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Restaurant Brands International Inc. (QSR)

Q3 2014 Earnings Call· Tue, Nov 4, 2014

$79.94

+1.58%

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Transcript

Operator

Operator

Good morning, ladies and gentlemen, and welcome to the Burger King Worldwide Third Quarter 2014 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I'd now like to turn the conference over to your host, Mr. Sami Siddiqui, Senior Director of Investor Relations. Please go ahead.

Sami Siddiqui

Analyst

Thanks, operator, and good morning, everyone. Welcome to Burger King Worldwide's Earnings Call for the Third Quarter ended September 30, 2014. A live broadcast of this call may be accessed through the Investor Relations page on our website at investor.bk.com, and a recording will be available for replay. With me today are Burger King Worldwide's CEO, Daniel Schwartz; CFO, Josh Kobza; and President of North America, Alex Macedo. The team will be available to answer questions during the Q&A portion of today's call. Before we begin today, I'd like to remind everyone that this earnings call and presentation include forward-looking statements, which are subject to various risks set forth in the press release that we issued this morning. In addition, this earnings call and presentation include non-GAAP financial measures, the reconciliations of which are included in the presentation and in this morning's press release, both of which are available on our website. Let's start on Slide 4 with the agenda for this morning's call. First, Daniel will walk us through the highlights for the quarter and provide an update on our key initiatives. Then, he'll turn it over to Alex to discuss progress we've made in the U.S. and Canada. Daniel will then run through regional performance, and Josh will discuss financial results. Daniel will close the call with some concluding remarks before opening it up for Q&A. I'd like to remind everyone that the focus of the call today is our third quarter financial results, and we will not be providing any updates on the status of the transaction with Tim Hortons. I'd refer everyone to the amended Form S-4 registration statement, which provides the most up-to-date information related to the proposed transaction. And with that, I'll now turn the call over to Daniel.

Daniel Schwartz

Analyst · Piper Jaffray

Thanks, Sami. Good morning, everyone, and thanks for joining us today. The third quarter was transformational for us as we not only delivered strong results, but we also announced the Tim Hortons transaction, which will position the new company for sustainable growth for many years to come. As Sami mentioned, we will focus today's call on the outstanding progress that we've made at BURGER KING. In Q3, we delivered another strong quarter of growth and executed on our key strategic initiatives. To start, in the U.S. and Canada, we delivered our fourth consecutive quarter of positive same-store sales growth and the best growth we've seen since early 2012. We continued to execute on our strategy of launching fewer and more impactful products complemented by compelling value offerings. With this in mind, we had a strong lineup of new product introductions this quarter, ranging from the A1 Ultimate Bacon Cheeseburger to the relaunch of Chicken Fries. On the value side, our KING DEALS value menu continued to help drive sales and traffic during the quarter. The most important part about all of these initiatives is that they are operationally simple to execute and enable our franchisees to grow restaurant profitability, which is always our primary goal. On the international front, we continued to expand the BURGER KING brand presence around the world as we opened 152 net new restaurants in the quarter, putting us just under 14,000 restaurants worldwide. Our development teams are gearing up for a busy November and December as we solidify our openings pipeline for the most active months of the year. I look forward to updating all of you on the progress at year end. From an international marketing prospective, we did a good job of taking successful initiatives from certain markets and expanding them to a…

