Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

O'Charley's Inc. (NASDAQ:CHUX)

Q1 2008 Earnings Call

May 14, 2008 11:00 am ET

Executives

Gene Marbach - IR Makovsky & Co.

Gregory Burns - Chairman and CEO

Larry Hyatt - CFO

Analysts

Bryan Hunt - Wachovia Securities

Christian Hoffman - Lehman Brothers

Jason Walter - Wachovia Securities

Stephen Anderson - MKM Partners

Tim McDowell - Group G Capital Partners

Operator

Good morning ladies and gentlemen, thank you for standing by. Welcome to the O’Charley’s Inc. first quarter 2008 earnings conference call. During today’s presentation all parties will be in a listen-only mode. Following the presentation, the conference will be open for a question. (Operator Instructions) This conference call is being recorded today Wednesday, May 14, of 2008. I will now like to turn the conference over to Gene Marbach. Please go ahead sir.

Gene Marbach

Well thank you Marie. Good morning all, and thank you for joining O'Charley's, Inc. Fiscal First Quarter 2008 Conference Call. On the call today are Gregory Burns, Chairman and Chief Executive Officer; and Larry Hyatt, Chief Financial Officer.

The order of business this morning will be some brief prepared remarks from Greg and Larry about the first quarter and the outlook for 2008 and then we’ll open the call to questions. In the time allotted, we will take as many questions as possible.

Before we would begin, I would like to note that certain statements made by O'Charley's management on this call, may be deemed to constitute forward-looking statements made pursuant to the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. These forward-looking statements maybe affected by certain risks and uncertainties, including risk described in the Company’s filings with the Securities and Exchange Commission.

In light of the significant uncertainties inherent in the forward-looking statements included in the Company's comments you should not regard the inclusion of such information as a representation that its objectives, plans and projected results will be achieved and the Company's actual result could differ materially from such forward-looking statement.

I would now like to turn the call over to Mr. Gregory Burns, Chairman and Chief Executive Officer of O'Charley's. Please go ahead sir.

Gregory Burns

Thank you, Gene. I want to welcome our many shareholders and team members to our first quarter conference call. First of all we are obviously disappointed in our sales in all three concepts for this quarter. As pointed out in our earnings release this morning we had a much larger number of winter weather occurrences this quarter versus the same quarter last year, which had an impact on all three concepts. In fact parts of Ninety Nine New England market had record amounts of snow. Additionally should be noted that Ninety Nine was up against stronger center house sales increase of 2.7 in the first quarter of 2007.

Tennessee’s smoking ban also significantly impacted our sales in Tennessee where we have a largest concentration of O'Charley's restaurants. While most states in which we operate have an active smoking ban. Tennessee is highly unusual business impacted as it allows many restaurants and bars to continue to allow smoking if all of their customers are 21 and over and finally, as we point out in this morning’s release sales at Ninety Nine were negatively impacted by our calendar shift to school vacations between quarters.

There is no doubt however that the most significant drag in this quarter sales performance is a downturn in the economy. A lot of the experts and tenants continue to argue over whether or not we are in a recession. However, if you ask our gas and our team members which I have, they will tell you that increase in the higher gasoline prices, the increase in the grocery store bills, the decrease in the equity in their homes and then generally negative economic and political news are all weighing heavily on their mind and is affecting their discretionary spending.

While we all know that the consumer is not going to start eating they are certainly not going to look for -- they are certainly going to look for opportunities to minimize their costs but still get the best price value. I think that this is reflected in the recent news that Wal-Mart and Casco are showing better sales trends in other retailer like to Target and JC Penny. I also want to point out that these comments regarding the weather and the economy are not excuses, but our opportunities that we need to pursue through our marketing and communications programs, our re-branding projects and in the execution of our restaurants.

While we are not in the practice of releasing multi-sales information I think it is worth while to note that we experienced record and near record sales in all three concepts this past week end at on Mothers Day in particular. Stoney River had an all time record days on Mother’s Day sales. These strong sales probably reflect on the economic environment where consumers are looking for recent approach as a product or to eat and celebrate at a restaurant.

