Tim Hortons Management Discusses Q3 2012 Results - Earnings Call Transcript

Nov. 8.12 | About: Restaurant Brands (QSR)

Tim Hortons (THI) Q3 2012 Earnings Call November 8, 2012 2:30 PM ET

Executives

Scott Bonikowsky - Vice President of Investor Relations

Paul D. House - Executive Chairman, Interim Chief Executive Officer, President and Member of Executive Committee

Cynthia J. Devine - Chief Financial Officer, Principal Accounting Officer and Executive Vice President of Finance

Analysts

Phillip Huang - UBS Investment Bank, Research Division

Irene Nattel - RBC Capital Markets, LLC, Research Division

Perry Caicco - CIBC World Markets Inc., Research Division

John S. Glass - Morgan Stanley, Research Division

Keith Howlett - Desjardins Securities Inc., Research Division

Michael Kelter - Goldman Sachs Group Inc., Research Division

Patricia A. Baker - Scotiabank Global Banking and Markets, Research Division

Peter Sklar - BMO Capital Markets Canada

James Durran - Barclays Capital, Research Division

Michael Van Aelst - TD Securities Equity Research

David Hartley - Crédit Suisse AG, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Tim Hortons Q3 2012 Earnings Conference Call. [Operator Instructions] Please be advised, this conference is being recorded, Thursday, November 8, 2012. I would now like to turn the conference over to Scott Bonikowsky, Vice President of Corporate, Public and Government Affairs at Tim Hortons. Please go ahead.

Scott Bonikowsky

Thanks, operator, and welcome, everyone, to Tim Hortons' 2012 Third Quarter Conference Call. We released our results earlier this morning before the market opened. And to access our earnings material and the presentation supporting today's discussion, visit our Investor Relations website at timhortons-invest.com and click on the Investor Presentations tab. And we'll have this material up on the site for approximately 1 year.

Paul House, our Executive Chairman, President and CEO; along with Cynthia Devine, our Chief Financial Officer, will be joining the call this afternoon. We'll be pleased to take questions after our prepared remarks.

Please note that we may provide forward-looking statements or information this afternoon within the meaning of the Private Securities Litigation Reform Act of 1995 and Canadian securities laws, which include discussions about future performance, results and outlook based on our current expectations and information. Forward-looking statements are based on a number of assumptions. They contain risks and uncertainties, and our actual results could differ materially from these statements.

Please refer to the company's 2011 annual report on Form 10-K filed on February 28 this year and our quarterly report on Form 10-Q expected to be filed later today, which will include detailed information regarding risks and uncertainties which could impact our ability to perform as expected, as well as material assumptions underlying the expectations described in our forward-looking statements. Please read our full Safe Harbor statement on our Investor website and in our presentation supporting today's call.

All Tim Hortons results, I'll remind you, are presented in accordance with U.S. GAAP and reported in Canadian dollars unless we note otherwise. Today's discussion and the supporting presentation include a non-GAAP financial measure, adjusted operating income. Reconciliation of the non-GAAP measure and its most directly comparable GAAP financial measure and other information relating to our use of the non-GAAP measure is included in the presentation.

So with that, I'm going to turn the call over to Paul House, Executive Chairman, President and CEO of Tim Hortons. Paul?

Paul D. House

Well, thank you, Scott, and good afternoon, everyone. In the third quarter, we continue to execute our strategies to drive growth. While we faced significant macro-level challenges, we've made good progress in a number of key areas.

We continued our long-term track record of delivering growth in the quarter, including growth in earnings per share.

Our same-store sales growth for the third quarter was 1.9% in the Canadian segment and 2.3% in the U.S. segment. Growth was driven by gains in average check, resulting from a series of menu, marketing and operational initiatives and pricing that was previously in the system. While we were pleased to see the continuation of our long-standing track record of increasing same-store sales, our growth rates were below those we have typically delivered in recent years.

Moderate growth was seen across many of our peers in the North American restaurant industry who have reported in recent weeks, reflecting sluggish economic recovery and fragile consumer confidence. To illustrate, among many challenging economic indicators, recent data indicates that Canada experienced a slight GDP contraction in August. In times like these, a couple of things happen. Consumers tend to be more cautious in their discretionary spending and competition intensifies as everyone seeks to grow in a low-growth environment.

One result we saw this quarter was an increase in promotional activity by a number of companies. We also had a busy promotional calendar during the quarter. Greater emphasis have been placed on value to enhance our appeal to price-conscious consumers. I believe Tim Hortons is well positioned to compete and succeed in this environment. We are not standing still. We are pursuing several initiatives to adapt to the circumstances and to continue to grow sales.

First and foremost, we continue to execute on the guest experience, which means providing great value. For example, we recently promoted Café Mocha, lattes and French Vanilla for $1. We are also rolling out new menu items. We're taking steps to improve existing restaurant capacity, including selectively targeting restaurant development where there are capacity constraints. We expect some of these initiatives will begin contributing in the short-term, while others are longer-term in nature.

As far as restaurant openings, we had a productive quarter, opening 44 new restaurants in Canada and 22 in the USA. Our master licensee in the Gulf Cooperative Council, Apparel Group, opened 7 new restaurants, taking us to 18 in that market by the end of the quarter. We expect, as always, the fourth quarter to be another busy period for restaurant development. Together with our restaurant owners, we have also been investing significantly in our existing restaurants. The installation of WiFi in our Canadian locations is substantially completed. We now offer our guests free Internet access at more than 2,000 restaurants, allowing them to stay connected when they visit.

In addition, digital menu boards have now been installed inside more than 85% of our full-serve restaurants, with the remainder expected to be completed in the fourth quarter. As for the exterior of our restaurants, implementation of our enhanced drive-thru menu boards will continue into 2013. Next year, we will focus on other enhancements to our drive-thru facilities, including moving order stations and installing double order stations where appropriate. The targeted development of new restaurants in certain communities facing capacity constraints is another key initiative.

We recently announced that Tim Hortons would be the largest national restaurant chain in Canada to roll out contact-less debit card technology, known as Interac Flash, starting in the fourth quarter. Just last week, we announced that Roger and CIBC customers will soon be able to make payments using select mobile devices. The initiatives I've described are all part of our ongoing efforts to further improve the guest experience.

