Dine Brands Global, Inc. (DIN) Q2 2018 Earnings Report, Transcript and Summary

Welcome to the Second Quarter 2018 Dine Brands Global, Inc. Earnings Conference Call. My name is Sofia, and I will be your operator for today's call. [Operator Instructions]. Please note that this conference is being recorded. I will now turn the call over to Ken Diptee. Mr. Diptee, you may begin.

Good morning, and welcome to Dine Brands' Second Quarter 2018 Conference Call. I'm joined by Steve Joyce, CEO; Tom Song, CFO; Darren Rebelez, President of IHOP; and John Cywinski, President of Applebee's. Gregg Kalvin, Corporate Controller, will also be available during Q&A. Before I turn the call over to Steve, please remember our safe harbor regarding forward-looking information. During the call, management may discuss information that are forward-looking and involves known and unknown risks, uncertainties and other factors which may cause the actual results to be different than those expressed or implied. Please evaluate the forward-looking information in the context of these factors, which are detailed in today's press release and 10-Q filing. The forward-looking statements are as of today and assumes no obligation to update or supplement these statements. We may also refer to certain non-GAAP financial measures, which are described in our press release and also available on Dine Brands' website. With that, I'll turn the call over to Steve.

Thanks, Ken. Good morning, everyone. So positive sales momentum for both brands continued into the second quarter as Applebee's and IHOP's comp sales outperformed their respective categories by a wider margin in the second quarter compared to the first quarter. Applebee's reported strong comp sales growth of 5.7%, driven by improvement across each day part and every single region across the United States. These underscores the affinity that our guests have nationwide for Applebee's, the leader in its category for the last 10 consecutive years. The brand's performance was also supported by sharp increase in second quarter to-go comp sales, which was primarily driven by traffic. Additionally, IHOP posted a 0.7% increase in comp sales, attributable to continued solid performance from the brand's off-premise business and positive comp sales across all but one region. Also, the lunch and dinner day parts experienced a significant lift in both sales and traffic immediately following the very successful launch on June 11 of IHOP's all-new Ultimate Steakburgers platform. I'd like to point out that each brand's strong off-premise business is highly incremental and a direct result of several enhancements made over the last year. This include upgrading our guest-facing technology, improvements to our websites and developing to-go packaging to ensure that our food is easily portable and remains warm. John and Darren will provide you with more details on the specific performance drivers of their respective brands a little later. Our broad-based growth plans to drive sustainable positive performance have gained solid traction. While we are pleased with the results, we know that there is more work ahead of us as we execute on several initiatives and improve our strong adjusted free cash flow profile. Turning briefly to Applebee's franchisees financial health. We are also very pleased with the overall condition of the system. We are currently working on solutions for the remaining franchisees that need assistance and expect to have this result within the next couple of months. Please note that we will not comment on individual franchisees. Now as part of the resolution process, we do have the ability to selectively take back and manage restaurants on an interim basis until these units are re-franchised. By doing so, we often see opportunities to deliver attractive returns and improve unit level performance. Due to the improvement in both the health of our Applebee's franchisees and the impressive growth in comp sales, we believe that the issues related to the collectibility of advertising and royalty fees have been largely resolved. With that, I'm going to turn the call over to Tom and discuss the financial results. Tom?

