Noodles & Company — Q3 2017 Form 10-Q
Business context and period. The filing covers the fiscal quarter ended October 3, 2017, and the first three fiscal quarters of 2017, compared with the corresponding 2016 periods. Noodles & Company operated 413 company-owned and 66 franchised restaurants in 29 states and the District of Columbia. Fiscal 2017 has 52 weeks; fiscal 2016 had 53 weeks.
Key financial results
| Metric | Q3 2017 | Q3 2016 | First three quarters 2017 | First three quarters 2016 |
|---|---|---|---|---|
| Total revenue | $114.2 million | $122.7 million | $343.7 million | $358.1 million |
| Operating loss | $7.5 million | $9.1 million | $33.9 million | $23.2 million |
| Net loss | $8.3 million | $9.8 million | $37.0 million | $26.3 million |
| Net loss per share | $0.20 | $0.35 | $1.23 | $0.95 |
| EBITDA | $(1.3) million | $(2.1) million | $(15.2) million | $(2.2) million |
| Adjusted EBITDA | $9.5 million | $6.2 million | $22.0 million | $19.2 million |
Q3 restaurant revenue declined 6.9%; comparable sales fell 3.8% at company-owned restaurants, 1.6% at franchise restaurants, and 3.5% system-wide. Company-owned average unit volume was $1.066 million, down 1.9%. For the first three quarters, comparable sales decreased 3.4% at company-owned restaurants and 3.0% system-wide.
Q3 restaurant cost ratios improved year over year: cost of sales was 26.5% of restaurant revenue versus 27.3%; labor was 32.6% versus 33.7%; occupancy was 11.2% versus 11.4%; and other restaurant operating costs were 14.0% versus 15.2%. Management attributed improvements to favorable beef pricing, less promotion, restaurant closures, labor initiatives, and lower marketing spending. The first-three-quarter cost-of-sales and labor ratios were each flat year over year at 26.9% and 33.2%, respectively. Restaurant impairments, closure costs and asset disposals rose to $10.3 million in Q3 and $35.1 million year to date.
Cash, debt and liquidity
- At October 3, 2017, cash and cash equivalents were $2.1 million; long-term debt, net, was $63.9 million. The company reported $65.0 million of revolving-credit borrowings and $3.0 million of letters of credit outstanding.
- For the first three quarters, operating cash flow was negative $6.9 million, versus positive $16.1 million a year earlier; capital expenditures were $17.5 million, versus $33.8 million. Financing provided $24.7 million, including net proceeds from equity transactions. Cash increased $0.3 million to $2.1 million.
- Q3 interest expense was $0.9 million; first-three-quarter interest expense was $2.8 million. Debt bears variable interest, and management estimated a 1 percentage-point rate change would alter annualized pretax interest expense by about $0.7 million.
- Management said expected operating cash flow, equity proceeds and credit-facility availability should fund requirements for the next 12 months. It estimated total restaurant-closing liabilities of $18–$23 million, with approximately $9–$14 million remaining to be paid over the next 6–12 months.
Material changes and unusual items
- The company closed 55 underperforming company-owned restaurants in Q1 2017; it identified 18 restaurants as impaired in Q3 and 31 in the first three quarters. Closure costs included landlord lease-termination obligations; year-to-date closure costs were net of a $3.6 million gain from lease-liability adjustments.
- Net loss attributable to common stockholders for the first three quarters included $8.0 million of preferred-stock accretion recorded as a deemed dividend. L Catterton’s preferred shares converted into 4.25 million Class A shares in April 2017. Mill Road purchased 8.87 million Class A shares; the two transactions generated approximately $45.7 million in combined net proceeds.
- Operating cash flow was pressured by payments for lease terminations, litigation and data-breach liabilities, as well as other working-capital changes. A $10.6 million estimate for payment-card company claims had been recorded previously; the filing states potential additional exposure could be up to $5.5 million greater.
- The company maintained full valuation allowances against U.S. and Canadian deferred tax assets and did not expect material income tax expense or benefit for the remainder of 2017.
Outlook, financing and risks
- Management planned 13 company-owned openings in 2017, with 11 opened in the first three quarters, and said it would not enter new markets for the remainder of 2017 or in 2018. It estimated 2017 capital expenditures of $20–$22 million, including $6–$8 million for new-restaurant construction before landlord reimbursements.
- On November 8, 2017, after quarter-end, the company amended its $100 million revolving credit facility. The amendment changed leverage and fixed-charge covenants, raised certain interest margins, required quarterly prepayments of $2.5 million beginning in Q4 2017, shortened maturity to June 4, 2019, and limited capital expenditures to $22 million in 2017 and $10 million annually thereafter. The company was in covenant compliance at October 3, but warned that failure to comply could require a waiver or amendment and adversely affect liquidity.
- Management cited continuing comparable-sales weakness, rising wage and benefit costs, commodity-price volatility, staffing and execution challenges, and dependence on covenant compliance and financing access as risks. It expects wage inflation to continue affecting results.
- The Selco data-security lawsuit was dismissed in July 2017; after quarter-end, a November 2 mediation produced an insurance-funded settlement intended to resolve the appeal. The Delaware gift-card/unclaimed-property litigation remained pending, with trial set for May 2018; the company had accrued an estimated loss but warned actual losses could be greater.
- The company expects adoption of the new revenue standard in 2018 to defer initial franchise-fee revenue over franchise-agreement terms, generally 20 years; it was still assessing the impact. The new lease standard is expected to significantly increase reported non-current assets and liabilities.
Important facts for investors to verify
- Whether comparable-sales trends and unit volumes improve, and whether restaurant closures and operational initiatives deliver sustained margin gains.
- Actual impairment, closure, lease-termination and data-breach costs versus current estimates, including any uncovered payment-card liabilities.
- Compliance with amended credit covenants, mandatory debt prepayments, remaining borrowing availability and the shortened facility maturity.
- Cash flow generation and capital spending against management’s estimates, including the remaining restaurant-closing payments.
- Developments in the Delaware litigation and the accounting and balance-sheet effects of the revenue and lease accounting standards.