Particularly important to our success are the innovations to our menu, and we've made great progress there as well. We are currently in the midst of the full national promotion of our Panini sandwich platform across Canada. We have been introducing this product on a staggered regional basis. In the fourth quarter, this new platform will have the benefit of national advertising support. The early guest response has been very encouraging as it was previously in the USA, where we introduced -- where we originally introduced the Panini platform.

We expanded the Panini platform line in the USA in the third quarter, with the introduction of a flatbread breakfast Panini. We expect the introduction of high-quality hot sandwiches at reasonable prices to be an important catalyst over time in growing our business and market share at lunch. Past industry research shows that we have grown our overall QSR share of traffic in Canada across all dayparts over the past 5 years, and our biggest gains have been at lunch time, where we've increased our share by more than 3.5 percentage points since 2007. We will continue to aggressively focus on this daypart going forward.

And to address the snacking daypart, we introduced another sandwich product in Canada during the third quarter, chicken mini, at the $1.99 price point. Our promotional calendar in the third quarter emphasized attractive price points and product bundling discounts in recognition of the continued pressure on consumer discretionary spending.

In Canada, we offered frozen lemonade for $1 throughout the summer, as well as bundling discounts on breakfast sandwiches and strudels when purchased with our hot beverage. In the U.S., we featured several products at the $0.99 price point, including iced coffee, frozen lemonade, brewed iced tea. Bundling discounts were offered on bagels when purchased with a beverage.

On last quarter's earnings conference call, we announced our entry into the single-serve coffee market through a North American line agreement with Kraft Foods. Kraft's TASSIMO system is one of the major platforms in the emerging single-serve market, with a market-leading share in the Canadian marketplace.

I'm pleased to report that our premium blend coffee, decaf coffee and lattes, are now available for sale in the TASSIMO T-Disc format in our restaurants, as well as certain online channels. Although this market is still in its very early stages, we believe this will be another avenue to drive growth in future years. We see our entry into the single-serve coffee market as an extension of our leadership in the hot beverage category. When you include the great progress we have made in specialty coffee over the past 5 years, we have maintained our significant market share in total hot beverages over that same period.

I'd now like to turn to a couple of organizational updates. We have made further progress on corporate reorganization. We began 3 months ago by establishing the overall structure, which we described as a corporate center and business unit structure. We also announced a number of executive appointments at that time. These changes are designed to help us become more agile by streamlining decision-making processes and aligning resources and accountability more closely to the business units.

The process of realigning roles and responsibilities to fully implement a new structure is now underway. The process will continue throughout the remainder of 2012 and into the first half of 2013. At the same time, the board is continuing with its active external CEO search process.

In closing, I believe we have made good progress in the third quarter. We continue to grow on a challenging environment, and we have a number of exciting initiatives underway that we believe will position us well for future success.

With that, I will turn it over -- the call over to Cynthia. Cynthia, if you would, please.

Cynthia J. Devine

Thanks, Paul, and good afternoon, everyone. We delivered solid systemwide sales growth, once again, in the third quarter with an increase of 5.9% year-over-year on a constant-currency basis. The increase is a result of both the addition of new restaurants and same-store sales growth. As Paul explained, we believe the macro environment has had a moderating impact on the rate of growth, but despite these challenges, we still grew same-store sales in both Canada and the U.S.

In Canada, growth of 1.9% was driven by higher average check due mainly to favorable product mix and to a lesser extent, pricing. Product mix benefited from the espresso and latte beverages we introduced in the first quarter, as well as the staggered introduction of the Panini sandwiches. The average check growth more than offset a decline in same-store sales transactions during the third quarter. Total systemwide transactions continue to grow with our new restaurant expansion.

On a year-to-date basis, annual same-store sales growth in Canada was 2.9%, which is trending slightly below our previously stated target of 3% to 5% for the full year. We have a number of initiatives currently underway, as Paul described earlier, that we expect to contribute to sales performance and help offset some of the impacts of the continued macro environment challenges that exist in the fourth quarter.

In the U.S., same-store sales growth of 2.3% benefited from gains in average check, which were driven by a combination of pricing and to a lesser extent, favorable product mix. Product mix was positively affected by the introduction of the new breakfast Panini sandwich and our iced espresso lattes, both of which we promoted during the third quarter.

Our average check more than offset a decline in same-store transactions in the U.S., similar to Canada. In the U.S., we again experienced growth in overall system transactions as we continue to add a number of new restaurants. On a year-to-date basis, our same-store sales growth in the U.S. was 5.1% at the end of Q3.

Turning to revenue. Our revenues increased 10.3% compared to the third quarter last year. This growth rate outpaced that of our system sales, and it was largely offset by a corresponding increase in our costs. We have provided more details of revenue on Slide 12. Distribution sales grew 9.8% due to more restaurants in the system, new products managed in our supply chain and to a lesser extent, product mix and increased commodity costs.

Looking ahead, we see a generally improving commodity outlook and lower prices in 2013. As you know, we typically buy out 6 months or more in advance, and we've generally secured reduced prices on most of our basket of goods that we distribute, particularly in coffee, well into 2013. The improving commodity outlook is largely neutral to the company given our fixed margin approach to managing commodities in our supply chain, but the overall lower cost environment should be very helpful for our restaurant owners.

Sales from variable interest entities, or VIEs, were up 18.4%. The increase was due primarily to a higher number of non-owned restaurants in both Canada and the U.S. that were consolidated under accounting rules, as well as same-store sales growth at existing consolidated restaurants. Rent and royalties were up 6.7% compared to the third quarter last year, which was roughly in line with our systemwide sales growth. Franchise fee revenue increased 20.6% due to a combination of higher restaurant sales and higher level of renovation activity during the quarter.

