Fiesta Restaurant Group, Inc.

Good day and welcome to the Fiesta Restaurant Group third quarter 2021 earnings call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Rafael Gross, Managing Director at ICR. Please go ahead.

Thank you, Operator. Fiesta Restaurant Group's third quarter 2021 earnings release was issued after the market closed today. If you have not already accessed it, it can be found on the company's website, www.frgi.com, under the Investor Relations section. Before we begin, I'd like to inform you that during the call today, the company will make various statements that are not based on historical information. These forward-looking statements include, without limitation, statements regarding the company's future financial position and results of operations, business strategy, budget, projected costs and plans, and objectives of management for future operations. Actual outcomes and results may differ materially, less is expressed or forecasted in such forward-looking statements, and a company can give no assurance that such forward-looking statements will prove to be correct. Important factors that could cause actual results to differ materially from those expressed or implied by the forward-looking statements can be found in the company's FCC filings. Please note that during today's conference call, certain non-GAAP financial measures will be discussed, which the company believes can be useful in evaluating its performance. Any discussion of such information should not be considered in isolation. or to substitute for results prepared in accordance with GAAP. And a reconciliation to comparable GAAP measures is available in the company's earnings release. On the call with me today are President and Chief Executive Officer Rich Stockinger, Chief Experience Officer Patty Lopez-Callea, and Chief Financial Officer Dirk Montgomery. And now I'd like to turn the call over to Rich.

