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Jack in the Box Inc. (JBX)

F3Q07 Earnings Call

August 08, 2007, 11:30 AM ET

Executives

Jerry P. Rebel - EVP and CFO

Linda A. Lang - Chairman and CEO

Paul L. Schultz - President and COO

Analysts

Victoria Hart - Merrill Lynch

Lawrence Miller - RBC Capital Markets

Brian Moore - Wedbush Morgan Securities

Steven Rees - JP Morgan

Jeffrey Omohundro - Wachovia Securities

Joe Fisher - Bear Stearns

Stuart Fredo - Hunter Global

Dean Haskell - Morgan Joseph & Co, Inc.

Paul Westra - Cowen & Company

Presentation

Operator

Good day every one and welcome to the Jack in the Box, Incorporated Third Quarter and Fiscal Year 2007 Earnings Conference Call. Today’s call is being recorded. A replay will be available on the Jack in the Box website starting today for those who do not attend the live event. [Operator Instructions].

At this time for opening remarks and introductions, I would like to turn the call over to Mr. Jerry Rebel, Executive Vice President and Chief Financial Officer of Jack in the Box Incorporated. Please go ahead, sir.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Thank you. Good morning and welcome to the Jack in the Box conference call. Joining me today are Chairman and Chief Executive Officer, Linda Lang and President and Chief Operating Officer, Paul Schultz. During this morning's session we will review the Company’s operating results for the third quarter of our fiscal 2007. We will also discuss guidance for the fourth quarter and full fiscal year. All of this information was provided in this morning’s news release. Following today’s presentation, we will take questions from the financial community.

Please be advised that our presentation contains forward-looking statements that reflect management's expectations for the future, which are based on current information. Actual results may differ materially from theses expectations based on risk to the business. The Safe Harbor statement in today’s news release outlines some of these risks and uncertainties, and is considered a part of this conference call. Other material risk factors as well as information relating to Company operations are detailed in our most recent 10-K and other public documents filed with the SEC.

And now I would like to turn the call over to Linda Lang. Linda?

Linda A. Lang - Chairman and Chief Executive Officer

Thank you, Jerry. Good morning and thank you for joining us. We have a lot of news to share with you today, from our third quarter performance and updated guidance to our expansion plans and proposed stock split.

I will begin with operations. Company achieved another impressive quarter of earnings and experienced strong sales growth at both our Jack in the Box and Qdoba brand. At Jack in the Box, our innovative menu continues to differentiate our brand from other QSR chain. We are utilizing high quality ingredients and adding new products with bold flavors. Earlier this year we added sirloin steak to our menu. And in the third quarter Jack in the Box became the first major Quick Serve chain to offer a 100% Sirloin burger. Sirloin can serve as a broad platform for us to continue introducing new products. Next week for example we are adding a Sirloin Steak and Egg Burrito to our breakfast menu. It will be our fourth menu item featuring Sirloin.

Along with our distinctive menu, we offer guests the opportunity to customize their meal. For example when our guests order a 100% sirloin burger, they can build it with a choice of cheeses, onions and bacon. Or when they buy one of our new Barbeque Ranch Chicken Salad or any of our other entrée salads we will give them a choice of grilled or crispy chicken strips and serve the toppings and dressings on the side. Menu innovation is an important part of our strategic initiative to reinvent the Jack in the Box brand.

Another key element of brand reinvention is our comprehensive restaurant re-imaging program, which is giving our restaurant a new look and feel, especially on the inside where we have completely redesigned the dining rooms and common areas. We are on pace to re-image 100 to 200 restaurants this year and our goal is to convert the entire Jack in the Box system including franchise locations in four to five years. In markets that have been re-imaged we are continuing to see positive sales trend and guest satisfaction ratings that are higher than before the restaurants were re-imaged. The results are consistent with our return on investment target of 20%.

We are also making excellent progress on a second key strategic initiative; growing our business. Construction is currently underway on company operated Jack in the Box restaurants in two new contiguous markets. Denver, Colorado and Corpus Christi, Texas. The first restaurants in these new markets are scheduled to open in the next few months. Our franchisees are also entering several new contiguous markets in the coming year Albuquerque, New Mexico and Midland, Odessa and Abilene-San Angelo, Texas. Along with developing new restaurants, our franchise operators are continuing to acquire restaurants from the company. We re-franchised 22 restaurants in the third quarter including the transaction involving 14 locations in Houston.

Moving on to the proposed stock split. We are underway with our plans to implement a two-for-one stock split in the form of a special stock dividend. Over the past few years our Company’s strong performance has contributed to a significant increase in the price of Jack in the Box common stock, and delivered great returns to our stock holders. We remain optimistic in the Company’s continued growth potential and see this stock split as an opportunity to price the stock in a more attractive range for investors. And by increasing the number of shares available to trade, we also believe this spilt can increase the stocks liquidity.

Jack in the Box is poised to achieve another record year of earnings in fiscal 2007. Our strong performance over the past several years is directly related to our ability to successfully execute our strategic plan. We are growing our business, expanding our Jack in the Box and Qdoba brands and surpassing our earnings goals. We are evolving in our business model to improve our margins, returns and cash flows, while reducing business risks and cost associated with a system that’s predominantly company owned and operated. And we are reinventing the Jack in the Box brand and delivering a better dining experience to our guests.

