Papa John’s Announces First Quarter 2019 Results and Reaffirms 2019 Outlook

LOUISVILLE, Ky.–(BUSINESS WIRE)–Papa John’s International, Inc. (NASDAQ: PZZA) today announced
financial results for the first quarter ended March 31, 2019.

Highlights

  • First quarter 2019 loss per diluted share of ($0.12)
  • Excluding Special charges, adjusted earnings per diluted share of
    $0.31 compared to $0.52 for first quarter of 2018
  • System-wide North America comparable sales decrease of 6.9%
  • International comparable sales decrease of 0.1%; international
    franchise sales increase of 10.5%, excluding the impact of foreign
    currency
  • 33 net unit openings in the first quarter of 2019 driven by
    International operations
  • The company issued $252.5 million of Series B Preferred Stock to
    certain funds affiliated with, or managed by, Starboard Value LP
    (collectively “Starboard”) and certain franchisees during the quarter

Steve Ritchie, President and CEO of Papa John’s, said, “The first
quarter was a time of promise for Papa John’s. We made further progress
in transforming the culture, thinking and momentum within the company.
We have significantly strengthened and refreshed the company’s
leadership, adding talented members to the senior management team and
highly-qualified directors to the board this year. At the same time, we
continued reevaluating all aspects of our go-to-market strategy,
identifying multiple opportunities to improve the customer experience,
customer value proposition and franchisee unit economics. Last quarter,
we made several improvements in the key drivers of our business.
Substantial, positive change takes time and effort, but with the passion
and dedication of our team members and franchise partners, I am very
excited about the future of Papa John’s.”

Operating Highlights

As more fully described within this press release, beginning this
quarter, the company consolidated the financial results of the Papa
John’s Marketing Fund, Inc. (“PJMF). The financial statements for the
first quarter of 2018 have been restated to reflect the consolidation of
PJMF. The consolidation of PJMF is not expected to have a material
impact on the company’s annual consolidated financial results, including
the income (loss) before income taxes, as PJMF operates at or near
break-even results annually. The consolidation of PJMF also did not have
a material impact on the company’s 2018 financial statements.

Operating highlights, including restated data for the first quarter of
2018, are as follow:

(In thousands, except per share amounts) First Quarter
Mar. 31,

2019 (a)

  Apr. 1,

2018 (b)

  Decrease %
 
Total revenue $ 398,405 $ 450,122 (11.5 %)
(Loss) income before income taxes (767 ) 23,064 (103.3 %)
Net (loss) income (1,731 ) 17,443 (109.9 %)
Diluted (loss) earnings per share (0.12 ) 0.52 (123.1 %)
Adjusted diluted earnings per share (c) 0.31 0.52 (40.4 %)
 

(a)

The consolidation of PJMF resulted in revenues of $23.5 million,
income before income taxes and net income of approximately
$600,000 and diluted earnings per share of $0.02.

(b)

The consolidation of PJMF resulted in revenues of $22.8 million,
income before income taxes and net income of approximately
$700,000 and diluted earnings per share of $0.02.

(c)

Adjusted to exclude special charges in 2019, which impact
comparability. The reconciliation of GAAP to non-GAAP financial
results is included in the table below.

 

Adjusted financial results excluding Special charges, which impact
comparability, are summarized in the following reconciliation. The table
reconciles our GAAP financial results to our adjusted financial results,
which are non-GAAP measures. All highlights are compared to the same
period of the prior year, unless otherwise noted.

    First Quarter
Mar. 31,     Apr. 1,
(In thousands, except per share amounts) 2019 2018 (1)
 
GAAP (loss) income before income taxes $ (767 )

 

$ 23,064
Special charges (2)   15,854      
Adjusted income before income taxes $ 15,087  

 

$ 23,064  
 
GAAP net (loss) income attributable to common shareholders $ (3,801 ) $ 17,368
Special charges (2)   13,548      
Adjusted net income attributable to common shareholders $ 9,747   $ 17,368  
 
GAAP diluted (loss) earnings per share $ (0.12 ) $ 0.52
Special charges (2)   0.43      
Adjusted diluted earnings per share $ 0.31   $ 0.52  
 
