DENN - NASDAQ

Greetings, and welcome to Denny's Corporation First Quarter 2024 Earnings Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Kayla Money Senior Director of Investor Relations. Thank you. You may begin.

Good afternoon. Thank you for joining us for Denny's First Quarter 2024 Earnings Conference Call. With me today from management are Kelli Valade, Denny's President and Chief Executive Officer; and Robert Verostek, Denny's Executive Vice President and Chief Financial Officer. Please refer to our website at investor.dennys.com to find our first quarter earnings press release, along with the reconciliation of any non-GAAP financial measures mentioned on the call today. This call is being webcast, and an archive of the webcast will be available on our website later today. Kelli will begin today's call with a business update. Then Robert will provide a recap of our first quarter financial results and a development update before commenting on guidance. After that, we will open it up for questions. Before we begin, let me remind you that in accordance with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, the company knows that certain matters to be discussed by members of management during this call may constitute forward-looking statements. Management urges caution in considering its current trends and any outlook on earnings provided during this call. Such statements are subject to risks, uncertainties and other factors that may cause the actual performance of Denny's to be materially different from the performance indicated or implied by such statements. Such risks and factors are set forth in the company's most recent annual report on Form 10-K for the year-ended December 27, 2023, and in any subsequent forms 8-K and quarterly reports on Form 10-Q. With that, I will now turn the call over to Kelli Valade, Denny's President and Chief Executive Officer.

Thank you, Kayla. Good afternoon, everyone, and thank you for joining us. I'm excited to share our first quarter results with you today and provide highlights for the quarter. I'll do that in the context of our unique playbook, which includes our crave strategies and our specific areas of focus for both the Denny's brand and Keke's breakfast coping. Denny's Q1 domestic system-wide same-restaurant sales were negative 1.3% this quarter with both sales and traffic outperforming both the family and casual dining segments. I'm incredibly proud of our teams and our franchise owners and operators who demonstrated incredible resilience and focus even in the midst of a tough operating environment. Denny's dine-in business showed progress this quarter with the breakfast daypart showing strength, continuing to strengthen and grow dine-in traffic throughout all dayparts as a primary focus, and we believe we have a great approach and line up to do this. And for those guests seeking alternative dining experiences, our digital and off-premise strategies are strong and deliver for many guests who want convenience. In fact, while off-premise sales as a percentage of total sales had been at 19% or greater since Q1 2020, this first quarter, we delivered 21% stealing share from others that have scaled down in off-premise channels. The proof points for us are clear. Denny's off-premise guests younger than dine-in, approximately 70% of our Gen

