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CAKE > SEC Filings for CAKE > Form 10-Q on 4-Nov-2011All Recent SEC Filings

Show all filings for CHEESECAKE FACTORY INC

Form 10-Q for CHEESECAKE FACTORY INC


4-Nov-2011

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

Certain information included in this Form 10-Q and other materials filed or to be filed by us with the SEC, as well as information included in oral or written statements made by us or on our behalf, may contain forward-looking statements about our current and expected performance trends, growth plans, business goals and other matters. These statements may be contained in our filings with the SEC, in our press releases, in other written communications, and in oral statements made by or with the approval of one of our authorized officers. Words or phrases such as "believe," "plan," "will likely result," "expect," "intend," "will continue," "is anticipated," "estimate," "project," "may," "could," "would," "should," and similar expressions are intended to identify forward-looking statements. These statements, and any other statements that are not historical facts, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, as codified in Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Acts").

In connection with the "safe harbor" provisions of the Acts, we have identified and are disclosing important factors, risks and uncertainties that could cause our actual results to differ materially from those projected in forward-looking statements made by us, or on our behalf (see Part II, Item 1A of this report, "Risk Factors," and Part I, Item 1A, "Risk Factors," included in our Annual Report on Form 10-K for the fiscal year ended December 28, 2010). These cautionary statements are to be used as a reference in connection with any forward-looking statements. The factors, risks and uncertainties identified in these cautionary statements are in addition to those contained in any other cautionary statements, written or oral, which may be made or otherwise addressed in connection with a forward-looking statement or contained in any of our subsequent filings with the SEC. Because of these factors, risks and uncertainties, we caution against placing undue reliance on forward-looking statements. Although we believe that the assumptions underlying forward-looking statements are reasonable, any of the assumptions could be incorrect, and there can be no assurance that forward-looking statements will prove to be accurate. Forward-looking statements speak only as of the date on which they are made. Except as may be required by law, we do not undertake any obligation to modify or revise any forward-looking statement to take into account or otherwise reflect subsequent events or circumstances arising after the date that the forward-looking statement was made.


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General

This discussion and analysis should be read in conjunction with our interim unaudited consolidated financial statements and related notes included in this Form 10-Q and the audited consolidated financial statements and related notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 28, 2010. The inclusion of supplementary analytical and related information herein may require us to make appropriate estimates and assumptions to enable us to fairly present, in all material respects, our analysis of trends and expectations with respect to our results of operations and financial position taken as a whole.

As of November 4, 2011, we operated 169 upscale, casual, full-service dining restaurants: 155 under The Cheesecake Factory® mark, 13 under the Grand Lux Cafe® mark and one under the RockSugar Pan Asian Kitchen® mark. We also operated two bakery production facilities and licensed one limited menu bakery cafe under The Cheesecake Factory Bakery Cafe® mark to another foodservice operator.

In January 2011, we announced our initial expansion plans outside of the United States. We entered into an exclusive licensing agreement with a Kuwait-based company to build and operate The Cheesecake Factory restaurants in the Middle East. The agreement provides for the development of 22 restaurants over five years in the United Arab Emirates, Kuwait, Bahrain, Qatar and the Kingdom of Saudi Arabia, with the opportunity to expand the agreement to include other markets in the Middle East and North Africa, Central and Eastern Europe, Russia and Turkey. This licensing agreement includes an initial development fee, site and design fees and ongoing royalties on our licensee's restaurant sales. The transaction also includes an agreement to supply bakery products branded under The Cheesecake Factory trademark to such restaurants. We do not expect this agreement to have a meaningful impact on our financial results in the near-term. We currently expect three licensed restaurants to open in Dubai and Kuwait in fiscal 2012.

The Cheesecake Factory is an upscale, casual dining concept that offers more than 200 menu items including appetizers, pizza, seafood, steaks, chicken, burgers, pasta, specialty items, salads, sandwiches, omelettes and desserts, including approximately 40 varieties of cheesecake and other baked desserts. Grand Lux Cafe and RockSugar Pan Asian Kitchen are also upscale, casual dining concepts offering approximately 200 and 80 menu items, respectively. In contrast to many chain restaurant operations, substantially all of our menu items (except certain desserts manufactured at our bakery production facilities) are prepared on the restaurant premises using high quality, fresh ingredients based on innovative and proprietary recipes. We believe our restaurants are recognized by consumers for offering value with generous food portions at moderate prices. Our restaurants' distinctive, contemporary design and decor create a high-energy ambiance in a casual setting. Our restaurants typically range in size from 7,000 to 15,000 interior square feet, provide full liquor service and are generally open seven days a week for lunch and dinner, as well as Sunday brunch.

