Greetings. And welcome to El Pollo Loco Second Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] And as a reminder, this conference is being recorded.

I would now like to turn the conference over to Larry Roberts, Chief Financial Officer. Thank you. Please go ahead..

Thank you, operator, and good afternoon. By now everyone should have access to our second quarter 2019 earnings release; if not, it can be found at www.elpolloloco.com in the Investor Relations section. Before we begin our formal remarks, I need to remind everyone that our discussion today will include forward-looking statements.

These forward-looking statements are not guarantees of future performance, and therefore, you should not put undue reliance on them. These statements are also subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect.

We refer all of you to our recent SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial condition. We expect to file our 10-Q for the second quarter of 2019 tomorrow, and we would encourage you to review that document at your earliest convenience.

During today's call, we will discuss non-GAAP measures, which we believe can be useful in evaluating our performance.

The presentation of this additional information should not be considered in isolation, or as a substitute for results prepared in accordance with GAAP, and reconciliation to comparable GAAP measures are available in our earnings release. I'd now like to turn the call over to President and Chief Executive Officer, Bernard Acoca..

Thanks, Larry. Good afternoon, everyone and thank you all for joining us today. For the second quarter of 2019, we reported adjusted earnings per share of $0.23 per share as compared to adjusted EPS of $0.22 last year.

While our system-wide comparable store sales increase of 0.7% was below our expectations it does represent our fourth straight quarter of positive system-wide same-store sales growth since the launch of our transformation agenda.

In addition, our teams did a nice job of managing store-level expenses during the quarter as evidenced by our restaurant contribution margin of 19.9%. Heading into the second half of the year, our main focus is delivering affordable value without sacrificing the quality our customers have come to expect from El Pollo Loco.

By affordable, I mean, products that have value-engineered to deliver good margins at very attractive price points. An example of this is our current Overstuffed Quesadillas promotion featuring our new Nacho Overstuffed Quesadillas at $5.

We will follow-up this promotion with our $5 fire-grilled combos promotion which includes your choice of five of our most popular entrée items along with our famous chips and a drink. Both of these promotions offer tremendous value to consumers at food cost designed to help maintain attractive margins.

While we are taking actions to drive near-term sales and transactions, we remain focused on our longer-term strategies.

During the second quarter, we continued executing against our transformation agenda and I'd like to provide a brief update on a few of the key initiatives that we've been working on during the past three months to drive and sustain future growth.

As part of our ongoing focus to build a culture centered on leadership with heart, we completed testing a food-donation program, which will be rolled out in September.

Partnering with food donation connection, all company restaurants and those franchisees choosing to participate will donate food left over at the end of the day to local shelters and food banks.

We believe this is particularly important as homelessness has reached epidemic proportions in Southern California and we are committed to doing everything we can as a brand through initiatives both big and small to assist with the mounting crisis in the communities in which we do business.

As a system we expect to donate over 500,000 pounds food over the course of the year to help feed people in need.

We also continue to make progress with regard to our brand relaunch that we initiated in March, which as you'll recall included the system-wide rollout of our new logo advertising campaign, Feed the Flame tagline, menu boards and point-of-purchase materials.

On July 8, we launched our new e-commerce website and mobile app significantly improving our customer’s ability to engage and interface with our brand. Both the website and app, highlight the quality and craft associated with our food our brand heritage and dramatically simplify ordering food from us whether it be for delivery or takeout.

Equally as important, we have increased our digital and socially media mix in Q3 to 15% with plans to get to 20% next year in order to drive customers to these e-commerce platform. For context, we spent less than 3% on digital media prior to making this change.

While we still have work to do, we believe that this new website, app and greater commitment to digital media are the first steps towards creating a first-class digital experience, which is key to unlocking the full potential of our loyalty, delivery and catering platforms.

With regards to delivery, in addition to our DoorDash relationship we are in the process of testing the expansion of our delivery partners to include Postmates and Uber Eats as options for our customers.

The test also includes a new more curated menu with a heavy emphasis on family meals and combos, which are designed to drive more profitable sales through third-party marketplaces.

