Item 7. Management’s Discussion and Analysis
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our “Audited Consolidated Financial Statements” and accompanying “Notes to Consolidated Financial Statements” included elsewhere in this Annual Report. In addition to historical information, this discussion contains forward-looking statements that involve risks, uncertainties, and assumptions that could cause actual results to differ materially from management’s expectations. See “Forward-
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Looking Statements” and “Item 1A. Risk Factors” included elsewhere in this Annual Report. We assume no obligation to update any of these forward-looking statements.
Basis of Presentation
We use a 52- or 53-week fiscal year ending on the last Wednesday of each calendar year. Fiscal 2023, 2022, and 2021 ended on December 27, 2023, December 28, 2022 and December 29, 2021, respectively. In a 52-week fiscal year, each quarter includes 13 weeks of operations. In a 53-week fiscal year, the first, second and third quarters each include 13 weeks of operations, and the fourth quarter includes 14 weeks of operations. Approximately every six or seven years a 53-week fiscal year occurs. Fiscal 2023, 2022 and 2021 were 52-week fiscal years. 53-week years may cause revenues, expenses, and other results of operations to be higher due to the additional week of operations. Fiscal years are identified in this report according to the calendar years in which they ended. For example, references to fiscal 2023 refer to the fiscal year ended December 27, 2023.
Overview
El Pollo Loco is a differentiated and growing restaurant concept that specializes in fire-grilling citrus-marinated chicken and operates in the LSR segment. We strive to offer food that integrates the culinary traditions of Mexico with the healthier lifestyle of Los Angeles. Our distinctive menu features our signature product--citrus-marinated fire-grilled chicken--and a variety of Mexican and LA-inspired entrees that we create from our chicken. We serve individual and family-sized chicken meals, a variety of Mexican and LA-inspired entrees, and sides, and, throughout the year, on a limited-time basis, additional proteins like beef. Our entrees include favorites such as our Chicken Avocado Burrito, Pollo Fit entrees, chicken tostada salads, and Pollo Bowls. Our famous Creamy Cilantro dressings and salsas are prepared fresh daily, allowing our customers to create their favorite flavor profiles to enhance their culinary experience. Our distinctive menu with “better for you” and more affordable alternatives appeals to consumers across a wide variety of socio-economic backgrounds and drives our balanced composition of sales throughout the day (our “day-part mix”), including at lunch and dinner.
M arket Trends and Uncertainties
On September 28, 2023, Governor Newsom signed AB 1228 into law, which repealed and replaced the FAST Act on January 1, 2024. Pursuant to AB 1228, the minimum wage at fast food restaurants that are part of brands which have more than 60 establishments nationwide will rise to $20 an hour on April 1, 2024, and a Fast Food Council created by AB 1228 will have limited power to approve annual wage increases until 2029. Under the law, the Fast Food Council will also have the power to develop and propose minimum standards for fast food workers, including standards for working hours, working conditions, and health and safety. As a result of AB 1228, we expect our labor and regulatory compliance costs will increase beginning in fiscal 2024 and that our results of operations and profitability will be adversely affected if we are not able to implement other measures to counter these increased costs.
We have experienced inflationary pressures affecting our operations in certain areas such as food cost, labor costs, construction costs and other restaurant operating costs. We have been able to substantially offset these inflationary and other cost pressures through various actions, such as increasing menu prices, managing menu mix, and productivity improvements. However, we expect these inflationary and other cost pressures to continue throughout fiscal year 2024 and we may not be able to offset cost increases in the future.
Growth Strategies and Outlook
We plan to continue to expand our business, drive restaurant sales growth, and enhance our competitive positioning, by executing the following five key strategies :
● attract, hire, and retain top talent ;
● EPL hospitality ;
● be known for our famous fire-grilled chicken ;
● digital-centric in service of improving the customer experience; and
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● expand as an asset light company.