Thank you, Ray. I'd first like to thank all of the investors and other participants on the call today for their continued support. And a special thanks on this Veterans Day to our veterans and active military for their service. I'll be covering three topics today. A business update and overview of third quarter results, the status of our 2021 strategic priorities, and thoughts on 2022. Dirk will then wrap up with a financial update before we open the call for questions. Like we said, we also have Patty Lopez-Quea, our Chief Experience Officer, here with us to provide more color on our digital status during the Q&A session. As you know, we announced the sale of Taco Cabana in July and successfully closed the transaction on August 16th. Concurrent with the Taco Cabana divestiture, we used the sale proceeds to fully pay off our outstanding term loan balance plus a prepayment premium totaling $76.9 million. As a result, we are now debt-free with a total cash balance of $55.8 million as of October 3rd. And our leadership team is fully focused on achieving what we believe are significant growth opportunities for the Foyotropical brand. Regarding third quarter results, We were pleased with the Pollo Tropic House third quarter sales performance despite lost hours and other operating challenges from staffing shortages throughout the quarter. Third quarter 2021 comparable restaurant sales were 13.8% versus 2020 and accelerated to a 0.9% over 2019. an improvement from the second quarter 2021 comparable restaurant sales versus 2019, which were below 1.8%. Comparable restaurant sales results were much stronger in markets that had adequate staffing. Those markets realized third quarter 2021 comparable restaurant sales of approximately 16.7% versus 2020, and up 4.3% versus 2019. with very promising sales acceleration in non-core markets, including double-digit positive comps versus 2020 and 2019 in both the Tampa and Southwest Florida markets. Our positive comparable restaurant sales growth versus 2020 and 2019 continued in October. and we are optimistic about accelerating sales momentum as we continue to achieve increased staffing levels. As we all know, staff availability has been an industry-wide challenge. We have approached this issue with a very disciplined and forward-thinking approach and took proactive action in the third quarter that has positively impacted staffing levels and margins. We achieved adequate staffing levels at a total company level by September and continued to show staffing improvement in October. In addition, the combination of pricing action and ongoing labor optimization is resulting in meaningful margin improvement in October compared to the third quarter of 2021. Additional details on key action items are as follows. We first increased wage rates to at least market benchmarks across all units and positions, began offering hiring incentives and increased recruiting resources. In select markets that are more understaffed, we are offering above-market wage rates. In order to remain competitive in these challenging market conditions, we are also enhancing our benefit packages, including offering more accessible, comprehensive, and affordable medical plans and the addition of other attractive benefits, such as including emergency childcare, family leave, company-paid educational programs, and commuter assistance. We are taking a phased approach to price increases, which should enable us to recover margins while maintaining value perceptions. We implemented a 3.7% price increase in late August, and are targeting additional price increases in the fourth quarter of approximately 4% to 6%. In addition, we are accelerating our ongoing labor optimization efforts to improve staffing efficiency, which we expect will increase both staff availability and margins. Let me provide a bit more color on our staffing and margin improvement plans. Regarding staffing, The fact that comp sales were up 16.7% versus 2020 and up 4.3% versus 2019 in markets in which we were adequately staffed is promising. The only major market that is currently below adequate staffing levels is Miami-Dade, where we are implementing additional actions to improve staffing levels, including offering additional pay rate incentives for weekends, increased training and recruiting resources, and enriched sign-on and referral bonuses. Those additional actions are resulting in improvements in staffing issues in that market. Our phased approach to price increases over the third and fourth quarter is trailing the wage rate increases, which resulted in a short-term reduction in margins that we anticipate will be recovered in the first half of 2022. as we implement additional pricing action and continue our enhanced and ongoing labor optimization efforts. As a reminder, our historic pricing action in 2019 and 2020 was slightly over 1% over that two-year period, which is well below our estimates of competitive price increases over that time. Our internal competitive price benchmarking and research conducted by our outside pricing analytics consultants gives us confidence that we can implement our planned price increases while still maintaining attractive value perceptions with our customers. We intensified our ongoing efforts to optimize labor scheduling in October, which will include refinements such as scheduling in shorter time increments, compressing prep and open close hours, and improving the accuracy of our sales forecast that drive scheduling. We have already seen positive results from those refinements, with restaurant wages as a percentage of sales decreasing approximately 200 basis points on a runway basis by the end of October compared to the third quarter of 21. After adjusting for short-term incentives such as sign-on bonuses, that are being phased out as staffing improves. Based on planned pricing action and labor scheduling optimization efforts underway, we fully expect margins will improve over the remainder of 2021 and into 2022. We are targeting restaurant-level adjusted EBITDA margins, a non-GAAP financial measure, returning to the 18 to 20 percent range in the first half of 2022, barring any unforeseen changes in our core structure or operating environment. Now for an update on the third quarter profitability. Restaurant-level adjusted EBITDA margins, a non-cap financial measure, declined the third quarter compared to 2020, primarily due to the wage rate increases and hiring incentives offered ahead of the pricing action. Restaurant-level adjusted EBITDA, a non-GAAP financial measure for Pollo Tropicale as a percentage of restaurant sales decreased with third quarter restaurant-level adjusted EBITDA as a percentage of restaurant sales of 14.8% in 2021 compared to 21.2% in 2020 and 20.1% in 2019. Continuing operations adjusted EBITDA, a non-GAAP financial measure, decreased to $3.7 million compared to $8.2 million in 2020. The decrease was primarily due to higher labor costs, advertising expenses, G&A expenses, repair and maintenance costs partially offset by the impact of the higher restaurant sales and improved cost of sales margins. Approximately $0.9 million of the third quarter 2021 labor cost increase compared to 2020 includes overtime and staffing-related incentives that are short-term in nature. Dirk will provide additional details regarding the third quarter results as part of his prepared comments. Next, an update on our strategic priorities. As I mentioned on prior calls, our strategic priorities are as follows. One, concentrate on accelerating growth in nine non-dine-in channels and improving the guest experience across all channels to better enable our customers to enjoy our brand wherever and whenever they choose. Enhance our digital platform and make improvements in customization, ease of use, and speed of service for off-premise, including an enhanced digital drive-through experience, curbside pickup enabled by geofencing technology, and the introduction of QR kiosk in hand technology for ordering and payment. Three, continue to test and refine the Pollo Tropical brand proposition and unit design and investment in preparation for future remodels, as well as expansion in existing and new markets. Regarding non-dining channel growth, we continue to drive year-over-year growth and delivery with comparable restaurant sales growth of 33% in the third quarter of 2021 versus the third quarter of 2020. In addition, third quarter 2021 online comparable same-store sales grew 42% compared to 2020. Our App Store rating for the app is currently 4.9 for iOS, and 4.8 for Android out of five stars, much improved from our prior app ratings before the enhancements. In addition, the average app user check for the third quarter of 2021 was approximately 18% higher than the non-app user check average. Over the third quarter, we continue to make investments to enhance our digital platform and improve the customer experience. We completed a number of mobile app enhancements and made good progress on the design of our digital drive-through platform, which we will be piloting in the fourth quarter. With staffing levels more stable, in the fourth quarter we are starting curbside initially in 77 select fully staffed locations with our new geofencing technology and launching contactless QR code usage to provide customers another alternative to drive-through in pilot locations. We are very excited that we will be able to offer our guests such state-of-the-art digital platforms. Finally, regarding our third strategic priority, we continue to work on improving the customer experience through better speed of service, order accuracy, and labor efficiency. Against that mission, we are redesigning our kitchens with assistance from TPA, an industrial engineering firm. We'll be testing the redesign in a mock restaurant during the fourth quarter. Our remodel model program is also advancing with an additional six to eight units at varying scope levels completed by year-end, aimed at testing key restaurant design and operation platform enhancements. Looking forward, Toward 2022, we are in the process of finalizing our commodity and food cost negotiations for next year. We have not yet completed the negotiations in all major categories, but we expect that we will see higher food costs in 2022 compared to 2021. We intend to offset any food cost increases with additional pricing action. Regarding future uses of cash and investments for growth, we will be taking a disciplined approach to using our cash for investments. As we have in the past, we will prioritize spending on strategic growth initiatives that will continually enhance our brand image and drive operational effectiveness and efficiency. But before we finalize capital plans for 2022, we will evaluate the results of our digital platform tests and remodels being completed in Q4 of 2021. We also intend to continue the approved share repurchasing program as a good use of cash that we believe improves returns for our shareholders. As we mentioned last quarter, we are working toward reducing G&A to appropriate levels now that we have divested Taco Cabana. Third quarter 2021 continuing operations G&A was $11.2 million, or 12.6 percent of revenue, and includes $2.6 million of overhead costs excluding stock-based compensation that were previously allocated to Taco Cabana. Our goal is to reduce G&A as a percentage of sales that is comparable to our peer group, which we believe is 8.5 percent to 9 percent of Pollo Tropical sales. We made progress during the third quarter qualifying areas of potential savings and will be finalizing implementation plans over the remainder of the year. We are targeting 2022 to achieve the targeted GNA level on a run rate basis. In summary, we are optimistic about continuing our positive sales momentum as we improve staffing levels and as we accelerate progress from our digital initiatives. As we implement additional pricing action in the fourth quarter and continue our refined labor optimization efforts, we expect margins to continue the improvement that we've seen in October. We expect that our continued efforts to drive an upgraded customer experience across all service channels and ongoing investment in expanding our digital platform will accelerate top-line growth going forward. Now, Dirk will provide the financial update and closing comments.