© 2024 Alpha Spread Limited. All Rights Reserved.
www.alphaspread.com is not operated by a broker, a dealer, or a registered investment adviser. Under no circumstances does any information posted on www.alphaspread.com represent a recommendation to buy or sell a security. The information on this site, and in its related newsletters, is not intended to be, nor does it constitute, investment advice or recommendations. The information on this site is in no way guaranteed for completeness, accuracy or in any other way. In no event shall Alpha Spread Limited be liable to any member, guest or third party for any damages of any kind arising out of the use of any content or other material published or available on www.alphaspread.com, or relating to the use of, or inability to use, www.alphaspread.com or any content, including, without limitation, any investment losses, lost profits, lost opportunity, special, incidental, indirect, consequential or punitive damages. Past performance is a poor indicator of future performance.
You don't have any saved screeners yet
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Ladies and gentlemen, thank you for standing by, and welcome to the Pizza Pizza Royalty Corp. Third Quarter Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded on Tuesday, November 6, 2018. I will now turn the call over to Christine D'Sylva, Vice President of Finance and Investor Relations. Please go ahead.
Thank you. Good afternoon, everyone, and welcome to Pizza Pizza Royalty Corp's earnings call for the third quarter ended September 30, 2018. Joining me on the call today are Pizza Pizza Limited's Chief Executive Officer, Paul Goddard, and Chief Financial Officer, Curt Feltner.Our discussion today will contain forward-looking statements that may involve risks relating to future events. Actual events may differ materially from the projections discussed today. All forward-looking statements should be considered in conjunction with the cautionary language in our earnings press release and the risk factors included in our annual information form. Please refer to our earnings press release and the MD&A in the Investor Relations section of our website for a reconciliation and other disclosures related to our non-IFRS measures mentioned today on this call. As a reminder, analysts are welcome to ask questions after the prepared remarks. Portfolio managers and media can contact us after the call. With that, I would like to turn the call over to Paul Goddard for our business update.
Thanks, Christine. Good afternoon, and thanks, everyone, for joining the call.In the third quarter, we are pleased to report stronger sales momentum when compared to our second quarter. While same-store sales was slightly negative, at negative 0.8%, our third quarter pricing strategies and marketing messages resonated with consumers. We introduced value offerings, like our buy one, get one large pizza promo, and built marketing campaigns around our exciting new cauliflower crust pizzas. We look forward to building on this positive momentum in the fourth quarter, which historically has been our strongest sales quarter.In Q3, Royalty Pool System Sales decreased slightly by 0.4% to $138.5 million from $139 million in Q3 last year. For the nine-month period ended at September 30, Royalty Pool System Sales decreased 0.6% to $404.9 million, compared to $407.4 million in the same period last year.As Canada's number one pizzeria, operating for over 50 years in the pizza industry, we leverage our market-leading positions by staying top of mind with consumers. Before giving our quarterly business update, I want to say a few words regarding the recent decline in our share price. Since our Q2 call, our share price has declined nearly 30%. In my view, this is unwarranted and is not reflective of the strength in our business. While I can't fully explain the stock market pressures on our shares, I can say with certainty that Pizza Pizza's underlying business fundamentals are as strong as ever. We continue to strategically invest in our business. And while I certainly agree that our second quarter results fell below historic results and expectations, one quarter doesn't warrant the level of downward pressure our stock has recently experienced.With regards to our dividend and our payout ratio, Pizza Pizza Royalty Corp's monthly dividend is supported by a significant cash reserve, which is $4.2 million as of September 30. The sole purpose of this reserve is to smooth any short- to medium-term weakness in System Sales, which we have experienced recently.Regarding the company's payout ratio, which is 106% at September 30, management believes that the payout ratio will move closer-not quite there, but closer to our 100% payout target after we report the fourth quarter results, which as I mentioned, has historically been our strongest sales quarter. So, we can't control the stock market, so we will continue growing our business in a profitable manner for all stakeholders, including shareholders and franchisees. Let's turn to our business update. First, as an organization and within our overarching strategy, we have identified six core elements of our business to focus on, driven by relentless, customer-first decision making. Those elements are, number