Papa John’s International, Inc. — Fiscal 2009 Form 10-K Summary
Business context and reporting period
Papa John’s operates and franchises pizza delivery and carryout restaurants, with limited dine-in operations internationally. At December 27, 2009, the system included 3,469 restaurants: 614 company-owned and 2,855 franchised, operating in the contiguous United States, Alaska, Hawaii, Puerto Rico and 29 countries. The Company reports domestic restaurants, domestic commissaries, domestic franchising, international operations, variable interest entities and other businesses.
Fiscal 2009 comprised 52 weeks and is compared primarily with the 52-week fiscal year ended December 28, 2008. Fourth-quarter 2009 revenue was $280.5 million, operating income was $20.7 million and net income was $13.7 million.
Financial performance and key metrics
| Metric | 2009 | 2008 | Change |
|---|---|---|---|
| Total revenue | $1.106 billion | $1.132 billion | Down 2.3% |
| Operating income | $95.3 million | $65.5 million | Up 45.5% |
| Operating margin | 8.6% | 5.8% | Up 2.8 percentage points |
| Income before taxes | $90.2 million | $58.8 million | Up 53.4% |
| Net income attributable to shareholders | $57.5 million | $36.8 million | Up 56.1% |
| Diluted EPS | $2.06 | $1.30 | Up 58.5% |
| Cash flow from operations | $100.9 million | $73.1 million | Up $27.9 million |
| Free cash flow, excluding BIBP impact | $44.8 million | $54.3 million | Down $9.5 million |
| Total debt | $99.1 million | $130.7 million | Down $31.6 million |
Cash and cash equivalents were $28.2 million at year-end, compared with $11.0 million in 2008. The Company had $99.0 million outstanding under a $175.0 million revolving credit facility, with approximately $58.0 million of remaining availability after certain letters of credit. The Company was in compliance with its debt covenants; the leverage ratio was 1.1-to-1.0 versus a maximum of 2.5-to-1.0, and interest coverage was 4.7-to-1.0 versus a minimum of 3.5-to-1.0.
Capital expenditures were $33.5 million. The Company repurchased 1.319 million shares for $28.5 million during 2009 and had approximately $33.8 million remaining under its authorization at year-end. No cash dividends were paid.
Material changes versus the prior comparable period
- Revenue declined primarily because company-owned restaurant sales fell 5.5% following the late-2008 sale of 62 restaurants to franchisees, lower commissary commodity pricing and weaker print and promotions sales.
- Domestic company-owned comparable sales declined 0.5%, while domestic franchised comparable sales increased 0.1%. Average annual sales for the comparable company-owned restaurant base increased to $869,000 from $867,000.
- Operating income improved materially because of lower commodity costs, the divestiture of unprofitable restaurants and significantly better results from BIBP Commodities.
- BIBP, a consolidated variable interest entity involved in cheese purchasing, contributed $22.5 million of pre-tax income in 2009 versus a $10.5 million pre-tax loss in 2008. Management identifies this as a significant and volatile contributor to reported earnings.
- Excluding BIBP, income before taxes and noncontrolling interests declined to $63.9 million from $67.3 million, and the related margin declined to 5.8% from 5.9%.
- Domestic company-owned restaurant operating margin excluding BIBP increased to 20.7% from 18.9%, while domestic commissary margin declined to 9.2% from 9.5%.
- International revenue increased 7.1% to $41.5 million, while the international operating loss narrowed to $3.1 million from $7.2 million. The 2008 period included a $2.3 million U.K. goodwill impairment charge.
- Corporate expenses increased by $13.6 million, driven by higher incentive compensation, management transition costs, litigation settlement expense and franchise support initiatives. A workforce reduction eliminated 35 positions and is expected to reduce annual general and administrative costs by approximately $2.6 million.
Guidance, outlook, risks and unusual items
- Management expected approximately 140 to 180 net new worldwide units in 2010, including 15 to 20 company-owned and 225 to 260 franchised openings, with approximately 100 closures.
- Planned 2010 capital expenditures were approximately $40 million to $45 million, including technology initiatives, online ordering enhancements, productivity projects and completion of the U.K. commissary.
- The domestic royalty rate for franchisees below the standard rate increased to 4.75% in January 2010. Certain franchise support initiatives were expected to continue but at reduced levels.
- The $175 million revolving credit facility was scheduled to expire in January 2011. Management expected to renew and extend it during 2010 and planned to fund capital expenditures and repurchases from cash on hand and operating cash flow.
- Adoption of revised variable-interest-entity accounting guidance in the first quarter of 2010 was expected to deconsolidate certain franchise entities. The affected entities generated $37.7 million of 2009 revenue, but their consolidation had no impact on operating results during the preceding three years.
- Cheese historically represented approximately 35% to 40% of food costs. The BIBP pricing formula was modified in 2009, and management expected BIBP’s cumulative deficit to be substantially repaid by the end of 2011. The filing’s 2010 BIBP earnings projections were based on market futures and were subject to substantial volatility.
- Key risks include weak consumer spending, intense competition, commodity and fuel-cost volatility, supplier concentration for cheese, flour and thin-crust dough, franchisee liquidity and credit availability, labor-cost increases, international operating risks, food-safety and brand risks, technology disruptions, and potential impairment of U.K. or domestic restaurant assets.
- Contingent lease liabilities related to the former Perfect Pizza operations totaled approximately $5.8 million of potential undiscounted payments. No liability was recorded because cross-default provisions were viewed as substantially reducing the risk of payment.
- The Company had a commitment to lend up to $40.0 million to BIBP, which had an outstanding balance of $24.6 million at year-end. Franchisee loans outstanding, net of allowances, totaled $8.6 million.
- Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting. Management concluded that disclosure controls and internal controls were effective.
Most important facts for investors to verify
- Separate recurring operating performance from the $22.5 million BIBP pre-tax benefit and assess the sensitivity of future earnings to cheese prices.
- Reconcile consolidated revenue and margins after the expected 2010 deconsolidation of franchisee variable interest entities.
- Evaluate the sustainability of comparable-sales trends, franchisee financial health, unit closures and the planned 2010 development pace.
- Review liquidity, the January 2011 credit-facility maturity, covenant headroom, interest-rate swaps and planned capital expenditures and share repurchases.
- Assess the recoverability of U.K. and domestic goodwill and restaurant assets, including the approximately 10% fair-value cushion cited for certain reporting units.
- Monitor BIBP’s deficit repayment, the $24.6 million BIBP loan, franchisee loan reserves and the $20.9 million of standby letters of credit.
- Consider the effect of franchise support spending, royalty changes and commodity pricing on franchisee profitability and the Company’s royalty and commissary revenue streams.