Tag Archives: FRGI


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The long term investment appeal of well established franchising companies is accepted by the investment community. Most of the prominent franchisors’ equities sell at price to trailing twelve month EBITDA multiples in the mid to high teens (Denny’s (DENN), Dine Brands (DIN), Dunkin’ Brands (DNKN), Pollo Loco (LOCO), McDonald’s (MCD), Restaurant Brands (QSR), Wendy’s (WEN), even higher in a couple of instances Domino’s (DPZ), Shake Shack (SHAK), Wingstop (WING), lower in a number of “challenged” situations like Jack in the Box (JACK), Red Robin (RRGB), Brinker (EAT), Fiesta Rest. (FRGI).

The attraction of asset light franchisors revolves around the presumably free cash flow for franchisors, a steady stream of royalty income unburdened by capital expenditures to build stores. The operating leverage is at the store level.  Franchisees are responsible for building the stores, then controlling food costs, labor, rent and all the other operating line items. Franchisors receive the royalty stream and have the obligation of supporting the system with brand development, site selection advice, marketing support, and operating supervision. These supporting functions, it should be noted, are optional to a degree, and we have written extensively about system support sometimes being short changed by corporate priorities such as major stock buybacks.


We acknowledge that in every franchise system there will be some operators less satisfied than others. In the same way, customer reviews on Yelp or Facebook are more frequently written by critics. Bad news is more noteworthy and more customers are inclined to criticize than applaud, so we have to listen to the complaints but dig further for the reality. With that in mind, we hear the following from franchisees of various restaurant systems:

“I’ve been in this business for thirty years, and I’ve never seen it this bad. Everyone is making money but me; the landlords, the franchisor, the banks. My margins have been killed, and I’m up against my lending convenants”.

“All the franchisors want to do is build sales to build their royalties. The dollar deals are trading people down. My franchisor doesn’t care about my margins. I can’t maintain my margins, especially with the increasing cost of labor, let alone build it”.

“The franchisor is putting pressure on me to sell, even though I’ve always been considered a good operator, with high performance scores. I’m up to date on my development agreement, but they want somebody else to take me out, and the new buyer will agree to what I consider to be a ridiculously aggressive development contract”.

“The franchisor has replaced experienced long term field support with lower priced (and inexperienced) younger people. They’re cutting corporate overhead, but these kids, who never ran a store, are telling me to how to control costs.””

“I’m doing my best with the development objectives, but it is almost impossible to build stores with today’s economics. Rents are too high, labor costs are killing me, and I can’t raise prices in this promotional environment”.

“As if things aren’t tough enough, I’m being nickeled and dimed with demand for higher advertising contributions and fees on services (including software) that I thought would be provided”.

The valuations provided to the publicly held companies do not reflect the situation as described by the admittedly anonymous franchisees. The commentators quoted above don’t want to aggravate their franchisor, and we don’t want to be unfair or misleading to particular companies by relying on just a few conversations, though they do support one another. For the most part, franchisees are strongly discouraged from talking to the press or investment community. The companies will say that “competitive” issues require some secrecy, but there are few secrets in this industry.

The optimistic view, as represented by the valuations in the marketplace, is that the comments above are not typical or representative of the health of the subject franchise systems. Allow me to provide a short story which leads to a suggestion.


Twenty six years ago, in 1992, IHOP had just come public. I was a sell side analyst, thought the numbers were interesting and the stock was reasonably priced. The company, led by the now deceased CEO Kim Herzer, invited me to attend their franchisee convention, which I did. I obviously had the opportunity to interface with many franchisees and it was clear that, while all was not perfect, the franchisor was providing a great deal of support that was embraced by an enthusiastic franchise community. IHOP stock tripled over several years for me and my clients who owned millions of shares. I attended several more of their annual conventions and maintain some of those relationships to this day. Obviously, the conviction I gained from their open attitude was critical to the success of the investment. I should add, that many of those buyers in 1992 owned the stock for many years, not living and dying on quarterly reports.


As you are no doubt by now anticipating, my suggestion to publicly held franchising companies: open up your franchisee conventions to the investment community. The companies may quickly respond that lenders are already invited to franchise conventions, but franchisees are unlikely to express their system oriented concerns when they are making a pitch to a potential lender. Companies may also respond that their lawyers think it would be a bad idea, not consistent with full disclosure and analysts would be getting “inside information”. Let’s not allow the lawyers to provide “cover”. A good lawyer will provide a solution to the problem, not just provide the pitfalls. Analysts attending a franchise convention are not being told what sales or profits are going to be. Attending a franchise convention is  a “channel check”, no more than talking to a supplier or customer of a manufacturing company, which any decent analyst will do.

