We have written a number of times about Fogo de Chao’, which has been in registration for about eighteen months, waiting for the “window to open” for restaurant IPOs. Over that period the general market has been weak, and the poor performance of a number of restaurant IPOs just before Fogo’s filing has clearly cooled the appetite for new growth names within the restaurant space.

Our previous articles, which can be accessed by way of the SEARCH function on our HOME PAGE detail the important points of the FOGO story, which, in every material aspect, are still in place.

As presented in the most recent updated SEC filing:

As provided within the financials that run through Q1’23, FOGO’s performance over the last several years is a testimonial as to how well positioned the Company is on a going forward basis. The chart just below describes the dramatic improvement in unit level economics from pre-COVIC calendar ’19 until today. The second chart shows the changes in operating income over the same period.

Cash on Cash returns at the store level improved from an adequately impressive 43% in ’19 to well over 50% currently. Moreover, the continued strong performance in Q1’23 vs. Q1’22 gives every indication that this performance can be sustained.

The operating history just below shows Operating Income moving from $34M in calendar ’19, to a COVID driven loss of $48M, then a rebound to $56M in ‘21, a further gain to $63M in ’22, and (after adding back a $1.1M loss from extinguishment of debt), an increase of 27% in Q1’23.

TAKEAWAY FROM UPDATED RESULTS

There is no magic in the restaurant industry. There are lots of fundamental reasons, many of which we have previously described (and will again), that this “experiential”, “value driven” concept seems well positioned to sustain the exceptional performance of the last several years. Putting it simplisticly, when cash on cash returns in excess of 50% are available, with experienced dedicated management in place and lots of room for expansion, strong financial results tend to be the result.

CONCLUSION

We are not suggesting that operating income or EBITDA will more than double again in three years, more likely in five. We will update the details within our previous FOGO articles when the timing of the IPO is clarified. For the moment, we reiterate that, depending on valuation, FOGO could be one of the more interesting restaurant industry investment opportunities that we have observed in recent years.

Roger Lipton

We wrote for the first time about the “new” Fogo De Chao thirteen months ago when they filed their preliminary IPO prospectus. Readers can use the SEARCH function on our Home Page to access our previous updates. Suffice to say that the new and improved FOGO is, by any objective measure, one of the best positioned casual dining chains; a differentiated dining experience with best of breed (see discussion below) unit level economics. The valuation of the stock remains to be seen, as the Company awaits the re-opening of the IPO window.

Fogo recently updated their results through September, 2022, which reflected six months more of operating results than we discussed within our May update.

The bottom line, as Fogo continues down their 15% unit growth trajectory, is: AUVs continuing to track above $10M per location, higher store level cash flow, higher corporate cash flow and after tax earnings, and comparably higher Adjusted Corporate EBITDA.

For thirty nine weeks, ending September, EBITDA at the restaurant level was $102.0M vs. $85.0M, up 20%. Adjusted Corporate EBITDA was $63.1M vs. $54.5M, up 16%. Net Income After Taxes was $17.9M vs. $9.6M, up 86%. Same Store Sales for thirty nine weeks were up 16.4%, with traffic up 12.3%. Higher food cost reduced store level margin by 210 basis points, reducing corporate operating margin 60 bp to 10.6%. Most impressively, Average Unit Volume was $10.1M, up from $7.9M a year earlier and $7.7M in calendar 2019.

The fourth calendar quarter is the Company’s strongest, having generated about $31M in calendar ’21 out of $86M for the full year. With $63M of Corporate Adjusted EBITDA banked for nine months of ‘22, and running 16% ahead of ’21 in the last nine months, we estimate that Adjusted EBITDA will be in the ballpark of $100M for all of calendar ’22.

Readers can access our previous reports for more detail, the most important features being:

(1) in excess of a 40% cash on cash return on the unit level

(2) seven years of consistent annual traffic growth

(3) 68 company operated restaurants today (53 domestic and 15 international)

(4) 15% targeted annual unit growth with whitespace for more than 550 restaurants (300 US + 250 int’l)

(5) Unit expansion during calendar ’22 will amount to 10 domestic and 1 int’l location. The newest prospectus provides an objective of 10-12 domestic plus 5-7 international franchised locations in ’23, with 15% annual company restaurant growth plus continued international franchise development.