one, delivering extreme convenience; number two, focus on food quality; number three, improving brand relevance; four, providing baseline driving initiatives; five, service excellence; and six, maintaining value for money. We believe our focus on these six elements across the organization in both the short and long term will deliver profitable guest visits and improve our business trajectory.Specific to new sales growth initiatives within marketing and acknowledging the past few quarters of sale weakness, earlier this year, Pizza Pizza began a transition towards a renewed strategic engagement with consumers. We fully committed to the transition by hiring a seasoned marketing officer with strong retail, QSR, and ad agency experience. I'm pleased to report in just a few months, we are seeing positive momentum under that new marketing leadership.To support sales growth and brand building, our marketing team has recently invested in business-critical research to aid in fact-based decision making, improved our approach to retail pricing by contracting with a renowned leading pricing consultancy; we've formed new ad agency relationships, and we're actually presently finalizing our media agency search; and we've introduced new creative communications to improve our brand's relevance with consumers. These strategies are long-term ongoing efforts in a new direction.We've also employed a mix of successful short-term sales building tactics to help drive the average guest check and possible traffic. For example, our BOGO, or buy one, get one $5 large pizza offering and our $11.99 extra-large two-topping pizza offering were well received with our delivery customers and produced a very healthy average check. Also, Pizza 73, we had our summer four-pack perennial favorite do well as well. For the more value-conscious consumer, our $8.99 medium two-topping and [ dip] generated [indiscernible] traffic and a decent check total as well. And additional value propositions driving profitable traffic will continue to be layered into the mix as we see fit.And the launch of our new cauliflower crust pizza is another specific example of a transition towards a more strategic engagement with consumers. Cauliflower crust pizza has enabled us to have a new conversation about Pizza Pizza in consumers' lives. The offering has a much higher average check, suggesting we've attracted a non-price-sensitive customer. You'll see more of these strategic sales building initiatives, and management believes a gradual return to historical sales levels. So we're feeling optimistic about the early successes with the strategic shift in our business.Touching on restaurant operations, along with our strategic marketing initiatives, our restaurant operation teams have doubled down on our quality commitment of always the best food, made especially for you. In recent months, our restaurant operation teams have worked more closely than ever alongside our store operators, placing even greater emphasis than before on operation execution quality, with particular focus on ensuring our pizzas are made and baked to perfection consistently, each and every time.In meeting our operational and customer satisfaction standards, our stores are continuously benchmarked for quality, service, and cleanliness using customer feedback surveys, strict audits, and independent Google ratings, for example. Our pizzas are made using the finest ingredients, beginning with dough made fresh daily and topped with our pizza sauce made with 100% vine-ripened tomatoes, freshly packed within six hours of harvest. The pizzas are topped with a wide array of delicious toppings, including our 100% Canadian mozzarella cheese, grilled chicken, and Kalamata olives from Greece. Appealing to a wide demographic, we also offer gluten-free crust, chicken raised without antibiotics, and also dairy-free cheese, which has done very well with the vegan customers. Our marketing and our operations teams are working side-by-side to provide an enhanced customer experience, which is key to consistent sales growth and positive brand perception. I also want to provide an update on how the private operating company is strategically investing in the business. First, as the largest shareholder of Pizza Pizza Royalty Corp. on a fully [ diluted ] basis, Pizza Pizza Limited's interests are closely aligned with other shareholders of the Realty Corp. The following are examples of strategic investments by the private company: Our ongoing technological investments in customer ordering platforms will continue to provide the company major advantages over competitors who may not have the capital necessary to continually reinvest, like we do at Pizza Pizza. A few examples are our fully revamped Pizza Pizza website and iPhone and Android apps we'll relaunch in 2019, and we're working with an award-winning design group there. Our IT investments will offer consumers enhanced ordering capabilities, greater convenience, digital loyalty, and brand dominance.The private company is also making excellent progress with our restaurant renovation program, which has been ongoing since January 2017 and is funded by our franchisees, and at the end of the quarter, over 80 of the 424 Pizza Pizza restaurants showcased [indiscernible] in