Good day and welcome to the BJ's Restaurants, Inc. Second Quarter 2022 Earnings Release and Conference Call. Today's conference call is being recorded. At this time, I'd like to turn the conference over to Greg Levin, Chief Executive Officer and President. Please go ahead, sir.

Thank you, operator and good afternoon, everyone and welcome to BJ's Restaurants fiscal 2022 second quarter investor conference call and webcast. I am Greg Levin, BJ's Chief Executive Officer and President. And joining me on call today is Tom Houdek, our Chief Financial Officer. After the market closed today, we released our financial results for the fiscal 2022 second quarter. You can view the full text of our earnings release on our website at www.bjsrestaurants.com. Our agenda today will start with Rana Schirmer, our Director of SEC Reporting, providing our standard cautionary disclosure with respect to forward-looking statements. I will then provide an update on our business and current initiatives and then Tom Houdek will provide some commentary on the quarter and the current environment. After that, we will open it up to questions. So Rana, please go ahead.

Thanks, Greg. Our comments on the conference call today will contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause actual results, performance or achievements of the company to be materially different from any future results, performance or achievements expressed or implied by forward-looking statements. Investors are cautioned that forward-looking statements are not guarantees of future performance and that undue reliance should not be placed on such statements. Our forward-looking statements speak only as of today's date, July 21, 2022. We undertake no obligation to publicly update or revise any forward-looking statements or to make any other forward-looking statements, whether as a result of new information, future events or otherwise, unless required to do so by the securities laws. Investors are referred to the full discussion of risks and uncertainties associated with forward-looking statements contained in the company's filings with the Securities and Exchange Commission. Greg?

Thanks, Rana. In Q2, BJ's generated the highest quarterly sales in our history. In fact, we beat the prior period record set in the second quarter of 2019 by 10%. We accomplished this by staying true to a key principle at BJ's: we are sales drivers, first and foremost. We delivered 4.8% comparable restaurant sales growth compared to Q2 2019 which is our best quarterly result during the pandemic era. We also added more restaurant operating weeks with 2 additional new restaurant openings during the quarter, both of which are off to very strong starts. Additionally, we finished the quarter with our staffing levels near full capacity compared to 2019 levels, providing us more opportunity to recapture dining room traffic and drive further sales growth. As we have all experienced, accompanying our sales growth was multi-decade high levels of inflation. Inflationary pressure on our operating costs accelerated in the second quarter and is now running ahead of our earlier forecast and remains ahead of the menu pricing we have taken since inflation began to really ramp up in the second half of last year. As we have shown throughout the various challenges presented during the past 2 years, we will remain agile and adjust our business for the current environment. And in a moment, I will outline steps we have taken to manage our business given the current inflationary backdrop. Another aspect of high inflation is its impact on consumers as pocket books are pressured. In the second quarter, we began to more closely track the underlying patterns of our guests, so we can identify any shifts in our guest behavior early. We measure not only overall sales and traffic trends but deeper layers such as how often certain categories of guests visit and what is being ordered from our…

Thanks, Greg and good afternoon, everyone. I will provide details of the quarter and some forward-looking views. Please remember this commentary is subject to the risks and uncertainties associated with forward-looking statements as discussed in our filings with the SEC. For the second quarter, we reported total sales of $329.7 million. Our sales increased approximately 14% versus Q2 of 2021 and 10% versus Q2 of 2019 which makes it our highest quarterly sales ever. On a comparable restaurant basis, sales increased by 11.7% compared to Q2 of 2021 and increased by 4.8% compared to Q2 of 2019. The Q2 sales improvement, both in comparison to prior years and seasonally, led to a quarterly sequential improvement in restaurant margin to 11.9% compared to 9.8% in Q1 of this year, though the inflationary environment limited the margin upside. Adjusted EBITDA was $23.4 million and 7.1% of sales in our second quarter, behind our Q2 2021 levels which reflected the environment before outsized inflation began in the second half of 2021. We reported net income of $0.3 million and diluted net earnings per share of $0.01 on a GAAP basis. Our net income and diluted net income per share included a $2.2 million income tax expense or $0.09 per share which reflects our estimated annual effective tax rate and offsets a portion of the $10.2 million income tax benefit recorded in the first quarter of 2022. As a reminder, our effective tax rate benefits from the FICA and other tax credits which is illustrated by our $8 million tax benefit through the first half of 2022. From a sales perspective, we remained in the mid-single digit positive comparable restaurant sales range throughout the quarter compared to 2019. This equated to a weekly sales average of more than 118,000 per restaurant. We maintained our…

[Operator Instructions] Our next question comes from Jeffrey Bernstein with Barclays.

