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CAKE > SEC Filings for CAKE > Form 10-Q on 8-Nov-2013All Recent SEC Filings

Show all filings for CHEESECAKE FACTORY INC

Form 10-Q for CHEESECAKE FACTORY INC


8-Nov-2013

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 contained 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 January 1, 2013). 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.

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 in Part I, Item 1, and with the following items included in our Annual Report on Form 10-K for the fiscal year ended January 1, 2013: the audited consolidated financial statements and related notes in Part IV, Item 15; the "Risk Factors" included in Part I, Item 1A; and the cautionary statements included throughout the report. The inclusion of supplementary analytical and related information herein may require us to make 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 8, 2013, we operated 178 upscale, casual, full-service dining restaurants: 166 under The Cheesecake Factory® mark; 11 under the Grand Lux Cafe® mark; and one under the RockSugar Pan Asian Kitchen® mark. We also operated two bakery production facilities.

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 50 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 those desserts manufactured at our bakery production facilities, are prepared from scratch daily at our restaurants with 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 17,000 interior square feet, provide full liquor service and are generally open seven days a week for lunch and dinner, as well as Sunday brunch.

In 2011, we announced our initial expansion plans outside of the United States. We entered into an exclusive licensing agreement enabling our licensee to build and operate The Cheesecake Factory restaurants in the Middle East. In the second quarter of fiscal 2013, we expanded this arrangement to include the country of Lebanon. This licensee opened its first three locations in fiscal 2012. In February 2013, we entered into another exclusive licensing agreement enabling our second licensee to build and operate The Cheesecake Factory restaurants in Latin America. These licensing agreements include payments to us for initial development fees, site and design fees and ongoing royalties on our licensees' restaurant sales. In addition, our licensees purchase bakery products branded under The Cheesecake Factory trademark from our bakeries.


Table of Contents

We opened our first Company-owned restaurant outside of the United States in Puerto Rico on August 28, 2013. We continue to review additional opportunities to expand internationally.

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. 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, high service levels 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 new and existing markets in the United States and new markets internationally.

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

† Comparable Restaurant Sales and Overall Revenue Growth. Our overall revenue growth is primarily driven by increases in comparable restaurant sales, revenue from new restaurant openings, and royalties and bakery sales related to additional licensed international locations.

Changes in comparable restaurant sales come from variations in guest traffic, as well as in check average. 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 focus on service and hospitality with the goal of delivering an exceptional guest experience. Check average is impacted by menu price increases and changes in menu mix. 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. In fiscal 2012, our menu mix was influenced by check management by our guests and a shifting of menu preferences as we evolve our menu and our guests try new items. Over the last three quarters, as the economy has strengthened, menu mix has stabilized, allowing us to capture more of the menu price increases we implement.

† 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 to return to peak levels by capturing fixed cost leverage from increases in comparable restaurant sales, growth in international royalties, maximizing our purchasing power as our business grows and operating our restaurants as productively as possible.

By efficiently scaling our restaurant and bakery support infrastructure and improving our internal processes, we work toward growing G&A expenses at a slower rate than revenue growth over the long-term, which also should contribute to operating margin expansion. However, G&A as a percentage of revenues may vary from quarter to quarter and may increase on a year-over-year comparative basis in the near term as we ramp up our infrastructure to support our growth.

† 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.


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Results of Operations

The following table sets forth, for the periods indicated, information from our consolidated statements of comprehensive income 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
                                   October 1, 2013     October 2, 2012     October 1, 2013     October 2, 2012

Revenues                                     100.0 %             100.0 %             100.0 %             100.0 %

Costs and expenses:
Cost of sales                                 24.0                24.6                24.3                24.6
Labor expenses                                32.1                32.1                32.3                32.3
Other operating costs and
expenses                                      24.3                25.1                24.1                24.4
General and administrative
expenses                                       6.1                 4.9                 6.1                 5.8
Depreciation and amortization
expenses                                       4.2                 4.1                 4.1                 4.1
Impairment of assets and lease
terminations                                   0.2                   -                 0.2                   -
Preopening costs                               0.9                 0.5                 0.6                 0.6
Total costs and expenses                      91.8                91.3                91.7                91.8
Income from operations                         8.2                 8.7                 8.3                 8.2
Interest and other expense,
net                                           (0.1 )              (0.4 )              (0.2 )              (0.3 )
Income before income taxes                     8.1                 8.3                 8.1                 7.9
Income tax provision                           2.2                 2.3                 2.3                 2.2
Net income                                     5.9 %               6.0 %               5.8 %               5.7 %

Thirteen Weeks Ended October 1, 2013 Compared to Thirteen Weeks Ended October 2, 2012

Revenues

Revenues increased 3.5% to $469.7 million for the thirteen weeks ended October 1, 2013 compared to $453.8 million for the thirteen weeks ended October 2, 2012.

