Nathan’s Famous, Inc. — Form 10-Q Summary
Business context and reporting period. The filing covers the 13 weeks ended December 29, 2019 (fiscal 2020 third quarter) and the 39 weeks ended that date, compared with corresponding periods ended December 23, 2018. Nathan’s markets branded products, licenses products, and operates and franchises restaurants. Branded Product and licensing programs are the company’s largest profit contributors. At quarter-end, it had 226 franchised outlets and four company-operated units, compared with 261 and five, respectively, a year earlier.
Financial results
Amounts below are in millions of dollars except per-share data and percentages.
| Metric | Q3 FY2020 | Q3 FY2019 | 39 weeks FY2020 | 39 weeks FY2019 |
|---|---|---|---|---|
| Revenue | $21.376 | $20.222 | $81.620 | $79.720 |
| Income from operations | $3.863 | $4.896 | $20.677 | $22.463 |
| Net income | $1.213 | $9.722 | $10.240 | $19.001 |
| Diluted EPS | $0.29 | $2.30 | $2.43 | $4.50 |
| Adjusted EBITDA (non-GAAP) | $4.546 | $5.485 | $22.840 | $24.200 |
- Revenue and margins: Q3 revenue rose 5.7%; year-to-date revenue rose 2.4%. Gross profit was $3.094 million in Q3, or 20.1% of sales, versus $3.744 million and 26.0%; year-to-date gross profit was $13.726 million, or 23.8%, versus $15.182 million and 26.9%. Higher beef costs drove much of the margin decline.
- Cash flow: Operating cash flow for the 39 weeks was $6.662 million, down from $7.373 million. Capital expenditures were $0.361 million; cash dividends paid were $4.437 million and stock repurchases were $0.985 million. Cash increased $1.949 million from fiscal year-end.
- Liquidity and debt: Cash and cash equivalents were $77.395 million; current assets were $89.392 million and current liabilities $11.631 million, for reported working capital of $77.761 million. Senior secured notes totaled $150 million at 6.625%, due November 2025, with no scheduled principal amortization before maturity. The notes’ net carrying amount was $145.968 million. The company reported covenant compliance.
- Other balance-sheet items: Adoption of lease accounting added operating lease assets of $9.274 million and lease liabilities of $10.112 million at quarter-end. Stockholders’ deficit was $64.169 million.
Material changes and unusual items
- Q3 net income fell sharply mainly because the prior-year quarter included an $10.821 million gain on the sale of a company-owned restaurant; there was no comparable gain this quarter. For the 39-week comparison, the prior year included $11.177 million of disposal gains.
- Q3 Branded Product Program sales increased 10.0%, supported by higher volume and average selling prices, but reported cost per pound of hot dogs rose 10.5%. Company-owned restaurant sales declined 14.8%, reflecting the prior-year restaurant sale; comparable sales excluding that location rose 3.2%.
- Q3 general and administrative expense increased 19.5%, including $0.434 million in higher restaurant-transformation-related compensation, severance, marketing and franchise-solicitation costs.
- Year-to-date franchise fees included $0.553 million of forfeited fees, primarily related to terminated master franchise agreements in Russia, Kyrgyzstan and Turkey and closures. Franchise outlets declined year over year despite openings.
- The company adopted the new lease standard on April 1, 2019; comparative periods were not restated. It also extended the Coney Island Boardwalk restaurant lease for eight years, recognizing a $1.911 million lease asset and liability.
Outlook, commentary and risks
- Management planned restaurant-system revitalization through menu development, operational improvements, marketing and franchise growth. It expected approximately $0.8–$0.9 million of incremental expenses versus the year’s anticipated spending, including $0.37 million projected for the Advertising Fund; it also contemplated selective showcase restaurant investments.
- Management said available cash and expected operating cash flow should fund operations, debt service, dividends and repurchases for at least the next 12 months. It declared a subsequent $0.35-per-share quarterly dividend on February 7, 2020, payable March 6, 2020, subject to debt-document restrictions and board decisions.
- Beef and beef-trimming costs, supply availability, and the ability to pass cost increases through to customers are significant risks. The company had no open hot-dog purchase commitments and did not hedge most commodity exposure. A 10% short-term change in food and paper product costs would have changed 39-week cost of sales by approximately $3.942 million.
- Other risks cited include dependence on John Morrell & Co. for licensing and supply, New York minimum-wage and other labor requirements, weather sensitivity at Coney Island, franchisee recruitment and retention, consumer demand, and food-safety events. Management expected higher restaurant labor costs to continue.
- A New Jersey tax audit of returns for fiscal years 2016–2018 was ongoing. Unrecognized tax benefits were $0.300 million, with $0.269 million of accrued interest and penalties. The company reported ordinary-course litigation and stated that it did not expect a material adverse outcome, while noting litigation uncertainty. No legal proceedings were listed in Part II.
Important facts for investors to verify
- Whether beef-cost inflation can be offset through pricing, sourcing, or operating efficiencies, and how it affects Branded Product margins.
- Whether restaurant-revitalization spending improves comparable sales, profitability and franchise-unit growth, given the lower outlet count.
- Debt-service capacity and the terms governing dividends, repurchases and additional indebtedness under the 2025 Notes.
- Progress and potential exposure from the New Jersey tax audit and the Brooklyn lease guaranty, for which the company recorded a $0.217 million liability.
- The comparability of reported earnings: the prior-year property-sale gain materially inflates the comparison, while current-period transformation expenses and franchise-fee forfeitures also affect results.