Overview

In addition to being highly competitive, the restaurant industry is affected by changes in consumer tastes and discretionary spending; changes in general economic conditions; public safety conditions; demographic trends; weather conditions; the cost and availability of food products, labor and energy; and government regulations. Accordingly, as part of our strategy we must constantly evolve and refine the critical elements of our restaurant concepts to protect our competitiveness and to maintain and enhance the strength of our brands.

Our strategy is driven by our commitment to guest satisfaction and is focused primarily on menu innovation and operational execution to continue to differentiate ourselves from other restaurant concepts, as well as drive competitively strong performance that is sustainable. Financially, we are focused on prudently managing expenses at our restaurants, bakery facilities and corporate support center. We are also committed to allocating capital in a manner that will maximize profitability and returns. Investing in new restaurant development that meets our return on investment criteria is our top capital allocation priority with a focus on opening our restaurant concepts in premier locations within both existing and new markets.

In evaluating and assessing the performance of our business, we believe the following are key performance indicators that should be taken into consideration:

† Comparable Restaurant Sales and Overall Revenue Growth. Changes in comparable restaurant sales come from variations in guest traffic, as well as in check average (as a result of menu price increases and/or changes in menu mix). Our strategy is to grow guest traffic by continuing to offer innovative, high quality menu items that offer guests a wide range of options in terms of flavor, price and value. In addition, we plan to continue focusing on service and hospitality with the goal of delivering an exceptional guest experience.

Our philosophy with regard to menu pricing is to use price increases to help offset key operating costs in a manner that balances protecting both our margins and guest traffic levels. Historically, menu mix generally had a neutral effect on our average check, allowing us to retain the full impact of our menu price increases. However, as a result of the economic downturn, menu mix became slightly negative due to check management by our guests. We expect to return to the previous pattern as the economy strengthens.


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Comparable restaurant sales growth, in addition to revenue from new restaurant openings and increases in third-party bakery sales, drive our overall revenue growth. In the future, we expect revenue from international locations also to contribute to our revenue growth.

† Income from Operations Expressed as a Percentage of Revenues ("Operating Margins"). Operating margins are subject to fluctuations in commodity costs, labor, restaurant-level occupancy expenses, general and administrative expenses ("G&A"), and preopening expenses. Our objective is to gradually increase our operating margins by capturing fixed cost leverage from comparable restaurant sales increases; maximizing our purchasing power as our business grows; and operating our restaurants as productively as possible by retaining the efficiencies we gained through the implementation of cost management initiatives.

By efficiently scaling our restaurant and bakery support infrastructure and improving our internal processes, we strive to grow G&A expenses at a slower rate than revenue growth over the long-term, which should also contribute to operating margin expansion.

† Return on Investment. Return on investment measures our ability to make the best decisions regarding our allocation of capital. Returns are affected by the cost to build restaurants, the level of revenues that each restaurant can deliver and our ability to maximize the profitability of restaurants through operational execution and disciplined cost management. Our objective is to deploy capital in a manner that will maximize our return on investment.

Results of Operations

The following table sets forth, for the periods indicated, our consolidated statements of operations expressed as percentages of revenues. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for any other interim period or for the full fiscal year.

                                      Thirteen             Thirteen           Thirty-Nine          Thirty-Nine
                                    Weeks Ended          Weeks Ended          Weeks Ended          Weeks Ended
                                 September 27, 2011   September 28, 2010   September 27, 2011   September 28, 2010

Revenues                                      100.0 %              100.0 %              100.0 %              100.0 %