Alexandre Macedo

Analyst · Piper Jaffray

Thanks, Daniel. Q3 marks the fourth consecutive quarter we've achieved positive same-store sales growth in North America and the best quarter of comp sales growth since Q2 of 2012. We've had our new marketing and promotional strategy to launch fewer, more impactful products in place for over 1 year now and have worked hard to fine-tune our execution to deliver consistent growth. While it's been great to see sales results grow consistently, what is even more telling of the success of this strategy is the improved margins our franchisees are seeing. Our initiatives have helped to reduce waste in our kitchens, simplify crew training and improve overall restaurant operations. Though there's still plenty of room to improve, we believe we have the right strategy in place to consistently enhance our guests' experience and improve our franchisees' profitability. During Q3, we were excited to launch 4 new entrées to the menu. On the premium side, we introduced the Mushroom and Swiss Bacon WHOPPER sandwich. With thick-cut bacon and sauteed mushrooms, this product represents a fresh new twist on America's favorite burger, the WHOPPER. Another addition to the premium sandwich lineup was the A1 Ultimate Bacon Cheeseburger. With its hearty A1 sauce coupled with a warm toasted artisan bun, guests were able to enjoy this bold new taste. And as a part of the 2 for $5 lineup, we introduced the Mushroom and Swiss BIG KING, which helped drive traffic without adding additional complexity to our kitchens. Finally, as Daniel already mentioned, we also relaunched Chicken Fries in Q3. Chicken Fries were originally introduced in our restaurants back in 2005. But in 2012, we took them out of the restaurants to make way for other chicken products. Earlier this year, our digital marketing team started doing some social listening and found out…

Daniel Schwartz

Analyst · Piper Jaffray

Thanks a lot, Alex. The last 12 months have been some of the most active in BURGER KING's history for global development as we've grown our restaurant base by over 700 net new units, bringing us to nearly 14,000 locations across 99 countries. And today, I'm excited to announce that we'll be entering our 100th country later this month with our first restaurant opening in India. I'm particularly excited about the Indian market as it marks the first time that we've completely redesigned our signature menu to cater to our guests' unique tastes. We've spent the last 9 months developing a primarily vegetarian menu that has been taste-tested by over 5,000 guests in 16 cities across India. The new menu includes innovative products like the all-new vegetarian WHOPPER. I'm excited about our growth potential in India and believe that we have the right partner and the right team to make this market a success for the BURGER KING brand. Let's now walk through the third quarter highlights for each of the regions, starting with the U.S. and Canada on Slide 13. Alex has already talked us through many of the key initiatives in North America. The only point I'd like to add is that despite our strength in comparable sales, the U.S. and Canada organic adjusted EBITDA growth was slightly down for the quarter. This is primarily due to the differences in timing of certain franchise fees and other revenue during the current year compared to the prior year. We expect to see North America return to positive organic EBITDA growth in the fourth quarter. Turning to Slide 14. EMEA delivered its 15th consecutive quarter of comparable sales growth. Performance was driven by strength in Turkey, the U.K. and Spain. In Turkey, the success of the Gourmet Series premium lineup…

Joshua Kobza

Analyst · Morgan Stanley

Thanks, Daniel. Moving now to Slide 17. I'd like to walk through our financial results for the quarter. Q3 revenue increased 5% year-over-year on an organic basis, excluding the impact of refranchising transactions and changes in foreign currency. 5% organic growth was driven by 2% global comparable sales growth and over 5% net unit growth as we've opened 701 net new units over the past 12 months. Top line growth was driven by our international regions, EMEA, LAC and APAC, which all generated double-digit organic growth. In the U.S. and Canada, organic growth was slightly down, due to differences in the timing of certain franchise fees and other revenue during the current year compared to the prior year. Moving down the page. Q3 adjusted EBITDA grew at 12% year-over-year on an organic basis. Strength was driven by double-digit growth across all 3 international businesses. Finally, on this slide, our adjusted net income and adjusted diluted earnings per share increased by nearly 19% and 18%, respectively, in Q3, driven by a higher adjusted EBITDA partially offset by higher share-based compensation expense and higher interest expense. Depreciation and amortization was relatively unchanged from the prior year as we completed our transition to a fully franchised business model at the end of last year. Net interest expense increased by approximately $1 million year-over-year as a result of the accretion in the balance of our noncash pay discount notes. While income taxes did increase on a nominal basis, our effective tax rate was slightly lower in Q3 compared to the prior year due to a favorable movement in our mix of taxable income across various jurisdictions. One thing to note this quarter is that our statement of operations reflects significant nonrecurring expenses related to the Tim Hortons transaction in SG&A and other operating expenses.…