Great. Two questions. First one, just looking at the restaurant margins that you're referring to, it looks like the second quarter came in below your expectations but it does seem like you have confidence as we look to the back half. So just wondering maybe what surprised you most in the second quarter. And if I understand correctly, the third quarter, you're expecting 10%. In the fourth quarter, seemingly, you'd expect more than the 250 basis point seasonal sequential improvement because of incremental initiatives that you have in place? So if you can give any color on that front, that would be great. And then I had one follow-up.

Jeff, this is Greg and then I'll let Tom, because Tom's closer to it. I think, listening to our formal remarks, we try to line up a couple of things there. One was cost of sales. We saw just an acceleration -- a continued acceleration in cost of sales, where they were up even 2% versus Q1. And we were expecting our cost of sales number, frankly, not to be in the upper 27s but to start to come down to the lower 27s. So that was the first one that really surprised us and that was that continued inflation that kind of came through. The other was just with the amount of labor hiring that we did, especially getting ready for some of the busier seasons, this being holiday seasons in the May and June time frame, our labor numbers came in higher than where we anticipated with that. And I think, as Tom touched upon through the second part of that first question, was a couple of things. First, like anything, it makes you look at the business and the way you've done it at different times and start to realize that we can be better at this. And that comes to certain pack sizes, certain things that maybe we're getting in smaller pack sizes and being delivered to our restaurant 3x a week. We've been able to take those up to a larger pack size, have them delivered once a week and that saves us on those -- not only on helping us on delivery fees but you're able to buy it in bulk, you reduce your cost there. The other side is on labor, we have now started to really move back to our traditional labor standards now that our team members are in place. And…

Thanks and I'll answer the second question around as we look at Q4. And again, comparing it to more of a regular year, I do think that there is opportunity ahead of what we saw in 2019. And that's really driven off -- driven by what extra sales can we deliver. We still have capacity in our dining rooms that can continue to add more guests. And now with the increased staffing levels, I think there could be some upside there. The real question is cost of sales, if that stays flat or if it starts to drop a little bit or even goes up. So that could be the piece that we're just continuing to watch. But with the pricing coming in, with capacity there with the margin initiatives that we spoke to, yes, we think that there should be some opportunity above the just usual seasonal improvement from Q3 into Q4.

Understood. And then just my follow-up in terms of the unit openings. Wondering if you can share some early thoughts on whether or not 2023 would be an acceleration from the 8 in '22. And I know you mentioned that new markets are doing well. Just wondering if there's any baseline metric we could assume as to what a new market sales and margins are relative to maybe what an existing market is, just so we have a frame of reference when we think about new versus existing markets and those new openings for next year.

Yes. Jeff, let me handle this. There's a couple of things in that question. I think first, as we again said a little bit on the formal remarks here, we like the remodel profile that's going on right now. And we know there's as many as 70 restaurants that we can add this additional capacity to in our restaurants. Look, not all of them are going to play the same way as our current ones. But any time we can add capacity into BJ's restaurant, we generally can drive some sales from it. And knowing that in the current environment, the construction costs have continued to stay up. Pre-pandemic -- and I hate going back to 2018 and '19 -- we were building restaurants at that $5 million, $5.2 million and today $6 million, $6 million or an additional $1 million which I do think over the long term doesn't change the profile of our business. But I do think when you look at it in the short term, you look at the high ROI on some of the remodel programs. As I think about 2023 and we haven't finalized this, I don't think there's going to be a huge acceleration in new restaurant growth because I think we'd rather pivot and try and get into some of the high ROI remodels just from that -- from the very top line. And we're still putting together our pipeline for new restaurants next year. I don't see it being reduced down to where we are today. I'm just not sure there's going to be a large acceleration versus where we are today on that, knowing that we still got great opportunity. In regards to the margin profile, the margin profile honestly depends on the certain markets we go to and the…

And our next question will come from Drew North with Baird.

Great. I have a follow-up on margins. And thank you for the perspective on the cost saving initiatives. How are you thinking about the long-term margin opportunity for the business and the path to get there from the levels expected in 2022? Any perspective or framework in terms of how you're thinking about the longer-term margin opportunity would be helpful.