To add some additional perspective on our third quarter results and to update our guidance for the remainder of the year, I would like to turn the call back over to Jerry Rebel, Jerry?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Thank you, Linda. As Linda mentioned, Jack in the Box experienced another strong quarter with earnings and same store sales significantly higher than last year.

Third quarter earnings increased to $1.08 per diluted share versus $0.77 a year ago and exceeded the high end of the range forecast by the company and analysts’ first call consensus by $0.19. $0.08 of that improvement was from higher sales and franchise revenues along with expense controls partially offset by higher food costs. Approximately $0.07 from insurance recovery and $0.04 was due to higher gains from the plant re-franchising of 22 Jack in the Box restaurants, which had higher than average cash flows. 14 of these re-franchised restaurants were in Houston, which prior to the sale was exclusively a Company operated market. For the first three quarters of fiscal 2007, earnings were $2.90 per diluted share versus $2.09 earned during the same period last year.

Restaurant operating margin in the quarter was 50 basis points below our internal forecast and 130 basis points below last year, primarily due to higher commodity cost. These costs were up approximately 9% versus prior year driven by tight supply and high beef costs. We expect beef cost will moderate somewhat in the fourth quarter but remain approximately 4% to 5% higher than last year’s fourth quarter.

Egg and cheese costs were also up substantially for the quarter, largely driven by strong global demand for dairy products. We expect food cost to generally track higher than 2006 for the balance of the calendar year, and as mentioned earlier, with some moderation beef costs versus the third quarter. These expectations are included in our earnings guidance for the fourth quarter, which is forecast at $0.72 to $ 0.76 per diluted share compared to last year’s earnings of $ 0.95 per diluted share. As a reminder the fourth quarter of last year included a benefit of $0.25 a share from the sale of our Company operated restaurants in Hawaii.

We expect another strong quarter of same store sales growth will help mitigate the anticipated impact of higher commodity costs. Thanks to our sale in Jack in the Box Company operated restaurants, our forecast increased 4% to 4.5% on top of the 5.9% increase last year.

Our business remained strong and our two restaurant brands continued to perform well. For the year same store sales at Jack in the Box Company restaurants are forecast to increase approximately 5.5% to 6%, which will be our highest increase since 1999. Same store sales in the Qdoba system restaurants which were up 4.2% through the first three quarters remain forecast at 3% to 5% for the full year.

Our earnings forecast for the full year is $3.62 to $ 3.66 per diluted share which represents an improvement of approximately 20% over prior year including the positive impact of the Hawaii transaction last year.

And now I’d like to turn the call back over to Linda, Linda?

Linda A. Lang – Chairman and Chief Executive Officer

Thank you, Jerry. Now we’d be happy to take your questions.

Question and Answer

Operator

Thank you. We will now begin the question-and-answer session. [Operator Instructions].

Our first question comes from Rachael Rothman with Merrill Lynch. You may ask your question.

Victoria Hart - Merrill Lynch

Good morning, it’s Victoria Hart for Rachael Rothman. On the insurance recovery that you recorded this quarter, is that something that’s maybe recurring in next quarter or is it completely one time?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

That was one time.

Victoria Hart - Merrill Lynch

And then the acquisition of Qdoba units, can you just explain the backdrop behind that?

Linda A. Lang - Chairman and Chief Executive Officer

Yes. That was an opportunistic situation where there were two partners that were involved in running these restaurants. They wanted to… one of the partners wanted to get out of the business and the other one did not have the opportunity to buy out his partner. So, we stepped in and repurchased those… those units.

Victoria Hart - Merrill Lynch

Okay. But do you anticipate any further purchases of franchise restaurants on the Qdoba side?

Linda A. Lang - Chairman and Chief Executive Officer

Our strategy going forward, we thought this is a good growth opportunity to develop that market out as a Company market.

Victoria Hart - Merrill Lynch

Okay. And then you guys have been doing phenomenally well on the same store sales front and next quarter’s guidance sort of tracks along on a two year basis. I know you don’t disclose the traffic and price increases. Can you give us a sense for whether it came more strongly from traffic or whether it is more pricing impacted?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

It’s… the price is about 1.2%. Just in real price increase and then the remainder of that is split pretty evenly between traffic and mix.

Victoria Hart - Merrill Lynch

And in terms of the pricing, is that something that will be embedded into next quarter as well?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes, 1.2% would clearly be in the next quarter as well.

Victoria Hart - Merrill Lynch

And can you just speak about, the strong same store sales, did you see a majority of that coming from the new Sirloin launch or just any more additional color you have regarding the same store sales?

Linda A. Lang - Chairman and Chief Executive Officer

Yes. We see the overall business strong. Our breakfast day part has been growing nicely. The re-images are helping. We have great execution at the restaurant level and then we have pretty compelling products including the Sirloin burger, very, very strong product launch for us.