On the other hand, I think the sales performance also reflects our focus on a passion to serve by our management teams and key members and on raising the bar on execution, the quality of our food and the offerings on our menus. I will also note that -- I will also tell you that we’ve seen an improvement in gift satisfaction scores over recent months. These scores are a leading indicator for future sales improvement and finally, although it’s certainly too early to draw our conclusion, we have seen a recent improvement in sales trends.

As you would expect during these difficult times members of senior management team, including myself, are spending considerable time visiting our restaurants and talking with our people. In late February and in early March, we had two extremely energizing operations conferences. These conferences included a frank discussion of the environment and our expectations for performance improvement.

In the past several weeks, I have visited the Atlanta and Lexington, Kentucky markets for the O'Charley's and the Cape Cod market for Ninety Nine. In Atlanta where the project revolution re-brandings are underway we are experiencing positive same store sales reaction and excitement from our guests and more importantly our team members.

There is no doubt that both groups believe that we have polished the brand not only from an appearance standpoint, but from the execution service levels as well. In Lexington, Kentucky a market, which we have not branded, I also experienced positive feed back from our guest and team members regarding our menu and food quality.

In our Cape Cod Ninety Nines I had similar experiences. Each restaurant’s that have been recently rebranded under Project Dressed to the Nines are clearly a much more polished version of the Ninety Nine. Guest and team members went out of their way to share their excitement with me. However in all of these conversations, you know instantly that the economy is ever present on their minds.

And finally, at a recent gathering of the 16 top performing General Managers from all three concepts called the Chairman's Club we got great feedback on our plan, ideas on how to improve sales, opportunities to increase margins as well as things they would like to see further emphasis on. All this is anecdotal, my conclusion for this meeting is that the leaders in our restaurants understand the economic challenges and that means we need to execute our business plan, ensure we’re marketing the great price value at all three concepts and operate to headcount of all those concepts.

In this morning’s release, we described a number of promotions or limited time offers that were underway during the first quarter and some which will occur more aggressively going forward. We have some exciting new products in all three concepts, which we will be -- which will be introduced in the second and third quarters as a result of our culinary teams working closely with our supply chain.

It’s worthy to note that the May 5 issue of Nation's Restaurant News featured the Menu Masters Awards which honor extraordinary research and development work in our industry. We’re proud that the O’Charley’s was chosen under the Menu Revamp category. As you can also note in the release we are expanding our media vehicles to get the message out about the great new food and value at all three concepts.

While a moment ago I mentioned our rebranding project of both O'Charley's and Ninety Nine. This morning in our press release, we noted that even in this difficult sales environment we are encouraged that the 13 Project RevO'lution restaurants in Indianapolis which were not impacted by the phase out of KG3 had same stores sales performance in the first quarter that exceeded the rest of the O'Charley's concept on almost five percentage points.

Additionally, the 31 Dressed to the Nines rebranded 2007 had positive same stores sales in the first quarter. We are certainly pleased with these results. However, today we announced a major reduction in the number of rebrands we completed this year from a 110 to 80 or less and an overall reduction of approximately 25% in our capital expenditure plans for the year. This change in our capital plan also includes a reduction in the number of new restaurant originally planed to be built in 2008 to a total of seven restaurants.

While we continue to see favorable result in these re-branding initiatives, we thought it would be prudent in this challenging sales and economic environment to reexamine our rollout plans for the remainder of the year. The reductions in re-branding for 2008 will not significantly impact the success of the long-term strategy.

We may make further adjustments to our capital plan along the way pending further changes in the economic environment, but we continue to have the goal for substantially completing these initiatives by 2010. Along with our disappointment in sales, certainly we not pleased with our operating margin for the quarter. For most of 2007, we saw improvements in operating margin in a number of categories, the deterioration of sales in the fourth quarter of last year and the first quarter of this year was a primary factor in the decline of our margins.

With an improvement in sales, I expect us to do better. We are looking at every opportunity to improve margins without negatively impacting our people or our guests. Our supply chain has been able to minimize the effect of the higher commodity costs across all three brands.

Our outlook for the reminder of 2008 reflects our continued concern about the economy and its negative effect on our guests. Many people believe that the second half of the year will be worst than the first. I tend to believe the best marketing though is what we do with in the four walls of our restaurants. We will go for faster execution and a great menu and service offerings at the same time we are going to work even harder on improving margins at our restaurants.

