Thank you for standing by, and welcome to the First Watch Restaurant Group, Inc. Second Quarter Earnings Conference Call occurring today, August 6, 2024, at 8:00 AM Eastern Time. Please note that all participants are currently in a listen-only mode. Following the presentation, the conference call will be open for analyst questions and instructions on how to ask a question will be given at that time. This call will be archived and available for replay at investors.firstwatch.com under the News & Events section. I would now like to turn the conference over to Steven Marotta, Vice President of Investor Relations at First Watch to begin.

Hello everyone. I am joined by First Watch’s Chief Executive Officer and President, Chris Tomasso; and Chief Financial Officer, Mel Hope. This morning, First Watch issued its earnings release for the second quarter of fiscal 2024 on Globe Newswire and filed its quarterly report on Form 10-Q with the SEC. These documents can be found at investors.firstwatch.com. This conference call will include forward-looking statements that are subject to various risks and uncertainties that could cause the company’s actual results to differ materially from these statements. Such statements include, without limitations, statements concerning the condition of the company’s industry and its operations, performance and financial condition, outlook, growth plans and strategies, and future expenses. Any such statements should be considered in conjunction with cautionary statements in the company’s earnings release and the risk factor disclosure in the company’s filings with the SEC, including our Annual Report on Form 10-K and quarterly reports on Form 10-Q. First Watch assumes no obligation to update these forward-looking statements, whether as a result of new information, future developments, or otherwise, except as may be required by law. Lastly, management’s remarks today will include references to various non-GAAP measures, including restaurant-level operating profit, restaurant-level operating profit margins, adjusted EBITDA and adjusted EBITDA margin. Investors should review the reconciliation of these non-GAAP measures to the comparable GAAP results contained in the company’s earnings release filed this morning. During today’s call, references to same-restaurants sales and traffic growth compares the 13-week periods ended June 30, 2024 and July 2, 2023 in order to compare like-for-like periods. Otherwise, any reference to percentage growth when discussing second quarter performance is a comparison to the second quarter of 2023 unless otherwise indicated. And with that, I will turn the call over to Chris.

Thanks, Steve. Good morning. I’m pleased to report another quarter of solid operating results and adjusted EBITDA growth, and I thank everyone in our organization for their hard work. I remain extremely proud of our teams for continuing to control what we can control and delivering exceptional customer experiences both of which are key factors in sustaining our profitability improvements as evidenced by our adjusted EBITDA performance. As expected, traffic was challenging during the quarter given the macro headwinds throughout most of our industry. Despite that, we are operating at a very high level and are comfortable reiterating our fiscal year 2024 total revenue and adjusted EBITDA guidance. In Q2, we generated $299 million in system-wide sales, $258.6 million in total revenues and $35.3 million in adjusted EBITDA, the latter of which represented a 37% increase versus last year. Additional second quarter highlights include sequentially better same restaurant traffic compared to the first quarter, positive mix, improved labor productivity and better than expected contributions from both our new restaurant openings and strategic franchisee acquisitions completed over the past year. We opened seven total new restaurants in six states during the second quarter, six of which are company-owned and one that’s franchise-owned. We also completed our largest First Watch franchisee acquisition on April 15 when we purchased 21 restaurants along with the development rights in the Raleigh-Durham, North Carolina DMA. Our results in our internal KPIs demonstrate that we continue to operate our restaurants with remarkable efficiency. Our NROs by vintage and across geographies have been outstanding, performing at or above their sales expectations, and our pipeline for future growth is stronger than ever. As of today, we have more than 130 new restaurant projects in our pipeline and we are on track with our long-term target of delivering annual new…