Victoria Hart - Merrill Lynch

If you were to pull one thing out that really helped in the traffic flow, is there something in particular that ate at the quarter?

Linda A. Lang - Chairman and Chief Executive Officer

We just… we continue with our premium product strategy and all of our products are building the business. Sirloin was a very strong product for us. So, if you have to pull one thing out, that’s probably the thing that would make the top of the list but it’s all working together in concert.

Victoria Hart - Merrill Lynch

Okay. And lastly on… the G&A is quite a bit of leverage in the quarter and some of it was due to insurance recovery but some of it was also due to lower pension expense? Is that something we should anticipate again for fourth quarter?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes. We would expect the pension expense to continue to be lower in the fourth quarter and that’s really driven by the return on our pension assets which has been fine. And… but more importantly the discount rates on our bond portfolio remain very consistent with where they were last year.

Victoria Hart - Merrill Lynch

Okay. And on a year-over-year impact, how much does pension contribute?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

We have not disclosed that.

Victoria Hart - Merrill Lynch

Okay. All right. Thank you very much.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you, Victoria.

Operator

Thank you. Our next question comes from Larry Miller with RBC. You may ask your question.

Lawrence Miller - RBC Capital Markets

Thanks guys. I have two questions, please. Can you help me kind of put in context the idea of putting some capital to work and unit growth, company owned unit growth and the strategy that you guys have been pursuing towards re-franchising and cash flow management?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Larry, you want to rephrase again, you were breaking up just a bit, if you can...

Lawrence Miller - RBC Capital Markets

Sure, sure no problem. I guess what I’m getting at is you’ve been pursuing a strategy toward re-franchising and capital management and returns, how does the new market growth, the new company operated growth, is that an acceleration of growth? And how does that fit into the strategy of what I would call characterizes improved capital management?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Well Larry, we've talked probably for the better part of the last year about opening new contiguous markets. And Denver is one that we’re opening, Corpus Christi happens to be another one. That’s been part of our ongoing strategy and is not an acceleration of the Company growth but a part of the previously discussed Company growth model. So, you wouldn’t expect us to see us ramp up company growth in a significant way because we’re opening up new markets. I think the more important news on the new market entrance is, is the fact that we have franchisees opening up into brand new markets for the first time.

Lawrence Miller - RBC Capital Markets

Okay. That’s great.

Linda A. Lang - Chairman and Chief Executive Officer

Yes. And Larry, just to add on there, in Denver we’re going to gain a lot of learning in entering that new market for us. We have a new prototype that we’re going in with, a brand new building, a brand new kitchen design that’s more efficient and will allow for more throughput. So, we want to gain that… that learning and then we can apply it to our franchisee operators as they enter new markets.

Lawrence Miller - RBC Capital Markets

Thanks. Excuse me, that’s helpful. Second question I had was, there's some will concern, I guess, given where the credit markets are going, about the franchisee's ability to finance purchases of stores. What is it… what is your sense of the franchise finance community as it exists today as the franchisees are telling you?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Well, with respect to the credit tightening I think most of that is going to be on the high risk loan where there is going to be some reassessment there by the lenders. That’s not the category that our franchisees fall into. And we continue to hear they are not having any difficulty with respect to financing either for their re-image restaurants or for the re-franchising strategy. So, we do not see that as an issue going forward, Larry.

Lawrence Miller - RBC Capital Markets

Okay. Thank you, guys.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you.

Operator

Thank you. Our next question comes from Brian Moore with Wedbush Morgan Securities.

Brian Moore - Wedbush Morgan Securities

Good morning.

Linda A. Lang - Chairman and Chief Executive Officer

Good morning.

Brian Moore - Wedbush Morgan Securities

I am hoping you could maybe speak to the impact of mix shift on the cost of sales line during the quarter? And I guess, specifically what I am wondering is did you sell more beef products than… than you expected?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes. Out of the… out of the 210 basis point decline or increase in food cost in the last quarter versus the prior year, I would say the majority of that, the vast majority of that was due to the just rising food costs. But you would… you would see mix in the range of 40 to 60 basis points.

Brian Moore - Wedbush Morgan Securities

And that would include the… include the beef as well as the egg and cheese that you cited in the press release?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Absolutely.

Brian Moore - Wedbush Morgan Securities

Related to bread. Okay. And then, I guess in terms of the macro environment, could you talk about what you are seeing that would give you confidence that for the balance of the year we are looking at 4% to 5%?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Well, the real issue for us was in the third quarter, we are not going to get into too much detail about our beef blend but the fat trimmings which we tend to buy on the market, it just doesn’t crease very well. They’ve… the historical average on that is call it $0.45 to $0.50 a pound. There, we averaged about $0.83 a pound in the third quarter and we are forecasting $0.55 to $0.60 a pound here in the fourth quarter which is consistent with what we have seen so far during the first few weeks of the quarter.

Brian Moore - Wedbush Morgan Securities

Okay. And then final question on the… on the sales that’s required on the 20% ROI on the re-images. Could you talk about what that is? And then also have you done any experimenting with different exterior color schemes? I think some of your peers have seen slightly higher sales with their ROIs when they have actually changed the color of their restaurant outside.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

With the ROI what we have just talked about is the sales necessary to get about a 20% return, which is from an average investment cost of $150,000. We haven’t given anymore detail with respect to that. But I think the math runs out pretty easily.