(1) The first quarter of 2018 has been restated to include PJMF.
(2) The company incurred $15.9 million of costs (defined as “Special
charges”) in the first quarter of 2019, including the following (in
thousands):
 
     
Loss Before After Tax Diluted Loss
Income taxes Net Loss (d) per Share
Royalty relief (a) $ 4,873 $ 3,742 $ 0.12
Legal and advisory fees (b) 5,067 3,892 0.12
Mark-to-market adjustment on option valuation (c)   5,914   5,914   0.19
Total Special charges $ 15,854 $ 13,548 $ 0.43
(a) Represents financial assistance provided to the entire North America
system in the form of short-term royalty reductions.
(b) Represents costs associated with the activities of the Special
Committee of the Board of Directors, including legal costs
associated with legal proceedings initiated by John H. Schnatter and
advisory costs associated with the review of a wide range of
strategic opportunities that culminated in Starboard’s strategic
investment in the company by affiliates of Starboard.
(c) The company recorded a one-time mark-to-market adjustment of $5.9
million ($5.6 million in general and administrative expenses and
$300,000 as a reduction in royalties) related to the increase in the
Starboard and franchisee options to purchase Series B preferred
stock that culminated in the purchase of $52.5 million of preferred
stock in late March.
(d) The tax effect was calculated using the company’s marginal rate of
23.2%, excluding the mark-to-market adjustment on the Series B
Preferred stock option valuation, which was not tax deductible.
 

The non-GAAP adjusted results shown above and within this document,
which exclude Special charges, should not be construed as a substitute
for or a better indicator of the company’s performance than the
company’s GAAP results. Management believes presenting certain financial
information excluding the Special charges is important for purposes of
comparison to prior year results. In addition, management uses these
metrics to evaluate the company’s underlying operating performance and
analyze trends.

Consolidated revenues decreased $51.7 million, or 11.5%, for the first
quarter of 2019. Excluding the impact of refranchising 62 company-owned
restaurants in North America and the company-owned restaurants and a
quality control center in China during 2018, consolidated revenues
decreased $36.4 million, or 8.1%, for the first quarter of 2019,
primarily due to the following:

  • Negative 9.0% comparable sales for domestic company-owned restaurants
    and negative 6.1% for North America franchised restaurants, which
    resulted in lower company-owned restaurant revenues, royalties and
    North American commissary sales.
  • Short-term royalty reductions of approximately $4.9 million which are
    part of our franchise assistance program and are included in the
    previously mentioned Special charges.
  • International revenues, excluding refranchising, were approximately
    $0.5 million lower as unfavorable foreign exchange rates of
    approximately $1.7 million were substantially offset by higher
    royalties from increased equivalent units.

The company reported a consolidated loss before income taxes of $0.8
million for the first quarter of 2019, compared to consolidated income
before income taxes of $23.1 million for the first quarter of 2018, a
decrease of $23.9 million. Excluding the impact of the previously
mentioned Special charges, consolidated income before income taxes was
$15.1 million, or a decrease of $8.0 million from the first quarter of
2018. Significant changes in income before income taxes are as follows:

  • Domestic Company-owned restaurants operating margin decreased $3.9
    million, or a decrease of 0.6% as a percentage of related revenues,
    primarily due to lower comparable sales, partially offset by favorable
    commodities costs and favorable workers’ compensation and non-owned
    automobile insurance costs.
  • North America franchise royalties and fees decreased $7.3 million, or
    29.3%, compared to the first quarter of 2018, primarily due to the
    $4.9 million of short-term royalty reductions granted to the entire
    North America system as part of the franchise assistance program,
    which is included in the Special charges. Excluding the short-term
    royalty relief, royalties were $2.4 million lower than the
    corresponding quarter in 2018 due to negative comparable sales of 6.1%
    and an increase in royalty waivers provided to certain franchisees.
  • North America commissary operating margin increased $0.3 million, or
    0.7% as a percentage of related revenues, as the lower North America
    sales volumes were offset by favorable commodities costs and
    reductions in certain operating costs, including labor.
  • International operating margin increased $0.3 million primarily due to
    higher royalties from increased equivalent units, partially offset by
    the unfavorable impact of foreign exchange rates.
  • General and administrative (“G&A”) costs increased $11.1 million, or
    27.9%, primarily due to costs associated with the Special charges of
    approximately $10.7 million, including $5.1 million of legal and
    advisory fees and the one-time mark- to-market adjustment for the
    Series B Preferred stock option valuation of $5.6 million, as
    previously noted.
  • Net interest expense increased $1.2 million primarily due to an
    increase in interest rates as compared to the first quarter of 2018 on
    lower outstanding debt. Total debt outstanding was $380.0 million as
    of March 31, 2019, which was a reduction of $245.0 million from
    December 30, 2018. The decrease in outstanding debt was funded
    primarily from the proceeds of the issuance of Series B Preferred
    Stock to Starboard.