So now I'm going to turn to the costs, which we show on Slide 13 in the presentation. Cost of sales was up 10% in the quarter, reflecting an increase in distribution cost of sales and the higher costs related to VIEs. Distribution cost of sales increased due to our systemwide sales growth, more product managed through our supply chain and as well, product mix. The increase was partially offset by lower costs we achieved in part through improvements at the new Kingston distribution center. VIE cost of sales was up, corresponding to an increase to the number of restaurants that we consolidate under the accounting rule.

Operating expenses grew 13.2% year-over-year. This was due to a number of factors, including more properties in the system, higher rents, expense, increased depreciation, our digital menu board program and higher project and renovation costs. G&A expense was up 13.3% due to higher sales -- or sorry, salaries and benefits to support growth of the business and related costs for information technology. Corporate reorganization expense, which relates to the organizational developments that Paul described earlier, was $8.6 million in the third quarter.

I'm going to turn now to the earnings, which we will show you on Slide 14 in the presentation. Operating income was up 0.6% in the quarter. But if you back out the corporate reorganization expense, adjusted operating income was up 6.2%. I would just remind you that adjusted operating income is a non-GAAP measure, and we reconcile it to operating income on Slides 19 and 20. That increase in operating income and a lower effective tax rate, partially offset by higher net interest expense, contributed to a 2% increase in net income attributable to Tim Hortons. Our diluted earnings per share were $0.68 in the third quarter compared to $0.65 a year ago, which represents an increase of 5.3%.

EPS benefited from the 3.1% reduction in our share count under our share repurchase program and from a lower effective tax rate. Excluding the reorganization charge impact of approximately $0.04 per share, our EPS would've increased 11.8% in the quarter. As we noted this morning in the news release, the EPS outlook we provided at the beginning of the year did not contemplate corporate reorganization charges. The impact has been approximately $0.05 year-to-date, and we expect to incur further expense in the fourth quarter, though the amount is not yet determinable.

We show highlights of our segment results on Slide 15. Operating income in the Canadian segment was $168.5 million, up 5.1% from Q3 last year. The increase is driven by systemwide growth, which led to higher rents, royalty and distribution income. In addition, we realized some lower costs, including those associated with the Kingston distribution center, as we experienced, you'll recall, higher costs in Q3 2011, which were associated with the startup of this facility. These savings were partially offset by higher G&A costs.

In the U.S. segment, operating income of $2.9 million was up 2.6% year-over-year. An increase in systemwide sales drove higher rents, royalties and distribution income. This was offset by higher relief for some of our newer restaurants and higher G&A expense.

Lastly, I'll speak about our financial position at quarter end, which we summarized on Slide 16. Our business continues to benefit from the flexibility afforded to us by our solid financial position. We had $135 million of cash and equivalents on our books at the end of the quarter. Our consistent generation of operating cash flows enabled us to invest in the business, as well as return capital to our shareholders in the form of both dividends and share repurchases.

Capital expenditures totaled $62 million in third quarter as we continued to fund an increased level of investment in our system. Approximately 1/4 of this figure represents capital spending by the ad fund related to the expanded menu board program. Depreciation and amortization in the third quarter was approximately $33 million.

I'll conclude with the overall observation that we remain well positioned for success. We are growing despite challenges we described. We delivered great value, which is welcomed by our guests during these uncertain times. That being said, we recognize that we need to be responsive to the changes we are seeing in the market. That's part of the rationale for the organizational changes that Paul outlined.

The team is focused right now on effective execution of our strategy. I believe we understand, at all levels of the company, that we need to be prepared to adjust the way we do things in response to both the economic and competitive pressures that we're facing. We are confident that we are up to this challenge.

With that, I'll pass it back to Scott.

Scott Bonikowsky

Okay, great. Thanks, Cynthia. And the operator will now begin our Q&A session.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Phillip Huang with UBS.

Phillip Huang - UBS Investment Bank, Research Division

Wanted to ask a question about the Panini rollout. I was wondering if you could give us a sense of the rough proportion of stores where it has already been rolled out just so we could get -- take a stab at the full effect -- what the full effect would be in future quarters. And also, curious to know how much has that product contributed to the separate daypart as well, where you have a little bit more room for growth given it's a relatively big sandwich.

Paul D. House

Okay. Well, it is rolled out to all our full restaurants and into some of our limited-menu or smaller locations. So that rollout was really completed in September, and so we're now in the marketing. As you know, that started at the first of this month. Our initial responses from the consumer has been very, very positive, and we feel very good about the acceptance of the product by the consumer. And to project and say what it will represent as a percentage of our growth as we go forward is really, we're so early into this new product, it's something that you can't determine at this point in time. But we've had great acceptance of the product, and we see a great future for this product in our business, as we experienced in the U.S. when we rolled it out.

Phillip Huang - UBS Investment Bank, Research Division

Great. And just a follow-on on that, the second part of my question in terms of separate daypart, have you -- has the reaction for that particular daypart in response to the introduction of Panini, has that been sort of in line with our expectations or better than expected?

Cynthia J. Devine

It's early into the launch days in the Canadian market, but what we can tell you is that in our U.S. business, we did see that it was not only a product that sold at lunch, but it actually played very well in the snacking daypart and then, to your point, into the supper hour as well. But again, in the Canadian market, it's early days. But we do think it's a great product, and it's one that will play nicely in a few dayparts. In fact, in the U.S., during the quarter, as Paul mentioned in his remarks, we've now introduced a breakfast Panini, and it's a slightly different carrier. But again, a great product that now allows them to leverage the equipment in the morning daypart as well. It's a very -- the breakfast Panini is quite fast and efficient to prepare. So it's definitely a help to our U.S. business right now.

Phillip Huang - UBS Investment Bank, Research Division

That's very helpful. If I could also ask in respect to, I guess, the current slowdown in terms of overall traffic, how much of that impact are you -- do you, I guess, attribute to the tough consumer environment versus, perhaps, a little bit of increased competition? Or is it kind of difficult to even make that distinction?

Paul D. House

It's difficult to make that determination, but overall transactions are up. Certainly, regionally, you see some differences given the economic conditions we experienced in different parts of the country. So but I think it's a combination of many things. As we said earlier, we see our major competitors experiencing the same kind of sales results that we've seen.

Operator

Our next question comes from line of Irene Nattel with RBC Capital Markets.

