Papa John’s Announces Second Quarter 2019 Results and Updates 2019 Outlook

Papa John’s International, Inc. (NASDAQ: PZZA) today announced financial results for the three and six months ended June 30, 2019.

Highlights

• Second quarter 2019 earnings per diluted share of $0.15
• Excluding Special items, adjusted earnings per diluted share of $0.28 compared to $0.48 for the second quarter of 2018
• Second quarter system-wide North America comparable sales decrease of 5.7%
• Second quarter international comparable sales increase of 0.3%; international franchise sales increase of 9.6%, excluding the impact of foreign currency
• 2019 outlook updated for investments in marketing and support for the domestic franchise system; diluted EPS outlook of ($0.40) to ($0.10) and no change to adjusted diluted EPS of $1.00 to $1.20

Steve Ritchie, President and CEO of Papa John’s, said, “Papa John’s made strong progress in the key pillars of its strategy in the second quarter, recording another sequential improvement in comparable sales. In addition to adding a highly experienced chief restaurant operations officer, we announced a significant, multi-quarter investment in the brand and our franchise system from Starboard’s investment earlier this year. The table is now set as we begin rolling out our new marketing campaigns and menu items in the second half of the year.”

Global restaurant and comparable sales information and operating highlights for the three and six months ended June 30, 2019, compared to the three and six months ended July 1, 2018 are as follows:

Global Restaurant and Comparable Sales Information

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 and marketing fund contributions 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.

Operating Highlights

Adjusted financial results excluding Special items, 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.

The non-GAAP adjusted results shown above and within this document, which exclude Special items, 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 items 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 to analyze trends.

Consolidated revenues decreased $30.3 million, or 7.1%, for the second quarter of 2019 and decreased $82.0 million, or 9.3%, for the six months ended June 30, 2019. Excluding the impact of refranchising 62 company-owned restaurants in North America and the China operations in 2018 and a quality control center in Mexico in 2019, consolidated revenues decreased $16.8 million, or 4.0%, for the second quarter of 2019 and decreased $56.2 million, or 6.6% for the six months ended June 30, 2019, primarily due to the following:

• Negative comparable sales for North America restaurants for the three and six months ended June 30, 2019 that resulted in lower company-owned restaurant revenues, royalties and North America commissary sales.
• Royalty reductions of approximately $2.5 million and $7.3 million for the three- and six-month periods ended June 30, 2019, respectively, which are part of our franchise assistance program and are included in the previously discussed Special charges.
• International revenues, excluding the impact of refranchising, were approximately $0.5 million and $0.1 million higher for the three-and six-month periods ended June 30, 2019, as higher royalties from increased equivalent units were substantially offset by unfavorable foreign exchange rates of approximately $1.3 million and $3.0 million for the three- and six-month periods, respectively.

Consolidated income before income taxes of $10.0 million for the second quarter of 2019 decreased $9.2 million, or 47.9%, compared to the second quarter of 2018. Excluding the impact of the previously mentioned Special items, consolidated income before income taxes was $15.2 million, or a decrease of $6.1 million from the second quarter of 2018. Significant changes in income before income taxes are as follows:

• Domestic company-owned restaurants operating margin decreased $1.8 million primarily due to negative comparable sales of 6.8%, somewhat offset by the favorable impact of current year promotions with lower food costs and favorable non-owned automobile insurance costs. This contributed to the improvement in operating margin of 0.9% as a percentage of related revenues.
• North America franchise royalties and fees decreased $4.2 million, or 17.4%, compared to the second quarter of 2018, primarily due to $2.5 million of royalty relief as part of the North America franchise assistance program, which is included in the Special charges. Excluding the Special charges, royalties were $1.7 million lower than the second quarter of 2018 due to negative comparable sales of 5.3% and an increase in targeted royalty waivers.
• North America commissary operating margin increased $0.2 million, or 0.4% as a percentage of related revenues, as the impact of the lower North America sales volumes was offset by favorable labor costs.
• International operating margin approximated the prior year as the higher royalties attributable to increased units was offset by the unfavorable impact of foreign exchange rates. The international operating margin of 42.5%, as a percentage of related revenues, improved 5.3% with the refranchising of the China company-owned operations.
• Other operating margin increased $2.3 million, or 5.3% as a percentage of related revenues, primarily due to the timing of marketing spending and higher online revenues.
• General and administrative (“G&A”) costs increased $9.7 million, or 25.0%, primarily due to incremental national marketing fund investments of approximately $2.5 million, as reflected in the Special charges, a shift in the timing of our operators’ conference from the third quarter in 2018 to the second quarter in 2019, higher professional and consulting fees and higher management incentive costs.
• The second quarter of 2018 included refranchising losses of $2.1 million primarily related to the refranchising of our China operations.
• Net interest expense decreased $1.5 million primarily due to lower outstanding debt, partially offset by an increase in interest rates. Total debt outstanding was $384.3 million as of June 30, 2019, including $11.2 million associated with PJMF. Outstanding debt decreased $240.7 million from December 30, 2018, primarily due to the use of proceeds from the issuance of Series B preferred stock to Starboard to repay debt.