Thank you, Steve. Good morning, everyone. Let me start by saying that I'm very pleased to join the Dine Executive team during. Since joining the company two months ago, I've become even more impressed with the talented team and capabilities that we have for our guests and franchisees. I'd like to also thank my colleagues here at Dine for the warm welcome I've received. With that, I'll begin with a summary of our results for the second quarter of 2018. Adjusted EPS was $1.03 compared to $1.34 for the second quarter of 2017. The decline was primarily due to a decrease in gross profit for franchise operations as a result of our previously announced special contribution totaling approximately $16.5 million to the Applebee's national advertising fund for the quarter. This represents $12.2 million after taxes or $0.69 per share. This decrease was partially offset by IHOP restaurant development and openings over the past 12 months, an improvement in both brands' domestic same-restaurant sales. Year-to-date through June 30, we have completed the special $30 million contribution to the Applebee's national advertising fund, which was $22 million after tax or $1.25 per share. I've seen significant improvement in the brand's performance. To provide some color on franchise operations, IHOP's same-restaurant sales of 0.7% for the second quarter of 2018 is in line with our range of guidance for the whole year. Applebee's same-restaurant sales of 5.7% for the second quarter of 2018 far exceeds the range of guidance previously provided for the whole year. I will provide an update on our guidance a bit later. Total revenues were approximately $184 million for the second quarter of 2018 compared to approximately $189 million for the same quarter a year ago. The decrease was primarily due to the refranchising of nine IHOP company-operated restaurants in June 2017. These company-operated IHOPs contributed $3.4 million of revenues during the second quarter of 2017. G&A in the second quarter was approximately $39 million compared to approximately $37 million for the second quarter of last year. The marginal increase was mainly due to an increase in personnel expenses related to higher costs of stock-based and other incentive compensation. These costs were partially offset by a decline in professional services expenses. I would like to highlight that our G&A for the second quarter of 2018 was slightly higher than the run rate for what we expect for the balance of the year. Turning briefly to our tax rate. Our GAAP effective tax rate for the second quarter of 2018 was approximately 48% compared to 46% for the same period of 2017. The higher tax rate was due to an increase in our tax provision by $5.7 million related to adjustments from audits for the 2011 through 2013 tax years. This increased our effective federal tax rate from what would have been a combined federal and state rate of 26% to approximately 49% and 37%, respectively for the 3 and 6 months ended periods. On the other hand, completion of the 2011 and 2013 tax years will allow us to accelerate the collection of certain tax benefits recognized in prior years. We expect to receive a cash refund of $12 million within the next 12 months. Cash flows from operating activities for the first six months of 2018 were approximately $26 million compared to approximately $21 million for the same period of last year. The increase was primarily due to favorable impact from the changes in working capital. Adjusted free cash flow for the first six months of 2018 increased to approximately $28 million from approximately $19 million for the same period last year. Regarding Applebee's franchisee health. We've made further progress on addressing franchisees financial health and remain encouraged by the continued improvement in Applebee's comp sales royalty payments and an approximate $2 million decline in Applebee's bad debt expense compared to the same period of 2017 due to the recovery of announced reserved in prior periods. We previously noted that delayed royalty and advertising payments were concentrated to three franchisees. I would like to highlight that through July, all three are making their royalty payments, and this represents a significant milestone for the Applebee's brand. We believe that both brands are well positioned for new franchisee participation and growth over the long term. Turning briefly to an update on performance guidance. I would like to highlight a few revisions, but please see our press release for complete guidance. As a result of Applebee's solid performance in the first half of the year, we now expect comps to range between positive 3.5% and positive 4.5%. The previous range was between flat and positive 3%. We now expect IHOP's comps to range between positive 0.5% and positive 2.0%. The previous range was also between flat and positive 3%. Expectations for the closure of Applebee's restaurants was revised to approximately 80 to 90 domestic Applebee's restaurants and approximately 10 international restaurants. This compares to previous expectations of approximately 60 to 80 domestic and international Applebee's restaurants combined. Adjusted free cash flow is now expected to range between $99 million and $119 million, mainly due to expectations for slightly higher receipts from notes and equipment contracts receivables. This compares to previous expectations of between approximately $94 million and $114 million. To close, we are pleased with our performance for the first half of the year, and we'll continue to execute on our plan to drive sustainable, positive sales in the back half of the year while managing our expenses. And lastly, as noted in our separate press release this morning, we are currently pursuing refinancing of our securitized debt. With that, I'll now turn the call over to John.

