The Wendy’s Company 2020 Q2 Form 10-Q Summary
Business context and reporting period
The filing covers the 13-week quarter and 26 weeks ended June 28, 2020, compared with the periods ended June 30, 2019. Wendy’s operated or franchised 6,806 restaurants in the United States and 30 foreign countries and territories, including 358 company-operated U.S. restaurants, 5,504 U.S. franchised restaurants and 944 international franchised restaurants. Approximately 95% of the system was franchised.
The business was materially affected by the COVID-19 pandemic. Dining rooms were broadly closed or restricted, while drive-thru, delivery and carryout remained available. Wendy’s launched breakfast across the U.S. system on March 2, 2020.
Financial performance and key metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Total revenue | $402.3 million | $435.3 million | $807.3 million | $843.9 million |
| Operating profit | $60.7 million | $80.6 million | $109.4 million | $146.8 million |
| Net income | $24.9 million | $32.4 million | $39.3 million | $64.3 million |
| Diluted EPS | $0.11 | $0.14 | $0.17 | $0.27 |
| Operating margin | 15.1% | 18.5% | 13.6% | 17.4% |
| Net margin | 6.2% | 7.4% | 4.9% | 7.6% |
| Company-operated restaurant margin | 14.4% | 16.5% | 12.2% | 15.8% |
Q2 revenue declined 7.6% and six-month revenue declined 4.3%. Q2 operating profit declined 24.7%, and six-month operating profit declined 25.5%. Net income declined 23.1% in Q2 and 38.9% for the first six months.
- Q2 company-operated sales declined to $164.2 million from $181.1 million; six-month sales declined to $331.0 million from $348.7 million.
- Q2 franchise royalty revenue and fees declined to $103.1 million from $109.1 million, while franchise rental income declined to $56.9 million from $58.5 million.
- Q2 advertising funds revenue declined to $78.1 million from $86.6 million.
- Q2 U.S. systemwide same-restaurant sales declined 4.4%; international same-restaurant sales declined 18.4%; global systemwide same-restaurant sales declined 5.8%.
- Q2 global systemwide sales were $2.624 billion, down 6.2% on a constant-currency basis. U.S. systemwide sales declined 4.0% and international franchised sales declined 24.5%.
- Breakfast represented approximately 8% of U.S. systemwide sales in Q2 and partially offset pandemic-related traffic declines.
- Company-operated restaurant margin declined primarily because lower customer traffic and temporary recognition pay increased labor costs as a percentage of sales.
Cash flow, debt and liquidity
| Metric | June 28, 2020 | December 29, 2019 |
|---|---|---|
| Cash and cash equivalents | $338.0 million | $300.2 million |
| Total cash, cash equivalents and restricted cash | $409.5 million | $358.7 million |
| Total assets | $5.070 billion | $4.995 billion |
| Total debt, including current portion, before unamortized issuance costs | Approximately $2.419 billion | Approximately $2.314 billion |
| Net long-term debt reported on balance sheet | $2.385 billion | $2.280 billion |
- Six-month operating cash flow was $30.6 million, down from $154.1 million, primarily because of lower earnings, extended royalty payment terms, a $24.7 million financial institutions class action settlement payment and higher incentive compensation payments.
- Six-month investing cash outflow was $24.9 million, including $29.4 million of capital expenditures. No restaurants were acquired in 2020 versus $5.1 million of acquisitions in the prior-year period.
- Six-month financing cash inflow was $48.3 million, compared with a $130.2 million outflow in 2019, primarily reflecting pandemic-related borrowings.
- The company drew $120.0 million under its 2019-1 variable funding notes, $25.0 million under the U.S. advertising fund revolver and C$5.5 million under a Canadian revolver. The $120.0 million borrowing was repaid after June 28, 2020.
- Wendy’s issued $100.0 million of additional variable funding capacity in June 2020; it was undrawn as of June 28, 2020.
- Management stated that available cash and operating cash flow were expected to provide sufficient liquidity for the next 12 months, while cautioning that additional financing might not be available on acceptable terms.
Material changes versus the prior comparable period
- COVID-19 reduced customer traffic, same-restaurant sales, franchise royalties, advertising contributions and rental collections. The U.S. systemwide same-restaurant sales decline was partially offset by higher average checks and breakfast.
- Restaurant margin fell 210 basis points in Q2 and 360 basis points for the first six months, primarily because labor and occupancy-related costs represented a greater percentage of lower sales.
- Six-month long-lived asset impairment increased to $4.7 million from $1.7 million, primarily reflecting expected deterioration at certain company-operated restaurants due to COVID-19.
- Reorganization and realignment costs increased to $6.8 million for the first six months from $4.4 million, driven by the IT realignment plan. The company expects total IT realignment costs of approximately $16 million to $17 million, with approximately $1 million of additional costs expected and most remaining costs expected in the second half of 2020.
- Unlike Q2 2019, Q2 2020 had no loss on early extinguishment of debt; the prior-year quarter included a $7.2 million charge.
- Receivables increased materially because Wendy’s extended royalty payment terms by 45 days and offered rent deferrals to support franchisees.
Guidance, outlook, commentary and risks
The filing does not provide clear formal full-year 2020 revenue, earnings or same-restaurant sales guidance. Management stated that the pandemic’s impact on 2020 net income and cash flows could not be reasonably estimated and that quarterly results were not necessarily indicative of full-year results.
- As of August 2, 2020, more than 70% of dining rooms were open and approximately 2% of system restaurants were temporarily closed. July U.S. systemwide same-restaurant sales increased 8.2%.
- Beef supply disruptions experienced in early May had returned to normal across the system by June 28, 2020, but future supply interruptions remain a risk.
- The company plans to fund up to $15 million of incremental advertising during the remainder of 2020. Advertising fund expense was expected to exceed advertising fund revenue by approximately $20 million for 2020.
- Wendy’s reduced its quarterly dividend from $0.12 per share in Q1 to $0.05 per share in Q2 and Q3. It intended to continue quarterly dividends, but future declarations were not assured.
- Share repurchases were suspended in March 2020. The company intended to resume repurchases during 2020 subject to market and economic conditions; $85.5 million remained available under the February 2020 authorization at quarter-end.
- Wendy’s expects to sell 43 company-operated New York restaurants to franchisees in the first quarter of 2021, while retaining its Manhattan company-operated restaurants.
- The largest franchisee, NPC Quality Burgers, filed for Chapter 11 bankruptcy on July 1, 2020. Its Wendy’s restaurants remained open and current on obligations that were due as of the filing date, but the ultimate impact remains uncertain.
- Other risks include franchisee financial distress, labor and commodity inflation, supply-chain disruption, restaurant impairments, debt covenant compliance, real-estate exposure, litigation, cybersecurity and the potential discontinuation of LIBOR.
Most important facts for investors to verify
- Whether the post-quarter recovery in U.S. same-restaurant sales and restaurant traffic is sustained as dining-room restrictions and consumer behavior change.
- The financial effect of franchisee payment deferrals, rent abatements and NPC Quality Burgers’ bankruptcy on royalty, rental and advertising cash collections.
- Available liquidity and debt levels after repayment of the $120 million 2019-1 variable funding borrowing, including compliance with debt covenants.
- Whether further COVID-19-related impairments, franchisee support costs or supply-chain disruptions occur.
- The timing and economics of the planned New York restaurant dispositions, IT realignment costs and any resumption of share repurchases.
- The sustainability of the reduced $0.05 quarterly dividend given weak operating cash flow and elevated leverage.