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Burger King franchisee Carrols sees an easing discount environment

But the operator's margins took a hit last quarter due to intense promotions.
Photograph by Jonathan Maze

Burger King’s intense focus on promotions last year, with deals ranging from $1 10-piece nuggets to a $6 King Box, hurt profit margins at its largest operator, Carrols Restaurant Group, despite lower food costs.

But Carrols executives see light at the end of the tunnel, projecting an easing calendar of price promotions as the year goes on.

“Burger King has more recently made a number of changes to modify or reduce the impact of the more aggressive promotional offerings,” CEO Daniel Accordino said on the Syracuse, NY-based company’s fourth quarter earnings call.

Fast-food chains have aggressively promoted price-based offerings over the past year in a highly competitive environment.

Burger King has been at the forefront of that price war, and if it’s easing price promotions others could follow.

Accordino said that promotions in the fourth quarter included a 2-for-$6 Mix & Match deal, a $3.49 King Deal, a 2-for-$10 deal and the $6 box, in addition to the $1 nuggets plus a few premium items.

The problem with this is that the promotions are coming as labor costs rise while operators are required to remodel locations and, increasingly, build new units.

At Carrols, for instance, restaurant-level EBITDA margin, or earnings before interest, taxes, depreciation and amortization, shrunk by 140 basis points to 12.8% of sales in the fourth quarter from 14.2% a year earlier.

That thinner margin came despite lower beef costs. Carrols’ beef costs were $1.87 per pound in the fourth quarter, or 7% from the previous year.

Labor costs were 32.3% of sales, up 76 basis points, due largely to a 4.7% increase in wage rates. But, CFO Paul Flanders said, that was the lowest quarterly wage rate increase at the company in three years.

The promotional schedule in the fourth quarter, Flanders said, was about 200 basis points on cost-of-sales in the quarter. “The discounting has an enormous effect on margins, even in the face of beef costs actually being lower in 2018,” Flanders said.

Many of those promotions continued into the first quarter of this year, executives said. But Accordino said that Burger King’s marketing calendar suggests that the level of discounts will moderate beginning next month.

Margins, therefore, should improve as the year goes on, executives said.

Despite the shift away from promotions, executives believe the company and its franchisor will still be able to generate same-store sales. Carrols expects same-store sales to be up 2% to 3.5% this year.

“From what I see on the Burger King marketing calendar, without getting into specifics, we’re quite confident in the sales forecast,” Accordino said.

Carrols just last week acquired another 166 Burger King restaurants, to go along with 55 Popeyes locations in a deal that also gave the operator permission to acquire another 500 locations.

The deal was just the latest in a long string of acquisitions for the company dating back several years. But Carrols is increasingly developing new locations, sensing that the returns the company gets on such restaurants makes development a legitimate option.

Carrols has agreed to develop another 200 Burger King locations over the next six years. And the company’s acquisition of Cambridge Franchise Holdings comes with an agreement to develop 70 locations in that brand.

Flanders noted that since 3G Capital took over Burger King in 2010 the brand’s unit volumes have increased enough to make building new units worth the investment. He said that the cash-on-cash returns for leased restaurants is in the high teens, but for those with real estate the leveraged returns, or returns using debt, jump to 50%.  

“The levered returns on these investments are pretty attractive,” Flanders said.

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