Kona Grill CEO Discusses Q3 2011 Results - Earnings Call Transcript

Oct.26.11 | About: Kona Grill, (KONA)

Kona Grill, Inc. (NASDAQ:KONA)

Q3 2011 Earnings Call

October 25, 2011 5:00 p.m. ET

Executives

Mark Robinow - EVP, CFO and Secretary

Mike Nahkunst - Interim President and CEO

Larry Ryback - COO

Analysts

Lee Giordano - Imperial Capital

Mike Malouf - Craig Hallum

Mark E. Smith – Feltl and Company, Inc.

Conrad Lyon - B. Riley & Co

Operator

Good afternoon, everyone, and thank you for joining us today to discuss Kona Grill’s results for the third quarter ended September 30, 2011. Joining us today are Mike Nahkunst, Kona’s President and Chief Executive Officer, and Mark Robinow, the Company's Chief Financial Officer. Following their remarks we will open the call up for your questions. (Operator Instructions).

I would now like to turn the conference over to the Chief Financial Officer of Kona Grill, Mark Robinow. Please proceed, sir.

Mark Robinow

Thank you. Before we begin formal remarks, I need to remind everyone that the financial guidance the company provides for its fourth quarter 2011 result, including statements regarding the company's future sales, future profit and expectations regarding same-store sales are forward-looking.

We have attempted to identify these statements by using forward-looking terminologies such as may, will, anticipate, expect, believes, intends, should or comparable terms. All forward-looking statements made during this call are based on information available to the company as of today and the company assumes no obligations to update these forward-looking statements for any reason.

These statements are subject to risks and uncertainties that could cause actual results to differ materially from those described in the statement. Investors referred to the full discussion of risks and uncertainties associated with forward-looking statements and the discussion of risk factors contained in the company's filings with the Securities and Exchange Commission.

I would like to welcome Larry Ryback, our Chief Operating Office, who will be joining us for the Q&A portion of the call. .

With that, I’ll turn it over the call to Mike Nahkunst, our new Chief Executive Office.

Mike Nahkunst

Thank you, Mark, and thank all of you for joining us today. I’ll start with some brief comments about our third quarter results. Mark will then discuss the financial details for the quarter, as well as provide some guidance for Q4. I’ll then wrap up the call with an update on some of our current initiatives and provide some final thoughts before turning the call over for Q&A.

Now with all that, let’s begin. For the third quarter we continued our strong sales momentum by delivering solid topline results, driven by a 10.6% increase in same-store sales. This increase in same-store sales follows a 9.1% increase in Q2, a 7.6% increase in Q1, and a 6.4% increase in Q4 of last year.

In fact, the third quarter represents the eighth consecutive quarter, a sequential improvement in our same-store sales. We continue to experience favorable sales trends that are being driven by our food-based promotions, restaurant remodels, and service and hospitality initiatives.

The third quarter was also the seventh consecutive quarter that we experienced positive traffic trends, which we believe demonstrates the strength and popularity of the brand in multiple markets.

During the third quarter we were able to leverage our double-digit comps to drive strong earnings for the quarter. This positions us well for a profitable 2011.

I would now like to turn the call over to our CFO, Mark Robinow, who will take us through the financial details for Q3. Mark.

Mark Robinow

Thanks, Mike. For the third quarter ended September 30, restaurant sales increased 15.9% over the same year-ago period to 23.8 million reflecting additional revenue from the Baltimore location opened last fall, and the 10.6% increase in comparable restaurant sales.

The increase in same-store sales is attributed to higher average guest check driven by our food-base promotion and 2.5% growth in guest traffic. The sales increase includes about 3.3% in pricing as we took about 150 basis points in June to offset higher commodity cost and 180 basis points last fall.

As Mike mentioned, our comps have improved sequentially in each of the last eight quarters. We believe that our same-store sales will continue to outperform our peer group through the final quarter of 2011. However, the comp comparison becomes a bit more difficult as we rollover last year’s 6.4%.

Cost of sales as a percentage of restaurant sale decreased 60 basis points, 26.7% during the third quarter from 27.3% last year. The decrease is attributable to pricing leverage, various purchasing, and culinary initiatives as well as lower year-over-year pricing for beef and chicken.

We are continuing to work diligently with our vendors to ensure the best pricing available and reasonable delivery charges.

Labor expense as a percentage of restaurant sales decreased 160 basis points to 32.8% during the third quarter from 34.4% last year. The labor cost percentage is attributable to the leveraging of fixed management wages and hourly labor, from the 10.6% increase in comp sales.

Restaurant opening expenses as a percentage of restaurant sales decreased 130 basis points to 14.8% during the third quarter from 16.1% last year. The lower operating expense percentage is primarily due to lower marketing expenses and the leveraging of the fixed portion of these operating cost through higher sales volumes.