Our long term strategies and initiatives continue to be directed around three key elements, build a wining team, improving the box economics and enhancing guest satisfaction. Despite the distractions of the worsening economic environment we are focused on improving our recruitment of the very best talent, improving our training programs and our leadership development, reducing cap expenditures at our new and re-branded restaurants as well as making the box more efficient and looking for new ways to enhance to get experience even further.

We believe in the strength of our three concepts in our long-term business plans. Two years ago, we implemented our long-term plan to polish the O’Charley’s Ninety Nine brand and strategically eliminate Kids-Eat-Free at O’Charley’s as the program no longer was consistent with where we wanted to position the brand and while we will make some mid-course adjustments along the way we will not stray from these strategies and plans.

Eventually, these times will pass, the economy will improve and our concepts will reap the benefit. Our confidence in our long-term plan is reflected in our repurchase of an additional 1.5 million shares of common stock. We believe our shares represent and attractive value at current prices.

I continued to be very proud of our 24,000 team members and what they do everyday to make our company successful. Thank you for your dedication and hard work. Now, I’m going to turn it over to Larry for comments on our financial performance for the first quarter and our outlook for the current fiscal year. Larry?

Larry Hyatt

Well, good morning everyone and thank you Greg. I would like to discuss our financial performance for the first quarter of 2008; some items that impacted that performance, and our outlook for the current fiscal year.

For that first quarter of 2008, revenue declines 4.9% to $297.5 million from $312.9 million in last year’s first quarter. Same-store sales at our O'Charley's restaurant decreased by 4.7%, which was a result of an increase in average check of 3.6% offset by a decrease in guest counts of 8%, average check for company operated restaurants in the first quarter was $12.97.

Average, weekly sales per restaurant was $51500 in the quarter compared with $54000 in last yea’s first quarter. For Ninety Nine, same store sales decreased 2.2% in the quarter which was the result of a 3.8% increase in average checks offset by a 5.8% decrease in guest count.

Average check for Ninety Nine in the first quarter was $15, average weekly sales per restaurant was $51,600 in the quarter compare with $52,800 in last year’s first quarter. For Stoney River, same store sales declined 3.2% in the quarter, as an 8.3% increase in average check was offset by a 10.7% decline in guest counts.

Average check in the quarter was $47.59. Average, weekly sales per restaurant was $75,400 in the quarter compared with $78,900 in last year’s first quarter. During this first quarter of 2008, gift card redemptions at our three restaurants concepts totaled $13.5 million, a 6.4% decrease in such redemptions compared to the first quarter of 2007. Our income from operations in the first quarter was $8.6 million or 2.9% of revenue. In comparison, our income from operations in the first quarter of last year was $14.6 million or 4.7% of revenue.

A number of factors contributed to our margin performance in the quarter. Our cost of food and beverage was $87.7 million or 29.5% of restaurant sales in the first quarter compared with $89.9 million or 29.1% of restaurant sales in the first quarter of the prior year. This increase in food and beverage cost is a percent of sales reflects the impact of higher cost for dairy products, poultry and wheat products partially offset by lower cost for seafood and lower distribution cost due to the restructuring of our supply chain in 2007.

As we have previously discussed with you for the balance of the current fiscal year we have locked in our pricing for over 95% of our estimated requirements for beef and poultry and over 90% of our requirements for pork and almost half of our requirements for seafood. Using a constant product mix we expect our 2008 pricing to be between zero and 1% higher for beef and pork between 8% and 9% higher for poultry and between 4% and 5% lower for seafood than the average prices stayed for similar products during 2007.

Our restaurant level payroll and benefit cost were $101.6 million with 34.2% of restaurant sales in the first quarter of 2008, compared with $104.5 million or 33.8% of restaurant sales in the first quarter of 2007. The impact of reduced guest counts on labor productivity, higher average weight rate and increases in worker’s compensation expense contributed to this 40 basis point change.

Our restaurant operating costs in the quarter was $58.5 million or a 19.7% of restaurant sales, compared to $56.8 million or 18.4% of restaurant sales in the first quarter of the prior year. Increases in utility costs and insurance expense combined with the de-leveraging impact of reduced sales on ramped and other fixed costs accounted for most of this 130 basis points change.