Yes. Drew, -- it's interesting. When we talk on our calls, we still go back to 2019 as kind of our baseline. Even as we look at July to date here and the reason for that is the fact of the matter that if you think about in 2021, things opened up, then Delta came, then in the fourth quarter Omicron came and so forth. So '19 is the last year that we kind of look at to normalize our business. And we also look at '19 to normalize our business because that's where we want our margins to go. That's our target. And we've got to look at that target in a viewpoint that we're not going to continue seeing 9% plus inflation year in and year out. And that's what we're kind of facing right now in our business. And as Tom mentioned, we've only taken 4.5% of menu pricing or so since really the November menu rollout and this is when all the inflation started to happen in our business. So we're adding additional menu pricing on top to go against that. But as inflation normalizes and we get price stability, it's going to allow us to continue to drive and optimize our business to work with our vendors and suppliers to figure out ways to do things differently and go after those targets back in restaurant-level margins back into the mid-teens. When I think about what that stair step would be, I think we'll see some nice acceleration in margins moving into Q4 of this year, as Tom talked about, because some of the initiatives we have in place. And as those initiatives continue to roll, we find other initiatives into 2023, I think that allows us to accelerate margins as well in the business. Now, I'm saying that also in the sense that inflation is going to have to start to stabilize versus the fact that it's continued to go from 8.1%, 8.6% to 9.1%. And some of those have obviously played into our business as well. But that's how I tend to see our business. I see it going into next year, some nice improvement in margins. I think we'll see it actually coming into Q4 of this year as well.

And the other piece, it's worth mentioning there as we look at margin improvement, we're also doing that on a higher sales level, too. So when we think about comparing to prior years being that we were up 10% from 2019 overall sales levels, we're multiplying these margins by a much higher sales level. So it's -- as we think about the recovery, the profit dollars will come first and the margin percent will come second. But given the amount of pricing and just other check that we have, I think that there's a good opportunity to keep expanding both there.

Okay. That's helpful. And one on pricing, how did you determine that 2% was the right amount of pricing to take this time around in August? Did signs of slowdown in sales exiting Q2, at least for the broader casual dining industry, give you any pause on taking more aggressive pricing? Or just any thoughts on your philosophy there?

Yes. Drew, there are no -- as I mentioned earlier on the call, we haven't really seen any change in our consumer behavior in our business. And I know on the broader macro, there's been discussions of that. We've seen that, I think, either in some of the government information or maybe in some of the industry information but we haven't seen it in our business. And we kind of use a combination of where we've taken pricing in the past, where we want to be in regards to how we can try and move margins up the right way and frankly, how we can push this through without necessarily changing price barriers, et cetera, on certain items. We also like everybody, we do competitive shops, frankly and look at where we are and make sure that we continue with this good, better, best pricing strategy. So where we know we can lean in on certain items that are unique and differentiated to BJ's, we have that ability in certain areas where we know that is what we call a KVI, known value items, we're going to be a little bit less in regards to our pricing as we tend to look at it. We also know that as a business, we've got to build ourselves back into our margins. And as much as we'd all probably feel really good to take 5% or 6% or 7% pricing all at one time and go look at what it can go do to the business, we know that over time, that erodes the value in the business. We also know that trying to save our way to success can make us feel really good for a quarter. But over time, that erodes the value of the business as well. So we're going to take the approach of measure twice, cut once as we go through and put in our initiatives to move the business forward.

And moving on to Alex Slagle with Jefferies.

So you made a lot of progress on the labor front and just kind of wanted to ask what the improving staffing situation means now, both in terms of things like operating hours and where that goes and the ability to close the capacity gap in the dining room but also in terms of promotional activity, what you could do there and also your ability to ramp other growth initiatives like the Beer Club, maybe the virtual brand and catering which you obviously are working on just now that you kind of have the staffing in a better situation, how far you've come if you're at a point now where we should expect to see a step up in any of these fronts?

I'll take the first part. I'll see if Tom has some color on it. We're just -- so Alex, we talked about the catering specifically and we continue to work the Beer Club. In the second quarter, we did step up a little bit more on the marketing side of things. And Tom mentioned that we went on television in a couple of select markets and we're evaluating the return on that. We do plan on increasing that going into a little bit in the second half of this year as well as we get through really pre-the elections because, frankly, some of the media costs go up. So we're looking on that. And we haven't talked about it much. Our slow roast which is, I want to say, somewhere in the neighborhood of 40 restaurants or so, actually continues to do really well for us and continues to be incremental to our business as we continue to kind of toy with that in regards to what the right menu pricing is and what the next rollout is that. I think we'll see that virtual brand roll out a little bit more over the next year. We want to do it in a very deliberate manner as well, especially now that our staffing levels are in place. And we continue to make some changes around the Beer Club. And Alex, you're here in the state of California, so you'll get this, others might not. But one of the big perks on the Beer Club was these growler refills and unfortunately, California outlined growler refills. So we've introduced our 6 packs as a replacement. We want to see how that goes and how guests like that as we continue to tweak around with the beer club. But we love what Beer…

And moving on to Todd Brooks with Benchmark.

