Arcos Dorados (NYSE:ARCO) Q2 2018 Earnings Conference Call August 8, 2018 10:00 AM ET
Daniel Schleiniger - Vice President of Corporate Communications and Investor Relations
Sergio Alonso - Chief Executive Officer
Marcelo Rabach - Chief Operating Officer
Mariano Tannenbaum - Chief Financial Officer
Robert Ford - Bank of America Merrill Lynch
Richard Cathcart - Bradesco BBI
Anthony Bitz - Fierro Capital Management LLP
Robert Schweich - RMB Capital
Jeronimo de Guzman - INCA Investments, LLC
Good morning, and welcome to the Arcos Dorados Second Quarter 2018 Earnings Call. A slide presentation will accompany today’s webcast, which will also be available in the Investors section of the company’s website, www.arcosdorados.com/ir. And as a reminder, all participants will be in listen-only mode. There will be an opportunity for you to ask questions at the end of today’s presentation. Today’s conference call is being recorded.
At this time, I would like to turn the call over to Daniel Schleiniger, Vice President of Corporate Communications and Investor Relations. Please go ahead.
Thank you. Good morning, everyone, and thank you for joining us today. With me on today’s call are Sergio Alonso, our Chief Executive Officer; Marcelo Rabach, our Chief Operating Officer; and Mariano Tannenbaum, our Chief Financial Officer.
Please turn to Slide 2. Before we proceed, I would like to make the following Safe Harbor statement. Today’s call will contain forward-looking statements and I refer you to the Forward-Looking Statements section of our earnings release and recent filings with the SEC. We assume no obligation to update or revise any forward-looking statements to reflect new or changed events or circumstances.
In addition to reporting financial results, in accordance with Generally Accepted Accounting Principles, we report certain non-GAAP financial results. Investors are encouraged to review the reconciliation of these non-GAAP financial results as compared with GAAP results, which can be found in the press release and unaudited financial statements filed today with the SEC on Form 6-K.
The differences in exchange rate and inflation in Venezuela generate material accounting distortions, impacting both the reported results of our Venezuelan operation as well as our consolidated results. And for that reason, and unless otherwise indicated, all results referenced in our comments today and shown on the accompanying presentation exclude the results of our Venezuelan operation, both at the consolidated level as well as for the Caribbean division.
For your reference, we included full income statement, excluding Venezuela to our earnings release. We trust this additional detail will provide you with greater visibility into our operating results.
I would now like to turn the call over to our CEO, Sergio Alonso.
Thank you, Dan. Hello, everyone, and thank you for joining us today. Please turn to Slide 3. As you all know, our strategy starts with building top line by offering a compelling value to bring more guests, more often to our restaurants. In order to achieve this, we are managing the business drivers that are most under our control.
We generated our 7th consecutive quarter of consolidated comparable volume growth and continued to gain share in our main markets. I believe that this is a testament to the strength of our strategic approach, given that we achieved these results even within a very challenging operating environment in our largest market.
During the second quarter, traffic growth, value-driven pricing and an improving product mix generated comparable sales above blended inflation in NOLAD, SLAD and in the Caribbean. And without the impact of the truckers’ strike, our comp sales trend in Brazil was also above inflation for the quarter, even though we had a tough comparison with the year ago quarter.
Looking forward, we expect continued short-term challenges, but remain committed to our long-term plan to modernize our restaurants, provide an experience that it’s second to none and offered the best value for money in the QSR segment. Specifically, with respect to the second quarter, we faced some external headwinds, which were reflected in our as reported results.
The truckers’ strike in Brazil, which significantly impacted most of the consumer sector led to a decline in our top line for the quarter. Our Brazilian operation was on track to deliver one of its best months in recent years. However, top line trends turned negative for the last 10 days of May during the strike, and then for the first 10 days of June, while we rebuilt our supply chain and restaurant inventories.
Importantly, our gross margin expanded in Brazil, as food and paper costs declined as a percentage of revenue, benefiting from a combination of strong product mix and our currency hedging strategy. In the medium-term, we believe that Brazil’s consumer environment will improve and we have a clear competitive advantages to capture the opportunity ahead.