Advertising expense was $11.3 million or 3.8% of revenue in the first quarter of 2008, compared with $10 million or 3.2% of revenue in the first quarter of 2007. This increase reflects the advertising support for the re-branding initiatives, as well as a higher level of ongoing advertising spending in the O'Charley's concept. Our general and administrative expenses in the first quarter of 2008 were $13.6 million or 4.6% of revenue compared with $16.3 million or 5.2% of revenue in the first quarter of 2007. A number of factors contributed to this $2.7 million or 60 basis point improvement.

A change in the value of deferred compensation balances due to the investment performance of participant’s self-directed accounts reduced G&A expenses by $0.8 million in the quarter, which was offset by an increase in interest expense of the same amount. Based upon our financial performance in the quarter and our current forecast for the year, bonus accruals were $0.7 million lower in the quarter than in the prior year quarter.

Additional G&A reduction in the quarter came from our organization changes in late 2007 and tight control in more spending category these savings were partially offset in the quarter by $0.6 million or $0.02 per dilute share for legal and advisory expenses incurred in connection with the threatened proxy contest and related Settlement Agreement with a shareholder. For the purpose of calculating the EPS impact of this and other individual items. We have used the Company's estimated marginal tax rate.

Expenses relating to the Company's re-branding initiatives reduced income from operations in the quarter by $2.9 million and reduced net earnings by $0.08 per diluted share. These expenses include depreciation expense of $2 million, which includes the accelerated depreciation of assets removed from service and the depreciation of the new investment. As well as pre-opening expenses of $0.5 million and advertising expenses of $0.4 million.

In comparison, expenses relating to our re-branding initiatives, reduced income from operations in the prior year quarter by $1 million and reduced net earnings by $0.03 per diluted share. Our interest expense for the first quarter was $3.8 million compared with $3.9 million in the first quarter of 2007. As I indicated previously our interest expense increased by $0.8 million as a result of the change in deferred compensation balances.

Otherwise the reduced interest expenses is the results of lower short-term interest rates on the Company’s variable rate debt and lower debt levels do primarily to the pay down of our capital leases. At the end of the quarter we had $1 million of borrowings on our revolving line of credit, at the end of the prior year quarter we did not have any borrowings under the line.

During the quarter we have recorded a gain of 0.3 million or $0.01 per diluted share on the sale of our restaurant that was previously closed. In the prior year quarter, we had impairment and restructuring charges at $0.9 million or $0.03 per diluted share mostly related to our supply chain restructuring.

Based upon our estimated full-year results, we expect our full-year effective tax rate to be a negative 127%, under generally accepted accounting principle we are required to apply our estimated full-year rate on a year-to-date basis in each interim period. We project that our tax credits, which are primarily that’s like a tip credit, and the work opportunity tax credit will be approximately $8 million for the fiscal year. Given our projected pre-tax profit on a GAAP basis, these credits are expected to exceed our tax liability at the statutory rate, which results in our negative tax rate.

In comparisons, the effective tax rate applied to our pre-tax profit in the first quarter of 2007 was 25.3%. Applying the 127% negative tax rate to our pre-tax profit results in net earnings for the first quarter of 2008 of $10.7 million or $0.49 per diluted share, compared with net earnings of $8 million or $0.33 per diluted share for the same period in 2007. Our capital expenditures in the quarter were $14 million including $2.2 million from the restaurant and $7.4 million for our re-branding initiatives.

In comparison capital expenditures were $15.4 million in the prior year quarter, as disclosed in this mornings release the Company has reduced its capital expenditure plans for the current fiscal year and now expects to spent between $55 million and $60 million for capital investments during 2008. We expect to open four new O'Charley's restaurants, two new Ninety Nine restaurants and one new Stoney River restaurant and complete the re-branding of up to 50 O'Charley's restaurants and up 30 Ninety Nine restaurants.

In this morning press release we revised our previously issued guidance to reflect our performance in the first quarter, our current outlook for the balance of the year, the reduced number of re-brandings and new restaurant openings and our estimated tax rate. We now expect to report net earnings for the 2008 fiscal year of between $0.18 and $0.28 per diluted share. Our projected results for the year anticipate expenses of between $0.30 and $0.35 per diluted share related to the rebranding of up to 80 restaurants.

