NOBLE ROMAN’S REPORTS Q4’20 – EXITS PANDEMIC STRONGER THAN GOING IN, BALANCE SHEET IMPROVED AND OPERATING MARGINS EXPANDING
Indiana based Noble Roman’s (NROM) has been publicly held for decades, participating in our (then) annual Small-Mid Cap Restaurant Conference back in the 1980s. Readers can confirm within social media commentary the warm recollections that mid-west residents have from their youth, not only in relationship to the pizza but the legendary breadsticks served with a spicy cheese sauce. The Company has been reinvented in the last five years, creating and establishing the ten unit (7C+3F) Noble Roman’s Craft Pizza & Pubs as an attractive growth vehicle. In addition, NROM can build upon their nationwide system of over 600 non-traditional locations. The three 3,600 sq.ft. Pub locations, opened in the middle of the pandemic, are annualizing at well over $1.5M, with an indicated store level EBITDA above 20%, that would generate a cash on cash return of approximately 50%. The total of seven existing company locations are annualizing at $1.4-$1.5M, with an EBITDA margin in the range of 17-20% that generates a cash on cash return of 34% to 43%. The Company was solidly profitable in ’20, in spite of the pandemic, and should be more so as existing Pubs normalize post-pandemic and new units are added. We project the possibility that within eighteen months, there could be 10-12 company Pubs operating, further modest growth in the non-traditional segment, and a corporate EBITDA in the area of $5M, even without significant Pub franchising. The balance sheet has a manageable long term debt component of $6M, net of the $2M in cash. Since the value of the common stock is under $10M, an Enterprise Value of under $16M is obviously very modest relative to the brand value and the EBITDA potential. Obviously a micro-cap valuation at this point, NROM has the opportunity to grow substantially, attract a larger investment following and be revalued substantially upward.
When a branded chain has been around, and publicly held, for four decades, there is almost always some “baggage” and Noble Roman’s is no exception. Skipping over ancient history, within a few years before and after the financial crisis of ’08-‘09, Noble Roman’s signed up something like 700 non-traditional licensed locations (c-stores, gas stations, hospitals, bowling alleys, etc.). Unfortunately, in ’14 and ’15 (out of Noble Romans’ control) a number of c-store chains re-franchised many locations and the new franchisees proved to be poor operators and/or financially unreliable. Determined to protect the brand, Noble Roman’s management did their best to enforce the franchise contracts, including collection of the royalties (and subsequent legal expenses) receivable. This effort has gone on through the last six years and culminated at the ’20 year end with a full reserve of the last of the long term royalties and legal expenses receivable. It is worth noting that none of the royalties and legal expenses due are from current franchisees. Management has emphatically stated that the royalties now shown as receivable, $879k at 12/31, from the franchise segment that generated $5.0M of revenues in ’19 and $4.1M in pandemic driven ’20, are all current.
The last five to six years have been characterized by steady operating earnings, but corporate cash flow has been reduced by legal expenses and high interest rates on debt. Bottom line GAAP results have in turn been hit by increased reserves against receivables. If the Company meets its operating objectives, all of these negative factors: burdensome interest rates, high legal expenses, and receivable adjustments would not apply in the future.
For perspective, we recently compared the “state of the Company” at 12/20 versus 12/14, six years ago, covering the period in which the substantial improvements as described above have taken place. Revenues in ’14 were $7.9M, almost all of it royalties, and Net Income Available to Common Shareholders was $1.59M. There was $3.3M of long term debt, offset by $200k of cash. Net (current) Accounts Receivable were $1.7M. In relationship to the “Other Asset” account, just recently reduced to almost zero, it was $5.0M in ‘14, up from $3.1M in ’13, and those receivables were a heavy burden in the succeeding six years.
