Chuy's Holdings, Inc. (CHUY) CEO Steven Hislop on Q2 2018 Results - Earnings Call Transcript

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About: Chuy's Holdings (CHUY)
by: SA Transcripts

Chuy's Holdings, Inc. (NASDAQ:CHUY) Q2 2018 Earnings Conference Call August 9, 2018 5:00 PM ET

Executives

Jon Howie - VP, CFO & Director

Steven Hislop - Chairman, CEO & President

Analysts

David Tarantino - Robert W. Baird & Co.

Andrew Strelzik - BMO Capital Markets

Brian Vaccaro - Raymond James & Associates

Hugh Gooding - Stephens Inc.

Christopher O'Cull - Stifel, Nicolaus & Company

Nerses Setyan - Wedbush Securities

Andrew Barish - Jefferies

Operator

Good day, everyone, and welcome to the Chuy's Holdings' Second Quarter 2018 Earnings Conference Call. Today's call is being recorded. [Operator Instructions]. On today's call, we have Steve Hislop, President and Chief Executive Officer; and Jon Howie, Vice President and Chief Financial Officer of Chuy's Holdings, Inc.

At this time, I'll turn the conference over to Mr. Howie. Please go ahead.

Jon Howie

Thank you, Operator, and good afternoon, everyone. By now, everyone should have access to our second quarter 2018 earnings release. It can also be found on our website, in the Investors section. Before we begin our review of formal remarks, I need to remind everyone that part of our discussions today will include forward-looking statements. These forward-looking statements are not guarantees of future performance, and therefore, you should not put undue reliance on them. These statements are also subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. We refer all of you to our recent SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial conditions.

With that out of the way, I'd like to turn the call over to Steve.

Steven Hislop

Thank you, Jon, and thank you to everyone for joining us on the call today. Let's begin with a high-level overview of our quarterly results, and the progress we've made to our various initiatives. For the second quarter, revenue grew 12.6%, including a 1% increase in comparable restaurant sales on both a fiscal and calendar basis. We continue to experience restaurant-level margin pressure during the quarter, largely due to increasing labor costs. However, we have worked with a handful of initiatives that I'll discuss in a moment, which we believe can help offset some of that pressure. All in all, we reported earnings per diluted share of $0.38 compared to $0.31 last year. Overall, we remain focused on taking care of our customers by delivering high-quality, made-from-scratch food and drink at a tremendous value in a unique and upbeat atmosphere. However, to further strengthen our brand and improve our profitability, as many of you know, we have been working on several strategic initiatives, and I'd like to provide a brief update.

As I noted, labor costs continued to be pressure points, not only for us but the entire industry. As a result, much of our focus has been on maximizing our labor efficiency in a non-guest-facing way. One of our key initiatives have been the integration of a new labor management tool with our POS system. Once completed, we believe this new platform will help enhance our sales projection and further assist us in optimizing our labor productivity. While we expect to be fully functional by the end of the second quarter, we're delayed slightly by a few [indiscernible] technology speed bumps that have pushed the full rollout to this quarter.

On a marketing front, I'm pleased to announce that we have selected Kelly Scott Madison as our new Media Marketing Partner. In addition to her impressive history of success across the broad base of consumer clients, KSM has an office here in Austin, giving them a hands-on history of our brand and its unique culture. Additionally, their main office in Chicago is in one of our new markets where we want to focus on brand awareness. We have only just begun our partnership and planning. Our initial sessions have me very excited about the opportunities to improve our brand awareness and message.

Lastly, with regard to technology, we continue to make progress in designing our new online ordering system through our partnership with Olo. Our goal is to make it easier for our guests to conveniently order our food, and early feedback from our test had been positive. We are actually in test in 1 store here in Austin, with initial plans to expand further into Austin, Dallas and 2 additional markets in the southeast, or approximately 25 stores on Olo by the end of September. If all goes well, we will -- we would expect a full-system-wide rollout early in the fourth quarter. As we mentioned, this online ordering platform will be a stepping stone for our future loyalty program, so we are taking our time to make sure everything is designed properly.

Let me now update you on our development. During the second quarter, we opened three new Chuy's restaurants. One each in Lakewood, Colorado, Greenwood Village, Colorado, and in New Tampa, Florida. Additionally, subsequent to the end of the second quarter, we opened 1 additional restaurant in Kendall, Florida.

