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I went through my initial take on JACK’s fiscal 1Q11 earnings yesterday (JACK – FIRST LOOK, posted yesterday).

As we knew going into the conference call, increasing commodity costs are putting significant pressure on the company’s margin relative to its prior guidance.  Fiscal 2011 commodity costs are now expected to be up 3-4% from its prior outlook of up 1-2%. Although management broke out its expected commodity cost increases by food item, they did not say how much of the company’s total costs are currently locked in for the remainder of the year.  To that end, there is still risk to the company’s current forecast.

Management would not comment on whether they are planning on taking price to help offset some of the inflationary pressures but said their approach to pricing would be cautious and if necessary, any price increases would be modest and targeted.  Given recent comp trends at Jack in the Box, the company is right to be cautious.  Although same-store sales turned positive during the quarter and improved 20 bps on a two-year average, Jack in the Box has underperformed its competitors and one quarter of positive trends does not give me confidence that the concept has real purchasing power in this environment.  Management is either being cautious on its full-year outlook or it is not yet convinced that trends have turned the corner at Jack in the Box because the low end of its full-year comp guidance assumes a slowdown in two-year average trends from first quarter levels. 

We know 2Q11 will be difficult from a top-line standpoint as the company guided to a flat to down 2% comp at Jack in the Box, which at the low end of the range implies a 50 bp decline in two-year average trends from the first quarter.  The company cited that unfavorable weather in many of its markets, particularly Texas where it has 27% of its Jack in the Box company restaurants, impacted results in the first four weeks of the second quarter.  I would expect comp trends to improve slightly on a two-year average basis in the back half of the year; though I am currently modeling a flat comp for the full-year (at the mid-point of management’s guidance).  Comparisons get much more difficult for Jack in the Box in the fourth quarter, however, so same-store sales growth could very likely turn negative again on a one-year basis.

So, 2Q11 is going to be bad from a top-line (severe weather impact), commodity cost (guided to a 5% increase, including a 20-25% increase in produce costs, versus their up 3-4% full-year outlook) and margin perspective.  I am currently modeling a 12.4% restaurant-level margin for 2Q11, which implies a 280 bp decline YOY.  Management stated that 2Q11 margin should be about even with the reported 1Q11 level of 12.6%.  In the back half of the year, restaurant-level margins should improve modestly largely as a result of the fact that the company is lapping a nearly 370 bp decline from 3Q10 and a 330 bp decline from 4Q10.  That being said, commodity costs are the biggest wild card as we move through the balance of the year!

JACK – 2QFY11 LOOKING ROUGH - jack sigma

Howard Penney

Managing Director