Brian Moore - Wedbush Morgan Securities

Okay.

Paul L. Schultz - President and Chief Operating Officer

This is Paul. With regard to testing exterior color schemes we had done some of that previously and believe that sticking with our current color scheme but applying simply a fresh coat of paint is the way to go.

Brian Moore - Wedbush Morgan Securities

Thank you very much.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you.

Operator

Next question comes from Steven Rees with JP Morgan. You may ask your question.

Steven Rees - JP Morgan

Hi, thanks. So you have got some nice leverage on the labor line this quarter and just wanted to know what drove that beyond the comp performance, and if you expect that to continue in the fourth quarter to potentially offset some of the commodity cost pressure. Should we expect a similar decline in restaurant margins in the fourth quarter?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes. Well, I think you will see is… we will see food costs moderate somewhat because of what we have just talked about on the beef complex. We clearly get significantly labor leverage and other fixed and even somewhat fixed cost leverage on higher same store sales. So we go from a guidance of 5% to 6% up to 7.84%. We achieved about 80 basis point worth of overall leverage on labor as well as the other lines. With the same store sales at 4% to 4.5% we are not going to see quite that leverage that we had seen in the third quarter. However, we are not going to see food costs be as high as they were in the third quarter either.

Steven Rees - JP Morgan

Okay. Great, that’s helpful. And then if you could just help me, walk me through, how you decide which new markets receive new store development and perhaps in the past how have new stores performed in new contiguous markets versus some of the newness that you are building in existing markets. Your consumers, are they aware of the brand and they know it in some of these newer markets?

Linda A. Lang - Chairman and Chief Executive Officer

We have… we have not entered into new markets really for several years. So, Denver will be the first new market that we are entering since we entered the Southeast back in 1999. But we have gone in, we have done a lot of brand image research. There is a high level of awareness of the Jack in the Box brand because of the proximity to our other markets. And we feel very optimistic. We have a great prototype going in there. We have got a great line up, a great menu. So we are feeling very positive about our ability to be successful in the Denver market.

Steven Rees - JP Morgan

Okay. Great. And than perhaps you can just talk about Linda, where do you see the next opportunity to further differentiate your brand? You have done some great work on the product side. Most of the QSR players are getting into premium burgers now. Is there kind of a category you are going to go after?

Linda A. Lang - Chairman and Chief Executive Officer

Right. We are… we are really taking a holistic approach. So, we talk about our menu innovation, we will continue on that front with the premium product strategy. We think we have more opportunity on the beverage side as well as the breakfast category. And then from a service standpoint, we are putting a lot of effort in improving the service execution, passing at the right levels, getting the right people in place, having the right training programs and so forth. And then on the environment we are very pleased with our re-image program. We are seeing a great benefit from that and so we have about 118 locations completed. So we will continue to roll that out. All that combined, I believe will continue to strengthen our ability to compete in the marketplace and make us more differentiated from the competitors.

Steven Rees - JP Morgan

Okay. Great. Thank you very much.

Operator

Next question comes from Jeff Omohundro with Wachovia.

Jeffrey Omohundro - Wachovia Securities

Thanks. I have got two. First, I am wondering if you could give us just your thinking around the re-franchising gain trends as we look out to ’08. Do you… you think the pace can be sustained next year relative to this year?

Paul L. Schultz - President and Chief Operating Officer

Of the number of restaurants re-imaged?

Jeffrey Omohundro - Wachovia Securities

Yes. No, no, on the re-franchising gain.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Jeffrey- are you referring to the number of or the average gain?

Jeffrey Omohundro - Wachovia Securities

The number of.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Okay. Yes. Actually, we think the number of is likely to increase which is consistent with what we have been saying all along that we have 70 to 80, now we are saying 75, 80 as the year is going on. But we expect that to increase as we go forward with the strategy.

Jeffrey Omohundro - Wachovia Securities

Good.

Linda A. Lang - Chairman and Chief Executive Officer

Jeff, just to share some specifics with you. Probably, back in 2000, the average number of units per operator was around three or four, 2003 was around five and right now we are close to eight on average per operator. And the number of franchise units has increased close to 50%, but the number of operators has increased only about 10%. So we are getting that consolidation. We are selling units to those operators that are proven operators that want to grow their business. We have only had to bring in three. We have only brought in three outside operators actually. And they have come to us. So, we think there is still a strong demand and a good pipeline of franchise operators that are interested in buying our company operations.

Jeffrey Omohundro - Wachovia Securities

Thanks. That’s… that’s helpful. Also moving onto the re-imaging program, just wondered if any more color around some of the trends you are seeing there. For example, is there any difference in dine-in versus drive-through of performance?

