Dominos Pizza Inc (DPZ) — Q3 2016 Earnings Call Transcript

Thank you, Christine, and good morning, everyone. Thank you for joining our third-quarter 2016 earnings call. I have enjoyed the opportunity to meet some of you in the past few months. And I am looking forward to seeing many of you at our Annual Investor Day in January. As you know, this call is primarily for our investor audience, so I kindly ask that all members of the media and others be in listen-only mode. I also refer you to our Safe Harbor Statement that's in both this morning's press release and the 10-K in the event that any forward-looking statements are made today. Our plan for this morning includes prepared comments from our Chief Financial Officer, Jeff Lawrence; and Chief Executive Officer, Patrick Doyle, followed by your questions. And with that, I’ll turn it over to Jeff.

Thanks, Tim, and good morning, everyone. In the third quarter, we continue to deliver tremendous same-store sales in both our domestic and international businesses, as well as strong bottom-line results. U.S. comps grew by 13% and international comps grew by 6.67%. We're thrilled with these results, particularly when you consider that Q3 same-store sales a year ago in our domestic and international businesses were up 10.5% and 7.7% respectively. We have now had 22 straight quarters of positive U.S. comps and 91 consecutive quarters of positive international comps. We also continue to increase our store count at an impressive rate and have now opened more than 1,100 net new stores over the trailing 12 months. These factors all contributed to our diluted EPS growing 43% over the prior year quarter. With that, let's take a closer look at the financial results for Q3. Global retail sales, which are the total retail sales at franchise and company-owned stores worldwide, grew 14.9% in the quarter. When we exclude the adverse impact of foreign currency, global retail sales grew by 17.2%. The drivers of this retail sales growth included strong domestic same-store sales, which, as I just mentioned, grew by 13% in the quarter. Broken down, our U.S. franchise business was up 12.9%, while our company-owned stores were up 13.8%. Both of these comp increases were driven by order count or traffic growth as consumers continue to respond positively to the overall brand experience we offer them. Our Piece of the Pie loyalty program continues to contribute significantly to our traffic gains while overall ticket was relatively flat during the quarter. Moving to the unit count front, we are very pleased to report that we opened 28 net domestic stores in the third quarter consisting of 36 store openings and 8 closures. Our international division had another great quarter as same-store sales grew by 6.6% and also added 288 net new stores during Q3, comprised of 300 store openings and 12 closures. Our international growth continues to be strong and diversified across markets, and we continue to benefit from an increased number of store conversions in select international markets. Turning to revenues, total revenues for the third quarter were up $82 million or 16.9% from the prior year. This increase was primarily a result of three factors. First, higher supply chain center food volumes driven by strong U.S. comp and store growth. Second, higher domestic same-store sales and store count growth resulted in increased royalties from our franchise stores and higher revenues at our company-owned stores. Lastly, higher international royalties again from increased same-store sales and store count growth, which were partially offset by the negative impact of foreign currency exchange rates. Currency exchange rates negatively impacted international royalty revenues this quarter by $1.5 million versus the prior year quarter due to the dollar strengthening against certain currencies, primarily the British Pound. For the full fiscal year, we now estimate that foreign currency could have a $7 million to $9 million negative year-over-year impact on royalty revenues. As you know, there are many uncontrollable factors that drive the underlying exchange rates, which make this a harder part of our business to predict. Moving on to operating margin. As a percentage of revenues, consolidated operating margin for the quarter increased to 30.7% from 29.3% in the prior year quarter. This increase was driven by positive same-store sales, higher supply chain volume, and lower insurance expenses. As a reminder, we recorded a large insurance charge in Q3 2015, which hurt operating margin last year. The operating margin in our corporate stores increased to 23.5% from 19% driven primarily by lower insurance expenses as I just mentioned. To a lesser extent, increased sales and lower occupancy costs benefited the company-owned stores' operating margin, while higher transaction-related expenses and food costs partially offset these increases. The supply chain operating margin increased to 11.1% from 10.2%. The primary driver of this increase was also lower insurance expenses. Aside from insurance, higher volumes benefited the supply chain operating margin. Commodity costs were relatively flat this quarter and did not have a material impact on the operating margin. We previously estimated that the commodities we use domestically will be flat or up 2% in 2016 from 2015 levels, and now we expect commodities to be relatively flat for the full year 2016. Let's now shift to G&A. G&A increased by $11.6 million in the third quarter versus the prior year quarter due primarily to three factors. First, our planned investments in technology, primarily in e-commerce and other technological initiatives and the teams that support them. Please note that these investments are partially offset by fees recorded as revenue that we received for digital transactions from our domestic franchisees and international franchisees. Second, our strong performance led to higher performance-based compensation expenses. And third, our continued planned investment to support the strong growth of our international business. Based on our positive performance and our outlook for the rest of the year, we continue to estimate that our G&A will be in the range of $305 million to $310 million for the full fiscal year. Keep in mind too, that our G&A expense for the year can vary up or down by, among other things, our performance versus our plan, as that affects variable performance-based compensation expenses. Moving down the income statement, interest expense increased by $5.2 million in the third quarter, primarily as a result of increased net debt from our 2015 recapitalization. Our weighted average borrowing rate was 4.6% during the quarter, down 70 basis points from the prior year quarter. Our reported effective tax rate was 37.7% for the quarter. We expect that 37% to 38% will be our effective tax rate for the full year. When you add it all up, our third-quarter net income was up $9.4 million or nearly 25%. Our third-quarter diluted EPS was $0.96 versus $0.67 last year, which was a 43% increase. Here is how that $0.29 increase breaks down. Lower diluted share counts primarily as a result of the accelerated share repurchase program completed in Q1, and our additional share repurchases in the second and third quarters benefited us by $0.12. Our higher interest expense, primarily as a result of our higher debt balance negatively impacted us by $0.06. Foreign currency exchange rates negatively impacted us by $0.02. And most importantly, our improved operating results benefited us by $0.25, which does include a $0.06 year-over-year benefit from the Q3 2015 casualty insurance charge. Now turning to our use of cash. During the third quarter, we repurchased and retired approximately 412,000 shares for $59.7 million, or an average purchase price of approximately $145 per share. During the third quarter, we also returned $18.4 million to our shareholders in the form of our quarterly dividend and made $9.6 million of required principal payments on our long-term debt. Over the trailing 12 months, we have returned more than $950 million to our shareholders in the form of share repurchases and dividends. As always, we will continue to evaluate the most effective and efficient capital structure for our business, as well as the best ways to deploy our excess cash to the benefit of our shareholders. Overall, our tremendous momentum continued, and we're thrilled with the results this quarter. We will remain laser-focused on driving the brand forward and providing great value to our shareholders. Thank you for joining the call today. And now I'll turn it over to Patrick.

