DineEquity, Inc. (now Dine Brands Global, Inc.) — Q3 2014 Form 10-Q
Business context and period: The filing covers the quarter ended September 30, 2014 (the fiscal quarter ended September 28) and the nine months ended September 30. DineEquity owned, franchised and operated Applebee’s and IHOP, with more than 3,600 restaurants combined and approximately 99% franchised. The results are unaudited.
Financial performance
| Metric | Three months ended September 30, 2014 | Nine months ended September 30, 2014 |
|---|---|---|
| Revenue | $162.9 million, up 1.0% | $490.6 million, up 1.7% |
| Segment profit | $91.6 million, down from $93.0 million; margin 56.3% versus 57.7% | $283.2 million, up from $278.5 million; margin 57.7%, unchanged |
| Net income | $18.9 million versus $18.7 million | $58.9 million versus $53.9 million |
| Diluted EPS | $0.99 versus $0.97 | $3.06 versus $2.76 |
| Operating cash flow | Not reported separately for the quarter | $102.4 million versus $102.8 million |
| Free cash flow (company-defined, non-GAAP) | Not reported separately for the quarter | $95.2 million versus $97.6 million |
For the nine months, franchise operations generated $340.6 million in revenue and $252.3 million in segment profit. Rental operations produced $21.1 million in segment profit; company restaurant operations recorded a $0.2 million loss. IHOP domestic same-restaurant sales rose 2.4% in the quarter and 3.2% year to date; Applebee’s rose 1.7% and 0.6%, respectively.
Financial position and capital allocation
- At September 30, cash and equivalents were $132.9 million and current assets were $308.6 million, compared with current liabilities of $252.3 million. Cash included approximately $48.3 million held for gift card programs and advertising funds.
- Recorded long-term debt was $1.208 billion, net of discount, including $463.6 million under the senior secured credit facility and $760.8 million of 9.5% senior notes. Capital lease obligations were $115.0 million and financing obligations $55.8 million, including current portions.
- Nine-month cash from investing activities was $5.4 million; capital expenditures were $5.5 million. The company expected full-year 2014 capital expenditures of approximately $10 million.
- Financing activities used $81.0 million, including $42.7 million of common dividends, $30.0 million of share repurchases and $12.1 million of debt, lease and financing-obligation repayments. Dividends declared and paid were $2.25 per share for the nine months.
Material changes, outlook and risks
- Refinancing: On September 30, after the fiscal quarter-end, subsidiaries issued $1.3 billion of 4.277% fixed-rate securitized notes with an expected seven-year term and established a $100 million variable funding facility. Proceeds repaid the $463.6 million credit-facility balance; approximately $833 million was escrowed for repayment of the 9.5% senior notes, accrued interest and a $36 million make-whole premium. The senior notes remained on the September 30 balance sheet pending repayment, expected on or about October 30. Management estimated annual cash interest savings of approximately $34 million. Substantially all domestic revenue-generating assets and domestic intellectual property secure the securitized debt.
- Management said operating cash flow, available cash and borrowing capacity were expected to meet liquidity needs for the next 12 months. The new debt has covenants and financial tests, including debt-service coverage and domestic system-sales thresholds; breaches can restrict cash flows or trigger cash trapping, rapid amortization, default or loss of management control over securitized assets.
- 2014 development expectations were revised: IHOP franchisees were expected to open 55–60 restaurants, up from 40–50; Applebee’s 33–38, down from 40–50. Year-to-date net development was 24 IHOP restaurants and a reduction of two Applebee’s restaurants. Openings are subject to franchisee, economic, construction, regulatory and currency-related uncertainties.
- Management noted that both brands experienced lower customer traffic over the first nine months, partly offset by higher average checks. A sustained traffic decline that cannot be offset by check growth could adversely affect results. Termination, transfer and extension fees are variable; management characterized the prior-year level as unusually high.
- The company had maximum potential lease-guarantee exposure of $383.0 million related to previously sold restaurants; no material liability was recorded. It also disclosed ordinary-course litigation and an IRS tax examination dispute for 2008–2010, while stating reserves were considered adequate.
- On October 27, the board approved a fourth-quarter dividend of $0.875 per share, payable January 9, 2015, and restored the share-repurchase authorization to $100 million. Management expected to use most remaining free cash flow after dividends for repurchases.
Investor verification points
- Confirm completion and accounting treatment of the October 2014 senior-note repayment, including the make-whole premium and resulting interest savings.
- Review the securitized-debt indenture, collateral scope, coverage and sales thresholds, cash-flow restrictions, and repayment or refinancing requirements at the anticipated 2021 repayment date.
- Track same-restaurant sales and traffic trends, especially whether check growth can offset traffic weakness, and compare actual openings and closures with revised brand targets.
- Assess free-cash-flow conversion and the sustainability of dividends and buybacks relative to debt service and operating liquidity.
- Monitor the IRS appeals process, litigation and lease-guarantee exposure; the filing does not quantify a likely loss for these matters.