Labor Costs Bite Cheesecake Factory's Sales
The Cheesecake Factory’s second-quarter earnings may have been disappointing, but the market’s reaction was far more dramatic—to the point that it experienced the worst single-day trading plunge since 1999 on August 1. The Cheesecake Factory opened at $56.49 yesterday and hovered around that mark until the release of the company’s quarterly earnings and subsequent investor call pulled the bottom out. Stocks tumbled as much as 14 percent in after-hours trading, according to Bloomberg. It hit the lowest point at $48.04 Wednesday morning and regained a little ground to close at $49.06.
Same-store sales were up 1.4 percent and revenue gained 4 percent to $594.2 million—both of which matched Wall Street predictions. Nevertheless, net income dropped from $38.2 million with an EPS of $0.78 in the same quarter last year to $28.4 million at $0.61 per share.
By the company’s own estimation, three costs played a prominent role in its unsatisfying results: labor, medical, and legal.
Across the U.S., cities and states are raising the minimum wage. While all restaurants are feeling this margin pressure, it is especially pronounced for larger, national chains like the Cheesecake Factory with operations across many states and municipalities. The most recent round of changes changes pushed labor costs up to 35.8 percent (as a general rule of thumb, labor should not exceed 30 percent).
“To help address the upward pressure on labor costs, we are deploying enhanced labor-management analytics to provide additional visibility to our restaurant managers and detailed staffing needs by position and market-based wage rates, as well as more granularity on overtime levels,” said CEO Matthew Clark on the call. He added that the company would also employ market-based pricing strategies in higher-wage markets, meaning consumers in cities like San Francisco, Seattle, and Washington D.C., could see slight price increases in the coming months.
For healthcare expenses, group medical costs were up $4.5 million compared to the previous year, which in turn decreased profits by 7 cents. Clark said the costs were mostly due to large claims coalescing in the same quarter versus last year, which was less costly. Because the Cheesecake Factory is self-insured, expenses can vary quarterly or even annually. But, Clark said, that route is more cost-effective for the brand in the long term.
“Trying to get [insurance costs] mapped out quarter-to-quarter can be challenging,” Clark said. “We haven't materially changed our outlook on the group medical, utilizing a longer term average for any given quarter makes more sense than whatever the experience was in this quarter.”
While Clark was noncommittal when it came to predicting whether medical costs would be so high in the future, he was adamant that the increased legal expenses the Cheesecake Factory faced this quarter—to the tune of $4.5 million year over year—were an anomaly. He was tight-lipped as to the details but did confirm that were “two distinct cases.” He added that additional details would be included in the forthcoming quarterly report.
Like many large chains, Cheesecake Factory faces its share of legal action on a regular basis. In early June, three black women in Los Angeles sued the company, citing racial discrimination. Just a month earlier, the California Labor Commissioner ruled that the company and its janitorial subcontractor would pay $4.5 million to 559 janitors who were earning less than minimum wage and denied overtime.
“It is a litigious environment for sure, and we see a lot of cases across the board in our industry,” Clark said. “There's a lot to manage today—I think—with the complexity of the regulations that have come on board and just trying to stay on top of that.”