Irene Nattel - RBC Capital Markets, LLC, Research Division

I'd like to continue along the line of discussion about what you're seeing from customer demand and same-store sales trends. In particular, we saw that deceleration in the U.S., and yes, you're coming up against tough comps, but it just seems that both, at the same-store sales level, and also in terms of financial contribution, there was a real shift between Q2 and Q3. And so I was wondering what you saw as the quarter progressed, whether that was isolated or concentrated in specific markets or more broadly-based.

Cynthia J. Devine

Are you talking about with regards to the U.S. market, Irene?

Irene Nattel - RBC Capital Markets, LLC, Research Division

Yes, please, Cynthia.

Cynthia J. Devine

All right. I think there was some variation in markets, as there is in Canada. We have different things going on from an economic situation and employment levels in various markets in both countries. I think throughout the quarter, there were some changes by period, again, in both markets, but nothing that you can call an absolute trend. There were just some stronger weeks and then some weeks where you had a little less robust sales. Just overall, I would say that there are things that we're dealing with from a capacity standpoint as well in our own restaurants. We recognize that lineups are an issue, and to the extent that we can be more efficient at getting people through the restaurant, I think you're going to hear from us over the next number of quarters about adding capacity, whether it's through new restaurants or through enhancements at our existing restaurants, whether it's drive-thrus and things like that. I think that is also a factor that affects transactions and will be something that we're very focused on.

Irene Nattel - RBC Capital Markets, LLC, Research Division

Cynthia, can you tell us what the overall benefit to check was of price in the quarter, and what we -- that will be in Q4 if you took some price midway through the quarter?

Cynthia J. Devine

Midway through this quarter?

Irene Nattel - RBC Capital Markets, LLC, Research Division

No -- yes, in Canada. In Canada. Sorry. Did you not take price...

Cynthia J. Devine

Yes, in a couple of markets, we had very minimal pricing. But on average, pricing in Canada was about 1 point, so it really hasn't changed a lot. We rolled off some pricing in various markets, but it was about 1 percentage point of pricing in the Canadian market. It was about just over 3% in the U.S. market. And really, that hasn't changed since we took pricing earlier in the year in the U.S.

Irene Nattel - RBC Capital Markets, LLC, Research Division

And then just finally, if I may. You've referred to capacity a couple of times on the call, and it's kind of the first time that we're hearing you talk about that. So I was wondering if you could elaborate on what exactly you're seeing out there. And also, and this is related, menu complexity, right? So now you've got the flatbreads -- sorry, the Paninis in the restaurants. And how is that playing through in terms of speed of service?

Paul D. House

The Panini and some of the new products, I don't think, really, are slowing us down. It's just sheer capacity in some locations, Irene. And we've talked about changing our order station position, talking about putting double drive-thrus in, and which those initiatives are underway. And we're also looking in certain markets that we need to add capacity and adding additional restaurants. So this is a great -- in some ways, it is not good news, but in other ways, it is good news in the sense that we understand what the -- that we have some capacity problems, which means we've got lots of business. And so we need to continue to make sure that we can handle that.

Operator

Our next question comes from the line of as Perry Caicco with CIBC World Markets.

Perry Caicco - CIBC World Markets Inc., Research Division

How do you feel about your chances to still finish the year within the Canadian same-store sales target of 3% to 5% given that you're tracking a bit below that now?

Cynthia J. Devine

I think as we said, Perry, yes, we're tracking slightly below that year target of 3% to 5%. We have, as Paul outlined, a number of initiatives, whether it's Panini or the single-serve TASSIMO launch, that we really -- we hope those will offset some of the macro and competitive environment conditions that exist. But that's really as much as we can say at this point in time on it.

Perry Caicco - CIBC World Markets Inc., Research Division

Very well. Switching gears a bit. You took the charge for the corporate reorganization expenses, yet the quarter featured higher salaries for -- higher salaries and benefits to support the growth of the business. So I was just wondering, will the charges result in those costs coming down, assuming you pay people to leave, or is the Q3 cost level the new run rate?

Cynthia J. Devine

I'd say we're just in the midst of the restructuring. Really, Paul outlined the top level of the restructuring, and there's been an additional level of that, that has been determined at this point in time. But there's still a significant amount of work that is being done on that as we speak. The goal coming out of the restructuring is that we will be more efficient, and we'll create an organization that is scalable for future growth in the business. I think our G&A on a year-to-date basis and our salaries and benefits in that -- but the growth in that has been quite moderate. Even if you exclude the CEO separation costs from prior year, we've had very moderate growth in that line item on a year-over-year basis. So some of it was salary- and benefit-related, and some of it was some IT resource costs related to initiatives that we have underway. So there were a couple of factors that are in there. But I think the year-to-date trends has been, as I said, quite moderate.

Perry Caicco - CIBC World Markets Inc., Research Division

And can you describe exactly how these changes will help the business become more effective? I mean, these are obviously -- this is obviously a pretty sweeping change to the business.

Paul D. House

Well, I guess, the best way to describe it is the creation of business units and putting more resources directly into the business units is certainly going to make the decision-making quicker and more effective. We've had business leaders in both -- in all departments that are empowered to make the decisions and make things happen. So we think this will lead to great efficiencies as we go forward.

Perry Caicco - CIBC World Markets Inc., Research Division

So you would describe this more of a decentralized operation going forward?

Paul D. House

Yes, absolutely, I would say that.

Operator

Our next question comes from the line of John Glass with Morgan Stanley.

John S. Glass - Morgan Stanley, Research Division

First, you mentioned the competition intensifying, and I wonder if you could be more specific, particularly for those who aren't in Canada. Is it McDonald's, for example, I presume they are your largest competitor and not the only one, but they would seem to be the one that would have the most media weight besides you in the market. Are they getting more aggressive, particularly in the morning daypart?

