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Ruth's Hospitality Group (NASDAQ:RUTH)

Q4 2010 Earnings Call

February 18, 2011 8:30 am ET

Executives

Robert Vincent - Chief Financial Officer, Principal Accounting Officer, Executive Vice President, Corporate Secretary and Member of Executive Committee

Michael O’Donnell - Chairman, Chief Executive Officer and President

Analysts

Nicole Regan - Piper Jaffray Companies

Bryan Elliott - Raymond James & Associates, Inc.

Ross Haberman - Harberman Funds

Jeffrey Omohundro - Wells Fargo Securities, LLC

Andrew Barish - Jefferies & Company, Inc.

Jason West - Deutsche Bank AG

Bart Glenn - D.A. Davidson & Co.

Operator

Hello. Good morning, ladies and gentlemen, and thank you for standing by. Welcome to today's Ruth's Hospitality Group Fourth Quarter 2010 Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to Mr. Bob Vincent, Chief Financial Officer. Please go ahead, sir.

Robert Vincent

Thank you, and good morning. We need to remind everyone that part of our discussion today may include forward-looking statements. These statements are not guarantees of future performance and therefore undue reliance should not be placed upon them. We refer all of you to our recent filings with the SEC for a more detailed discussions of the risk that could impact future operating results and financial conditions. Finally, I would like to remind you that today's call may not be reproduced in any form without the express written consent of Ruth's Hospitality Group, Inc.

I would now like to turn the call over to Mike O'Donnell, Chief Executive Officer of Ruth's Hospitality Group.

Michael O’Donnell

Thanks, Bob, and thank you all for joining us today. For both the sales and profitability standpoint, the fourth quarter was solid for Ruth's Hospitality Group and we're pleased to have ended 2010 on a high note. Looking ahead, we're optimistic for 2011 given the renewed enthusiasm for high-end dining by special occasion customers and business people alike. But having said that, we are mindful of a continued rise in commodity costs.

During the fourth quarter, comparable sales at Ruth's Chris Steak House increased 9.2% versus the prior-year period, while Mitchell's Fish Market comparable sales decreased 2.1% versus the prior-year period. Currently, January's comps were in the positive in the mid-single digit range for Ruth's Chris, while for Mitchell's remained in the negative low single digit range. Inclusive of the weather challenges thus far this winter, our trends, we believe, have held up well.

At Ruth's Chris approximately 1.6% of our fourth quarter comp result was attributable to additional restaurants that were open on Thanksgiving Day in 2010 compared to 2009. With our leadership position in special location dining, we believe that Thanksgiving is a natural for our brand. We also opened a limited number of restaurants on Christmas in 2010 and may consider expanding that this year as well.

On a geographic basis, Ruth's Chris two largest markets, California and Florida, both generated strong positive sales, as Florida sales rose 9.3%, while California sales improved 7.8%. Overall, in the Ruth's Chris portfolio, we are pleased that 60 of the 64 company locations generated positive comparable sales during the fourth quarter.

Entrées, which serve as our proxy for traffic increased by 9.4% during the fourth quarter and we were positive in all four quarters in 2010. Our average check was essentially flat at down 0.1% in the fourth quarter. Compared to the Knapp-Track benchmark index for the Steak House segment, Ruth's Chris’ sales were off versus the index by 50 basis points and 380 basis points in traffic, which we believe were driven by aggressive competitive discounting.

Private Dining sales at Ruth's Chris Steak House increased approximately 16% during the fourth quarter, which helped make the recent holiday season our most successful since 2007. For the full year, our Private Dining business grew by approximately 16% as our initiatives in the Catering and Professional Satellite business gained traction.

For the last few quarters, we have also been testing some brand enhancing initiatives, which center on remodeling several of our locations to a more contemporary and upbeat atmosphere, along with making improvements to the guest experience, menu design, service staff uniform style and background music. While we were encouraged by what we have seen so far, it is still too early to say what implications these efforts could have on the rest of our portfolio.

Within the Ruth's Chris franchise system, domestic comparable franchise-owned restaurant sales increased 8%, while international comparable franchise-owned restaurant sales increased 15.5%. System-wide, our franchisees had a blended comparable restaurant sales increase of 9.5%.

In terms of Ruth's Chris marketing strategy, we've tested and will be rolling out in Q1 a new experience-focused advertising campaign. Our objective is to attract more people for more occasions. We will also be testing TV in Q1 as part of that campaign. On a related note, we will also be strengthening our online efforts using broadband video display, social media to create more buzz around the Ruth's Chris brand, particular with a slightly younger demographic.