Thank you, Kelli, and good afternoon, everyone. Given the strong prior year numbers in the highly competitive value environment during the quarter, we view Denny's Q1 domestic system-wide same-restaurant sales of negative 1.3% favorably, resulting in a 2-year comp of positive 7.1%. Denny's domestic system-wide same-restaurant sales were comprised of approximately 5.5% in pricing, partially offset by approximately 0.5% of product mix related to higher value incidents. All pricing for the quarter was a carryover from fiscal 2023. However, in mid-April, we took approximately 3% in pricing with the Denny Spring Core menu launch. April's pricing included approximately 5% in California to offset the anticipated impact of AB 1228. This was more heavily weighted towards franchise restaurants with company restaurants averaging approximately 4%. Denny's domestic average weekly sales for the first quarter were approximately $37,000, including off-premises sales of approximately $8,000 or approximately 21% of total sales. Keke's delivered system-wide same cafe sales of negative 3.6% for the quarter. Approximately 40% of our Keke's cafes are located in Orlando, which has consistently trailed both Florida and the national average. However, we have been very pleased with the progress made in this small but mighty brand. 2023 was a year of building out the right team to lead Keke's, and they are already making meaningful impacts. In fact, over the last year, they have closed the traffic gap to family dining significantly, and we still have more traffic and check driving initiatives in the works. Keke's plans to roll out a selection of alcoholic beverages system line during Q2, which delivered instance of approximately 4% in test, most of which was incremental. Additionally, we are encouraged by the early test results of our new interior design in our latest Florida openings and are optimistic about what a future remodel program could deliver to the brand, including the addition of patios. Before I begin discussing the quarterly financial results, I want to take a moment and describe the changes to our non-GAAP financial measures that we believe will provide more clarity to investors and analysts and greater comparability to peers. Beginning this quarter, we adjusted our non-GAAP financial measures for items such as legal settlement expenses, preopening expenses and other items we do not consider in the evaluation of our ongoing core operating performance. In addition, cash payments for restructuring and exit costs and cash payments for share-based compensation will no longer be a component of our adjusted EBITDA definition. We have also sunset our adjusted free cash flow non-GAAP measure, and we are now referencing the GAAP cash flow statement presented in our quarterly SEC filings. Please see the analyst center on our Investor Relations website or our current investor presentation for a recasting of historical non-GAAP financials. Turning to our first quarter financial details. Total operating revenue was $110 million compared to $117.5 million in the prior year quarter. Franchise and license revenue was $57.6 million compared to $64 million in the prior year quarter. This change was driven by a $2.1 million decrease in initial and other fees associated with the sale of kitchen equipment in the prior year quarter and the $1.5 million decrease in advertising revenue, primarily related to temporarily lower local advertising co-op contributions in the current quarter. Prior to the pandemic, these co-op contributions represented approximately 0.4% of system sales. However, they have averaged about half of that over the past several years. Beginning in Q2, the Denny's system has fully reestablished local advertising co-op contributions, and we look forward to these investments driving incremental guests into our restaurants. Adjusted franchise operating margin was $30.1 million or 52.2% of franchise and license revenue compared to $31.6 million or 49.4% in the prior year quarter. This margin change was primarily due to lower sales and lease terminations. Company restaurant sales were $52.3 million compared to $53.5 million in the prior year quarter. This was primarily driven by a decrease of 3% in Denny's same-restaurant sales, partially offset by one additional Keke's equivalent unit. Adjusted company restaurant operating margin was $6 million or 11.5% of company restaurant sales compared to $7.1 million or 13.2% in the prior year quarter. This margin change was primarily due to higher workers' compensation and general liability expenses in the current quarter of approximately $1 million or 1.9 percentage points of company restaurant sales. Commodity inflation was approximately 2% for the quarter, similar to what we experienced in Q4 2023. Additionally, team labor inflation remained unchanged in Q1 at approximately 3%. I want to take a moment to provide insights on the impact of AB-1228 on our '22 California company restaurants. Since AB-1228 was signed in September 2023, while there were industry fears of full-service employees rushing to secure fast food jobs, we have been very pleased to actually see improvements in both management and crew turnover in our company restaurants. We believe this is a true testament to investments made in our teams such as our gain program, allowing team members to obtain their GED, college credits, life skills and career pathways. Additionally, we have not experienced a material increase in team wages thus far in April, which is in part due to our servers earning well above the AB-1228 minimum wage when factoring in tip income. General and administrative expenses for Q1 totaled $21.2 million compared to $20.1 million in the prior year quarter. These results collectively contributed to adjusted EBITDA of $18.4 million. The effective income tax rate was 24.6% compared to 61.5% in the prior year quarter. This change was primarily due to discrete items relating to share-based compensation in the prior year quarter. Adjusted net income per share was $0.11 in the current year quarter compared to $0.13 in the prior year. This change was primarily due to higher workers' compensation and general liability expenses, which weighed on adjusted EPS by approximately $0.02. Our quarter end total debt leverage ratio was 3.5x. We had approximately $271 million of total debt outstanding, including $261 million borrowed under our credit facility. During the quarter, we allocated $4.8 million to share repurchases, continuing our commitment of returning capital to our shareholders while also balancing investing in Keke's growth. At the end of the quarter, we had approximately $96 million remaining under our existing repurchase authorization. Next, to recap our first quarter development highlights, our brands opened 8 combined restaurants during the quarter. Denny's franchisees opened 5 new restaurants, including 3 international locations. These openings were offset by 24 franchise closures and 1 company restaurant closure. These franchise closures averaged less than $1 million in their average unit volumes and were open on average for 32 years. Over that time frame, trade areas have shifted and as was the trend prior to the pandemic, franchisees stayed open through the holidays to enjoy one last season with their long-time loyal guests. Despite these closures, we remain encouraged by the overall health of the broader franchise portfolio. In fact, despite domestic franchise same-restaurant sales decreasing 1.2% during the quarter, the average unit volumes have actually increased by approximately 1.1% compared to the prior year. Moving to Keke's. We opened 3 company cafes during the quarter, 2 in Jacksonville, Florida, in addition to the first cafe outside of Florida in Hendersonville, Tennessee. We are very encouraged that our first cafe outside of Florida is currently on track to deliver sales of approximately $2 million. And as Kelli noted, our second company location in Tennessee will open in the next couple of weeks in Gallatin just in time for Mother's Day. In addition, there are currently 4 cafes under construction with several others in permitting and site approval phases. Lastly, let me now take a few minutes to expand on the business outlook section of our earnings release. With many sales driving initiatives such as the expansion of Banda Burrito, which has consistently rivaled the meltdown performance as well as the testing with Franklin Junction and reigniting our remodel program and local co-op advertising funds, we remain optimistic on our domestic system-wide same-restaurant sales guidance of between 0 and 3% compared to 2023. We anticipate opening 40 to 50 restaurants on a consolidated basis, inclusive of 12 to 16 Keke's openings and a consolidated net decline of 10 to 20 restaurants. We are projecting 2024 commodity inflation to be between 0% and 2% and for labor inflation to be between 4% and 5%. The labor inflation guidance takes into account the anticipated impact from AB-1228 in California. Our expectations for consolidated total general and administrative expenses are between $83 million and $86 million, including $12 million related to share-based compensation expense, which does not impact adjusted EBITDA. And lastly, as a result of evolving our non-GAAP financial measure definitions and factoring in Q1 results, we now anticipate consolidated adjusted EBITDA of between $87 million and $91 million compared to the previous guidance of between $85 million and $89 million. Finally, I would like to thank our supportive franchisees and result-driven brand teams who have remained focused on serving our guests while continuing to drive our strategic priorities. That wraps up our prepared remarks. I will now turn the call over to the operator to begin the Q&A portion of our call.