For the six months ended June 30, 2019, consolidated income before income taxes was $9.2 million, a decrease of $33.0 million, or 78.2%, compared to the six months ended July 1, 2018. Excluding the impact of the previously mentioned Special charges, consolidated income before income taxes was $30.2 million, or a decrease of $13.8 million, compared to the six months ended July 1, 2018. These decreases were primarily due to the same reasons as the three-month period.

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 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 Condensed Consolidated Statements of Operations. Consolidated income before income taxes reported includes G&A expenses, depreciation and amortization, refranchising gains (losses), net and net interest expense that have been excluded from this operating margin (loss) calculation.

The effective income tax rate was 12.9% for the quarter ended June 30, 2019 in comparison to 36.8% for the quarter ended July 1, 2018. The 2018 higher tax rate includes the impact of refranchising our China operations. The effective income tax rate for the six months ended June 30, 2019 was 23.0%. The effective income tax rate is higher for the six months ended June 30, 2019 due in part to the $5.9 million mark-to-market fair value adjustment of the options to purchase Series B preferred stock, which was not tax deductible.

Diluted earnings per share was $0.15 for the second quarter of 2019, compared to $0.35 for the prior year period. Excluding Special items, adjusted diluted earnings per share was $0.28 for the second quarter of 2019, as compared to $0.48 for the second quarter of 2018. For the six months ended June 30, 2019, diluted earnings per share was $0.03, compared to diluted earnings per share of $0.87 for the prior year period. Excluding Special items, adjusted diluted earnings per share was $0.59 for the six months ended June 30, 2019, as compared to $0.99 for the prior year period.

Free Cash Flow

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

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 SEC for additional information concerning our operating results for the three and six months ended June 30, 2019 and cash flow for the six months ended June 30, 2019.

Global Restaurant Unit Data

At June 30, 2019, there were 5,345 Papa John’s restaurants operating in all 50 states and in 47 international countries and territories, as follows:

The company has added 98 net worldwide units over the trailing four quarters ended June 30, 2019. Our development pipeline as of June 30, 2019 included approximately 1,080 restaurants (90 units in North America and 990 units internationally), the majority of which are scheduled to open over the next six years.

Cash Dividend

The company paid cash dividends of $10.5 million in the second quarter of 2019 and declared third quarter cash dividends of approximately $10.5 million on July 18, 2019 to be paid to common and preferred shareholders. The dividends are as follows (in thousands):

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 stockholders receive quarterly preferred dividends and common stock dividends on an as-converted to common stock basis.

2019 Outlook

On June 19, 2019, we announced an investment of $80 million in marketing and royalty relief for our U.S. franchise system beginning in the third quarter of 2019 through the fourth quarter of 2020. The marketing investment includes advertising initiatives with our new ambassador, Shaquille O’Neal. Additionally, we will continue financial assistance to our traditional domestic franchisees through 2020 in the form of lower royalties and related incentives. We expect to incur approximately 50% of the $80 million investment in 2019.

We are updating our GAAP diluted earnings per share (EPS) outlook to reflect these investments and to narrow our North America comparable sales and net global new unit growth outlook as detailed below.

Conference Call and Website Information

A conference call is scheduled for August 6, 2019 at 5:00 p.m. Eastern Time to review the company’s second 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 7481107.

