Wendy’s Company 10-Q Summary — Third Quarter 2013
Reporting period: Quarter and nine months ended September 29, 2013, comprising 13 and 39 fiscal weeks, respectively. Comparisons are to the periods ended September 30, 2012. Wendy’s operates and franchises quick-service restaurants, primarily in North America, and reports one operating segment. The system included 6,539 restaurants at quarter-end, including 1,369 company-owned and 5,170 franchised locations.
Financial Performance and Position
| Metric | Three months ended September 29, 2013 | Three months ended September 30, 2012 | Nine months ended September 29, 2013 | Nine months ended September 30, 2012 |
|---|---|---|---|---|
| Revenue | $640.8 million | $636.3 million | $1,895.0 million | $1,875.4 million |
| Operating profit | $26.8 million | $31.2 million | $106.3 million | $90.5 million |
| Income attributable to Wendy’s | $(1.9) million | $(26.2) million | $12.4 million | $(19.3) million |
| Basic and diluted earnings per share | $(0.00) | $(0.07) | $0.03 | $(0.05) |
| Cash flow from operations | Not separately reported for the quarter | Not separately reported for the quarter | $252.7 million | $124.6 million |
- Revenue: Third-quarter revenue increased 0.7%; nine-month revenue increased 1.0%. Third-quarter sales were essentially flat because restaurant closures and dispositions reduced sales by approximately $27.0 million, partly offset by new or acquired locations, higher average checks and pricing.
- Same-store sales: Third-quarter North America systemwide same-store sales increased 3.1%, compared with 2.8% in the prior-year quarter. Nine-month systemwide same-store sales increased 1.4%, compared with 2.3% in the prior-year period.
- Restaurant margin: Wendy’s restaurant margin increased to 15.5% in the quarter from 13.9% and to 15.0% for the nine months from 13.3%. Benefits included strategic pricing, sales mix and beverage contracts, partly offset by commodity cost inflation.
- Operating profit: Quarterly operating profit declined 14.1% because higher general and administrative expense, depreciation, impairment and facilities action charges more than offset lower cost of sales. Nine-month operating profit increased 17.5%.
- Cash flow and capital spending: Nine-month operating cash flow was $252.7 million. Capital expenditures were $130.8 million, including $75.1 million for Image Activation restaurants. Net cash increased $60.1 million to $513.4 million at September 29, 2013; $22.6 million was restricted as collateral for letters of credit.
- Debt and liquidity: Total debt, including current maturities, was $1.472 billion at quarter-end versus $1.458 billion at December 30, 2012. The balance included a $350.0 million Term A Loan, a $769.4 million Term B Loan, $225.6 million of 6.20% Senior Notes and $84.4 million of 7% debentures. Management stated that operating cash flow and available cash were expected to fund operating requirements for the next 12 months.
- Dividends and repurchases: The company paid $51.1 million in dividends and repurchased approximately 5.5 million shares for $41.5 million during the first nine months. The quarterly dividend was increased to $0.05 per share in September 2013.
Material Changes Versus the Prior Comparable Period
- Net income attributable to Wendy’s improved from a $26.2 million quarterly loss to a $1.9 million loss, and from a $19.3 million nine-month loss to $12.4 million of income.
- Interest expense declined by $6.0 million in the quarter and $22.3 million for the nine months, primarily because of lower-cost term debt and the prior-year redemption of higher-cost Senior Notes.
- The prior-year periods included substantial debt extinguishment losses of $49.9 million for the quarter and $75.1 million for the nine months. Wendy’s recorded a $21.0 million debt extinguishment loss in the first nine months of 2013 related to its May refinancing.
- Franchise revenue increased 6.2% in the quarter and 1.8% for the nine months, supported by same-store sales, restaurant sales to franchisees, initial franchise fees and rental income.
- Cost of sales as a percentage of sales improved to 84.1% from 85.7% in the quarter and to 84.5% from 86.2% for the nine months.
- The company consolidated its Japan joint venture beginning in the second quarter after ownership and governance changes. The effect was not material, but it produced noncontrolling interests of $0.4 million for the nine months.
Outlook, Unusual Items, Risks and Contingencies
- System optimization: Wendy’s plans to sell approximately 425 company-owned restaurants to franchisees by mid-2014 and consolidate regional and divisional territories. It recorded $26.4 million of related net expense in the first nine months, including $18.4 million of asset remeasurement, $6.1 million of severance and related costs, and $3.1 million of accelerated amortization. Estimated remaining 2013 and 2014 costs were approximately $25.9 million, excluding gains or losses on future restaurant sales.
- As of September 29, 2013, 367 restaurants with net assets of $56.6 million were classified as held for sale. Subsequent to quarter-end, the company sold assets related to 37 restaurants for approximately $25.7 million and expected a pre-tax gain of approximately $4.0 million.
- Debt refinancing: On October 24, 2013, Wendy’s borrowed $225.0 million under incremental Term A Loans and used the proceeds plus cash to redeem its $225.0 million of 6.20% Senior Notes. The company expected a fourth-quarter debt extinguishment loss of approximately $7.5 million.
- Capital requirements: Management expected approximately $104.2 million of additional capital expenditures for the remainder of 2013, bringing estimated full-year capital expenditures to approximately $235.0 million. Planned uses also included dividends of up to approximately $19.6 million and potentially up to $58.6 million of additional share repurchases.
- Operating risks: Management cited intense price competition, high unemployment, consumer spending conditions, commodity inflation, labor and operating costs, food safety, franchisee financial capacity, execution of the Image Activation and system optimization programs, restaurant closures and dispositions, financing availability and interest rates.
- Legal and other contingencies: Accrued legal and environmental matters totaled $3.8 million. The company could have obligations of up to approximately $5.7 million related to Japan JV guarantees and future funding if the other partners cannot perform. The unionized bakery workforce was covered by a multiemployer pension plan while negotiations for a new collective bargaining agreement remained unresolved.
- The company recorded a $5.3 million impairment charge in the quarter, including $4.8 million for aircraft classified as held for sale. Its effective tax rate was unusually high at 116.1% for the quarter and 59.8% for the nine months, influenced by system optimization charges and tax adjustments.
Investor Verification Checklist
- Verify the pace, valuation and profitability impact of the planned sale of approximately 425 company-owned restaurants and the associated $25.9 million estimated remaining costs.
- Reconcile post-quarter-end debt refinancing, Senior Notes redemption costs, interest-rate swap termination and the expected $7.5 million fourth-quarter charge.
- Assess whether improved restaurant margins and same-store sales can offset commodity, labor and competitive pressures after the company-owned restaurant base declines.
- Monitor cash deployment among Image Activation capital expenditures, dividends, share repurchases and restaurant dispositions, including restricted cash supporting letters of credit.
- Review the classification and sale timing of the 367 restaurants held for sale and the effect of future gains or losses on reported earnings.
- Confirm the sustainability of liquidity and covenant capacity given approximately $1.47 billion of debt and planned capital expenditures.
- Evaluate unresolved legal, environmental, pension, franchisee guarantee and Japan JV funding exposures.