The anecdotal critical comments, as described above, have likely been heard by others, but may be atypical of most restaurant franchising companies. There are no secrets in this business. One of the investment appeals of this industry is its transparency. Notable news is going to leak out anyway. The objective of any publicly held company is to build stock ownership by well informed investors. Investment analysts pride themselves on their ability to “build a mosaic”, enhance the information provided in quarterly reports, SEC filings, and conference calls, with “channel checks”. What channel check would be more pertinent than meeting the franchisees of a company that is dependent on franchisee success? Putting it another way, and taking the highest valuation relative to EBITDA as an example: Wingstop (WING) is a company I have the highest regard for. However, you could call it irresponsible to pay almost fifty times trailing EBITDA for Wingstop stock (and I haven’t) if I couldn’t talk to franchisees of my own choosing?

There’s no particular need to invite this writer if I’m not considered influential enough. I have not spoken to these analysts on this subject, but qualified industry followers such as David Palmer, Nicole Reagan, Matt DiFrisco, David Tarantino, Jeff Bernstein, Andy Barish, Bob Derrington, Mark Kalinowski, Michal Halen, Gary Occhiogrosso, Howard Penney, Jonathan Maze, Nicholas Upton, John Hamburger and John Gordon provide the beginning of an invitation list.  I rest my case.

Roger Lipton

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Overview  (2016 10-K)

Fiesta Restaurant Group is the owner and franchisor of two fast casual brands which generated $700M of revenues in the TTM through 17Q2: Pollo Tropical (PT) offering freshly prepared Caribbean-inspired food, and Taco Cabana (TC) offering freshly prepared Mexican inspired food.  As of 17Q2 there were 185 Pollo Tropical locations, of which 153 company units are in Florida with 19 in Georgia and Texas.  The PT franchised units are primarily located in the Caribbean region, except for a handful of non-traditional units on college campuses and in a hospital.  At 17Q2 there were 176 TC units of which 169 were company owned and were almost entirely located in Texas. Of the 7 franchise units, 5 were located in New Mexico and 2 non-traditional stores were located on Texas college campuses.

FRGI was created by a spinoff from Carrols Restaurant Group Inc. (TAST) in 2012, presumably to unleash the potential for the two brands, particularly PT, which it viewed as its primary growth vehicle.  Over the next 4 years, it quickly increased the PT company-owned store count from its 86 Florida units to 181 units, expanding to new markets.  Much of this expansion was into Texas, which the company believed it knew well since virtually all its TC units were located there.  Meanwhile, the TC brand grew little (from 157 units to 164 units) in the same period.

As the charts below reveal, things did not go as planned.  The headwinds afflicting the restaurant industry generally, coupled with energy-related issues afflicting Texas specifically, undoubtedly interfered with progress, but so did company missteps.  Comps, AUV’s and margins fell at both brands, especially at PT.  In 2016 the company halted PT expansion outside of Florida, even closing stores.  In September 2016 CEO Timothy Taft retired and PT COO Danny Meisenheimer was appointed interim CEO.  The company also contemplated divesting the Taco Cabana brand. In February 2017, Richard Stockinger was appointed CEO and Mr. Meisenheimer was appointed COO and Sr VP of the company. Mr. Stockinger most recent direct operating experience was as President and Chief Executive Officer of Benihana Inc. from 2009 to 2014. He has over 30 years of restaurant industry experience both in a direct operating capacity and as a consultant and in various roles with private equity firms.

Strategy Following his appointment Mr. Stockinger undertook an extensive examination of company operations, including: meeting with founders of the 2 brands, scrutinizing the menu recipes and ingredients with the assistance of outside expertise, brand and guest experience research, marketing, and deferred maintenance policies.  In April management announced its Strategic Renewal Plan.

A principal decision was to retain ownership of Taco Cabana rather than selling it or spinning off to shareholders. Among the plan’s initiatives is leveraging its scale and purchasing power to upgrade its chicken supply chain to improve the quality as well as lower costs.  The review of the menu resulted in modification of about 90% of each brand’s menu.  The company is testing new labor models at both brands to improve the guest experience and to speed service.  PT has retained a new advertising agency and is developing new campaigns at both brands.  Importantly, management has identified and prioritized deferred maintenance projects which it intends to complete in 2018 and has established an improved preventative maintenance program to extend the longevity of its restaurant base.  Another element of the plan was the closure of 30 PT stores including all locations in Dallas-Fort Worth, Austin and Nashville, TN. It is also converting some PT units to the TC brand.

It is obviously too early to assess the plan’s results, but anecdotal evidence indicates the company is off to a good start.  For example, addressing the previous decline in the quality of its core chicken ingredients (now providing more thigh meat and less breast meat) has been met with immediate customer approval.

Menu and Dayparts PT’s Caribbean-inspired menu features bone-in chicken marinated in a blend of tropical fruit juices and spices and grilled over an open flame.  The menu also includes casserole bowls (TropiChops) made to order from grilled chicken breast, roast pork, grilled vegetables or (in some markets) beef served over rice or beans.  Sandwiches, wraps and salads are served with made from scratch sides including fried yuca and sweet plantains as well as more traditional items such as fries.  The restaurants offer a selection of specialized sauces, salsas and desserts.  The restaurants feature open display cooking on their large open-flame grills.  Portions include family sizes for home replacement meals. The stores are generally open seven days a week for lunch (47.1% of sales) and dinner and late night (52.9%).  In 2016 drive-through sales constituted 46.3% of total sales and the average check was $10.94.