Paul D. House

Well, certainly, there's no hiding from the fact that they've been very aggressive. They've done a number of promotions of free coffee for -- just had one here a week ago for -- last week, that they were offering free coffee in all their locations, but it's just not them. Subway, everybody's trying to crowd into the coffee category. So the competition has intensified from many positions. And given that the economic conditions aren't great, everybody's trying to find some share from somebody else. So it's -- but I like our position of great strengths and the market share that we've been able to retain and how we're building our lunch business as a share of our business. So overall, when I look out to the landscape and I look at the environment we're doing business in, I'm very pleased where we're at.

John S. Glass - Morgan Stanley, Research Division

And how do you respond, though, to -- so your traffic has been, in Canada, episodically, but it's been declining for the most of the last several quarters. How do you historically respond to that? Is there a clear value message or lever that you reserve for these times? Is there, as you do this reorganization and decentralization, has there been some early thoughts about how you might approach the market differently, particularly if this is maybe more of a permanent condition or semipermanent in the way the consumer is changing?

Paul D. House

Well, I think that in our early days, we were first a doughnut company and then we've transformed ourselves into a very strong beverage company. And then in recent years, we've become more a lunch player as well. And so I think it's just a reflection of the market. We understand that whatever you are today, you need to be something different in 5 years from now, and you have to be constantly evolving the business. So our emphasis at lunch is because we have convenience of locations across the country. We have a great value menu. It's a very wide menu, in that you have a great selection of hot soups and hot sandwiches now. And so I think that our strategy of where we're going and what we're doing is the correct strategy. We're going to protect our hot beverage business, but at the same time, we're going to grow our food category. And I think that's where our opportunity is, is in food. And we are certainly -- you're going to see a lot of emphasis from us on food. We've rolled this Panini -- we've rolled a lot of new initiatives out in the last 12 months, and now we're going to concentrate on them and refine them and get them better. And we talked about some of our capacity constraints. We've got a business plan to address those issues in development of new stores, additional drive-thru lanes, repositioning the menu station and so forth. So we have a strategy to address what we're dealing with in the marketplace.

John S. Glass - Morgan Stanley, Research Division

Just one last question. Are you seeing a decline in the instant beverage incident? You said defend the hot beverage business. Is that under pressure? Or is it more the food business and the lunch business that's been -- or attachment rate of food in the morning? So is beverage actually seeing a decline?

Paul D. House

Well, it's changing. We're selling more specialty drinks now than we used to, and we're selling a little less coffee than we used to. But that's understandable. We've converted people from one beverage to the other, and there's changing tastes in the marketplace. And the whole cold beverage side, which we were nonexistent in a number of years ago, that's all changing dramatically as we go forward as well, with cold lattes and all kinds of different drinks that you can do with that's in the marketplace today. So as I've said earlier, all the platforms we have established and especially, the espresso latte market that we brought in, allows us to expand our specialty coffee business. But it also allows us to expand our cold drink experience, as well. So but our drink business is still very, very strong.

Operator

Our next question comes from the line of Keith Howlett with Desjardins Securities.

Keith Howlett - Desjardins Securities Inc., Research Division

Yes, just a follow-up to a prior question. I'm just trying to really understand how you measure the coffee share. Does anyone have a firm view on the denominator of this calculation? Or does every player in the industry have the same denominator and they're figuring out what their own numerator is, whether that includes specialty, brewed, cold, hot, as long as it's got caffeine or coffee in it? How actually do you measure your 8 out of 10 cups measure?

Cynthia J. Devine

Well, the measurement is based on information from Kraft Data, and there are various ways that you can split the category. You can look at brewed coffee. You can look at specialty. You can look at cold or hot beverages. You can look at lunch. You can look at QSR traffic in total. So there are a number of different ways that you can split the data, Keith.

Keith Howlett - Desjardins Securities Inc., Research Division

And so does your -- when you look at sort of hot coffee-based beverages, do you -- does it reflect any loss of share or not?

Paul D. House

I don't -- I mean, when you look at our hot specialty drinks and our coffee and you put those numbers together, then we're retaining share, for sure. Is there slight decline in the coffee side of it? Absolutely, there has been, because I think we switched consumers to different beverages. And so that has occurred. And but as far as the overall category is concerned, the way we define it -- forget about how industry -- we would define it as specialty hot drinks and coffee, together as a category, is in good shape.

Keith Howlett - Desjardins Securities Inc., Research Division

And then just on the CEO search. Is it a requirement that the person be a restaurateur, or what are the sort of broad criteria that you're looking for in the new CEO?

Paul D. House

Well, we've identified a number of key criteria that we'd like to have. But like any search that you do, you're not going to be able to check off every box. And so you're going to look at the quality of the individual, the experience that they have and what they bring as an added value to the company. We have a strong senior management team within the organization that's very stable. And so one of the important things is that the new leader that comes into follow me has to fit into the culture that we have in this company because we have a great culture and we have some great strategies. And so we're not looking for somebody to reinvent the wheel, but we're looking for somebody to fit in and add value to what we already have.

Keith Howlett - Desjardins Securities Inc., Research Division

Great. And then just finally, on the capacity constraint. Certainly, as an impatient person down in the downtown core of Toronto, there appears to be a capacity constraint. But are you able -- I know in the drive-thru, you've got all sorts of measurements as to whether there's a constraint. But are you able to measure that, as well, inside the restaurant?

Paul D. House

Well, we are developing technology that we can measure it. The downtown, we definitely need more locations. That's certainly an area that we've targeted to build out some further capacity. And tandem teams and some of the operational things that we have in place, certainly, can move the customer very effectively. I'd like to say that every one of our stores is implementing that, and that's what our operation teams are focusing on right now, to sure that our stores are utilizing all of the things that we have to speed up our service. So we have a real emphasis from our operations team on that. But definitely, downtown Toronto, we need more capacity, and we need more restaurants. And we're working diligently on that.

Operator

Our next question comes from the line of Michael Kelter with Goldman Sachs.

Michael Kelter - Goldman Sachs Group Inc., Research Division

Yes. Can you maybe talk about what types of value-oriented tactics are appropriate for you to pursue in this increased promotional environment, and what sorts of things you absolutely wouldn't do?