Because this limited test has shown a lot of promise in terms of significantly increasing our delivery mix, we are expanding it to one entire DMA and plan to launch it system-wide in September. As you know, we've made a priority of simplifying operations for our employees and franchisees.

A key focus of this goal has been the reduction of back-of-house complexity to free up capacity in order to deliver a better customer experience. Along these lines, our new back-of-house inventory management system has now been rolled out to approximately 120 restaurants, and we continue to expect full implementation by the end of this year.

This system will help streamline our operations and is expected to free-up an additional one to two hours per day for our restaurant general managers. We've also made huge progress simplifying eliminating and rewriting many of our standard operating procedures.

This work includes simplifying the production process for each of our menu items to six steps or less.

We are also very close to completing what has proven to be a successful market test of simplifying how chicken is cooked in our restaurants to deliver a more consistent higher-quality product that is much easier to teach to our aspiring grill masters.

This detail work is foundational for simplifying our operations and the enabler for our team members and franchisees to serve great food and provide exceptional customer service. Ultimately, we believe it will have the added benefit of lowering turnover and increasing retention, which is particularly important in today's tight labor environment.

Lastly, we continue to strengthen the foundation for new market expansion and continue to target 2020 for entry into one or two new markets. Included in this is the development of a new restaurant of the future prototype, which is going as planned.

Included in its design features will be of our new brand visual expression and it will incorporate our parallel work to simplify our back-of-house operating platform.

By continuing to focus and make progress against our transformation agenda, I'm convinced that all our current initiatives should lead to a stronger foundation for our business, allowing us to grow our business profitably and responsibly over the long term.

We remain excited about the progress, we've made to-date and I look forward to updating you on our progress on future calls as we continue to elevate the El Pollo Loco brand. Before I turn the call over to Larry, as always, I would like to thank all of our employees and franchisee partners for making these results possible.

Your passion, commitment and dedication are what make this brand and this family truly special. I'll now hand the call over to Larry to review our second quarter results in detail..

We expect system-wide comparable restaurant sales growth, to be approximately 1% to 2%. As I noted, we expect to open two to three new company-owned restaurants. And expect our franchisees to open two to three new restaurants. We expect restaurant contribution margin of between, 18.2% and 18.7%.

We expect G&A expenses of between 8.2% and 8.4% of total revenue excluding fees related to securities class action litigation and reflecting our change in accounting for franchise advertising fees. We expect adjusted EBITDA of between $61 million and $63 million; and we're using a pro forma income tax rate of 26.5%.

This concludes our prepared remarks. I'd like to thank you again for joining us on the call today and we are now happy to answer any questions that you may have..

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first questions come from the line of Matthew DiFrisco with Guggenheim..

Thank you. Larry just one bookkeeping question here for the question.

With respect to the 11 that shifted from company to the franchise side how much did that contribute in the quarter to the revenue -- or franchise revenues?.

The franchise revenues, net of expenses, I think it was about $300,000..

Okay.

But just to the revenue line?.

I'm sorry, revenue line was about $76,000..

So, it was only -- okay it was a modest amount. Okay..

Yes..

Got it.

And then respect -- with respect to the stores that are moving over into 2020 is that something that is purely incremental to 2020, or is this sort of -- I guess I'm trying to figure out without you giving development or being held to a number for 2020 should we expect that 2020 is going to be a meaningful up year in development?.

Well, I think right now we're still working through 2020. It's a little early to make that call Matt. I guess the one thing I would say which we can certainly that is we certainly expect 2020 to be higher than this year which given the low bar, we should be able to achieve, but it's way too early to give actual numbers on 2020..

Okay. And then Bernard with respect to I guess the positioning now. A couple of quarters into repositioning of the brand the comp you did mentioned was somewhat on the lower end of what you had been expecting.

Is that more the context of California and some of the pressures we've heard out there, or have you had -- I don't want to use weather or disruptions from regional issues but are you is that still a strong number though on the context of what you've seen as far as in industry and the region in California what your peers are doing?.