Thanks, Jeff. Good morning, everyone. Those who joined us for our Investor Day last January heard me talk about our fundamentals, our steady strategy and momentum within the metaphor of 36 blasts, a basic off-tackle football play. The point was a simple one; it is not a flashy play but when executed properly with players fully aware of their roles and responsibilities, it becomes nearly impossible to stop. Instead of short-term benefit or trick plays, we went to work years ago to make sure we establish our identity, strengthened our foundation, and perfected our fundamentals. If the third quarter is any indication, running this play is continuing to work very well and most importantly greatly benefit our customers. As I think about the quarter, I continue to be proud of our approach to building success. It would have been easy to shift or overthink our strategy and perhaps question our faithful emphasis on long-term fundamentals. By pivoting to a short-term mentality never crossed our mind. That reasoning being, I have never felt stronger about the momentum of our brand and business. The performance of our outstanding group of franchisees across the globe, our unmatched, relentless meaningful innovation, and a team that has never been more energized and aligned. Our domestic business driven by our U.S. franchisees and corporate store operators continues to reach new heights with outstanding sales results. Our international business did what it does best. By putting another highly impressive quarter of store growth on the scoreboard while matching its 91st consecutive quarter of positive same-store sales growth. And to add another milestone to the quarter, we surpassed the 13,000 store milestone and held the celebration at the Seattle-based location in early August. The business model continued to demonstrate tremendous strength, delivering once again with solid flow through our bottom line. A big part of this is continued, meaningful, responsible investment in the business. And when coupled with an innovative customer experience, terrific food, and consistent, reliable value, we are left with the foundation of fundamentals that are dependable as ever across the globe each and every day. Our domestic performance was phenomenal in the third quarter. Frankly, I am not quite sure how else to put it. A 22nd consecutive quarter of positive same-store sales also marked plus 31% on a three-year basis. A figure that demonstrates our commitment to facing the challenge of sustaining success head-on. Few have done this better than our U.S. franchisees and corporate team members. And I am very proud of the work they have done to continue to put their customers first. We opened 28 net domestic stores during the quarter and with the tailwinds of record-setting unit economics in 2016, excitement around our Pizza Theater reimage, and unparalleled brand momentum, I am very pleased to see this continuing to track in the right direction. We added a brand new product line with the menu introduced in our new salads with a full national launch campaign which began in mid-August. I actually think the current campaign puts it best; this is something that may help the veto vote and offer additional choice on pizza night. Also, it is a terrific addition to the $5.99 mix-and-match menu offer in three choices, classic garden, chicken Caesar, chicken apple pecan, remaining consistent with our approach to value. The digital royalty program continued to perform very well. It is proven to be a strong case study demonstrating the importance of consumer insights, simplicity, and implementing the program that through its focus on order counts is consistent with our overall strategy. It is fair to say we are very pleased with where the program stands after a full year in existence. Providing yet another great boost to the momentum created by our domestic leadership, corporate teams, and operators, and of course an efficient, determined U.S. franchisee base that is second to none. Staying on the topic of digital, we launched yet another ordering platform to the expanding AnyWare suite. With ordering via Facebook Messenger available beginning last month. Much the same is our partnerships with Apple and Amazon to name a couple; we seek to partner with leaders within their space. And Facebook clearly remains the largest social network in the U.S. Between that and an easy order platform that is simple to execute, featuring a box that is actually quite fun, we are very excited to be the first pizza company to deliver this technology to our digital customers and fans. Our worldwide digital participation keeps ramping up. We continue to increase participation in our global online ordering platform and now have nearly 70% of stores outside the U.S. using Domino's PULSE, a proprietary point of sale system. We continue to take advantage of the master franchisee model by sharing digital best practices and remain committed to technology growth as a true worldwide initiative for the business. I continue to be extremely encouraged by our relentless approach to innovation and our unquestioned lead within a competitive technology space. And speaking of competitive spaces, our international business once again came through with tremendous store growth during the quarter with 288 net openings, topped off with very solid sales performance. Two of our four public master franchisees had double-digit same-store sales increases in their most recent quarters. We hit a few store milestones including the opening of our 2000th store in Europe, which we celebrated in Homburg, Germany last month. We also reached 600 stores in Australia, 100 stores in New Zealand, and 200 stores in Saudi Arabia during the quarter. Our current conversions are on track in South Africa, France, and particularly Germany, which is ahead of schedule. As we've noted, it will take some time to see direct revenue impact from these markets, but we have green lights related to the progress, timeline, and potential of each market to sooner than later find itself in a strong position to compete. We come to expect this type of performance from the best international modeling QSR and commend our master franchisees worldwide for once again getting it done. In summary, the energy and alignment of our entire system continues to amaze. Results are fantastic, but beyond that, I continue to be most encouraged by the passion and vigor of our franchisees, operators, and team members. Getting a lead is one thing, maintaining it is another, and not always an easy task. We remain as determined as ever to build upon our success. Thanks, and we'll now open it up for questions.