Costs and expenses:
Cost of sales                                  25.4                 24.4                 25.3                 24.4
Labor expenses                                 32.3                 32.8                 32.5                 32.9
Other operating costs and
expenses                                       24.7                 24.9                 24.5                 24.5
General and administrative
expenses                                        5.5                  5.7                  5.6                  5.7
Depreciation and amortization
expenses                                        4.1                  4.3                  4.1                  4.4
Preopening costs                                1.0                  0.4                  0.6                  0.3
Total costs and expenses                       93.0                 92.5                 92.6                 92.2
Income from operations                          7.0                  7.5                  7.4                  7.8
Interest expense                               (0.3 )               (0.4 )               (0.2 )               (1.2 )
Interest income                                   -                    -                    -                    -
Other income, net                                 -                 (0.1 )                  -                    -
Income before income taxes                      6.7                  7.0                  7.2                  6.6
Income tax provision                            1.9                  1.8                  2.1                  1.8
Net income                                      4.8 %                5.2 %                5.1 %                4.8 %

Thirteen Weeks Ended September 27, 2011 Compared to Thirteen Weeks Ended September 28, 2010

Revenues

Revenues increased 2.9% to $430.4 million for the thirteen weeks ended September 27, 2011 compared to $418.4 million for the thirteen weeks ended September 28, 2010.


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Restaurant sales increased 2.6% to $413.3 million compared to $403.0 million in the prior year third quarter. Comparable sales at The Cheesecake Factory and Grand Lux Cafe restaurants increased by 0.8%, or $3.2 million, from the third quarter of fiscal 2010. Hurricane Irene negatively impacted comparable sales by approximately 0.4%. The Cheesecake Factory and Grand Lux Cafe restaurants become eligible to enter our comparable sales calculations in their 19th month of operation. At September 27, 2011, there were six The Cheesecake Factory restaurants not included in the comparable sales base.

Comparable sales at The Cheesecake Factory restaurants increased 0.8% from the prior year third quarter, driven by improved average check. We implemented effective menu price increases of approximately 0.7 % and 1.3% during the first and third quarters of fiscal 2011. On a weighted average basis, based on the timing of our menu roll outs within each quarter, The Cheesecake Factory menu included a 1.6% increase in pricing for the thirteen weeks ended September 27, 2011. This increase in menu pricing was partially offset by a menu mix shift due to check management by our guests, particularly related to non-alcoholic beverage purchases.

Comparable sales at our Grand Lux Cafe restaurants increased 0.9% from the prior year third quarter due to an increase in both guest traffic and average check. During the second quarter of fiscal 2011, we implemented an effective menu price increase of approximately 1.4%. Since this was the only price increase we made during the preceding four quarters, the Grand Lux Cafe menu included a 1.4% increase in pricing for the thirteen weeks ended September 27, 2011.

We generally update and reprint the menus in our restaurants twice a year. As part of these menu updates, we evaluate the need for price increases based on those operating cost and expense increases of which we are aware or that we can reasonably expect. While menu price increases can facilitate increased comparable restaurant sales in addition to offsetting margin pressure, we carefully consider all potential price increases in light of the extent to which we believe they will be accepted by our restaurant guests.

Additionally, other factors outside of our control, such as general economic conditions, inclement weather, timing of holidays, and competitive and other factors, including those referenced in Part I, Item lA, "Risk Factors," of our Annual Report on Form 10-K for the year ended December 28, 2010, can impact comparable sales.

Total restaurant operating weeks increased 1.9% to 2,152 for the thirteen weeks ended September 27, 2011 due to the opening of six new restaurants during the trailing 15-month period. Average sales per restaurant operating week increased 0.6% to $192,000 compared to the third quarter of fiscal 2010.

Bakery sales to other foodservice operators, retailers and distributors increased 11.8% to $17.1 million for the thirteen weeks ended September 27, 2011 compared to $15.3 million for the comparable period of last year. This increase resulted from higher sales to distributors and retailers, partially offset by a decline in warehouse club sales.

We strive to develop and maintain long-term, growing relationships with our bakery customers, based largely on our 38-year reputation for producing high quality and creative baked desserts. However, it is difficult to predict the timing of bakery product shipments and contribution margins on a quarterly basis, as the purchasing plans of our large-account customers may fluctuate. Due to the highly competitive nature of the bakery business, we are unable to enter into long-term contracts with our large-account bakery customers, who may discontinue purchasing our products without advance notice at any time for any reason.

