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We were dead wrong on 4Q and this squeeze higher definitely hurts.  2012 is far from a done deal, however.

BWLD printed $0.73 4Q11 EPS which was six cents above the street.  $0.04 was due to a favorable tax rate but, that said, the top-line was exceptional.  Our short thesis on the stock was based largely on increasing costs and margin compression in 2012.  While we did see compression in operating margins in 4Q, the top line strength rendered that less relevant than we had anticipated it to be.  We have been consistent in our view that 1Q was the quarter where Buffalo Wild Wings would be hurt by sky-high wing prices and we still believe that inflation will be a factor in 1Q results.  What we were not ahead of, however, was quite how strong the top-line would be for BWLD.  Clearly the company is having great success driving the top line though advertising and successful new unit openings and this, at least for now, is more than enough to satisfy investors.  With 1Q to-date comps at +12.9%, the stock’s reaction is understandable but we believe the surge will subside a little tomorrow as some – albeit tangential – issues around the quarter are worked into the equation. 

Revenues

Company-owned comparable restaurant sales grew +8.9% versus consensus of +6.3% while franchise comps came in at +5.9% versus expectations of +5.1%.   As an additional positive, management disclosed that 1Q to-date comparable restaurant sales are running at +12.9%.  4Q new unit volumes grew by 53% year-over-year and the company is expecting 60 new locations in 2012.

Advertising was effective for BWLD in 4Q as the company bought media in additional markets while raising its social media presence.  Alongside record viewing of NFL football this season, advertising was highly impactful for the company and we underestimated this in our thought process around how the top line would shake out.

Another factor we were wrong on was the impact of gift cards.  The holiday gift card program was extended, particularly in retail outlets, and this helped more than double gift card sales during the 2011 holiday season.  For 1Q to-date, gift card redemption has accounted for roughly 3% of comparable restaurant sales growth.  Management stated that redemptions of gift cards, which are generally purchased around the holiday season, tend to be focused through the first couple of months of the year.

BWLD: OUCH - bwld pod1

Margins

Restaurant operating margin came in at +8.4%, which was down 50 basis points year-over-year and 30 basis points below consensus.  If there was one sign of potential trouble from the quarter, it was this; margins declining on an 8.9% comp with commodity costs flat but turning into a headwind in 1Q is a cause for concern.

Cost of sales came in at 29.4% of sales or 60 bps higher than last year.  Traditional chicken wings were at $1.42 per pound for the quarter, 5% below 4Q10’s average price of $1.49.  Traditional wings comprised 20% of restaurant sales while boneless wings made up 18% of sales in the fourth quarter.  For the first two months of 2012, traditional wing prices are averaging at roughly $1.89 per pound versus $1.22 a year ago, an increase of 55%.  Management was not giving any firm guidance as to how this inflation would be dealt with but did say that strong same-store sales growth and new unit openings would continue to help the company manage through the inflationary pressures.

Other factors driving 4Q11 operating margin were labor, which was flat year-over-year as a percentage of sales, occupancy costs, which declined by 60 bps year-over-year, D&A, which was flat, and G&A, which was 8.8% of sales or 9.2% lower than 4Q10.

Other

The tax rate benefitted EPS by $0.04, coming in at 27.8% versus 32% last year.  This benefit was due to unexpected tax credits.

2012 Outlook

  • Potential  price benefit in 1Q roughly 1.8%
  • Will increase advertising presence in national and local media during college basketball season
  • Excluding traditional wings, commodity inflation estimated to be ~4% higher than 2011.
  • Company expecting leverage over labor and operating expenses with high same-store sales trends.
  • Maintaining 20% EPS growth guidance for 2012.

Conclusion


This was a strong quarter from a top line perspective.  Comps and new unit volumes were far better than we had modeled.  However, going forward it is important to think about how this flows through to the bottom line to generate EPS growth.  Operating margins did contract year-over-year despite the strong top line trends and we see costs increasing in 1H12 from 4Q11.  Inflation will be high during the first half of the year and, while management did say that additional pricing is something being contemplated for 2012 that could have an adverse impact on traffic.  With a normalized tax rate, a rolling off of the expanded gift card strategy, and higher costs, management will need double digit comps to achieve 20% EPS growth.  We clearly got this one wrong for 4Q but that is not to say that the risks for holders of this stock have been eliminated. 

Howard Penney

Managing Director

Rory Green

Analyst