Hey guys, congratulations on a good quarter. I just had a couple of questions. One on the food cost line, and I know you guys mentioned in the Q some promotional activities that drove that higher, are those ongoing promotions or is that something specific to the third quarter as we look out?

So, yes, great question. This is Jeff. In the food line item for corporate stores specifically, there definitely have been and will continue to be probably some mix and promotional activity that runs through there that may cause us to bounce around a little bit. I think the bigger picture point though is that commodities continue to be fantastic in 2016. And as we try to look out a little bit, certainly at the end of this year, we can continue to expect doing pretty flat. But other than that, nothing really pushing that market around.

Got it. Thanks. And then just as I think about domestic store growth, how much of it is being driven by new franchisees versus existing franchisees? And when you look across the market, can you comment on what you think cash-on-cash returns are for some of the independent and small chains? I know you guys have been taking share from them, and I'm just wondering what sort of -- like, you guys are getting low 40% cash-on-cash return and maybe what the average is in the marketplace?

Sure. Greg, in terms of who is building the stores, it is mostly existing franchisees. In fact, it is really all existing franchisees. We have typically 20 to 25 new franchisees every year, but those are people who come up through our system; they are managers before, and then typically their first store they wind up buying as opposed to building their first store. So essentially all of the openings are coming from our existing franchisees. In terms of cash-on-cash returns for others in the category, clearly I don't know in terms of the overall. I guess what I would say is we've been seeing net closures amongst the moms-and-pops for a number of years now, nearly going back to the downturn, and that has continued as the category has been consolidating. So my assumption of their closing is those are stores that don't have great cash-on-cash return. But in terms of the overall averages, honestly, I don't know.