Similar to last year, we intend to spend 3% to 3.5% of sales on an annualized basis on marketing. With respect to the menu, we continue to feature our Ruth's Seasonal Classics prix fixe, which remains approximately 30% our sales mix. As part of our effort to broaden our appeal, we continue to innovate our core menu while utilizing our Bistro menu and sushi test to entice potential new guests. Turning to Mitchell's. The negative comparable sales trends were driven by continued weakness in our Florida market where sales were down 10.6%, while all other regions of the brand improved. As I stated at an investor conference last month, our newest restaurant located in Winter Park, Florida is performing slightly above the system average. We are using it as a test case for many of the design elements and system changes that we intend to implement in future development projects and retrofit within the existing system. In addition, Mitchell's Fish Market is also in the process of undergoing a number of changes with respect to the menu, Fresh Bar program and brand campaign. Together these items should have a positive impact on same-store sales, unit volumes and operating margins on a sequential basis.

The aforementioned changes include: first, creating more awareness of our sustainability efforts, which are best reflected in our Marine Stewardship Council certification. Second, we have begun to leverage the seasonality of seafoods with prix fixe offers and time-limited features at a value price point. We continue to work diligently to keep the menu fresh. There is always something new and craveable for our guest to experience. Third, we are evolving our communication strategy with a shift to online and social media, while stepping up our local store marketing efforts through greater community involvement. Finally, while still in the early stages, we are working on the development of a new brand campaign.

Regarding company restaurant development, we will utilize 2011 to position ourselves for future growth. We are actively working on Ruth's Chris unit pipeline for 2012 and '13 development, with a particular emphasis on the gaming and hotel industries. Both the gaming and hotel environments appeal to us, as we benefit from a captive audience of potential guests, coupled with more limited investment risk. And as we have already stated, our regional focus is on the West Coast and Northeast, which generate the highest average volumes in our company portfolio. Still, we have not formally signed any agreements at this time.

In terms of the Ruth's Chris Franchising business, we currently have 17 commitments for future franchise restaurants over the next several years and this pipeline should allow us to continue to generate a consistent and stable franchise income of $11 million to $12 million annually. In 2011, we expect up to three franchise openings during the second half of the year, with one of the locations in Grand Rapids, Michigan, poised to open in an upscale hotel, consistent with the strategy we look to employ in future company locations.

Our planning for development and future opportunity has become a reality due to the financing we completed a little more than a year ago, which freed us from the various bank covenants and allows us to think about growth. As we transition to new unit development, our focus in '11 will be directed to the organic growth opportunities inherent across our restaurant base through rebuilding traffic, which is our greatest catalyst for top line expansion. As always, we will manage expenses closely and deployment of capital will be reserved for only high-return projects that will create long-term shareholder value.

Like to turn the call back over to Bob.

Robert Vincent

Thank you, Mike. As described in our earnings release today, for the fourth quarter ended December 26, 2010, we generated total revenues of $94.1 million, an increase of $6.7 million or 7.7% compared to last year. Total company-owned restaurant sales increased to $90.4 million or approximately 8% compared to $83.8 million in the fourth quarter last year. Restaurant operating weeks were 1,131 versus 1,118 last year.

Average weekly sales for all company-owned Ruth's Chris Steak House restaurants were approximately $86,000 in the fourth quarter compared to approximately $79,000 in the same period last year. Ruth's Chris Steak House comparable sales increased by 9.2% and consisted of an average check decline of 0.1% combined with an entrée increase of 9.4%, our fourth consecutive quarterly increase in entrées. As Mike mentioned earlier, approximately 1.6% of the comparable restaurant sales result was attributable to additional restaurants that were opened on Thanksgiving Day in 2010 versus 2009.

Average weekly sales at Mitchell's Fish Market were approximately $62,000 compared to approximately $64,000 in the same period last year. Comparable restaurant sales at Mitchell's Fish Market decreased 2.1% as our average check increased 2.4%, while entrées declined 4.4%. Franchise income increased approximately 6% to $3.2 million from $3 million last year.

In terms of our cost structure, as a percentage of restaurant sales, food and beverage cost increased 140 basis points year-over-year in the fourth quarter. Beef costs, which were up approximately 12%, drove the increase. However, we did have some produce and dairy pressure as well. At this time, we have no forward contracts for our 2011 beef requirements. Our desire is to lock whatever portion of our needs that become available and we remain active in pursuing such arrangements.