Six years later: the fourth quarter of ’20, while still affected materially by the pandemic, can be considered to be approaching normality. Revenues ran at an annualized rate of $13.2M. In the full calendar year, there were a number of material non-cash adjustments (to be discussed later) but Net Cash From Operating Activities $1.7M, and, with a tax loss carry forward, that is almost the same as the $1.59M available to common shareholders in ’14. It is true that the first PPP loan of $715k contributed to the calendar ’20 result, those funds replaced lost sales and related costs so the normalized result without PPP would likely not have been much different. The balance sheet is further indebted today than in ‘14, with $8M of long term debt at 12/31/20, offset currently by $2.0M of cash but there is no principal due for several years. Most importantly, Other Assets, including Long Term Receivables, has been reduced to almost zero, so reserve adjustments should not recur, as was the case from ’14 through ’20. Critical to the public shareholder base, the average number of shares fully diluted is up only about 11%, to 23.5M over the last six years. The absence of major shareholder dilution is likely due in no small part to the fact that Paul and Scott Mobley personally own about 23% of the shares outstanding so have every reason to minimize dilution. They have also voluntarily reduced their salaries during the last several years, committing to annual increases of no more than 5% in the future.
In summary, results the last six years have been affected by a variety of operational and financial adjustments, always difficult in a publicly held environment, but the net cost has been relatively modest , the public shareholders were well protected and the Company now emerges in its best position over many years.
Q4 AND CALENDAR ’20 RESULTS
The fourth quarter, while still materially affected by the pandemic, is more indicative of the current “state of the Company” then full year results because the pandemic affected the twelve months much more than the fourth quarter, which was approaching normalization. Fourth quarter results were also not benefited by incorporation of the PPP loan proceeds, as was the case earlier in ’20.
In the fourth quarter, Total Revenues were $3.3M, up from $2.6M, primarily as a result of three new very successful Noble Roman’s Pizza and Pub locations that opened during calendar ’20. Operating Profit before interest, valuation adjustment and taxes was $295k vs. $234k. After interest of $337k (about 45% of which was non-cash amortization of previous loan cost and non-cash PIK interest expense) adjusted (for cash interest) pretax income (before the Increased Reserve for Long Term Receivables) was about $110k. Adding back depreciation of $120k provides an EBITDA of about $230k, still positive in the midst of a pandemic.
By segment in Q4:
The Pubs produced $2.126M vs. $1.136M of Revenues, as a result of three successful openings. Cost of sales was 22.4% vs 22.3%. Salaries and Wages was 27.4%, an improvement of 260 bp. Facility Costs improved 260 bp to 13.6%, as a result of higher sales and lower rents at the three new locations. Packaging Costs were constant at 2.8%. All Other Operating Expenses were 60 bp better at 17.7%. The EBITDA margin contribution was up by 570 bp to 16.0%. Same Store Sales for the four original Pubs was not disclosed and we assume that those volumes, which improved through ’20, were still running modestly behind Q4’19. Overall, the Pubs improved substantially in all important respects, especially impacted by the three new locations.
The Franchising segment produced Royalties and Fees of $1.220M, down slightly from $1.267M. The grocery portion was down $114k to $187K and the Non-Traditional/Pub portion was up about $67k to $1.033k. Backing out our estimate of $75k of royalties/fees from Pubs, it appears that Non-Traditional fee generation was down very modestly, a result of new store fees (signings and openings) offsetting stores (e.g. bowling alleys, hospitals) temporarily closed and lower volume permanent closings. Overall, this segment has steadily recovered throughout the pandemic, is virtually back to the level of a year ago, opened 20 locations in ’20 while permanently closing the same number of presumably lower volume locations. There remains the possibility of steady growth from this segment.
The third segment, financially immaterial, is the one company operated non-traditional location, located in a Covid-limited-access portion of a hospital. This location had revenues of $105k in Q4, down from $174k, and showed a loss of $3.4k vs a profit of $11.7k.
Calendar ’20 Results
Operations were materially affected by the pandemic but the Company remained profitable throughout the year. The major accomplishments included the opening of three very successful company Pubs (for a total of seven), the third (and highest volume) franchised opening (in Kokomo, IN), a refinancing of the long term debt, the receipt of a (now forgiven) $715k PPP loan, the signing and opening of 25 and 20, respectively, new non-traditional locations, the operational adjustments that produced a still profitable year in spite of the pandemic. Also of material importance was the decision to fully reserve $4.9M for the collection of long term receivables from franchisees that have left the non-traditional system, therefore reducing future book keeping adjustments as well as legal expenses in the pursuit of those receivables.