We expect same-store sales declines in all three concepts for the balance of the year. Our guidance for the 2008 fiscal year does not reflect the impact for any additional share repurchases or for organization or other changes that we may made as part of the Company’s transition efforts and with that I will turn the call over to Marry, so that Greg and I can answer your questions. Thank you very much.

Question-and-Answer Session

Operator

(Operator Instructions) and our first question comes from the line of Bryan Hunt with Wachovia Securities; please go ahead.

Bryan Hunt - Wachovia Securities

Yes, thank you. I was wondering if you can give us a dollar amount of the stock repurchased in Q1 and then how much remains available on your RP basket on senior sub notes. Hello?

Gregory Burns

Yes, the dollar value of the approximately 1.5 million shares repurchased in the first quarter is in the $17.5 to $18 million range and the available amount that we have both under the board authorization as well as in the restricted payments basket and the bond adventure and the restricted payments basket and the bank facility is in the $22 million range Bryan.

Bryan Hunt - Wachovia Securities

Okay and then lastly, I was wondering if you just repeat the CapEx number for the quarter and what cash taxes may be for the year? Thank you.

Gregory Burns

Yeah, capital expenditures for the quarter were $14 million which as I suppose is inclusive of $2.2 million for new restaurants and $7.4 million for re-branding.

Bryan Hunt - Wachovia Securities

And what might cash taxes be for the year and I will get back in the queue?

Gregory Burns

Bryan just a second we’ve got the calculators at here.

Larry Hyatt

Bryan it should be around $2.7 million.

Operator

Thank you. Our next question comes from the line Christian Hoffman with Lehman Brothers. Please go ahead.

Christian Hoffman – Lehman Brothers

Same-store sales are down in the 2.5% to 4.5% range in the fourth quarter and the first quarter and you mentioned they would be down for the year. Should we expect kind of the similar trends going forward?

Gregory Burns

As I mentioned this quick variance; as I mentioned, the outlook out there is pretty pessimistic about a lot of folks and I think a lot of it depends on gasoline prices and further commodity prices. This morning I think the CPI came back a little better than what a lot of people expected unfortunately that doesn’t have cash flow in groceries. Yes, I mean right now and I am modeling -- we are modeling about the same kind of trends maybe a little bit better at the O’Charley’s concept to the rest of the year. Certainly that may be what are model is, but we are hopeful that as the economy improves in the second half that we like others in the restaurant business will see an uplift in sales trends.

Christian Hoffman – Lehman Brothers

And would that incorporate kind of 6% to 11% negative traffic offset by pricing or do you anticipate maybe taking additional pricing or traffic improving?

Gregory Burns

We’ve got as I noted this morning in the earnings release, we got a number of programs underway to communicate our price value. We’ve got a number of promotions; I’m very excited about some of the new items that we’ve got compound, where we talk about one in O'Charley's that we think is going to be a very positive reaction for our guest and you’re going to see some price changes in terms of menu mix and some slight price increases and some new menus at O’Charley’s and Nintey Nine that will come out this year, so we looked at it as kind of an overall net; the same kind of trend that we had in the first quarter with some -- as I said, some adjustment and improvement in O'Charley's.

Christian Hoffman – Lehman Brothers

Okay and you mentioned seven restaurant openings; was there any closings planned this year? I’m not sure I caught that.

Gregory Burns

We don’t have any further closing plan this year, I think we noted this morning that we had a closing first quarter.

Christian Hoffman – Lehman Brothers

Okay, so you entered here on 359 or so?

Gregory Burns

Yes.

Operator

Thank you. Your next question comes from the line of Jeff Omohundro with Wachovia Securities. Please go ahead.

Jason Walter - Wachovia Securities

It’s Jason Walter for Jeff. I am just wondering if you could give us an update on the progress of the KDS rollout and if that’s pricing along with the re-brandings or if you are treating that a little bit separately and then also if you could give us anymore color on some of these product initiatives that you are pursuing on O'Charley's whether it’s timing or any other commentary on that actual promotions that we can look forward to in Q1? Thanks.