In Argentina, local currency top line performed in line with trending inflation, supported by a positive comparable volume. Having said that, reported revenue declined due to the significant depreciation of the Argentine peso year-over-year. In the near-term, consumer activity remains difficult to predict, given the currency depreciation and our challenging macroeconomics condition.
Our focus remains on offering compelling value to our affordability platform and across the rest of our menu to drive additional guest traffic to our restaurants to leverage our cost structure. In addition, we’re gaining traction in other important markets that we contribute to our future growth.
I will highlight Mexico, which continue delivering solid top line results in the quarter with very strong volume growth, driving higher average check. As we have done in other markets, including Chile and Colombia, we expect this higher volume to start generating greater profitability by the second-half of 2019.
We remain confident that we will leverage our fixed costs at the restaurant and corporate levels to generate 100 to 200 basis points of margin expansion over the next two to three years. We have built our strong cash balance and are ahead of schedule on our three-year capital allocation program.
Our priorities remain to open at least 200 new restaurants, the majority of which will be freestanding units, and to bring best $390 million, primarily to accelerate the deployment of Experience of the Future.
As we noted before, our business model generates margin leverage when we deliver sustained top line growth. In that respect, we’d align with McDonald’s Global Velocity Growth Plan, which is focused on driving top line and increasing operating efficiencies.
In summary, I’m confident that our strategy combined with the medium to long-term economic outlook in the region will deliver sustainable growth and significant shareholder value over the next several years.
Now I will hand the call over to Marcelo for a review of our operating performance.
Thank you, Sergio. Now please turn to Slide 4. As Sergio mentioned earlier, our long-term fundamentals across the region remained strong, and we generated the 7th consecutive quarter of positive year-over-year traffic, evidence that our strategy can be sustained even in the place of difficult market conditions. We remain focused on growing volumes, margins and market share to stimulate top line growth and attract more guests to our restaurants more often.
As we have seen in several markets, sustained volume growth generates additional profitability and cash flow to maintain and grow our business over the medium-term. Our current marketing initiatives are designed to provide guests with a compelling value proposition and stimulate volume in a soft consumer environment. We are modernizing our restaurant base to maintain and drive share.
On top of that, we have a strong marketing calendar, which is focused on family experience and the value and quality of our iconic menu items. And we’re providing guests with additional choice in how they order and pay. We’re making progress on our plan to have approximately 650 EOTF restaurants by the end of 2019, primarily in Brazil and Argentina, and we’re also preparing the rest of our markets for future EOTF deployment.
At the end of June, we have 158 EOTF restaurants and we have developed local suppliers that are providing the vast majority of our needs for the EOTF features. We will be accelerating the deployment of this transformation in the coming quarters.
We are receiving strong positive feedback from our guests, as the self-order kiosks allow them to seamlessly customize their orders. The multi-point service improves their experience and the refurbished interiors offer them and their families a modern and inviting environment.
Importantly, we continue to perform in line with other regions of the McDonald’s system in terms of our checklists at our self-order kiosks. Successful implementation of EOTF, not only boosts our competitive advantage in the short-term, but like all of our investments, it will help us capture the long-term opportunity of our business.
We continue to make progress with McDelivery, both through a global agreement with Uber Eats, as well as local agreements with other leading delivery partners. We are now operating in nine markets across our region versus just three markets at this time last year. While still in the pilot phase in some markets, we are consistently capturing incremental guest counts in the restaurants that offer this service.
On the digital front, our mobile app is also growing in relevance. As of the end of the last quarter, it has been downloaded nearly 15 million times in our geography and we continue to work on evolving functionality. Our Cooltura de Servicio program, which encourages our employees to be themselves and focus on providing the best possible service to our guest is making a significant and lasting impact on our operational culture.
The result we’re seeing continued improvement in customer satisfaction scores across our system not just in our EOTF locations. This program is a major differentiator that I believe is partly responsible for the market share gains that we have seen in our main markets, including Brazil, where we remained the favorite QSR brand for the studies we conduct with a well-known international market research company.
Please turn to Slide 5. We continue to maintain and grow the best restaurant footprint in our industry by far. With over 1,300 freestanding and in-store locations, we have the highest sales volume of any major QSR chain in the region.
