% new market development in ’14 can you put that in perspective?

Stuart Brown

Yes that’s about right and now this year I think about 6 or 7 of those also be midsize of the 20 this year as well, it maybe 8 I think of this year’s 20 or the midsize units.

Jeff Farmer - Well Fargo Securities

I guess my question was relative to ’12 and ’13 is that a big step up that 50% or were you running at similar number in terms of new market development in ’12 and ’13?

Stuart Brown

It is a step up.

Jeff Farmer - Well Fargo Securities

Okay, alright thank you.

Operator

Our next question is from Robert Derrington with Wunderlich Securities. Please go ahead.

Robert Derrington - Wunderlich Securities

Yes, thank you. Steven, can you give us a little perspective on the consolidation within your franchise group, clearly these are some pretty sizable acquisitions I guess in total these two that you’ve made this year. How should we think about that going forward? Are there more opportunities out there or do you suspect that you might pause after these and digest them for awhile?

Steve Carley

I think it’s safe to assume that we will pause and digest these going forward our franchisees can always look to us as a potential exit if that’s what they still desire. But we encourage them to continue to develop the brand and their operating footprint and of course all of them are looking at the potential capital expenses of the brand transformation and so that’s kind of what’s generating the activity right now.

Robert Derrington - Wunderlich Securities

Along the line of the brand transformation the fact that you’re moving from 50 to 100 clearly sends a strong signal to us I guess that you’re pretty satisfied with the returns, can you give us some kind of color on how should we think about the sales lift on those stores as they come into the pool are we I think directionally you talked about a mid single digit comp in the past, is that reasonable?

Stuart Brown

Hi Bob, this is Stuart again and going back to the brand transformation remodels and well the initial group that we did we saw a sort of 5% to 6% guest count lift in those as we’ve pulled some of the elements forward we’re probably not going to see quite a strong lift in the going forward ready to get that big bang effect instead we would get stronger lift. So we expect to continue to see sort of call it a 4% to 4.5% lift all this on a mixed basis, right. Some of these will be newer units as you go into some of the newer markets and then that will give us the 12%-13% IRR that we need to get on these maybe a little bit more initial once we’re getting sort of closer to mid-teens IRR and there is no reason we don’t think we can get that as we do some newer units and try to make sure we’re moving transforming entire markets now right so you’ll get some that do really well and you get some restaurants where you will get lower growth because they’re already at capacity and we just can’t add patios we’re trying to go in and put patios in and things like that will make sense as well.

Robert Derrington - Wunderlich Securities

Got you, very good. Thanks guys I appreciate it.

Operator

Our next question is from Chris O'Cull with KeyBanc. Please go ahead.

Dave Carlson - KeyBanc Capital Markets

Hi. This is Dave Carlson actually on for Chris today. Denny, a question for you, when you think about technology with the brand, do you think tablets are a good fit for the Red Robin position?

Denny Post

As we talked about last quarter we are certainly up with them particularly if they deepen the connection between our guest and our team members and we’re doing some experimentation now learning about it and we’ll approach it as it benefits our brand and our guest experience.

Dave Carlson - KeyBanc Capital Markets

Okay. And then on the guests counts you guys said that in terms of the relative performance about half of it was driven by the increased media the other half from the guest engagement things of that nature over the past year. Is there anything else in terms of guest count gains during the quarter in your opinion and why would we not see this continue I know that you guys are lapping some more difficult comparisons on traffic but what could stop this from continuing at this pace?

Denny Post

Well, again, guest counts is the toughest thing to get right now, it’s a real battle. I would say back to the kind of a earlier part of your question, Red Robin Royalty continues to be an effective tool for us and as we’ve spoken to we don’t get into the details of it because it’s a closely held opportunity for us but we get smarter and smarter about how we target the segment and I think to the extent that we can continue to build that program and use it over the coming years it will continue to provide advantage for us.

Dave Carlson - KeyBanc Capital Markets

Great.

Stuart Brown

And the other thing I continue to caution everybody on is it is a competitive environment out there, right. So, what could stop us is a competitor doing something else that really either resonates with guests or does something that do something really drive their sales or guest traffic that we don’t react to so.

Denny Post

I know there is lots of burger tests and lots of chains around this country.

Dave Carlson - KeyBanc Capital Markets

Sure. The final question on the acquired units the four and the 32 when do those enter the comp base?

Stuart Brown

Those will enter I think it’s after the same as the regular comp it’s after five full quarters of operations, so in the entirety of both periods.

Dave Carlson - KeyBanc Capital Markets

Great. So, not immediately. Okay, thank you.

Operator

Our next question is from Peter Saleh with Telsey Advisory Group. Please go ahead.