Gregory Burns

In terms of KDS we are moving forward with that, we have seen both at O'Charley's and Ninety Nine some positive reaction to that, certainly our people in our heart of the house, back in the house are very excited about it. It is helped the quality behind KDS and by-the-way KDS for those listening to the call who don’t know what -- that means, kitchen display systems that were originally started in the fast food business, quick-service business, which now have gone into the more full service area and helped in the food quality, in getting food out and hot food and also speed of service. We are ahead instead of -- we are getting a rollout at Ninety Nine ahead of O'Charley's, but we are moving forward of both of those concepts and over the next 18 months, 12 to 18 months we will that completed. In terms of promotions, we were to describe those in our earnings release this morning. Right now, our promotions cover a number of different things and I just guess would make a slight comment here is that, I think this is an environment whereas you can’t hang your hat on just one item here; there is a number of things that we are doing at both concepts. We are using our menu to promote new products. We have got a new menu coming out at O’Charley’s on August 18. We are doing our Bottomless Bowl promotion that is described in the release today, which has been -- I got be interested at lunch. We have got a new promotion that is coming out here called celebrate -- summer time celebration and we have got some great new products on there and then we have got a new products as I described in the earnings release that we are not going to tell you specifically what the product is because I suggest you go to an O’Charley’s and try it. but we are very excited about that item and that would be given out free along with a meal as we begin that new product rollout. At Ninety Nine, similar type -- well one other things and comments; we are also using in all three concepts EcoBlast. We've signed up a lot of customers through the web, in using the Internet and that’s been increasingly successful and we’re using that to promote a number of items and offers for example during April we have got a $5 after the purchase of 20 to 20 now and then we have the EcoBlast also went out on Mothers Day, add to our concepts and that certainly was a great message. Ninety Nine similar type of things we have got our possibilities promotion that’s going on, which is a bit patient, the majority of the portion has been very successful these kind of a mix or match deal; we have had gift card promotions here during the month -- the Mothers Day dads and also during this graduation period of time we have got to tie into the Red Sox that we had for a number of years that also includes a hamburger that is the official hamburger of the Boston Red Sox, so that’s been a real popular and we've got some new items that are going to be rolling out in Ninety Nine as well. We have been very successful both concepts with the cedar-planked salmon to opio salmon and now we are rolling out at Ninety Nine a scallop promotion on the cedar-planked, so we are excited about that promotion. So that’s just a taste of it and one other item; the lobster roll which is up and running is very popular, that gets rolled out here in the coming days, but again you have to go to the restaurants and try the products and see some the greater profiles.

Operator

(Operator Instructions) and our next question is a follow-up from the line of Christian Hoffman with Lehman Brothers; please go ahead.

Christian Hoffman – Lehman Brothers

If you could talk about food and labor costs just for a moment, saw that food was up about 40 basis points in the first quarter similar to labor, it sounds like you're mostly loss on food costs, so should we expect some more trends with the rest of the year?

Gregory Burns

I will make a comment and then Larrie, he can also add in on the -- because he’d covered some of that in his remarks. On the labor side certainly the de-leveraging of sales had an effect during the quarter and I mentioned the whether in Tennessee smoking banned, some of those things and again and not to make excuses but, when you have whether it is a full concept like we did it’s certainly have -- and we’ve restaurants closed during periods of time that has a huge hit on labor costs, so that was an issue during the current quarter. When we didn’t have some of those destructions we -- our new labor productivity plan, theoretical labor system -- we are pretty darn good, but again the traffic drags that we had during those occurrence certainly hurt us from a labor side. On the fleet side, some of that’s promotion related. We knew in the first quarter, that some of the promotions that we’re going to run are going to have some higher food costs and we were going to have for the rest of the year as Larry and I both described that our supply chain has done a good job on managing the commodity cost, but again when you do some of these promotions, some of the price offs, it does have a negative effect on the food cost.

Larry Hyatt

Yes. Christian to build on a couple of the things that we said in the prepared comments, we’re basically locked in between 90% to 95% of the pricing for beef, for poultry, for pork where about 50% for seafood. I continue to have exposure to the market for some produced items and oils and some wheat items etc. On the basis of what we know now and our anticipated product mix for the balance of the year, we think as a percentage of our restaurant sales, our food cost will probably will continue about at the first quarter level maybe a little lower.