Thanks. Good morning, guys. If you could let analysts become franchisees that would be great too based on these numbers. The numbers are amazing. I'm just trying to better understand the acceleration that you've seen the last few quarters in the U.S. business. As you look at kind of the drivers of your performance internally, how important has the benefits of the loyalty program played in the improving results and just the traction you are getting from that?

Yes. It is certainly very important, and we are not going to break apart the specific components as you would guess for competitive reasons, but the quarter was about order count, as has been the consistent pattern. We are clearly taking share within the category. But as I said in the comments and as you heard us say it before, this is about getting the fundamentals right. This is about the power of momentum that is causing franchisees to build more stores, increasing the amount of advertising that we are able to do. We continue to with growing scale be able to, with our supply chain folks, do a better and better job of buying commodities based on higher volume. So there is just an awful lot of things that are going right that are driving the momentum, but most importantly, I mean when you put up a 13, I will tell you that you don't go into the year planning for a 13, and what I am most proud of within our system is that our franchisees and our store managers are handling that kind of volume growth and doing it well and giving great service to our customers because it isn't easy. And they have done a terrific job of trying to keep up with the volume, and only with that kind of execution do you continue the momentum. So hats off to our whole system. Indeed. Patrick, historically I think you've kind of talked about another 1,000 stores being able to be built in the U.S. Is that still how you think about the domestic store growth opportunity, or has that changed? You know what I have always said is that I think that there are at least 1,000 more, and I continue to believe that's the case. And you are certainly seeing that playing out. And all I would add to that is that as volumes go up and as our share goes up, that only creates the opportunity to build even more stores. Because places that might not have been viable become viable as your overall volumes and market share go up. So, yes, we continue to believe that there are 1,000 plus more out there that can be built.

Thanks for taking the question. So you had another quarter of accelerating store growth if you look at the overall system. And I guess how should we think about that relative to any visibility you have in the pipeline? Are there timing things that are affecting that? Do you have a meaningful ramp-up in the conversion rate, or is that something that we could think of as manageable or continuable for the foreseeable future?

Yes. It is a good question. So our long-term guidance has been 5% to 7%, and that is still the best number. We certainly feel very good about the growing momentum, but one of the important things to keep in mind is we have about 100 conversions in Europe in the third quarter. And so that is not something that continues long term. And so there is a little bit of one time in that number on the international side. There are still more to be converted, but we are going to see the bulk of that done by the end of this year, and the third quarter was the largest quarter of those conversions. But apart from that, you are seeing the base continue to grow as we opened the 13,000 in the quarter, and so that 5% to 7% range continues to get bigger on an absolute store count basis. But we clearly feel very, very good about the momentum around store growth. We are particularly excited to see the domestic store growth moving because, as we talked about before, there are fundamentally four ways you can grow the business, right? Same-store sales, domestically and internationally, and store growth domestically and internationally. And we have three of those four for quite some time. We now have the fourth part, which is nice growth on the domestic side as well. So the momentum there is terrific, but there was a little bit of kind of short-term boost from the conversions in the third quarter.

And then one other question, which I will apologize in advance for something that's a little bit more short-term in nature, but there's been both in the third quarter and then into the fourth quarter a couple of events between the Olympics and debates that I think folks have been pretty focused on as potentially nights that benefit the pizza players. So just anything you are willing to share on sort of is that something that you think can flow through into additional demand?

I really don't think so. We've looked at that theory hard this year and in the past and events like that certainly could have an effect but in terms of any real material effect you really -- in our business you really don't have to think about those. They just don't drive enough in any given quarter to really register.

Patrick, in the past, I remember you saying that there was some seasonality in the business in terms of new users using the brand for the first time in the third quarter in back-to-school, back-to-college. Was that dynamic still in place this quarter? Was it exaggerated this quarter? In other words, are you finding you are getting incrementally even more users than you've ever had before this quarter? Any color around the seasonality particularly this quarter would be helpful.

Yes. So the seasonality is really more into the fourth quarter typically in terms of growth on digital order. So it kind of starts in the fall but most of that just based on when the quarter ends is really hitting in the fourth quarter. So that's a sort of thing that we've been very consistently seeing now for five, six, seven years that the ramp-up is kind of September to call it January or something like that. And then it tends to flatten out as a percentage of sales and may even see a slight tick down in the summer. And then you get the ramp-up again through the fall. So the real answer is that pattern we wouldn't have seen much of through the third quarter. But we continue to be very happy with the overall growth on the digital side.

