The Cheesecake Factory Incorporated — Q2 2015 Form 10-Q Summary
Business context and reporting period
The company operates upscale-casual restaurants under The Cheesecake Factory, Grand Lux Cafe and RockSugar Pan Asian Kitchen brands, along with bakery production facilities and international licensed locations. The filing covers the 13 and 26 weeks ended June 30, 2015, compared with the periods ended July 1, 2014. As of August 6, 2015, the company operated 192 company-owned restaurants, nine internationally licensed restaurants and two bakery facilities.
Financial performance and position
| Metric | Q2 2015 | Q2 2014 | Change |
|---|---|---|---|
| Revenue | $529.1 million | $496.4 million | 6.6% increase |
| Income from operations | $49.8 million | $42.7 million | 16.5% increase |
| Operating margin | 9.4% | 8.6% | 80 basis-point improvement |
| Net income | $34.7 million | $30.0 million | 15.6% increase |
| Diluted EPS | $0.69 | $0.59 | 16.9% increase |
| Metric | First 26 weeks 2015 | First 26 weeks 2014 | Change |
|---|---|---|---|
| Revenue | $1.047 billion | $977.8 million | 7.1% increase |
| Income from operations | $90.8 million | $75.8 million | 19.9% increase |
| Operating margin | 8.7% | 7.7% | 100 basis-point improvement |
| Net income | $63.1 million | $52.6 million | 20.1% increase |
| Diluted EPS | $1.25 | $1.01 | 23.8% increase |
Q2 comparable sales increased 2.8% at The Cheesecake Factory, driven by 3.0% average-check growth, including 2.0% pricing and 1.0% mix, partly offset by a 0.2% traffic decline. First-half comparable sales increased 3.5%, with a 0.3% traffic increase. Grand Lux Cafe comparable sales declined 2.6% in Q2 and 2.3% in the first half.
Q2 cost of sales decreased to 23.9% of revenue from 24.3%, labor declined to 31.8% from 32.4%, and other operating costs declined to 23.4% from 24.1%. G&A increased to 6.7% of revenue from 5.9%, principally due to legal-settlement costs, higher performance-bonus accruals and increased equity compensation. Preopening costs increased to $4.1 million from $2.6 million as the company opened two Cheesecake Factory restaurants and one Grand Lux Cafe.
Operating cash flow for the first half was $121.0 million, compared with $122.1 million in the prior-year period. Capital expenditures were $59.5 million, producing approximately $61.5 million of operating cash flow less capital expenditures before other investing and financing items. Cash increased to $61.5 million from $58.0 million at year-end 2014.
At June 30, 2015, the company had $25.0 million of revolving debt and $152.3 million of net borrowing availability, after $22.7 million of standby letters of credit. The facility matures October 16, 2018. The company was in compliance with its financial covenants, reporting a Net Adjusted Leverage Ratio of 2.6 against a maximum of 4.0 and an EBITDAR Ratio of 2.9 against a minimum of 1.9.
Material changes versus the prior comparable period
- Revenue growth reflected higher comparable sales, a 5.0% increase in Cheesecake Factory operating weeks and higher bakery sales.
- Margins expanded because of favorable commodity costs, lower medical costs, reduced workers’ compensation losses, lower natural gas prices and rent leverage.
- G&A grew faster than revenue in Q2, partly due to costs associated with a pending legal settlement.
- Net income and EPS benefited from operating leverage and a lower diluted share count, supported by share repurchases.
- Debt increased from zero at December 30, 2014 to $25.0 million, primarily to fund the accelerated share repurchase program.
- Treasury stock purchases totaled $84.2 million in the first half, compared with $123.2 million in the prior-year period. Cumulative repurchases reached 43.7 million shares costing $1.243 billion.
Guidance, outlook, risks and unusual items
Management estimated Q3 diluted EPS of $0.53 to $0.56, based on Cheesecake Factory comparable-sales growth of 1.5% to 2.5%. Fiscal 2015 diluted EPS guidance was $2.29 to $2.35, based on approximately 2.5% comparable-sales growth. Management expected food-cost inflation of flat to 1%, wage inflation of approximately 3% to 4%, a 27% to 28% corporate tax rate and positive operating-margin performance versus fiscal 2014.
The company planned to open as many as 11 company-owned restaurants in fiscal 2015, including one Grand Lux Cafe already opened, and as many as three additional licensed restaurants in the Middle East and Mexico. Fiscal 2015 capital expenditures were estimated at $120 million to $130 million, excluding approximately $16 million of non-capitalizable preopening costs.
The filing identifies exposure to commodity-price volatility, wage inflation, labor and healthcare costs, interest-rate changes, competition, traffic trends, weather and macroeconomic conditions. A hypothetical 1% increase in interest rates would increase annual interest expense by approximately $250,000 based on the $25.0 million of debt outstanding. A 10% decline in deferred-compensation investment values would reduce net income by approximately $1.7 million, with no effect on pretax income.
Pending litigation includes employee class actions concerning uniforms, wages, overtime, meal and rest breaks and wage statements. The company had not reserved for several matters, had reserved an immaterial amount for a California settlement subject to court approval, and stated that current proceedings were not expected to have a material adverse effect individually or in the aggregate.
Subsequent events included a quarterly dividend increase from $0.165 to $0.20 per share, approved July 20, 2015, and conclusion of the $75 million accelerated share repurchase program on July 27, 2015 without additional shares delivered beyond the minimum 1.5 million shares delivered in March.
Important facts for investors to verify
- Whether comparable-sales growth and guest traffic trends support the fiscal 2015 EPS guidance.
- The effect of wage inflation, menu pricing and commodity costs on restaurant-level and consolidated margins.
- Progress toward the planned restaurant openings and the $120 million to $130 million capital-expenditure range.
- Repayment timing for the $25.0 million revolving-facility balance and compliance with distribution-related covenants.
- Future cash allocation among dividends, share repurchases, new restaurant development and debt repayment.
- Developments and potential financial exposure in the pending employment-related litigation.
- The company’s ability to sustain operating-margin improvement while G&A, preopening and labor costs increase.