Our unit growth strategy, which includes more than 200 restaurant openings for the 2017 to 2019 period, it’s based on leveraging our decade of expansion experience. We will generate cash flow growth, not just by adding units, but also by leveraging our streamline cost structure through sustainable top line growth.
Working together, our restaurants, our food and our people are delivering the competitive advantages that will ensure our continued growth. We look forward to keeping you up-to-date on our progress.
Mariano will now take you through a discussion of our key financial results.
Please turn to Slide 6. The underlying business trends in our region remained favorable and in line with our expectations for the long-term. In the second quarter of this year, we increased total revenue in constant currency by 7%. This was supported by solid comparable volume growth on a consolidated basis, which was partially offset by the trucker strike in Brazil. Our reported revenues were impacted by the depreciations of the Brazilian reais and Argentine peso.
Please turn to Slide 7. Looking at our operation, we generated efficiencies in our most important cost and expense lines. Food and paper costs declined as a percentage of revenue in almost all divisions. We also improved productivity in our restaurants, which led to lower payroll costs as a percentage of revenue. These efficiencies were offset by leveraging of occupancy and other operating expenses and our re-franchising proceeds and a step up in royalty fees.
I should note that this was the last quarter facing the comparison with the full increasing the royalty fee, which became effective in August of 2017. Our G&A expenses decreased by 1.7% year-over-year, in part due to the depreciation of the Argentine peso.
Please turn to Slide 8. Adjusted EBITDA decreased 17.1% to $49 million with margin expansions in SLAD and the Caribbean divisions and margin contractions in Brazil and NOLAD. Adjusted EBITDA margin contracted by 100 basis points for the regions I have already mentioned.
Moving to the bottom line. In this quarter, we generated $10.7 million of net income, compared to $1.1 million in the same period last year. More over, the prior year result including – included $4.2 million from our redevelopment initiative, which concluded in 2017.
Net interest expense was $10.6 million lower year-over-year. This was due to two main factors: the restructured debt carries a lower financial costs; and the previous quarter results included certain transaction expenses, including connection with the debt restructuring. The non-cash foreign currency exchange result was better, while the income tax expense variance versus last year was negative.
Please turn to Slide 9 for more detail on our divisional results. The 10-day trucker strike in May led to the 1% drop in comparable sales in Brazil in the quarter. Importantly, it took an additional 10 days in June to normalize our operations as our producers, suppliers, distribution centers and restaurants with these inventories.
Excluding the impact of the strike, we estimate that we would have posted comparable sales growth of 3.7% in the quarter, mainly as a result of our continued efforts to drive traffic to our stores. Top line performance in our other divisions remained on track with NOLAD flat and Caribbean, all generating comparable sales growth in line with or above blended inflation in the quarter.
I’m particularly pleased with the results we’re achieving in Mexico, where we posted our sixth consecutive quarter of strong comparable traffic growth. Despite the negative effect of the Easter holiday shift, volumes in that market continue to perform strongly, significantly outpacing the competition. Our innovative marketing and digital initiatives, as well as our focus on delivering the better guest experience are driving improved performance.
Please turn to Slide 10. Brazil’s adjusted EBITDA margin contracted 200 basis points to 10.9% in the quarter. We capture efficiencies in food and paper, which benefited from a favorable shift in mix, as well as our currency hedging strategy. However, the sales decline resulting from the truckers strike led to a deleveraging of our other expense line items.
Additionally, the comparison with last year’s refranchising activity representing – represented 70 basis points of the margin decline in division. Our NOLAD, adjusted EBITDA margin contracted 140 basis points, mainly due to higher royalty fees. In SLAD, we posted almost 22% constant currency adjusted EBITDA growth, which was above the division’s blended inflation, with a margin expansion of 10 basis points.
Adjusted EBITDA in the Caribbean was $7 million, an increase of $3.4 million year-over-year. Adjusted EBITDA margin expanded by 210 basis points with efficiencies in most line items except for Royalty Fees. In addition, this quarter’s results include an insurance recovery from the damages caused by last year’s hurricanes in Puerto Rico and the U.S. Virgin Islands.