Cost of Sales

Cost of sales consists of food, beverage, retail and bakery production supply costs incurred in conjunction with our restaurant and bakery revenues, and excludes depreciation, which is captured separately in depreciation and amortization expenses. As a percentage of revenues, cost of sales increased to 25.4% in the third quarter of fiscal 2011 compared to 24.4% in the comparable period of last year. This increase was due to continuing cost pressures from certain commodities, primarily dairy, produce and some general grocery items.

Our restaurant menus are among the most diversified in the foodservice industry and, accordingly, are not overly dependent on a few select commodities. Changes in costs for one commodity can sometimes be counterbalanced by cost changes in other commodity categories. The principal commodity categories for our restaurants include produce, poultry, meat, fish and seafood, dairy, bread and general grocery items.

We attempt to negotiate short-term and long-term agreements for our principal commodity, supply and equipment requirements, depending on market conditions and expected demand. However, we are currently unable to contract for long periods of time for certain of our commodities such as fish and most dairy items (except for cream cheese used in our bakery operations). Consequently, these commodities can be subject to unforeseen supply and cost fluctuations. Cream cheese is the most significant commodity used in our bakery products. We have contracted for a substantial portion of our fiscal 2011 cream cheese requirements and plan to purchase cream cheese on the spot market as necessary to supplement our contracted amounts.


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As has been our past practice, we will carefully consider opportunities to introduce new menu items and implement selected menu price increases to help offset any expected cost increases for key commodities and other goods and services utilized by our operations.

We have taken steps to qualify multiple suppliers and enter into agreements for some of the key commodities used in our restaurant and bakery operations.
However, there can be no assurance that future supplies and costs for these commodities will not fluctuate due to weather and other market conditions outside of our control. For new restaurants, cost of sales will typically be higher during the first three to four months of operations until our management team becomes more accustomed to optimally predicting, managing and servicing the sales volumes at the new restaurant.

Labor Expenses

As a percentage of revenues, labor expenses, which include restaurant-level labor costs and bakery direct production labor, including associated fringe benefits, decreased to 32.3% in the third quarter of fiscal 2011 compared to 32.8% in the comparable period of last year. This decrease resulted primarily from lower group medical insurance costs. Stock-based compensation included in labor was $1.0 million in the third quarter of fiscal 2011 compared to $1.2 million in the third quarter of fiscal 2010.

Other Operating Costs and Expenses

Other operating costs and expenses consist of restaurant-level occupancy expenses (rent, common area expenses, insurance, licenses, taxes and utilities), other operating expenses (excluding food costs and labor expenses, which are reported separately) and bakery production overhead, selling and distribution expenses. As a percentage of revenues, other operating costs and expenses decreased to 24.7% for the thirteen weeks ended September 27, 2011 from 24.9% for the thirteen weeks ended September 28, 2010. This decline resulted primarily from the timing of marketing expenses.

General and Administrative Expenses

General and administrative ("G&A") expenses consist of the restaurant management recruiting and training program, as well as the restaurant field supervision, bakery administrative, and corporate support organizations. As a percentage of revenues, G&A expenses decreased to 5.5% for the thirteen weeks ended September 27, 2011 versus 5.7% for the comparable period of fiscal 2010 primarily due to a lower accrual for corporate performance bonuses in the third quarter of fiscal 2011 as compared to the comparable prior year period, as well as leverage from increased sales. Stock-based compensation included in G&A was $1.8 million in the third quarter of fiscal 2011 compared to $1.7 million in the third quarter of fiscal 2010.

Depreciation and Amortization Expenses

As a percentage of revenues, depreciation and amortization decreased to 4.1% for the thirteen weeks ended September 27, 2011 compared to 4.3% for the same period of last year. The decrease is primarily attributable to lower capital investments in the past few years, as well as proportionately higher investment during those years in information systems, which have shorter useful lives than most restaurant capital expenditures.

Preopening Costs

Preopening costs were $4.3 million for the thirteen weeks ended September 27, 2011 compared to $1.5 million in the comparable period of the prior year. We opened four restaurants in the third quarter of fiscal 2011 compared to one in the third quarter of fiscal 2010. We did not open any restaurants in the fourth quarter of fiscal 2010 compared to the planned opening of two restaurants in the fourth quarter of fiscal 2011.