Daniel Schwartz

Analyst · Piper Jaffray

Thanks, Josh. Wrapping up on Slide 22. The third quarter represented a key step forward in our long-term strategic vision. In North America, we delivered our fourth consecutive quarter of positive comparable sales growth and our best quarter since 2012. Internationally, we continue to accelerate unit growth and are excited to be entering our 100th country. And now with the announcement of the Tim Hortons transaction, we are poised to bring an undeniable market leader to our global growth platform. While we are excited about the opportunities that lie ahead, our focus right now is on closing out 2014 strong. I'm confident that our franchisees, partners and team members around the world are aligned to deliver yet another record year for the BURGER KING brand. I look forward to updating you on our progress at year end. Thanks for joining us today, and we'll now open up the call for Q&A. As I mentioned earlier, we'd ask that you limit Q&A to the BURGER KING-specific questions as we won't be discussing Tim Hortons' performance or the transaction in general. Thanks again. Operator?

Operator

Operator

[Operator Instructions] The first question comes from Nicole Miller of Piper Jaffray.

Nicole Regan

Analyst · Piper Jaffray

If I may, I just want to ask kind of a big-picture corporate global type question and then just a very specific BURGER KING question. But when you look at the recent transaction, and I mean Tim Hortons, and I'm not asking anything about that specifically. But transactions like that, do you view them as opportunistic or a long-term goal of becoming a multi-concept franchisor? And then just strategically, as it relates to BURGER KING, it seems that the menu now is very well balanced between core and innovation. So how can you become more sophisticated alongside the franchisees to use some pricing tools to capitalize on the pricing power?

Daniel Schwartz

Analyst · Piper Jaffray

Nicole, thanks for your comments. It's Daniel. I can answer the kind of the big-picture corporate question, and I'll turn it over to Alex for the comment on U.S. and working with franchisees. I think we're focused on 2 things here. And first is running BURGER KING and making sure we're delivering excellent value to our guests and growing our franchisees' profitability each and every quarter. We're in this for the long term. And we're squarely focused on closing the Tim Hortons transaction either later this year or early 2015, as we've said before. And I think it's premature for us to comment on anything kind of beyond that. So we're going to focus on running our business here, closing the Tim Hortons transaction, creating this new global quick-service powerhouse and then we're going to do our best job running both brands for the long term. And I can turn it back to Alex.

Alexandre Macedo

Analyst · Piper Jaffray

Sure. So when we look at innovation, it's really a question of addressing the needs of our guests and franchisees. We're only focused on launching products that our guests are going to have fun with and then our franchises are going to be able to have profits. So that's really what guides us. I think that we've done a good job over the last 18 months in having a balanced valued approach, along with fewer, more impactful launches that have resonated with our guests. And we're seeing continued increased franchisee profitability. So I think our innovation pipeline so far has shown to be resilient and successful. Looking forward, there's a couple of initiatives we're working on to be able to capture more value from the whole supply chain. One of them is mobile payment. We're starting to roll out our new digital platform, and we're very excited about our mobile payment capabilities to close the year. And we're working on a few new pricing tools together with our franchisee council that should be rolled out in the beginning of next year. So we're going to continue to be very consistent, focus on increasing franchisee profitability, serving our guests well, reimaging and improving operations. And I think by doing that, we're going to continue in a good momentum.

Operator

Operator

The next question comes from John Glass of Morgan Stanley.

John Glass

Analyst · Morgan Stanley

Such an important part of this story is the international unit growth, and it's hard for us outside to get visibility on what's going on, on the new unit productivity. So can you put some numbers around it maybe specifically in EMEA and APAC, where the most openings are? Can you compare the average unit volumes in the last 12 months of new stores to existing average unit volumes, some way for us to get a sense of how new stores are opening in those markets?