Thank you, Chris, and good morning everybody. We’re pleased to report strong second quarter profits. We are controlling the controllables, and as a result, our teams continue to generate higher restaurant level operating profit margin and improved adjusted EBITDA margin. Total second quarter revenues were $258.6 million, an increase of 19.5%. Our top line growth in the second quarter was driven by our new restaurant openings and the franchise restaurants we acquired over the past year. Same restaurant sales slipped 30 basis points on negative same restaurant traffic of 4%. Our food and beverage costs were 21.8% of sales in the second quarter, compared to 22.4% in the same period last year. As a percent of sales, costs benefited from carried pricing of 3.5% and positive mix partially offset by commodity inflation of 4.2%. During the quarter, restaurant level labor inflation was 4.6%. Nevertheless, labor and other related expenses were 32.8% of sales in the second quarter, a 40 basis point improvement from 33.2% in the second quarter of 2023. The improvement in labor efficiency illustrates the success of our operators who have also been building on our reputation for great service. For the quarter, our customer experience scores have strengthened by roughly 10% versus last year. In short, and in the spirit of controlling what we can control, our restaurants continue to successfully serve our customers more efficiently, at the same time, our customers are reporting that our service is even better. The improvements in food and labor helped lift restaurant level operating profit margin by 100 basis points versus the prior year and income from operations margins by 110 basis points. General and administrative expenses were $27.2 million, approximately $1.9 million higher than in the prior year, primarily due to additional headcount. G&A expenses were actually lower than…

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] The first question comes from the line of Chris O’Cull with Stifel. Please go ahead.

Great. Thanks, guys. This is Patrick on for Chris. Good morning.

Good morning, Patrick.

Morning. I know you guys called out last quarter that Florida was a region of weakness for the system. And I’m curious if you’ve seen that remain the same and if there’s been a change when you look geographically across any other regions of the country that you have a relatively good penetration in.

Yes. We saw the gap between Florida and the rest of the system widen a little bit, again, but our position hasn’t changed. I mean, we still see that as a normalization of trends in the state kind of coming out of COVID and normalizing, but we’re still all in on Florida from a growth perspective. I mean, Florida is still one of the top states for net migration in the U.S. And we continue to see it as an excellent opportunity for us to continue to operate and grow there. And still with the tourist destination aspect of it, we just – we believe that – the presence that we have in Florida is strong and we’ll continue to focus on it.

And we don’t have any other regions of the country that we’d call out as being weaker than the rest of the – our development process is really data driven. And so our – when we select a site, the success of the site really performs pretty predictably within a narrow band.

Got it. That’s helpful. And then, Chris, I know the company utilizes digital channels to drive greater frequency among current users, and you called some of that out in your prepared remarks. But I was curious how you’re thinking more about what you might call top of the funnel tactics that you can deploy from a marketing perspective that maybe can help reach consumers who have never used First Watch.

Yes. I think we look at and segment the consumer based on, obviously, demographics, psychographics, but probably more importantly, the frequency. And we do have a focus on all the channels that I mentioned on the call. So our infrequent users, lapse users, and even users of competitors, so – and we’re doing that, again, what we’re just calling the First Watch way, which is through the owned channels that we have and then through social and digital.

Helpful. Thanks, guys.

You’re welcome.

Thank you. Next question comes from the line of Brian M. Vaccaro with Raymond James. Please go ahead.

Hi. Thanks and good morning. Back on the sales, I was also curious to what degree you think maybe return to office dynamics could be impacting your business. Could you elaborate on what you’re seeing weekday versus weekend? Or are there any other data dynamics that you analyze to try to answer that questions?

Yes. We don’t have any data that suggests that it’s due to return to work. We do know that the weekday occasion is the – weekday lunch specifically is where we’re seeing the most softness, weekday breakfast and weekday lunch. And so we just think it’s maybe a factor of the consumer just choosing to treat that occasion as one that they can have at home or something like that in this environment. Again, we didn’t see any check management steps prior to what we’re seeing in the traffic pressure. So we believe it’s actually a – and then when we look at industry data, we also see that those day parts are down across full service QSR and whatnot. So that kind of leads us more, Brian, towards hypothesis that it’s the occasion.

All right, that’s helpful. Thanks, Chris. And on the labor front, another quarter of solid cost controls evident in your Q2 results. Could you just remind us what some of the new tools and processes you’ve deployed and any benchmarks or data points you could provide on the efficiencies that that’s driving in your restaurants?

So, good morning, Brian, by the way. The tools that we created, really, last year and have rolled out in the system continue to improve, basically help the managers in the restaurant actually see their kind of real time labor costs, which helps them with scheduling and staffing during weekdays and during their peak hours. They also have just better hourly management, I would say, in terms of labor and better scheduling. They’re also successful in more throughput during our peak hours, which makes our labor look a little bit better. I don’t have any metrics that I can give you or to share with you, but it’s really just the attention to the management of the restaurant, the scheduling, and the labor management that our operators have been attentive to as they learn to use the new tools and apply some of the strengths of those.