Thanks, Tom, and good morning, everyone. We are certainly pleased with our progress in Applebee's as we've now posted three consecutive quarters of growth, including 26 consecutive weeks of positive comp sales here in '18. Q2 comps were up 5.7% with virtually all of this growth coming from traffic. For context, our year-to-date 4.5% comp sales growth represents an 1,160 basis point swing from a year ago. Collectively, these past three quarters represent the best sustained performance Applebee's has delivered in more than a decade, and we're clearly stealing share from competitors as we've consistently outperformed casual dining, fast casual, family dining and QSR on both traffic and sales. Now to put this in proper perspective, for the first six months of this year, according to Black Box, Applebee's has outperformed the casual dining category, excluding Applebee's, by 465 basis points on comp sales and 685 basis points on comp traffic. So it's certainly apparent to me and our franchisees that America has rediscovered its love for Applebee's. While still early, we plan to build upon this momentum one guest, one step, one quarter at a time. As I've stated on prior calls, our momentum is the result of a multidimensional growth strategy that we put in place this past year. It starts with our franchisee partners and their restaurants. We remain fixated on our guests and team members with restaurant excellence as our top priority. Guest satisfaction continues to improve, while system variability on all operating metrics continues to narrow. Now having operations, marketing and culinary leadership with a keen understanding of ops complexity and simplification is a real brand strength. We simply don't introduce initiatives, our restaurant GMs and team members can't execute with a high degree of proficiency and confidence. Importantly, our franchisee collaboration and partnership is stronger than ever. We have a unique domestic business model with only 36 partners and some of the best franchisees in the restaurant industry. They are sophisticated with deep experience and infrastructure and a real commitment to guest-centric culture that is second to none. While a handful of franchisees remain challenged, the vast majority are markedly healthier than they were a year ago and certainly poised for sustained profitable growth at the restaurant level. Given our collective momentum and confidence, all franchisees have agreed to increase their national advertising rate with virtually all agreeing to an increase from 3.5% to 4.25% effective July 1 through the end of 2019. Now this is meaningful news as it allows us to implement our strategic plan with proper marketing and media support moving forward. In Q2, we continue to leverage Eatin' Good In the Neighborhood as the most compelling and relatable brand position in the category. We successfully executed our strategy of abundant value, buzzworthy culinary and beverage innovation, off-premise relevance and best-in-class advertising with breakthrough results. On the off-premise front, to-go sales grew 31% in Q2 accounting for about half of our total comp sales growth, and delivery is now being offered in more than 500 Applebee's restaurants with at least one of our national brand partners and some regional partners as well. And we expect this number to increase meaningfully by year-end. While pride and belief are back at Applebee's, it's still early. Our competitors remain formidable, and we have much work ahead. We also continue to refine and optimize our franchisee portfolio with proven restaurant operators committed to Applebee's long-term success and restaurant excellence. As previously outlined, this includes some franchisee-to-franchisee acquisition as well as the introduction of a few new franchises. As an example, last September, we welcomed Apple Mountain, our new franchise partner with 10 restaurants in Utah, who is now one of our top performers in the system. And just last month, which introduced Louisiana Apple, our newest franchisee with substantial restaurant experience currently operating 18 Applebee's in Oklahoma, Arkansas and Kentucky. In closing, I'm proud of our team and our franchisees. We have a unique partnership, category-leading results and a clear plan for sustained profitable growth, and we'll certainly continue to challenge the status quo in everything that we do. Thinking back to our annual conference last October, we set a bold goal to become the most improved restaurant brand in America, and I'm confident we're well on our way to achieving this bold goal here in '18. Now with that, I'll turn it to Darren.

