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RT’s results last night were significant for both the company and, being somewhat of a first glimpse for this earnings season, for the wider casual dining space.  In terms of the company itself, as we can see in the quadrant chart below, margin expansion was sustained despite a significant step up in the difficulty of the year-over-year comparison from 1QFY10 to 2QFY10.  Same-store sales stole the show, though, with company-owned same-store sales growth coming in at +4.2%.  This is the best result on that metric since 4QFY06.

RT: STRONG QUARTER - rt quadrant

The same-store sales result also implies a significant gain in market share for the company.  The gap between RT’s sales and the Knapp-Track casual dining benchmark widened further over the most recently reported quarter on a one-year and two-year basis.   RT’s Gap-to-Knapp increased to +3.1% in 2QFY11 from the prior quarter.  On a two-year average basis, the Gap-to-Knapp increased to +3.4% from 2.6% in the prior quarter.   

In terms of the income statement, there were no significant red flags.  SG&A expense was up 130 basis points year-over-year as a result of testing the company’s new coupon strategy in national magazines and various other digital advertising expenses.  This was offset by a decline in interest expense due to a lower average debt balance and a lower effective interest rate due to a lower spread to LIBOR as a result of improved leverage ratios.  The tax rate was 13.3%, which was significantly down from 47.4% last year, but even a tax rate of 25% would only have made a difference of approximately $0.01.

In terms of outlook, management did not change their FY11 guidance.  From a comparison perspective, 2HFY11 is more difficult for RT than the first half of the year.  In 4QFY11, the company will be facing its first positive year-over-year same-store sales comparison since 4QFY07.  Notwithstanding this, given that two-year average same-store sales accelerated year-over-year by 220 basis points, management’s FY11 guidance of flat to +2% now seems conservative.  During the Q&A session of the Earnings Call, management cited the still-fragile U.S. economy and lack of predictability of business conditions as reasons for the hesitancy to raise guidance on the back of the strong 2QFY11 performance. 

Despite their cautious stance, however, management also implied current guidance may be conservative and stated that it is not a reflection of weakening trends, but rather a decision to not update guidance as opposed to offering fresh guidance.  Specifically, CEO Sandy Beall stated, “We’re in the – needless to say we feel comfortable with the guidance range we’ve given. We hope we can beat it and if that looks bad, it looks bad. But hopefully we can beat it. We don’t want to go out there over promising, the world’s not easy. It’s not easy, yet. It’s not as predictable as it used to be in the old days.”

The company is also lapping 19.5% and 19.7% restaurant level margin from 3Q10 and 4Q10, respectively, versus 15.9% and 13.7% in 1Q10 and 2Q10, respectively.  Management commentary on costs for the remainder of the year didn’t raise any concerns; food costs are expected to remain relatively stable compared to the prior year and restaurant operating margins, overall, are expected to be flat for the year which implies a slowdown in margins in 2HFY11 (given that margins were up 200 bps in 1Q11 and 140 bps in 2Q11).  This margin guidance would imply that RT would fall out of the Nirvana quadrant of our restaurant sigma chart in 2HFY11 after operating in Nirvana for three consecutive quarters.  Again, if same-store sales outperform the guidance range, margins could also come in better than management is forecasting.

Besides the fragile overall macro environment that Founder, President and CEO Sandy Beall alluded to - which is obviously the prevailing factor in RT’s ability to generate strong results for shareholders – RT seems well-poised for the remainder of FY11. 

With regard to December trends, management stated that there was a slowdown in trends from the 4% levels of 2QFY11, but that the performance was “reasonably good” despite the weather which affected everybody, “at least in the Eastern United States”.  Management highlighted Florida and New England as high-performing geographies for RT in the quarter ended November 30th.  RT’s peers are performing well today; along with RT, RRGB, CAKE, EAT, DRI and PFCB are all trading up.  Yesterday saw a divergence in price action with EAT trading up on accelerating volume with DRI, CAKE, RRGB, and PFCB trading down on accelerating volume.

Howard Penney

Managing Director