We expect operating expenses to increase in Q4 as we plan to incur approximately 100,000 in uncapitalized remodeling expenditures for two restaurants.

Occupancy expenses as a percentage of restaurant sales decreased 60 basis points to 7.3% during the third quarter from 7.9% last year. With the higher sales volume, we are paying more in percentage rent but this is more than offset by the leveraging of these fixed cost.

We continue to pursue rent reductions at certain locations. Combining these four line items, restaurant operating profit increased 1.5 million to 4.4 million for the third quarter. As a percentage of restaurant sales, restaurant operating profit was 18.3% during the quarter compared to 14.1% last year.

We are pleased with our operating margins as they reflect the success of all of our various operating initiatives implemented over the past year.

General and administrative expenses increased 671,000 from the prior year quarter, primarily due to higher bonus accrual; stock-based compensation, and increased legal and professional fees. As a percentage of sales, G&A increased 190 basis points to 8.9% compared to 7.0% last year.

Income from a continuing operations was 735,000 or $0.08 per share compared to a loss of 296,000 or $0.03 per share last year. Net income increased $1 million for the quarter to 589,000 or $0.06 per share compared to a net loss of 441,000 or $0.05 per share in the prior year quarter.

As we previously reported, we closed our restaurants in West Palm Beach, Florida and Sugar Land, Texas during the quarter. For GAAP purposes, all historical operating results, as well as lease termination and exit cost for those restaurants are now reported in discontinued operation.

Loss from discontinued operations for the third quarter of 2011 was 146,000 or $0.02.

We ended the quarter with 6 million in cash and investment. During the third quarter, net cash provided by operating activities was 1.5 million. We spent about 250,000 for capital expenditures during the quarter, which represents planned remodeling cost and maintenance CapEx for our existing restaurants.

For our fourth quarter 2011 financial guidance, we are forecasting sales of 21.5 million to 22.3 million and a net loss of 100,000 to net income of 200,000 or a loss of $0.01 to earnings of $0.02 per share. Our guidance reflects the expectation of the same-store sales increase of approximately 4% for the fourth quarter. As we roll over the 6.4% comp last year.

I will now turn the call back to Mike, before we go to Q&A.

Mike Nahkunst

Thanks Mark. Well as Mark mentioned, we closed two underperforming restaurants during the quarter. While the decision to close a restaurant is never an easy one, the closures enabled us to focus on our existing restaurant portfolio and new restaurant development.

While we have no leases signed as of today, we are actively pursuing two leases for 2012, and currently we are assessing a few restaurant conversion opportunities in 2012, to not only backfill some of our existing markets, but to also provide us with better leverage and operating efficiencies.

We have an active search under way for a director of real estate position, as we refill our real estate pipeline for 2013 and beyond. And we are in discussions now with Lenders for debt capital to help finance future restaurants as we increase our growth rate in the next few years.

As we embark on the final two months of 2011, we have several initiatives planned that will end the year on a strong note. We rolled out the first two phases of our service improvement initiatives, designed to increase guest hospitality and enhance the guest experience.

We have two more phases planned for next year to increase the menu and wine knowledge of our restaurant staff, by equipping them with additional information to provide a better guest experience, while also building sales.

We are also rolling out new uniforms in a few weeks that have a casual yet sophisticated look in which represents our brand extremely well.

In November, we will roll out our fourth and final food base promotion of the year. These food base promotions are a great way to test new menu items and have been a strong contributor to our same-store sales growth.

Guest and employees have responded favorably to the promotions, and have requested additional food base promotions in 2012. We’re also gearing up for the holiday season with our Black Friday and holiday gift card promotions. And are in the early stages of enhancing a restaurant to go program system wide.

These initiatives taken together with our continued restaurant remodels and marketing efforts are the key drivers of our top-line growth, and improve bottom line. We believe the steps we have taken over the past 24 months have paved the way for a profitable 2011 and beyond.

I’ve been very fortunate my long career in this industry to have been associated with such high quality growth ramps like Chili’s, BJ’s, and the Cheesecake Factory. And as the new CEO of Kona Grill, I’m extremely excited about the opportunity to lead our outstanding team to new heights.

I truly believe that together we can grow and build a world-class restaurant brand that is unique in this industry. And now with that, I’d like to open the call up for any questions you might have. Mecala.

Question-and-Answer Session

Operator

(Operator instructions). And our first question comes from the line of Lee Giordano from Imperial Capital. Please go ahead.

Lee Giordano - Imperial Capital

Thanks. Good afternoon, and congratulations on a good quarter.

Mark Robinow

Thanks.