“Best of Breed” store level economics is not too strong in this case. The latest cash investment per store is about $3.5M. With a U.S. systemwide AUV holding above $10M  (including a number of the smaller prototypes doing in the $8-9M annualized range), and US store level EBITDA margins in the high 20’s, US store level EBITDA  is averaging close to $2.5M per location per year.  This represents a 71% C/C return, even higher than the 58% quoted as the C/C return for US locations in ’21, which makes sense since traffic and comps are higher in ’22 vs. ’21. It seems likely therefore that results on new locations will prove to be higher and sooner than the stated 40%+ target in year three.

There is a great deal more that can be described about Fogo de Chao, and we, as usual, will not be shy in terms of critiquing the valuation, when that aspect becomes clearer. It is hard to picture, in this environment, a valuation that would be aggressive enough to discourage long term ownership, but we’ve been around long enough not to dismiss any possibilities. Stay tuned.

Roger Lipton

FOGO DE CHAO – FILES UPDATED IPO PROSPECTUS – OPERATIONAL  SYSTEMS ARE GO, WAITING ON THE EQUITY MARKETPLACE!

We wrote, back in November, about the pending IPO for Fogo de Chao, the chain of Brazilian steakhouses and a link to that report is provided here:

https://www.liptonfinancialservices.com/2021/11/fogo-hospitality-files-for-ipo-better-than-most-the-call-on-tiger-woods-sixty-foot-downhill-undulating-putt-to-win-at-sawgrass-in-2009/

FOGO updated their S-1 SEC filing with financials through December, 2021, as well as updating expansion plans which were largely unchanged from the guidance six months ago. Suffice to say that the recent update seems to only enhance the long term prospects for FOGO. We provide below some highlights, and encourage our readers who have an interest in more details to study the SEC filing from the link here:

https://www.sec.gov/Archives/edgar/data/0001883631/000119312522074788/d213635ds1a.htm#rom213635_10a

The prospectus does not indicate how large this offering will be, and the timing depends on the general market. We expect that the offering will be sized to pay off the bulk of the $353 long term debt, and the multiple of the $86M of Adjusted EBITDA in 2021 remains to be seen.

In summary, as of 12/31/21 there were 48 US restaurants across 221 states, DC and Puerto Rico. There were also 14 international locations, 7 of which in Brazil are operated by the Company and 7 franchised in Mexico and the Middle East. The most recent AUV is $9.4M, up 22% from $7.7M in 2019,  generating $431M of revenues in 2021. The company “targets” a 40%+ cash on cash return, and the existing system produced an even more impressive 58% in 2021. Prior to the Covid, the stores produced six consecutive years of traffic and same store sales growth, with 2021 and 2022 so far handily beating the 2019 numbers. Corporate Adjusted EBITDA was $86M in calendar 2021, up 34% from 2019.

The consumer appeal of FOGO is evidenced not only by the six-year track record of consecutive year-over-year traffic growth through Fiscal 2019, but the impressive post-Covid rebound in 2021 and early 2022. Revenues, net income and Adjusted EBITDA in 2019 were $350 million, $10 million and $64 million, respectively. In Fiscal 2020, revenue, net loss and Adjusted EBITDA were $205 million, $(57) million and $(9) million, respectively. The rebound in 2021 has been impressive, quarter by quarter, as shown below, with revenue, net income and Adjusted EBITDA of $431 million, $22 million and $86 million, respectively.

The following charts show the annual and quarterly trends in restaurant operating performance and corporate Adjusted EBITDA as well.. Restaurant level EBITDA was 30.3% in calendar ’21, up from 28.1% in 2019, generating $130M, up from $98M. At the corporate level, Adjusted EBITDA was 20.0% of sales in calendar ’21, up from 18.3% in ’19, $86M up from $64M.