And then, Brian, I’ll add that we – just to give you an example, we had been testing a digital scheduling platform, and the test went extremely well. And we’re rolling it out here in Q3 – excuse me, in Q3. And that’s a typical platform where the servers can look at their schedules, actually, all employees can look at their schedules. They’re a lot – they can trade schedules on their trade shifts, things like that, things that we had to do very manually and, frankly, through the manager before. So this will again, improve our efficiency and free up the manager to focus on other things.

And make it easier for the crews.

Yes.

Okay. Well, I’ll pass it along. Thank you very much.

Thanks.

Thank you. Next question comes from the line of Andy Barish with Jefferies. Please go ahead.

Hey, guys. Good morning. Wondering, as you kind of tease out the traffic impact, does discounting kind of in the breakfast category, some of the legacy players, obviously, that’s a subject we’re hearing a lot about across the restaurant industry right now. Do you think that’s having a near-term impact? Are you able to kind of tease that out of what you’re seeing?

Andy, I’d say that we worked really hard years ago to differentiate ourselves from that segment through our brand repositioning and things like that. That’s not an area that we choose to kind of operate in. What I’ll tell you is that back to my comment, if we were seeing check management and things like that, and looking at our own menu pricing compared to others in our space and saw that there was something that we were – that was self inflicted, I think we would address that. But that’s really not what we’re seeing. It really seems to be an occasion issue right now. So we are focused on our everyday value. What we are, what we have launched here recently is really stepping up the communications and focusing on our brand attributes and reminding people why they love First Watch so much. And so that’s kind of our take there. We won’t – I would say, at the discounting level, that’s out there right now, that’s just not something that we would do.

Got it. And where are you on sort of seasonals? And I think last call, you may have mentioned, we’ve got some things that maybe mix really well, maybe a little bit lower on the price point. Is that starting to kind of work into the seasonals in the back half of the year?

Yes. Well, first of all, I know everybody’s excited that we’re almost to pumpkin season, so we’ll get there with our pumpkin pancake breakfast soon. But, yes, I mean, we had positive mix in Q2 and in Q1. And I think a lot of the favorability you’re seeing on the profit line in the restaurants was a result of that. I talked about the shrimp and grits and some other items that we brought back and put on. And so that strategy has actually helped us a lot. And then variation in mix for us, as you know, is kind of a quarter-to-quarter function because of the LTOs and the menu modifications. But there’s really been no discernible change in customer behavior in mix or attachment this year. But we are able to flex up a little bit sometimes with favorites like the shrimp and grits and when the pumpkin pancake breakfast comes back.

Got it. And then just finally, the 130 projects in the pipeline for growth, obviously that’s multiple years of new unit growth, even assuming absolute level of pickup. How does that – how should we frame that versus the past? I mean, I know some new territory obviously, is now flowing into that through the franchise acquisitions, just yes, any help on that would be great.

I think the point being made there is that we are on track, like we have been for many years to meet our development goals. And so that stat is really to provide some comfort that we’re well on our way. That’s been one of our hallmarks is the consistency of the openings and then also the outperformance of the new restaurants. So that’s really what we were trying to convey there.

Right. And we know that our 10% growth in the system, long-term guidance is a big number, and we want people to be comfortable that we’re actually curating enough projects that we can fill that pipeline.

Yes. Looking forward to a couple of those coming out of the pipeline in Massachusetts. Thanks, guys.

That’s right. Get ready.

Thank you. Next question comes from the line of Jeffrey Bernstein with Barclays. Please go ahead.

Hi, good morning. This is Pratik on for Jeff. Thanks for the question. I just wanted to get a sense of what you’re seeing in your sales trends by income cohorts. What buckets are you seeing strength from? And where might you be seeing a little bit of softness? You did call out the weekday breakfast day part as a little bit weaker. And is that really just a function of consumers choosing food at home rather than losing traffic share? And if you can call out any particular consumer segment where you’re seeing that as most prevalent. Thanks.

