Red Robin Gourmet Burgers (RRGB 4.94%)
Q3 2020 Earnings Call
Nov 05, 2020, 5:00 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good afternoon, everyone, and welcome to the Red Robin Gourmet Burgers, Inc. third-quarter 2020 earnings call. Please note that today's call is being recorded. During today's conference call, management will be making forward-looking statements about the company's business outlook and expectations.
These forward-looking statements and all other statements that are not historical facts reflect management's beliefs and predictions as of today, and therefore, are subject to risks and uncertainties as described in the safe harbor discussion found in the company's SEC filings. During today's conference call, management will also discuss non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles but are intended to illustrate an alternative measure of the company's operating performance that may be useful. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures can be found in the earnings release.
The company has posted its fiscal third-quarter 2020 earnings release and supplemental financial information related to the results on its website at www.redrobin.com in the Investor Relations section. Now, I would like to turn the call over to Red Robin's CEO, Paul Murphy.
Paul Murphy -- Chief Executive Officer
Good afternoon, and welcome to our quarterly conference call. It is my hope that you and your families have been safe and healthy since our last business update. Joining me today is Chief Financial Officer Lynn Schweinfurth, who will review the financial results after I wrap up my prepared remarks. Today, we are extremely encouraged by the continued strengthening in the trajectory of our business.
This is reflected in the progress we achieved during the third quarter in four key areas: sales momentum, margin improvement, liquidity, and our transformation strategy. In terms of sales, we experienced improvement of our comparable revenue, both when compared to the previous quarter and within the third quarter itself. Third-quarter comparable restaurant revenue improved 16.3% from down 41.4% in the second quarter to down 25.1% in the third quarter. As of late, and excluding shifts related to the timing of the Halloween holiday, comparable restaurant revenue has improved to approximately negative 13% to 14% with comparable restaurant revenue at locations with open dining rooms down 10% to 13%.
Notably, we are closing the traffic app with our casual dining peers despite having a restaurant footprint with a large West Coast presence, where regulations have slowed the expansion of seating capacity. The main driver of this progress is the increase in sit down capacity, both outdoors and in our dining rooms. Outdoor seating options now extend beyond our small patios to include tents, all-weather tents and extended seating where available. Partitions are also currently being installed in all of our dining rooms to safely optimize and expand indoor seating, enabling us to achieve approximately 70% capacity as we enter the colder weather.
These capacity enhancements are coupled with digital marketing, which drove traffic in dine-in and off-premise occasions. Benefiting from our focus on consumer segmentation and targeting, we have seen significant increases in loyalty engagement and website traffic. In the fourth quarter, we will increase our national marketing with a TV message highlighting both our dine-in and off-premise experience, while continuing to leverage digital and social media locally. Additionally, we are rolling out further loyalty improvements, including upgrading guest segmentation capabilities we believe will lead to increased visit frequency.
I'm also pleased to report Red Robin recently achieved positive PPA, marking the first time since the onset of the pandemic. PPA growth was aided by the rollout of a new laminated menu to the majority of our restaurants where allowed with enhanced product and menu merchandising, driving a higher sales mix, the introduction of family bundles for off-premise occasions and pricing in the fourth quarter of approximately 1.5%. As our business has recovered, we resumed the implementation of Donatos, a proven growth catalyst for Red Robin. In late Q3, we virtually trained our teams to prepare Donatos products and placed already purchased equipment in 31 locations in the Pacific Northwest, bringing our total to 79 restaurants serving Donatos pizza.
We have experienced an incremental sales lift of 600 to 700 basis points, given our strong off-premise mix and comparable restaurant revenue as compared to the balance of the system. Based on the proven success of Donatos in existing markets, we are planning to add its over 100 additional locations in 2021. Turning to margins. Our top-line momentum has been complemented by prudent cash management, resulting in not only immediate P&L benefits, but is also positioning Red Robin to achieve improved operating margins as sales recover to pre-pandemic levels.
