Shake Shack Inc. (SHAK) Earnings Call Transcript & Summary

It's John Ivankoe with JPMorgan. Very happy to have Shake Shack here today. Shake Shack was led managed IPO back in 2015 from JPMorgan. It's pretty early in that cycle, and it's been absolutely fascinating watching what really was a very young growth stage company and mature into what has been a very important brand in the U.S., now putting $1 billion approximately in sales over this past year. Welcoming -- for me welcoming Randy Garutti, the company's Chief Executive Officer, friend of mine, great to have him on stage. I consider us. And Katie Fogertey, is the company's Chief Financial Officer, obviously, with a lot of recent finance experience, including having my very job at Goldman Sachs. It's always a fun conversation to kind of have somebody in the seat on the other side. So thank you very much.

And you guys have obviously been through kind of a lot of work in transitioning, building what has been a relatively small company into arguably a big brand, right? I mean, so you were [indiscernible] I kind of talk about that $1 billion revenue number, still very, very small relative to a lot of your peers. And so as you try to build the scale and build your capability, really, where are your priorities? I mean, you can't have the same priorities with the same amount of spend as where your peers are. So given the realities of your business, where is the current focus as we think about 2023 and maybe the next couple of years?

I'll start and Katie jump in. First of all, it's good to be with you, John, and everybody, thanks for taking time with us. I'm glad you brought up that memory of 2015. We went public at just over $100 million in sales and less than 70 total restaurants. This year, system-wide sales is around $1.4 billion. When you think about that, we've overachieved nearly every target we ever set in guidance that we set over the long term. And that's been pretty exciting for us. And I think, John, you fairly noted, we're in that -- I don't know if you want to call it adolescent phase or whatever, it's a really interesting both a huge asset to us and great challenge because we're not yet at the scale where we can do a ball game advertising or mass international or national advertising and those kind of things. We're not -- we're still at a scale where we need to be investing in G&A, in building our restaurants. And yet, we are at about 450 restaurants worldwide and very clear and confident in who we are. And I do think -- I hope you spend some time today talking about our international license business because I think more of the most undervalued and less understood things about Shake Shack is how powerful it is that, we're actually about a 40% franchise company. We don't talk that way. We don't act that way because we really like our returns in the United States. And if we can build a Shack, we're going to own it. But we also love that in a few weeks, we're opening in Thailand. We'll be studying different parts of Asia. We have over 32 restaurants in Mainland China, Hong Kong, Macau. It is a vast worldwide global brand at this point. And I would say, since the day we met you and today, we punched so far above our weight for who we are as a brand. And I can guarantee that we will open in Thailand and there will be 500, 1,000 people online, and it will be a shocking exciting start. So the brand power has probably never been better. Where are we focused, to your question, really 5 main priorities right now. Recruiting rewarding, retaining our team. It has -- it is not an accident that we have struggled through this last few years. The restaurant business will always be hard to hire. It has been since I was 13 years old working in restaurants. And it is still hard today. It is better than it was at the depths of 1 year ago or 2 years ago during the hardest parts of hiring a COVID, but it is still harder than 2019. And we've got to start there for everything. Second, it's about the guest experience of Shake Shack. And we are relentlessly focused on that through food, through experience, through digital, all the investors are making to make it a great feel. Third is our real estate strategy, which is we're really starting to hone in on new formats and are doing our core formats better, building restaurants at a good pace that can have great returns and adding drive-through, which I'm sure we'll talk about as a key part of our strategy. Fourth, it's about recapturing the stronger margins that we've had in the history of this company that have suffered more in this last few years through inflation, through some of our challenges. And frankly, through our real estate footprint, that was a huge positive to us pre-COVID and has been, I think, relative to our peers, definitely something that's been more of a unique struggle for us. And lastly, investing with discipline. Really watching our G&A, making sure that we can begin to see the long-term leverage for these things and making sure that when we invest in capital spend to build restaurants, to build digital tech to remodel our restaurants, those are the best investments they can be. And the last thing I'll say on that is we have -- we were lucky -- I'm not lucky. I think we had a strategy through COVID to fortress our balance sheet. And you look at what we're able to do is quite prescient when you think about this weekend. We were able to borrow -- have a convertible debt line of $250 million at a 0% interest rate. And we have that through 2028. And so when you think about the power to have to be able to do that at a 0 cost was incredible and has set us up to really be able to make smart long-term decisions and invest that capital with this one. And you've seen us been doing that. I'll pause there.