Linda A. Lang - Chairman and Chief Executive Officer

Yes. Our plan was… our thinking and our plan, and what we are seeing is that we have capacity at the dine-in. Only 10% of our business is dine-in business right now. We know that the transaction in the dine-in is higher. The profitability is higher than the transaction at the drive-through because they buy… they buy some drinks. So, that’s a favorable trend for us in terms of dine-in business, that we are enjoying a nice sales lift. All the studies, the image studies and customer satisfaction studies that we have done are showing positive results as well.

Jeffrey Omohundro - Wachovia Securities

Thanks.

Linda A. Lang - Chairman and Chief Executive Officer

You're welcome.

Operator

Our next question comes from Joe Fisher from Bear Stearns

Joe Fisher – Bear Stearns

Hi I’m calling for Joe Buckley. Couple of questions, one I wanted to ask you about the impact, or potential impact going forward of the national minimum wage increase given your Texas exposure. And you also mentioned some labor efficiencies in the press release. If you could give us a little color on that?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes the minimum wage, in our markets the California, Arizona, Washington State, we already operate in states that have a state minimum that are significantly higher than the federal mandate. And in fact, in many of the markets that we operate in, those locations that are impacted by the federal mandate, we already pay in excess of what the new federal minimums are. That will clearly have some impact, but it's going to be immaterial even in the next year.

Joe Fisher – Bear Stearns

Okay, and could you speak to the labor efficiencies that you mentioned in the release?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

It's… it really just gets to continued focus on outliers that we have within the labor standards, and managing those as well as also clearly, we get labor efficiency from higher same store sales.

Joe Fisher – Bear Stearns

And was labor actually down year over year in the third quarter?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes, we want to say yes, we don’t typically break out the labor piece here, so.

Joe Fisher – Bear Stearns

Okay, I appreciate it. The other thing you mentioned in the release I wanted to ask you about was the profit improvement programs. Could you give us an idea of what those entail?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes, they range from things such as optimizing packaging, looking at different costs, for cups as an example, looking at the size of the cups we may use in our grains, looking at that versus competition, looking at the size of the products, looking at expanding the vendor base so that we get competition within the vendor ranks for price swapping out vendors when that makes sense. There’s a whole host of issues.

Joe Fisher – Bear Stearns

Okay. And is that something that you’ll continue, you’ll see ongoing benefits from an initiative like that or basically are these things you’re just now looking at.. beginning to look at or has this been several quarters now?

Linda A. Lang - Chairman and Chief Executive Officer

It’s been an ongoing effort. We have a whole team against this, looking at opportunities to improve the margins. I would say, we stepped up that effort quite significantly given the commodity cost environment. So they will be ongoing, they’re not one time changes. We look at everything from product specification, ingredients, recipes, portion sizes, there’s quite a long list that we’re working on.

Joe Fisher – Bear Stearns

Okay, great, just one more. It was mentioned earlier, G&A ex the insurance recovery was still down. Do you expect it to be down in dollars year over year again, in the fourth quarter?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

We had targeted our G&A costs to be flat for the full year. And we still think that we are on target for that to happen, Joe.

Joe Fisher – Bear Stearns

Okay great thanks a lot.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you.

Operator

Our next question comes from Stuart Fredo with Hunter Global.

Stuart Fredo – Hunter Global

Yes, Jerry, just a question related to that SG&A commentary. How much of the savings of the re-franchising are pouring through today into the SG&A and when you think out two to three years as you continue to re-franchise, is it possible that SG&A absolute dollars could be flat to down from here?

Jerry P. Rebel – Executive Vice President and Chief Financial Officer

SG&A dollars, exclusive of the advertising cost which is going to be flat as a percentage of our sales.

Stuart Fredo – Hunter Global

Right.

Jerry P. Rebel – Executive Vice President and Chief Financial Officer

The G&A cost quite honestly will have to be down over time as we continue with the re-franchising strategy. And in fact we’ve made great progress over that last couple of years, particularly out in the field.

Stuart Fredo – Hunter Global

Okay so, as we model without a couple of years we get to a new Company owned restaurant number, I mean that SG&A number should go down kind of in step with lower Company owned units, right?

Jerry P. Rebel – Executive Vice President and Chief Financial Officer

It will go down over time, it’s more a step function increase. So you are not going to see it go down with every restaurant that you sell, but you will see it go down as you sell a chunk of restaurants.

Stuart Fredo – Hunter Global

Okay. And the deals that you are looking at now for re-franchising are those… I mean you just take the Houston market, I know we did 14 in Houston. I know we did Hawaii about a year ago. I mean, are the deals that you are looking at now are starting to get a little bit chunkier and we’re selling larger groups of stores.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yeah, I’d say that there are more of those larger groups of store deals within the mix.

Stuart Fredo – Hunter Global

Okay.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

But we are still selling restaurants whose existing operators that look like you know four, five, six, seven restaurant at a time also.

Stuart Fredo – Hunter Global

Okay. And then as you re-franchise these units, what kind of development agreements are you getting? For example, like the guy that buys the 14 stores in Houston, what kind of commitment does he make to build new units?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

We do development agreements with every sale where it’s practical to do so. The whole idea of course is to grow the franchise base as quickly as possible. So, wherever it’s practical and feasible to tie it to a development agreement, we do so.