As of December 27, 2023, we had 495 locations in seven states. In fiscal 2023, we opened two new company-operated restaurants in Nevada and our franchisees opened three new restaurants, one in California, one in Colorado and one in Utah. In fiscal 2022, we opened four new company-operated restaurants, two in Nevada and two in California, and our franchisees opened nine new restaurants, seven in California, one in Colorado and one in Utah .
In 2024, we intend to open two new company-operated in California and five to seven new franchised restaurants. To increase comparable restaurant sales, we plan to increase customer frequency, attract new customers, and improve per-person spend.
Highlights and Trends
Comparable Restaurant Sales
In fiscal 2023, comparable restaurant sales system-wide decreased 0.3%. In fiscal 2022, comparable restaurant sales system-wide increased 5.9%. In fiscal 2021, comparable restaurant sales system-wide increased 12.1%. Comparable restaurant sales growth/decline reflects the change in year-over-year sales for the comparable restaurant base. A restaurant enters our comparable restaurant base the first full week after its 15-month anniversary. System-wide comparable restaurant sales include restaurant sales at all comparable company-operated restaurants and at all comparable franchised restaurants, as reported by franchisees. Comparable restaurant sales at company-operated restaurants increased 0.3%, 3.7%, and 7.6%, respectively, in fiscal 2023, 2022 and 2021. For company-operated restaurants in 2023, the change in comparable restaurant sales consisted of a 2.3% increase in average check size due to increases in menu prices partially offset by a 2.0% decrease in transactions. In fiscal 2022, the increase in company-operated comparable restaurant sales consisted of a 7.3% increase in average check size partially offset by a 3.3% decrease in transactions . In fiscal 2021, the increase in company-operated comparable restaurant sales consisted of a 6.3% increase in average check size and a 1.2% increase in transactions.
In fiscal 2023, comparable restaurant sales at franchised restaurants decreased 0.7%. In fiscal 2022, comparable restaurant sales at franchised restaurants increased 7.4%, and in fiscal 2021, comparable restaurant sales at franchised restaurants increased 15.3%.
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Restaurant Development
In fiscal 2023, we opened two company-operated restaurants, and our franchisees opened three new restaurants. From time to time, we and our franchisees close restaurants. In fiscal 2023, we did not close any company-operated restaurants, and our franchisees did not close any restaurants. Our restaurant counts at the beginning and end of each of the last three years were as follows:
Fiscal Year Ended
2023
2022
2021
Company-operated restaurant activity:
Beginning of period
188
189
196
Openings
2
4
2
Restaurant sale to franchisee
(18)
(3)
(8)
Closures
—
(2)
(1)
Restaurants at end of period
172
188
189
Franchised restaurant activity:
Beginning of period
302
291
283
Openings
3
9
2
Restaurant sale to franchisee
18
3
8
Closures
—
(1)
(2)
Restaurants at end of period
323
302
291
System-wide restaurant activity:
Beginning of period
490
480
479
Openings
5
13
4
Closures
—
(3)
(3)
Restaurants at end of period
495
490
480
During the year ended December 27, 2023, we completed 15 company-operated restaurant remodels and 33 franchise remodels. In fiscal 2024, we plan to continue our standard practices for remodels, which includes completing a total of 15-20 company and 40-50 franchise remodels. Remodeling is a use of cash and has implications for our net property and depreciation line items on our consolidated balance sheets and statements of income, among others. The cost of our restaurant remodels varies depending on the scope of work required, but on average the investment is $0.3 million to $0.4 million per restaurant.
Loco Rewards
Our Loco Rewards loyalty program offers rewards that incentivize customers to visit our restaurants more often each month. Customers earn points for each dollar spent and points can be redeemed for multiple redemption options. If a customer does not earn or use points within a one-year period, their account is deactivated and all points expire. When a customer is part of the rewards program, the obligation to provide future discounts related to points earned is considered a separate performance obligation, to which a portion of the transaction price is allocated. The performance obligation related to loyalty points is deemed to have been satisfied, and the amount deferred in the balance sheet is recognized as revenue, when the points are transferred to a reward and redeemed, the reward or points have expired, or the likelihood of redemption is remote. A portion of the transaction price is allocated to loyalty points on a pro-rata basis, based on stand-alone selling price, as determined by menu pricing and loyalty point’s terms.