Given the uncertainty in the current commodity environment, we are planning to take a price increase of approximately 50 basis points in March. We will evaluate further pricing opportunities as we go through the year. However, our preference is to be very conservative with any future price increases. Clearly, should beef inflation move even higher than our current projections, we would revisit this issue.

Restaurant operating expenses as a percentage of restaurant sales decreased 180 basis points from the fourth quarter last year to 50.9%. This decrease was driven primarily by positive sales leverage. Marketing and advertising cost increased to $3.4 million from $2.8 million and as a percentage of total revenue increased 40 basis points, 3.6% of total revenue, due to a shift in timing of our national radio advertising and print media.

G&A expenditures decreased by approximately $800,000 to $6.5 million in the fourth quarter, primarily due to a reduction in severance and legal costs. Adjusting for one-time items in both years, our operating income was $6.8 million compared to operating income of $4.9 million in the same quarter last year. Interest expense was $900,000 in the fourth quarter compared to interest expense of $1.7 million for the same period last year.

Net income was $3.9 million or $0.09 per diluted share on a share base of approximately $43 million in the fourth quarter of 2010 compared to a net loss of $2.7 million or $0.11 per diluted share on a share base of approximately $23.6 million in the fourth quarter of 2009. Net income for the fourth quarter of 2010 included $800,000 in non-cash impairment charges, a non-cash benefit of $800,000 in connection with a lease settlement and $500,000 in one-time income tax benefits. Excluding these items, net income for the fourth quarter was $3.5 million or $0.08 per diluted share.

Net loss for the fourth quarter of 2009 included $8.3 million in non-cash impairment charges, an $800,000 loss on the sale of the company's home office building, $400,000 in severance costs and a recovery of $400,000 on a previously written down lease. Excluding these items, on a tax adjusted basis, net income for the fourth quarter of 2009 was $2.5 million or $0.11 per diluted share.

With regards to our balance sheet, long-term debt as of December 26 was $51 million, a reduction of $16 million for the quarter. As has been our practice over the past three years, we will not be providing annual sales or earnings guidance. However, we will provide the following guidelines for some key cost metrics in 2011: food and beverage costs of 30.5% to 31.5% of restaurant sales, marketing spend of 3% to 3.5% of total revenues, G&A expenses of $23 million to $25 million and an effective tax rate of 25% to 30%. We anticipate fully diluted shares outstanding between $43 million and $44 million. CapEx spending is projected at $10 million to $12 million and will include the relocation of our Portland, Oregon restaurant whose lease is expiring. Finally, we are projecting our free cash flow to be in the range of $21 million to $23 million.

Let me now turn the call back to Mike.

Michael O’Donnell

Thanks, Bob. We are looking forward to a successful year at Ruth's Hospitality, with sustained top line growth and bottom line improvement. And while beef inflation could pose us some challenges, we believe that we have the flexibility to evaluate and take pricing selectively and thereby, limit the margin impact. As we described, we are in the midst of evolving both brands through menu, ambiance, service orientation and message enhancements. We think these initiatives will serve to broaden our appeal, solidify our relevance and create momentum for our company development plans, which will begin in earnest in 2012. I'm very proud of the work that our brand’s leadership has been doing.

The Ruth's Chris franchise system, which is the heart and soul of the brand has provided our guests with great steaks and genuine hospitality since the 1970s, is as strong as ever and we look forward to seeing them resume their build out of the brand in the second half of this year. We look forward to updating you on our progress in the coming quarters, and we are now available to take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] We'll hear first from Jason West with Deutsche Bank.

Jason West - Deutsche Bank AG

One, Bob, can you tell us where the lease settlement benefit showed up on the line items, the $800,000?

Robert Vincent

In discontinued ops.

Jason West - Deutsche Bank AG

Okay, got it. And then a couple things around pricing and inflation. Can you give us an update on what you guys are expecting for beef inflation? I know if you don't have contracts, you're kind of just in the market. But basically, what's in you outlook there on the cost of goods sold line? What's embedded there?

Robert Vincent

Well, we believe that market inflation will be in the 6% to 7% range for the full year, pretty much in line with what happened in 2010. I think on a comparative basis, the first half of the year will be the tougher overlap as beef prices were pretty much in line from January to the early spring and the market then got very expensive in the second half of '10.

Jason West - Deutsche Bank AG

Okay, got it. And then on the pricing side, you mentioned 50 basis points in March. And can you remind us where you were running on pricing in the fourth quarter? And I guess, that would've been continuing to the first quarter and it looks like some of that was offset by lower mix. I don't know if you've seen customers trade off some of that pricing or if it was just maybe lower spend around the Private Dining business that hurt the mix?