Operating margin (loss) is not a measure defined by GAAP and should not
be considered in isolation, or as an alternative to evaluation of the
company’s financial performance. In addition to an evaluation of GAAP
consolidated (loss) income before income taxes, we believe the
presentation of operating margin (loss) is beneficial as it represents
an additional measure used by the company to further evaluate operating
efficiency and performance of the various business units. Additionally,
operating margin (loss) discussion may be helpful for comparison within
the industry. The operating margin (loss) results detailed herein can be
calculated by business unit based on the specific revenue and operating
expense line items on the face of the Consolidated Statements of
Operations. Consolidated (loss) income before income taxes reported
includes G&A expenses, depreciation and amortization, refranchising and
impairment gains/(losses), net, and net interest expense that have been
excluded from this operating margin (loss) calculation.

We expect our annual tax rate to be in the range of 21% to 24%. As
previously noted, there is not a tax deduction for the $5.9 million
expense associated with the one-time mark-to-market valuation of the
Series B Preferred stock option.

Diluted loss per share was $0.12 for the first quarter of 2019, compared
to diluted earnings per share of $0.52 for the prior year period.
Adjusted diluted earnings per share was $0.31 for the first quarter of
2019, as compared to $0.52 for the first quarter of 2018.

Global Restaurant and Comparable Sales
Information

    First Quarter

Mar. 31,
2019

   

Apr. 1,
2018

 
Global restaurant sales (decline) / growth (a) (5.5 %) (1.3 %)
 

Global restaurant sales (decline) /growth, excluding the impact of
foreign currency (a)

(3.7 %) (1.0 %)
 
Comparable sales (decline) / growth (b)
Domestic company-owned restaurants (9.0 %) (6.1 %)
North America franchised restaurants (6.1 %) (5.0 %)
System-wide North America restaurants (6.9 %) (5.3 %)
 
System-wide international restaurants (0.1 %) 0.3 %
 
(a) Includes both company-owned and franchised restaurant sales.
(b) Represents the change in year-over-year sales for the same base of
restaurants for the same fiscal periods. Comparable sales results
for restaurants operating outside of the United States are reported
on a constant dollar basis, which excludes the impact of foreign
currency translation.
 

We believe North America, international and global restaurant and
comparable sales growth information, as defined in the table above, is
useful in analyzing our results since our franchisees pay royalties that
are based on a percentage of franchise sales. Franchise sales also
generate commissary revenue in the United States and in certain
international markets. Franchise restaurant and comparable sales growth
information is also useful for comparison to industry trends and
evaluating the strength of our brand. Management believes the
presentation of franchise restaurant sales growth, excluding the impact
of foreign currency, provides investors with useful information
regarding underlying sales trends and the impact of new unit growth
without being impacted by swings in the external factor of foreign
currency. Franchise restaurant sales are not included in company
revenues.

Free Cash Flow

The company’s free cash flow, a non-GAAP financial measure, for the
first quarter of 2019 and 2018 were as follows (in thousands):

  First Quarter
Mar. 31, Apr. 1,
2019 2018 (b)
 
Net cash provided by operating activities (a) $ 13,813 $ 36,731
Purchases of property and equipment (8,658 ) (9,320 )
Dividends paid to preferred shareholders   (2,040 )    
Free cash flow $ 3,115   $ 27,411  
 
(a) The decrease of $22.9 million was primarily due to lower net income
and unfavorable changes in working capital items, including PJMF.
(b) The first quarter of 2018 has been restated to include PJMF.
 

