DineEquity, Inc. Form 10-Q Summary
Reporting period: Third quarter of fiscal 2017, reported as ended September 30, 2017; the fiscal quarter actually ended October 1, 2017. Comparisons are with the corresponding 2016 periods. The issuer’s name in the filing is DineEquity, Inc.
Business context and financial results
DineEquity owned and franchised Applebee’s and IHOP, with more than 3,700 restaurants. Its three reportable segments were franchise, rental, and financing operations. In June 2017 it refranchised nine company-operated IHOP restaurants and closed the tenth, ending permanent company-operated restaurant operations.
- Revenue: Third-quarter revenue was $144.7 million, down 7.3%; nine-month revenue was $456.0 million, down 5.0%.
- Profit and margins: Third-quarter net loss was $451.7 million, or $24.98 per diluted share, versus net income of $24.3 million, or $1.33 per diluted share, a year earlier. Nine-month net loss was $416.1 million, or $23.09 per diluted share, versus net income of $76.6 million. Gross profit was $80.1 million for the quarter and $264.5 million for nine months; overall gross margin was approximately 55.4% and 58.0%, respectively.
- Cash flow: Nine-month operating cash flow was $31.0 million, down from $62.1 million. Investing activities provided $6.4 million; financing activities used $72.7 million. Adjusted free cash flow, a company-defined non-GAAP measure, was $29.4 million versus $66.2 million.
- Liquidity and debt: September 30 cash and cash equivalents were $104.2 million; current assets were $283.3 million and current liabilities were $203.4 million. Long-term debt, including current maturities, was approximately $1.30 billion; the company also had capital lease and financing obligations. It had $95.0 million available under its $100 million revolving facility after letters of credit. Leverage ratio was 5.36x and debt-service coverage ratio was 4.33x.
- Capital allocation: Nine-month cash dividends were $52.3 million and share repurchases were $10.0 million. The board declared a $0.97-per-share third-quarter dividend, paid October 6, 2017.
Material changes versus the prior comparable period
- A $531.6 million non-cash impairment charge comprised $358.2 million for Applebee’s goodwill and $173.4 million for its tradename. This drove the reported quarterly and year-to-date losses and reduced stockholders’ equity to a deficit of $216.7 million. The goodwill impairment was not tax-deductible; the tradename impairment generated a $65.1 million deferred tax benefit.
- Applebee’s domestic same-restaurant sales fell 7.7% in the quarter and 7.3% for nine months; IHOP’s fell 3.2% and 2.5%, respectively. Applebee’s quarterly sales decline was attributed mainly to lower customer traffic and a small decrease in average check.
- Applebee’s franchise revenue fell 13.8% for the quarter. Bad debt expense and royalties recognized only when collected increased, while franchisee contributions to the Applebee’s advertising fund weakened. Applebee’s restaurant closures also reduced royalty revenue.
- General and administrative expense rose $2.0 million in the quarter and $13.8 million for nine months. The year-to-date increase included $8.8 million of former CEO separation and accelerated equity-vesting costs.
- The company recognized a $6.2 million gain on the IHOP refranchising transaction. Revenue also declined following the transfer and closure of the company-operated restaurants.
Outlook, risks, and contingencies
- Management expected 2017 Applebee’s development of 20–30 restaurants and closures of 105–135 globally; IHOP development of 80–95 and closures of 25–30. The anticipated Applebee’s net decline was expected to reduce royalty revenue. Actual openings and closures could differ.
- Management expected approximately $10 million of 2017 costs for Applebee’s stabilization initiatives, with about $8 million incurred through September. It contributed $4 million to the Applebee’s National Advertising Fund in the third quarter and expected another $4 million in the fourth quarter; further contributions were possible. Brand repositioning and operational initiatives were expected to take 12–18 months.
- Management cited franchisee financial stress, including one franchisee representing approximately 5% of Applebee’s domestic system sales. Potential assistance could create additional costs. It also identified risks from continued sales declines, bad debt, cash-basis royalties, advertising-fund shortfalls, and further impairment if stock price, performance assumptions, or discount rates deteriorate.
- Management expected capital expenditures of approximately $14 million for 2017 and said cash, operating cash flow, and available borrowing capacity should meet liquidity needs for the next 12 months. Because leverage exceeded 5.25x, a $3.25 million quarterly principal payment was due in the fourth quarter; this was not itself a debt covenant violation.
- Lease guarantees had a maximum potential future liability of $325.2 million, or $54.5 million excluding unexercised option periods; no material guarantee liability was recorded. The company was involved in ordinary-course litigation and said it did not expect current proceedings to have a material adverse impact, while noting outcomes were uncertain.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter. It cautioned that forward-looking statements are subject to risks and need not be updated.
Most important facts for investors to verify
- Whether Applebee’s sales, traffic, franchisee payment performance, and restaurant closures stabilize—and whether planned initiatives or advertising-fund support require further spending.
- Whether the assumptions underlying the $531.6 million impairment remain reasonable and whether additional impairment is possible.
- Debt-service coverage, leverage, required principal payments, and the availability of the revolving facility under the securitized debt terms.
- Cash generation and dividend sustainability in light of lower operating cash flow and adjusted free cash flow.
- Actual 2017 restaurant openings and closures, capital expenditures, lease-guarantee exposure, and resolution of litigation and tax examinations.