Nathan’s Famous, Inc. — FY2016 Form 10-K
Business context and reporting period. The filing covers the 52-week fiscal year ended March 27, 2016; it is an annual report, not a standalone fourth-quarter filing. Nathan’s generates revenue through branded foodservice product sales, company-operated restaurants, retail licensing, and restaurant franchising. At year-end, it had 5 company-owned restaurants and 259 franchised or Branded Menu Program outlets. Its products were distributed through approximately 55,000 locations, including about 42,000 retail stores.
Financial performance and liquidity
| Metric | FY2016 | FY2015 | Change |
|---|---|---|---|
| Total revenue | $100.9 million | $99.1 million | +1.8% |
| Operating income | $25.0 million | $20.0 million | +25.1% |
| Net income | $6.1 million | $11.7 million | −47.9% |
| Diluted EPS | $1.37 | $2.55 | −46.3% |
| Adjusted EBITDA* | $27.2 million | $22.5 million | +20.7% |
| Cash from operations | $12.5 million | $13.3 million | −6.1% |
Revenue and margins. Product sales were $76.0 million, up 0.7%; license royalties were $19.8 million, up 10.0%; franchise fees and royalties were $5.0 million, down 9.6%. Branded Product Program sales were $58.5 million, down from $58.9 million: volume rose about 4.6%, while average selling prices fell about 3.7% as beef costs declined. Company-owned restaurant sales increased 5.0% to $16.7 million. Gross profit on product sales was $18.0 million, or 23.7% of sales, versus $13.6 million, or 18.0%, mainly reflecting lower hot-dog costs and restaurant price increases.
Profit drivers and cash flow. Total costs and expenses declined 4.1% to $75.9 million, including a $4.0 million reduction in cost of sales. General and administrative expense rose 7.5% to $13.1 million. Net income fell despite stronger operating income because interest expense rose to $14.6 million from $0.8 million; FY2015 included only a partial period of interest on the Notes. Investing activities provided $6.0 million, including proceeds from securities sales and maturities; capital expenditures were $1.1 million. Financing activities used $19.6 million, principally for share repurchases.
Liquidity and debt. Cash and cash equivalents were $50.2 million at March 27, 2016, compared with $51.4 million a year earlier; marketable securities were zero, down from $7.1 million. Working capital was $49.8 million, down from $61.3 million. The company had $135.0 million of 10.0% senior secured Notes due 2020, carried at $130.3 million net of unamortized discounts and issuance costs. Annual cash interest is approximately $13.5 million. Stockholders’ deficit was $72.3 million. Management said cash, securities and operating cash flow should fund operations, debt service and planned repurchases for at least 12 months; the company reported compliance with debt covenants.
Material changes versus the prior year
- Revenue growth was modest, while operating income and adjusted EBITDA improved substantially, primarily due to lower beef costs and reduced total expenses.
- Net income and EPS declined sharply as the full-year effect of 10% Notes interest replaced FY2015’s partial-year interest charge.
- License royalties increased to $19.8 million, primarily due to growth under the John Morrell agreement. Franchise revenue declined, and the system contracted from 296 to 259 outlets: 56 openings were offset by 93 closures.
- The company repurchased 449,070 shares for $19.2 million during FY2016. It also had no marketable securities at year-end after selling its municipal securities.
- FY2015 included a $25-per-share special dividend funded largely by the March 2015 Notes offering; no cash dividend was declared in FY2016.
Outlook, risks and unusual items
Outlook. Management plans to expand branded product and menu distribution, retail licensing, franchising and international development, while selectively considering company-owned restaurant opportunities. It provided no specific numerical revenue or earnings guidance. The company expected hot-dog commodity prices to remain volatile in FY2017 and anticipated higher labor costs from New York minimum-wage increases. Management said it would consider pricing and operating efficiencies to offset cost pressures.
Key risks and concentrations. John Morrell accounted for approximately 95% of licensing revenue in FY2016; it is the primary retail licensee and a major manufacturer. The filing also identifies dependence on a small number of Branded Product Program accounts, supplier and manufacturing concentration, volatile beef and distribution costs, competitive pricing, wage inflation, food-safety and reputational risks, seasonality and weather exposure, and risks related to international operations. The 10% debt burden, restrictive indenture covenants, and $135 million 2020 maturity are significant financial considerations. The Notes are secured and guaranteed by substantially all wholly owned subsidiaries, subject to the described lien priorities and structural subordination.
Unusual items and contingencies. The company recorded a $100,000 impairment charge on a long-term investment. A $2.8 million insurance gain related to Superstorm Sandy appeared in FY2014, not FY2016. At year-end, it had a hot-dog purchase commitment valued at $1.31 million, operating lease commitments of $14.4 million gross (partly offset by sublease income), and ongoing ordinary-course litigation that management did not expect to have a material effect. A New York State tax review remained pending; the IRS review concluded without adjustment after year-end. Management reported effective disclosure controls and internal control over financial reporting; the independent auditor issued unqualified opinions.
*Adjusted EBITDA is a non-GAAP measure; the filing cautions that it is not a substitute for GAAP results or liquidity measures.
Important facts for investors to verify
- Whether John Morrell’s sales, customer concentration and long-term licensing economics sustain the royalty growth, and whether the agreement’s minimum guarantees and obligations remain achievable.
- Whether lower commodity costs persist and whether selling-price changes can offset future beef, labor, utility and distribution-cost increases.
- The durability of franchise demand: 93 closures exceeded 56 openings in FY2016, despite growth in selected international and Branded Menu locations.
- Cash generation and the company’s capacity to service the 10% Notes, meet the 2020 maturity, and fund repurchases while complying with indenture restrictions.
- The effect of New York minimum-wage increases on company-operated restaurant margins and franchisee viability, and the status of the pending state tax review and other disclosed contingencies.