NATHANS FAMOUS, INC. quarterly report, Q2 FY2021

Nathan’s Famous, Inc. — Form 10-Q Summary

Reporting period: Second quarter of fiscal 2021, the 13 weeks ended September 27, 2020; year-to-date figures cover 26 weeks. Comparisons are with the corresponding periods ended September 29, 2019. Dollar amounts below are in millions unless stated otherwise.

Business context and financial performance

Nathan’s operates company-owned and franchised restaurants and sells branded products through foodservice and licensing channels. At September 27, 2020, its system included 214 franchised units and four company-owned units, including one seasonal location. Licensing was the standout channel, while pandemic-related disruptions pressured restaurants and Branded Product Program sales.

Metric	13 weeks 2020	13 weeks 2019	26 weeks 2020	26 weeks 2019
Total revenue	$21.84	$29.73	$39.53	$60.24
Operating income	$7.58	$7.37	$15.68	$16.81
Net income	$3.66	$3.66	$7.66	$9.03
Diluted EPS	$0.89	$0.87	$1.86	$2.14
Operating cash flow	Not separately presented for the quarter	$9.11	$6.10

Second-quarter revenue fell about 27%, but operating income rose about 3% and net income was nearly unchanged. For the first half, revenue fell about 34% and net income fell about 15%. The contrasting results reflect a significant shift in revenue mix toward higher-royalty licensing.

Second-quarter sales were $12.69 million, down 43%; license royalties rose 52% to $8.27 million. Franchise fees and royalties fell to $0.48 million from $1.50 million.
For the first half, sales were $19.38 million, down 54%; license royalties increased 33% to $18.79 million, while franchise fees and royalties declined to $0.67 million from $2.58 million.
Gross profit as a percentage of sales decreased to 21.8% from 26.3% in the quarter, and to 21.4% from 25.1% for the first half. Management cited higher beef costs, restaurant food costs and labor costs.
First-half operating cash flow increased to $9.11 million from $6.10 million. Capital spending was $0.32 million; dividends paid were $2.88 million and share repurchases were $1.50 million.

Balance sheet, debt and liquidity

Cash was $81.52 million at September 27, 2020, up from $77.12 million at March 29, 2020. Working capital was $78.98 million, compared with $75.17 million at fiscal year-end.
Current assets were $91.66 million and current liabilities $12.69 million. Stockholders’ deficit was $63.08 million.
Senior secured notes had $150.00 million principal outstanding, carry a 6.625% coupon and mature November 1, 2025; the balance-sheet carrying amount, net of issuance costs, was $146.49 million. Interest expense was $2.65 million for the quarter and $5.30 million for the first half.
Operating lease liabilities totaled $9.71 million. Management stated that cash, cash equivalents and operating cash flow should be sufficient to fund operations, debt service, dividends and repurchases for at least the next 12 months.

Material changes, outlook and risks

COVID-19: Restaurant capacity and traffic remained constrained, many franchisees operated in closed or low-traffic venues, and Branded Product Program customers were affected by venue closures and reduced attendance. Approximately 60% of franchised locations were open as of the filing date; company dining rooms had reopened at reduced capacity. The seasonal Coney Island location closed September 13.
Management said COVID-19 was expected to continue negatively affecting revenue and net income for the remainder of fiscal 2021; it did not provide quantified financial guidance. The company reduced payroll and discretionary costs, postponed nonessential capital spending, introduced curbside delivery and ghost kitchens, and enhanced health protocols.
Licensing royalties benefited from at-home consumer demand: second-quarter royalties on hot dogs under the John Morrell & Co. agreement rose 56%, primarily on retail volume and selling-price increases. The company identifies this supplier agreement as important to licensing revenue and overall profitability.
Beef costs increased significantly beginning in May 2020. Management warned that further commodity increases, if not offset through pricing or other actions, could pressure margins; no beef purchase commitments were outstanding at period-end. Minimum-wage increases and other labor rules are additional cost risks.
The company reported no impairment charges after COVID-related interim testing of goodwill, its definite-lived intangible asset and long-lived assets. Results of these assessments depend on estimates and assumptions, and future impairments could be material if conditions or projections worsen.
The board declared a $0.35-per-share dividend in November 2020, payable December 4. Future dividends and repurchases remain subject to board decisions and note-indenture restrictions. The notes have no financial maintenance covenants; the company reported compliance with their covenants.
Ordinary-course litigation was disclosed; management did not expect the matters to have a material adverse effect, while noting litigation uncertainty. A $0.11 million liability was recorded for a Brooklyn lease guaranty. A New Jersey tax audit was ongoing; unrecognized tax benefits were $0.33 million, with $0.29 million of associated accrued interest and penalties.

Important facts for investors to verify

Whether restaurant, franchise and foodservice customer activity recovers, including the pace of franchise-location reopenings and the sustainability of licensing demand.
How beef and other input costs, selling-price changes and New York labor-cost increases affect gross margins and restaurant economics.
The continuing contribution and terms of the John Morrell & Co. licensing relationship, and the extent of Nathan’s reliance on it.
Cash generation relative to the $150 million notes, lease obligations, dividends and any further share or debt repurchases; also review indenture limits on distributions.
Whether the assumptions supporting the impairment assessments and receivable allowances remain appropriate as pandemic conditions evolve.