Yes. So we talked about the lower income consumer, us seeing less visits by that group. I don’t think that’s very different than what you’re hearing pretty much across the industry as far as a pressure point. And for us, that’s defined as 70,000 household income or below. And then the only other insights I can give you that we’ve shared is that the infrequent customer is one that we’re seeing less visits by as well, based on our credit card data analysis.

Got it. That’s very helpful. And then I apologize, if you already gave it, but are you contemplating any potential weather impact from Debby in 3Q, is that baked into your guidance?

We really had, I think yesterday, we might have had three restaurants with partial day closures, something like that. So I don’t know that it’s going to be all that meaningful, if that changes, we’ll update.

What we’re really looking for is the mobility of the consumer right now, I can tell you, as I’m sure everybody on the call heard, where we’re based, Sarasota got the worst of it. And there’s a lot of folks not able to get to our office today. So whether we’re open or not, we’re – I think we’re going to see some impacts, but we don’t expect it to be significant as it relates to the whole company.

Got it. Thank you. Very helpful. Appreciate it.

Thank you. Next question comes from the line of Gregory Francfort with Guggenheim Securities. Please go ahead.

Hey, good morning, guys. I had two questions. The first is just from a same-store sales perspective, I guess, as we look to the back half, what can you guys do to maybe have an impact on the comps? I mean, are you guys thinking about deploying a little bit more marketing from a calendar perspective? Is there something you can do or is this just going to be more kind of bouncing around with the industry in terms of what’s going to happen?

No. I think we are taking steps to, again, reach out to our consumers again, just I know I keep saying the same targets, but really focusing on our owned audiences, which as we said on the call, we’ve got an opt in database now of close to 7 million that we’ve been curating over a period of time and just really cutting that data in ways that we can be more efficient and more effective in the way we communicate with them. I’d say you’ll probably start to see us increase the frequency of the communications as well with that group and then also stepping up our digital and social activity as we do that simultaneously.

Yes, but I mean, to your question, we do not – absolutely do not bounce around with the system. I mean, we’d go straight at the audiences that, where we have the most touch and we know people are listening.

I mean, just on the G&A side of things, how much of that was lower incentive comp versus belt tightening versus project timing? Just trying to think about that for the rest – the next couple quarters.

Yes, for the most part, it’s just unspooling the timing of our G&A realization for the year. I don’t think the incentive comp differences were all that meaningful. And then the timing of new restaurant openings tends to drive some other costs into the back half of the year too.

I said two, but maybe I’ll sneak in one last one. Just can you give us an update, Mel, on where new store returns look, right now, I know you said new store AUV sounded becoming really, really strong and I think the CapEx guidance is unchanged. Just maybe the update on what those numbers look like.

Yes. They’re tracking with the unit economic model that we have in the investor deck that’s attached to the – to our website.

Thank you guys. Appreciate it.

Thank you. Next question comes from the line of Brian Mullan with Piper Sandler. Please go ahead.

Hi, this is Ali Arfstrom on for Brian Mullan. Thank you for taking the question. Wondering if you could share comp trends directionally or by month in Q2. Thanks.

We don’t typically share by month. We share by quarter. And so I can tell you that quarter-to-quarter, you have both those comps. And what we did say is exiting the quarter into the third quarter, our traffic was running somewhat below the full quarter of Q2.

Thank you.

Thank you. Next question comes from the line of Sara Senatore with Bank of America. Please go ahead.

Hi, thank you. This is Katherine on for Sara. First, I wanted to ask just about the traffic trend in the quarter, which was sequentially stable versus the first quarter. So just curious if you can opine on what that means about the operating environment right now. It would seem to suggest that it’s relatively stable.

Yes, I’d agree with that.

Okay. And then, yes, I guess, just another question on demand. I think given that weekend brunch generally has a lower average check than other daypart occasions in full-service broadly. So I would think that First Watch could be a beneficiary of a kind of shift in that occasion. Are you still seeing that?

Yes. I think obviously for us, weekend brunch is our highest check average occasion and it’s still an area where we have demand. And so I think our general commentary here is that weekends are helping to offset the softness that we’re seeing during weekdays, which is why our focus has been on throughput optimization, in that we can serve more people when we have the demand rather than trying to create an occasion that maybe the consumer’s not open to at this point. So that’s been our focus, and I think that’s why we delivered the results we did this quarter and last quarter, because we’re really, really optimized as it relates to the peak sales hours and the time when we have the most demand.

