The Wendy’s Company 2013 Second-Quarter Form 10-Q Summary
Business context and reporting period
The filing covers the 13-week quarter and 26 weeks ended June 30, 2013, compared with the periods ended July 1, 2012. Wendy’s operates and franchises quick-service restaurants, primarily in North America, and reports one operating segment. At quarter-end, the system included 6,542 restaurants, including 1,418 company-owned and 5,124 franchised locations.
Key financial metrics
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Revenue | $650.5 million | $645.9 million | $1,254.2 million | $1,239.1 million |
| Operating profit | $57.0 million | $38.4 million | $79.5 million | $59.3 million |
| Operating margin | 8.8% | 5.9% | 6.3% | 4.8% |
| Net income attributable to Wendy’s | $12.2 million | $(5.5) million | $14.4 million | $6.9 million |
| Net margin attributable to Wendy’s | 1.9% | (0.9)% | 1.1% | 0.6% |
| Basic and diluted EPS | $0.03 | $(0.01) | $0.04 | $0.02 |
| Net cash from operating activities | Not separately provided | Not separately provided | $143.4 million | $68.5 million |
Q2 sales increased 0.9%, while franchise revenue declined 0.6%. Company-owned Wendy’s restaurant margin improved to 16.7% from 14.1%; total cost of sales declined to 82.9% of sales from 85.3%. Same-store sales were 0.4% systemwide in North America, versus 3.2% in the prior-year quarter. Six-month systemwide same-store sales were 0.5%, versus 2.0%.
Cash and cash equivalents were $489.0 million at June 30, 2013, compared with $453.4 million at December 30, 2012. Six-month capital expenditures were $81.8 million, including $44.6 million for Image Activation restaurants. Management expected approximately $163.2 million of additional capital expenditures during the remainder of 2013, or approximately $245.0 million for the full year.
Total debt was $1.471 billion at June 30, 2013, including $248.9 million classified as current and $1.222 billion classified as long-term. The company reported a $200.0 million revolving credit facility, with no borrowing amount stated in the filing. Interest expense declined to $19.0 million in Q2 and $39.9 million for the first six months, from $28.0 million and $56.2 million, respectively.
Material changes versus the prior comparable period
- Operating profit increased 48.4% in Q2 and 34.1% for the first six months, primarily from improved restaurant margins, lower facilities-related costs, and the absence of prior-year impairment charges.
- Net income attributable to Wendy’s improved from a Q2 loss of $5.5 million to income of $12.2 million. Six-month income increased to $14.4 million from $6.9 million.
- Cost of sales declined despite continued commodity-cost pressure, reflecting menu price increases, labor optimization, lower breakfast advertising, and sales mix changes.
- Depreciation and amortization increased 7.8% in Q2 and 32.5% for the first six months, including accelerated depreciation of $4.2 million and $18.8 million, respectively, related to Image Activation renovations.
- Facilities action charges declined to $6.4 million in Q2 and $9.4 million for the first six months, compared with $10.0 million and $16.1 million, respectively. Prior-year costs were driven largely by the Atlanta support-center relocation.
- Investment income and other income declined substantially because the first six months of 2012 included a $27.4 million gain on the sale of the Jurlique investment.
- Operating cash flow increased by $74.8 million year over year, primarily due to improved earnings and non-cash items, favorable accounts payable timing, and lower relocation, severance, and tax payments.
Guidance, outlook, risks, contingencies, and unusual items
- In July 2013, Wendy’s announced a system optimization initiative to sell approximately 425 company-owned restaurants to franchisees by mid-2014 and consolidate regional and divisional territories.
- The company estimated system-optimization severance and related employee costs of $7.0 million to $10.0 million, but could not estimate other future components. Q2 included $4.8 million of system-optimization expense, including a $5.9 million remeasurement loss partly offset by a $1.3 million restaurant-sale gain.
- Fifty-four restaurants were classified as held for sale at June 30, 2013. In Q3, the company sold assets related to 22 restaurants for approximately $9.3 million and expected an estimated pretax gain of approximately $4.3 million.
- On May 16, 2013, Wendy’s refinanced its credit agreement with a $350.0 million Term Loan A due 2018, a $769.4 million Term Loan B due 2019, and a $200.0 million revolving facility due 2018. The refinancing generated $21.0 million of debt-extinguishment losses and $5.8 million of financing fees.
- Management stated that cash flows from operations and available cash were expected to provide sufficient liquidity for operating requirements over the next 12 months. Planned uses included capital expenditures, dividends of approximately $39.3 million for the remainder of 2013, potential stock repurchases of up to $100.0 million, and financing costs.
- The quarterly dividend was increased from $0.04 per share to $0.05 per share for the dividend declared July 19, 2013. The company also repurchased $13.3 million of stock after quarter-end through August 2, 2013.
- The Japan joint venture was consolidated beginning in Q2 after ownership and profit-distribution rights changed. The effect was not material, but it created a $0.2 million noncontrolling-interest loss for the six months.
- Wendy’s identified risks from competition, consumer demand, food safety, commodity and labor costs, franchisee financial condition, Image Activation execution, restaurant dispositions, legal and regulatory matters, interest rates, and the uncertain costs and benefits of the system optimization initiative.
- Legal and environmental reserves totaled $3.8 million. Management did not expect existing proceedings to have a material effect, although it could not estimate the aggregate possible loss range.
- The company issued a $6.0 million irrevocable standby letter of credit for franchisee Image Activation financing and reported approximately $2.8 million of Japan JV guarantee exposure. Potential obligations could reach approximately $6.6 million if the Japan partners cannot perform their reimbursement obligations.
Important facts for investors to verify
- Whether the planned sale of approximately 425 company-owned restaurants is completed on schedule and at expected values.
- The ultimate costs, cash proceeds, tax effects, and operating-margin impact of system optimization and restaurant re-franchising.
- Execution of the Image Activation program, including capital spending, temporary closures, accelerated depreciation, and franchisee financing.
- Debt maturities, interest-rate exposure, covenant compliance, and refinancing requirements, particularly the $225.6 million of senior notes due in 2014.
- Whether modest same-store sales growth can improve, given the decline from prior-year comparable sales and continued competitive and commodity-cost pressure.
- The sustainability of cash flow after planned capital expenditures, dividends, and potential share repurchases.
- The terms and future funding requirements of the consolidated Japan joint venture and related guarantees.