Our team continues to do an excellent job of instilling that Chuy's culture in our new restaurant, and we are pleased with the performance of our 2018 restaurants to date. For the full year 2018, we have refined our development targets for 2018, to be between 9 to 10 new restaurants, which includes 2 in the third quarter.

With that, I'd now like to now turn the call over to our CFO, Jon Howie, for a more detailed review of our second quarter results.

Jon Howie

Thanks, Steve. Revenues increased 12.6% year-over-year to $106.3 million for the second quarter ended July 1, 2018, driven primarily by $11.8 million in incremental revenue from an additional 147 operating weeks produced by 14 new restaurants opened during and subsequent to the second quarter of last year. In total, we had approximately 1,233 operating weeks during the second quarter of 2018. Similar to last quarter, due to the inclusion of the 53rd week in fiscal 2017, there is a 1 week calendar shift in the comparison of the second fiscal quarter of 2018 to last year's second quarter. Please refer to our earnings release for a detailed breakdown of our calendar date.

For the second quarter, comparable restaurant for both the fiscal and calendar basis increased 1% for the 13-week period ended July 1, 2018. The increase in comparable restaurant sales is driven primarily by a 2.1% increase in average check, partially offset by 1.1% decrease in average weekly customers. Comparable sales results included a 40 basis point negative impact due to unfavorable weather conditions, partially offset by 20 basis points gain as a result of Easter falling in the first quarter of 2018, as compared to the second quarter of 2017. Effective pricing during the quarter was approximately 1.8%. There were 77 restaurants in our comparable base at the end of second quarter of 2018.

Turning to a discussion of selected expense line items. Cost to sell, as a percentage of revenue, decreased 50 basis points to 25.4%, helped largely by favorable produce prices. While we have recently seen spike out of pricing, and they remain a wildcard for the back half of the year, we still expect slight year-over-year food cost deflation in the second half of 2018, bringing our full year commodity inflation expectations to flat to 1%.

Labor costs, as a percentage of revenue, increased approximately 160 basis points to 35.2%. The increase was attributable to hourly rate inflation in our comparable restaurant of approximately 3.5%, higher tip wage in our newer markets, and new store labor efficiencies. Given the current outlook, we now expect our labor inflation to be approximately 3% to 3.5% compared to our previous expectation of 3%. Restaurant operating costs, as percentage of revenue, held steady at 13.9%.

Occupancy costs, as a percentage of revenue, increased 30 basis points to 7%, primarily due to higher rental expense at certain newly opened restaurants, as we continue to expand into larger markets and higher straight-line rent from the extended lease terms of certain existing restaurants.

General and administrative expenses increased approximately $0.5 million to $5.2 million in the second quarter, driven primarily by higher management salaries and benefits to support our store growth and performance bonuses. As a percentage of revenue, G&A decreased slightly by 10 basis points year-over-year to 4.9%.

Our income tax rate was reduced to 10% during the second quarter, resulting in an extra $0.01 per share in net income. We expect our tax rate for the year now to be in the 10% to 11% range.

In summary, net income for the second quarter of 2018 was $6.5 million, or $0.38 per diluted share, compared to $5.3 million, or $0.31 per diluted share in a year-ago period. We ended the quarter with $10.3 million of cash on the balance sheet, and we currently have no debt.

Now turning to guidance. We're adjusting our 2018 outlook. While we are generally pleased with our sales trends, both in new and existing restaurants, our revised expectation largely reflect increased labor costs as well as a delay in opening date to several of our remaining new 2018 restaurants. We now expect 2018 diluted earnings per share between $1.09 and $1.13, compared to the previous range of $1.12 to $1.16. This compares to 2017 adjusted net income per diluted share of $0.96, or $0.89 after excluding approximately $0.07 per diluted share as a result of the extra week in 2017.

Our guidance is based on the following updated assumptions: We continue to expect comparable restaurant sales growth of approximately 1% on a 52-week fiscal base. Restaurant preopening expenses are now expected to be approximately $4.4 million to $4.8 million compared to $3.7 million to $5.5 million previously. We continue to expect G&A expenses between $21.3 million and $21.8 million. We now expect an effective tax rate of approximately 10% to 11% compared to a previous expectation of 13% to 14%.