Thank you. And then just on the category itself, right, most of your gains have come from share gains, as you've talked about over time, but how has the category performed? Has it been a tailwind for you now? Maybe ex-Domino's is the category a little better, or conversely, as we've seen in a lot of restaurants, has the category actually decelerated so these gains are even more profound in that context?

Yes. I mean I think the category, the pizza category is continuing to be up in the kind of 1% or 2% range, something like that. I don't know that we've seen a material change in the overall momentum. But clearly this kind of growth has been far more about share gains than about anything going on in the category. So I think very modest growth in the category, though I remind you when you look at overall growth in the category, you are typically going to be looking at maybe 2% ticket growth, so modest category growth means fundamentally flat orders with a little bit of ticket. And I think that's what we've kind of continue to see in the category and thankfully we've been able to outperform the category.

Good morning and once again great job on the quarter. Just two quick questions. I guess first off on the salad launch, obviously it's very new here, so probably don't have a whole lot of data back on it yet. But just is there any color that you can give us as far as how much of that is coming from ticket as an add-on purchase versus, of course, veto votes being less standard? Anymore color that you could give us on how salads are faring so far.

Yes. Salads are performing very nicely, very much in line with what we had projected. It all fits into our $5.99 mix-and-match, and as you have seen with the advertising when we launched salads, it was as much about pizza as it was about salads. Salads only launched in mid-August, so you are looking at basically one out of three periods for us that has the salads in them. But we are very happy with how they are performing. I think very much in line with kind of what we had expected there.

Got it. Well, I've had the salads myself and they are shockingly good. So great job. And the one other question real quickly, just as far as U.S. unit count growth was up just over 3% year-over-year here in the third quarter, which is a great number. Obviously, you have already got almost 5,200 stores. Is there any reason to think that you guys couldn't hold that kind of 3-ish type of growth number into the foreseeable future in the U.S.?

Well, I guess what it says is I am going back to the overall guidance of 5% to 7%. Globally, we certainly like the momentum that we built in the domestic business. I am not going to start kind of pulling together specific projections on international versus domestic, but we are very pleased to be getting a nice contribution from the domestic business and with more stores to be built as I was just discussing. There is certainly room for momentum to continue. But we are not kind of giving a specific projection around domestic versus international.

Good morning. I have a follow-up on that unit growth comment you made on the U.S. stores. So my question is what is the limiting factor on U.S. store growth among franchisees? I mean these guys have done exceptionally well over the past years with large increases in the NAV and the profit per store has been I think just about a double, and yet your growth is around 2% or 3%. You did a little bit better this quarter, but why hasn't that growth rate even accelerated more given the unit economics are looking so much better than they did even five years ago?

You are tough to satisfy, Matt. Honestly, it is -- I mean clearly the capital is there, the will of our franchisees is there to do it. They are busy right now. And I'll go back to the comment that I made about execution. You do a plus 13 and you are very, very busy just keeping your store staffed and managing your existing stores well. I'll tell you, actually, I remember questions a few years ago when we announced our reimaging program, which we are still on track to substantially complete by the end of 2017. But our franchisees are busy running the stores they already have. They have been busy doing reimages on stores, the capital is not that constrained at all. But they've also been busy swinging hammers building new stores. So you've got to find real estate, you've got to improve through the construction process. So it is not constrained by capital. It is not constrained by return on investment. At some point it becomes constrained by just how many available opportunities there are, but that's well off over the horizon for us. And we like the fact that it's been just kind of continually progressing the last few years. The new stores are opening very well. Our franchisees who have been opening, on average, are very happy with their decision to do that. So I think it is -- the constraining factor is really just the ability to find new sites and work through the process.

Got it. Thanks for that. And I had a quick follow-up for Jeff probably on the company-owned transaction-related expense. In the Q, you called out about a 140 basis point increase to 3% of sales for this transaction-related expense. My first question is what's actually in that 3%? Because if it's just interchange, that seems to be a pretty big number as a percentage of sales. And then given that tender is such a small percentage of sales, it's hard to imagine you would have had a mix shift in tender that would have driven that up so much. So I guess what is that and what actually drove that number up so much on the company-owned side?