No, that's perfect. So let's kind of hit them point by point. Team retention. I mean you do have an operationally intensive system, not everybody wants to become a district manager that starts in your stores as a day 1 hourly employee. How do you make -- how do you improve team retention? I know there is tips, there is kiosk ordering, obviously, digital ordering. So that takes maybe some of the pressure away from the person taking the order, but the kitchen is still an intense place to work. It just is, for every restaurant, but you're certainly -- maybe even magnify to some extent, considering it's in a fact and I'd like to say, quick service in a fast service type of environment. To talk about big, what you can do to make that job better and to become a more valued employment propose.

Yes. When any time we travel, Katie and I yesterday were with our teams in Las Vegas. We had a dozen managers from all over the Vegas Shacks, which is a great region for us, very profitable region. And we talked about these very challenges. And it's a few main categories that are obvious, but we've got to pay more. That's the pressure on our P&L. We've been fortunate to add tips this year, which we weren't sure about, and it was something our guests had asked us for a while, and we're very humble about it. We don't put it in your face. We don't start at 20%. They're like a lot. We leave it very...

Look for 40%.

I mean, like -- so that's had a nice impact and we think that will have a good long-term retention impact. Adding benefits, constantly adding benefits. We are doing -- you've heard us talk a lot about 4-day work weeks. There are a lot of Shacks where we continue to test and learn that managers work 4 days, and that's huge. You better believe that's a retention effort and opportunity. We're doing that more. And then it comes down to just trying to simplify operations as much as we possibly can. So it's a great place to work. And with all of that, if you were around that table with us yesterday with our team, you would see every one of those people started here and went up here, and we have to provide that opportunity. And we can only meet our growth goals if that happens. I said all the time, like if you had asked me at the IPO, what are the things that keep me up at night, I gave 3 things. I want to make sure we can find the great sites that we've always been able to find. Check. I do not worry about that for one second. Second, supply chain. I want to make sure we can actually get across the country and around the world. I don't worry about that for one second. It's hard work -- all of that is hard work, but it's not keeping me up at night. The thing that will always keep me up at night, and I believe the only thing that stops the party is not being able to find, train, retain exceptional people to build and lead our Shacks. And that has been harder than ever in the last few years, but it's also our sweet spot. And it's getting better, and that's why it's the #1 focus.

Kiosk ordering, I think it's in 100% of your store -- sorry, you can go ahead, if you want to add.

No, you can ask your question.

Well, I'm sure well probably you can just dovetail into this kiosk ordering, I think it's at 100% of your stores now.

Well, we have guided that we're going to be rolling out kiosks to nearly all of our stores by the end of this year. We've made a lot of progress on that goal. We're proud of where we are, but we do still have some more stores to have.

Okay. I think we have about 50 or 60 roughly Shacks to go and to get to. It won't be 100%, 100% because there's some like a food court here and there, things that mind that make sense. But by the end of the year, effectively all domestic company-operated Shacks will have kiosks.

How -- and so, it -- may be it's better for customer experience. It might be better for your employee, better for margins, how significant is it?

Yes. I mean, so Kiosk, let's just start off with all the benefits that we think Kiosk really gets that. So number one, it's our highest check of an in-chat channel. We get great attached rates for cold beverage for LTOs. People are adding more premium items to their checks. And if you ever have a chance to experience a kiosk in the Shack, I really encourage you to do it and compare that experience to waiting in line and going up and ordering at the cashier of Shack. Two very different ordering experiences. And by the way, there are guests who still want to have that in-person experience. We want to be able to provide that. But for especially our younger guests, those who have kind of grown up with a smartphone, they get there, they had seen there, they had all the different parts of our menu that they can just go through and navigate really in a great way, and our visual really describe what the product is, whether it's our white truffle, whether it's our amazing [indiscernible] right now, the guest comes in and they see that and more often than not, they say I want that and they add that. So it's a high check occasion for us. It's also our highest margin channel. And we're also able to -- look, there's been a lot of pressures on Shake Shacks since COVID and staffing pressures have been one of them. And so in the moment that we haven't had a full team to operate when the Shacks that have kiosks, we're able to just do that a lot better. We're able to give our team members kind of more tools to help navigate these pressures. And in Shacks where we have kind of the full staff were open, everything is great. That kiosk just lets us do more orders. You can have 4, 5 kiosks and 1 person bringing cash. It's a really good background there.