store, lobby, and signage, and customers love the fresh look and improvement ambiance.Also, at Pizza 73, operating largely in Alberta, our new Edmonton food warehouse and distribution center opened in August 2018, and this state-of-the-art facility consolidated two warehouses to better service our expanding Pizza 73 restaurant chain. So we consider these investments examples of our strong belief in our brands, and we're committed to building long-term shareholder value.Touching on restaurant development, we began the year targeting at 2% growth in new restaurant openings, but have now scaled it back a bit to 1% to 2%, with growth coming from a continuation of our national expansion strategy. During the quarter, Pizza Pizza opened its first traditional restaurant in Vancouver, with two additional Vancouver area restaurants to follow later in the year. Pizza Pizza opened four nontraditional locations, in addition to opening one Pizza 73 traditional restaurant and closing one nontraditional restaurant [indiscernible]. Two traditional and seven nontraditional Pizza Pizza restaurants were closed during the quarter. And during the nine-month period, we have opened 19 restaurants. By brand, Pizza Pizza opened five traditional and nine nontraditional restaurants; two traditional and nine nontraditional restaurants closed. Pizza 73 opened three traditional and two nontraditional restaurants, and one nontraditional restaurant closed. Pizza Pizza is focused squarely on future growth and innovation, and we continue to invest heavily in our entire platform right across Canada to ensure we are well positioned to continue to lead the highly competitive QSR pizza market. Our roadmap, both short and long term, will see our brands repositioned in the market, by building brand relevance to consumers through quality messages, technological investments, and strategic execution at all levels of our business.Thank you for joining the call, and I'll now ask Curt Feltner, our CFO, to provide a quick financial update.
Thank you, Paul. So as a reminder, Pizza Pizza is a top line restaurant royalty corp. that earns a monthly royalty through a lease agreement with Pizza Pizza Limited for the use of Pizza Pizza and the Pizza 73 trademarks in their restaurant operations. The royalty is calculated as a percentage of Royalty Pool System Sales reported by the restaurants in the Royalty Pool. Pizza Pizza Royalty Corp. indirectly owns the brands and the trademarks through its subsidiary, Pizza Pizza Royalty Limited partnership, and this partnership has 2 partners, Pizza Pizza Royalty Corp. and Pizza Pizza Limited, the private operating company.So with that background, let's turn to the company's financial results. First, as Paul mentioned, our same-store sales growth, which is the key driver of yield growth for shareholders, decreased slightly by 0.8% for the quarter compared to the same quarter last year, and year-to-date our same-store sales growth has decreased 1.4%. By brand-just a little detail, same-store sales growth for Pizza Pizza, which operates largely in Eastern Canada, decreased by 0.9% for the quarter, while Pizza 73, operating largely in Alberta, decreased 0.5% in the quarter.For the three months ended September 30, System Sales decreased 0.4% to $138.5 million, and for the nine-month period Royalty Pool System Sales decreased 0.6% to $404.9 million. Total Royalty Pool System Sales for the three- and the nine-month periods decreased as a result of the reported decrease in same-store sales, offset by the impact of new restaurants added to the Royalty Pool on January 1 of 2018.So now, with regards to the statement of earnings for [indiscernible], the following partnership transactions are consolidated into Pizza Pizza Royalty-Pizza Pizza Royalty Corp's financial statement. So through those lease arrangements that I mentioned earlier between Pizza Pizza Limited and Pizza Pizza Royalty Corp., the partnership receives royalty income calculated at the percentage of top line sales. Royalty income earned by the partnership on top line Royalty Pool sales was $8.9 million for the quarter, and that was consistent with Q3 last year, and for the nine-month period, royalty income decreased 0.4% to $26.2 million. So using this royalty income, the partnership pays administrative expenses and interest expense, before making monthly partnership distributions. Administrative expenses for the quarter were $122,000, compared to $142,000 in Q3 last year. And for the nine months, admin expenses were $399,000 compared to $457,000 in the nine-month period in 2017. Administrative expenses consist of directors' fees and audit, legal, public reporting fees, as well as directors' and officers' insurance.In addition to the admin expenses, the partnership pays interest expense on its $47 million credit facility. Interest paid, combined with a small loan fee amortization expense, was $334,000 in Q3 and $993,000 for the nine-month period, both relatively unchanged from last year. The interest rate was 2.75% for both years and is hedged through April 2020, which is the credit facility maturity date. So interest expense on the statement of earnings differs from the interest actually paid due to hedge accounting, and as Christine mentioned earlier, a full interest