Yes. Transaction-related expenses, as we pointed out, are mostly credit card related. Over time, our credit card mix of our sales, particularly when you think about the success of our online presence with the profile ability to have a card securely stored, continues to push up the credit card mix of our business. Credit card companies don't give us a break the more we actually send their way, so that actually is going to increase. And the other thing we are seeing a little bit there are just some chargebacks. You get certain locales that have customer bases that basically charge back to the store saying that they didn't get the pizza or things like that. Again, certain locations have done a little bit more of a thorn in the side than others, but it is really a bunch of things that kind of adds up to move that. At the end of the day, it is a couple of points of margin there. But it is up in there, we are focused on particularly around the chargebacks to make sure we limit those in the stores.

I wanted to follow-up on the increased promotional spend. Jeff, is the increase in promotional spend related primarily to the loyalty program?

Promotional spend, I think the original question was what impact this promotional activity have on food, and I think with the original question I think we get the call off with. As far as advertising specifically, as you can imagine when you do a 13 and our stores contribute about 6% of their sale in the U.S. into the advertising fund, we are not short of cash to chase really good ROI projects right now when it comes to building the brand for marketing promotional activities, etc. So very healthy on the cash flow coming in, the ROIs of where these guys are spending the money. This is the first time in my 20-plus year career in QSR where the marketing guys think like finance guys. And if they don't find the great ROI, they won't spend it. But good news for us is they are finding great ROI with the dollars that are in the advertising fund. And again, we take that very seriously. Those are 95% plus franchisee money. We need to put those to work in a good way. Not just to build sales, typical profitable sales. So we feel great about the money coming in. We feel great about how we are spending it. And you can't get 13 without getting that part of the business right.

Should we expect the cost of sales to continue to be impacted by promotional spend as long as commodity prices are down? Or if commodity prices start to inflate, do you expect that you will pull back on some of those discounts?

Yes. I think the biggest thing when you think about food as a percentage of sales in corporate stores is that commodity has moved significantly. You are going to see that move around, right? If the cost of cheese and meat and flour start to go way up, you are going to see that percentage suffer. If it goes the other way, you are going to see a benefit. As far as promotional mix, not is big of an impact possibly. It is really going to be way the commodity is moving. And again, as we look at commodity, 2016 has been a really good year for us. We expect it to finish out that way, and early looking into 2017, at least based on the independent consensus that we get from economists, at least at this point not appearing to be significant in 2017 either, either way. So again, it is more about driving the sales. We are less concerned about the percentage, more concerned that corporate stores are making more money than they've ever made even with those little bit of margin bouncing around a little bit.

And the one thing I'd say is, as you know, we are one of, I think, only two largely franchised restaurant companies that talk about our franchisees’ profitability. They had a terrific year last year, and they are going to have a better year this year on overall EBITDA. And we feel very good about how that's trending. So look, you manage all of it. At the end of the day, you've got to have a compelling offer for your customers, and you've got to generate a great return for your franchisees on the investments in the stores as long as we are crossing both of those hurdles then we are feeling pretty good about where we are, and we are certainly continuing to see that. So you may see some movement in the components of that, food, labor, all the rest of it, but our job is to continue to generate a strong return on investment for our franchisees.

Thanks. I'd like to get some perspective on your carryout business and how your success with the fast-growing digital ordering platform and the rollout of the loyalty program and reimages is driving your carryout business relative to delivery?

Yes. So carryout is continuing to do well; both are growing. And I think the one thing that we continue to see is the majority of our stores are now reimaged. It is a better experience for our customers than it was in the past. There have been questions in the past about kind of specific return on investment from reimaging store, and we've always talked about the fact that any individual store simply reimaging where they are is a 1% or 2% less. But their expectation has always been that you are going to see kind of catalytic events as the majority or all of the stores are reimaged. I think we are seeing that. I think part of what is driving our comps right now is that the stores look better; it's a better environment for carryout customers to walk into. And that's an important part of our business. We are getting growth on both sides; delivery is growing, carryout is growing, but I think the reimaging is certainly going to have at least a near-term more positive impact on the carryout business than it does on the delivery business.

Okay. And then one question on the domestic supply chains. Given the significant volume growth in the last few years, do you see a need to meaningfully expand supply chain capacity and if so when should we see that and to what magnitude?

Yes. We absolutely are going to have to increase capacity in our supply chain. The team, Troy and the team, has done a great job kind of keeping up with the volume that has been coming through. But we've talked about this before; certainly in the next few years, there are going to be some increased investments into the supply chain. Volumes are up very dramatically if you go back six, seven years now. And we've been kind of in an ongoing repair and maintenance mode as opposed to significant capacity increase. We had excess capacity, but we are certainly using that up, and we think that there is an opportunity to build more capacity which frankly will help efficiency because they are getting busy enough, and at some point, you are going to be as smooth with operating those supply chain centers as you would have been otherwise. It is a very high-class problem. I love trying to figure out how to deal with higher volumes going through our system. But it is something we are definitely going to be addressing.