The other thing it's allowed us to do, and this sounds like a small thing, but it's a big thing is in most Shacks, not all, we now bringing your food at your table. And it's kind of an added level of service that you may or may not have even noticed your experience. A lot of Shacks, we don't do it. It's kind of the high volume Shacks, you can't really do it because people are standing everywhere. It's busy if you go to Lincoln Road in Miami, that one, I don't know if we do it. But a lot of what we're moving towards, if we were in Summerlin yesterday, kind of a typical really strong, awesome, everything about that Shack from a unit economic model is fantastic. And it -- you order either on the kiosk or with a cashier and we then bring you your food. And there's a whole kind of added layer of service. And that's part of not being a fast food restaurant. And just trying to say, okay, I understand why I want to come here at pay a little more, why I come here, I understand the ingredients we are better and these people are a is,"Oh, maybe I'll give them a tip because of that, too. So that's part of the whole strategy of guest experience in the second real strategy.

And I assume in the fourth quarter results and your first quarter to-date, the benefit from kiosk probably hasn't really been realized, I would assume, right? That's on the -- in the...

The benefit of kiosk will be most realized throughout this year in internet. But back to Randy's earlier point, it is definitely much more comfortable, especially when you have kids to be sitting at your table waiting for your food and friends standing there waiting for your order.

Okay. Sounds good. So let's -- team retention, guest experience, now it's interesting, balancing simplification with the brand when it was built, like as we saw very focused brands, and then you add a chicken and you started doing some more LTOs and that concrete and then started scaling back maybe coincident with COVID, maybe you probably would have just simplified some operations even without it, but it's just kind of an interesting point. So how do we kind of talk about guest experience and flexibility making Shake Shack special with operational simplicity, which I think you led with on the labor side? So where [indiscernible]

Constantly, John trying to balance that and not making too many additions to our menu. We've really done that if ever. And as you noted, we can pull a couple of things off. We fight about those things all the time during COVID. If you were only up to me, they'd probably all be back. But I also intellectually understand there's been some important gains in our efficiency. But let's start with like the brand again. Like we need to do what everybody else is unwilling and unable to do. If you look at it right now, we're serving a white truffle burger for under $10, with the most amazing organic real, not white truffle that you get on some fries in every restaurant. The real organic yes, that is actually the real organic white truffle for $9.99. Now when you look at -- we can spin this in a lot of ways, but understanding who our guests is, it's very clear to us, our guests tends to skew more higher income. That has been a great strategy for us. We believe it will be a good strategy through the uncertainty of the time that we're living in. But that doesn't mean we don't want to go after all guests in lower income and frequency, but that has been a part of the kind of the brand halo and the straight numbers are, it works. When we do LTOs, it works. We launch them on digital first. We pick up a ton, when you talk about customer acquisition, especially free customer acquisition on our digital channels every 3, 4 months when we do LTOs. And White Truffle is just the most recent example. We'll have a fun slate of that. What are we doing to keep it as simple as possible. Well, we can't do too much all at once. You got to spread it out. If you look at the pattern of our LTOs, now there are probably less of them, but they run a little bit longer. It's the way that we make them is deeply ingrained in our operational system, like it can't be -- believe me, you come to our Innovation Kitchen in the West Village in New York City, like we'll have a really good time. And 90% of that stuff should never hit the menu because it's either too complicated, too much, and it's got a hit. So for us, we're constantly testing in that kitchen and other Shacks, what kind of stuff works and then how to make it operationally the most effective it can be. And we know we need that more than ever, given all the labor stuff we're just talking about. And that's a huge part of the guest experience that we got to add for -- you're not going to see anyone else in our level of the industry, put out the items that we put out. And that's a critical part of our long-term brand.

