The Cheesecake Factory Incorporated — Q1 2019 Form 10-Q Summary
Business Context and Reporting Period
The company operates upscale casual dining restaurants, bakeries, consumer packaged goods and international licensing activities. As of May 6, 2019, it operated 219 company-owned restaurants and 20 internationally licensed Cheesecake Factory restaurants. The filing covers the 13 weeks ended April 2, 2019, compared with the 13 weeks ended April 3, 2018. Fiscal 2019 consists of 52 weeks and ends December 31, 2019.
Key Financial Metrics
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Revenue | $599.5 million | $584.7 million | 2.5% increase |
| Income from operations | $30.1 million | $31.6 million | 4.4% decrease |
| Operating margin | 5.0% | 5.4% | 40 basis-point decrease |
| Net income | $27.0 million | $26.0 million | 3.7% increase |
| Net margin | 4.5% | 4.5% | Stable |
| Diluted EPS | $0.60 | $0.56 | 7.1% increase |
| Cash provided by operating activities | $33.5 million | $74.9 million | $41.4 million decrease |
Cost of sales declined to 22.7% of revenue from 23.0%, primarily due to lower dairy costs. Labor expense increased to 36.2% from 35.8%, driven by higher hourly wage rates and management labor. Other operating costs increased to 25.6% from 24.8%, mainly due to higher rent following lease-accounting adoption, marketing costs and restaurant management bonuses.
Comparable sales at Cheesecake Factory restaurants increased 1.3%, exceeding the casual dining industry increase of 0.9%. Average check increased 3.8%, including 3.0% from pricing and 0.8% from mix, while customer traffic declined 2.5%. Average sales per restaurant operating week increased 1.5% to $209,963.
At April 2, 2019, cash and cash equivalents were $22.5 million, compared with $26.6 million at January 1, 2019. Total debt was $20.0 million. The company had $159.3 million of net availability under its $200 million unsecured revolving credit facility, after outstanding borrowings and standby letters of credit. The company was in compliance with its financial covenants, including a 3.1 net adjusted leverage ratio versus a maximum of 4.0 and a 2.5 EBITDAR ratio versus a minimum of 1.9.
The company adopted ASC 842 lease accounting on January 2, 2019. This resulted in recognition of approximately $975.1 million of operating lease assets and $1,045.4 million of lease liabilities, a $41.5 million after-tax reduction to beginning retained earnings, and significant changes in balance-sheet presentation.
Material Changes Versus the Prior Comparable Period
- Revenue increased due primarily to new restaurant openings and positive comparable sales.
- Operating income and operating margin declined despite revenue growth, reflecting labor, occupancy, marketing and bonus cost pressures.
- Net income and diluted EPS increased, aided by a lower effective tax rate of 6.0% versus 13.4% and favorable interest and other income following the lease-accounting transition.
- Cash flow from operations declined primarily because of the timing of income tax and rent payments.
- The company invested $3.0 million in unconsolidated affiliates and provided an $11.0 million secured loan to affiliates during the quarter, compared with no comparable investment or loan in Q1 2018.
- The company opened its first Social Monk Asian Kitchen location during the quarter and incurred $2.1 million of preopening costs, compared with $1.1 million in the prior-year quarter.
- The company repurchased approximately 0.2 million shares for $11.1 million and paid $14.6 million of dividends, compared with $34.9 million of repurchases and $13.2 million of dividends in Q1 2018.
Guidance, Outlook, Risks and Unusual Items
Management projected Q2 2019 adjusted diluted EPS of $0.80 to $0.84, based on comparable sales growth of 1.5% to 2.5% at Cheesecake Factory restaurants. Fiscal 2019 adjusted diluted EPS guidance was $2.58 to $2.70, based on comparable sales growth of 1% to 2%. The guidance excludes gains or losses on investments in unconsolidated affiliates and potential one-time North Italia integration costs.
- Fiscal 2019 assumptions include commodity cost inflation of approximately 1% to 2%, wage inflation of approximately 6% and an effective tax rate of approximately 9%.
- Management expected to open as many as six new Cheesecake Factory restaurants, up to five international licensed locations and additional concepts as described in the filing.
- Planned fiscal 2019 cash capital expenditures were $90 million to $100 million, plus $20 million to $25 million of growth capital for North Italia and Flower Child.
- Management indicated it was likely to acquire the remaining interest in North Italia near the end of Q3 2019 at an estimated cost of approximately $150 million and was evaluating financing alternatives.
- Key risks include wage and benefit inflation, commodity prices, customer traffic declines, occupancy and construction costs, regulatory and employment matters, adverse weather, international operations, tariffs and foreign exchange, and the performance of North Italia, Flower Child and Social Monk.
- Pending matters include a California wage-and-hour class action, a $4.2 million wage citation involving a janitorial vendor, and an $8.0 million IRS tax deficiency notice. The company has not recorded reserves for these matters because potential outcomes could not be reasonably estimated.
- The company does not use commodity hedging contracts as of April 2, 2019. A hypothetical 1% increase in food costs would have reduced quarterly results by approximately $1.4 million.
- The Board declared a subsequent quarterly dividend of $0.33 per share on April 25, 2019.
Important Facts for Investors to Verify
- Whether comparable-sales growth can continue while customer traffic remains negative.
- Whether wage, occupancy, marketing and other operating-cost pressures stabilize or further reduce restaurant-level and consolidated margins.
- The funding requirements and financing terms for the potential approximately $150 million North Italia acquisition.
- The effect of ASC 842 lease accounting on reported expenses, leverage measures, cash flows and covenant calculations.
- The company’s ability to fund capital expenditures, growth investments, dividends and share repurchases while maintaining adequate liquidity.
- The outcomes and potential financial exposure from the disclosed employment, wage-citation and IRS proceedings.
- Whether fiscal 2019 guidance assumptions for sales, commodities, wages and taxes are achieved.