On Slide 11, you can see that we continue to maintain a strong and healthy balance sheet during the quarter. Our net leverage ratio was 1.4 times adjusted EBITDA, well below our target range of 2 times to 2.5 times and stable versus the prior quarter. As a reminder, our leverage ratios are calculated using consolidated as reported results.
Moving to our capital allocation strategy, we are focused on opening at least 200 restaurants and reinvesting $390 to accelerate the deployment of EOTF in our markets from 2017 to 2019. While we are confident that our operational focus will deliver growth and shareholder value in the long-term, we are committed to generating shareholder value in the short-term as well.
Under our recently announced share repurchase program, we used $20 million to repurchase nearly $2.7 million Class A shares during the quarter. In April, we also paid $0.5 per share, or $10.6 million in dividends, with another $0.05 per share to be paid in October of this year.
Finally, we are confident that we will resume our past to expanded margins and cash flow growth in the short-term. The numerous external factors that impacted our results in the second quarter seem to have stabilized our non-recurring. We are working on both operating and non-operating initiatives to generate efficiencies in our business and support our consolidated results of this year and beyond.
I’ll turn the call back over to Sergio for his closing remarks.
Thank you, Mariano. Please turn to Slide 12. While we look forward with a strategic plan, we will also continue to leverage our scale to make a positive impact on our region. Within the next few days, we will be publishing our social impact report with an overview of the initiatives we implemented in 2017. These included over 20 programs in partnerships with various NGOs that benefited thousands of young people across the region.
In a vision, we are aligned with McDonald’s Scale for Good Initiatives related to packaging and recycling, kids nutrition and climate change. Benefiting the communities where we operate is one of our core values as a company and we will continue to work towards our long-term commitments in that regard.
Now before opening the call up for questions, I’d like to share a couple of thoughts with you. As we enter the second-half, the remaining part of the year, we know that we continue to face challenges in some markets and particularly, in the case of Brazil and Argentina as well to some extent.
We know we have elections in October in Brazil, so we believe that visibility for the last part of the year will be kind of limited. But we also know now that even in this scenario, we’re going to have percentage-wise margin expansion. And we believe this is a remarkable thing, and we believe it’s is not a consequence of any punctual decisions that we made, but it’s also the result of our longtime effort that we’re making to keep improving the efficiency in our restaurants. And same thing…
Sergio, sorry to interrupt you. But these you’re mentioning applies not only to Brazil, but to the whole company. For example, for several months now, we’ve been pushing for productivity increase in all of our markets. And that’s why even in this tough environment that we saw and we faced in the second quarter, we had leverage in payroll costs. And so this is completely aligned with what you’re mentioning, yes.
Sure, sure. And, of course, let’s say, I mean [indiscernible] Argentina, where we faced similar challenges and actually even much more complicated scenarios in recent years and we explain that. I mean, in a very challenging environment, we manage to grow our customer base and at the same time gain market share. So we are and we will be better positioned to capture incremental margins once the economy resume growth, which we by the way expect to happen early next year.
So finally, we obviously know that our financial statements are expressed in U.S. dollar, that’s for sure. But we do not control foreign exchanges. We sell and we operate every day in local currencies. This is why we explained our results in the currency that we do business, which is, in our view, the most accurate way to measure our real business performance.
Now I mean, with all that said, we’re confident that just as happened in the past, the economies will recover and the long-term relationship between currencies and inflation will normalize, will equalize somehow. So I want to make one thing crystal clear, we are managing this business for the long-term and we will capture the significant growth opportunity that our region, Latin America, still presents.
We have the best brand, we have the best operators and we have the best management in the business. And we will benefit also from our undisputed leadership in the region.
So thank you once again for your continued support and we’ll go to Q&A.
Thank you. We will now begin the question-and-answer session. [Operator Instructions] The first question will come from Robert Ford of Bank of America Merrill Lynch. Please go ahead.
Thank you, and good day, everybody. Sergio, you mentioned the greater labor productivity and the expectations of margin improvement across or right over the next couple of years. But when it comes to Brazil specifically, can you comment a little bit on some of the benefits you’re seeing from the labor reform and the anticipation that you have as a results of that for the next year or two?
