JACK – STILL IN A DEEP HOLE AND NOT EMERGING SOON

Despite JACK management having set expectations low last quarter, fiscal 3Q10 was ugly.  Earnings of $0.50 per share fell short of both my expectations and the street’s estimate of $0.53 per share.  Same-store sales at Jack in the Box came in down 9.4%, also below the street’s estimate and below management’s guidance of -7% to -9%.  Management again attributed the soft results to “high unemployment in [its] major markets for [its] key customer demographics.”

We will see what management has to say tomorrow on its earnings call, but the only obvious bright spot in the quarter was the continued improvement in same-store sales trends at Qdoba (+4.6%), which improved on a one-year and two-year average basis.  Management’s 4Q10 comp guidance for Qdoba of +3% to +4%, however, points to decelerating two-year average trends.

Two-year average same-store sales trends at Jack in the Box decelerated 110 bps from the prior quarter and better trends do not appear to be coming next quarter.  Management’s fourth-quarter comp guidance of -4.5% to -5.5%, which it said was reflective of trends in the first four weeks of the quarter, imply two-year average trends that are relatively flat to down about 50 bps from the third quarter.  So at best, we are looking at stabilizing trends. 

Restaurant-level margin declined nearly 370 bps YOY, when adjusted for the increase in workers’ compensation reserves that negatively impacted payroll and employee benefits costs by $1.8 million.  The company estimates that sales deleverage negatively impacted margins by approximately 280 bps during the quarter.

As expected, commodity costs were 2% higher during the quarter, which drove food and packaging costs as a percentage of sales up 40 bps YOY.  Declining margin, combined with negative same-store sales growth, put JACK safely in the “Deep Hole” quadrant of our sigma chart (shown below) for the third consecutive quarter. 

Based on management’s outlook for continued softness in same-store sales trends and expected increased commodity pressure, JACK will likely stay in the “Deep Hole” for at least another quarter.   Management now expects commodity costs to increase 4% in the fourth quarter, up from its prior guidance of +3%.  Full-year restaurant-level margin is expected to decline about 200 bps YOY to the low 14% range (down from prior guidance of 15% to 16%).  Full-year EPS guidance was lowered to $1.65 to $1.75, from $1.85 to $2.05.  I can only imagine what management is thinking now based on these results, given that on the last earnings call CFO Jerry Rebel said, “if we hit that [$1.85 – low end of full-year guidance at the time] God forbid...”  Earnings of $1.85 per share would sure look good now.

JACK – STILL IN A DEEP HOLE AND NOT EMERGING SOON - jack sigma

 

Howard Penney

Managing Director