expense reconciliation can be found in the company's MD&A. So after the partnership receives royalty income, pays admin and interest expense, the resulting net cash is available for distribution to Pizza Pizza Limited and Pizza Pizza Royalty Corp. Effective January 1, 2018, Pizza Pizza Royalty Corp. owned 77.7% of the partnership, compared to 78.9% in 2017. Pizza Pizza Limited owns the remaining 22.3%, which increased by 1.2% on January 1, when new restaurants were added to the royalty poolSo for the quarter, the company reported earnings before income taxes of $8.5 million, compared to $8.6 million in Q3 2017. Earnings for the nine months were $24.9 million compared to $25.2 million in the prior year nine months. The slight decrease in earnings in the quarter nine months is attributable to a slight decrease in royalty income.Current income tax for the quarter in the nine months were unchanged. The quarter was $1.4 million and the nine months is, to date, $4.2 million. Regarding our earnings per share, fully diluted basic EPS decreased 1.4% to $0.213 per share for the quarter and decreased 1.9% to $0.632 per share for the nine-month period. EPS decreased compared to 2017 due to a decrease in royalty income and an increase in Pizza Pizza Limited equivalent shares as of the January 1, 2018 adjustment date.So as compared to basic EPS, the company considers adjusted EPS to be a more meaningful indicator of the company's operating performance and its ability to pay the monthly dividend. Therefore, the company also reports fully diluted, adjusted EPS. Adjusted EPS for the quarter decreased 0.4% to $0.222, and decreased 1.7% for the nine months. The suggested EPS calculation and reconciliation to basic EPS can also be found in our company's MD&A.So just turning to dividends and working capital, the company declared shareholder dividends of $0.2139 per share for the quarter and a payout ratio of 102% for the quarter, compared to 101% in the prior year comparable quarter. Year to date, the company has declared dividends of $0.6417 per share, which was unchanged from last year, and the payout ratio year to date is 106% versus 102% same time last year.The company's working capital reserve is $4.2 million. Paul touched on this; the reserve is available to stabilize our dividends in the event of short- to medium-term variability in our System Sales. And as a reminder, the company does not have capital expenditure requirements, nor does the company have employees. So from a high level, our working capital reserves for the nine months has decreased $895,000, so it's-the year-to-date decrease in the reserve is largely attributable to the negative same-store sales. But there was also a true-up payment on January 1 adjustment date of $111,000, which related to 2017 activity at Pizza Pizza Limited.So with this reserve in place, the company will continue to target a payout ratio at or near 100% on an annualized basis. And as a reminder, our System Sales for the fourth quarter have historically been our strongest.So that concludes our financial overview. I will now turn the call back to Josh for questions.
[Operator Instructions] Your first question comes from Derek Lessard with TD Securities.
I'm just wondering maybe if we could address the traffic trends first, more specifically at Pizza Pizza. Last quarter was down pretty significantly. There does seem to have been some improvement on that side. I guess my first question, is it fair to assume that it was down somewhere closer to mid-single digits? And maybe as a follow-up to that, you did mention there was an increase in retail prices. Are these of the same magnitude that you put through in Q2, or was there some pullback there?
Yes, so the retail pricing actually was effective towards Q1, and that was related to the minimum wage increases. With regards to your traffic estimations, we don't really provide exact, but the traffic has been similar, I guess, from period to period, to address your question.
Okay. All right, that's fair enough. You also mentioned that you're adjusting, and this is in the MD&A, the pricing strategies to increase traffic. I was just wondering if you could talk about what that might entail.
Yes, I guess what I tried to allude to there in my comments is that with our marketing approach now, we're really trying to be a little more sophisticated about how we go about our overall pricing strategy. So depending which demographics we're speaking to, if it's a cauliflower crust customer, you know we're pretty comfortable with a high price there, targeting the right demographic and getting a higher price. Just [indiscernible], for example, the BOGO was also a great way to get checks higher and entice people to bundle on another [ $4 ] to $5 more. But we're trying to layer in value to the right customers where it makes sense, and so it's a real blend. I mean, what we're trying to be careful of is getting into a sort of deep-discounting scenario, where we're not having a profitable level. We obviously need to get sufficient volume to get those sales, but we want to be careful about how and where we do that. So I think we're just being very selective about what we do. And I don't want to say too much about specific strategies, just for competitive reasons.