[Operator Instructions]. Our first question comes from Michael Tamas with Oppenheimer.

Your guidance for flat to plus 3% same-store sales for the year implies a pretty material acceleration after this first quarter. I understand you face easier comparisons and you do have a bunch of catalysts rolling out, but the macro environment does also appear to be a little bit more challenging than it was even just a few months ago. Sodo you want to talk about near-term trends at all build on your confidence to achieve that full year guidance. And can you maybe talk about which of those sales initiatives you're most excited about that can drive real change in the near term?

Michael, this is Robert. With regard to the sales specifically, Q1, particularly about mid-March to about mid-April, we saw some pretty significant volatility related to spring break. But as we exited April, the trends really started to improve, particularly just within our own results and the comparisons against casual and family dining. So what we experienced on the quarter, we've changed that trend now as we head out of April. I do also would like to say that our value initiatives have really been performing quite well. And we've just launched into our latest version of that again, our all-day diner deals. They have a $5.99 price point inclusive in that. So despite the general macroeconomic environment, and I agree with you, there is an overhang there. We are, I think, very well positioned with that value messaging to drive same-store sales. And I'll pass it to Kelli for the initiatives.

Yes, the only thing we've noticed and we've continued to launch, not only throughout the quarter but gives us a bit of confidence in April and for the quarter is the fact that the trade that we really do see or what appears to be trade down given our beats to casual dining, and that has been pretty consistent, right? So while yes, cautious consumers looking for value, we feel like, again, those work for us and have been working for us. We also launched a new menu that's really early. But from what we can tell, there was some pricing in that menu, but also positive mix and the Barbell strategy continues to work for us with people really adding our new desserts doing well, things adding to the check. So that gives us some confidence. And then the things we're most excited about, I think, look, the dollars in sense would say the increase in marketing spend and with the simple matches, the math that's going to happen again, gives us a lot of confidence, $12 million, as mentioned in the script. So that, along with the things that we see and potentially a remodel program that will gear up as strong as it was pre-pandemic. Those results are in and could have the potential to really show some effect the back half of the year. I mentioned another virtual brand that's not insignificant in terms of the sales that we see in that virtual brand and in the test that we already have in close to 100 restaurants. So go California first and then nationally in the back half of the year. Those are probably the ones I put at the top of the list, starting with the co-op match, adding media into the mix.

And then just as a follow-up on value. We've heard a lot of restaurants talk about stepping up the value offerings going forward, particularly across the fast food category. Obviously, Denny's known for value, and you pointed out that the value mix is actually up to 19% this quarter. How does that shape the way you're thinking about your value strategies going forward? And is there a value mix level that like you or your franchisees would like to stay below or sort of stabilize that?

I think especially what you see happening in fast food, I would just say, again, we're watching the price increases there. We're knowing what we know what our guests count on us for and know that, that value leadership is something we can offer. I think at 19, we're not surprised by that at all. It's been 17 for quite some time, and we've been at those levels before. So for us, I don't think we worry unless it gets above probably 25%, again, mid-20s, not to probably go higher than that. Our 2468 platform that launched years ago but was one of our most successful platforms got as high as 24%. And so that's probably an area we feel safe in the way we've orchestrated and architected that menu in the past and what we'd be okay with going forward.

Our next question comes from Jake Bartlett with Truist Securities.

My first one was a follow-up on the value discussion. I mean all the diner meals launched that, what, about 1.5 years ago. I'm wondering how that has performed versus just doing the Grand Slam. I'm trying to understand whether the re-launch here how impactful it could be versus launching the 599 Grand Slam?