Robert Vincent

Yes. Well, in terms of pricing in 2010, we took one price increase in August, a very modest one, that we equate the benefit of as we overlap in 2011, about 20 basis points. In terms of any trading, we haven't really seen a whole lot of trading in the menu at all. So we think that the mix has been somewhat stable.

Jason West - Deutsche Bank AG

Okay. Can you give us that Private Dining number again for the fourth quarter? I missed that. Michael went through it pretty quickly.

Robert Vincent

Yes. It was up 16%. But frankly, consistent with the full year, which was also up approximately 16%.

Operator

We'll take our next question from Jeff Omohundro with Wells Fargo Securities.

Jeffrey Omohundro - Wells Fargo Securities, LLC

First, another question on the beef. Could you maybe elaborate a little bit about the thinking regarding not contracting? Is it a function of just being uncomfortable with the current pricing environment? Or is it that plus some availability issues? Maybe expand on that.

Robert Vincent

Yes, Jeff, I think it's really a function of a combination. One is, no one is in the marketplace willing to offer a long position. There are some short-term positions available, maybe 30, 60 days, but those are also very expensive. So it's really a case of not having a counterparty at this point.

Jeffrey Omohundro - Wells Fargo Securities, LLC

And then regarding the pricing, what is your general thinking now, to take the 50 basis points and see consumer reaction to that and possibly take more pricing later? Or are you pretty much set with the 50 basis points?

Robert Vincent

I would say, as a strategy, Jeff, that we will be very selective in pricing in 2011. We think the 50 basis points is fairly modest. Again, remember, that we really haven't taken a full price across our menu since March of 2008 and we will study whatever reaction that might take place here. And I think that if beef, particularly, kind of stays in the range that I spoke to earlier, we would likely not take additional pricing. But again, we're realistic here and if beef does get a little ahead of itself we will evaluate and implement a strategy accordingly.

Michael O’Donnell

Jeff, this is Mike. Simply put, I mean, as Bob said from the beginning, I mean we would like to be as conservative as we can be on pricing.

Jeffrey Omohundro - Wells Fargo Securities, LLC

Very good. And on the marketing front, sounds like you're taking a little bit of a different direction. Could you talk about the spend, how that 3% to 3.5% plays out? You had mentioned TV. Is the spending mix changing significantly? And do you expect to get a better return on that spend as a result?

Michael O’Donnell

Well, first, we're testing television. So to the extent that television is successful then that will change the mix of what we would spend vis-à-vis print and national radio in the second half of the year as we go forward. So I think that the 3% to 3.5% spend is the same. Television is going to be tested depending on the success of that and obviously, we expect to get a greater return from that or we wouldn't do it. But the message is primarily a branding message more than it is a price point message and we bifurcated last year and had some branding messaging and some price point messaging around our prix fixe, and we're going to move further away from the prix fixe message and further into the branding message.

Jeffrey Omohundro - Wells Fargo Securities, LLC

And then lastly, you may have mentioned maybe I missed it. But there certainly has been pretty significant weather in the Q1 period in various markets, and just wondering to what extent that might have impacted your business so far?

Michael O’Donnell

In the first quarter?

Jeffrey Omohundro - Wells Fargo Securities, LLC

Yes, sir.

Michael O’Donnell

Jeff, I mean, we get weather every year. I mean, I think we have experienced weather this year; we had some weather last year. I said we're up in the mid-single digits in the Ruth's Chris brand and slightly negative in the Mitchell's brand, and we're okay there.

Operator

Bryan Elliott with Raymond James has our next question.

Bryan Elliott - Raymond James & Associates, Inc.

Just want to reconfirm that 2011 is the extra week, correct?

Robert Vincent

No, Bryan.

Bryan Elliott - Raymond James & Associates, Inc.

2012?

Robert Vincent

2012 has the 53rd operating week.

Operator

And we'll hear next from Bart Glenn with D.A. Davidson.

Bart Glenn - D.A. Davidson & Co.

Yes, I was curious if the environment changed then there was availability to contract beef, would you consider looking to lock some of your exposure there?

Michael O’Donnell

Absolutely.

Bart Glenn - D.A. Davidson & Co.

So that would be the preference? It's just a matter of finding the availability of a counterparty at a price that seems reasonable?

Michael O’Donnell

Yes.

