FAT Brands (FAT) REPORTS Q1’22 – UNIT DEVELOPMENT AND SAMES STORE SALES BODE WELL

CONCLUSION:

The leverage hasn’t gone away, however: the brands owned are well positioned relative to today’s value driven consumer, the quarter to quarter reported progress is encouraging and the portfolio’s future franchised (asset light) growth seems material and predictable. Fat Brands’ current financial position seems flexible enough, in terms of cash on hand and short-term alternatives to bridge the negative cash flow over the next five or six months. Worst case, with no re-rating of the current securitized debt, the quarterly operating Adjusted EBITDA, as projected by management, of $22-25M quarterly by Q4, would cover interest charges as currently constituted. In calendar ’23 and beyond, with or without a debt re-rating, additional units, royalties and EBITDA produce free cash flow. It is, of course, better yet if the debt is re-rated as management expects, which would convert $20-25M of current annual interest cost to free cash flow.

Beyond calendar ’22, based on the success of new openings as well as the development pipeline in hand, management suggests that over the next five year the portfolio’s system-wide units could grow at 33% and EBITDA at over 50%. The $40-50M of incremental free cash flow from operations could combine with $20-25M of interest savings to create $60-75M of free cash flow, obviously impressive relative to the current $100M of common stock equity value. Even if management, owning over 50% of the equity, incentivized against dilution, chooses to opportunistically strengthen the equity portion of the balance sheet, the upside price potential of the common stock seems impressive.

COMPANY BACKGROUND

We have written about FAT Brands in the past, and our detailed articles can be accessed by way of the SEARCH function on our Home Page.

FAT Brands is a multi-branded franchisor of seventeen brands. The largest of the “legacy” brands, owned prior to 2021, are Fatburger, Hurricane Grill & Wings and Johnny Rockets. Eight new restaurant concepts were acquired in 2021, the largest of which are Round Table Pizza, Twin Peaks and Fazoli’s. Twin Peaks and Fazoli’s were purchased in Q4’21, so Q1’22 has been the first reported quarter that included ownership of all currently owned brands. It is also worth noting that the first quarter is generally a slow seasonal quarter, was burdened at least modestly by the Covid, and not all efficiencies and inter-brand synergies have yet been reflected.

The Company has reiterated its expectation that Adjusted EBITDA will be running at approximately $90-95M ($22-25M quarterly) by yearend ’22, assuming a post-Covid environment. Management has described the pipeline of signed development agreements that could create 836 new locations, 33% higher royalties and 50-55% incremental EBITDA.

Most important in terms of expected cash flow generation is the Twin Peaks sports bar chain. It is the only brand which includes company operated stores (thirty of them) generating material revenues and EBITDA  on top of the growing sixty unit franchised system.  Twin Peaks has AUVs in the range of $5-6.5M, generates an above average return on capital, is showing strong same store sales trends, has already signed three new area development agreements in ‘22 and is projected by FAT management to generate $25-$30M of EBITDA in this calendar year.  FAT management has previously indicated that the long term potential for Twin Peaks amounts to hundreds of stores nationwide, without considering overseas development.

THE FIRST QUARTER OF ‘22

As in the past, year to year quarterly comparisons are dramatically higher in terms of revenues and royalties generated due to recent acquisitions, accompanied also by a variety of adjusting items.

The following tables show the reconciliation between the GAAP Net Loss and the Adjusted Net Loss. The biggest single adjustment was the “Litigation Costs” related to the potential investigation relating to personal transactions of Andrew Wiederhorn. Responding to our inquiry regarding this item: he responded that “We believe the insurance coverage in place relative to the Company and its Directors and Officers   should cover a substantial portion of future costs to the Company and we are pursuing the same.”

We calculate re-curring Operating Cash Flow (after interest, before capex) to have been about $6.0M, since the Adjusted EBITDA was $15.1M before interest of $21.1M. The largest non-cash or non-recurring adjustments were: Share Based Compensation ($2.1M), D&A ($6.5M) and Litigation Costs ($3.0).

QUARTERLY PROGRESS

The following table shows the sequential quarterly progress as the various acquisitions have been consolidated. The last year or so has been a prelude to the more normalized results that are expected from this point forward. Management commented on the conference call: “We’re having a very strong second quarter. We continue to think we’ll see a significant ramp, something similar to what we saw from Q4 to Q1. I think we’ll see at least that ramp into Q2 and that will continue.” (From $10.4 in Q4’21 to $15.1M in Q1’22 to an estimated $22-25M in Q4’22). Without considering working capital changes or capex investments, which presumably can be managed, the Q1’22 cash operating gap of about $6.0M should be therefore by manageable until yearend ’22 when it will approximate breakeven. As discussed, a reduction of interest charges between now and then could provide substantial leeway in this regard.

Having discussed the past quarterly progress as well as expectations, management’s current strategic emphasis is of prime importance. Accordingly, the following chart from the investor presentation describes how management, having created a critical mass of over 2,300 units and $2.2B of systemwide sales, now owning at least half a dozen demonstrated growth brands (17 brands in all) and  a baked goods manufacturing facility with unused capacity, plans to spend the next year or so consolidating the rapid acquisition activity and growth of the last twenty four months.  Management clearly views the opportunity already in place as adequate to more than satisfy all stakeholders.

 FIRST QUARTER SYSTEMWIDE AND SAME STORE SALES

System-wide sales, also including brands acquired in 2021, increased by 13.5% in Q1’22 vs. Q1`21. Legacy brands (Fatburger, Johnny Rockets and Hurricane Grill, etc.) had a system-wide increase in sales of 15.8%.  Same store sales (SSS) in legacy brands were up 16.8%, up 10.2% at newly acquired concepts, up 11.8% overall. The highlights within that number were SSS up 40.1% at Johnny Rockets, 9.1% at Hurricane, 24.1% internationally, Twin Peaks and Round Table Pizza, up 24.4% and 7% respectively vs ‘21. Twin Peaks in March had its 14th consecutive month of SSS post-Covid vs. ’19.

THE CONFERENCE CALL: FURTHER COLOR ON SHORT TERM PROGRESS AND OUTLOOK

Management commented on the conference call that 27 new store locations have opened in Q1, 34 in the year to date. Over 100 units are expected to be opened in calendar’22. There are 860 locations in the development pipeline, with 44 deals signed just this year to build a total of 139 locations around the world. The total pipeline of 836 stores should be capable of enlarging the portfolio’s systemwide locations by 33% and corporate EBITDA by 50-55%. Non-traditional deals are being signed as well, at cruise ships, airports, entertainment centers and elsewhere. The baked goods factory in Georgia, still only operating at 30% of capacity, generated $8.2M of revenues in Q1 while supplying products to about 1,000 stores within the FAT portfolio.

MANAGEMENT OF THE BALANCE SHEET

From a balance sheet standpoint: There is currently $938.2M of securitized debt with an average interest rate of 6.98%. Management is currently pursuing the re-rating and refinancing of the securitization trusts that were first put in place, the others to be dealt with later in the year as pre-payment limitations ease. At the same time, the current trusts have room to allow for redemption of a large portion of the $135M of Series B 8.25% preferred stock that was issued in conjunction with the Twin Peaks and GLG (Round Table, etc.) acquisitions.  In addition, there is a $480M shelf registration of a variety of securities that is effective and could be used “to supplement any refinancing of the securitization trust. There is no plan today to do anything but that’s an available option to us.”

CONCLUSION:

Provided at the beginning of this writeup.