Joshua Kobza

Analyst · Morgan Stanley

Yes, John. It's Josh, and thanks for the question. We've been really pleased with the progress that we've made all around the world on the quality of the new units. And specifically, I think EMEA has been one of our best performers. We've been opening a lot of new restaurants in markets like Russia and Spain. And what we've actually seen is, year-on-year, in those markets, we've had really good progress on the productivity, both on the sales side and on the profitability side. In APAC, it's a little bit different equation just because of the mix of units. So if you look at the legacy based restaurants in APAC, there's a larger concentration in Australia, which has very high ARS. And the places where we're developing are more focused on countries like China and Korea. I think what's really encouraging in China and Korea is that in the last year, we've seen a big improvement I think in both the development process and in the productivity of the restaurants in both of those markets. So within each of the regions, I think the places where we're developing, we're making really good improvements in the process and the consistency of development throughout the year and in the productivity of the restaurants in those markets.

Operator

Operator

The next question comes from Andrew Charles of Bank of America Merrill Lynch.

Andrew Charles

Analyst · Bank of America Merrill Lynch

I just had 2 questions. To the extent that you can, can you share anything about indicators of interest you have received from existing international partners about franchising Tim Hortons? And secondly, when you think about BURGER KING master franchise agreements in new territories that are built from scratch with no existing restaurants, is the first year experience similar to South Africa, where you have 20 units up and running within the first year? Or more like India, where your partners build the infrastructure in the first year so unit development can really accelerate in the second year?

Daniel Schwartz

Analyst · Bank of America Merrill Lynch

It's Daniel. As far as the ramp-up within an international market, it all depends on the market, quick-service restaurant penetration, existing supply chain. So it's really a market-by-market and it's really by a market-by-market comment. Like as you said, in countries like South Africa, we've ramped up quite quickly. Countries like France, we're ramping up quite quickly, very profitably with high-volume restaurants. Countries like India takes a little bit more time as we have to establish a supply chain, establish a new menu. So it's really a country-by-country situation. There are plenty of countries that to the extent there's existing supply chain infrastructure, existing quick-service restaurant players, we could ramp up fairly quickly. And we're not going to comment about anything specific to Tim Hortons. But what I will say is if you go back just a few years, not that long ago, back in 2010, this is a brand that was opening around 150 -- BURGER KING, around 150 net new units per year. We've said today on a trailing 12-month basis, we crossed the 700 mark. And that's really attributable to the work that we've done these past few years, putting in place great master franchise partnerships and joint ventures with excellent operators all around the world in growing countries. And we look forward to executing on a similar path with Tim Hortons. Thanks.

Operator

Operator

The next question comes from Keith Siegner of UBS.

Keith Siegner

Analyst · UBS

Question for Alex. Just wanted to ask about U.S. and breakfast, kind of an update here. Where is breakfast as a percent of sales in the U.S. now? How is that daypart same-store sales versus the total? And then if you could talk about maybe the opportunity for product innovation, LTOs, things like that, how you're going after growing that daypart. Some updates on breakfast would be great.

Alexandre Macedo

Analyst · UBS

Sure. Thanks, Keith. We don't disclose the breakdown by daypart, but I can go into a lot of details here in breakfast. Breakfast is a long-term play for us. We're very confident that we have a lot of room to grow in breakfast, and we've been very disciplined over the last year making sure that we have consistent investment behind our main platforms in breakfast. So since the beginning of the year, we've been talking very consistently about the coffee platform and also about the CROISSAN'WICH, which is our star product. We're going to continue to do the same. Breakfast is a routine daypart, a difficult daypart to break into, but I think we've had our fair share of success this year. To date, breakfast is the daypart in which we're having the best same-store sales comps over the previous year, which means that we're growing breakfast faster than any other daypart at BURGER KING. And moving ahead, we're going to continue to do more of the same, focus behind the category basics, coffee, the CROISSAN'WICH, and do it in a very consistent way. We don't see much room at this time for very significant innovation in breakfast. We just want to make sure that we build a habit with our guests, get them to come to our restaurants in the morning.