Stuart Fredo – Hunter Global

Okay, so ultimately should we… what kind of unit growth should we look for in Jack in the Box, kind of percentage wise over in the next whatever, two to four years? I mean kind of 3% to 5% kind of unit growth or is that too high?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Well we’ve been doing about 2.5% unit growth here before. And what we said is that the… we want to bring the franchise unit development up to be about 50% of the total unit development. And they’re going to be about 33% of that this year. So, we don’t intend to accelerate company unit development at all. But we would expect franchise to increase somewhat to be on page with the company over time.

Stuart Fredo – Hunter Global

Okay and then just one last question. It doesn’t look like you bought back any stock in the quarter. Is that right?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

We did not.

Stuart Fredo – Hunter Global

Okay, what are you thinking about share repurchases from here?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Well we still have $100 million authorized from the Board and our credit facility still has just under $300 million worth of powder out there.

Stuart Fredo – Hunter Global

So, it’s just a question of price or cash flow or what’s driving that decision?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

It is, we’ll look at this opportunistically, and we just have not disclosed in the past when we plan to be in the market, other than for the Dutch tender that we had last year.

Stuart Fredo – Hunter Global

Okay. Thank you.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you.

Operator

Thank you. Your next question comes from Dean Haskell with Morgan Joseph.

Dean Haskell – Morgan Joseph & Co, Inc.

Good morning, thank you. Can you give me the number of stores, company owned Jack in the Box and Qdoba and then for each of the franchise brands as well.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Sure Dean, the total Jack in the Box system is 2,107. Franchise locations are 667 as of the end of third quarter. And for Qdoba 371 restaurants, 288 of which are franchise.

Dean Haskell – Morgan Joseph & Co, Inc.

Okay. And Quick Stuff, doesn’t seem like there is a lot of development going on there. Have you ceased development in that area?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

We haven’t ceased it, Dean, but we have talked about slowing that as we are testing food service and other opportunities to increase the sales line there. They are still profitable, but before we continue with further development in a significant way, we want to improve the unit economics there.

Dean Haskell – Morgan Joseph & Co, Inc.

Has the volatility in gas prices have any impact on that decision or--?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

No.

Linda A. Lang - Chairman and Chief Executive Officer

It’s really, the decision was driven more by the increase in the construction costs, the development costs for the fuel price.

Dean Haskell – Morgan Joseph & Co, Inc.

Okay, thank you very much.

Linda A. Lang - Chairman and Chief Executive Officer

Thanks Dean.

Operator

Thank you. [Operator’s Instructions].

Our next question comes from Harry Dumas [ph] with King Street Capital; you may ask your question.

Unidentified Analyst

Thanks. I’ve got a couple in here. Just starting with some of the re-franchising questions. Obviously you’ve bought some Qdobas back, as you answered. Is that something that you can sort of look at opportunistically to buy them back? Is that also something that considering that’s more of a franchise brands that you ultimately plan on probably just re-franchising those as well or is that something that just happens to be in the market where you for whatever reason feel that you need to own it.

Linda A. Lang - Chairman and Chief Executive Officer

Yes. It was really more opportunistic, in that particular deal. We haven’t really brought any at all. In fact I don’t believe we have bought any back franchise. And even if we did, it's been just very few. So, but we continue to develop Qdoba as a predominantly franchise brand in the 80% plus with a couple of markets… a few markets that we have gone in and developed as a company market.

Unidentified Analyst

All right. Is this… can you tell us where you brought that… bought the restaurants?

Linda A. Lang - Chairman and Chief Executive Officer

In Western Michigan.

Unidentified Analyst

Western Michigan, okay. The… just another question on re-franchising. Obviously, if you go back a year, a year and a half ago when you started this, you were one of the few that had a extra ton of company owned restaurants. Now you take a look at what’s going on with Applebee’s, obviously my hope is [ph], as we said we are going to re-franchise as many of these as we can. If you look at what’s going with Brinker, they are in the process of… unlike you guys, they can’t seem to run their restaurants for positive comps, so they are in the process of selling those off. Have you… have you found in any of these cases that some of the people you are talking to or sitting there going, wait a second now, I got a whole bunch of other concepts that I can think about now or do you think that you are dealing with a separate group of people?

Linda A. Lang - Chairman and Chief Executive Officer

Yes. I think it’s a separate group of people. And as I mentioned earlier, the majority of the deal comes in Jack in the Box operators and they are very interested in increasing their Jack in the Box ownership, that’s the number of units. So it's a different operating model. Our operators want to be in the Jack in the Box business. They love the brand. They know the business model. So, there’s a lot of demand. They are not out there looking at Applebee’s or Chilly’s or anything.

Unidentified Analyst

Right. And if I… just moving on to your remodels, obviously that’s been looks like its been successful by all means. If you sort of go through that… the math on that, it looks like you are just sort of backing into a number where same store sales if your… if your overall business Jack in the Box is up where it was. But same store sales of those restaurants, the remodeled restaurants probably would have had to have been up sort of mid teens. Is that a fair assessment on what’s going on there so far? Meet your criteria and to get your numbers that you have got.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

It’s… it’s not fair to look at the thing in terms of a 7% same store sales for the Company in total and then looking at, if they're out on sale [ph], they must be up low to mid teens there. What you really need to look at is those restaurants in those markets that… and how they were performing prior to their re-image and where they are now and what their growth patterns were prior to the re-image and what they are now. So, not all of our markets are performing exactly the same as the system average, obviously.