Thank you. It's been a little while since we've talked about the digital ordering fees that you charge the franchisees. So I hope you could shed some light on that both in the U.S. and international. I think it was a couple of years ago you took up the fee from $0.17 to $0.21. So I just wanted to see how much flexibility that you had in terms of taking that fee up more and what the franchisees would think about that? And if we could talk about what percentage of the international stores are currently paying the fee and if that is a long-term opportunity?

Right. So we are still at $0.21 domestically. It's a little bit higher outside of the U.S. just because there are some costs of getting smaller markets up and running on the platform. Today, we have a reasonable number of international markets that are operating; I think it's kind of 20-plus countries that are operating on the global online ordering system. Many of those are smaller, so it is still a relatively low percentage of the system. The biggest market that is on our platform today is Canada. But we've got a lot of markets in the Caribbean, a few in the Middle East, South Africa, and some of our newer markets that have been opening. Certainly as that expands more around the world than it has been growing, we have been adding countries to that. It is an opportunity. It is global enable, so we've got a system that will operate in multiple markets. So there is an opportunity there that those digital fees will grow just as the number of stores around the world is added to the platform. And in terms of that charge, right now it is at $0.21. Clearly investments that we've been making have been working. As we talked about often, the return on investment on our digital platform has been terrific. You've seen that playing out in our comp growth. We are committed that we are going to generate a good ROI off of that and what good means for the future we will work through, but right now we are still at that $0.21 that you called out domestically.

Great, thank you very much. Two things. One, Patrick, just you mentioned in the sustained success and how you don't necessarily plan on a 13% comp when you go into any quarter or year. But maybe on that, are there any hidden challenges that maybe we don't appreciate, whether it's capacity in-store? I think you touched upon the supply chain or from a labor or guest satisfaction perspective, are there any areas that you get caught off guard when you have this type of volume growth that you are then forced to play defense on?

Not really, other than we've already talked about in terms of just the sheer volume. I mean you heard me say before in terms of what I worry about. I wake up every day and I worry about cybersecurity and I worry about food safety. Those always have to be top of mind and you are never going to be in a position where you can relax on those things. But in terms of the volume growth and what worries me there, stores that have been doing a terrific job of handling it, we are building more stores which will help any capacity constraint there, the supply chain; we've said we are going to need to invest in, but the team has done a great job of kind of keeping up. Our technology folks have to make sure that we got enough capacity and that the pipes are big enough to handle all the volumes that are going through. But in general, we feel we've been in awfully good shape on those fronts. So we know where those constraints could be and actively have been managing that.

Got it. Then Jeff, just on the return of cash, I think you mentioned in your prepared remarks the Board looks at the return pretty regularly in terms of presumably I guess right now the balancing of a dividend and share purchase. But with the stock price appreciation, now the dividend is a modest, right now I guess it's a sub-1% yield. So just wondering is there a target level or what goes on in the boardroom discussions, and is it just preferred flexibility of share repurchase over dividend or could in any one year those flip? Or just wondering what the thought process is behind the choices there.

Yes. I can't tell you everything that goes on in our boardroom, but what I can tell you that we have a very astute board who has been around a long time with us who understand that we are serious about optimizing our capital structure. We will continue to be serious about optimizing our capital structure. And if that provides us with an opportunity to have some excess cash, we are trying to roll through with them the different menu options that we have. As you know, we've have a history of really kind of being flexible depending on what's going in the marketplace, both with capital structure choices as well as use of cash choices. We feel good about the choices we've made in the past. Going forward, we are fully flexible; we do have about $925 million of debt which is due in January of 2019 which is par callable without a penalty in July of 2017 next summer. And so again, it doesn't mean that we are going to hit it. At that point in time we could go early or later, but back to use of cash, our board has liked the fact that we've done an ordinary dividend in the past. I can't control the yield; obviously, the investors control the yield. But now, listen, we are comfortable with the way we spend our cash here, and it is going to continue to be a challenge, hopefully going forward if our operators continue to perform the way they have.

Great, thank you. I just wanted to come back to your philosophy on menu pricing. I think every quarter we are hearing traffic is up pretty dramatically, but the check is flat. So are you taking any price and are we seeing maybe mix kind of declining, or what's your philosophy and how should we be thinking about pricing going forward?