We continue to model annual weighted average diluted shares outstanding of 17.1 million to 17.2 million shares. And as we noted, we now expect to open 9 to 10 new Chuy's restaurants this year.

Lastly, our capital expenditures, net of tenant improvement allowances, are projected to be between $34 million and $37 million, which has narrowed from our previous expectation of $30 million to $40 million.

With that, I'll turn the call back over to Steve to wrap up.

Steven Hislop

Thanks, Jon. We believe the fundamentals of our business remain strong, and we are confident that the initiatives we've laid out will help us weather a near-term industry challenges and strengthen our brand in the long run. More importantly, our employees continue to be an integral part of our success in broadening our brand appeal, and I would like to thank them for their hard work and dedication to earning dollars every single day.

With that, we are happy to answer any questions. Thank you.

Question-and-Answer Session

Operator

[Operator Instructions]. We'll hear first from David Tarantino with Baird.

David Tarantino

A couple of questions on the updated guidance. I guess, Jon, you mentioned the two factors, one being labor inflation, the other one being delays and openings. So I think the labor inflation part, I think is well understood. But could you explain the second part of that, what happened with the opening delays, and how is that hitting the P&L?

Jon Howie

Well, again, the delays is about 8 to 10 weeks in delayed openings. So from a sales standpoint, that's kind of where that's going. That's close to $800,000 to $1 million.

Steven Hislop

And specifically in the Florida area.

David Tarantino

Got it. And is that a big profit impact? I guess -- my impression is that, these stores all come with fairly low margins, so is that material to the process for this year?

Jon Howie

It's not as significant as the labor. I mean, you're absolutely right.

David Tarantino

Got it. And then on the guidance, second question, it does imply a better same-store sales trends in the second half of the year than what you've reported year-to-date. So I guess, one, could you give us an update on what you're seeing so far in the third quarter? And I guess, comment on your degree of confidence in getting to that full year number of 1% on a fiscal basis.

Steven Hislop

Yes, David. This is Steve. As far as the trend line, into the third quarter, so far, is very similar to the second quarter. And while we are a little bit more optimistic on our year-to-date number, that we've told you is, we definitely are going to be lapping, at the end of the third quarter, the hurricanes in the Houston markets. And we're also lapping, in the beginning of the fourth quarter, the hurricanes in the Florida market.

Jon Howie

Plus we have -- with our new partner.

Steven Hislop

Yes...

Jon Howie

Right. And starting in the back half or probably the last part of fourth quarter -- second half of fourth quarter, we'll have some significant upside out there.

David Tarantino

Got it. The other question I have is on the advertising side. It sounds like you're planning to step that up in the second half. Any color on what you think you'll be doing from a marketing standpoint?

Steven Hislop

Yes. We've met with them 3 to 4 different times. And right now, we're in our planning stages, and also, in immersion stages. But the main thing is we'll definitely be looking at continuing our social media presence. We're going to introduce a digital media presence. You will see some mainstream radio advertising, and possibly, even some targeted cable TV advertising for the second half of the year. Not for the whole second half of the year, you're probably would be looking at this around the holiday time, which is midway through the fourth quarter's when we'll probably start hitting some of that out there. And we'll focus on these 2 major initiatives. The initiatives are our awareness in new markets, obviously, and then repeat visits, obviously, in our existing markets. And we'll always constantly talk about our defining differences. But we really want to talk up -- something that, I think, we've been remiss at a little bit over the last few years -- is really talking about our overall value of our menu a little bit more.

Operator

Our next question comes from Andy Barish with Jefferies.

Andrew Barish

On the traffic component of comp, I recall some weeks and parts of the quarter where things seems like they were flattening out and wind up finishing a little negative. Are you seeing any differences, geographically, or just in the marketplace, in general, some monthly volatility out there with consumer traffic?

Jon Howie

It's really the same, Andy. We're seeing stronger -- kind of a stronger traffic in Texas than outside of Texas, a little -- a little weaker. Houston is still been an issue little bit, a little bit slower than the rest of Texas. I still don't think it's still -- back from the hurricanes yet. But again, Texas is a little stronger than the rest.