The following tables show the adjustments to get from “Income from Operations” to “Restaurant EBITDA  Operating Margin”. Also shown is the progression of Restaurant Contribution over the last three years, as well as illustrating the immaterial effect of the Brazilian locations. It is worth noting that the Brazilian component proved to be a significant concern of investors the last time FOGO was publicly held, not the case this time around.

ACTUAL NEW STORE PERFORMANCE HAS SUBSTANTIALLY EXCEEDED TARGETS

The stated third year targeted sales has been $6.6M, which in the past generated a cash on cash return of 40-43% from a prototype sized at 10,600 square feet. However  the eight new US locations since 2019 generated annualized (based on the weeks they were open in 2021) at $9.0M, located in different regions of the US and in various types of  trade areas. The three locations that were open for the full 2021 year were the best of the bunch, generating $9.4M, and those sales were generated out of a smaller 9,100 square foot prototype.  Based on the latest $3.5M cash investment per store, the company states their “confidence that we will achieve our targeted 40% cash on cash return with our new development strategy.” They further point out that “our U.S. cash on cash returns in 2021 were 58% and 13% in Brazil”. (Brazil being relatively immaterial to the total equation.) Since a 40% cash on cash return on $3.5M would be $1.4M, which is only 15.5% of $9M and the restaurant level EBITDA contribution was almost twice that at 30.3%, management’s targeted AUVs and/or cash on cash returns are likely to be exceeded.

CONTROLLED GROWTH IS AHEAD – FOR A LONG TIME

Based on the compelling store level economics as described above and the demonstrated success in opening new locations even in the very difficult last twenty four months, expansion of the current store footprint should not entail too many risks. The plan is to open eight to ten new restaurants in 2022 as well as franchise one or two international locations. The company estimates that there is the potential for 300 total sites in the US plus 250 franchised internationally. We can only add to the above discussion our judgement that the high unit volumes allow for compensation of store level management  sufficient to maintain the day to day dedication that produces long term performance.

CONCLUSION:

As we stated last fall, FOGO, if an when it becomes publicly held, and if the valuation is not too extreme, represents an attractive long term investment opportunity.

Roger Lipton

FOGO HOSPITALITY FILES FOR IPO – “BETTER THAN MOST” (the call on Tiger Woods’ sixty foot downhill undulating putt to win at Sawgrass in 2009)

Prologue: We know FOGO because we’ve been to Fogo De Chao’ “Brazilian Steakhouse’ many times and the Company was publicly traded from 2015 to 2018. It was owned during that period by Thomas Lee Partners, who had purchased the chain from a Brazilian private equity firm in 2012. Though the unit level economics at the time were among the best in the restaurant industry, the stock was consistently undervalued, probably because the Brazilian locations, about 15% of revenues at the time, did poorly, unit growth was modest and Lee’s potentially large sale of stock was a constant overhang. Affiliates of the Rhone Group (“Rhone”) took FOGO private in early 2018 and have since owned 99% of the equity. A great deal of progress has been made, even through the course of the pandemic, and FOGO has emerged well positioned for long term growth. They filed two days ago a preliminary S-1 for an IPO so the offering is no doubt a couple of months away.  The following relatively brief discussion is designed to promptly present our initial reaction to the offering, which will doubt be expanded upon before and after the deal.

THE OFFERING

The filing calls for $100M but that is just a “place holder”. It is unclear how much of the offering will be for the 99% owner, “Rhone”, the proceeds to be used to refinance a major portion of the $344M of debt. Our guess is $200-300M will be raised, depending on the valuation and the institutional response to the deal, perhaps at a valuation of $1.2 -$1.5 billion, which would be about 12-15x the approximate $100M run rate of EBITDA. Have to admit: we could be materially low in terms of our valuation “suggestion” in the light of the current speculative tone of the marketplace, though a lot can happen either way over a couple of months. For example: Sweetgreen (SG) was priced this morning above the range (with a very high $3B valuation) and it has run up 50% from there. At the same time, Portillo’s (PTLO) after increasing from its $20 IPO price to over $50 (something like 30x their EBITDA run rate), sold off over 10% yesterday because their first reported quarter as a public company was uninspired.