Yes Matt. If I could take a step back for a minute I think the way -- what we attribute our results to quite frankly is where we are in our journey with the transformation agenda. And we really started this journey four quarters ago. It really took hold in the third quarter of 2018.

And while we're happy with the progress we've made certainly during that time we're -- again we communicated that we've experienced four quarters of consecutive same-store sales growth. They're going to be some bumps in the road in terms of where we are in that journey.

And so what I would attribute the comps to in this quarter while positive was more to a product introduction which we have been able to count on to do very, very well for us in the past not delivering fully up to our expectations.

So, we know that we've got to do more work with our innovation pipeline to deliver more compelling and true new news to our customers and we're well underway to doing that.

And I'd say the second thing that I think impacted us in the quarter was the delay of the launch of our e-commerce website which we've now realized July 8th in this quarter and the accompanying digital plans that we originally intended to launch in Q2 which have now launched in Q3 which as I said in my opening remarks have increased our digital mix -- or I should say our overall media mix to 15% digital with the intention of only growing that number over time.

So, I'm not looking at the macroeconomic climate as the rationale for why we are where we are. I think it has more to do with where we are in our journey and we feel like we're pretty -- we're in control of what we can deliver on a go-forward basis..

Okay. So, that helps me I guess better understand the guidance implies a meaningful step-up in the two-year trend. But it sounds like you had some headwinds given the delays, but you just outlined in 2Q that you're counting on more so for the third quarter or are already seeing the benefits of those..

Well, what I can say in terms of what we're seeing right now is that we saw a nice uptick in sales comp in June. But in July, we did experience a slowdown. And so it was a softer than expected month, but we're looking to bounce back from that for the balance of the quarter..

Okay. Thank you..

Matt the only other thing that I want to mention that I failed to mention that I think is also upside on a go-forward basis certainly with the arrival of our new Chief Operating Officer Miguel Lozano, is we see a lot of the plans that he's starting to put into effect being -- enabling us to deliver a vastly superior customer experience than the one we've been able to deliver historically.

And so, I mentioned the pipeline. I mentioned digital and e-commerce. You heard me talk about delivery in my opening remarks. The thing that I probably underplayed was the benefit that we think improved operations can have for us on a go-forward basis as well..

Excellent.

Can you -- while I still have it, can you give us the cadence of the comp from a year ago? Was the 2.6% pretty much even throughout all three months, or was the July ahead of your compare?.

You talking about Q3 last year?.

Yes, Q3 2018.

So I'm trying to figure out July August and September year ago comparisons?.

Okay. We have that. Give me a second. Yeah, relatively -- I'll call it consistent during the quarter Matt, maybe a little bit higher in September versus August and September but fairly consistent..

Okay. Thank you..

Our next questions are from the line of Jake Bartlett of SunTrust..

Great. Thanks for taking the question. Bernard, I'm wondering about -- it sounds like you're going to -- one of the strategies going forward to get the sales going and traffic going is to focus more on value.

My perception just from the rest of the industry and where they've gone on kind of on the QSR side has been to move away from the kind of deep value orientation that we've had over the last few years. And so more premium products seem to be doing better, but I'm curious to hear what you're seeing out there.

Why you think that value is what you need to focus on to kind of reignite traffic here?.

Well, I mean for us, I think it's always a balance. We have a high-end business, which is our family business, so you always see us on air with a $20 price point. But then, we have a lower-end business, which we like to counterbalance our high-end business with.

As a matter of fact, it's one of the biggest strength in our business is that we've got that evergreen barbell if you will. And in regards to the promotions that I've referenced, those quite honestly aren't additional discounts as they pertain to our business.

The $5 fire-grill combos menu, for instance, comprises a lot of the items that already exist at that price point on our menu board today. So, it's not -- what I would technically describe as incremental discounting.

It's simply highlighting what is on our menu today and promoting it aggressively in a way that perhaps we don't throughout the course of the year. But we like to look at the calendar. If you see the first of the year, we didn't really resort on television or on our media, I should say, with any kind of aggressive discounting.

This time of year, certainly in the third quarter, during that kind of back-to-school time period, usually you want to be a little bit more front-footed with your discounting. So I think it's just more of a balance overall. I wouldn't qualify it as doing incrementally more than what we've historically done..