In addition, customers can earn additional points and free entrées for a variety of engagement activities. As points are available for redemption past the quarter earned, a portion of the revenue associated with the earned points will be deferred until redemption or expiration. As of December 27, 2023, the amount of revenue deferred related to the earned points, net of redemptions, is $0.7 million. We had more than 3.7 million members in the Loco Rewards loyalty program as of December 27, 2023.
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Key Financial Definitions
Revenue
Our revenue is derived from three primary sources: (i) company-operated restaurant revenue, (ii) franchise revenue, which is comprised primarily of franchise royalties and, to a lesser extent, franchise fees and sublease rental income, and (iii) franchise advertising fee revenue. See Note 15 “Revenue from Contracts with Customers” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for further details regarding our revenue recognition policy.
Food and Paper Costs
Food and paper costs include the direct costs associated with food, beverage and packaging of our menu items. The components of food and paper costs are variable in nature, change with sales volume, are impacted by menu mix, and are subject to increases or decreases in commodity costs. We expect food and paper costs, particularly those items not subject to purchasing commitments, to increase in the short-term due to current inflationary pressures.
Labor and Related Expenses
Labor and related expenses include wages, payroll taxes, workers’ compensation expense, benefits, and bonuses paid to our restaurant management teams. Like other expense items, we expect labor costs to grow proportionately as our restaurant revenue grows. Factors that influence labor costs include minimum wage and payroll tax legislation, state labor laws (which, in California, include AB 1228), overtime, wage inflation, the frequency and severity of workers’ compensation claims, health care costs, and the performance of our restaurants.
Occupancy Costs and Other Operating Expenses
Occupancy costs include rent, common area maintenance (“CAM”), and real estate taxes. Other restaurant operating expenses include the costs of utilities, advertising, credit card processing fees, restaurant supplies, repairs and maintenance, and other restaurant operating costs.
Gain on Recovery of Insurance Proceeds, Net
Gain on recovery of insurance proceeds includes insurance reimbursements related to the property and equipment damage, expenses incurred, and lost profits.
General and Administrative Expenses
General and administrative expenses are comprised of expenses associated with corporate and administrative functions that support the development and operations of our restaurants, including compensation and benefits, travel expenses, stock compensation costs, legal and professional fees, and other related corporate costs. Also included are pre-opening costs, and expenses above the restaurant level, including salaries for field management, such as area and regional managers, and franchise field operational support.
Franchise Expenses
Franchise expenses are primarily comprised of rent expenses incurred on properties leased by us and then sublet to franchisees, and expenses incurred in support of franchisee information technology systems. Additionally, franchise expenses also include all expenses of the advertising fund representing the franchised restaurants portion of advertising expenses.
Depreciation and Amortization
Depreciation and amortization primarily consist of the depreciation of property and equipment, including leasehold improvements and equipment.
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Loss on Disposal of Assets
Loss on disposal of assets includes the loss on disposal of assets related to retirements and replacement or write-off of leasehold improvements or equipment.
Impairment and Closed-Store Reserves
We review long-lived assets such as property, equipment, and intangibles on a unit-by-unit basis for impairment when events or circumstances indicate the carrying value of the assets may not be recoverable. We determine if there is impairment at the restaurant level by comparing undiscounted future cash flows from the related property and equipment assets to their respective carrying values and record an impairment charge when appropriate. In determining future cash flows, significant estimates are made by us with respect to future operating results of each restaurant over its remaining lease term, including sales trends, labor rates, commodity costs and other operating cost assumptions. If assets are determined to be impaired, the impairment charge is measured by calculating the amount by which the assets’ carrying amount exceeds its fair value. This process of assessing fair values requires the use of estimates and assumptions, including our ability to sell or reuse the related assets and market conditions, which are subject to a high degree of judgment. If these assumptions change in the future, we may be required to record impairment charges for these assets and these charges could be material.