I think we're actually pretty confident. So we did a lot of testing to go back and look at repricing that versus staying on were offered quite a bit with the original brand plan and it performed well for us. They really hung in there for us. So we're doing great. When we talk about our plans, that's the signature platform, obviously. So what you see in all the diner deals and what the research really pointed to for us, we revamped the commercial. We went and really amped up the variety play, so it's 6 entrees. We lead with the everyday value plan, a great value. But we lead with that, but we can also see in just a really short amount of time since its launch, we can see burger sales and incidences are up. So the things that are featured in that spot actually are performing pretty well. So we like the variety. We like that there are options for the guests, and it's not just one single breakfast item, although we lead with breakfast because we have the best potential when we do that. So we're encouraged, and we've got great plans in the mix for the rest of the quarter and the back half of the year.

And just to confirm, you mentioned in the last call, you were testing some various levels of value. This is what you were testing? Or are there other platforms that you're currently still looking at?

There are other platforms we are still looking at. And again, this one, given we revised the commercial, given some new testing that we did, it's surface to the top. So a good one now to lead into this quarter with, but we are not done and have a few more tricks up first leave in terms of great everyday value offers that can be really compelling for us given the environment.

And then this next question might be one that I surely know the answer of and so I apologize ahead of time. But I wanted to make sure I understood the implications of the local co-op matching and the $12 million increased spend that you talked about, where does that money come from? Help me understand exactly who is matching what and is there any contribution from Denny's itself that is kind of going out the door?

Jake, so the mechanics of that are this. So all of our restaurants, all of the Denny's restaurants contribute 3% to our brand building fund. This co-op then suggests if the franchisees spend an incremental 0.5 percentage point within their market, we will take 0.5 point out of that brand building fund to match into that local co-op, giving that co-op approximately 1% of their sales to spend reading the remaining 2.5% in the brand-building fund. So that's the mechanics of how that works. So overall, again, the overall spend is lifted 0.5% in this environment, shifting the national spend to from 3% to 2.5% illustratively and the local then goes from 0.5 point to 1 point.

And then the last question is just on California. There's been a month now of the implementation of the Fast Recovery Act. And you mentioned that it's not so far impacting your labor cost. So it does sound like the labor cost increase is still built in the guidance. But anything you're seeing, I think there was an idea that this could drive traffic to family dining and full service. Any activity or any actions by consumers or changes in behaviors that you can share at this point?

Jake, this is Robert again. With regard to that, a little early, frankly, to see changes in traffic patterns resulting from that, the potential of incremental funds going into the pockets of our consumers, those paychecks that may just be getting into their pockets at this point. So consumer behavior as a result of increased income from increased wages, it is likely too early to see, but we were -- as within our prepared remarks, we're really at this point, pretty bullish at least in the near term, that management turnover and crude turnover has not taken a significant change in California. Again, watching it, just as I described, the wages may be early, the impact of how that all evolves with regard to turnover or waiver inflation. We're still watching that very close to week. But early on, those 2 points have performed better than we are. Our guidance, as you point out, does contemplate increased labor inflation that may be something that we could revisit later in the year. But right now, just a little cautious to do so.

Our next question comes from Todd Brooks with the Benchmark Company.

One drilling on Keke's a little bit. First, Kelli, it sounds like the Hendersonville opening has gone better than you expected. But what kind of learnings out of the response, maybe potential in the non-Florida markets? I know it's one data point, but any read-through or excitement around this opening that other changes the growth trajectory going forward? Or if you could possibly update us? I know there were a lot of franchisees that were waiting to see that unit in the performance outside of Florida. Is there any way to give us an update on where the franchisee pipeline last? I think the last update was $100 plus.

We are absolutely excited as the opening has done well, as you said, and as Robert already mentioned, so above expectations. And I think we mentioned on the last call, I didn't get into it in as much detail this time. But we didn't open with patio or our liquor license yet. We've got those things to add. They've been fully vetted and tested now in the rest of the system. So there's other levers to pull that haven't yet even begun to be in the mix in Hendersonville and in the Tennessee market, next one coming up in Tennessee. So we're really bullish about that market and the response we've gotten so far, beautiful design food. The net sediment score, as I mentioned in my comments, but they're absolutely phenomenal, and the team is working through a lot of different things in terms of ways to look at the existing fleet in the way of a remodel package where we could take the learnings and the things that we've seen that have been really positive from the guest really new positive aspects in the design and pull those into the Florida market. T hose franchisees are incredibly excited to be the first time there would ever be a remodel program for the small but mighty brand like Keke's. So there's a lot of excitement about that as well as excitement for the work that is being done around alcohol that has been testing patios. Gallatin will open with a full patio and it's just an absolutely beautiful building. So the learnings are absolutely there. We've got lots of people talking to us about it now that we've got these kind of learnings from Tennessee. So the interest is still there. The conversations are there, and we expect to be continue talking about the pipeline strengthening.