Okay. And then in regards to your labor cost and the tick-up in wage inflation, I think in the last quarter you mentioned some pretty impressive improvements on turnover.

Are you seeing the improvements in turnover increase, or have you maintained those improvements? How much do you think that that can offset some of the increased wage inflation that you're seeing?.

Well, I think, as a brand, we've been historically blessed with lower than industry average turnover rates. And so, we saw the second quarter, for instance, crew turnover about 115%, which is substantially lower than the 136%, 140% you see industry-wide.

So, this focus on culture that we've been building down on, I think, it's manifesting itself in the employee retention numbers that we're seeing.

That coupled with the fact that we're really maniacally focused on trying to figure out how to simplify the back of the house to make our employees' job easier, because we do have a little bit more of a complicated operating platform that -- those two things take an intend that we believe has continued.

Our strong retention numbers are lower than industry average retention numbers..

Okay. And then lastly, any insight on the new markets that -- you mentioned entering one or three new markets as soon as 2020.

Does that mean that you have new franchise partners already kind of lined up and signed up for that, or is that still in process?.

Those things are all still kind of in the throes of discussion here internally, and we haven't finalized our plans yet. So, we're not in a position to share them, but -- so more to come on that..

Okay. Thank you very much..

Our next questions are from the line of Andy Barish with Jefferies..

Hey, guys. Wondering on sort of the next steps, you referred to on operational improvements. I mean you did the menu simplification, and kind of quickly pivoted to being a little bit more sales oriented with your teams.

I guess what are the next steps? And what are you seeing on guest satisfaction scores that are either good or need some areas of improvement that are the near-term focus?.

Yeah. So again, I think the trend -- what we mentioned to you with the transformation agenda is over the last several quarters, we've seen a slow, but steady uptick in our overall blended index, which is our measure of customer satisfaction.

It is not where we still wanted to be, but we do expect in the back half of the year to accelerate our improvement there certainly with the arrival of our new Chief Operating Officer and our focus on customer satisfaction as a metric. So we've seen slow, but steady improvement.

We want to see far greater improvement to hit our aspirational internal target. We've seen improvement in speed of service in the drive-through. I would say again steady improvement, but we are really focused as food ready at the window right now to drive down that window time even further.

So we can -- we believe that we can do far better than what we've managed to achieve over the last several quarters. So that in addition to some other initiatives that are really driving back-of-house simplicity. One, we talked about the inventory management system. It's in 120 restaurants now will be fully implemented by the end of the year.

We are rewriting the vast majority of our standard operating procedures to make them simpler. I can't overemphasize enough what a coo it is to have all our recipes -- all our product recipes we're now able to make in six steps or less.

And then something that we are testing and very close to launching, which is a major paradigm shift in our business is chicken-cooking simplification. And we have managed to come up with a methodology and a process to cook our chicken, which makes it so much easier for our employees, while simultaneously improving the quality of our product.

And that will be in full implementation in company restaurants in Q4 and then we'll look to roll it out to the rest of the system from there. So all these things taken in conjunction with one another we think are going to lead to greater front of house experience given how much capacity we're starting to free up back of house..

Yeah. Andy the only thing I'd add is, Miguel has also come in and realigned his team. And the other thing is he's starting to get really, really focused work with HR around the area leader level.

And when you're talking about operations that's the level you have to go after first because they are the ones who impact all the restaurants, but really getting into the everyday routine where they're doing restaurant have a plan of day. A lot of blocking tackling work that Miguel is really getting after.

And the other thing is we're also going to pay dividends over the near and long term..

Thanks.

And then Larry on pricing and mix, does the back half look similar as far as you can tell in terms of about 3.5% menu price, but somewhat offset by negative menu mix with more of the $5 items seemingly becoming part of your product strategy?.

Yes. So we expect back half of the year pricing is probably going to actually a little north of where it's been. It will probably run at about 3.8% or so back half of the year on pricing. And then mix in total, you're right. I think mix will be roughly flat.