When we close a restaurant, we will evaluate the right-of-use (“ROU”) asset for impairment, based on anticipated sublease recoveries. The remaining value of the ROU asset is amortized on a straight-line basis, with the expense recognized in closed-store reserve expense, in addition to property tax and CAM charges for closed restaurants.
(Gain) loss on Disposition of Restaurants
(Gain) loss on disposal of restaurants includes the (gain) loss on the sale of restaurants to franchisees, or other third parties, and includes the difference between carrying value and sales price of leasehold improvements, equipment and other assets included in the sale.
Interest Expense, Net
Interest expense, net, consists primarily of interest on our outstanding revolving debt. Debt issuance costs are amortized on a straight-line basis over the life of the related debt.
Provision for Income Taxes
Provision for income taxes consists of federal and state tax expense on our income, and changes to our deferred tax asset and deferred tax liability.
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Results of Operations
Fiscal Year 2023 Compared to Fiscal Year 2022
Our operating results for the fiscal years ended December 27, 2023 and December 28, 2022, in absolute terms and expressed as a percentage of total revenue, with the exception of cost of operations and company restaurant expenses, which are expressed as a percentage of company-operated restaurant revenue, are compared below:
Fiscal Year
2023
2022
(52-Weeks)
(52-Weeks)
Increase / (Decrease)
($,000)
(%)
($,000)
(%)
($,000)
(%)
Statements of Income Data:
Revenue
Company-operated restaurant revenue
$
398,437
85.0
$
403,218
85.8
$
(4,781)
(1.2)
Franchise revenue
41,002
8.7
38,225
8.1
2,777
7.3
Franchise advertising fee revenue
29,225
6.3
28,516
6.1
709
2.5
Total revenue
468,664
100.0
469,959
100.0
(1,295)
(0.3)
Cost of operations
Food and paper costs (1)
108,250
27.2
117,774
29.2
(9,524)
(8.1)
Labor and related expenses (1)
127,244
31.9
130,773
32.4
(3,529)
(2.7)
Occupancy and other operating expenses (1)
101,398
25.4
101,543
25.2
(145)
(0.1)
Gain on recovery of insurance proceeds, lost profits, net
(327)
(0.1)
—
—
(327)
N/A
Company restaurant expenses (1)
336,565
84.5
350,090
86.8
(13,525)
(3.9)
General and administrative expenses
42,025
9.0
39,093
8.3
2,932
7.5
Franchise expenses
38,404
8.2
36,169
7.7
2,235
6.2
Depreciation and amortization
15,235
3.3
14,418
3.1
817
5.7
Loss on disposal of assets
192
0.0
165
0.0
27
16.4
Gain on recovery of insurance proceeds, property, equipment and expenses
(247)
(0.1)
—
—
(247)
N/A
Gain on disposition of restaurants
(5,034)
(1.1)
(848)
(0.2)
4,186
493.6
Impairment and closed-store reserves
1,732
0.4
752
0.2
980
130.3
Total expenses
428,872
91.5
439,839
93.6
(10,967)
(2.5)
Income from operations
39,792
8.5
30,120
6.4
9,672
32.1
Interest expense, net
4,811
1.1
1,677
0.4
3,134
186.9
Income tax receivable agreement expense (income)
103
0.0
(436)
(0.1)
539
123.6
Income before provision for income taxes
34,878
7.4
28,879
6.1
5,999
20.8
Provision for income taxes
9,324
1.9
8,078
1.7
1,246
15.4
Net income
$
25,554
5.5
$
20,801
4.4
$
4,753
22.8
(1) Percentages for line items relating to cost of operations and company restaurant expenses are calculated with company-operated restaurant revenue as the denominator. All other percentages use total revenue.