Andrew Barish

Okay. And then on the labor side of things, can you kind of give us a sense of understanding the wage inflation but also the mix component as you move into some higher priced markets, higher labor cost markets, like Colorado, Florida, Illinois. When does -- or I guess, how much of that is factoring into the labor inflation? And when does that start to kind of, I guess, normalized through the numbers, or lap through the numbers?

Jon Howie

Well, Andy, that's a great question. Because the number that I gave you, the inflation rate is on comparable stores. A lot of those stores that you're mention are in the comparable store base. So that 3.5, if you look at the overall weighted average, including those, it's actually increased about 5%. So those will start rolling over, generally, in about the first quarter of next year, you'll start seeing those going to the comp base. But that's one of our initiatives, too, is focusing in on the labor initiatives, it's focusing in on the new stores, and bringing our time line down a little bit.

Andrew Barish

Okay. And then just finally on the tax rate going lower, is that something you expect to continue, or is there something unique here in '18 that's have that creep down from your original guide?

Jon Howie

Well, there's a couple of things. One, it's kind of -- I don't want to say trial and error, but with the new tax decrease, all those credits have a more of a significant impact on the overall effective rate. And so now, changes up and down of your taxable, have really affect that rate a lot more than it used to, just given the impact of those, as well as -- if you remember, the change in common stock and how it's treated and run through the tax expense, so we have a lot of discrete items that run through there. And we're expecting a few more of those in the back half of the year.

Operator

Next, we'll hear from Brian Vaccaro with Raymond James.

Brian Vaccaro

I just wanted to circle back on the second quarter comps. Jon, I think, you said that mix was up 30 basis points in the quarter. Just curious what drove that. And do you expect that to sustain over the next few quarters?

Jon Howie

I think some of that is driving, again, with our overall -- some of the stores. After we did that price increase, it was based on a store mix. And now we've had a lot of store openings in those Tier 4 markets that we're seeing. A little bit more pricing maybe than, ultimately, what we saw in the mix that we did that. The other thing is we're seeing a few more attachment rates in drink that's driving that as well.

Brian Vaccaro

Okay. If I could shift gears to new unit growth. Steve, after moderating a bit, given the sluggish environment, what is your latest thinking on when it might be appropriate to reaccelerate growth? Now that we're midway through '18, I imagine you're well into the 2020 pipeline. So any color on how you're approaching the 2020 and beyond at this point?

Steven Hislop

Yes. I'm a little bit in my tourist mentality, here, right now. At the end of the day, customer count is still aren't up. And I think I've always said to the group here that, that's the driver for us. And if -- we originally gave out guidance 8 to 12. I told everybody that if their customer counts were up, it might be accelerated. And if they were not up yet, I might decelerate it. And so that's what I've done. And I've had the same approach, probably to next year and this year. That's how I'm looking at that right now.

Operator

Our next question will come from Will Slabaugh with Stephens, Inc.

Hugh Gooding

This is actually Hugh on for Will this afternoon. I wanted to start with asking if you could give us some more color on the off-premise business, as a mix of sales and growth during the quarter. And how that's faring in some of your newer markets?

Steven Hislop

Yes. We're excited about our off-premise. It's actually up for the quarter about 14%. We're about 11.5% in company-wide on that. So I'm pretty excited about that -- sorry, 12.4% on the comp basis -- on the comp basis. Company-wide, it's an 11.5%. But that's up 15%. And what we've always said is we have roughly about 65% of our stores have third-party delivery. As we've mentioned earlier last year, at the end of last year, and continuing to the first quarter, we do have the catering tests that's in three markets. I think I reported in the first quarter, it was roughly in those markets, it contributed about $180,000 worth of volume. I'd say, for the second quarter, it probably brought in 275 in those 3 areas. We will be looking at adding two more catering vans this upcoming year, 1 will be in the D.C. market, the other one will be in our Atlanta market. So we're very pleased, initially with that going on. But we're excited about what we're doing there. And again, it's a -- we're -- over the 4 of the last 5 years, we've been in double-digit sales increase, and it's consistently growing. We've not been growing at a 14% rate though. So we're excited about it.

Hugh Gooding

And then going back to kind of the comp and the 1.8% pricing that you rendered in the quarter. Just given that you're expecting the commodity environment to look pretty favorable for the remainder of the year, can we expect that level of pricing to continue? And is that changing the way you're looking at future pricing actions?