On the call -- and I did really pick up an increased focus on this fourth quarter conference call, focusing on every line in the P&L. So let's take that. So prime costs are kind of -- it's like a magical thing in the restaurant industry, where probably which is basically food plus labor, different ways that you can allocate what's done in store versus what's done out of store. But the numbers never get really below 55. They're never above 65. They're somewhere in like the high 50s to low 60s like everybody. So yours are kind of like they were mid-50s, now they're kind of high 50s, so they don't seem to be completely out of black. I mean that's how that for technical [indiscernible]. So you suggest, okay, so the opportunity would be on your more fixed cost part of your business, which, of course, is going to be volume driven. So that would be the 50,000-foot view. But it dropped a little bit like you specifically say, okay, we do have real opportunities here that you can.

So first of all, just look at the cost. One of the things that has impacted our cost of goods sold is our off-premise mix, because the food and paper is what's in there and our off-premise orders, they just cost more. So one of the key strategies we have here is just reducing the amount of expense that we have in our off-premise orders. We also are continuing to invest to drive more people into our packs. That's where we really win. And that's where the wind is at our back, to say. And so when you kind of look -- think about food and paper, people will do what people do. There's some other kind of volatility that we're going to have because we just don't contract things out. But when you think about that mix of off-premise versus on-premise, it really does show up in food and paper. We also tend to have higher beverage attach rates for our intact orders as well. So then you go to labor. Okay. Randy just talked about how we've had high turnover in the restaurant industry. So that is an impact to our hourly labor costs. Our teams are just not as efficient as they should be when they're all brand new and you're constantly training and trying to bring people up. And so hopefully, and we're excited by what we're seeing, but hopefully, we'll continue to see gains on retention. It's absolutely critical. And we also try to -- we'll see kind of how certain strategies play out as well to help kind of bring a little bit more labor out of the Shacks. And then you go down to the other OpEx line. So delivery, delivery expenses, that's where that lives. And so when we talk about the rise in off-premise ordering and delivery, that's just a higher expense. And as we drive more people into our Shacks and then into our own delivery channel as well, that's a benefit. And then there's other issues in there, which we've called out before, like R&M, utilities, expenses. We had a lot of T&E in the fourth quarter around all the openings and some of that overhangs into the first quarter. That's a little bit that we're dealing with. And when you go to the guidance that we gave for this quarter for 16% to 18% margins, we talked about those 22 NSOs in the fourth quarter having a little bit of overhang. What that is, is when you -- we opened so many restaurants in the fourth quarter, you had 36 here. That's great. 22 happened in the fourth quarter. Our team members are still brand, brand new, and we are working to get more efficient. That is probably the best lens to look at what efficiency means for the business, Shacks.

And so -- as you have -- you're not doing many markets de novo at this point. Maybe I'm sure there's some...

Got a couple of new markets, but it's mostly focused on going deeper. That's a part of the strategy.

Being served from like a market that's not so far away, where you like people are kind of like driving, fly in a team and getting corporate departments, what have you. So how much of an opportunity is just, hey, we're much more efficient at opening new stores than you were previously when you have one store in a market that wasn't driving this and saying, anything else would must have been very inefficient.