I think it will be a little negative in Q3, as we're driving the $5 promotion, but then come back hoping to be slightly positive in the fourth quarter as we turn in stores the holidays and really emphasize family meals centered around tamale. So, yeah..

Thank you..

Our next questions are from the line of Sharon Zackfia with William Blair..

Hi. Good afternoon..

Hi, Sharon..

I just wanted to make sure I understood that delivery conversation from your prepared text. So did I understand correctly that you're testing Uber and Postmates in addition to DoorDash? And that's what's really not in September, or was it the curated menu or the both sides? I kind of got lost a little bit there..

Yes. It's both Sharon. So we launched right now with DoorDash our bifurcated menu. So if you order from our loyalty program or order online from us from delivery and we generate the order you get our full menu at our regular menu price.

If you order from a third-party marketplace whether it be DoorDash and eventually Postmates and Uber Eats, which will launch with us in September system-wide, you will get a menu that's more curated focused on primarily on family meals and combos at elevated pricing -- slightly elevated pricing, and also actually some unique family meals and combos you can't get elsewhere that take into account the -- or the need to kind of preserve our margins to the best of our ability.

So that is what is launching system-wide cum-early September..

And I guess, I don't recall you having said previously how much delivery is as a percent of your sales mix at this point. So it might be helpful to update us on that.

And then, is the delivery launch in September the revamped delivery paradigm? Is that why you're optimistic that comps will improve in the September quarter? Because I feel like you took the math is that you need a 0.5 comp in the back half to hit the low end of your guidance.

And if comps have weakened a little bit in July, it doesn't like you're sitting there right now..

One, I think we have a lot of confidence around our $5 fire-grill combos promotion, which we think will do quite well for us. Two, you are right. Our expanded delivery platform we're expecting to do more for us. We haven't aggressively promoted delivery to date for one primary reason.

And I can't state this point enough, because it is a huge part of how we are transforming our business. To be clear, we have not historically been a digital player. I mean, our go-to-market model has been very heavily dependent on television and print media.

I know that's hard to believe, but we jumped in a single quarter, this quarter that we're in right now from doing less than 3% in digital media to 15% and that number is only going to grow northward as we move forward. We redesigned our website which launched in the beginning of July. That website quite frankly hadn't been touched since 2012.

Now we have a beautiful dynamic website, a beautiful new dynamic mobile app. It's been the UX on that the user experience of that has been improved. It's been reskinned to reflect our new brand aesthetic.

And the only reason why I bring that up is that was what was first required for us to then really want to drive people to our e-commerce platforms which then get us to growth in delivery. So now that we've put that behind us, we are ready to turn on the delivery spigot and we're going to do that with two new national partners.

We're going to do that by promoting free delivery and our marketing communications far more aggressively and take delivery which to answer your early question represents less than 2% of our business now and really turn up the dial on that. So yes, all those things combined, we believe will help us throughout the quarter and on a go-forward basis..

Thank you. That’s very helpful..

Our next questions are from the line of David Tarantino with Baird..

Hi. Good afternoon.

First, could you please clarify what you meant by the softness in July just so that everyone on the call is level set on what you're running so far this quarter?.

Well I mean, I'm not going to get into the specific number, but what I will say is that, we were encouraged by the way we exited the last quarter in Q2. And that momentum seemed to have slowed a little bit in July in terms of the sales comp that we experienced..

Dave, we're basically slightly negative in July..

Got it. Okay. Thank you. And I guess Bernard, as you step back and look at the last I guess five or six quarters, since you've been at the company and you saw a fairly nice acceleration in the back half of last year. And then now we're seeing a little bit of a slowdown sequentially for the last couple of quarters and end of July.

So I guess what do you think you did well on the back half of last year that may not have continued in the first half of this year? And -- or is there some new issue in the first half of this year that is underneath the surface? I know you mentioned promotions not going well in Q2.

But I guess just as a high level, why the strength last year and then the slowdown this year in your mind as you diagnose the business?.

Well I mean I -- honestly I think it has to do with the fact that as you're well aware the industry is just getting -- everyone is getting better faster and we need to accelerate our development on certain fronts. I talked about the innovation pipeline certainly as a place that we're looking to get better and digital and delivery being another.