But overall, Derek, our strategies-and we've spoke to our new leadership in our marketing area-it's a more strategic methodology behind this. So we're looking at driving profitable traffic, and not [indiscernible]. Our food costs at our restaurants have come down, and so we're seeing profitable traffic. We are interested in capturing the remainder of what we feel like is there for us to take, which is, say, maybe more walk-in profitable traffic. So we will continue just being strategic, but it is profitable traffic that we're finding now, which is something that's very strong for our entire system, both our shareholders and our restaurant operators. That's what we're after.
This is pretty early on. I guess could you talk to some of the -- so you are seeing profitable traffic in the stores?
Yes. Like Paul mentioned, one of the successes that we -- that is happening in the market now for, say, three months is our buy one, get the second large pizza for $5. So what we're finding is that people really load up the toppings on the first pizza, and then that second one is $5, and that's really driving the average check, which is great. It's a win-win.And then, Paul also mentioned the extra-large at $11.11. So what we are having -- or sorry, $11.99, sorry. So the XL $11.99, we were tracking through our BI software that we're really seeing good success in adding on to that price point and getting well above $20 on those. So it's that strategy that we're now pursuing, and successfully pursuing.
Okay, so you're willing to let some of the, I guess the less profitable traffic go away.
No. So what we're pursuing now is making what was some eliminations that we did last year that were just not profitable on the whole for us, we're now going back and revisiting those and bringing those back in a more profitable way. And if -- it's clever, but it is turning out to be successful, and it is also at the same time driving the check a bit. So it's early. I think our new marketing team will tell you that you don't turn the ship quickly. But we're very pleased with the whole new strategy, so that's my message.
Okay, that's fair and clear. I know it's kind of -- it's very lumpy, the restaurant openings, but I mean, there was a little bit higher level of closings in the quarter.
Yes, largely at our nontraditionals, which historically, like, have been a little unpredictable. And those were actually -- those were actually good things. They were not very profitable sponsorship [indiscernible], so we were divorcing ourselves of those.
Okay, maybe switching gears to Pizza 73, same-store sales were only slightly negative and it's probably the best they've been in about six quarters. Is there anything that you guys could point to that could help explain the improvement?
I think it was just a blend of various promotions that we've had. The Pizza Family campaign that went well, and back-to-school, our solo pizzas have resonated quite well. And again, there we've tried to segment to different people as well, and they just overall seem to be getting a little more traction than they had in the prior quarter.
Is there an improvement in the economic backdrop in Alberta that you're able to point to?
It seems to be kind of patchy there, in our view. Just offhand, I think generally, the sort of northern part of the province maybe did a little strong. Curt can correct me if I'm wrong, but I thought the [indiscernible] side was a little weaker, still. So we don't see tremendous strength there. It still seems fairly weak to us, but it does seem like we're finally getting a little bit of traction there.
Our solo pizzas have -- so traditionally, Pizza 73 is-the everyday deal is buy one, get one type things. So our solo pizzas for the single demographic has filled in nicely.
Just a couple more. There's been a lot of chatter with respect to the online delivery channel, and it's not only impacting you guys, but other QSRs as well. I'm just wondering if you've been able to quantify, like, how impactful it's been on your business and if that competitive intensity has picked up recently.
So when you say online channel-
Like the Uber Eats, Foodora.
So third party?
Yes, sorry.
Yes, I mean, it definitely -- it is hard to quantify specifically, but I think there's no question that those platforms are spending marketing dollars. And the fact that you can get any QSR food delivered now, or FSR food for that matter, it is definitely a competitor that we didn't used to face, certainly. So it definitely is having an impact.
Okay.
It's tough to quantify, Derek, but we -- intuitively, people have more choices now.
Yeah. But again, the data that we do have says that within Pizza QSR, we are holding our own in terms of MTD data that we've had. I think I referenced it in the last call that we seem to be holding steady in Pizza QSR, but I think Pizza QSR relative to all QSR, because of third-party delivery, there is some headwinds there, for sure.