We define free cash flow as net cash provided by operating activities
(from the Consolidated Statements of Cash Flows) less the purchases of
property and equipment and dividends paid to preferred shareholders We
view free cash flow as an important measure because it is one factor
that management uses in determining the amount of cash available for
discretionary investment. Free cash flow is not a term defined by GAAP,
and as a result, our measure of free cash flow might not be comparable
to similarly titled measures used by other companies. Free cash flow
should not be construed as a substitute for or a better indicator of the
company’s performance than the company’s GAAP measures.

See the Management’s Discussion and Analysis of Financial Condition and
Results of Operations section of our Quarterly Report on Form 10-Q filed
with the Securities and Exchange Commission (SEC) for additional
information concerning our operating results and cash flow for the three
months ended March 31, 2019.

Global Restaurant Unit Data

At March 31, 2019, there were 5,336 Papa John’s restaurants operating in
all 50 states and in 47 international countries and territories, as
follows:

 

Domestic
Company-
owned

 

Franchised
North
America

 

Total North
America

  International   System-wide

First Quarter

       
Beginning – December 30, 2018 645 2,692 3,337 1,966 5,303
Opened 1 26 27 49 76
Closed (28 ) (28 ) (15 ) (43 )
Acquired 1 1 1
Sold (1 )       (1 )       (1 )
Ending – March 31, 2019 645     2,691     3,336     2,000     5,336  
 
Unit growth (decline)     (1 )   (1 )   34     33  
 
% increase (decrease)     (0.0 %)   (0.0 %)   1.7 %   0.6 %
 

The company has added 124 net worldwide units over the trailing four
quarters ended March 31, 2019. Our development pipeline as of March 31,
2019 included approximately 1,015 restaurants (115 units in North
America and 900 units internationally), the majority of which are
scheduled to open over the next six years.

Cash Dividend

The company paid cash dividends of $9.1 million in the first quarter of
2019 and declared second quarter cash dividends of approximately $10.6
million on April 30, 2019 to be paid to common and preferred
shareholders. The dividends are as follows (in thousands):

   

First
Quarter
2019

   

Second
Quarter
2019

Common stock dividends ($0.225 per share) $ 7,060     $ 7,190
Common stock dividends to preferred shareholders ($0.225 per share)
(a)
900 1,140
Preferred dividends (3.6% of the investment per annum)   1,140         2,270
Total dividends $ 9,100       $ 10,600
 

(a)

Common stock dividends payable to holders of Series B Preferred
Stock are on an as-converted to common stock basis

 

The declaration and payment of any future dividends on our common stock
will be at the discretion of our Board of Directors, subject to the
company’s financial results, cash requirements, and other factors deemed
relevant by our Board of Directors. The Series B Preferred Stock holders
are guaranteed quarterly preferred dividends and common stock dividends
on an as-converted to common stock basis.

Consolidation of the Papa John’s Marketing
Fund, Inc.

Papa John’s domestic restaurants, both Company-owned and franchised,
participate in PJMF, a nonstock corporation that is designed to break
even as it spends all annual contributions received from the system.
PJMF collects a percentage of revenues from Company-owned and franchised
restaurants in the United States for the purpose of designing and
administering advertising and promotional programs. PJMF is a variable
interest entity (“VIE”) that funds its operations with ongoing financial
support and contributions from the domestic restaurants, of which
approximately 80% are franchised.

During the first quarter of 2019, we reassessed the governance structure
and the operating procedures of PJMF and determined that the company has
the power to control certain significant activities of PJMF, based on
the applicable accounting guidance. Prior to 2019, the Company did not
consolidate PJMF. The company has concluded the previous accounting
policy to not consolidate PJMF was an immaterial error and has
determined that PJMF should be consolidated. The company has corrected
this immaterial error by restating the comparative 2018 condensed
consolidated financial statements. The revenues and expenses of PJMF are
included in Other revenues and Other expenses, where other consolidated
marketing funds are reported, in the Condensed Consolidated Statements
of Operations.

The consolidation of PJMF is not expected to have a material impact on
the company’s annual consolidated financial statements, including the
income (loss) before income taxes as PJMF operates at or near break-even
results annually. The consolidation of PJMF also did not have a material
impact on the company’s 2018 financial statements.

Additional detail on the consolidation of PJMF can be found in our Form
10-Q for the three months ended March 31, 2019 filed with the SEC.