Christian Hoffman – Lehman Brothers

And then towards the back half when minimum wage increases, could you maybe quantify that impact?

Larry Hyatt

We have baked it in to the end to the guidance and we have obviously have incorporated into our forecast. The important thing to keep in mind, when you are in the service restaurant business, that’s the most significant impact of a minimum way change is potentially on the sub minimum wage for servers. It’s just fortunately not impacted by the change in the federal minimum wage, although over the past year has been impacted by some of the changes at the state level. We think our labor costs for the balance of the year in very rough numbers as a percentage of sales is likely to be consistent with our performance that we saw in the first quarter, but it’s important to point out that where food cost tends to be directly variable, labor has more stickiness. So that labor cost as a percentage of sales is far more sensitive to increases or decreases in sales.

Gregory Burns

One other follow up I’ll make on the food side is that and I will make this clear; is that when you look at promotions we trying to balance that we had a broad pricing range. So, that if someone wants to short on the menu or the LTL that they have got lower priced items and they want an item that’s on the higher side for example a stake that we usually put some higher price on the promotion. The other thing that both our concepts have done and where you will see in the rest of this year and on the food side you try to hold a line on product costs is to have some items like a pasta or a salad and you will see that in the next O'Charley's promotion and the next Ninety Nine promotion that you will see some products that will help manage some of the food costs issues with -- against some of the promotional items that we will be doing in terms of price off and things like that, so kind of a balance prospective.

Christian Hoffman – Lehman Brothers

I appreciate the comments, just a follow-up; you might do any sale lease back transactions in the coming quarters?

Larry Hyatt

The answer that -- because it’s been a frequently asked questions always on the land and building approximately 100 of our restaurant most of which are O'Charley's with a few Stoney River’s. This represents an ownership percentage of less than 30% of our company operated restaurant, the rest are subject to ground leases or to land and building leases. If there was value in that real estate portfolio and that gives us considerable financial strength and flexibility. While we have considered sale lease back and the actions combined with a stock buy back it raises a number of issues and a number of concerns. First, our own property tends to be older properties and as a result to tax basis in these properties tends to be relatively low. A sale of all of these properties would create a tax liability that would be a meaningful percentage of our market capitalization. In addition, the indenture governing our $125 million, 9% subordinated notes till 2013, contain covenants that limit our ability to sell assets, pay dividend or repurchase shares. Share repurchases in excess of the amount authorized by the board would not be allowed under the bond indenture, therefore in order to complete the major sale lease back and buyback of shares we would need to -- at a completely restructured balance sheet, which in view of current conditions in the capital market would probably be difficult.

Operator

Thank you. Your next question comes from the line of Steve Anderson with MKM Partners; please go ahead.

Stephen Anderson - MKM Partners

Hi, good morning. Just wanted to look at the franchise; during the quarter one restaurant had opened; is this something you’re continuing to pursue and it has the -- have you noticed like any effect from the credit markets with regards to franchises? Thank you.

Gregory Burns

Certainly, we are continuing to be -- have a strong interest of franchising. The franchise that opened up was the franchise restaurant that was up in Ohio that was a good value enterprise. Certainly, the capital markets are in issue out there today and I don't need to tell the listeners that there is a lot of folks that have seen difficulty in re-franchising restaurants because of that assuming the capital markets improve, which they will I expected to see an improvement in an opportunity to continue to franchise the O’Charley’s concept, but it's certainly going to be a slower going here, restaurants are out of favor but longer-term people will have an interest of becoming franchisees again, especially when capital markets improved.

Stephen Anderson - MKM Partners.

And would you consider re-franchising at all?

Gregory Burns

Certainly, I mean that’s similar opportunity out there in terms of developing the franchise program, their opportunities take adjoining markets and help out on that. Again I think you -- whether you re-franchise or franchisee you need the capital markets to improve and have a franchise partners to have liquidity in strong networks and as well as having experience in the full service and restaurant sector.

Operator

(Operator Instructions) and our next question comes from the line of Tim McDowell of the Group G Capital. Please go ahead.

Tim McDowell - Group G Capital Partners

Good morning guys. First question was on the price increase that you took in Q1?

Gregory Burns

What was the question again?

Tim McDowell - Group G Capital Partners

How much of a price increase did you guys take in Q1.