It's a big long-term opportunity, John, not just -- you'll see it in the restaurants' P&Ls in the Shack level op profit, but you'll also see it in pre-opening costs over the long term, and you'll see that hangover that Katie talked about like, it sounds like it's not a new market, but there are times where you still got to fly in a team. They got to stay there. They got to do it for a month and they got to get up and running and we've had, certainly in 2022, and '21, a lot more hangover. Of course, this is a brand-new market. We got to slide people in. You go to Baton Rouge, okay. We open at Baton Rouges, awesome Shack, drive-through really cool. It's Baton Rouge. Nobody knows who Shake Shack is. Yes, there's a group of people who know. After they kind of come through in the first month, well, then nobody knows. And that's not a -- I'm not even talking about the guests. I'm talking about hiring because I never heard of this thing before. Why do I choose to work there? So what do we have to do? We got to bring people in and grew that up. And that's -- we're still at that stage. So when I think about long-term economies of scale, going deeper in certain markets, it's just such a powerful opportunity. I was in Salt Lake City a few weeks ago. We have 3 Shacks there. We have one at the airport, license deal, and we have 2 really kind of flagship awesome Shacks, and we're building a bunch more. And we get no efficiency out of that region. None. It's really hard to run. And we kind of got to have an area director on the corporate G&A to get that going even -- so it takes some time, a few years. We've thought of it kind of as a minimum of 5 Shacks in a close region that you start to see some economies. And then it's really 8, 9, 10 where you get a truck full of fries. You get to borrow a cup of sugar. We're at the Shack in Summerlin yesterday. And the guys from the Vegas trip are bringing over lemonade because they ran out, like that stuff has a powerful scale of impact. And I think people forget because our brand is so big. And everyone else you follow and you spend time with is so much bigger than us. And everyone that you might compare us to. When you say, why are they doing that? Or that has thousands more restaurants than we do, much more geographically dispersed. We got to catch up. And that's the journey we're on. That's the end. And when you look at what we've told the world, that's the journey we've delivered, and we're going to keep delivering on. But we also got to -- it's what excites us about the current near-term and long-term opportunity for this company, where we can start to capture some of that.

Is that -- in terms of the -- excluding pre-opening, even excluding G&A, I mean, is that 100 basis points of store P&L of inefficiencies?

We haven't guided to it, but I think it's a combination of it -- it's a piece of it, for sure. And it will play out in every line item. It will play out in COGS, and our ability to buy better over time. It will play out in people and our ability to find higher routine, keep you there. We had a guy yesterday. And these are the -- I think it's important to tell stories because you all got to -- got to understand, it's not an Excel spreadsheet, right? This is a guy who started in Chicago as an hourly team member, did a bunch of Shacks in Chicago. Now he's an exempt manager, the guy is probably making $60,000 a year in Las Vegas, taking care of his family. The more of those that you have, the more you can open up and you can say like, yes, my Grandma lives in San Francisco, I want to move San Francisco. Cool, we got Shacks there. Let's go. That stuff is a powerful retention tool and attraction tool. And it scales in a huge way over time. It's like a network effect. You've got a network effect of software and things like that. There's a network effect that happens internally and for guests, by the way. I'm going to totally shift gears because this may be think about. What do you think the #1 reason when we ask people, why don't you come to Shake Shack more often?

I'm sure it's location.

Yes, there isn't one close enough to me. And that's -- I love that, that was the true answer. If the answer was something else, we'd have to really think differently when the answer is, well, I love it, but I like it if you brought one close to me. We know that's the big opportunity, and that happens over time in an appropriate way, and we think we've got the right base on that.

So you are not capital constrained, and we've spent a lot of time talking about OpEx. And you actually basically never get the question on CapEx. It was kind of interesting doing. I just like -- it's lazy math with the math. $143 million CapEx of [indiscernible] $4 million is the store. And you're like, wow, it's actually a number because -- and your system is young enough, you don't have a lot of like, hey, I know there's a couple like Columbus near the -- excuse me, non-Columbus Avenue near the park. So excuse me up for that. So you're not doing a lot of maintenance CapEx. So help us kind of understand that market because that's kind of like that return?

Right. So we have -- if we look at this year, how we ended this year, 2022 into 2023, we have a number of Shacks under construction. I think we talked about more than 20. And all of that fits in that kind of spend.

And then you get some 21 CapEx that...

Not as much. And we had a little bit more of development issues in meeting targets last year that we are getting to not repeat this year. I think that's a little bit of what you're seeing. We just have a lot more under construction today. We also have our digital business and kind of making those strategic investments to continue to develop that is important, and we're doing it in a very strategic way. It's part of our key priorities as well. And then if you -- we do have -- as our Shacks age, we will have more maintenance CapEx. It's just going to happen. We're very strategic about how we do it, but it's just lot of numbers. And a lot of supply chain issues that we talked about with our ability to open up restaurants, we're also seeing that on the maintenance CapEx side. So sometimes it's harder to get certain things and then cut my costs a little bit more in a specific moment. But those are kind of some of the larger buckets.