Actions such as a new restaurant management structure, significant menu reductions, renegotiation of leases and the streamlining of corporate overhead have improved the cost structure of both the restaurant and enterprise levels. Based on our current projections, we anticipate our fiscal fourth-quarter free cash flows to be neutral to positive, driven by improving margin performance, together with our strengthening sales momentum. Securing Red Robin's long-term liability by increasing liquidity has been a strategic priority since the pandemic began. As Lynn will discuss later, we recently received a $49.4 million tax refund from the IRS.
We believe the tax refund, coupled with our improving business performance and cost structure addresses any lingering concerns regarding our liquidity outlook. We are confident in our ability to invest in the growth of Red Robin as we emerge from the pandemic. Recall that when we presented our transformation strategy in January, we were filled with optimism on the heels of the measurable progress in Red Robin's turnaround. There were six initiatives inside the strategy pertaining to 2020: a new service model, menu rationalization, the Donatos rollout, investment in technology, off-premise growth, and portfolio optimization.
With the onset of COVID-19, as other brands did, we paused, reprioritized or suspended certain aspects of our plan. Off-premise capability and execution became the No. 1 priority. We pivoted and supported it through enhanced operating procedures, IT upgrades, improved ordering capability.
And importantly, it drove a substantial menu rationalization, reducing our menu by over a third. As dining rooms reopened, we made the decision to accelerate the implementation of our new service model, TGX. We virtually trained and opened each dining room with TGX and are continuing to embed it in our culture and are enjoying the highest overall guest satisfaction scores for dine-in, in Red Robin's history, boding well for a future at 100% capacity. Finally, in the third quarter, our real estate portfolio optimization continued with ongoing conversations with our landlords, which Lynn will speak further to, and the permanent closure of five restaurants that had been temporarily closed.
In what has and continues to be a challenging time, the team at Red Robin has made substantial progress against our initiatives. In many ways, COVID served as a catalyst to prioritize and accelerate some initiatives, but all remain relevant to the business today and for the future. Before I turn the call over to Lynn, I'd like to reiterate how much we accomplished in the third quarter. Sales momentum improved dramatically.
Operating margins continue to grow, liquidity concerns have been put to rest, and our transformation strategy is both relevant and accelerating. All this is possible due to a remarkable team, which exhibits steadfast resolve, continued engagement, unwavering commitment to our brand and collective efforts to provide our guests a great red Robin experience, no matter the obstacle. Now, I'll turn the call over to Lynn, and we'll wrap up before we take questions with some final thoughts. Lynn?
Lynn Schweinfurth -- Chief Financial Officer
Thank you, Paul. Before I review our third-quarter financials, I wanted to begin by reinforcing that in spite of the fact that the resurgence of the pandemic has recently resulted in the temporary closure of dining rooms located in markets where hot spots have been identified, we remain confident in our ability to effectively manage our business in the short and long term. Importantly, we have experienced many positive trends, as you can see from our press release issued this afternoon. First, average weekly sales per restaurant has improved each of the last four fiscal periods, and we are closing this traffic gap versus our competition due to several factors that Paul outlined: outdoor seating expansion, restoring restaurant operating hours, our growing dine-in business, including the gradual opening of dining rooms in California, continued strong off-premise sales, operational execution and marketing efforts.
In the most recent fiscal period ending November 1, these factors more than offset the negative dollar impact of recently reduced dining room capacity due to the resurgence of the pandemic and the impact of Halloween, which occurred on Saturday this year. Overall, as our dine-in business continues to grow, we are flowing more dollars to the bottom line. Our comp PPA growth has been positive since the beginning of the fourth fiscal quarter, generating higher sales due to enterprise level pricing of approximately 1.5%, new laminated menus that are positively impacting sales mix and profitability, and increased on-premise dining capacity. We will complete the rollout of booth divider panels by Thanksgiving, which will maximize indoor seating capacity in all locations.