And then just a follow-up about the potential to remodel the fleet in Florida. Do you have a rough idea on what the remodel cost might run to get those units to have at least the elements that you could work into those older boxes from the newer design?

We're pretty early at this point. And again, pulling the most appropriate elements to bring into a lot of in-line locations as well. So we're kind of resin with what does it look like inside. And it's really going to be paint and new colors and brightening it up and then still having some of those same things that are signature for Keke's. So we're still early in designing that and we'll test that at our Dr. Phillips Jacksonville location pretty soon, but not quite there on just having that full package for you now.

And then my second question, and I'll hop back in queue. Menu innovation pipeline, and you talked about levering the new kitchen equipment more and more going forward. What does that look like? Does it go item by item? Or do you see new platforms that you're experimenting with that lever the new kitchen equipment. Is there anything we should be watching for, I guess, from the menu standpoint? That could be another incremental driver to that list of same-store sales drivers that you laid out earlier?

What I can tell you is that what we are doing is looking at the menu holistically, looking at the, obviously, always being mindful of the equipment, the simplicity and the consistency that, that equipment offers. But there are a couple of things that you will see us do that look at the menu and our strengths and things that are signature for us. And while balancing that, we think that we can use our kitchen modernization equipment for. Nothing that I probably would want to add just yet in terms of what the pipeline looks. But there are some pretty exciting things that we've got for the back half of the year.

[Operator Instructions]. Our next question comes from Nick Setyan with Wedbush Securities.

Just a follow-up on the co-op. Just to understand correctly, is it an actual increase in marketing spend overall? Or do we just shift 50 bps from national marketing to local marketing?

For clarity, Nick, it is an actual increase of 50 basis points. Again, we are shifting a 0.5 point out of National to boost the total local spend to a point, but it is an actual increase in total spend from 3% to 3.5%.

And then just around sort of some of the add-backs in the company outlined or maybe just if you step back and just think about EBITDA, like you to work to keep it apples-to-apples to how we talk about how we used to talk about it. What would the new EBITDA guide equate to?

So Nick, we tried to take that into account into the new range there. So for '23, this new definition would have led to approximately $89 million. The current definition now is 87% to 91%. So that midpoint is about $89 million. And we adjusted our guidance range upwards to account for these changes that I described in our prepared remarks. And just taking somewhat of a step back, the reason for this is we many conversations, particularly post our earnings releases, we were running into many conversations in which analysts and investors were going, you're not as comparable as we would like to see to others of your peers, and it's somewhat difficult for us to understand your definition in comparison to your peers. So we were really trying to take into account both of those, making this easier and more comparable to our peers. Within our investor presentation, Nick, we do have a reconciliation of dating before this new definition all the way back to 2018.

And then just last question. It does sound like you're already seeing an acceleration in comp trends versus the Q1 comp. Any way to maybe bracket what you're seeing in April quarter-to-date.

That's a tough one, Nick, because the reality is, again, that choppiness that we had seen really kind of extended through the mid-April time frame. So to give you a number, I don't think that would be representative of the month, would be representative of the new trends that we are now seeing in the back half of the month with the new menu, with the incremental pricing with the new All-Day diner out there, that new value commercial we have out there. So the month wouldn't necessarily be representative of the trend that we've seen in the back half of the month.

Our next question is from Ashley Bruminger with Piper Sandler.

I know you mentioned on the last call as well as in the prepared remarks that Florida was the weakest state in your geography. I was just wondering if the Florida market is improving any since this? And just how much has it been impacting traffic and sales at Keke's?

With regard with the traffic, the sales within Florida, there has been some improvement over the course of the quarter. But with regard to relative positioning to the balance of the U.S., it would still fall in the bottom quintile of our sales performance. I do believe that we will see that we begin to roll over the depth of this in about a month or so, that happened in this really outsized relative underperformance in Florida really started in about May of last year. So I do have some hope that as we roll over this, it will begin to normalize. But right now, it would be still in the bottom quintile of our states performance, although it did improve across Q1.

We have reached the end of the question-and-answer session. I'd now like to turn the call back over to Kayla Money for closing comments.

Thank you. I'd like to thank everyone for joining us on the call today. We look forward to our next earnings conference call in late July when we will discuss our second quarter 2024 results. Thank you, and have a great evening.