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. Such forward-looking statements may relate to projections or guidance concerning business performance, revenue, earnings, cash flow, earnings per share, contingent liabilities, resolution of litigation, commodity costs, currency fluctuations, profit margins, unit growth, unit level performance, capital expenditures, restaurant and franchise development, royalty relief, the strategic investment by Starboard and use of the proceeds, the ability of the company to mitigate negative consumer sentiment through advertising, marketing and promotional activity, the effectiveness of our strategic turnaround efforts and other business initiatives, corporate governance, future costs related to the company’s response to negative consumer sentiment and business challenges, management reorganizations, compliance with debt covenants, stockholder and other stakeholder engagement, strategic decisions and actions, share repurchases, dividends, effective tax rates, regulatory changes and impacts, the impact of the Tax Cuts and Jobs Act and the adoption of new accounting standards, and other financial and operational measures. Such statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions, which are difficult to predict and many of which are beyond our control. Therefore, actual outcomes and results may differ materially from those matters expressed or implied in such forward-looking statements. The risks, uncertainties and assumptions that are involved in our forward-looking statements include, but are not limited to:

• increased costs for branding initiatives and launching new advertising and marketing campaigns and promotions to improve consumer sentiment and sales trends;
• the ability of the company to ensure the long-term success of the brand through significant investments committed to our U.S. franchise system, including marketing fund investments and royalty relief;
• the ability of the company to improve consumer sentiment and sales trends through advertising, marketing and promotional activities;
• the company’s ability to regain lost customers and/or mitigate or reverse negative sales trends;
• aggressive changes in pricing or other marketing or promotional strategies by competitors, which may adversely affect sales and profitability; and new product and concept developments by food industry competitors;
• changes in consumer preferences or consumer buying habits, including the growing popularity of delivery aggregators, as well as changes in general economic conditions or other factors that may affect consumer confidence and discretionary spending;
• the adverse impact on the company or our results caused by product recalls, food quality or safety issues, incidences of foodborne illness, food contamination and other general public health concerns about our company-owned or franchised restaurants or others in the restaurant industry;
• the effectiveness of our technology investments and changes in unit-level operations;
• the ability of the company and its franchisees to meet planned growth targets and operate new and existing restaurants profitably, including difficulties finding qualified franchisees, store level employees or suitable sites;
• increases in food costs or sustained higher other operating costs. This could include increased employee compensation, benefits, insurance, tax rates, new regulatory requirements or increasing compliance costs;
• increases in insurance claims and related costs for programs funded by the company up to certain retention limits, including medical, owned and non-owned vehicles, workers’ compensation, general liability and property;
• disruption of our supply chain or commissary operations which could be caused by our sole source of supply of cheese or limited source of suppliers for other key ingredients or more generally due to weather, natural disasters including drought, disease, or geopolitical or other disruptions beyond our control;
• increased risks associated with our international operations, including economic and political conditions, instability or uncertainty in our international markets, especially emerging markets, fluctuations in currency exchange rates, difficulty in meeting planned sales targets and new store growth;
• the impact of the sale of Series B preferred stock to Starboard, which dilutes the economic and relative voting power of holders of our common stock and may adversely affect the market price of our common stock, affect our liquidity and financial condition, or delay or prevent an attempt to take over the company;
• Starboard’s ability to exercise influence over us, including its ability to designate up to two members of our Board of Directors;
• failure to raise the funds necessary to finance a required repurchase of our Series B preferred stock;
• failure to realize the anticipated benefits from our investment of the proceeds of the Series B preferred stock in our strategic priorities;
• the impact of current or future claims and litigation and our ability to comply with current, proposed or future legislation that could impact our business including compliance with the European Union General Data Protection Regulation;
• the company's ability to continue to pay dividends to shareholders based upon profitability, cash flows and capital adequacy if restaurant sales and operating results continue to decline;
• failure to effectively execute succession planning;
• disruption of critical business or information technology systems, or those of our suppliers, and risks associated with systems failures and data privacy and security breaches, including theft of confidential company, employee and customer information, including payment cards;
• changes in Federal or state income, general and other tax laws, rules and regulations, including changes from the Tax Cuts and Jobs Act and any related Treasury regulations, rules or interpretations if and when issued; and
• changes in generally accepted accounting principles.

These and other risk factors are discussed in detail in “Part I. Item 1A. – Risk Factors” in our Annual Report on Form 10-K/A for the fiscal year ended December 30, 2018, as updated by “Part II. Item 1A. – Risk Factors” in our Quarterly Report on Form 10-Q for the period ended March 31, 2019. We undertake no obligation to update publicly any forward-looking statements, whether as a result of future events, new information or otherwise, except as required by law.

For more information about the company, please visit www.papajohns.com.

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