THE CAPITAL INTENSIVE RESTAURANT INDUSTRY WILL NO DOUBT BE CHOKED BY HIGHER INTEREST RATES – RIGHT? – READ ON.
There is no doubt that interest rates will be higher over the next decade than over the last. The logical expectation therefore is that restaurant companies will pay a higher price for expansion capital. With an increased cost of capital they will have to do proportionately more business to generate an acceptable return on investment.
The charts below this discussion shows the debt maturity schedules, and interest rates for most of the important publicly held companies.
(1) Over 40% of the outstanding debt matures in 2029 or later.
(2) The first large maturity of debt occurs in 2026 when 20% of the industry total matures.
(3) The median interest rate is 4.5%.
(4) Three companies have very low coupon convertible debt outstanding.
- Cracker Barrel – 2.6% coupon. Maturity 6/15/26
- Shake Shack – 0% coupon. Maturity 3/1/28
- The Cheesecake Factory – 1.1% coupon. Maturity 6/15/26
(5) On the high side – Red Robin has an 8.7% rate, and has seen a 160bps increase in its interest rate in 2022, from 7.10% to 8.70% and Portillo’s has a current 8.8% rate.
At Red Robin:
- The $199M term loan comes due in 2026. However, the company has generated $81M in Adjusted EBITDA in the trailing twelve months ending 9/22, $12M has been generated from the sales of assets, and there was $50M of cash at 9/22. Total liquidity has been stated at $133M, so it looks like RRGB has lots of cards to play as they work to improve sales and profit margins.
- There are $318M of First Lien Loans maturing in 2024, with interest expense running around $28M annualized or 31% of TTM Adjusted EBITDA. While there is more leverage here than at most other company operated chains, that is partly due to their recent public emergence out of private equity ownership. Long term they can be expected to deleverage, and in the meantime should be easily able to handle reasonable adjustments in 2024.
- Brinker International has $300M (at 3.875%) maturing in May 2023, and $350M (at 5.00%) maturing in October 2024.
The blended interest rate is 4.5% and annual interest expense runs about $29M. The Company intends to pay off the $300M of 3.875% bonds with its revolver at an interest rate of 3.375%. The company also has a revolver that matures August 2026 and carries a 4.875% interest rate. Therefore the company should be able to pay off both notes at maturity. While it seems likely that these notes will be replaced with a longer term debt instrument, and each point higher reflects almost $7M of additional interest expense, long term rates, over $300M of trailing twelve month EBITDA should provide adequate comfort for lenders.
- Starbucks interest rate risk?
The Company has $1.75B in debt maturing in 2023 and a total of $4.09B debt maturing in the next three years. The average interest rate on this debt is 3.4%. While each point of higher interest would cost almost $38M annually, lenders need not worry. At the end of September, SBUX had $2.8B of cash and marketable securities and trailing twelve month EBITDA was close to $6B.
- Shake Shack’s $250M Convertible Bond matures in a short 5 years.
We called their $250M of zero coupon convertible bonds, convertible at $170/share, the 2021 deal of the year. It now looks like the deal of the decade. They’ve had the use of $250M of zero percent money for eight years and you don’t need a very high ROI to get a positive carry against zero cost. Moreover, SHAK had $337M of cash on the balance sheet in September, and is continuing the rapid expansion to build upon their current $64M of trailing Adjusted EBITDA. By 2028, EBITDA run rate should be much higher than $100M, providing, on top of cash at that point, more than adequate comfort to new lenders. Alternatively, if the stock is over $170 per share, the bond could be converted to shares. That might have seemed a possibility in early 2021, with the stock at $120, but is less likely two years later with the stock at $51. In any event, Shake Shack’s balance sheet is liquid and strong, and likely to remain so for the foreseeable future.
THE BOTTOM LINE
While the battle for market share, that I originally described about forty years ago, continues, the widely owned publicly held restaurant companies have done an admirable job of managing their balance sheets. Capital is therefore available for investment in productive brick and mortar, and even for support of franchise systems, though institutional investors like to think of royalties as free cash flow. The publicly held restaurant chains are by and large in excellent shape to cope with the current challenging environment.
Table of Interest Rate and Maturity Schedule
In the table below, we have sorted the companies by the estimated average interest rate being paid on their debt. We have also included a debt maturity schedule. Please note that McDonald’s aggregates all of their debt outstanding and does not provide the individual bonds and notes in their 10K or 10Qs. All of the companies that have debt maturing in 2023 have more than enough liquidity to initially retire the debt before having to term it out. However, if rates continue to rise or credit markets tighten due to a recession, these companies may have to pay a higher rate of interest than they anticipate. We will monitor the credit worthiness of companies that have refinancing risk and discuss them in future updates.
SECURITIZATIONS, BACKED BY ROYALTY STREAMS, ARE POPULAR
Because the restaurant industry generates significant revenue from franchise fees, many public restaurant firms have chosen to securitize some of these revenue streams to lower financing costs and increase flexibility on the repayment of the debt. The securitizations that are outstanding today generally have maturity dates past 2048. However, most, if not all, of the companies that have outstanding securitizations plan to refinance them well before then. We have included the anticipated years of the refinancing of the outstanding securitizations of each company in our master debt table shown above.
Fat Brands, Wingstop, Yum! Brands, Wendy’s, Jack in the Box and Dine Brands Global all have securitizations outstanding. While the maturity dates of the securitizations are beyond 2048, most companies anticipate refinancing them well before that. For the moment, however, the spike in interest rates has put even preliminary negotiations on hold.