Business context and reporting period
El Pollo Loco Holdings, Inc. operates and franchises fire-grilled chicken restaurants. This Form 10-K covers fiscal 2014, ended December 31, 2014; it was a 53-week year versus 52 weeks in fiscal 2013. The fourth quarter included 14 weeks. At year-end, the system had 415 restaurants: 172 company-operated and 243 franchised, primarily in California.
Financial performance and liquidity
- Fiscal 2014 revenue: $344.9 million, up 9.6% from $314.7 million. Company-operated revenue was $322.5 million (+9.6%); franchise revenue was $22.3 million (+9.5%). The extra week contributed approximately $4.6 million of company-operated sales.
- Comparable sales: System-wide growth was 7.0%, comprising 5.8% at company-operated restaurants and 8.0% at franchised restaurants. Company-operated comparable sales reflected 2.5% transaction growth and 3.3% check growth.
- Operating results: Income from operations rose 16.3% to $49.3 million; operating margin was 14.3% versus 13.5%. Restaurant contribution margin, a non-GAAP measure, improved to 21.9% from 21.0%. Adjusted EBITDA was $62.9 million versus $54.6 million.
- Net income: $42.5 million, compared with a $16.9 million loss in 2013. The result included a $63.0 million income tax benefit, primarily from releasing approximately $65 million of deferred-tax valuation allowance. Before tax, the company recorded a $20.5 million loss, including a $41.4 million TRA charge and $9.7 million of debt-extinguishment costs.
- Cash flow and investment: Operating cash flow was $26.1 million, up from $19.7 million. Capital expenditures were $26.8 million, including $15.6 million for new restaurants and $7.5 million for remodels; operating cash flow less capital expenditures was approximately negative $0.8 million. Cash declined to $11.5 million from $17.0 million.
- Debt and liquidity: Year-end total debt, including capital leases, was $165.8 million. The December refinancing established a $200 million secured revolving facility maturing in 2019; $165 million was borrowed, with $7.4 million of letters of credit and $27.6 million available to borrow. The company reported compliance with its covenants. Current assets were $44.0 million and current liabilities $31.6 million.
- Other balance-sheet commitments: Operating lease payments totaled $212.1 million before sublease income. The TRA liability was approximately $41.4 million at present value; the contractual-obligations table listed $43.3 million of expected payments.
Material changes versus the prior comparable period
- Revenue and comparable sales increased, with new restaurant openings and the extra fiscal week contributing to reported growth. Company-operated restaurant expenses declined to 78.1% of company-operated revenue from 79.0%; labor and occupancy cost ratios improved, while food and paper costs remained at 31.8%.
- Interest expense fell to $18.1 million from $36.3 million, reflecting prior refinancing, IPO proceeds used to repay the second-lien term loan, and the December 2014 refinancing. The company recorded $9.7 million of refinancing-related debt-extinguishment charges, versus $21.5 million in 2013.
- The company completed its July 2014 IPO, receiving approximately $112.3 million net proceeds, and sold six San Antonio company restaurants to a franchisee for $5.4 million, recognizing a $2.7 million gain. A November secondary offering generated an expense of $0.7 million.
- The tax-valuation allowance release and TRA charge materially affected reported earnings; the 2014 net profit is therefore not a straightforward measure of recurring operating performance.
Guidance, outlook, risks and contingencies
- Management planned to open 16 company-operated and 11 franchised restaurants in fiscal 2015 and targeted long-term unit growth of 8%–10% annually. These are plans, not guarantees. No specific earnings or revenue guidance was provided.
- Management cited continued comparable-sales growth, restaurant expansion, operational efficiencies and margin improvement as priorities. It intended to complete the Hacienda remodel program by 2018; 214 restaurants had been remodeled by year-end 2014.
- Key risks include geographic concentration (approximately 80% of revenue came from the greater Los Angeles area), chicken and other commodity costs, minimum-wage and labor-cost increases, food safety, reliance on a primary distributor and a limited number of chicken suppliers, competition, and the execution and financing of expansion.
- The company had a pending California wage-and-hour class action concerning overtime, meal and rest periods, and wage statements. The outcome and potential damages were not determinable. It also disclosed potential environmental liabilities at certain properties and contingent obligations on four assigned leases, with undiscounted exposure of $1.6 million.
- The TRA requires payment to pre-IPO stockholders of 85% of specified realized tax savings, with interest; early termination or a change of control may accelerate payments and could result in amounts exceeding actual tax savings. NOL use is subject to tax-law limitations.
- Interest-rate exposure is variable; management estimated that a 1 percentage-point rate increase would raise annual pre-tax interest expense by approximately $1.7 million. Interest-rate caps covered portions of the exposure, while the company did not hedge commodity-price risk.
Important facts for investors to verify
- How much of fiscal 2014 earnings and comparable-sales growth is repeatable after adjusting for the extra week, tax benefit, TRA charge, refinancing costs and restaurant-sale gain.
- Whether the company can sustain traffic and check growth while absorbing chicken, labor, utility and other cost pressures.
- Actual availability and covenant headroom under the revolving facility, and the impact of variable rates, lease obligations and TRA payments on future cash generation.
- Whether planned openings and remodels achieve targeted sales, returns and margins, particularly in newer markets such as Houston.
- Developments in the wage-and-hour class action, environmental matters and contingent lease obligations.
- The extent of continuing control by major stockholders, potential share sales or dilution, and the implications of the company’s controlled-company status.