Bob, good morning. How are you? [indiscernible]
Yes. Good morning, Bob. Yes, as we mentioned, we are experiencing increases in productivity, which is allowing us to see some leverage in terms of payroll in the P&L. We will continue to push those improvements in terms of productivity. And particularly in the case of Brazil after the labor reform, as you may already know, we have several deals with different authorities and unions in Brazil that we visiting looking at them after the labor reform. But we’re already seeing a positive impact as a result of the labor reform is a significant reduction in the number of labor claims, which usually – what used to be a main issue in this country.
So these reductions in the number of new labor claims overtime could bring significant cost savings in the P&L of Brazil, that’s very important for us. And again, this is on top of the – all the work that we’re doing in order to improve productivity and produce labor costs.
You are right. I mean, Bob, remember that when we spoke about this widely in the last couple of years, when we implemented the new scheduling system. And the reality is that, that system, that implementation continues to bring additional opportunities, because it’s – it helped us big time to improve. the accuracy of our sales projection we believe to a better full scheduling of the [indiscernible]
So the reality is, there are several components. Some of them are continuing to bring help to increase efficiency in the labor line in Brazil, mostly out of the implementations as well [indiscernible] and all the work that Marcelo and the team has discussed on full-year.
That’s very helpful. Thank you. But just in terms of the labor claims, right? Because now you’ve got losing party dates in terms of the legal cost, right? My understanding is that, these contingencies or these lawsuits that are being farther down dramatically across the Board. Now we’re just hoping you might be able to comment more specifically on the annual average cost of your litigation and maybe some of the settlements you had over the last four or five years before the reform? And what you expect us to normalize to, because it’s not a small number, right?
No, it’s not a small number. You said it right. It’s – we have to predict those, because in this regard would actually, right, at the early stages, like we don’t know exactly what the final outcome will be. What I can share with you though on this matter is that, it helps. It will help dramatically to bring this number to a regional average level when compared to other similar markets.
Brazil was completely out of the curve. And I had this chance of bringing some material cannot save, it was totally accurate or not. But I was told that in Brazil about 80% of the total labor claims that are based in Brazil. I believe that what happened as a consequence of the tax – or the law reform, it’s something that it will play very good for the market and then as a consequence for us in the business.
So I believe that probably by mid-next year, we will have a more stable situation. And that is – why is that? That is, because the average length of the claims, right? There’s a process. So we believe that about one year from now, we’re going to be in a much more stable platform. And then we’ll be able to calculate the net effect. But as you said, it is not minimal.
The next question will come from Richard Cathcart of Bradesco. Please go ahead.
Hi, everyone. Good morning. So I just wanted to ask about the CapEx that you’re investing in the reimaging. I mean, you reiterated the $392 million target between 2017 and 2019. So I just kind of wanted to understand where you are up to? I think, you’re accelerating for 2018, but it would just be interesting to know how many restaurants have been done specifically in Argentina and Brazil? And also if you can give us any indication kind of or the sales at least that you’re seeing in those restaurants? Thank you.
Sure. Richard, I’ll just take the first part of the [indiscernible] Mariano, Marcelo just jump in. Again, we have a commitment with McDonald’s more than three-year period, which has not changed. And it’s openheartedly 180 new restaurants that we’ve changed to 200 new restaurants when we announced the increase in $160 million for total CapEx. So we plan to open at least 200 restaurants. Keep in mind, Richard, that we have three-year cycles in terms of investment with McDonald’s.
The second component is to reinvest at least $390 million in existing restaurants to accelerate the deployment of Experience of the Future. And we are concentrated in these three-year cycle, Chile, Brazil, Argentina, and Uruguay, exactly.
Yes. And, Sergio, if I could. In terms of the openings, we already opened 50 restaurants in 2017. As Sergio mentioned, the 200 that we are planning to open in the cycle of 2017 to 2019. So this year we gave some guidance around 65 to 70 openings, so we are ramping up the number of the openings. We will have the balance to reach the 200 in 2019.