At our restaurants that have added booth divider panels, we are seeing a meaningful sales lift on the weekend during peak dinner hours. We are also strategically adding all-weather tents to certain locations that will further expand outdoor seating through the winter months. We recently rolled out Donatos, our very profitable growth catalyst in 31 restaurants in the Pacific Northwest. We are prudently resuming our strategic growth platforms as our business recovery continued.
Our liquidity position is strong, and we currently expect to enter 2021 generating positive cash flow, including the restoration of salaries, lease payments and franchise revenues. More specifically, excluding the recent inflow of material tax refunds, we expect to be cash flow neutral to positive in the fourth quarter, which includes the impact of certain deferred and other nonrecurring payments. We ended the quarter with liquidity of approximately $97 million, including approximately $27 million of cash and cash equivalents and available borrowing capacity under our revolving line of credit. Our liquidity position does not include $49.4 million in cash tax refunds, inclusive of interest payments received after the third-quarter balance sheet date as a result of the Cares Act net operating loss carryback provision.
We believe our liquidity is more than sufficient given the receipt of our cash tax refunds, continued seating capacity expansion, improved flow through due to reduced restaurant level and corporate costs, and continued cash management efforts. As we confirmed last quarter, we are taking advantage of the tax benefits and deferrals as allowed by the Cares Act. More specifically, we are expecting to defer between $12 million and $18 million in payroll taxes to be paid back in late 2021 and 2022, and we currently expect to generate additional cash tax refunds between $12 million and $15 million in 2021 from net operating loss carryback. During the third quarter, we continued to diligently engage with our landlords to restructure our leases.
As of the end of the third quarter, we had completed negotiations on approximately 50% of our leases. We appreciate the long-term strategic partnerships we have with our landlords as we continue to engage in ongoing discussions related to our remaining leases. In response to the COVID-19 pandemic, the company undertook several other measures to preserve liquidity and reduce costs, including meaningful permanent reductions. We currently expect these permanent cost structure reductions will deliver a full percentage point of enterprise margin improvement compared to 2019 when sales normalize, including a higher off-premise sales mix.
Additionally, we are turning our attention to the future and continuing to pursue the key strategic initiatives that we introduced in early 2020, as Paul mentioned. Prioritizing these strategic initiatives while maintaining our diligence on cost management and liquidity will position Red Robin for recovery and long-term growth. We intend to continue to effectively manage our bottom line and dedicate a significant portion of our free cash flow over the next several quarters to delevering our balance sheet while maintaining flexibility to pursue strategic growth initiatives. Now, in terms of the fiscal third quarter.
Q3 2020 comparable restaurant revenues decreased 25.1%, driven by 24.6% decline in guest traffic and a 0.5% decrease in average check. Mix decreased by 3.6%, driven by lower sales of beverages and finest burgers due to higher off-premise sales and consistent with off-premise sales mix we saw pre COVID-19, partially offset by an increase in overall pricing of 2.2% and an additional 0.9% increase from our decision to lower discounting. Q3 total company revenues decreased 31.9% to $200.5 million, down $93.7 million from a year ago, driven by operating our restaurants at a reduced capacity in response to the COVID-19 pandemic and closed restaurants. Dine-in sales were down 49.7%, partially offset by off-premise sales growth.
Our continued focus on our off-premise sales and service model drove meaningful growth in the channel, which rose 127.2% in Q3, representing 40.7% of total food and beverage sales for the quarter. This compares to off-premise sales representing approximately 14% prior to the pandemic. We generated restaurant-level operating profit in the third quarter. As a percentage of restaurant revenue, restaurant-level operating profit was 8.6% and improved through the quarter, coming in better than our internal projections with higher sales and continued focus on managing costs.
