Business Context and Reporting Period
Company: Nathan's Famous, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 25, 2006 (Thirteen weeks)
Business Overview: The Company operates and franchises Nathan's, Miami Subs, Arthur Treacher's, and Kenny Rogers Roasters restaurants. It also generates revenue through a Branded Product Program selling hot dogs and other items to foodservice operators and retail venues. As of June 25, 2006, the system included 362 franchised/licensed units and six Company-owned units.
Key Financial Metrics
| Metric | Q2 2006 | Q2 2005 |
|---|---|---|
| Total Revenues | $12,244,000 | $11,382,000 |
| Net Income | $1,396,000 | $1,169,000 |
| Diluted EPS | $0.22 | $0.18 |
| Operating Cash Flow | $518,000 | $953,000 |
| Cash and Cash Equivalents | $3,648,000 | $4,831,000 |
| Marketable Securities | $16,731,000 | $16,882,000 |
| Total Debt (Capital Lease) | $37,000 | $39,000 |
| Working Capital | $20,793,000 | $19,075,000 |
Margins: Gross profit margin improved to 27.8% in Q2 2006 from 23.4% in Q2 2005, primarily due to lower beef costs.
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 7.6% year-over-year. Sales from the Branded Product Program rose 17.8% due to volume and a 2.4% price increase. However, franchise fees and royalties declined 4.1% due to lower domestic franchise sales and fewer new unit openings compared to the prior year.
- Profitability: Net income increased 19.4% to $1.396 million. This was driven by improved gross margins (lower beef costs) and higher interest income, partially offset by increased General and Administrative (G&A) expenses.
- Expense Increases: G&A expenses rose $109,000, largely due to higher compensation costs and the adoption of SFAS 123R (Share-Based Payments), which added $35,000 in expense. Restaurant operating expenses increased $61,000 due to Coney Island seasonal preparation costs.
- Cash Flow: Operating cash flow decreased significantly to $518,000 from $953,000 in the prior year. This reduction was primarily caused by a $1.778 million increase in accounts and notes receivable and a $433,000 increase in inventory.
Guidance, Outlook, and Risks
- Accounting Changes: The Company adopted SFAS 123R at the beginning of fiscal 2007. Management expects to incur quarterly share-based compensation expenses of approximately $86,600 for the remainder of fiscal 2007 related to June 2006 option grants.
- Acquisition: In February 2006, the Company acquired the Arthur Treacher's brand intellectual property for approximately $1.35 million to expand co-branding efforts. No restaurants were acquired.
- Liquidity: Management believes cash, marketable securities, and operating cash flow are sufficient for the next 12 months. The Company maintains an uncommitted $7.5 million bank line of credit, which remains undrawn.
- Stock Repurchases: No shares were repurchased during the quarter. The Company has repurchased 1.89 million shares historically and expects to continue buying back stock based on market conditions.
- Risks: Key risks include commodity price fluctuations (specifically beef and paper), reliance on licensee performance which can impact brand reputation, and the collectibility of receivables from franchisees. The Company does not hedge against commodity or foreign currency risks.
Investor Verification Checklist
- Commodity Costs: Verify the sustainability of the 14.8% reduction in hot dog costs and the impact of potential future beef price increases on margins.
- Receivables: Review the $1.778 million increase in receivables and the specific franchisees contributing to this growth to assess collection risk.
- Franchise Performance: Investigate the 1.6% decline in domestic franchise restaurant sales and the increase in non-performing units (23 units in Q2 2006 vs. 22 in Q2 2005).
- Share-Based Compensation: Confirm the impact of the new SFAS 123R standard on future quarterly earnings, specifically the projected $86,600 quarterly expense.
- Arthur Treacher's Integration: Monitor the revenue contribution from the newly acquired Arthur Treacher's intellectual property and the success of co-branding initiatives.