A couple of questions for me, if I may. One, with the improvement in staffing levels, can you talk about maybe trends across the quarter retention wise? Are retention numbers improving? How do they compare to pre-pandemic levels? And is that still an area of the staffing challenge that we need to work on?

I don't have in front of me just our turnover metrics. I would tell you that looking at them earlier, they were improving. They were actually going in the right direction and we are seeing some of our best or highest retention numbers in a while, especially as everybody opened up. So you almost have to think about in the last 12 months because as businesses open up, everybody was hiring and that's when we see the kind of voluntary resignations. So they moved in the right direction. I believe, though, Todd and I'm saying, I believe, because I don't have it in front of me, that they're still above maybe where they were pre-pandemic. In that regard, I don't believe our General Manager and manager turnover is that much higher than pre-pandemic. I feel good on the manager side. The hourly has been going in the right direction for us and I believe, as I said, going into this quarter, we are seeing some of our best retention that we've seen over the last 12 months.

Okay. And Todd, just one other piece of data there. Everything Greg said is right. And then on top of that, really, the other improvement we saw in staffing is really just the number of folks hired. When we compare just the -- because you're talking about the net gains, you want to limit the team members leaving but the bigger gain this quarter was really the amount of new team members we were able to hire and bring in. So with that and the improving retention, it's good on both fronts.

And Tom, typically, when you bring a new team member on, when do you start to unlock that efficiency? I know we're talking about a seasonal retrench to kind of 10% at the restaurant level in Q3. Does that imply that really a lot of that labor efficiency is more of a Q4 event when we get higher volumes?

I think we'll see it start in Q3 but with more upside in Q4.

Yes, that part in Q3 is just with weekly sales average coming down just from a seasonal standpoint. It gets a little bit masked in there. And as we try to allude to on today's call, even what we're seeing in July right now, when we look at our labor efficiency model -- and we have a model based on what we call items per labor hour, so how many labor hours do we need to basically cook an item, serve it to our guests and so forth -- those numbers have dramatically improved here in July as we got back to saying, here's our labor standards. These are the same standards that we used back in '16, '17 and '18. So there's no significant changes to them that would get tweaked here and there. But looking at that efficiency versus where we were in Q2, we're already seeing that difference. At the same time, as our weekly sales average is going to go down from some of these higher numbers, you're going to still de-lever a little bit as a percent of sales. That's just the way the business kind of operates especially around fixed positions, whether there's somebody at the host stand or a fixed position in the sense that we need somebody at the appetizer station, somebody on pizza, et cetera.

Okay. Great. And then a final question for me. You talked about really thoughtful pricing but being focused on still delivering value. Just wondering and you talked about some competitive shops but do you have a metric of relative value to gauge if BJ's has expanded its relative value by being as conservative as you have on price? And secondly, on the value side. I know you talked about pack sizes coming in and maybe some different cuts of things coming in. But as far as portions on the plate, anything that you're touching there? Or is that a big part of the value delivery to the customer and you're not going to touch that at all?

Yes. On the relative value, it's hard. We do pull over our peers and look at where they are, where they're priced at certain items, as I talked about from a KPI as well as some of the differentiated items and making sure that we believe that the price affordability is in line across the board. It's something that we worked really hard to, especially over this last year to make sure that we have this good, better, best strategy across all of our menu items. In regards to where we're looking for efficiencies on the back side, it is, as you said, Todd, it's what we're bringing into our kitchen and into our restaurants to serve our guests. So as we look at things like salmon, for example which I mentioned, we're still staying to fresh salmon. That's a quality differentiator for BJ's. So we haven't made a decision to all of a sudden go to a frozen this or something like that. We're just looking at how it comes in. We look at something that's going to sound a little bit trivial but like the Saku block that we use for Ahi that we're testing right now, we actually use a round and we can go to a square and save some money in that regard. And what's happened is suppliers, they want to today, meaning manufacturer/suppliers, they want to run one SKU and get that SKU to everybody and then let us cook it and make it better and make it brewhouse fabulous. 3 or 4 years ago, they would say, hey, I can do this special cut or special run for you. Today, for us to do a special run, it's a huge premium. So that's why we're looking at more traditional commodity lineups there to…

And our next question comes from Jon Tower with Citi.