Well, ultimately pricing is getting set by our customers. And customers continue to be a little bit cautious as they have been since the recovery. And we've been finding ways that we can create great value for them and continue to accelerate the profitability of our stores. So feel good about kind of the balanced approach that we've taken there. There are certainly over the course of the last few years, on average we've seen a little bit of ticket growth. But the majority of our growth has been through orders. We think that's a healthier way to do it. Ultimately, the health of the business is going to be driven by order counts and how many people are choosing to do business with you each day. But we've cautiously found ways to get ticket. Remember, ticket is a function both of price and also how much in that basket. And so when you see us launching salads or we launched the marble cookie brownie last year, those sorts of things are allow us to have smart upsells. There can be a way of growing the ticket without necessarily taking price.

Got it. And then, can I ask on the salads, are the salads, are the gross margin on the salads, are they higher or lower than the overall pizza menu?

Yes. Not going to get into the specifics on that, but we feel very good about where they are and how they are performing. They fit nicely into our $5.99 mix-and-match.

And then lastly, given the store performance, the comps and the EBITDA improvement that are likely coming for this year, are we going to see more of the DXPs or are the franchisees asking to get more of the DXPs in the market?

They are. And kind of our initial run is done. But there is some demand for more out there. There was a model change and the model that we put it on. So if we are going to do more, we actually have to produce new tooling, and so I am not sure that we wind up doing that unless there was a lot of demand for more there. We certainly could have our franchisees buy more if they are available today, but that is something we will look at. But I will tell you, customers love it. I mean for the relatively few number that are out there, the visibility of those cars is terrific and we get an awful lot of comments about them.

Since it has been answered, but I do want to ask a broader question about the pizza industry. And you mentioned about the 1% to 2% growth in the broader industry. Do you include fast casual pizza players within that 1% to 2%, and do you see any sign of a potential shakeout in that segment, and do you see any lift-off from that?

We do include them in the overall category, and the overall category growth in the U.S. continues to see stores getting built. I don't know that I would call it a shakeout, but I am relatively confident that at some point, you will see consolidation. There is a lot of players that decided that it was a good new -- a good idea at roughly the same time. And enough similarity in approach that I wouldn't be surprised if you saw some consolidation at some point. In terms of shakeout, I don't know, I mean that implies closures, but I guess what I'd say when you heard me say before, which is fast casual pizza to me is really about the idea of a better environment, great food, still needs to be fast, value still needs to be there, and we are working hard at all of those consumer benefits. And that's why we think we are growing so strongly. So they are out there; they are growing. I just don't view it as a new category. I view it as new competitors who frankly have been taking share from moms-and-pops and regional chains that simply haven't been performing as well. So the overall thesis on the category I think remains the same, which is there is limited growth in the category. You are seeing big players take share from smaller players on average. We have thankfully been getting more than our fair share though. We had always like even more than that. In the fast casual players, as they are referred to, I just think they are people who are doing a nice job with their pizza restaurant and they are taking share from existing players.

First, can you just talk about your ability to compete with grocery stores versus maybe the rest of the restaurant industry? And secondly, if you can talk about any competition that you see coming from gas stations as we look at Casey's or grocery stores within the pizza category?

Yes. Look at the end of the day, I suppose anybody who is feeding anybody in the U.S. is competition. As it relates to pizza and frozen pizza or take-and-bake, there is some interplay between our category and those categories, but not much. I mean during the time when you saw a lot of growth in frozen, we just couldn't see that it was directly affecting us much if at all. And so the same is true of gas stations. Any take-and-bake, it is out there, but I am just not so sure that there is that much interplay there. My view on frozen pizza in particular has always been that I think frozen pizza, despite how they try to position themselves, tends to just cannibalize other frozen food as opposed to cannibalizing the fresh pizza category. And so I think despite how they try to position themselves, one more sale of frozen pizza is one less sale of frozen lasagna. And I think that's why you haven't seen the overall frozen category grow much in grocery over the last few years. There was some time when they were adding doors of frozen pizza, and that was growing the frozen pizza category. But I don't think you saw a lot of net growth in frozen prepared food overall. So I think that is more a competitive issue within grocery and within the frozen aisles than it is necessarily to the pizza category.

Now that concludes our questions for today's call. I'll now turn the program back over for any closing remarks.

All right. Thank you, everyone, for joining the call today. We look forward to seeing many of you at our Investor Day in January. And following that we will be discussing our fourth-quarter and full-year 2016 results with you on Tuesday, February 28.