Jon Howie

Well, we only take 1 price increase a year, and that's done at the beginning of the second period of each year. So we won't be taking anymore price during the year. But you can expect that 1.8 to 2, going 4, for the rest of the year, in our pricing, because of that mix that I was talking about earlier. And yes, we're expecting the back half, some deflation in our cost of sales.

Operator

We'll move now to Chris O'Cull with Stifel.

Christopher O'Cull

Jon, I believe, you're expecting the year-over-year change in labor costs as a percentage of sales to improve after the first quarter. What surprised you during the second quarter?

Jon Howie

Well, I think, if you remember on that first call, I said that, it -- actually, after that quarter, been slightly up above 3. So yes, we were under 3 in the first quarter. But in the fourth quarter -- or the period 4, we were experiencing a little above that. But yes, I mean, it's just competition, Chris, getting -- because we're not in those markets that have the wage inflation from a minimum wage standpoint. But it's really all competition at this point.

Christopher O'Cull

So the new store and efficiency drag on labor costs during the quarter was consistent with what you're expecting -- it was just primarily due to just greater wage inflation?

Steven Hislop

Chris, this is Steve. I will tell you it has taken us a little bit too long to bring those -- to streamline the stores outside, specifically in Colorado. And we have a pretty good plan as of currently, but it's been a little bit longer ramped down than our existing stores.

Jon Howie

And we expect part of that -- probably 40% to 50%, maybe 60% is related to kind of the wage inflation that you're talking about and the rest of the inefficiency of those [indiscernible]...

Steven Hislop

And we'd have to be quicker on the step-down.

Jon Howie

Yes. And we are. And we will be...

Christopher O'Cull

Okay. That's helpful. And then, Steve, once the new labor tool is rolled out, do you plan to alter the general manager's bonus plan, so they're rewarded for narrowing kind of that A versus T gap?

Steven Hislop

Well, the key thing, Chris, the number one thing that I do is, everybody is 100% bonus done, what we say, the sales line, and then, their total controllable income. I don't really narrow it down to a segment, I think that's dangerous. But having said that, obviously, we have productivity values of the kitchen and front of the house and all stores and all like stores. When I mean all like stores, it's basically the volume spreads. The key for us is what this labor tool's going to do is, it's just going to be, from a budgeting prospect to a projection prospect, it's going to highlight an exceptional report, anybody that's outside their window as far as the sales volume and the productivity that we're looking for that store to have. So it will be more of an exception reporting thing. The second piece that it gives you, though, which sounds -- maybe small, but it can add up, is schedule enforcement. Schedule enforcement means, basically, the beginning and ending of a shift -- when they punch in and when they punch out. And that will be -- some incremental benefits there also.

Christopher O'Cull

Okay. And then lastly, Jon, G&A has been up about $1 million year-over-year in the first half of the year, but your guidance implies, it's going to be a -- closer to $2 million year-over-year in the back half. Are you guys planning some new projects for the back half of the year?

Jon Howie

No. I think a lot of that, Chris, was the takedown of the bonus last year. Because if you remember, we paid 0 bonus on the performance bonus last year.

Christopher O'Cull

Got you. So we should see adjust -- you're lapping an adjustment to the accrual last year?

Jon Howie

Correct.

Operator

[Operator Instructions]. We'll go next to Nick Setyan with Wedbush Securities.

Nerses Setyan

When we think about the unit additions next year, if the transaction trend stay negative, can we actually see a lower number of additions next year than this year?

Steven Hislop

I'd say, it's looking very similar to this year.

Nerses Setyan

Are we going to new market, or is it all backfill?

Steven Hislop

All backfill. It will be all backfill. We'll have some in -- we'll have few in Texas, and then all of those will be backfill.

Nerses Setyan

And as we kind of see the higher labor inflation, as we go into next year, can we actually see a little bit more pricing, Jon?

Jon Howie

We want to be careful there, but I would say no. I mean, we do a comparison. Our biggest thing is to make sure that we still have that competitive gap in pricing, in our menu. We currently just did a recent study in Denver, after they did those increases. We had a little room there, but I think it would be specific to the tiers, depending on where that price gap is, and where the labor is. I wouldn't speak too much in like the Tier 1 and Tier 2, we'll probably not seeing the competition in the labor as much there as we are in some of the other.