But I would attribute it to just simply a tougher marketplace and the fact that this marketplace is demanding every brand to get better faster. And so we never promised this was going to be one-year transformation agenda. We're making progress. We're very proud and confident of the progress that we're making.

But as I mentioned, there's going to be some speed bumps along the way. We think we're going to successfully get past those and that our best days lie ahead. But that's the best way I could characterize it..

Got it. And then I think you referenced on the past plans to start to enter new markets next year with new unit growth. And I'm wondering is that still on the books in the sense that it sounds like you got a lot of heavy lifting on the operations side to get to where you want.

Does it make sense to maybe push that out a year, so you get your operations right before you start growing, or do you not think you need to do that?.

Yes. No I don't want to misrepresent where our operations are. I mean, you've got me wrong. We have a solid operating platform. We just see a lot of upside opportunity for it going forward. So we're making tremendous headway and progress and we have certainly over the past year.

We just see it as being a real bigger -- a bigger differentiator for our business relative to what it's been historically. And so, we're tracking with our timeline on everything and incorporating all the great initiatives we have underway and building them into that prototype store of the future.

And that store of the future as a matter of fact is driving some new thinking as to things that we might want to incorporate into our existing restaurants. So its parallel work and we're tracking right along with other timeline..

Got it. Thanks for that clarification. That makes sense.

And then, the last question I had is on delivery, Larry can you explain what the margin structure of that looks like relative to an in-restaurant or takeout transaction -- normal takeout transaction? And then, if you have any insight on what you've seen so far in terms of the sales, whether you think those are incremental or replacing in-restaurant transactions that'd be helpful..

Well the economics are -- obviously there's two avenues. One is the dispatch which basically is economic or similar to something going in a restaurant through the drive-through. There might be a small fee that you're paying for the process and transaction. But the margins are similar to somebody buying at the price directly from the restaurant.

It's the marketplace where as you know you're paying a fee to the marketplace provider. As Bernard highlighted with the bifurcated menu, the incrementality task has been reduced significantly, meaning the margins are better. They're not all the way to bright where the consumer is paying the full delivery price.

But it is a lot better and that will continue to evolve if we work on the margin on delivery. So again dispatches lead to the same margins. Marketplace, we are paying a fee, but at the same time is we're probably covering -- I'm trying to think what -- a pretty feeble a percentage of that fee is being covered by higher prices on the marketplace menu.

In terms of incrementality, I think at this stage David, it's hard to measure incrementality. We -- as Bernard highlighted, we really haven't pushed delivery aggressively the way we're going to get ready to. So, we believe it’s going to be incremental. We structure in a way that incrementality lift is less needed.

It's probably more around the 20% incrementality or so that you need to breakeven on those delivery transactions. So, I think we're doing the right work there.

But in terms of incrementality today, we just haven't pushed it aggressively enough and so it's very hard to determine whether these are incrementality -- or incremental today, but going forward we certainly expect to do it and really push it..

Great. Thanks, Larry..

Thank you. Our next questions are from line of Jake Bartlett with SunTrust..

Thanks. I just had a clarification and then just a bookkeeping question.

And the clarification was what drove the negative mix in this quarter? Was there some sort of promotion that drove that, or was it just kind of maybe pushback from the kind of the increase in pricing?.

No. I think overall we -- when we review that -- our discounting did go up a little bit in the second quarter. It wasn't significant, but if I look year-over-year on that discount line, it's a little bit higher. So I believe that drove some of the mix shortfall year-over-year..

Okay.

And then Larry, if you could provide us with the system-wide sales number that'd be helpful?.

Yes, $227.8 million..

Okay. Thank you very much. Appreciate it..

Thank you. We've reached the end of our question-and-answer session. I would now like to turn the floor back to Bernard Acoca for closing comments..

Yes. I just want to thank everyone for joining the call today. We look very much forward to sharing our future results with you and we look forward to talking to you soon. Be well..

This concludes today's teleconference. You may disconnect your lines at this time. And thank you for your participation..