Cost of goods sold decreased as a percentage of revenue, driven primarily by lower promotional discounts and net favorable commodity prices. Labor costs increased as a percentage of restaurant revenue, driven primarily by the impact of sales deleverage and increased hourly wage and benefit rates driven by shifting labor mix in support of our off-premise operating model, offset by lower restaurant management incentive costs. Occupancy costs increased as a percentage of restaurant revenues, driven by the impact of sales deleverage. Other operating costs included higher third-party delivery fees and supply costs from increased sales in this channel and sales deleverage impact on restaurant utility costs, partially offset by reduced janitorial and maintenance spend.
We expect our restaurant-level operating profit margin as a percentage of restaurant revenue to continue to improve from 8.6% in the third quarter to low double digits in the fourth quarter. General and administrative costs were $15.2 million, a decrease versus the prior year of $4 million, primarily driven by lower team member salaries and wages, benefits and lower travel and related expenses due to cost reduction initiatives post COVID-19. Selling expenses were $6.1 million, a decrease versus the prior year of $11.5 million, primarily driven by pivoting from local and national media to digital marketing, which has proven to be an effective and efficient medium for interacting with our guests during the COVID-19 pandemic, while taking advantage of our access to over 9 million members of our royalty program, as well as reduced expenses associated with our gift card program. We recognized a tax benefit of $20.7 million in the third quarter and the change in the effective tax benefit is due primarily to a decrease in income and the net release of $12.7 million in a previously recognized valuation allowance.
During the quarter, we recognized other charges of $4.4 million, primarily triggered by the COVID-19 pandemic. These charges included $4 million related to restaurant closures and $0.4 million for COVID-19 related costs, including purchasing personal protective equipment for our restaurant team members and guests and providing emergency sick pay to our restaurant team members. Q3 adjusted EBITDA was a loss of $0.7 million as compared to adjusted EBITDA of $14.7 million in Q3 2019. Q3 adjusted loss per diluted share was $0.19 as compared to adjusted loss per diluted share of $0.24 in Q3 2019.
Now, turning to the balance sheet. At quarter end, our outstanding debt balance was $216.1 million and letters of credit outstanding were $7.9 million. Our cash burn rate was slightly below our previously disclosed range at less than $1 million per week during the third quarter, with partial occupancy payments of approximately 80%. Our weighted average interest rate was 5%.
Before I conclude, I'd like to take a moment to thank our entire Red Robin team for their dedication, hard work, and results in a dramatically difficult environment that embraces our Red Robin values. It is truly a privilege to work with such an extraordinary group of people who are passionate to serve our guests and one another. The future is bright, and we are committed to delivering value for all of our stakeholders, team members, franchise partners, landlords, suppliers, and shareholders. With that, I will turn the call over to Paul.
Paul Murphy -- Chief Executive Officer
Thank you, Lynn. Let me conclude with a few key takeaways before we open the line for questions. The third quarter was a pivotal quarter for Red Robin, one we view as an inflection point for the business. Any liquidity concerns are behind us, driven by our improving business performance, coupled with the $49.4 million tax refund recently received.
We resumed the expansion of Donatos, a proven growth catalyst, both top and bottom line, which we will bring to bear on the business over the next two to three years. Comparable sales grew from negative 41.4% in the second quarter to negative 13% to 14% exiting the third quarter with PPA turning positive, closing the gap on our competitive set. We have structurally improved our restaurant level and enterprise level margins and expect a full percentage point of improvement when sales normalize to pre-COVID levels. Our improving margin performance, together with strengthening sales gives us the confidence to reiterate our projection of generating neutral to positive free cash flow in the fourth quarter.
And as we contemplate controlled capital spend, our focus will be on profitable revenue generation and key guest-facing technology improvements. And finally, all of our great work and optimism for the future would not be possible without the incredible efforts and accomplishments of our Red Robin team members. We cannot thank them enough for what they do on behalf of our company and the communities we serve. Let us now open the call for questions.
Questions & Answers:
Operator
Thank you. [Operator instructions] And we have a question from the line of Daniel Docherty with Raymond James. Please go ahead. Your line is open.
