Nathan’s Famous, Inc. — Q1 Fiscal 2023 Form 10-Q
Reporting period: Thirteen weeks ended June 26, 2022; comparisons are with the thirteen weeks ended June 27, 2021. Amounts below are in U.S. dollars; financial statement amounts are converted from thousands to millions unless stated otherwise.
Business context
Nathan’s markets branded products through foodservice, licensing, restaurants and franchising. Management identifies the Branded Product and Product Licensing programs as major contributors to profits. At quarter-end, the system included 238 franchised units, four company-owned restaurants and 196 virtual kitchens. Seven Branded Menu units in Ukraine were temporarily closed due to the Russia-Ukraine conflict.
Financial performance
| Metric | Q1 FY2023 | Q1 FY2022 | Change |
|---|---|---|---|
| Total revenue | $39.720 million | $31.319 million | +27% |
| Income from operations | $11.780 million | $10.702 million | +10% |
| Net income | $7.137 million | $5.763 million | +24% |
| Basic and diluted EPS | $1.74 | $1.40 | +$0.34 |
| Adjusted EBITDA, non-GAAP | $12.065 million | $11.061 million | +9% |
- Revenue mix: Branded Product Program revenue was $23.171 million, up 45%; license royalties were $11.314 million, up 6%; and restaurant operations revenue, including franchise fees and royalties, was $4.816 million, up 14%.
- Margins: Gross profit was $4.227 million, or 16% of sales, versus $3.960 million, or 20%. Operating margin was approximately 29.7%, compared with 34.2%; net margin was approximately 18.0%, compared with 18.4%.
- Costs and interest: Cost of sales increased 47% to $22.667 million, faster than sales. Interest expense declined to $1.944 million from $2.650 million, following the earlier debt redemption.
- Cash flow: Operating cash flow was $0.771 million, versus $0.077 million. Capital expenditures were $0.244 million, implying operating cash flow less capital expenditures of approximately $0.527 million. Cash declined $2.395 million to $47.668 million, primarily reflecting dividends and share repurchases.
- Liquidity and debt: Current assets were $70.716 million and current liabilities $17.543 million; reported working capital was $53.173 million. Long-term debt, net of issuance costs, was $108.310 million; principal outstanding was $110 million in 6.625% senior secured notes due November 2025. Cash less principal debt was approximately negative $62.3 million, excluding lease liabilities.
- Capital returns: The company paid a $0.45-per-share quarterly dividend, totaling $1.852 million, and repurchased 20,370 shares for $1.070 million. A further $0.45 dividend was declared in August 2022.
Material changes and management commentary
- Branded Product Program volume of hot dogs sold rose approximately 29% and average selling prices rose approximately 14%. Sales growth also reflected stronger foodservice attendance as travel and venues reopened.
- Average hot dog cost was approximately 21% higher year over year. Branded Product Program cost of sales rose 54%; consolidated gross margin contracted four percentage points as input costs outpaced sales growth.
- Management expected inflationary pressure on labor and commodities, especially beef and beef trimmings, to continue through the remainder of fiscal 2023. Price increases on selected products and menu items were implemented during the quarter, with further mitigation to be considered as needed.
- Management reported no significant supply-chain disruptions to date, but noted ongoing uncertainty from COVID-19, supply constraints, labor availability and rising transportation, packaging and other costs. The filing provides no formal earnings or revenue guidance.
- Management stated that cash, cash generation and available resources should be sufficient for operations, debt service, dividends and repurchases for at least the next 12 months. The board’s ability to pay future dividends is subject to the notes’ indenture restrictions and board approval.
Risks, contingencies and unusual items
- Profitability and licensing revenue depend substantially on the company’s agreement with John Morrell & Co.; management also highlighted beef-cost volatility and the ability to pass cost increases through to customers.
- Receivables increased to $20.851 million from $13.374 million at fiscal year-end. The company recorded $0.081 million of bad-debt expense; it cautioned that pandemic and economic conditions could affect collections.
- The $110 million notes require semiannual interest payments of $3.644 million and have no scheduled principal amortization before maturity in 2025. The company redeemed $40 million of notes in January 2022 and said this was expected to reduce annual cash interest by $2.650 million.
- Ordinary-course litigation was disclosed; management did not expect it to materially adversely affect the company, while noting litigation outcomes remain uncertain. No material asset impairment was identified for the quarter.
- Substantially all cash balances exceeded federal deposit-insurance limits. No open hot-dog purchase commitments were outstanding at quarter-end, leaving costs exposed to market prices.
Important facts for investors to verify
- Whether price increases and any further cost actions can offset continuing beef, labor, packaging and transportation inflation without weakening demand or margins.
- Receivables quality, subsequent collections, and the effect of higher branded-product sales and seasonal working-capital needs on cash conversion.
- Current terms and performance of the John Morrell & Co. licensing and supply relationship, a material dependency identified by the company.
- Debt covenant limits on dividends and repurchases, and the company’s capacity to meet interest and 2025 principal obligations while funding capital returns.
- Developments in COVID-19, supply-chain and labor conditions, and the operating status of Ukraine units and other international/franchise locations.