And the same happens with EOTF. We closed the first semester of this year with 158 restaurants under the EOTF contract. And we are planning to close 2019 with around 650 EOTF restaurants. So in this case, we are ramping up the investments in terms of EOTF, too.
Let me add one thing, Marcelo. Richard, actually, in summary, when we announced the initial commitment with McDonald’s was for 200 new restaurants and $290 in modernization. We increased that by $160 million. And it’s important to note that, that increase will be funded by cash that either we already have in our balance sheet or that we’re planning to generate along these three years, but we are not planning to increase our debt to fund this additional CapEx, that’s an important thing to note.
Yes. Finally, the capital comments, obviously, the big effort is kind of back ended for the period. And that is – there’s a reason for that is that, we’re local – the Experience of the Future initially it’s a system. It’s an advance system-wide initially. The decor packages that are being implemented on the same – the global scale.
So what we’re doing today is, we are concentrating in localizing on the décor packages in order to minimize the cost implication of it. So we’re working very diligently. Actually, we’re a bit ahead of schedule in these matters to localize decor package the was real reason – the actual reason. So we will have an accelerated implementation towards the last couple of months of this year and then for the remaining part of the three-year cycle. [indiscernible] it is a question that we are willing to get, just like with the decor packages, I would say that were prealigned with the results that the system is getting everywhere with just some new single-digit size list when compared and fully-implemented EOTF restaurants where we say, as a benchmark, which are the – I’ll call [indiscernible] which will be restaurant in the same format being a small store freestanding on each direction and located in similar marketplace.
The next question will come from Anthony Bitz of Fierro Capital Management LLP. Please go ahead.
Hello, thank you for the call and congratulations on the operating in a difficult environment. I had one main question and a follow-up if possible. In terms of the franchisees, I was wondering if you could give any color in terms of their operations vis-à-vis the owned locations and whether they were able to operate, as strongly as you all have been and then in terms of average check increases in constant currency terms, could you give any color as to how that’s broken down between volume and price? Thank you.
I’ll take the first one. Okay, our decision for – when we pulled the ownership split, I mean the restaurants that we operate and the restaurants that we sub-franchisee, actually follows the [indiscernible] bigger markets, bigger cities and rely on franchisees operators for small and mobile markets that we have proven many, many times and that combination makes us much more efficient, in terms of running the business. In terms of a performance, in sales, volumes, we don’t see any major difference when you compare our restaurants with our sub-franchisees restaurants.
In fact, there are couple of markets where we share restaurants in some cities, some old restaurants, and we do not see significant differences that could be explained just in the region of who owns or who runs a restaurant. When you talk about margins that could be a slight different story, because having a small operation in our both market you can have some more flexibility when it comes to, I don’t know cash collection or payroll or some of the elements of the P&L, that a more efficient sort of saying when you got a smaller local kind of operation compared to a company of our size moving to a centralized other functions that at the end of the day, they’re much more expensive. This holds true. I would say not for our [indiscernible] but for the entire McDonald’s system.
In line with what Sergio mentioned in terms of the strategic approach to the way that we operate in each city or in each restaurant, we’ve been their refranchising process that we did in Brazil, for example. We select those remote cities and smaller restaurants and we refranchise those. And that’s why I think that we’re seeing excellent results in terms of volumes and sales in Brazil and we’re concentrating our operations in the bigger cities.
In terms of sales and how they are compound between guests counts on average check, well, we are very pleased to see that we had the seventh consecutive quarter of positive headcounts with a tough environment in some of our major counties like Brazil for example and Argentina, but at the same time we are moving very casually our prices in order to be slightly below inflation to allow our customers to visit us as frequent as possible and I think that that’s the main explanation of why we are gaining share in this tough environment and why we are seeing positive traffic in our restaurants when some of our competitors are till other kind of features. So, we are very pleased with this kind of results. In terms of sales most of the improvements coming from traffic in most of our markets.
The important point I will add Anthony, if I may, is that the affordability platform that we have, which is actually pretty much across all the markets we have run. It is based upon prudence. They’re not consumption when it comes to pricing, but they certainly are when it comes to value providing, and we believe that the improvement that we are getting in most of the markets is actually higher than the pricing that we are doing. The smart pricing that we are doing, but it is a consequence of people shifting what they buy to full units, which is [indiscernible] particularly in a condition that we have in most of the markets in the bigger market where the economy is kind of facing some challenges.