Dan Docherty -- Raymond James -- Analyst
Hi, guys. This is Dan Docherty on for Brian Vaccaro. Question on store margins. Lynn, since sales improved pretty meaningfully through the period, would you be willing to give us a sense where store margins were exiting 3Q or perhaps quarter to date with average weekly sales in the low 40,000 range?
Lynn Schweinfurth -- Chief Financial Officer
Well, I think what I had mentioned in my opening comments was that margins did improve throughout the quarter and that for the fourth quarter, we are expecting low double-digit restaurant level margins as a percentage of restaurant sales.
Dan Docherty -- Raymond James -- Analyst
OK. Great. And then circling back on the expanded outdoor dining initiatives, could you help frame what percentage of sales you're generating outdoor at this time?
Paul Murphy -- Chief Executive Officer
This is Paul. Right now from the outdoor seating, which is basically tents and the tables and umbrellas that we're putting out there. We think that it's increasing capacity by about 10% to 15% and driving comps in the 4% range.
Dan Docherty -- Raymond James -- Analyst
Great. Thanks so much, guys.
Operator
[Operator instructions] We have a question from Alex Slagle with Jefferies. Please go ahead. Your line is open.
Alex Slagle -- Jefferies -- Analyst
OK. Thanks. Hey, Paul, Lynn. On the 100 basis points of higher enterprise margin that you're sort of talking about as the outlook versus '19 as the sales recover.
I guess, what mix of dine-in versus off-premise, does that consider, I guess, it does consider a higher bit of off premise? And then what should we think about in terms of which line items are most impacted, whether it's cost of goods or labor or G&A?
Lynn Schweinfurth -- Chief Financial Officer
Yeah. So in a normalized sales environment, probably beyond 2021, we are currently modeling 25% off-premise. And in terms of particular P&L line items, we do believe administration on the labor line will be better based on our new management structure. We do anticipate higher wages, and that's a combination of certainly wage inflation and the mix in terms of non-tip credit hours being applied with higher off-premise volumes.
We are anticipating better occupancy costs and better G&A.
Alex Slagle -- Jefferies -- Analyst
OK. And then on the California source, I wonder if you could quantify the magnitude of California dining room restrictions on your comp and EBITDA. I know these are high-volume restaurants and a big contributor to your revenue. But obviously, at some point, they're going to open up, hopefully, sooner than later, but curious if you have any metrics on that?
Lynn Schweinfurth -- Chief Financial Officer
We have some. And obviously, every day is a little bit different, but I would say, of a round number, about 5 percentage points of comp is what we've at least quantified in terms of the capacity restrictions, especially when we had more restaurants closed.
Alex Slagle -- Jefferies -- Analyst
Great. Thanks.
Operator
Our next question is from Gregory Francfort with Bank of America. Please go ahead. Your line is open.
Gregory Francfort -- Bank of America Merrill Lynch -- Analyst
Hey. Thanks for the question. I had a couple. The first, I think you talked a little bit about adding all-weather tens to some of the restaurants.
I guess I'm curious, is that going to be most of them? Or can you frame up maybe what the plan is in terms of rolling that out? And then what the -- if you've rolled them out so far, what the customer feedback is between outdoor dining versus the old weather tents and if it's materially different. And any early thoughts would be great.
Paul Murphy -- Chief Executive Officer
Well, this is Paul. And kind of answer it in order. We are almost complete with that. That will be in 150 of our restaurants out there, about 38% of the system.
The all-weather tents, basically, obviously, in the more than northern tier of the country, especially in markets like Seattle. And then we are adding -- it wouldn't be all weather, but we have been adding tents in the kind of the southern belt as the temperatures down there have moderated. We're seeing that people are now dining outdoors a bit more in the southern tier. So far, the feedback actually has been very good with the all-weather tents.