Lee Giordano - Imperial Capital

My question is on same-store sales going forward. What do you see as the primary driver? Do you still see room for higher pricing, are customers going to be trading up on the menu, or is it really traffic that’s going to drive the comps? Thanks.

Mike Nahkunst

I’ll tell you what, this is Mike, Lee. We’re really enthusiastic about or traffic right now. We’d had really consistent traffic, we’re really pleased to see it continue at the rate it has been, and we really think with some of these initiatives we have in place, that will continue to grow.

Lee Giordano - Imperial Capital

Great. And do you anticipate closing any additional stores at this point?

Mike Nahkunst

No, we don’t. We think the two we closed this past year should take care of everything. We wanted to get those two out of the way for us to move forward, and we certainly did and we’re looking forward to moving forward without having to do that again.

Lee Giordano - Imperial Capital

Great. Thank you very much.

Mike Nahkunst

Sure.

Operator

Thank you, and our next question comes from the line of Mike Malouf from Craig Hallum. Please go ahead. Pardon me, Mr. Malouf, your line if open at this time.

Mike Malouf - Craig Hallum

Sorry about that, yeah, no, I’m right here. I had a question, given your guidance for the fourth quarter, can you give me just a sense of what kind of comps that are implied in that revenue guidance?

Mike Nahkunst

Yeah, as we said in the script, Mike, the – about 4% of same store sales increase is embedded in the guidance.

Mike Malouf - Craig Hallum

Okay, great. And then with regards to opening new stores next year, can you just give us a sense on the visibility with regards to whether you’ve signed any leases or what the pipeline looks like on that as you go through the end of the year here?

Mike Nahkunst

Yeah, Mike, actually, like I said, we’ve said before on that, the issue right now, we’re going to be able to – we’re looking real hard at doing some conversions in 2012. Number one, it’s a lot easier for us to give in to the restaurants at a quicker pace, and we’ve got several that we’re looking at right now, we’re just not quite to the finish line on them, but we’re close. And that is probably going to be the later part of the fourth quarter for us for an opening, that would be my take at this point.

Mike Malouf - Craig Hallum

Okay, great. And again, I'm sorry I missed this, but where are you with cash right now on the balance sheet?

Mike Nahkunst

Six million at the end of the quarter, Mike.

Mike Malouf - Craig Hallum

Okay. All right, great. Thanks, guys.

Mike Nahknust

Sure.

Operator

Thank you. (Operator Instructions). And our next question comes from the line of Mark Smith from Feltl and Company. Please go ahead.

Mark E. Smith – Feltl and Company, Inc.

Hi, guys. Mike, I just want to confirm that I heard you right. In looking at conversions, that just fits into the two that you’re looking at in 2012, that isn’t in addition to the two leases?

Mike Nahkunst

No, the total we’re going to do in 2012 would be two. It’s not in addition.

Mark E. Smith – Feltl and Company, Inc.

Okay, perfect. And it sounds like those are going to be most likely Q4, just looking at where we are today without any leases signed?

Mike Nahkunst

Yeah. That’s correct.

Mark E. Smith – Feltl and Company, Inc.

Okay. Perfect. Next, can you guys just give an update on remodels, you know, where you are today, what’s left and what kind of a lift you’ve been seeing from your remodel program?

Mike Nahkunst

Yeah, let me tell you where we are. We’ve got a couple of – a couple more major remodels to finish out the year. We’ve got our Caramel Restaurant in Indianapolis, will probably take place in about another month and also our Chandler Restaurant here in Phoenix, we’re totally redoing. Those are pretty major remodels for us and we’re looking forward to having those finish out here in the next month or so.

Mark E. Smith – Feltl and Company, Inc.

Okay. Has San Antonio been done?

Mike Nahkunst

No, not at this point.

Mark E. Smith – Feltl and Company, Inc.

Okay.

Mike Nahkunst

We have San Antonio on our list, but we’re – these two are the ones we’re going to finish out the year with.

Mark E. Smith – Feltl and Company, Inc.

And any update on kind of lift of what you’ve seen when you get these remodels completed?

Mike Nahkunst

Yeah, Mark, we’ve been seeing lifts in the low double-digit range, so they’ve been pretty strong and outperforming other restaurants post remodel.

Mark E. Smith – Feltl and Company, Inc.

Okay. Perfect. And then the last question, can you just give us your outlook on seafood and other commodities going forward?

Larry Ryback

Hey, Mike, this is Larry Ryback. You know, over the past six months, we’ve done a pretty good job in locking up a lot of the primary seafood items that we buy. We spend about $7 million a year on seafood and the majority of that is in sushi, tuna, salmon and sea bass. And that’s been a real big focus for us and luckily, we’ve been able to insulate ourselves.

Mark E. Smith – Feltl and Company, Inc.