Got it. Thank you very much for the answers. Thank you.
[Operator Instructions] The next question will come from Robert Schweich of RMB Capital. Please go ahead.
Good morning. I have no doubt about the better operational capabilities of Arcos Dorados, but I’d like you to spend some time on the macro environment. The currency situation is quite negative and the present rate on Brazil is less favorable than it averaged for the second quarter. In the newspapers here in the United States there was a negative article in the past week about wealthy Brazilians leaving the country because of their fears of safety, and you have this election coming up, I would like you to discuss the macro environment in as best you can for us to benefit from that.
Bob, good morning, how are you? let me take maybe on the first piece and then you can add some color on the FX situations, implications in our business. Bob, you know we’re like two months ahead of the elections, we will have elections in Brazil in October. As you know, certain regions in our countries – when we approach elections, the economy activity kind of slows down. There are clear expectations about what’s going to happen, and who’s going to take off for the next period.
In the particular case of Brazil, what here we have been seeing lately is decrease in consumer optimism and expectation. That is something that we are seeing currently in the marketplace. Whether that will go and continue after the elections or no, we don’t know yet. Like – our sense is that the country is set to improve and to recover once we are with the kind of live visibility or uncertainty phase, which we believe will be towards the end of the year. Regarding the FX decision – because of it is – in most of our markets, well, kind of [indiscernible], right? Elections and certainly – and then FX would happen.
Yes, hi Bob, how are you? Yes, regarding the FX, since you mentioned it is linked to the macro volatility and the uncertainty regarding the elections in Brazil. I think last – in June, in last call we discussed how we are working our strategy to face this volatility in the FX. First of all, in terms of translation of our results from in Brazil from the real to USD then of course when the Brazilian real will be widely appreciated against the dollar, our results will be affected.
What we can do actually is in terms of our imports and as a reminder in Brazil more or less 15% of our total food paper costs are dollar linked and regarding that exposure, what we do is we have a hedging program where we hedge on a rolling basis 50% of that cost and actually we have done that for the full-year 2018 and we already in fact started hedging as well for 2019. I think one of the reasons that if you look at our margins, our gross margin in Brazil, an improvement in the food and paper costs over sales is because our hedges are in place.
Having said that, we’re not doing those hedges in terms speculative strategy. It’s just to give certainty and visibility on our cost structure and to have an efficient operation and to be able to plan ahead. But mainly those are the two ways the FX is affecting our results. Maybe let me add that, because we have our debt also expressed or issued in U.S. dollars, half of that debt is swapped back to BRL as well.
So when the BRL depreciates against the U.S. dollar, actually the cost of our debt does not increase as much as if it were only exposed to the U.S. dollar. I think, we’re trying to cover all the risks that we can manage in this volatile region. And I think, mainly that’s the answer to your question regarding FX.
Yes. Let me add a couple of words about Argentina about – that I believe will be of your interest as well. In Argentina, well, the peso depreciated significantly. We said it, I believe, a few minutes ago, 50% and that is – it’s a big impact to our numbers when we translate the results into U.S. dollars.
So the second thing we do is, we monitor and we compare our results, our growth and profits with inflation and, in fact, we’ve been above inflation. So that is a testimony of the evolution of the business in local currency is performing well. We need to understand some other elements that are at the core, and what’s going on in the market. When inflation rate is [indiscernible] 30%, interest rates over 40%.
So we’re – I’d say, we’re at the peak of the – a number of things that are going on in the marketplace, I mean, 30% inflation copied with 40%-plus interest rate coping with the government removing subsidies from electricity, oil, water, all these – what we call it, the tariff – as a tariff everyone is in our selling list, but all these elements are affecting – and affecting significantly people’s disposable income.
As inflation starts to go down, so will interest rates and so will people recover purchasing power. That is very much what we’re going today. So that is why we believe that in a few months away and you won’t see inflation rates starts to show signals of going down, then it will help the marketplace significantly.