THE COMPANY

There are currently 60 Fogo locations, 53 of which are company owned, with 46 across 21  US states, DC, and PR. The concept provides Brazilian family-style dining, the Churrasco experience offering premium cuts of grilled meats, carved tableside by gaucho chefs, all at a relatively modest fixed price. The dining experience is differentiated from other dining possibilities, as the gaucho chefs (actually overseeing the cooking process) also engage with the guests’ table, customizing the pace, the portioning and selection, and maximizing customer satisfaction. The existing locations are almost all 10,600 square feet on average (more on this later) and the average unit volumes (AUVs) are comparably high at $7.9M over the last twelve months (TTM). The price-value equation appeals to a broad range of demographics, with high-growth Millennial and Generation X representing 79% of the guests.

THE RECENT IMPROVEMENTS

The menu options have been expanded, with a vegetarian option, ala carte seafood entrees, appetizers, a Market Table only option and a selection of sharable plates. The Company has built upon dayparts such as weekday lunch, weekend Brazilian brunch, as well as an expanded focus on group dining, full-service catering, plus takeout and delivery. A smaller footprint version has been developed, 8,500-9,100 square feet, vs.10,600 previously, costing $3.5M vs $5.0M. The several smaller locations that have opened are doing volumes close to systemwide averages.

UNIT LEVEL ECONOMICs (& below the store line)

Fogo continues to generate cash on cash returns among the best within the full service dining industry. The Company states that, prior to the pandemic, traffic was up for six consecutive years. More recently:  Over the trailing twelve months, ending 10/3/21, US AUVs were $7.9M vs $7.7M in ’19. Store Labor Expense was the same at 25%. Food & Beverage Cost was 26% vs. 27%. Occupancy and Other Expenses were 19% vs 20%. US Restaurant EBITDA margin was 30% vs 28%. The Prospectus highlights a “40% plus ‘targeted’ cash on cash return, which has consistently been achieved in the past. A smaller footprint, 9100 square feet costing $3.5M (versus $5.0M for 10,600 square feet) has been developed, of which three are opened and doing volumes apparently close to systemwide averages.

For the first nine months of ’21 vs.’19, the restaurant EBITDA contribution was 28.7% of sales, vs. 26.8%. Marketing and Advertising was 4.0% vs 2.9% in ’19. D&A was 6.2%, down from 7.2% in ’19. G&A is running 6.4%, down from 7.3% in ’19, relatively modest for a company store operated growth company. Income from Operations is 11.2% for nine months of ’21 vs 8.6% in ’19. It is worth noting that the Brazilian locations represent only 3.0% of revenues in ’21, operating essentially at a breakeven level. EBITDA for nine months is $51.3M vs $40.2 in ’19. Adjusted EBITDA for nine months is $54.5M vs. $43.5M. The Company notes that the rebound from the pandemic took hold in Q2’21, so we surmise that most of the $54.5M was generated in Q2 and Q3, EBITDA essentially running at a $25M quarterly  rate.

THE PLAN

Simply put, FOGO intends to build out its system at the rate of 15% annual unit growth in the US, augmented by international franchising. Considering the apparent success of the smaller footprint version, management sees the potential for 300 locations. Expanded focus on digital marketing and loyalty programs could further drive frequency and average ticket.

WHAT HAS CHANGED THIS TIME?

The following couple of paragraphs from the prospectus are instructive relative to future possibilities. The underlines are ours.