Unidentified Analyst

Sure. But I guess one can assume that the re-imaged restaurants, were they to meet your hurdles, would have to perform better than your average?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes. That’s a true statement.

Unidentified Analyst

Okay. Well last question here, and maybe I am just confused on this. Obviously, you don’t live in a vacuum, you look at what’s going on in the market today. The people seem to have not enjoyed your performance for whatever reason. And I would guess it is because you have lowered your fourth quarter consensus estimate down. If I go back to last fourth quarter of last year, and strip out the sort of $0.25 gain they had to get to $0.70, what I would just call operating EPS and your range is $0.72 to $0.76 this year and yet you have your shares, obviously some more debt and 4% to 5% comp out there for the quarter. What… what am I missing? Is it just that the 4% to 5% is just right on the cusp of the operating leverage and therefore you just don’t get any operating leverage given the commodity cost gains. And therefore real growth is effectively zero and the lower shares just contribute to a few extra cents or am I missing something else?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

The story there is food costs. While we don’t think beef is going to be as high as it was in the third quarter, we are still forecasting food cost to be higher than what it was last year, and fairly, fairly significantly. So, although not as 210 basis points.

Unidentified Analyst

So you are getting some leverage but it's extremely low and relative to last year on the food… I guess another way to say it is, in order to get any leverage on the bottomline you need sort of 5% plus on the topline.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

No we are going to get leverage on costs that are anywhere above 2% or 3%. But clearly, there is… it's not a straight line improvement from say 3% to 4% to 4.5% as it is from 3% to 7.4%. So, it really turbos up on the leverage, when you get above that 4% to 5% range. But, we still get leverage and we expect to get some in the fourth quarter from that 4% to 4.5% same store sales growth.

Unidentified Analyst

Okay, so let me… again, maybe I am just being stupid here. If I strip out the gain on sale from Hawaii last year, your earnings were $0.70 a share, right?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Correct.

Unidentified Analyst

And your range here is $0.72 to $0.76, right? That’s what you put out there for this year, this fourth quarter?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Correct.

Unidentified Analyst

That’s in your release. So… and you certainly have fewer shares outstanding this year than you did last year?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Right.

Unidentified Analyst

Again, some more debt. So if you were at $0.70 last year, you are $0.72 to $0.76 this year and you are getting positive leverage, obviously you don’t have any gains, I would hope you have no gains embedded into that $0.72 to $0.76 from any sales potentially, is that correct?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

No, we have gains in that.

Unidentified Analyst

You do have gains in there?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Right, but we had more gains than... the Hawaii was put out separately last year because that was...

Unidentified Analyst

So large?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

A large deal. We had gains in the fourth quarter last year that were in addition to the Hawaii gains.

Unidentified Analyst

Right. I guess...

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

This year also.

Unidentified Analyst

Right. If you compare the gains ex Hawaii last year versus the gains this year? Could you... I guess what I am trying to get at is, just from a pure operational basis, what do you think earnings are going... since you gave out the guidance… what do you think earnings are going to be up, fourth quarter to fourth quarter, so I get a sense of just how much leverage you are getting off the 4 to 4.5%.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Yes you look at… well, let me answer it in two ways. If you look at just the fourth quarter and you want to strip out all the gains in both years, we are going to be within that range, we are going to be flattish from where we were last year.

Unidentified Analyst

Okay.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Where I am not getting, is the point of no leverage. We are getting leverage from the increased same store sales. But we are giving is back with respect to the Tucson [ph] piece.

Unidentified Analyst

Right, which was sort of… I guess that was the point of my question which was trying to figure out, so you do gain SG&A leverage obviously, but in order to really overcome the food costs that we are seeing now, you really need to be 5% or above basically.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Fair, fair point.

Unidentified Analyst

Yes, that’s what I was trying to get at ultimately it's just the..

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

You mean more than a 4% to 4.5%.

Unidentified Analyst

Right.

Linda A. Lang - Chairman and Chief Executive Officer

That’s a valid point.

Unidentified Analyst

Yes okay. So all right.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

You are spot on.

Unidentified Analyst

Okay, great, I appreciate it, thank you.

Linda A. Lang - Chairman and Chief Executive Officer

Thank you.

Operator

Our next question comes from Paul Westra with Cowen & Company.

Paul Westra - Cowen & Company

Great, thank you. Hi good morning to all of you guys. Follow up question, maybe a little bit to the question you just answered on the margin outlook. Linda, you said 1.2% pricing through this quarter and what you expect to be in the fourth quarter, and if that’s correct, are you thinking about moving that up? We are seeing a lot of higher pricing elsewhere.

Linda A. Lang - Chairman and Chief Executive Officer

We are evaluating our pricing at this moment. So we are out there doing surveys and stuff like that, looking at opportunities that are in the pricing.

