Business Context and Reporting Period
The Wendy’s Company filed an unaudited Form 10-Q for the 13-week third quarter and 39 weeks ended September 27, 2020, compared with September 29, 2019. Wendy’s operated or franchised 6,814 restaurants in the U.S. and 30 foreign countries and territories, including 360 company-operated U.S. restaurants and 6,454 franchised restaurants. The business was materially affected by COVID-19, although the U.S. breakfast launch on March 2, 2020 supported sales recovery.
Key Financial Metrics
| Metric | Q3 2020 | Q3 2019 | First 9 Months 2020 | First 9 Months 2019 |
|---|---|---|---|---|
| Revenue | $452.2 million | $437.9 million | $1,259.5 million | $1,281.8 million |
| Operating profit | $81.3 million | $79.0 million | $190.7 million | $225.9 million |
| Operating margin | 18.0% | 18.0% | 15.1% | 17.6% |
| Net income | $39.8 million | $46.1 million | $79.1 million | $110.4 million |
| Diluted EPS | $0.17 | $0.20 | $0.35 | $0.47 |
| Net cash from operations | Not separately provided | Not separately provided | $205.8 million | $237.5 million |
- Q3 revenue increased 3.3%, driven by higher company-operated sales and franchise royalty revenue. Nine-month revenue declined 1.7%.
- Q3 restaurant margin was 16.9%, compared with 16.2% in the prior-year quarter. Nine-month restaurant margin declined to 13.9% from 15.9%, reflecting lower customer counts, higher labor rates and commodity costs.
- Q3 net margin was approximately 8.8%, compared with 10.5% in Q3 2019. Nine-month net margin was approximately 6.3%, compared with 8.6%.
- Global systemwide same-restaurant sales increased 6.1% in Q3 and were flat for the first nine months. U.S. systemwide same-restaurant sales increased 7.0% in Q3 and 0.9% year to date; international same-restaurant sales declined 2.1% and 7.3%, respectively.
- Global systemwide sales were $3.0 billion in Q3 and $8.2 billion year to date, increasing 6.7% and 0.5%, respectively, on a constant-currency basis.
- Cash, cash equivalents and restricted cash totaled $406.4 million at September 27, 2020, up from $358.7 million at December 29, 2019. Cash and cash equivalents alone were $313.2 million.
- Capital expenditures were $44.9 million year to date. Investing cash outflow was $41.0 million and financing cash outflow was $115.3 million.
- Debt, including the current portion and excluding unamortized debt issuance costs, aggregated approximately $2.30 billion. Reported long-term debt and current maturities totaled $2.26 billion, net of issuance costs.
Material Changes Versus the Prior Comparable Period
- Q3 results improved as restaurants recovered from the sharp COVID-19 disruption in March and April. Breakfast contributed 6.4% to U.S. systemwide same-restaurant sales in Q3.
- Nine-month operating profit fell $35.2 million and net income fell $31.3 million, primarily due to COVID-19-related traffic declines, increased restaurant labor costs, higher reorganization costs, higher impairment charges and lower joint-venture earnings.
- Q3 reorganization and realignment costs increased to $3.4 million from $0.4 million; nine-month costs increased to $10.2 million from $4.8 million. Nine-month impairment charges increased to $4.7 million from $1.7 million.
- Advertising funds revenue declined $12.4 million year to date. The Company expects advertising fund expense to exceed revenue by approximately $20.0 million for 2020, including up to $15.0 million of incremental Company-funded advertising.
- Operating cash flow declined $31.7 million year to date, partly due to lower earnings, a $24.7 million payment related to a financial institutions class-action settlement and higher incentive compensation payments.
- The quarterly dividend was reduced from $0.12 per share in Q1 2020 to $0.05 in Q2 and Q3. Management announced a $0.07 per-share dividend for Q4 2020.
Guidance, Outlook, Commentary, Risks and Unusual Items
- Management stated that the effect of COVID-19 on 2020 net income and cash flows could not be reasonably estimated and that quarterly results were not necessarily indicative of the full year.
- Approximately 75% of system dining rooms were open at September 27, 2020. Temporary closures totaled 17 U.S. restaurants and 52 international restaurants, approximately 1% of the system.
- Management expected available cash and operating cash flow to satisfy operating requirements for the next 12 months, while noting that additional liquidity may not be available on acceptable terms if conditions deteriorate.
- The Company drew precautionary debt during the pandemic, including $120.0 million under variable funding notes and $25.0 million under the advertising fund line, but repaid those U.S. borrowings by September 27. It had no borrowings under the Class A-1 notes or advertising fund line at quarter-end, but had C$5.5 million outstanding under a Canadian revolving facility.
- The Operations and Field Realignment Plan is expected to cost approximately $7.0 million to $9.0 million, with $3.0 million recognized through September 27 and most remaining costs expected in 2020 and 2021. The IT Realignment Plan is expected to cost approximately $16.0 million to $17.0 million, with $6.8 million recognized year to date and approximately $1.0 million of additional costs expected.
- The Company expected to sell 43 company-operated New York restaurants to franchisees in the first quarter of 2021, while retaining its Manhattan restaurants.
- NPC Quality Burgers, Wendy’s largest franchisee, filed for Chapter 11 bankruptcy on July 1, 2020 involving approximately 393 Wendy’s restaurants. The Company was evaluating strategic alternatives, including a possible consortium bid, with no final decision reported.
- Key risks include the duration and severity of COVID-19, franchisee financial distress, restaurant traffic and consumer spending, labor and commodity costs, supply-chain disruptions, impairment of goodwill or long-lived assets, debt covenant compliance, litigation, technology and cybersecurity risks, and the transition away from LIBOR.
- Beef supply disruptions experienced in early May had returned to normal by the end of Q2, but management cautioned that similar disruptions could recur.
Investor Verification Checklist
- Verify the sustainability of improved U.S. same-restaurant sales and the contribution and profitability of the breakfast daypart after pandemic effects normalize.
- Assess whether international sales, franchisee health and royalty collections recover without further rent or payment concessions.
- Review debt maturities, securitized financing covenants, variable-rate exposure and the effect of the planned LIBOR transition.
- Track remaining COVID-19 effects, including dining-room openings, temporary closures, labor costs, supply availability and potential impairment charges.
- Confirm the outcome and financial consequences of NPC Quality Burgers’ bankruptcy and restaurant sale process.
- Monitor execution and remaining cash costs of the Operations and Field and IT Realignment Plans.
- Reconcile reported liquidity with restricted cash, advertising fund balances, lease obligations, lease guarantees of $81.3 million and letters of credit of $26.4 million.