Paul D. House

Well, I've talked about the things we've done. We've done lattes at $1 and specialty drinks at times at a price point that we think is attractive to the consumer, with a twofold purpose of introducing them to the drink and, hopefully, converting people to that product at its regular price after it's off promotion. I think staying true to what we do is emphasizing the value that we've offered forever. We've always been viewed by our consumer as really value-oriented and that we give great value every day. And so we have not been a heavy discounter in the past, and we will not be a heavy discounter as we go forward. We will do some selective discounting with certain products that we want to get trial with our consumer on and so forth. So our strategy will be more aggressive than it has been in the past given the economic conditions that we're in. But overall, we're not going to change our way of doing business. And we're not going to become a deep discounter because we don't have -- we offer such great prices every day, we can't do a lot of deep discount.

Michael Kelter - Goldman Sachs Group Inc., Research Division

And then, on the Panini launch, I guess, you're still rolling through the larger size as you introduced the new espresso-based beverages, the digital menu boards, several things, and same-store sales haven't responded. And so I guess, I'm curious, based on what you know from tests or early results from Panini, is there any reason to believe that this as an initiative will be different and drive a positive change in trajectory?

Cynthia J. Devine

I mean, we have seen growth in average check in a number of initiatives that we've put in place around product and different things like that has moved the needle on average check, excluding pricing. So we've been very pleased with some of the new products that we've introduced into the system. I think it is very early days on Panini, and as Paul said in his remarks, the initial response has been favorable, and we have experience from the U.S., but it's another platform for us to continue to broaden and get into a hot sandwich category that we think is -- will help keep our menu broader and appeal to more people.

Michael Kelter - Goldman Sachs Group Inc., Research Division

And then lastly, on the capacity point. I guess, I just want to understand why it's suddenly coming up now has an issue. And in fact, transactions haven't been growing really all that much for several years. And last quarter, you talked about the pressure being more in the afternoon daypart than even in the mornings. So why is suddenly capacity an issue now if you haven't been gaining traffic from where you were several years back?

Paul D. House

Well, I mean, the menu has changed. I mean, we were offering more products, and we're doing extremely high volumes in our locations. So capacity does become an issue from time to time. We've had a lot of initiatives over the time. And I would argue with you as to capacity constraints has just really started to happen in the last 24 months or so. We've put in over a certain amount of new restaurants every year. We're doing initiatives every year. A lot of the stuff that we're doing, we've always been doing. And we've -- we're the first with the 2 order stations, 2 order takers in the same drive-thru window, where 1 person took the order and the other person cashed the transaction out. So we've had a lot of good initiatives around that, and we're going to continue to do that. So but there's no question, we hear it from our consumers, that in certain markets, we got capacity issues. And so we're very good at listening to our consumer, and you will see us building some restaurants in certain areas where we will address that capacity issue. You'll see us putting double drive-thru lanes in certain of our restaurants. We've done a number of them this year. We expect to do a lot -- much larger number next year. And so we have a lot of initiatives to address the capacity, but we're calling it out because we hear it from our consumer.

Operator

Our next question comes from the line of Patricia Baker with Scotiabank.

Patricia A. Baker - Scotiabank Global Banking and Markets, Research Division

Yes, I've got a question -- or 2 questions around the significant macro challenges that are out there in both markets. And firstly, to Paul, can you talk to us about what this feels like relative to any other period? Does it feel like 2008? Do you have any comparative period that you can talk about? And then, Cynthia, you may have already addressed this a little bit and relates partly to the last question. But you did talk about that in the last quarter, you gave a fair bit of color in discussion, anecdotally, about that extra trip was dropping off and to explain the traffic. Was it any different this quarter versus what you saw last quarter? Or was it pretty similar in that respect that, that extra afternoon daypart was the part where you saw a decline in the traffic?

Paul D. House

Well, to answer your first question you directed to me, Patricia, as old as I am, I can go -- how far do you want me to go back, but...

Patricia A. Baker - Scotiabank Global Banking and Markets, Research Division

Whatever is most relevant.

Paul D. House

Yes, whatever is relevant. Well, I'll tell you what it really feels like to me is the early '90s because when we did GST and the Canadian economy was certainly -- retail was certainly impacted when that tax rolled in. It was the only year that we ever had negative same-store sales growth. And for about a 2- or 3-year period after that, we had to climb back out of that. Certainly, '08 was -- we saw the impact of that as well. And this environment is a tough environment. But we're not recession-proof, but, boy, we're pretty resilient. I think our numbers are very good given what we're dealing with in the marketplace. So I don't apologize for them. I think that the strength of the chain and the strength of the business is reflective in our numbers that we're positive. Our same-store sales are still positive. There are competitors that have just announced their monthly sales that are negative. So I feel I got to compare it to where you are in the industry and not to where I'd like to be. And I feel good about that. But I know that we can do a lot of things that can improve our business as we go forward. And with the restructuring and the business initiatives we have, I feel very confident that we're going to see a lot of good growth out of this chain as we go forward.

Cynthia J. Devine

In terms of the second part of your question, with regards to the dayparts. I think we saw in the quarter that it was a little bit more on across the dayparts as opposed to just the snacking daypart. So we saw it a little bit more in some other dayparts as well.

Patricia A. Baker - Scotiabank Global Banking and Markets, Research Division

Across the board or just...

Cynthia J. Devine

No, probably a little bit more on the morning side of things, which I think is one of the areas where we do see the lineups, and we had a fair amount of promotional activity in the third quarter around the morning daypart. A lot of it, get a lot of bundling of coffee with a breakfast sandwich at a price point. And I think that definitely -- probably affected your lineups, and again that capacity at the morning daypart may have been a factor as well. Lunch, we didn't really -- we didn't see it as much on the lunch side and then, I think, in big part because we have a lot of news around the lunch time right now as well, and so we didn't see it as much there.

Patricia A. Baker - Scotiabank Global Banking and Markets, Research Division

And on that capacity issue, and this is probably a bit of a naïve question, but in some respects, this does reflect demand, right?

Paul D. House

Absolutely. It's a nice problem to have, but it's a problem we've got to fix, and we are fixing, and we've recognized it for a while.