“ For example, our three new U.S. restaurants opened since 2019 (located in Bethesda, Long Island and Irvine) that were open during the entire 39 weeks ended October 3, 2021 had average weekly sales of $169,000 in that period, compared to average weekly sales of restaurants opened previously of $169,000, $85,000, and $148,000 generated in the 39 weeks ended October 3, 2021, Fiscal 2020 and Fiscal 2019. The $169,000 average weekly sales for the three new U.S. restaurants referenced above exceeds the average weekly sales implied by our target year 3 U.S. AUV of $6.6 million by 33%. Additionally, these three new restaurants are approximately 14% smaller on average (9,100 square feet on average as opposed to 10,600 square feet on average), hence demonstrating the potential that our smaller sized units can generate comparable sales levels. Furthermore, our three newer units opened during 2021 (White Plains, NY, Albuquerque, NM, and Burlington, MA) are performing above our expectations.

“Based on strong average weekly sales of our new development model restaurants during the thirty-nine weeks of Fiscal 2021 and our reduced targeted average cash investment of $3.5 million per new restaurant, we have confidence that we will achieve our targeted 40% cash-on-cash returns with our new restaurant development strategy, which is generally in line with our 43% U.S. cash-on-cash returns and 43% Brazil cash-on-cash returns in Fiscal 2019, before the COVID-19 pandemic, and higher than our 11% U.S. cash-on-cash returns.”

AS A RESULT:

Since being public last time (1) unit growth will be faster, with 8-10 new restaurants in the US in ’22 plus 1-2 international franchises (2) There is a much larger buildout potential, which is a “multiple maker” in the stock market (3) store level economics could be even better than the already excellent 40% C/C “target” return. That target is based on a $3.5M cash investment and an AUV of $6.6M but the newest locations are doing substantially better than that. (3) The impact of Brazilian operations is negligible this time around (4) The Thomas Lee “overhang” is gone, replaced by Rhone. However, liquidity in the capital markets has never been higher. A couple of billion in today’s market place is a rounding error.

MANAGEMENT

FOGO is led by CEO, Barry McGowan, who joined the Company in 2013 as COO. He was instrumental in creating platforms such as unique dayparted menus for Weekday Lunch and Brunch, Bar Fogo, Appetizers, Market Table branding and Group Dining. Mr. McGowan was appointed as CEO in 2018, just after the Company went private,  The other top executives include Tony Laday, CFO, Rick Lenderman, COO, Selma Oliveira, Chief Culture Officer, Janet Gieselman, CMO, Andrew Feldmann, President of International Franchise Development and Blake Bernet, General Counsel.

THERE ARE ALWAYS RISKS

To name a few: (1) Beef is a commodity, which goes up and down in price, and obviously would affect profit margins (2) An increased unit growth rate has its own set of management demands (3) The smaller size unit might not continue to perform as hoped (4) International franchising may not develop as expected (5) Store level margins are at historical highs. Though they have been consistently produced in the past, even a modest decline over a short period of time would concern investors.

In terms of evaluating these risks: (1) Commodities go up and down in price and menu prices can be raised if necessary. The profit margin consequence is short term in nature. (2) Managing the increased pace of unit growth should not be insurmountable, especially considering the progress of the last most difficult eighteen months, which included the opening of six locations in ‘21 and planning for 8-10 in ’22.(3) The smaller size unit might not be a home run everywhere, but results so far indicate modest success, at least, and this effort seems very unlikely to be a fundamental drag (4) International franchising might not help, but it is asset light so it won’t hurt.(5) As shown in the chart above, store level and corporate margins have been at this level, and been sustained, consistently in the past. The price/value equation presented to the customer, including the differentiated dining experience, should allow for pricing flexibility, which will protect margins.

CONCLUSION

We cannot know how enthusiastic we should be relative to FOGO stock because we don’t know what the IPO pricing will be or where it will begin to trade. In the real world, however, this well positioned and differentiated restaurant chain, with unit level economics leading to an impressive return on capital investment, should fundamentally perform “better than most”. The unique concept provides a great price/value to customers, and is complex and demanding enough to be defensible against potential competition. The unit level and corporate economics speak for themselves and management seems capable as stewards of the business and the capital. We look forward to the IPO offering and hope the stock doesn’t run up too far when it first starts trading.

Roger Lipton