Taco Cabana restaurants serve fresh Mexican inspired food, including flame-grilled steak and chicken fajitas served on sizzling iron skillets, quesadillas, hand-rolled flautas, enchiladas, burritos, tacos, fresh-made tortillas, customizable salads and breakfast tacos.  Restaurants include a self-service salsa bar with made-from-scratch salsas, sauces and other condiments. Beverages include beer and TC’s signature margaritas.  Most restaurants are open 24 hours a day, with an average check in 2016 of $9.27.  By daypart, breakfast and lunch each comprise about 22% of daily sales, dinner about 25%, afternoon (2-5pm) about 13%, late night (9pm-midnight) about 12% and overnight (midnight-6am) about 6%.  About 56% of total sales are transacted by drive-through.

Unit Level Economics The typical PT unit ranges from 2,800-3,700 square feet and provides interior seating for 70-90 guests.  Taco Cabana units are typically free-standing units averaging 3,500 square feet, with seating capacity for about 80 guests inside and patio seating for an additional 50.  Despite the slide in store level EBITDA margins at both brands, they still on par with their peers.  But as the table below indicates, the relatively high outlay needed for a new Taco Cabana unit is a material drag on ROI.  (Note, store-level EBITDAR and EBITDAR margins are used in the table to conform with the fully capitalized unit outlays disclosed by FRGI.)  One of the initiatives of the Strategic Renewal Plan is to redesign restaurant prototypes for both concepts to optimize brand attributes, enhance the guest experience and to improve investment returns.

Balance Sheet and Cash flows FRGI’s ratios of debt to EBITDA and lease-adjusted debt to EBITDAR at 7.4x and 7.9X, respectively for the TTM through 17Q2, was the highest of its fast casual peers with fewer than 60% franchised units (HABT, LOCO, PNRA, SHAK, HABT) whose comparable averages were 1.8X and 4.0X.  TTM free cash flow through 17Q2 was $6.3M (CFO $72.5M, CapEx $66.3M) for a FCF margin of 0.9%.

Shareholder Returns Following its April 26,2012 spinoff by Carrols Restaurant Group, Inc. at an initial price of $12.50, the stock dipped briefly to a low of $11.10 in early May 2012, after which it climbed to a high of $66.99  2/19/15.  Subsequently the stock declined to its current level, returning 36.0% for the entire period, or a CAGR of 5.9%.  The company does not pay a dividend and has not repurchased its shares. In the past year an activist shareholder campaigned for board representation and for divestment of Taco Cabana, among other actions.  At the annual meeting shareholders supported the board, management and the Strategic Plan for Renewal including the decision to retain ownership of Taco Cabana.

Current Events  (17Q2 10-Q) (17Q2 Release) (17Q2 Transcript)

The second quarter, ending 7/2, was, as expected, a continuation of the disappointing first quarter results. Even more important than the adequately anticipated poor quarter, management provided a roadmap for improving results in the future. Comps were down in Q2 by 7.7% at PT and 4.7% at TC, and transactions (adjusted for price and mix) was 230 bp worse at PT and 20 bp better at TC. Restaurant level adjusted EBITDA was higher by $0.8M at PT and lower by $2.6M at TC, after eliminating items such as closing charges and changes in advertising expenditures. Typical of industry trends, lower commodity costs helped a bit but higher wages hurt. Suffice to say that both brands are admittedly severely challenged and have to be reinvented to a certain degree.

In addition to the initiatives mentioned in the historical description above, both brands are being relaunched with new marketing campaigns, including broadcast, point of purchase, billboards, digital and social media. Spanish television and billboards will be used in markets where appropriate and menu items and recipes are being modified on a regional basis. (Somebody once said “retail is detail”.) The fleet is being modernized, in addition to the closures of 30 PT and 4 TC locations, by modernization of 9 PTs in South Florida. New labor models are being installed, in an effort to enhance the hospitality experience as well as improve speed of service. Price promotions are being scaled back, which can hurt short comps, but an effort is being made to provide every day value.

The initiatives are young, but feedback from customers and employees appear positive. There have been more compliments, fewer complaints, better social media scores. Management revealed, on the conference call (August 8th) that July comp sales and transactions improved (down less), at PT, by about 150 bp from Q2. TC showed comps down 8.9% and transactions down 9.5% in July, materially worse than Q2 which management attributed to the fact that the suspension of TV in May, one month later than at PT, was more impactful at TC, and the reduction In discounting at TC was affecting sequential comps.

The comprehensive plan that management has put into effect will obviously take time to show productive results. It doesn’t help that this effort is taking place in a generally unforgiving environment, but both brands have sufficient critical mass to at least stabilize results, hopefully to be built upon over the long term.


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