But it's definitely something that we're not ignoring and we'll maybe have some things to talk about on Q4 surrounding that.
Okay, so you don't think the-I mean, if you look across the QSR industry as a whole, like, we're not seeing very many restaurants report, like, historic 3%, call it, same-store sales growth anymore. Do you think that the decline that we're seeing is I guess secular, or do you think it's more of a cyclical? Like, because you did mention that you anticipate getting back to higher levels of sales in the medium to longer term.
Yes, it's tough to say. I mean, I think that there's different theories about the third-party aggregators. I mean, some people believe there will be a consolidation of some of them because not a lot of them are making money, I think, just their own structure makes it hard to pay drivers at a level more than what we pay our drivers-or rather, GSR delivery people do. So it's hard to say. I mean, I think overall, they're going to be here to stay, maybe even if there are fewer of them. So I think it's incumbent on brands like us that have a huge oven-to-doorstep brand consistency, a holistic experience, to basically leverage that and show that there is value, whether it's a more competitive delivery charge, if it's a better brand experience all the way through, if there's a customer issue, it's us. It's not some unknown driver with a foreign delivery bag sort of thing. So we think that as part of the strategic marketing side of things, that is what part of the service excellence equation is, is really leveraging our experience, making sure that our apps, as well, are as good or better than some of these platforms which are quite convenient to use and becoming very common. So we think if we play our cards right, positioning our brand to be more relevant and more holistic through the whole customer journey and having relevant technology that's super convenient, super-fast, then we can, I think, regain some customers. Often, we did do a focus group even last quarter where we took some people and we actually asked them how would you order pizza if you had one of these third-party platforms, or would you use us? And they said well, I might see it on there if it's on offer, but I know that it's cheaper and quicker to get it through you, so I'll use my organic pizza app rather than using third-party delivery. So it's kind of interesting to see that some people might be willing to pay more to get pizza that way, but I think if we can show that we are a better organic method, we'll still prevail.
That makes sense, and that's maybe a segue into the relaunch of the iPhone and Android apps. Is that the-is this a, I guess, new initiative, or am I mistaken? Because you already had the app. Or am I confusing that with the loyalty program?
No, we did have -- we've released a number of apps, right, over the years, iPhone apps, Android apps, et cetera. This is really generation two at Pizza Pizza, so these are new, will be new. They will be replacing our current iPhone/Android app and our website as well at just Pizza Pizza. And that's roughly early 2019 time frame. So that is a new project, and part of that is the loyalty, and the loyalty side of things, also we are enhancing our official loyalty offering as well in the coming months.
Okay. Is there anybody else that you know out there, or a big competitor, that employs a loyalty program?
There do seem to be a few competitors with some basic loyalty programs out there. Ours is a little different. We are looking at enhancing ours, but there are some out there. I think that ours is fairly unique in that it is offered on basically every channel, and many people do not offer it on every channel.
Okay, and I guess my last question would be do you have a -- and you did mention that it's a big ship to turn. Do you have a sort of a set timeframe in when you would expect all of these initiatives to start contributing?
It is difficult to predict with certainty. I think we're highly motivated, obviously, to get positive same -- store as soon as possible, every quarter. But I know some of these things will take a bit of time, but I guess we feel a lot of urgency, obviously, to drive our performance back up, and our traffic specifically. But we also are patient, in that we do believe this strategy will take a little time. We want to do it right. It's really a [ new ] foundation. It's much more multifaceted, much more fact-based, research-based, and we just feel it's -- there's a lot more business intelligence behind it. And so, some of those things we think we can-some of that knowledge we can leverage quicker into the market, and some other things will take some time yet. So I think it will be over a period of time, and I don't think I can put a specific timeframe on that, but certainly moving as fast as you can.
Okay, thanks for taking my questions, everybody.
[Operator Instructions] There are currently no more questions at this time. I'll turn the call back to the presenters.
Thank you, Josh, and thank you, everyone, for being on the call this evening with us. If you have any questions after this call, please contact us. Our information is on the earning release. Thank you, and have a good evening.
This concludes today's conference call. You may now disconnect.