Adoption of ASC 842: Leases

On December 31, 2018, we adopted Accounting Standards Update (“ASU”)
2016-02, Topic 842, which requires companies to recognize a right-of-use
asset and a lease liability on the balance sheet for contracts that meet
the definition of a lease. The guidance also requires additional
disclosures regarding the amount, timing, and uncertainty of cash flows
arising from leases. We adopted Topic 842 prospectively using the
optional transition method with no cumulative effect adjustment recorded
as of December 31, 2018. The adoption resulted in a $157.0 million
operating lease liability and a $154.1 million right-of-use asset as of
March 31, 2019. There was no significant impact on our operating
results, diluted earnings per share or debt compliance and covenant
calculations from the adoption of this new accounting standard.

Additional detail of the adoption and 2019 impact of the new leasing
standard can be found in our Form 10-Q for the three months ended March
31, 2019 filed with the SEC.

Other Business Matters

On February 3, 2019, the company entered into a Securities Purchase
Agreement (the “Securities Purchase Agreement”) with Starboard pursuant
to which Starboard made a $200 million strategic investment in the
company’s newly designated Series B convertible preferred stock, $1,000
stated value per share (the “Series B Preferred Stock”). In addition, on
March 29, 2019, Starboard made an additional $50 million investment in
the Series B Preferred Stock pursuant to an option that was included in
the Securities Purchase Agreement. The company also issued $2.5 million
of Series B Preferred stock on the same terms as Starboard to certain
Papa John’s franchisees who satisfied accredited investor requirements
under the federal securities laws. The initial preferred dividend rate
is 3.6% per annum of the stated value, payable quarterly in arrears. The
Series B Preferred Stock also participates on an as-converted basis in
any regular or special dividends paid to common shareholders. If at any
time, the company reduces the regular dividend paid to common
shareholders, the Series B Preferred Stock dividend will remain the same
as if the common stock dividend had not been reduced.

The company recorded a one-time mark-to-market adjustment of $5.9
million for the time between the grant dates and the purchase dates for
both the $50 million option exercised by Starboard and the shares
purchased by franchisees. As previously noted, the mark-to-market
adjustment was recorded in G&A expenses for $5.6 million (Starboard) and
as a reduction to North America franchise royalties and fees of $0.3
million (franchisees) within the Condensed Consolidated Statements of
Operations with no associated tax benefit.

2019 Outlook

The company is reaffirming its previously issued 2019 outlook, as we
expect the initiatives we are implementing will result in improved sales
and operating results in the last half of the year.

Conference Call and Website Information

A conference call is scheduled for May 7, 2019 at 5:00 p.m. Eastern Time
to review the company’s first quarter 2019 earnings results. The call
can be accessed from the company’s web page at www.papajohns.com
in a listen-only mode or dial 877-312-8816 (U.S. and Canada) or
253-237-1189 (international). The conference call will be available for
replay, including by downloadable podcast, from the company’s web site
at www.papajohns.com.
The Conference ID is 5684727.

Investors and others should note that we announce material financial
information to our investors using our investor relations website, press
releases, SEC filings and public conference calls and webcasts. We
intend to use our investor relations website as a means of disclosing
information about our business, our financial condition and results of
operations and other matters and for complying with our disclosure
obligations under Regulation FD. The information we post on our investor
relations website, including information contained in investor
presentations, may be deemed material. Accordingly, investors should
monitor our investor relations website, in addition to following our
press releases, SEC filings and public conference calls and webcasts. We
encourage investors and others to sign up for email alerts at our
investor relations page under Shareholder Tools at the bottom right side
of the page. These email alerts are intended to help investors and
others to monitor our investor relations website by notifying them when
new information is posted on the site.

Forward-Looking Statements

Certain matters discussed in this press release and other company
communications constitute forward-looking statements within the meaning
of the federal securities laws. Generally, the use of words such as
“expect,” “intend,” “estimate,” “believe,” “anticipate,” “will,”
“forecast,” “plan,” “project,” or similar words identify forward-looking
statements that we intend to be included within the safe harbor
protections provided by the federal securities laws.

Contacts

Joe Smith
Senior Vice President, Chief Financial Officer
502-261-7272

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