But it's really in conjunction with the partitions that we've been adding to the stores. We'll have them in every one of our locations before Thanksgiving of this year. So it really gives people the opportunity to either dine-in because partitions enable us to push the indoor capacity closer to the 70% range. But the people who do not want to dine-in doors they so far have been very pleased with the tents and having heaters, having lights out there.
We have the same service model. So knocking on wood, it's really performing well right now.
Gregory Francfort -- Bank of America Merrill Lynch -- Analyst
That's helpful perspective. And then I just had two others. The first is on the lease restructuring, I think you said you've done that at 50% of the restaurants. How much does that help, I guess, your expenses on either an annualized basis or a quarterly basis? And is that deferrals or is it permanent changes? And then the other question I had was just on national advertising and your advertising spend is down a lot.
I'm curious what the plan is in terms of how much of that is permanent versus what you might bring back? And that's it. Thank you.
Lynn Schweinfurth -- Chief Financial Officer
OK. Greg, well, I'll start by answering your question around rent. Yes, as of the end of the third quarter, we had negotiated and completed all the legal requirements around amendments for 50% of our leases. Our discussions and negotiations continue.
As I mentioned in my opening comments, I'm just really thankful for the landlords that we're working with and really their longer-term perspective as we enter into these discussions and get to agreements on our leases. That being said, I'm probably not comfortable sharing what we're expecting until we really get to conclusion on more leases. But I think in the upcoming quarter, we'll be able to share more information at that time.
Paul Murphy -- Chief Executive Officer
Yeah. I'll answer the question on the marketing. Certainly, as other brands did, we pivoted once the COVID-19 hit and went far more toward the digital area out there in the social. However, we haven't been doing any national TV or local TV, but in about two weeks, we will do our first TV flight, our first campaign.
And it's really a bit of a test. We are balancing how that media is put out there during the week or presented, much more balanced approach, looking to drive business into the less capacity constrained kind of Monday through Thursday time frames in the restaurants, see how that works and how it could be potentially applicable to our media strategy for 2021. So excited about that. Look forward to it.
As I said, it will be the first time we've been on since Q1 of this year.
Gregory Francfort -- Bank of America Merrill Lynch -- Analyst
Thank you, both.
Operator
[Operator instructions] We do have a follow-up from the line of Daniel Docherty with Raymond James. Please go ahead. Your line is open.
Dan Docherty -- Raymond James -- Analyst
Hi, guys. Thanks for taking the question. Just a follow-up on advertising. Could you talk a little bit about how you're thinking about bringing back advertising as sales recover and how that mix might differ versus pre-COVID as we exit COVID? And then Lynn, any chance you could help us with some guide rails on modeling that line for 4Q so we're on the same page.
Paul Murphy -- Chief Executive Officer
I'll start off with how we're looking at it moving forward. As I just mentioned, I wanted to -- the media that we're about to run that launches the 16th of this month. We're really taking a hard look at how does TV impact the restaurants when there are some capacity constraints in them. We've been very pleased with the digital and social media efforts and the ability of us to access our guests through -- we have over 9 million members of our loyalty program.
So that's, we think, given us a strong ability to message. So out of this test, we'll be able to say, what should the mix be in 2021? And how should that -- frankly, the amount of dollars be spent on that. But we will continue to spend more and more money on the digital social media aspect because we're very happy with how the results of that have been.
Lynn Schweinfurth -- Chief Financial Officer
And then just in terms of our spend for the fourth quarter, we are anticipating spending about $5 million more than what we spent in Q3, so about $11 million.
Dan Docherty -- Raymond James -- Analyst
Got it. Great. Thank you, guys.
Operator
[Operator signoff]
Duration: 37 minutes
Call participants:
Paul Murphy -- Chief Executive Officer
Lynn Schweinfurth -- Chief Financial Officer
Dan Docherty -- Raymond James -- Analyst
Alex Slagle -- Jefferies -- Analyst
Gregory Francfort -- Bank of America Merrill Lynch -- Analyst