Thank you, John. Good morning, everyone. IHOP's second quarter sales increased 0.7%, marking our second consecutive quarter of positive comp sales growth. This stands in stark contrast in the family dining category, which saw a 1% decline in second quarter comp sales according to Black Box data. We're currently executing on a multipronged strategy to drive sustainable positive sales and traffic, and we're pleased with the year-to-date comp sales results. Based on our projections for the year, we're raising our expectations for comp sales to range between positive 0.5% and positive 2%. Regarding the second quarter, the improvement in comp sales was mainly driven by stronger sales across the lunch and dinner day parts, solid growth in our off-premise business and the positive impact from the initial leap of the highly anticipated launch of our all-new Ultimate Steakburgers lineup. Although the launch occurred during the last three weeks of the quarter, it had a significant positive effect on sales and traffic, particularly during the dinner day part. Guests were excited about the launch, which garnered a significant amount of national media attention and created quite a buzz. I'll discuss this in more detail shortly. The current momentum we are experiencing with the brand is the result of our continued execution and focus against our four strategic imperatives: significantly enhancing the guest experience, running great restaurants, driving traffic to those restaurants and being where the guest is. I'll begin my comments with significantly enhancing the guest experience. A key part of our strategy is significantly enhancing the guest experience through IHOP's Rise N' Shine remodel program. All franchisees completed 58 remodels in the second quarter, and we expect to have approximately 275 completed this year. Since the inception of the Rise N' Shine remodel program, over 720 restaurants have been remodeled, representing approximately 43% of the domestic system. We expect this pace of remodels to continue at an estimated run rate in the range of 250 to 300 per year until the program's completion. We're also elevating the guest experience outside of the restaurant. To meet the needs of today's tech-savvy consumer on-the-go, we're utilizing technology to enhance the guest experience and increase the brand's accessibility. With a fully integrated online ordering system for our enhanced website and IHOP's mobile app, we've completed a complete omni channel experience for our guests. The implementation of guest-facing technology has contributed to the growth in our off-premise sales as a percentage of total sales as well as average check for online orders. The latter increased by approximately 8% to slightly over $21 in the second quarter compared to the same quarter of last year. I'm pleased to say that our strategy to drive incremental off-premise sales has produced positive results. To-go sales now account for approximately 7% of total sales at the end of second quarter, representing an increase of over 150 basis points compared to the same period last year. Overall, to-go comp sales increased a very strong 32% during the quarter. Similarly, to-go comp traffic grew by a solid 23%. Now let's turn to running great restaurants. Last quarter outlined several initiatives we've undertaken to improve restaurant operations, including launching an enhanced measurement system for franchisees, launching our iHospitality service platform, rolling out WiFi and restructuring our field organization. I'm pleased to say that these efforts are paying off and that our guests are taking notice. In the most recent period, according to NPD CREST data, IHOP achieved the highest overall satisfaction scores and the highest intent to revisit scores in both family dining and casual dining. This is a true testament to the tireless efforts our franchisees invest in working with their teams to deliver a truly outstanding guest experience every visit. I congratulate our franchisees and operations team on an outstanding effort and result. Turning to driving traffic. Last year, we made a concerted effort to begin to change the narrative about IHOP in our lunch and dinner occasions. We knew it would take great food and a bold new approach to grab people's attention and appetite. Our new lineup of Ultimate Steakburgers did just that. IHOP's reinvention of this classic dish, the burger, is yet another example of our culinary team taking innovation to new heights. We knew that the burgers were a huge opportunity for us. Burgers are the most sold dish outside the home with over 8 billion burgers sold annually. They're also the biggest entrants into the lunch and dinner day parts, which aligns well with our day part expansion strategy. Guests told us they wanted a burger that was all natural, 100% USDA choice, black Angus beef, and that's what we delivered, a very high-quality burger that's much better than our competitors. When we tested the burgers, the results were very strong, and we achieved a 92% intent to repurchase. Once we developed these amazing burgers, we had to generate excitement about them and convey to our guests that we take our burgers just as seriously as we take our pancakes. This was a creative motivation that led to the name change teaser, which I believe is usually successful. To provide some color, between June 4 when we launched the IHOP name change teaser campaign through the end of June, over 20,000 media stories were generated and we had over 36 billion earned media impressions. Social media mentions of IHOP generated a potential reach of over 4 billion people. Assisted by the viral impact, we saw burger sales grow by 4x and have remained constant since, driving dinner day part sales mix by 200 basis points during the first three weeks of the launch. Additionally, the attention generated by the innovative IHOP marketing campaign and the enticing Ultimate Steakburgers combo for only $6.99 also helped to drive off-premise sales growth during the dinner day part. We're pleased with the early results and ready to build on this momentum. Turning briefly to our fourth pillar: being where the guest is. We had another good quarter for net openings, and we're tracking in line with our full year guidance of 55 to 60 net new restaurant openings. In the second quarter, our franchisees opened 14 restaurants globally, including five international locations, as part of our plan to strategically expand our global presence in target markets. To that end, we announced last month that IHOP led our South America for the first time through an agreement with a new franchisee, Percapitals S.A.C., to open 25 restaurants in Peru over the next 10 years. We're very excited to launch the brand in a new continent and believe this is a momentous step forward for our brand and an important part of our long-term growth strategy. Lastly, we celebrated the 60th anniversary of our iconic brand on July 17 by offering guests a short stack of our world-famous original buttermilk pancakes for only $0.60. Additionally, members of the IHOP executive team and several franchisees commemorated the event by ringing the opening bell at the New York Stock Exchange. We also used the opportunity to announce the rollout of our first and largest national delivery partner in partnership with DoorDash to provide delivery from over 300 locations across the U.S. Given the national matchup between IHOP locations and DoorDash's current and anticipated service areas, we expect to have close to 1,000 restaurants added to the DoorDash platform before the end of the year. We're also testing with both Amazon and GrubHub and currently have close to 150 restaurants combined providing delivery to these platforms. We'll have additional updates for you in due course. To close, we're encouraged by the brand's comp sales momentum and IHOP widening the performance gap compared to the category. Looking ahead, we're confident in the steps that we're taking to drive long-term sustainable positive sales. We have a healthy and stable franchisee base. Our decision-making is infused with consumer insights to maintain a deep understanding of our guests, want and expect from the brand. We're continually enhancing the guest experience through guest-facing technology, restaurant remodels, culinary innovation and a focus on service excellence. We have very favorable guest demographics, and we're better utilizing breakthrough advertising to more effectively communicate what separates IHOP from its peers. With that, I'll now turn the call back over to Steve for his closing comments. Steve?

Thanks, Darren. To wrap up, we have taken several strategic steps to build a solid platform for sustainable long-term growth. These include investments in our brands across technology, advertising, talent, operations, development of incremental revenue channels and international expansion. We remain focused on taking share from the competition while driving top line growth and margin expansion for our franchisees over the long term. Now we're happy to take any questions you might have. Operator?