I just got a couple here. I'm curious and I apologize if I missed this but I think in the last call, you talked about high single-digit commodity inflation in the second quarter. It sounds like, obviously, that came in a bit higher and then mid-single digits in the second half. Does that second half outlook still hold? And just maybe a follow-up on that as well.

Sure, Jon. And thanks for the question. We did see some inflation from -- sequentially from the first quarter to the second quarter. So we saw about 2% or so increase in the basket. So yes, it did pick up a touch. But it's -- looking across the commodity landscape for the next 6 months, it doesn't seem like there's any pressures we're seeing right now that are going to move things dramatically up or down. We're still seeing some help on some of the bigger meat areas that we spend on. Some other areas are catching up with some of these July resets with contracts. But it feels knock on wood but it feels like there's not too much more big moves that we're seeing right now.

Got it. So some of the spot markets checks that we're seeing with respect to prices rolling over, certainly versus peak in May, haven't necessarily shown up in your contracts yet or anything that you're seeing with respect to purchasing maybe later in the year but they'll want to hold your breath?

That's accurate.

Okay. And then just looking at your model and kind of looking or weaving in what you're discussing about next year with respect to remodels. And I think store growth potentially staying at similar levels as to this year, if not ticking higher and potentially returning cash to shareholders. I'm just curious if you can help me think through the puts and takes of the operating cash flow, because I think that would require a pretty significant step-up in operating cash flows or a material step-up in leverage levels. So I'm just curious which one you think plays out next year in order to be able to satisfy one or all 3 of those initiatives and perhaps it's a mixture of both more debt taken on as well as an improvement in the operating side of the business?

Jon, as I was saying earlier, I'm expecting our margins to move up next year as we look through some of the initiatives around our margin improvement, getting kind of into the run rate here in Q4 and then moving into next year. So I think that is a big player into it. I think as we stabilize and grow from there, taking on additional debt is not something that we're against from that standpoint. We just want to maintain the flexibility in our balance sheet. But -- and so that could play into it. But our plans are, frankly, for those margins to improve, both from a combination of the consumer coming into our restaurants from a sales perspective and some of the sales driving initiatives that we continue to work on. And then as I just mentioned, the margin improvement initiatives as well.

And maybe just zeroing in on those remodels you're talking about with respect to even the bump outs or the additional seating capacity, how have those looked so far with respect with the sales and/or even costs on the stores that you touched?

There's really not much of an additional cost into the restaurant. And really what we're doing is we're taking more of a -- what we call a bus station that actually, we stopped using many, many years ago. So it's in a certain generation of our restaurants and converting that over to 3 booths that are kind of 8 tops. So they're large booths from that perspective. Really working well, obviously, on a weekend and from a dinner perspective. So it's primarily an incremental sales to our restaurants. Now I would argue that -- or I would make the case that as we add those in there and for us to take care of our guests the way we want, that that's probably going to entail a server in that because we want to hold on to our servers and our table -- server per table standards as best we can. It might not be that way in all cases, depending on how it's allocated in that restaurant. So that's our -- that's where we're adding capacity right now. We're going to look at some things around some enclosures on some packages and some other things that will be done later here in the third quarter. We'll see where that plays out. But generally speaking, that hasn't added any real incremental operating costs into our business.

And our final question today will come from Sharon Zackfia with Blair.

Sorry if I missed this, my phone cut out but I was wondering how you're measuring kind of your value proposition with customers. And if you kind of have any data on how that's holding up or if it's maybe even improved versus 2019? And then did you give any information on kind of how California might be trending either differently from the rest of the country as we've gone through this kind of more hyperinflationary period the last few months?

Yes. Let me touch on California, Sharon. We still see the Bay area with the most opportunity. There has been improvement. We have seen the comp and comparing still to 2019 here, it's still sitting negative but it's improving. So that's the big difference in California. Really Southern California looks a lot like the rest of the country, if not a little bit stronger. So that's on the California piece. Greg, did you want to touch value proposition?

You can go ahead, Tom. I mean we covered some of that in the call but you can go ahead.

Sure. So yes, in terms of the value proposition, there's no direct measure that we look at there. We shop on known value items and we look to see what the guests are most interested and comparable across the brands. So we use that as a metric. We look at our own internal measures on our Net Promoter Scores in terms of value. So those are the main ones that we watch. And it does -- as you'd expect, I mean, as pricing goes, we're not seeing -- we're not seeing any falloff there, if anything, the value is looking stronger. So it -- nothing is showing any signs that we've taken too much price or anything like that.

Thank you. That does conclude today's conference. We do thank you for your participation. Have an excellent day.

Thank you, everyone.

Thank you.