RT - Who Knew What When?

RT's stock price moved up 12.5% yesterday prior to the company reporting 4Q09 earnings after the close. And judging by RT's significantly better 4Q performance, someone knew something! Earnings came in at $0.28 per share relative to the street's $0.20 per share estimate. Company same-store sales declined 3.2% in the quarter. This was a surprisingly strong number on many counts. RT easily beat the street's expectation of -5.3%. It showed significant improvement from RT's recent performance (-6.8% in 3Q and -10.8% in 1H). And RT outperformed its casual dining competitors by 2.4% in the quarter as measured by Malcolm Knapp. This last point was the most surprising as RT has underperformed its casual dining peers by 5%-10% for the better part of the last two years.

RT - Who Knew What When? - RT FY09 Gap To Knapp

RT management attributed its relatively strong top-line results to its marketing initiatives that have focused on communicating the concept's compelling value proposition. The increase in same-store sales does not come without cost, however, as RT is driving increased traffic with its value message at the expense of average check and restaurant margins. For reference, RT's 2.4% same-store sales outperformance relative to its casual dining peers stemmed from its 8%-9% traffic outperformance, which points to the company's underperformance on an average check basis. RT's CEO Sandy Beall stated that the company's first priority is to "get bodies in seats." Along those lines, the company has not increased its average check in 2-3 years and is not focused on driving check higher in FY10. Instead, Mr. Beall said RT "will keep pushing value for some time to come until the consumer changes."

This increased focus on value will continue to put pressure on restaurant margins, primarily from the negative impact discounting has on food costs as a percent of sales. Despite declining restaurant margins, another bright spot in the quarter was RT's nearly 250 bp YOY increase in operating margins, which was a continuation of the improvement we saw in 3Q. RT has been able to offset its lower restaurant margins in the back half of FY09 by cutting costs in other parts of the P&L. Specifically, the company reduced its annualized costs by $45-$50 million, with the bulk of these cost savings implemented during 3Q. A big portion of the cost savings stem from reduced labor costs as a result of a more efficient labor-scheduling process and lower supervisory costs as RT expanded control for both regional and area supervisors. The company will continue to see the benefit of these cost reductions, particularly in the first half of fiscal 2010, but taking more costs out of the business going forward will be difficult without impacting the guest experience. I have always said that cutting costs that the guest cannot see, taste or experience makes sense, but reducing area supervision can be risky as it can often impact the overall guest experience. This just means it will become increasingly more difficult for RT to protect its operating margins in this challenging sales environment from increased discounting and lower restaurant margins as a lot of the fat has already been cut from the P&L. The company currently has no plans for company-owned unit development, however, which will provide some operating flexibility going forward.

All of that being said, RT has come a long way. It has gone from being a concept that seemed close to becoming a thing of the past to outperforming its peers from a sales and guest count perspective. It has gone from being a company that was at risk to breaking its debt covenants to one that paid down $112 million of debt in one year, in excess of its initial $80M-90M and revised $90M-$100M targets. And in FY09, RT reversed 4 years of operating margin declines.

RT - Who Knew What When? - RT 4Q09 EBIT

 


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