Peter Saleh - Telsey Advisory Group

Great. Thanks. Denny I want to ask about the beverage program in early February you guys introduced some 79 new drink options with lower price point. How is that performing and what’s the alcohol mix looking like these days?

Denny Post

Our alcohol mix is up modestly year-over-year about 10 basis points, PPA is up higher I think we are about $0.08 is what we’re seeing in terms of PPA and that really reflects the program, which is we’ve traded heavily discounted lower margin alcohol only guests during happy hour for the ability to serve every guest every time every day every hour every seat in the restaurant not just the bar. And so we’re building this program overtime and I think as guest become again aware because this isn’t something we’ve marketed outside the restaurant other than some inclusion on our Web site that we have terrific drafts and bottles beginning at 350 that we’ve got wines and some of our cold beverage at 450 and a great Sauza Gold Margarita at 550 at they become aware of that and as they begin to trust us for that and it becomes part of their routine and habit visit to Red Robin we’ll see that growth continue. In the interim I can assure you that it’s a good move for us.

Peter Saleh - Telsey Advisory Group

Great. And then Stuart on the acquisitions this quarter and what’s been happening this summer, were all these restaurants paying the standard royalty rate or were they below the average rate?

Stuart Brown

There is a little bit of difference on the blended average close to about around 3.5% sales.

Peter Saleh - Telsey Advisory Group

Okay, very helpful. And then lastly on menu pricing for the rest of the year, given the commodity inflation or what you’re seeing right now do you plan to take more or you plan to just let your pricing kind of roll off for the rest of the year?

Stuart Brown

We don’t plan to take anymore we always obviously have that option if the environment changes but right now we’re trying to do the right thing for value for the guests and not take any more price.

Peter Saleh - Telsey Advisory Group

Great, thank you very much.

Operator

Our next question is from Bryan Elliott with Raymond James. Please go ahead.

Bryan Elliott - Raymond James & Associates

Thanks. Good morning. Couple of clarifications, first the 3.5% royalty that you just mentioned Stuart, is that on just Canada or is that on the entire...?

Stuart Brown

It’s on the fully, it’s on the 88 million.

Bryan Elliott - Raymond James & Associates

Okay, okay, a couple other clean up questions the acquisition cost, the 600K you called out and then the projection. Are those mostly in pre-opening did you say?

Stuart Brown

Yes, so it will be so yes so annually for the year we expect it’ll be, the total we expect it to be around $2 million, 600,000, if we’re going to bucket into that pre-opening and acquisition so it’s pretty good stands out a little bit more, so again 600,000 was in the first quarter and the remainder of hit largely in the second and third quarter, probably would like to be a little more weighted in the third quarter with the integration timing so you’ll see us hitting that line.

Bryan Elliott - Raymond James & Associates

Okay, okay, that’s helpful, and Q1 CapEx, did I miss that?

Stuart Brown

Yes, it’s in the supplemental.

Bryan Elliott - Raymond James & Associates

Okay, I’ll look it up, alright.

Stuart Brown

It’s about $32 million.

Bryan Elliott - Raymond James & Associates

Alright, thanks and then I guess Denny big picture question, I don’t know if you have had a chance to go back and maybe do some deeper research or anything on kind of understanding sort of the trafficking. Do you think maybe you’re not in a position to do anything other than guests but how much might be new discovering customers and how much might be existing fans coming more often, is there a way to think about that?

Denny Post

The best I can offer you is our research tells us there is a larger base who are now open to the prospect of coming at Red Robin so I think with our advertising and other efforts we’re broadening our appeal and I certainly that’s what’s starting to show up in our modest guest count increases.

Bryan Elliott - Raymond James & Associates

Well, it’s damn good relative to the industry even if you characterize this product.

Denny Post

Well, I’m sticking with, I love -- Stuart, flat is the new up, yes that’s my up.

Bryan Elliott - Raymond James & Associates

Alright thanks a lot.

Denny Post

Thanks.

Operator

Our next question is from Steve Anderson with Miller Tabak. Please go ahead.

Steve Anderson - Miller Tabak

Yes, good morning and I know you referenced the testing, just assuming the testing for the new supply chain system and just want to see modeling out next few quarters of what kind of impact that’s going to have on the SG&A line now your foregoing expense for the time being?

Stuart Brown

Yes see this is Stuart, and most of that was really in capital, so there won’t be any meaningful change in the G&A line, by bringing that back into the lab.

Steve Anderson - Miller Tabak

Alright, thanks.

Operator

(Operator Instructions) And it appears there are no further questions at this time, Mr. Carley, I’d like to turn the conference back to you for any additional or closing remarks.

Steve Carley

Thanks everybody for your time this morning and we look forward to talking to you here in another couple of months. Have a great day.

Operator

And that conclude today’s conference, thank you for your participation.

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