Comparable sales at The Cheesecake Factory and Grand Lux Cafe restaurants increased by 0.8%, or $3.4 million, from the third quarter of fiscal 2012, driven by average check growth of 1.7% (based on an increase of 1.8% in pricing and (0.1%) change in mix), partially offset by a decrease in guest traffic of 0.9%.

Comparable sales at The Cheesecake Factory restaurants increased by 1.0% from the prior year third quarter driven by average check growth, partially offset by a decrease in guest traffic. We implemented effective menu price increases of approximately 1.0% during both the first and third quarter of fiscal 2013. On a weighted average basis, based on the timing of our menu roll outs within each quarter, The Cheesecake Factory menu included a 1.8% increase in pricing for the thirteen weeks ended October 1, 2013.

Comparable sales at our Grand Lux Cafe restaurants decreased by 2.6% from the prior year third quarter driven by a decrease in guest traffic, partially offset by average check growth. With fewer restaurants in operation than The Cheesecake Factory and a number of locations that are proportionately larger in size, Grand Lux Cafe can experience greater variability in its comparable sales from quarter to quarter. We implemented effective menu price increases of approximately 0.7% and 0.8% during the second quarter of fiscal 2013 and fourth quarter of fiscal 2012, respectively. On a weighted average basis, based on the timing of our menu roll outs within each quarter, the Grand Lux Cafe menu included a 1.5% increase in pricing for the thirteen weeks ended October 1, 2013. We plan to continue targeting price increases of 1% to 2% annually.

Restaurants become eligible to enter our comparable sales base in their 19th month of operation. At October 1, 2013, there were nine The Cheesecake Factory restaurants and one Grand Lux Cafe not yet in our comparable sales base. International licensed locations and restaurants that are no longer in operation are excluded from our comparable sales calculations. Other factors outside of our control, such as general economic conditions, political strife, changing regulatory environment, inclement weather, timing of holidays, competition 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 January 1, 2013, can impact comparable sales.

We generally update and reprint our menus twice a year. As part of these menu updates, we evaluate the need for price increases based on those operating cost increases of which we are aware or that we can reasonably expect.


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While menu price increases can contribute to higher 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 impact guest traffic.

Total restaurant operating weeks increased 1.7% to 2,287 for the thirteen weeks ended October 1, 2013 compared to the prior year period. Average sales per restaurant operating week increased approximately 2.5% to $199,570 in the third quarter of fiscal 2013 compared to the third quarter of fiscal 2012.

Our external bakery sales were $12.2 million for the thirteen weeks ended October 1, 2013 compared to $15.9 million for the comparable period of last year, primarily due to lower sales to warehouse club customers. It is difficult to predict the timing of bakery product shipments on a quarterly basis, as the purchasing plans of our large-account customers, who constitute a majority of our bakery sales, may fluctuate.

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 was 24.0% for the third quarter of fiscal 2013 compared to 24.6% for the comparable period of fiscal 2012. This variance was driven primarily by lower grocery costs. We also experienced favorable dairy costs and a benefit from a higher mix of restaurant sales as compared to bakery sales.

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 sometimes can be offset 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 extended periods of time for certain of our commodities such as some fish and many dairy items. Consequently, these commodities can be subject to unforeseen supply and cost fluctuations.

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. 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 predicting, managing and servicing the sales volumes at the new restaurants.

Labor Expenses

As a percentage of revenues, labor expenses, which include restaurant-level labor costs and bakery direct production labor, including associated fringe benefits, were 32.1% in both the third quarter of fiscal 2013 and the third quarter of fiscal 2012.

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 24.3% for the thirteen weeks ended October 1, 2013 from 25.1% for the thirteen weeks ended October 2, 2012. This decrease was primarily due to the timing of marketing costs, restaurant management bonuses and repairs, leverage on rent expense and higher bakery overhead absorption due to increased production versus the third quarter of fiscal 2012.


Table of Contents

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, corporate support and bakery administrative organizations. As a percentage of revenues, G&A expenses increased to 6.1% for the thirteen weeks ended October 1, 2013 versus 4.9% for the comparable period of fiscal 2012 due to recoupment of legal expenses resulting from an insurance settlement in the third quarter of fiscal 2012, timing shifts with respect to relocation costs and our general managers' conference and an increase in stock-based compensation expense.

Depreciation and Amortization Expenses

As a percentage of revenues, depreciation and amortization expenses were 4.2% for the thirteen weeks ended October 1, 2013 compared to 4.1% in the comparable period of last year.

Impairment of Assets and Lease Terminations

In the third quarter of fiscal 2013, we incurred $1.1 million of impairment and accelerated depreciation expense related to the planned relocation of three The Cheesecake Factory restaurants. During the fourth quarter of fiscal 2013, we expect to incur an additional $0.9 million of expense related to the relocation of these restaurants and also to record $4.9 million in income from a landlord in connection with the early termination of one of these leases and for waiving our right to exercise renewal options.