[Operator Instructions]. And our first question comes from Brian Vaccaro from Raymond James.

[Indiscernible] with the Applebee's comps and then wondering if you can provide more color on the monthly cadence you saw and how some of the promotions performed. Any color or quantification on the alcohol promotions maybe compared to Q1 and also on the food side, how the two for $20 after adding steak is doing and also the grill combos? Any color on that would be great.

So Brian, this is Steve. Good morning. We're actually very pleased with the way both are going. John, why don't you give them some specifics?

Yes, Brian. We'll resist providing any sequential data on a monthly basis, but both the culinary promotional programs and the beverage programs are performing well. They're accomplishing our objectives. In particular, in this quarter, we had a combination of some impressive to-go results as a result of some overt to-go messaging and marketing; bigger, bolder combos; and two for $20 steak, which very much resonated with our guests, in particular, around the steak proposition. And without providing any color or commentary, you know we're currently on air with all-you-can riblets and tenders, which is a revisit of the very successful program that kickstarted the year for us. So very pleased as are our franchisees.

I guess the -- yes, so I think the other thing just to add is while we had a very strong quarter, that momentum has carried into July.

All right. And that's a great segue into the next question, I guess. Would you be willing to even directionally say how the Applebee's and IHOP comps look quarter-to-date, given the riblets -- return to riblets at Applebee's and obviously some of the comments by Darren as well?

I would be happy to and I'm going to say the same thing I said before, the momentum that we built has continued through July.

Fair enough. Shifting gears just to the Applebee's segment profit and the royalty collections piece, I think in the first quarter you said it was $2 million of sort of net uncollected royalties, net of the bad debt recoveries. It looks like it was basically back to full collection to this quarter, including a year-on-year decline in the bad debt expense. But could you just speak to what your expectation is for the back half of the year as it relates to royalty collections and then movement in bad debt or maybe speak specifically to franchise expense at the Applebee's segment?

Yes, let me start kind of at an overall level, and then I'll have Tom get into the detail. So the great news is on the royalty side, we're getting paid by everybody, so that's a big change from where we were a year ago. So that's very exciting. And the other as we get into the detail of where we are continuing to work, the other great news is we have a path to a solution. Now the agreements are in varying stages, but we have a path to solution for the two remaining franchisees that we're still working to actually paper an agreement. But we have a solution that will work for everybody, and so we're pretty confident that we can execute those over the next couple of months. And so that's all a very strong story. Obviously, the strong comp sales have led to strong profit increases, which has led to strong increases in the overall health of the entire system. It's obviously -- it's mixed in some places depending on what the franchisee's condition was as we turned into this. So from an overall perspective, we're actually a little ahead of where we thought we would be, which is a great fix. So Tom, do you want to give a little detail?

Yes, let me go through some of the numbers here for you, Brian. So in the second quarter, bad debt expense came down by almost $2 million to just under $1 million compared to the second period of 2017. Year-to-date, the bad debt figure decreased by $6.7 million compared to first couple of quarters of 2017. So I know on the last call we indicated that for the year, we're going to probably land around $9 million. That's going to tone down probably closer to $7 million for the year.

Okay, that's helpful. And then one last one on the Applebee's franchisee health. I noticed in the Q, I think you disclosed there has been $14 million in loans that you extended to franchisees. Can you just provide some more color on those loans? And how from an accounting perspective that's impacting Applebee's franchise segment income?

Well, so the way to think about those loans is they are the extension of some past due receivables into longer-term notes that give the franchisees some breathing room to pay them. So the great news is in all those cases, we were not writing off any of the receivables. And then in terms of -- can you give a little more detail on it, Tom?

Yes, and I think I kind of indicated with respect to our update on free cash flow guidance, that we're starting to bring in some of those loans. They're trying to get paid back so again some favorable signs there.

So that's breathing room on previously uncollected royalties and on current sales, the royalty flow is current and so we shouldn't see those loans grow meaningfully from here. Is that a correct interpretation?

Yes, with the exception of -- we still have two franchisees that we're working through. There could be some additional loans from that, but they will be simply that. They will be rolling up previous to amounts into receivables. And so you may see some more of that depending on -- and I'd want to get to the specifics of solutions for both. But then for all intents and purposes, we would be done.

We have no further questions at this time.

Okay. So thank you again for your time today. We're scheduled to report results for the third quarter on October 31. We look forward to speaking with you again and soon, and thanks for your interest in Dine Brands.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.