You joined the company without a CapEx guide which a lot of people kind of forget, like, hey there's not a CapEx. So that number was relative to the start of the year. I don't have to look, but I'm sure it was higher, like in terms of where you were. So how do you think about -- we can talk about drive-throughs might be a perfect time in talking to kind of segue into that. Do we think about, hey, what are we spending on average for a new Shake Shack store because that really is...

Yes. So we talked about the number. It's $2.4 million in 2022. We're expecting the class of 2023 to be about at that range, but we have a much higher mix of drive-throughs this year. And Randy, why don't you talk about it.

Look, we thought -- we think this year we'll do about 10 to 15 drive-throughs and the roughly 40 company-operated Shacks. And those have a higher initial cost. They also will have a much higher initial cost in this first group of a couple of dozen of them. We are -- we talked about it. You've heard my language before, John, it's we're optimizing that for learning. We're going to spend a bunch of money right now for a potentially huge unlock. And that is a smart use of CapEx that you may look at it in the near term and say, "Oh, they spend high $2 million or $3 million on a drive-through. That's a lot of money. Yes, it is, and it will come down. And that is what we've told everyone. We've shared that guidance that we think we can be in the mid- to high 2s on some of these next-gen drive-throughs, but they take time. And when I go back to the city tomorrow we have an awesome meeting with our team, where we have 2 teams stood up to really look at the long-term cost reduction of the per Shack CapEx. But as you know us for a long time, and I've been with this company more than 23 years, like we are long-term thinkers. We're not thinking for the next quarter. We're thinking, let's get the drive-thru right. And we got a lot wrong. And this one, we got a lot right and this one, we messed up on that or whatever. And let's figure it out, let's learn and there will be a lot more drive-thrus if we do that. And that takes CapEx to it's commitment. But I want you to hear when we get to the last one of investing with discipline, there is more discipline than ever on really critically thinking about how to make those restaurants better at a lesser cost. And that is our commitment to doing that over the long term. But it's -- I was not just make this about drive-thru. That's true about core Shacks. It's true about everything we do. And that's a workflow, that's a big part of our year this year and ongoing.

I don't know what's happened to our time. So I want to make sure we talk about international. So licensed -- it's basically -- the reason you don't get a lot of focus. So it's basically $30 million of license revenue relative to $150 million in restaurant -- company restaurant operating income. So it's still -- that's pre-G&A allocation, we can talk about that pre-opening. It's still like not that big of a number. But you talk about, it sounds like, hey, the Street is missing the focus on this and how important that business is?

I think it's so important. And I think the only way for you to understand it is to go, experience it and watch it. See it. When you see it, and you'll be -- you'll walk into. We're reopening in Wuhan, okay? Like you go see Shake Shack in Wuhan. You're going to be like, "Oh, my God, I can't believe this is amazing. And wherever it is. So that's all fun and brand.

Have you been in Wuhan?

I haven't visited Wuhan. We won't go, we won't do that last minute, but I was in China the day Wuhan shut down in 2020. And that's when we were choosing our sites in Shenzhen and Guangzhou and some of the other amazing places where we are. I think the important thing to note is not just international, and those are fun to talk about, it's domestic airports, which we do extraordinarily well, stop by the Las Vegas Airport on the way out, and you will see an amazing Shake Shack. It is roadsides, another unlock for us, John. We're doing more road side. You'll see it on the New Jersey term pike. You will see Shake Shack in the New York throughway and who are we trying to be? There has never been a person who isn't disappointed when they pull over for gas on the highway with the options. Well, you're not going to be disappointed anymore. You're going to see Shake Shack doing those kind of things, stadiums and all that. And it's a highly efficient asset-light part of our business that we intend to grow in a huge way. 33 Shacks last year and more on the way.

And you're happy with the way the brand has executed most importantly.

Oh, yes. Look, like any relationship, you got issues. And we have -- there will be moments over here, there will be moments over here. On scale, we team up with partners who are incredible operators that deliver our brand in amazing ways that we learn from. So I think the international and license piece is a huge part of the opportunity and will deliver very efficient EBITDA over the course on.

And we will make sure that we will focus. We do model it obviously separately, but we'll make sure that we focus on that more on our end. So thank you very much. Thank you, Randy. Thank you, Katie.

Thanks, everybody.