Cynthia J. Devine

So I think, you just -- we don't -- you can't give people a reason not to come to your restaurant because you're too busy. And as we've said before, in tougher economic times, people are -- they value where they're spending their money. And you can't ask them to wait in a long line, and I think we feel there's lots of opportunity for us to continue to expand to create capacity in the system for us in Canada.

Operator

Our next question comes from the line of Peter Sklar with BMO Capital Markets.

Peter Sklar - BMO Capital Markets Canada

Cynthia, in your earlier comments, I believe you said there was 1% of price in Canada and 3% price in the U.S. during the quarter. Is that correct?

Cynthia J. Devine

Just slightly above 3% in the U.S., and yes.

Peter Sklar - BMO Capital Markets Canada

Okay. I'm just wondering if you could comment a little bit about the prospects for putting through further price in the coming quarters. I assume not, given your earlier comments regarding the outlook for commodities, which you think is going -- which you really think are falling or really not going to appreciate.

Cynthia J. Devine

Yes, Peter. I mean, we don't expect any major pricing in the marketplace. From time to time, you'll touch individual products that may have some cost associated with it. But there's not any major pricing expected in the back part of the year.

Peter Sklar - BMO Capital Markets Canada

Okay. And could you also explain why more of your stores are falling into that VIE category in terms of your accounting policy?

Cynthia J. Devine

It's not necessarily that more, I mean, there are a greater number of restaurants, but it's mainly restaurants that we're opening under 80-20 operator agreement. So it's not the stores that weren't falling under the accounting are now falling under the accounting. It's more of when we're opening -- a number of our new restaurants in the U.S. are opening under 80-20 operator agreements, which is really we used to have the franchise incentive program, which was more of a lending program. Now as we open restaurants in these developing markets, we're really keeping the equipment on our books rather than having the restaurant owner make a significant capital investment in the early days. We keep it on our books and we charge them an extra portion related to rent for that equipment associated with that agreement. But in the early days, because they're not necessarily considered adequately capitalized and because such a significant portion of the earnings of that entity vary with sales and vary on our performance, as well, you're required to consolidate them. But it isn't that old restaurants are necessarily being pulled in. It's really new restaurants. In Canada, as well, for the most part, when we have a new restaurant owner coming into the system, we're opening a lot of those restaurants, as well, under 80-20 operator agreements. And they also, generally, would fall into that category where they would be consolidated as well.

Peter Sklar - BMO Capital Markets Canada

Right. So given that more and more of your new restaurants are opened under the 80-20 structure, I would think that, that would be a more favorable or an easier operating environment for the franchisee to operate. But then, I also note that you have more restaurants -- more of your new restaurants on relief in the U.S. So can you talk a little bit about that?

Cynthia J. Devine

Sure. I mean, it's definitely that the strategy is to open them so that the restaurant owner isn't burdened with a huge financing charge in addition to operating this business in newer markets where sales may start out a bit lower. But really, you then have 3 components of charges to them. You have rent, royalty and rent associated with the equipment. So on those components, you can end up with varying degrees of relief. And it's no different than what we did in Canada in the early days, and there's still relief in the Canadian system today, as well, for restaurants in some of our markets. But you end up with 3 components that would add up to 20% if you're reflecting all 3 of them. But you end up providing relief so that the restaurant owner can essentially make a living as the market is being built out and developed.

Peter Sklar - BMO Capital Markets Canada

Right. But why are you seeing more on relief? Is that a sign of the economic times or is there something else?

Cynthia J. Devine

Because we're going in more markets, and we're opening new restaurants. The restaurants open at lower unit volumes. And so you have to provide the restaurant owner with relief in order for them to make a living. Because we're not talking -- the type of restaurant owner that we have historically brought into the system is individuals that are running these restaurants and they've given up their jobs to become a franchisee in the Tim Hortons system. And so you have 2 choices in the early days, you can either run them corporately or have an owner come in, but you have to help the owner in the early days in order to have them be able to make a living. And we've continued to add a number of restaurants in order to penetrate the markets, to drive convenience, to get brand awareness out in the U.S. market so that we can continue to raise AUVs of all restaurants. But as we've said before, it takes time. And in many markets, we're still in that early stage where the AUVs are not sufficient enough for the owner to be paying for the restaurant and to be paying all the rent and royalties until the unit volumes get higher.

Paul D. House

It also helps us attract a better operator, and so we can be very selective as to who we put in the restaurant because we've got different vehicles and we can provide entry into the business. And so I think that, that's a big asset as well.

Operator

Our next question comes from line of James Durran with Barclays.

James Durran - Barclays Capital, Research Division

Just with respect to value meals, would I be wrong in sensing that maybe there was a slight increase in bundling or value meals starting in the month of September right through to now?

Paul D. House

Well, certainly in September, we've bundled the coffee with the breakfast sandwich at a price point. So that -- and we ran that until September. We've never done that at that time of the year with that type of offer. We, maybe, bundled it with a pastry at a slight discount. But that was the first time that we did a coffee with a breakfast sandwich at $1.99 price point, so...

James Durran - Barclays Capital, Research Division

And if I recall, back in 2008, when we were sort of looking for times of similarity, I think you were fairly aggressive after you'd seen some slowing, with value meals as the major weapon. Did you see any noticeable traffic improvement when you did the value meal in September?

Paul D. House

Well, we certainly sold a lot more breakfast sandwiches than we have in the comparable period. And we've certainly maintained our business, I guess. It's questionable whether you grow overall top line sales when you discounted that heavy. So you can't just measure it in sales, you've got to measure it as to the effectiveness of it and so forth.

James Durran - Barclays Capital, Research Division

Okay. And was there any benefit in the quarter from TASSIMO? I know you're producing the coffee for it.

Paul D. House

No. We just really -- it just started to be marketed up here in the last 10 days. We've put the product into our stores in mid-October. So we're really just early. It's just getting aware that we have it out there now in the marketplace.

James Durran - Barclays Capital, Research Division

Okay. And then my last question is just, you're talking a lot about capacity and drive-thru changes, et cetera. Can you give us some color on what your intentions are with respect to the stores themselves? I mean, you've gone through a number of years with incremental changes to the store and extending the renovation time frame. How extensively are you looking at renovating your stores in Canada, sort of at what pace or what number of stores?

