Business context and reporting period
Dine Brands Global, Inc. owns and franchises Applebee’s and IHOP. This unaudited Form 10-Q covers the first fiscal quarter of 2018, January 1 through April 1, 2018 (referred to in the filing as the quarter ended March 31). The company no longer operates restaurants permanently; its more than 3,700 Applebee’s and IHOP locations are franchised or licensed.
Key financial results
| Metric | Q1 2018 | Q1 2017, adjusted |
|---|---|---|
| Total revenue | $188.2 million | $191.5 million |
| Gross profit | $83.5 million | $94.3 million |
| Income before taxes | $22.7 million | $26.0 million |
| Net income | $17.1 million | $15.6 million |
| Diluted EPS | $0.92 | $0.86 |
| Operating cash flow | $16.5 million | $19.5 million |
| Adjusted free cash flow | $15.3 million | $19.2 million |
Revenue declined 1.7%; gross profit fell 11.4%. Net income increased 9.5% and diluted EPS increased 7.0%, primarily because the tax provision fell to $5.6 million from $10.4 million as the Tax Act reduced the federal statutory rate. Effective tax rates were 24.8% and 40.0%, respectively. The filing reports interest expense of $15.2 million, versus $15.4 million.
At March 31, cash and cash equivalents were $96.4 million, with another $32.4 million of current restricted cash and $14.7 million of non-current restricted cash. Current liabilities were $236.0 million and total liabilities were $1.868 billion. Long-term debt, including current maturities, was approximately $1.280 billion. Stockholders’ deficit was $216.9 million. Cash, cash equivalents and restricted cash decreased $19.7 million during the quarter.
Quarterly financing outflows included $17.5 million of dividends, $10.0 million of share repurchases, and $7.8 million of long-term debt and lease-obligation repayments. The company declared a first-quarter dividend of $0.63 per share, paid April 6. It reported $57.1 million remaining under its share repurchase authorization. Management said operating cash flow, available cash and borrowing capacity were adequate for the next 12 months. The $100 million revolving facility had $96.9 million available at quarter-end; the company drew $20 million in April.
Material changes versus the prior comparable period
- Franchise revenue increased modestly, but franchise gross profit fell $11.1 million, principally because Dine Brands contributed $13.5 million more to Applebee’s National Advertising Fund. Applebee’s franchise gross profit declined $13.3 million; IHOP’s increased $2.2 million.
- Applebee’s domestic same-restaurant sales rose 3.3%, its strongest quarterly increase since Q1 2011, with improved traffic partly offset by a small decline in average check. IHOP same-restaurant sales rose 1.0% as higher average check offset lower traffic; traffic had declined for ten consecutive quarters.
- Applebee’s had a net reduction of 24 restaurants in the quarter; IHOP had net development of five.
- Total revenue was lower partly because the company refranchised nine IHOP restaurants in 2017 and closed the tenth. This reduced quarterly revenue by approximately $4 million year over year, with minimal gross-profit impact.
- General and administrative expense declined $8.4 million, largely because $8.8 million of executive separation costs recorded in Q1 2017 did not recur.
- ASC 606 was adopted retrospectively. It changed presentation and timing of revenue recognition, including recognition of Applebee’s advertising fees as franchise revenue and franchise/development fees over the contract term. The 2017 comparative figures are adjusted; adoption did not affect reported cash flows.
Outlook, commentary, risks and unusual items
- For 2018, management expected 10–15 Applebee’s openings, mostly international, and 85–100 IHOP openings, mostly domestic. It anticipated 60–80 Applebee’s closures and 30–40 IHOP closures. Actual development and closures may differ.
- Management planned $30 million of Applebee’s National Advertising Fund contributions during the first half of 2018; $13.5 million had been contributed in the quarter. The company said the investment weighed on franchise gross profit.
- Management expected to benefit meaningfully in future periods from the lower corporate tax rate. Accounting for some Tax Act effects remained provisional.
- Applebee’s franchisee financial stress remained a concern. Non-timely or partial payments were concentrated among three franchisees; two represented approximately 13% of Applebee’s domestic system-wide sales. Dine Brands reported approximately $8 million of loans outstanding to franchisees and warned further support could add costs.
- Debt leverage was 5.70x at quarter-end, above the 5.25x threshold for suspending quarterly principal payments, so the company expected to make $3.25 million principal payments in each remaining 2018 quarter. Debt-service coverage was 3.85x. Management disclosed customary securitized-debt cash-trapping, rapid-amortization and default triggers at specified lower coverage ratios.
- Lease guarantees for previously sold restaurants represented a maximum potential future payment exposure of $300.6 million; excluding unexercised options, the amount was $50.0 million. Litigation and claims arose in the ordinary course; management did not expect currently pending proceedings to have a material adverse impact, but gave no assurance of outcome.
- Q1 closure and impairment charges were $2.6 million, primarily related to lease obligations at two former Applebee’s properties. A property sale generated a $1.4 million gain. No interim goodwill impairment test was deemed necessary.
- The company expected approximately $16 million of capital expenditures for fiscal 2018. It expected the new lease accounting standard, required in 2019, to materially increase balance-sheet assets and liabilities, but did not then expect a material income-statement or cash-flow effect.
Most important facts for investors to verify
- Whether Applebee’s sales improvement and franchisee payment health persist, and how advertising contributions and restaurant closures affect franchise profitability.
- Whether IHOP’s sales and traffic trends stabilize and whether projected openings exceed closures.
- Quarterly debt amortization, leverage, debt-service coverage, revolving-facility borrowings and compliance with securitized-debt terms.
- Cash generation relative to dividends, repurchases and capital spending, including whether the stated 12-month liquidity outlook remains supportable.
- Final Tax Act accounting, ASC 606 comparability, lease-standard implementation, franchisee loans and lease-guarantee or litigation exposures.