Yes. Bob, it’s important to mention that in that challenging environment that Sergio described for Argentina, we have positive traffic in NOLAD and Argentina was part of that positive result. So I think, that we are doing very well in that challenging environment.
And on top of that in terms of FX in Argentina and particularly, since we have the vast majority of our corporate structure baked in Buenos Aires, that works like some kind of natural hedge in terms of FX exposure in Argentina. So that’s why our G&A in dollar terms reduced as a consequence of the Argentine peso devaluation.
Yes, Bob, so let me add that. On top of that, 90% of our food and paper costs in Argentina are local in denominated in Argentine peso. So the exposure there as well is minimal.
Okay. Thank you very much. Do you see the election leading to a safer environment in Brazil?
Well, that’s – it’s more of a personal opinion. I’d say, yes, Bob, number one, because it will bring visibility. Secondly, yes, as well, because we will have a President that is elected. We have sort of a concessional situation today, as you know. And all those elements should bring a more stable situation in the market and then leading to resuming growth or – and economic performance. Yes, I’m sure.
[Operator Instructions] The next question will come from Jeronimo de Guzman of INCA Investments. Please go ahead.
Jeronimo de Guzman
Hi, good morning. I’m trying to better understand the one-off impact of the truckers’ strike in Brazil versus kind of a macro environment. So I was just wondering if you could give us some more color on how those same-store sales trends had been looking in April and May, or alternatively, how they were looking after those first date of June, how they were looking there in June or into July?
Yes. Good morning, Jeronimo. How are you? I’ll take the first one and then you comment. I believe, we stated. There’s like a 5 percentage point gap between the comp sales trend that we were having, right, before the strike and the actual figure that we recorded for the quarter.
So 5 percentage points for the quarter in Brazil after 10 days of strike, which is May 21 towards the end of the month. And then another 10 days period that took us to restop the restaurants levels, inventory levels back to normality. So we are – the combination of sale in the normal third line up.
Yes, and that period of time saw in both of the supply chain, because the strike affected not only the deliveries to the restaurants, but the distribution center and even the suppliers.
So you can do the math, Jeronimo. I mean…
Jeronimo de Guzman
…I believe that to calculate that what would happen should the strike didn’t happen, I believe you can do the math. I have to say though that what happened after the strike, I mean, the activity levels did not came back to the previous situation, which we believe is a consequence of what we’re discussing before of the election approaching the highest degree of uncertainty, if you will, when that was going to happen with the election process that we have in two months or so.
Jeronimo de Guzman
Okay, thanks. That’s very helpful. And then just on a follow-up on Argentina. I mean, I understand also based on what you mentioned that the consumption remains very uncertain. But I was just wondering if you could comment on your – what do you see as your pricing power in the market. I mean, it seems like you’ve been – you’ve done a very good job. You’ve been able to continue pricing in line with inflation. And I was just wondering if you think you can continue doing that in this kind of environment?
Jeronimo, it’s a balance, I mean, it’s a balance. Of course, when you run a market with 30% or 35%-plus inflation, it’s a situation then you have to monitor very closely, very, very closely, because if you get too behind inflation, it is really hard to recover the pricing of the price.
But sometimes, if you go ahead of inflation, that will hurt significantly volumes, because as I was saying before, I mean, we are in this current situation of Argentina, we are probably of the worst of the possible times, because again, I mean, people are suffering from the purchasing power standpoint as much as they can, if you will. As the inflation starts to go down, this situation will improve obviously.
We’re focused on remaining at a very, very compelling value proposition, which we believe is the right thing to do. And, in fact, it’s going to be well, because Marcello was explaining or possibly just in the traffic and evolution, we know that Argentina is a big majority of the division.
So that is a testimony of what we’re doing is the right thing to do, right? We just protect the value we provide to our customers, protect the customer base, and at the same time ensure that we won’t compromise margins by being far behind the inflation evolution in the market.
This concludes our question-and-answer session. I would now like to turn the conference back over to Sergio Alonso for any closing remarks.
I want to thank you for your questions and your attention today. I mean, as we always say, the team remains available to meet you and answer any questions that you may have. So thank you very much, and enjoy the rest of your day.
The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect your lines. Have a great day.