El Pollo Loco Holdings, Inc. — Q3 2022 Form 10-Q
Reporting period: 13 weeks ended September 28, 2022; comparisons are with the 13 weeks ended September 29, 2021. Year-to-date figures cover 39 weeks. Amounts below are in millions unless stated otherwise.
Business context
The company develops, operates and franchises El Pollo Loco quick-service restaurants. At quarter-end it operated 190 restaurants and franchised 297, across six states. It reported one operating segment.
Financial results and liquidity
| Metric | Q3 2022 | Q3 2021 | 39 weeks 2022 | 39 weeks 2021 |
|---|---|---|---|---|
| Total revenue | $119.9 | $115.7 | $354.0 | $345.4 |
| Income from operations | $6.9 | $14.2 | $20.6 | $32.9 |
| Net income | $5.0 | $10.2 | $14.3 | $22.9 |
| Diluted EPS | $0.14 | $0.28 | $0.39 | $0.63 |
| Operating cash flow | — | $21.9 | $42.3 |
Q3 revenue increased 3.6%, while operating income fell 51.8% and net income fell 50.7%. Year-to-date revenue rose 2.5%, but operating income declined 37.4% and net income declined 37.8%. Operating margin was 5.7% versus 12.3% in Q3 2021; net margin was 4.2% versus 8.7%.
Company-operated comparable sales rose 3.4% in Q3, reflecting a 7.5% increase in average check, mainly from pricing, offset by a 4.1% decrease in transactions. System-wide comparable sales rose 3.8%. Company restaurant contribution margin, a non-GAAP measure, fell to 12.4% from 20.4%.
Food and paper costs increased 13.0% in Q3 and rose to 29.2% of company-operated revenue from 26.7%. Labor costs increased 19.7% and reached 32.3% of company-operated revenue, versus 27.8%. These cost increases, including commodity inflation, wage increases and labor pressures, substantially outpaced sales growth.
Cash and equivalents were $19.3 at September 28, 2022, down from $30.0 at December 29, 2021. The company had $20.0 of revolver borrowings and $120.0 of remaining availability under its $150.0 facility, with $10.0 of letters of credit outstanding. It reported compliance with credit covenants. Operating cash flow fell to $21.9 from $42.3; capital expenditures were $13.0. Finance lease obligations were $1.8, and operating lease liabilities totaled $187.6.
Material changes and notable items
- The company refinanced its revolving facility in July 2022 with a new $150.0 million secured revolver maturing July 2027. Borrowings bear variable rates based on SOFR or a base rate; the prior interest-rate swap was terminated, with approximately $0.6 million received in settlement.
- After quarter-end, the board declared a $1.50-per-share special dividend, payable November 9, 2022, and authorized up to $20.0 million in share repurchases through March 28, 2024. On November 3, the company borrowed another $46.0 million, bringing revolver borrowings to $66.0 million; it expected approximately $10.0 million of cash after the dividend.
- Prior-year comparisons include a $3.2 million Employee Retention Credit that reduced labor expense in 2021. In 2021, the company also received $0.5 million in insurance proceeds related to a legal matter and sold eight Sacramento-area restaurants to a franchisee for $4.6 million in proceeds.
- Q3 2022 included $0.5 million of COVID-related expense. Year-to-date COVID-related expenses were $3.1 million. The company recorded $0.4 million of impairment charges year-to-date, primarily related to one California restaurant.
Outlook, risks and contingencies
Management said inflationary pressures, higher commodity prices, staffing challenges, wage inflation, overtime and other labor costs were affecting results and expected inflationary pressures to continue through the remainder of fiscal 2022. It did not provide specific revenue or earnings guidance in the supplied filing text. The company planned continued restaurant development and remodels; its fiscal 2022 plan included six company remodels and 20–30 franchise remodels using its newer design.
Key risks include food and labor cost inflation, chicken and other commodity price volatility, labor availability and wage requirements, and potential effects of California’s FAST Act, which was subject to a referendum campaign. The business is geographically concentrated: the greater Los Angeles area generated about 71% of revenue. One supplier represented 25.2% of accounts payable at quarter-end and supplied 28.4% of expenses for the quarter. The company also cited COVID-19 and broader economic uncertainty, competition, restaurant execution and development, franchisee health, food safety, leases, and interest-rate exposure.
Contingencies include ordinary-course legal claims; management did not expect their resolution to materially affect results, though a significant increase in claims could be adverse. Potential undiscounted payments under three contingent lease guarantees were $2.4 million. Estimated chicken purchasing commitments were $9.3 million. The company also remained subject to its tax receivable agreement, under which it generally pays former pre-IPO stockholders 85% of certain realized tax savings.
Important facts for investors to verify
- Whether pricing can offset food, labor, utility and other cost inflation without further weakening transaction trends or restaurant-level margins.
- Cash, revolver borrowings, covenant headroom and liquidity after the special dividend and subsequent borrowing; compare the stated expected post-dividend cash with actual reported balances.
- Whether wage and labor regulation, including the FAST Act, changes operating costs or franchisee economics.
- Performance and impairment risk at newer-market and other monitored restaurants, and progress against development and remodel plans.
- Exposure to the concentrated supplier and Los Angeles market, along with the status and potential cost of legal, lease-guarantee and other contingencies.