The Pub division generated revenues of $6.2M vs $4.8M, as a result of the new locations. The margin contribution was $1.3M (20.5% of revenues) vs. $580k (12.0%). The PPP loan (since forgiven) of $715, was reflected in these numbers, largely in a reduction of Salaries and Wages (to 21.8% of revenues) an improvement from 30.0%.
The Franchising Venue generated revenues of $4.1M, down from $5.0M, with a margin contribution of $3.1M (64.1% of revenues) vs $4.1M (66.1%).
The year as a whole showed Operating Income of $2.3M. Adding back D&A of $382k, Corporate EBITDA was about $2.7M. Interest expense was $1.9M but $658k of that was non-cash writeoff of unamortized previous loan discount and $221k was non-cash PIK expense. Subtracting cash interest of about $1.0M from $2.7M of EBITDA provides cash generation of $1.7M. Subtracting the $.715M from the PPP loan, since forgiven, indicates that the Company remained cash flow positive, on its own, in spite of Covid-19, a fairly uncommon feat in the world of publicly held restaurant chains.
THE CONFERENCE CALL
CFO and Executive Chairman, Paul Mobley, provided the financial update. In addition to the numerical summary, he strongly reiterated that, in the wake of reserving completely for Long Term Receivables, the $879k of net Receivables at yearend are current and collectible. Legal expenses will presumably be minimal, employed when collectability is likely, and amounts when collected will be reflected in income. The Non-Traditional segment continues to have growth potential. The Company sold 25 new locations and opened 20, with 20 older locations closing. Already in Q1’21, there have been seven signed up and seven openings. Significantly, an additional $940k has been received under the CARES act, expected to be forgiven.
Scott Mobley, President and CEO, provided an operational update. He described some of the challenges of adjusting to pandemic requirements, including expanded and more effective use of the pizza valet curbside pickup service, adjusting service from fast casual to full service to deal with social distancing concerns, and handling sharply higher online ordering. Supply chain and staffing challenges were unprecedented, dealt with as needed, including the temporary use of supervisory personnel to fill in for store crew, and this flexibility and dedication is a corporate strength. Commodity prices, cheese in particular, fluctuated more than normal. Third party delivery continues to not be a priority, running at a relatively modest 15% of sales, since NROM is not anxious to lose control of “the last mile”. The Pizza Valet curbside pickup service, introduced over a year before the pandemic, has been improved further, enjoyed by both customers (who better control the off-premise experience) and crew (who earn tips). To whatever extent third parties are used, the expectation is that competition among them will serve to reduce the loss of profit margin from their use.
In response to questions, management reiterated the intention to open several new company operated Pubs in the current year. Paul Mobley indicated his optimism that there still could be some collection of the now fully reserved Long Term Receivables. Legal assistance will be employed only when success is highly likely and recovery will be reflected in income when received.
GOING FORWARD – A PROSPECTIVE EBITDA MODEL
The current balance sheet (including the $940k received in ’21 from the CARES ACT, and expected to be forgiven, reflects about $2M of cash and $8M of long term debt. The Company has indicated their intention to open three new company Pubs in ’21. While no guidance has been given beyond ’21, there seems a likelihood of at least three more locations in ’22.
Without consideration of more franchised Pub locations or non-traditional growth, we think it likely that eighteen months from now there will be five more company operated Pubs, bringing the total to twelve. If twelve pubs average $1.4M and generate a store level EBITDA of a reasonable 17%, that would generate $16.8M of revenues and $2.9 store level EBITDA. Adding $4.0M of Margin Contribution from the Non-Traditional system, as generated in ’19, provides $6.9M of EBITDA from those two divisions. The grocery division might fade further but modest growth in franchising could offset that. G&A has been running about $1.7M for the last three years, and if we assume it becomes a run rate of $1.9M eighteen months from now, that would provide a corporate EBITDA run rate of $5.0M.
CONCLUSION: Provided at the beginning of this article