Paul Westra - Cowen & Company

Are you testing in certain locations, and if so, are you getting any sort of push back at a higher level?

Linda A. Lang - Chairman and Chief Executive Officer

We'll be out in the market… we are always testing pricing scenarios some more aggressive than others. So we will evaluate those results.

Paul Westra - Cowen & Company

So do you see any perpetually high food costs like we are seeing here in the second half of your fiscal year, you might still have that lever to pull?

Linda A. Lang - Chairman and Chief Executive Officer

Yes.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

I think Paul, it's fair to say that we are not going to sit here and let food cost continue to impact operations the way they did here in this short term, looking out at the fourth quarter. So we will, I think Linda mentioned earlier, be taking a much more aggressive look on margin enhancement opportunities than what we typically do. And we’re pretty aggressive on it typically and we’re also looking at pricing opportunity. So we’re going to manage through it versus having it manage us.

Paul Westra - Cowen & Company

Okay. And sort of related question, if you look at just the spot prices of some of the different series out there that we look at, it didn’t seem as though ground beef was up substantially. I know the buying mechanism… nothing’s changed in the way you acquire or mix or purchase your beef… term basis for the fiscal year?

Linda A. Lang - Chairman and Chief Executive Officer

Paul, you are kind of cutting out.

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

Sounds like you’re in a bad cell phone commercial.

Paul Westra - Cowen & Company

Sorry about that. When we look at the spot pricing, at least, the series we look at for ground beef, it didn’t look as though… at least, the series we were looking at, that ground beef was up so substantially. I was curious if you had changed or… I know the mix shift separately, but in your purchasing or way you acquire or mix beef has changed substantially?

Jerry P. Rebel - Executive Vice President and Chief Financial Officer

No, the way we’re buying it has not changed substantially. The big change for us and I think, if you're looking at the beef prices in general, I would tend to agree particularly on the lean portion, which has been fairly consistent on a price per pound over the course of this year. The real driver for us has been in the fat trimmings, which is, which just jumps around rather dramatically, from a low of… the low $0.47 range up to over a $1 a pound at various times during this past quarter, $0.30 being earlier in the year, $0.40 being earlier in the year. But we expect that to come down. But in the fourth quarter, like I said there’s a $0.55 to $0.60 a pound range. But still higher by about $0.10 a pound or so than what we typically see.

Paul Westra - Cowen & Company

Okay, and if you don’t mind, one last question. On Qdoba, I know you didn’t give too much color, but if you can give us a little bit more, I mean comps seem to be pretty consistent and solid at that 4% level. But I was wondering if you can just give your overall confidence level on the brand and your regional performance differences, new or old markets performance differences. And the question on development there as well. It seems that this year, you're much stronger seasonally developed in the first and fourth quarters. Should we expect the same for next year.

Linda A. Lang - Chairman and Chief Executive Officer

Yes. Overall it continues to do well. We’re not seeing any big regional differences and performance is still strong, strong comp. In terms of development, they did a very good job of kind of building a stronger pipeline and making sure that we get our franchisee's development agreement met and the timing more predictable. So yes, we’re kind of moving out that development cycle and feel good about next year as well.

Paul Westra - Cowen & Company

And as we look out to next year, should we be thinking roughly the same percentage growth, roughly the same absolute numbers or… can you give us any--?

Linda A. Lang - Chairman and Chief Executive Officer

You’ll hear more about that in November.

Paul Westra - Cowen & Company

I guess worth a try. Thank,s okay.

Linda A. Lang - Chairman and Chief Executive Officer

Worth a try.

Operator

And our last question comes from Joe Fisher with Bear Stearns.

Joe Fisher – Bear Stearns

Hi, thanks, I just wanted to follow up on something earlier, I believe you said 10% of sales were coming, were dine-in sales, is that correct?

Linda A. Lang - Chairman and Chief Executive Officer

Currently that’s about right.

Joe Fisher – Bear Stearns

And that doesn’t include, if I walk in and take in to go, right?

Linda A. Lang - Chairman and Chief Executive Officer

That’s carry out, yes.

Joe Fisher – Bear Stearns

So, about what percent goes to the drive-through, can you tell us about that?

Linda A. Lang - Chairman and Chief Executive Officer

About 70%, close to 70%, carry out.

Joe Fisher – Bear Stearns

Okay. And so, with all of the many innovations, the premium I assume these are a little bit complex, have you noticed any slowing of the average drive-through time.

Linda A. Lang - Chairman and Chief Executive Officer

Lately, but not significantly.

Joe Fisher – Bear Stearns

Okay, great, thank you.

Linda A. Lang - Chairman and Chief Executive Officer

You’re welcome.

Operator

Thank you. And we’ll turn that back to Linda Lang for closing comments.

Linda A. Lang - Chairman and Chief Executive Officer

Great. Thank you for your questions and thank you for joining us this morning. Goodbye.

Operator

Thank you for attending today’s conference. You may now disconnect.

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Source: Jack in the Box F3Q07 (Qtr End 6/30/07) Earnings Call Transcript
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