Operator

Operator

The next question comes from Jeffrey Bernstein of Barclays.

Tracy Ou

Analyst · Barclays

This is Tracy Ou on for Jeff. My question is regarding the cost side for franchisees. So I know you're focusing on improving franchisee profitability with the simplified menu and the more impactful products. But given the sustained beef inflation and the upcoming ACA implementation, I was just wondering if you're taking any price or how you're focusing on the U.S. system to support your franchisees.

Alexandre Macedo

Analyst · Barclays

Sure. So what we're doing is we've been engaged with our franchisees over the last 18 months working to reduce overall restaurant costs. It's not only about fewer, more impactful launches. That's the marketing part of the equation. But in terms of operations, we've invested in systems, we've invested in better training and training technology and production management systems. And by doing that, we've been very successful to mitigate some of the increased beef costs in the last year. We're very happy to say that this year, our franchisees are seeing double-digit growth in EBITDA, which is a reflection of a very good sales approach, but also making sure that the back of the house is efficient and that we're running great operations and serving our guests in a good way. So we're going to continue to do more of the same, be very consistent in our marketing approach and looking for opportunities to train our field teams better so that we can provide good service in an effective way for our franchisees.

Operator

Operator

The next question comes from Will Slabaugh of Stephens Inc.

Will Slabaugh

Analyst · Stephens Inc

I wanted to ask you about remodels. I know you put up the chart about 2015 and getting to that 40% number. Very encouraging that you're going to hit that likely before your target. I wonder if you could speak to the state of the system beyond that 40% and maybe what that path looks like beyond 2015.

Alexandre Macedo

Analyst · Stephens Inc

Sure, Will. This is Alex. I think we're as excited about our remodeling effort as we've ever been. We've done a few thousand remodels already, and the results for the franchisees are very consistent. And that's the reason why we're going to reach our target, to have 40% of the system remodeled, even before 2015. Because the franchisees are behind the effort, they believe in our remodeling plans and the results are there to show it. So we continue to believe that we're going to keep the same record pace that we've seen over the last 3 years and the coming 3 or 4 years.

Operator

Operator

And there is a follow-up from Andrew Charles of Bank of America Merrill Lynch.

Andrew Charles

Analyst · Bank of America Merrill Lynch

Just want to follow up on China, just see how it performed. I know, given the supplier issues there, it's been weighing on western QSRs. And I just want to see if you could talk a little bit about your performance in China during the third quarter.

Daniel Schwartz

Analyst · Bank of America Merrill Lynch

Andrew, it's Daniel. As you know, we have slightly over 200 restaurants in China. And similar to the kind of the industry overall, we did see a bit of a slowdown, but less so than the overall industry. And given our limited scale in the market, it really hasn't impacted of our overall business. And I'd point you back to the kind of the total Asia-Pac same-store sales growth of over 4%. And we're actually starting to see some encouraging momentum come back to the business in China, along with continued aggressive development as we're building out our business there and really investing to be there for the long term.

Operator

Operator

I would like to turn the conference back over to Daniel Schwartz, CEO, for any closing remarks.

Daniel Schwartz

Analyst · Piper Jaffray

Thanks, everyone, for joining us today. We really appreciate it. And we've said this before and we'll say it again, our 2 top priorities here at BURGER KING are our guests and delivering great value, great experience, great food each and every day, and our franchisees and continuing to increase their profitability each and every year. And we're going to wrap up. We have a big 2 months ahead of us. And we're going to wrap things up this year, and we look forward to updating you on both those fronts in early 2015. Thanks again. Bye-bye.

Operator

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.