Great. Thank you.

Thank you. Next question comes from the line of Jon Tower with Citi. Please go ahead.

Hi, this is Karen Holthouse on for Jon. Thanks for taking the question. I wanted to dig a little bit into the commentary on stronger non-comp store performance. Is there anything you would point to in particular that’s helping that whether that’s just improving site analytics, better developer relationships, the mix of info versus new market, just anything your own data is telling you.

Over the course of the last few years, our non-comp restaurants, new restaurants have all fairly predictably outperformed the legacy system. Some of that is because the legacy system includes a number of restaurants that might be occupied in smaller footprint and that sort of thing. And our shift to more premium real estate in about 2017 or so has served us well in terms of accommodating more interest from the customers and greater volumes.

And then just on the modeling front, this is two quarters in a row now that we’ve seen sub 22% COGS, which is below where historically you’ve tracked. Is that sustainable and driven by some of the benefits of, like, alcohol in the juicing platform, or are you worried about working that number too low, that you’re going to get off-sides on a value proposition for the consumer?

Yes, not worried about it. Sometimes that number changes around when you have a heavier load of new restaurants coming on Board in the back half of the year, we might see some of the labor margins tick up a bit as we have more of a larger cohort of new restaurants who have some built in inefficiency when they first open. But I would say, it does show the success of our operators in terms of managing their crews better. And I think if we can see that hover in the 22% area, that’s something to be proud of over a long period of time.

And there’s one final one for me, and apologies if I missed this in the prepared remarks. The last couple of quarters you’ve shared, your performance versus Black Box. Do you have that for this quarter?

We do. I think we said that we hadn’t, that in terms of performance, that the Black Box data on the metrics that we measure, we’re slightly below the cohort. There’s a lot of participants in that group that are pressing on aggressive advertising, promotions and discounting. So there’s we look closely at the traffic number, and so this would be a period where, for, relative to the casual dining category that our traffic hasn’t – has not met Black Box. We do continue to take share, however, in the against the category in the second quarter. Our Placer.ai, which I know people are using more and more these days, indicates that our traffic shares increased against the direct daytime dining competitive set.

Okay. Thanks. I’ll pass it on from there.

Thank you. Next question comes from the line of Brian M. Vaccaro with Raymond James. Please go ahead.

Hi, thanks for the quick follow-up. I just wanted to circle back on the second half guidance and could you elaborate on some of the assumptions you embedded on both sales and margins? You mentioned the software quarter-to-date. Many have seen that in the industry as well. Did you assume that continues? Or maybe there were some calendar or other seasonal factors impacting July and really on the margins as well. I understand you have less pricing, but following the very strong Q2 EBITDA performance, just curious kind of what some of the margin dynamics that could be different in second half versus first half. Thanks very much.

Yes. For the back half of the year, I’ve already alluded to the fact that as we bring on, we’ve got a great deal of new restaurant openings that are calendared to enter the mix in the back half of the year. And as I mentioned earlier, that their immature margins can sometimes affect the overall margins of the company. We also have heavy up on expenses that occur in the back half of the year. Our fourth quarter, for example, we have our national conference and some of those more seasonal type things. And there’s a sort of a natural tendency to make sure that we onboard staff and complete projects before the end of the year. So there’s a tendency, sort of call it human nature, that we tend to experience an uptick in our G&A expense during the fourth quarter. So those are kind of some of the seasonal kind of items.

Thank you.

Thank you. Ladies and gentlemen, we have reached the end of question-and-answer session. I would now like to turn the floor over to Christopher Tomasso for closing comments.

I want to personally thank our teams for their efforts in this and every quarter with a special shout out to our operations leaders for the exceptional results they delivered in these interesting times. And while I’m proud of what we accomplished, I’m even prouder of how we did it. We’re guided by our You First philosophy. It’s at our core and it defines who we are. Our achievements have been and our future growth is underpinned by standing shoulder to shoulder, rolling up our sleeves, putting others first and being kind. Thanks everybody for your time today.

Thank you. This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.