Nerses Setyan

And then just lastly, I mean, if I were just to think about kind of like maintenance CapEx run rate, steady state, what's that CapEx number, Jon?

Jon Howie

Well, we budget -- I mean, we have a lot in that in addition because with the expansion into our new offices, and then we do 5 to 6 remodels a year. But taking those out of it, it averages about 35,000 to 40,000 store a year.

Operator

We'll move now to Andrew Strelzik with BMO.

Andrew Strelzik

A couple from me. The first one on the guidance, I just want to understand -- I want to make sure I'm understanding on the margin side. You're pointing to that labor, but the numbers that you called out which I recognized are for the comp base. It seems like you would be offset by the reduction in kind of the guidance on commodities. If I have that right, so is it really the noncomp units that you're seeing the labor pressures with respect to the change in the guidance?

Jon Howie

Yes. I think that's what we were saying earlier. The noncomp stores, we need to get that run rate down a little quicker on those. Currently, it's running probably 9 to 12 months, then we're trying to get that down 6 to 7 months. But yes, our labor was probably -- was still a little higher this quarter than what was projected by probably 40, 50 basis points and cost of sales was under what we were projecting by about 30 or 40, so it's still higher than that. And the forecast, we probably adjusted that labor up, 20 or 30 basis points, and cost of sales, down about 10 or 20 basis points. So we're still adjusting that labor up as well as op expense. That's been running a little higher, believe it or not, which is a good thing. But to-go packaging is up about 10, 20 basis points in that area. And when we changed the packaging at the end of the year, we continue to be up there, and that's strictly just because of the increase in to-go sales as kind of the overall increase in sales. That's a bigger impact on a percentage of sales than kind of -- or a bigger impact increase on a percentage basis, because of the increased in to-go.

Andrew Strelzik

Okay. That's helpful. And then on the labor tool, do you actually have any of the benefits assumed in your guidance or could that be a potential offset once you get that fully rolling? Or maybe there's a delay when you actually realize that?

Jon Howie

We don't have that factored in, currently. But it will be, like I say, it will be -- once we get a tool in place, it will still take some training on that tool as well. So we'll have fully implemented here, end of, hopefully, third quarter. And then they'll be -- get training up and going on that at the end of third quarter, early in the fourth quarter.

Steven Hislop

And it's important to know on this projection thing is, what this has to do is maximize sales on half-hour, quarter of hour basis on proper scheduling in aces and places. That's the number one thing. And at the end of the day, it's a sales driver through people that are -- have more experienced, and how we do that. So that's the number one thing. And then with digital, as far as what we'll do on a labor savings is, again, on the early and late punch in, and then the flow through of the sale.

Jon Howie

One thing to remind everyone, too, last year, in the fourth quarter, we had some extra leverage because of the extra week. But that was somewhat offset as well because we opened 5 stores in the fourth quarter. This year, we're scheduling to open anywhere from 2 to 3 in the fourth quarter. So keep that in mind from an efficiency standpoint.

Andrew Strelzik

Okay, great. That's helpful color. And then the last one from me. Just how confident are you that the off-premise business is not impacting your in-store business? So it looks like based on the growth rates, most of the comps the last couple of quarters can be attributed to that off-premise. So as you roll out the Olo, and maybe even start to see an acceleration from an off-premise perspective, I guess I'm wondering how you're thinking about how that may be impacting or it may impact going forward the in-store?

Jon Howie

Well, I mean, you're right, we're seeing, obviously much higher increases in off-premise. But I don't think it's impacting the 4 walls. I think it may be more of a change in consumer bias to grab and then go on versus sitting down maybe. But what we're doing is not impacting the 4 walls and our focus is to still to get buzz and seat.

Steven Hislop

Always. Always. We want the experience. I mean, we expect -- because Olo is actually going to make it even much more convenient for our guests to do that also, but it's always -- it's the experience inside the 4 walls.

Operator

Ladies and gentlemen, that will conclude our question-and-answer session. At this time, I'll turn the conference back over to Steve Hislop for any additional or closing remarks.

Steven Hislop

Thank you all so much. Jon and I appreciate your continued interest in Chuy's, and we will always be available to answer any and all questions. Again, thank you, and have a good evening.

Operator

That will conclude today's conference. Thank you once again for your participation, and you may now disconnect.