Paul D. House

Well, we're increasing the pace at a level that we're going to renovate them at. I think this is the first year -- in the last 18 months, let's put it in that time frame, that we've changed the whole outside appearance of the building. So that's an addition to the more contemporary look of the brand. And you'll have some difficulty, when you renovate, if you don't change the outside of it, the consumer is driving by, he doesn't really realize you've changed the image of your restaurant. So the new ones we're doing are quite -- we've had great feedback from the consumer on them. And we're going to -- we're picking the pace up on them as quickly as we can, and we want to do as many as we can as we go forward.

James Durran - Barclays Capital, Research Division

So can you give us a number of how many units you'd expect to renovate over the next 12 months?

Paul D. House

We'll probably give you some guidance on that as we finalize our plans and so forth. So in the next call, we will certainly be giving guidance on that at that point, but it's premature to do that at this point in time.

Operator

Our next question comes from the line of Michael Van Aelst with TD Securities.

Michael Van Aelst - TD Securities Equity Research

Most of my questions have been answered, but I just wanted to clarify one thing on the capacity. If you start opening more locations mainly to satisfy the -- or to alleviate some of the stress in the breakfast daypart, what happens in the other dayparts when you're not so stressed and the restaurants have to split the sales in the luncheon and snacking daypart? Does not make it feasible for the 2 stores?

Cynthia J. Devine

Yes, we look at all that when we open a new restaurant. It's absolutely -- the impact on restaurants around it is something we consider very heavily, obviously, and weighs into the decision. I can tell you that the productivity of our new restaurants has been very strong. So we're making quality additions to the marketplace. But we do take that -- those other dayparts into account as well. But I think as you think about product lineup -- lines, like the launch of the Panini, I think that gives you great capabilities around the lunch and the snacking dayparts to continue to serve more people with -- by expanding the menu.

Michael Van Aelst - TD Securities Equity Research

Are new stores going to have more checkout lines to handle the breakfast daypart better?

Paul D. House

I think adding capacity is adding a restaurant, I don't think adding additional registers and so forth. We've been down that road. We can move a lot of capacity with the existing register setup we have, especially with the tandem teams inside the restaurant, and our drive-thrus are the fastest in the industry. So we just need -- in some cases, we just need to add an additional restaurant, whether that might be an SO station with a drive-thru or a full-blown restaurant that offers seating inside and so forth, depending on our needs in the marketplace.

Michael Van Aelst - TD Securities Equity Research

And is there any capacity issues in select U.S. markets or is this only a Canadian issue?

Paul D. House

No. It's certainly in some of our U.S. stores. Some of our new store development is aimed directly at the same issue. Certainly, our Buffalo market, we've got a number of restaurants that would certainly be at the peak of their capacity. And we have, in the past few months actually, dropped some restaurants in to alleviate that. And that does, of course, in the short-term, take some sales away from those existing restaurants. But overall, it will benefit the business, and in the most cases, it goes to that same owner. And so, long-term, it's win, win, win for everybody.

Michael Van Aelst - TD Securities Equity Research

Going forward with that in mind, should we expect that the new store openings would cannibalize a little bit more than what they might have otherwise over the last few years?

Paul D. House

I think that depends on where we put the restaurants and in what areas and so forth. But in some cases, I think you will definitely see that. There's no doubt about that.

Operator

Our last question comes from the line of David Hartley with Crédit Suisse.

David Hartley - Crédit Suisse AG, Research Division

Just 2 quick questions. On the double drive-thru, I know you've referenced it a bit here, but I'm unclear as to what the plan was for this year in terms of putting those in and where you are at today and where you expect to get to by the end of the year. Could you give us some clarity on that?

Paul D. House

Well, I'll add to the fifth car, with the double drive-thru lane, we will probably do a little over 200 locations this year. We would expect to do more than that next year. And part of that is, in a lot of cases, we've got to go back for some zoning applications. We got to deal with landlords to get permission. So it's a more -- it takes more time from when you start to when you can actually get it done. So we started those initiatives this year. So we would hope, as we go forward in future years, that we will be able to add to that number as we go forward.

David Hartley - Crédit Suisse AG, Research Division

Okay, great. And just on the VIEs, I believe this will be in the 10-Q when it comes out, I haven't seen it yet. But could you give -- actually give me numbers for how many restaurants were VIEs in the quarter versus a year ago?

Cynthia J. Devine

Yes, on average, there were about 316 VIEs in the quarter for 2012, and there were about 270 for the prior year -- prior same quarter, prior year.

David Hartley - Crédit Suisse AG, Research Division

Okay. And do you expect that to pick up in Q4 as you open up a whole bunch of new restaurants? I assume you will next -- this quarter.

Cynthia J. Devine

As we open -- if we open new restaurants, particularly in the U.S., I think we would expect that number. Although we're also very focused, at the same time, of restaurants that have been around for a longer period of time, is really working with those restaurant owners and getting them financing because their AUVs are moving up. So that's the process, and so we're hoping that we would move some of them out. But in the short run, I think we can expect with the significant stepped-up development activity that we've had in the U.S., that we will have more of the VIEs.

David Hartley - Crédit Suisse AG, Research Division

Okay, great. And will you guys be providing color in terms of -- before the quarter gets announced for Q4 in terms of your plans for next year, new stores, CapEx, et cetera?

Cynthia J. Devine

We probably will do it in the same time frame. We usually outline it in -- during our conference call after year-end, in February time frame. So that's probably -- we'll probably stick to that same program.

Operator

Mr. Bonikowsky, I would now turn the call back to you.

Scott Bonikowsky

Thanks, operator. We actually were not able to get to everybody in the queue, so we apologize for that, but we're out of our allotted time. If you have any questions after the call, by all means, please feel free to contact me directly. The number is (905) 339-6186. And again, thanks very, very much for joining us for the call. Have a great day, everyone.

Operator

Ladies and gentlemen, that does conclude the conference call for today. We thank you again for your participation and ask that you please disconnect your lines.

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