Preopening Costs

Preopening costs were $4.2 million for the thirteen weeks ended October 1, 2013 compared to $2.4 million in the comparable period of the prior year. We opened two The Cheesecake Factory restaurants in the third quarter of fiscal 2013 compared to one The Cheesecake Factory restaurant and one Grand Lux Cafe in the comparable prior year period. Although we opened two restaurants in the third quarter of both fiscal 2013 and 2012, one of the prior year locations opened at the beginning of the quarter and most of the preopening costs were incurred in the second quarter of fiscal 2012. In addition, due to the timing and number of restaurants we plan to open during the fourth quarter of 2013, we incurred higher costs in the third quarter of fiscal 2013 related to fourth quarter openings than in the prior year.

Preopening costs include all costs to relocate and compensate restaurant management employees during the preopening period; costs to recruit and train hourly restaurant employees; and wages, travel and lodging costs for our opening training team and other support staff members. 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.

Interest and Other Expense, Net

Interest and other expense, net decreased to $0.7 million of expense for the third quarter of fiscal 2013 compared to $1.7 million of expense for the comparable period last year. This decrease was primarily due to lower expense on asset disposals and a benefit related to the exercise of an option to vest our ownership in land adjacent to our North Carolina bakery facility. Interest expense included $0.8 million in the third quarter of fiscal 2013 compared to $0.9 million in the third quarter of fiscal 2012 associated with landlord construction allowances deemed to be financing in accordance with accounting guidance.

Income Tax Provision

Our effective income tax rate was 27.5% for the third quarter of fiscal 2013 compared to 27.8% for the comparable prior year period. This decrease was attributable to higher Work Opportunity Tax Credits due to the reinstatement of the program in 2013 and decreased state taxes in relation to pre-tax income, partially offset by a lower proportion of FICA tip credits in relation to pre-tax income.

Thirty-nine Weeks Ended October 1, 2013 Compared to Thirty-nine Weeks Ended October 2, 2012

Revenues

Revenues increased 4.4% to $1,402.8 million for the thirty-nine weeks ended October 1, 2013 compared to $1,344.3 million for the thirty-nine weeks ended October 2, 2012.

Comparable sales at The Cheesecake Factory and Grand Lux Cafe restaurants increased by 1.0%, or $12.6 million, from the first three quarters of fiscal 2012, driven by average check growth of 1.8% (based on 1.8% pricing and flat
mix), partially offset by a decrease in guest traffic of 0.8%.

Comparable sales at The Cheesecake Factory restaurants increased by 1.2% from the prior year driven by average check growth, partially offset by a decrease in guest traffic. On a weighted average basis, based on the timing of our menu roll outs within each quarter, The Cheesecake Factory menu included a 1.8% increase in pricing for the thirty-nine weeks ended October 1, 2013. In the first quarter of fiscal 2013, our The Cheesecake Factory location in Hawaii was closed for approximately four weeks for repairs due to fire damage. This restaurant was excluded from our comparable sales calculations for the time period it was closed.


Table of Contents

Comparable sales at our Grand Lux Cafe restaurants decreased by 1.1% from the first three quarters of the prior year driven by a decrease in guest traffic, partially offset by average check growth. On a weighted average basis, based on the timing of our menu roll outs within each quarter, Grand Lux Cafe menu included a 1.7% increase in pricing for the thirty-nine weeks ended October 1, 2013.

Total restaurant operating weeks increased 2.4% to 6,845 for the thirty-nine weeks ended October 1, 2013. Average sales per restaurant operating week increased approximately 1.8% to $198,850 in the first three quarters of fiscal 2013 compared to the first three quarters of fiscal 2012.

Our external bakery sales were $38.2 million for the thirty-nine weeks ended October 1, 2013 compared to $38.5 million for the comparable period of last year.

Cost of Sales

As a percentage of revenues, cost of sales were 24.3% for the thirty-nine weeks ended October 1, 2013 compared to 24.6% for the comparable period of fiscal 2012 primarily due to lower grocery costs.

Labor Expenses

As a percentage of revenues, labor expenses were 32.3% for both for the thirty-nine weeks ended October 1, 2013 and the comparable period of the prior year.

Other Operating Costs and Expenses

As a percentage of revenues, other operating costs and expenses for the thirty-nine weeks ended October 1, 2013 decreased to 24.1% from 24.4% in the comparable prior year period. This decrease was primarily due to the timing of repairs, leverage on rent expense and higher bakery overhead absorption due to increased production versus the first three quarters of fiscal 2013.

General and Administrative Expenses

As a percentage of revenues, G&A expenses increased to 6.1% for the thirty-nine weeks ended October 1, 2013 versus 5.8% for the comparable period of fiscal 2012 due primarily to recoupment of legal expenses via an insurance settlement in the third quarter of fiscal 2012 and higher stock-based compensation expense.

Depreciation and Amortization Expenses

As a percentage of revenues, depreciation and amortization expenses were 4.1% for both the thirty-nine weeks ended October 1, 2013 and the comparable period of last year.

Impairment of Assets and Lease Terminations

In fiscal 2012, we made the business decision to discontinue operations of three Grand Lux Cafe restaurants, each of which was previously fully impaired, because . . .

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