Papa John’s International, Inc. — Q1 2020 Form 10-Q Summary
Business context and reporting period
The filing covers the three months ended March 29, 2020, compared with the three months ended March 31, 2019. Papa John’s operated 5,378 restaurants in 49 countries and territories at quarter-end, including 599 company-owned and 4,779 franchised restaurants. The company generates revenue from company-owned restaurants, franchise royalties and fees, commissary distribution, marketing funds, technology and other services.
Key financial metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Total revenue | $409.9 million | $398.4 million | +2.9% |
| Operating income | $15.5 million | $5.5 million | +$10.0 million |
| Operating margin | 3.8% | 1.4% | +2.4 percentage points |
| Income before taxes | $11.5 million | $(0.8) million | Improved $12.3 million |
| Net income attributable to the company | $8.4 million | $(1.7) million | Improved $10.2 million |
| Net income attributable to common shareholders | $5.0 million | $(3.8) million | Improved $8.8 million |
| Diluted EPS | $0.15 | $(0.12) | Improved $0.27 |
| Net cash from operating activities | $33.7 million | $13.8 million | +$19.9 million |
| Free cash flow | $24.4 million | $3.1 million | +$21.3 million |
Revenue growth was led by North America franchise royalties and fees, up 10.9%, North America commissary revenue, up 4.4%, and other revenue, up 6.7%. Company-owned restaurant sales declined 0.2%, primarily because of refranchising; excluding refranchising, sales increased 7.2%.
Systemwide comparable sales increased 5.3% in North America and 2.3% internationally. Domestic company-owned comparable sales increased 6.1%, North America franchised comparable sales increased 5.1%, and international comparable sales increased 2.3% on a constant-dollar basis.
Total costs and expenses were 96.2% of revenue versus 98.6% in the prior-year quarter. The improvement reflected lower company-owned restaurant expense ratios, lower general and administrative expenses, and the absence of prior-year special charges. Net interest expense declined to $4.0 million from $6.3 million. The effective tax rate was 21.8%, compared with 108.3% in Q1 2019.
Balance sheet, debt and liquidity
- Cash and cash equivalents were $36.4 million at March 29, 2020, compared with $27.9 million at December 29, 2019.
- Total debt outstanding was approximately $365.6 million, consisting primarily of a $355.0 million term loan and $10.0 million drawn on the revolving facility. The company also had approximately $0.6 million of PJMF debt.
- The secured revolving facility had approximately $343.8 million of remaining availability, including letters of credit.
- The company’s facilities mature on August 30, 2022 and require $5.0 million of quarterly term-loan amortization.
- The reported leverage ratio was 3.4-to-1.0 versus a permitted 5.0-to-1.0; the interest coverage ratio was 2.9-to-1.0 versus a minimum permitted 2.25-to-1.0. The company was in compliance with its debt covenants.
- Interest-rate swaps had a $350 million notional value and helped reduce exposure to floating-rate debt. The swaps had a $17.0 million fair-value liability at quarter-end.
- Total stockholders’ deficit was $326.3 million, and Series B Convertible Preferred Stock was recorded at $251.9 million.
Material changes versus the prior comparable period
- The company moved from a $1.7 million attributable net loss to $8.4 million of attributable net income, aided by stronger operating performance, lower interest expense and the absence of $11.0 million of 2019 special charges.
- Adjusted income before taxes increased 12.6%, from $10.2 million to $11.5 million, after excluding 2019 legal and advisory costs and a preferred-stock option mark-to-market adjustment.
- Domestic company-owned restaurant segment income before taxes increased $4.1 million, while North America franchising income increased $1.6 million. International segment income declined $0.8 million because of lower development fees, higher costs and foreign exchange pressure.
- Temporary franchise support increased to $10.7 million from $4.9 million, comprising $5.7 million of royalty relief and a $5.0 million discretionary marketing fund investment.
- Operating cash flow increased substantially, primarily from higher net income and favorable working-capital timing.
- The company adopted ASU 2016-13 on expected credit losses, recording a $1.1 million after-tax opening retained-earnings adjustment. Management stated that the overall adoption impact was not material.
Outlook, management commentary, risks and unusual items
COVID-19 began affecting international operations in January 2020 and resulted in temporary closures of certain restaurants. At quarter-end, approximately 375 of the company’s approximately 2,100 international franchised stores were temporarily closed, while substantially all traditional North American restaurants remained open. The company reported increased delivery and carry-out demand in North America and stated that it was hiring thousands of team members and implementing enhanced health and safety measures.
Preliminary estimated comparable sales for the first month of Q2 2020 were 22.0% for domestic company-owned restaurants, 28.4% for North America franchised restaurants, 26.9% for systemwide North America restaurants and 1.4% for systemwide international restaurants. These estimates were subject to change and do not constitute formal earnings guidance.
The company expected to provide approximately $15 million to $20 million of additional temporary franchise support in Q2 and Q3 2020, with the formal relief program ending in Q3. Management stated that it had sufficient cash for current operations and access to approximately $350 million under its revolving facility, but could not predict the pandemic’s specific effects on operations, liquidity or long-term financial condition.
Key risks include additional restaurant closures, workforce availability, supply-chain disruption, changes in consumer demand, economic contraction, cyberattacks, commodity costs, foreign exchange, litigation, covenant compliance and the company’s ability to continue paying dividends. The company also remained contingently liable for approximately 113 assigned domestic leases, with potential undiscounted payments of $17.9 million if primary lessees defaulted. Two significant lawsuits were not accrued because management did not believe losses were probable or reasonably estimable.
Important facts for investors to verify
- Whether elevated North American comparable sales persisted after the preliminary April 2020 period and whether international closures became permanent.
- The effect of COVID-19 on franchisee financial health, royalty collections, commissary volumes, labor costs and supply availability.
- Progress toward the planned $15 million to $20 million of Q2 and Q3 temporary franchise support and the resulting impact on corporate expenses and cash flow.
- Compliance with leverage and interest-coverage covenants as pandemic effects and debt balances evolve.
- The sustainability of the $0.225 quarterly common dividend and the related preferred-stock dividend obligations.
- Future interest expense and liquidity exposure associated with LIBOR transition, interest-rate swaps and the August 2022 debt maturity.
- Potential exposure from the delivery-driver litigation, securities litigation and lease guarantees, none of which had material accrued liabilities at the reporting date.