Gregory Burns

It was in the 2% range, a little less than that and again when we take a price increase, some of that is we are changing some items on the menu, taking some items off, so its not a pure 1% to 2% price increase, there is same related changes in that because you have taken some item out and then you turn around and do an LPO here that’s also reflective of that and so we break out our -- we look at our menu, our menu price increase as well as an item change, overall menu change?

Tim McDowell - Group G Capital Partners

And just to be clear, I know in '07 your prices were up roughly 2% over '06 levels but this is another 2% over '07 levels; is that first of all is that correct?

Larry Hyatt

Yes it is and the fact that in each of our three concepts we had a higher increase in the average check than the increase in the pricing is a result of a number of factors. We obviously have a change in the mix and additionally and particularly in the O'Charley's concept and consistent with the strategy we decided to follow with the space out of Kids-Eat-Free; we actually have a customer mix change.

Gregory Burns

When we look at our pricing here we don’t just a take apparently what we need 2% to cover a commodity; we actually do analysis versus our competitors; we do a mix analysis if we raise price one items versus another. We talked about that running over the couple of years, we’ve been using an outside folks -- an outside group to help us analyze our menu, many in the industry do that. That’s helped us to take a more selective type of price increases, but it is very disappointed that these menu mix changes -- when you take out things like Kids-Eat-Free and run some of the promotions in LTL, certainly we have a affect on giving your overall average price, check increase versus your menu price increase.

Tim McDowell - Group G Capital Partners

Thank you, that’s helpful and just maybe I missed it, did you just highlight whether or not you had further planned increases for the remainder of the year?

Gregory Burns

Yes, we have got some new menus that are coming in both concepts and there will be some adjustment in pricing, really don’t want to get into the details of that because again as I described in the earnings release this morning, we’ve got some pretty strong promotional items coming now and so we will talk about that after those menus, but that’s still -- those are both a little bit down a road here, but there will be some adjustments in menu prices as well as mix.

Tim McDowell - Group G Capital Partners

My last question then is just on the re-branding expenses, I know they were 2.9 for quarter and it looks like you guys are going to spend roughly say $7 million from the year or that’s what estimated from a guidance standpoint. Could you talk about at least for Q1 that the split of those expenses between some of the accelerated depreciation and other things, which are typical add backs versus proved dollars out where you are spending on marketing or advertising or things like that.

Larry Hyatt

Sure. The first thing is that just a point of clarification. As was noted in our prepared remarks when we’re talking about specific P&L items and what the EPS impact is we are doing that calculations based on the Company’s marginal tax rate. So, we have said that we are anticipating that the impact of the expenses relating to the re-brandings in our 2008 guidance is in the $0.30 to $0.35 range per diluted share that is at our marginal tax rate in the range of $10 million to $11 million not to the $7 million to $8 million that you would mention. In any event, we said in the prepared remarks that the expenses relating to the company’s re-branding initiatives reduced incomes from operations by $2.9 million in the first quarter and reduced net earnings by $0.08 per diluted share. These expenses include depreciation expense of $2 million which includes both the accelerated depreciation of assets that are removed from service and the depreciation of new investment. It also includes pre-opening expenses of $0.5 million and advertising expenses of $0.4 million.

Gregory Burns

And then Larry those expenses dropped into the various categories

Larry Hyatt

They dropped into the advertising category, the depreciation category and the pre-opening expense category

Operator

Thank you and management I am sure that there are no further questions. I will turn the call back over to you for closing comments.

Gregory Burns

Very good. Thank you for your interest today. I want to ask you that if you do have any additional questions, Larry and I certainly will be happy to answer those and in conclusion, we understand that the challenges that the economy and our industry face -- we are ready to face them. We are very excited about a lot of the things that we are doing for the reminder of this year; our long-term plans are very good; this economy will improve and we expect to be -- to reap the benefits of that improving economy. We look forward to talking to you after our second quarter results. Thank you very much and hope to talk to you soon.

Operator

Thank you. Ladies and gentlemen that will conclude the O'Charley's Inc first quarter 2008, earnings conference call. We thank you again for your participation in today’s conference and at this time you may disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: O'Charley's Q1 2008 Earnings Call Transcript
This Transcript
All Transcripts