Preopening costs include all costs to relocate and compensate restaurant management employees during the preopening period; costs to recruit and train hourly restaurant employees; wages, travel and lodging costs for our opening training team and other support employees; and straight-line minimum base rent during the build-out and in-restaurant training periods. Also included in preopening costs are expenses for maintaining a roster of trained managers for pending openings; the associated temporary housing and other costs necessary to relocate managers in alignment with future restaurant opening and operating needs; and corporate travel and support activities. Preopening costs can fluctuate significantly from period to period, based on the number and timing of restaurant openings and the specific preopening costs incurred for each restaurant.


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Interest Expense, Interest Income and Other (Expense)/Income, Net

Interest expense decreased to $1.2 million for the third quarter of fiscal 2011 compared to $1.7 million for the comparable period last year. This decrease was due primarily to no outstanding borrowings under our Facility during the third quarter of fiscal 2011 as compared to a $55.0 million average debt balance in the same prior year period. Interest expense also included $0.9 million and $0.7 million for the third quarter of fiscal 2011 and fiscal 2010, respectively, associated with landlord construction allowances deemed to be financing in accordance with accounting guidance.

Interest income was less than $0.1 million in both the third quarter of fiscal 2011 and fiscal 2010.

We recorded net other expense of less than $0.1 million for the thirteen weeks ended September 27, 2011 compared to $0.4 million for the comparable prior year period. This variance primarily relates to changes in the value of our investments in variable life insurance contracts used to support our Executive Savings Plan ("ESP"), a non-qualified deferred compensation plan.

Income Tax Provision

Our effective income tax rate was 29.2% for the third quarter of fiscal 2011 compared to 25.0% for the comparable prior year period. This increase was primarily attributable to non-deductible losses in the third quarter of fiscal 2011 as compared to nontaxable gains in the comparable prior period on our investments in variable life insurance contracts used to support our ESP, a lower proportion in the third quarter of fiscal 2011 of FICA tip credit in relation to pretax income than in the third quarter of fiscal 2010 and the resolution in the third quarter of fiscal 2010 of our 162(m) Dispute as to tax year 2005. See Note 4 of Notes to Consolidated Financial Statements in Part1, Item 1 of this report for further discussion on this matter. This increase was partially offset by the Hiring Incentives to Restore Employment (HIRE) Act retention credit for fiscal 2011

Thirty-Nine Weeks Ended September 27, 2011 Compared to Thirty-Nine Weeks Ended September 28, 2010

Revenues

Revenues increased 3.0% to $1,279.9 million for the thirty-nine weeks ended September 27, 2011 compared to $1,242.7 million for the thirty-nine weeks ended September 28, 2010.

Restaurant sales increased 2.9% to $1,236.8 million compared to $1,201.5 million for the same period of the prior year. Comparable sales at The Cheesecake Factory and Grand Lux Cafe increased by 1.5%, or $17.7 million, from the first three quarters of fiscal 2011.

Comparable sales at The Cheesecake Factory restaurants increased 1.7% from the first three quarters of fiscal 2010 driven both by improved guest traffic and average check. On a weighted average basis, based on the timing of our menu roll outs within each quarter, The Cheesecake Factory menu included a 1.4% increase in pricing for the thirty-nine weeks ended September 27, 2011. This increased menu pricing was partially offset by unfavorable menu mix shifts due to check management by our guests.

Comparable sales at our Grand Lux Cafe restaurants decreased 1.0% in the first three quarters of fiscal 2011 as compared to the prior year, primarily driven by a decline in guest traffic partially offset by an increase in average check. On a weighted average basis, based on the timing of our menu roll outs within each quarter, the Grand Lux Cafe menu included a 0.6% increase in pricing for the thirty-nine weeks ended September 27, 2011.

Total restaurant operating weeks increased 1.6% to 6,410 for the thirty-nine weeks ended September 27, 2011. Average sales per restaurant operating week increased 1.3% to $192,950 compared to the same period of fiscal 2010.

Bakery sales increased 4.9% to $43.2 million for the thirty-nine weeks ended September 27, 2011 compared to $41.2 million for the comparable period of last year. This increase resulted from higher sales to distributors and retailers, partially offset by a decline in warehouse club sales.

Cost of Sales

As a percentage of revenues, cost of sales increased to 25.3% for the thirty-nine weeks ended September 27, 2011 compared to 24.4% in the comparable period of last year. This increase was due to cost pressures from certain commodities, primarily dairy, produce and some general grocery items.


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