Bart Glenn - D.A. Davidson & Co.

And then also from a branding standpoint, what will be the primary vehicle for kind of marketing the experience, as well as the greater use of branding? I would assume television will be a relatively minor component of the marketing spend?

Robert Vincent

Well, again, we're going through a test and after that test we'll have a better understanding. But we have historically used radio and print and we now have broadened and will be doing more social networking than we have. But hopefully, the television will have a sort of umbrella effect and everything else will be underneath in support.

Bart Glenn - D.A. Davidson & Co.

In the event that television is particularly effective, are you comfortable with the current level of marketing spend as a percentage of sales? Or would you consider potentially taking that higher over time?

Robert Vincent

Well, right now, we're comfortable with where it is. We're unique in that we have both the company and franchise systems, so that has ramifications across the entire system. And for us to increase that, we need to make sure that everybody would be participating.

Operator

[Operator Instructions] We'll hear next from Andy Barish with Jefferies.

Andrew Barish - Jefferies & Company, Inc.

On the restaurant operating expenses, significant amount of leverage in the fourth quarter, I know the comps were terrific. But is there just a seasonality of high average volumes in the Banquet business? Does that provide more leverage in that quarter, so kind of tough to extrapolate out through a full year, for example? And then secondly, on the G&A expectations, what do you have embedded? Or is there a dollar amount associated with kind of the brand evolution work you're doing in Ruth's and kind of really rebuilding the new unit pipeline?

Robert Vincent

I would say that to your first question, yes, we do get some additional leverage in Q4. Seasonally, it's one of our strongest period. The Banquet business helps us on labor scheduling, so we get some leverage there. So I think overall, yes, we probably get a little bit of help on the operating expenses in Q4 than the balance of the year. In terms of G&A, we're modestly increasing our guidance there. Half of that increase, honestly, is a non-cash 123R charge and the other spending really is unrelated necessarily or directly in terms of some of the brand work. What we have done is we've added some folks in the field to help us execute, if you will, on a day-in, day-out basis. So I think that's really where the dollars are being spent.

Operator

We'll go next to Ross Haberman with Haberman Management Corporation.

Ross Haberman - Harberman Funds

Do you guys use OpenTable at your restaurants? And are you using their promotional offerings today more so or less so than, I don't know, two or three quarters ago?

Michael O’Donnell

Yes, we use OpenTable. We have some arrangements with them in various promotional activities. But we don't have anything more or less than we did two or three quarters ago.

Operator

[Operator Instructions] We'll take our next question from Nicole Miller with Piper Jaffray.

Nicole Regan - Piper Jaffray Companies

Can you talk about regional comp performance? Absent weather, really kind of underlying trends.

Robert Vincent

Well, in terms of regional, we had a little bit of strength versus the rest of the regions in the Midwest in Q4. With regard to the weather here in Q1, Mike made a comment earlier that we have weather in both years, and there's always weather in the wintertime that you have to deal with. So I think, overall, given the conditions this year, we think our trends have held up pretty well.

Operator

And we'll take a follow-up question from Jason West with Deutsche Bank.

Jason West - Deutsche Bank AG

Just want to follow up again on the pricing strategy. I'm just a little surprised you're not taking a little bit more price, and I guess it seems like with your customer being, kind of leaning more affluent and more business driven and on a $70 average check, it seems like you'd be able to take a couple bucks on that. I mean, if you could just talk about why you're not doing a little more pricing given the uncertain inflation environment and is it based on your test? Is it based on competitive activity? What the thinking is there?

Michael O’Donnell

Jason, this is Mike. I think we have worked hard over the last couple of years on our execution. We've worked hard on the things that we do to deliver to the consumer and the customer experience. And in fact, we're very proud of that. And we established the barbell pricing strategy with our $39.95, $49.95 prix fixe, and that remains 30% of revenues. So I think it continues to tell us that, that pricing or that kind of an approach is favorable. And while we do have a $70 guest ticket, that's substantially below a number of our competitors. We like that. We like the fact that our traffic has been up four quarters in a row. We like that a lot. And so while we think that there might be pricing capabilities should there be continued pressure, we leave that as an option. But right now, we're trying to be as conservative as we can on that.

Operator

And gentleman, seeing no further questions in our queue, I'll turn things back over to you all for any additional or closing comments.

Robert Vincent

Thank you all very much for joining us today. And as always, it's a great day to go out and eat steak or fish. Thank you.

Operator

That does conclude today's conference. Thank you all, once again, for your participation, and have a wonderful day.

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