Okay. How long are you locked in on some of these? Is it just through the end of this year? Do you have anything right now, and even outside of seafood, going into 2012 on contract?

Larry Ryback

You know, we have a few commodities that carry us over through the beginning of the first quarter. Most will end late fourth quarter and into early first quarter, but we’re in active negotiations now.

Mark E. Smith – Feltl and Company, Inc.

Okay, I guess, how do you feel on these negotiations?

Larry Ryback

You know, no major concerns yet. You know, beef is a little bit of a concern for us, but again, we’re covered through March and we’re in the early stage of the dialog trying to lock that up.

Mark E. Smith – Feltl and Company, Inc.

Perfect. Thank you.

Operator

Thank you. And our next question comes from the line of Conrad Lyon from B. Riley and Company. Please go ahead.

Conrad Lyon - B. Riley & Co

Thanks. First of all, congratulations to Mike with the new status.

Mike Nahkunst

Thanks Conrad.

Conrad Lyon - B. Riley & Co

Yeah, first question; diving into the quarter, you had a bit of your guidance on September 19th, if I remember correctly, with same store sells being up about 9% and then we saw 10.6%. Is that more reflection of the closure or was there some gain in the last few weeks, 10 days?

Mike Nahkunst

It was actually both, Conrad. We got a little bit of a lift from the closure but you know, more importantly, we finished the quarter pretty strongly in terms of sales, as of last week.

Conrad Lyon - B. Riley & Co

Okay. Can you provide us with the traffic for the third quarter and what traffic is looking like fourth quarter with that 4%?

Mike Nahkunst

For the third quarter, traffic was up 2.5% and we’re up a little less than that in the fourth quarter so far.

Conrad Lyon - B. Riley & Co

Okay.

Mike Nahkunst

It’s a little, you know, it’s a little bit of a small sample of it, we have three weeks behind us.

Conrad Lyon - B. Riley & Co

Yeah. Is – it looks like some prices are rolling off?

Mike Nahkunst

Yeah, there’s a little bit of price rolling off and we’re riding the price that we put in about 150 basis points in June of this year right now.

Conrad Lyon - B. Riley & Co

Got you, okay. Looking forward, I'm not sure if you can talk about this, you’ve had a nice year in having the restaurant level margin recover, looking forward to 2012, if you don’t mind talking about that, if we’re getting any new restaurants, any sense of where you think that would shake out?

Mike Nahkunst

Well, new restaurants always lower the overall margins as it takes about, you know, at least six months to get up to decent operating margins. But then to get to full operating margins takes them about a year. So when we open those in the fourth quarter, we will see an operating margin hit in the Q4 next year due to the new restaurant. And then you know, right now we haven’t put any guidance out for 2012, but we have improved our operating margins a lot so far this year and we would expect to continue to improve them into 2012, but not at as high of rate of we have done in 2011.

Conrad Lyon - B. Riley & Co

Okay, that’s helpful.

Mark Robinow

Conrad, let me add a little bit to that. One of the things is as we get on track here a little bit more with our openings after 2012, we always try to front-end load our year with openings for that very reason, that question you bought up.

Conrad Lyon - B. Riley & Co

Okay, got you. A question about the remodels that are coming up, like Caramel/ Chandler. When you do those, is additional capacity, seating capacity put on line as well?

Mike Nahkunst

Yes. That is the case in – definitely in Caramel and a little bit in Chandler. What we always look for in the remodels is to see if we can increase capacity while we’re in there and in most cases, this past year and looking out, that’s exactly what we have intended.

Conrad Lyon - B. Riley & Co

Got you. Okay. That’s very helpful. All right, last question. In terms of the new promotions, food promotions coming up, are these going to be more food based, priced based? Can you give a little color on that?

Mike Nahkunst

Yeah, promotions coming up are more food based for the remainder of this year.

Conrad Lyon - B. Riley & Co

All right, so I just need to go visit a restaurant.

Mike Nahkunst

Please.

Mark Robinow

Yeah, you do.

Conrad Lyon - B. Riley & Co

All right. Thanks, guys.

Operator

Thank you. And at this time, this concludes our question-and-answer session. I would know like to turn the conference back over to Management for closing comments. Please proceed.

Mike Nahkunst

Okay, thank you, operator. Well, as always, I want to thank each and every one of you for joining us this afternoon on the call. We sincerely look forward to finishing out the year in great shape as we continue to build Kona Grill in one of the great names in polished casual dining. And we thank you all for your continued support of Kona Grill. Thanks.

Operator

I would like to remind everyone that this call will be available for replay through November 25th, 2011, staring later this evening. A webcast replay will also be available via the link provided in today’s press release as well as available one the company’s website at www.konagrill.com. Thank you, ladies and gentlemen, for joining us today. You may now disconnect.

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