Company-Operated Restaurant Revenue
In fiscal 2023, company-operated restaurant revenue decreased $4.8 million, or 1.2%. The decrease in company-operated restaurant sales was primarily due to $10.5 million decrease in revenue from the 21 company-operated restaurants sold by the Company to existing franchisees and the closure of two restaurants, in each case, during or subsequent to the first quarter of 2022. This company-operated restaurant sales decrease was partially offset by an increase in company-operated comparable restaurant revenue of $1.2 million, or 0.3%. The company-operated comparable restaurant sales increase consisted of an approximately 2.3% increase in average check size due to increases in menu prices, partially offset by a 2.0% decrease in transactions. In addition, company-operated restaurant revenue was favorably impacted by $4.3 million of additional sales from the opening of six restaurants during or subsequent to the first quarter of 2022.
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Franchise Revenue
In fiscal 2023, franchise revenue increased $2.8 million, or 7.3%. This increase was primarily due to revenue generated from 21 company-operated restaurants sold by the Company to existing franchisees and the opening of 12 restaurants, in each case, during or subsequent to the first quarter of 2022. This franchise revenue increase was partially offset by the franchise comparable restaurant sales decrea se of 0.7%.
Franchise Advertising Fee Revenue
Franchise advertising fee revenue increased $0.7 million, or 2.5% from the comparable period in the prior year. As advertising fee revenue is a percentage of franchisees’ revenue, the year-to-date fluctuation was due to the increases and decreases noted in franchise revenue above.
Food and Paper Costs
Food and paper costs decreased $9.5 million, or 8.1%, in fiscal 2023. The decrease in food and paper costs resulted primarily from lower transactions including restaurant locations sold to franchisees during the current or prior year, partially offset by commodity inflation. Food and paper costs as a percentage of company-operated restaurant revenue were 27.2% in fiscal 2023, down from 29.2% in fiscal 2022 primarily due to an increase in pricing, partially offset by commodity inflation.
Labor and Related Expenses
Labor and related expenses decreased $3.5 million, or 2.7%, in fiscal 2023. The decrease was primarily due to a $4.0 million decrease related to the 2.0% decrease in year-over-year sales transactions, a $2.9 million decrease in overtime pay due to improvements in operational execution and a $1.8 million decrease related to COVID-19 sick pay. The decrease in labor and related expenses for the year was partially offset by a $4.1 million increase primarily related to higher wage rates from minimum wage increases in California during fiscal 2023 and 2022 and other labor wage increases as a result of competitive pressure and a $1.9 million increase in labor related costs due to due to open restaurant management staffing positions in fiscal 2022 being filled during fiscal 2023. Labor and related expenses as a percentage of company-operated restaurant revenue were 31.9% in fiscal 2023, down from 32.4% in fiscal 2022 primarily due to the increase in pricing, and overtime and sick pay decreases, partially offset by the cost increases highlighted above.
Occupancy and Other Operating Expenses
Occupancy and other operating expenses decreased $0.1 million, or 0.1%, in fiscal 2023. The decrease was primarily due to a $0.8 million decrease in utilities and a $0.3 million decrease in market place delivery fees. The decrease in occupancy and other operating expenses was partially offset by a $1.0 million increase in occupancy cost. Occupancy and other operating expenses as a percentage of company-operated restaurant revenue were 25.4% in fiscal 2023, up from 25.2% in fiscal 2022 primarily due to the cost increases highlighted above .
Gain on Recovery of Insurance Proceeds, Lost Profits
During fiscal 2023 and fiscal 2022, two of our restaurants incurred damage resulting from a fire. In fiscal 2023, we incurred costs directly related to the fire of less than $0.1 million. We recognized gains of $0.2 million, related to the reimbursement of property and equipment and expenses incurred and $0.3 million related to the reimbursement of lost profits. The gain on recovery of insurance proceeds and reimbursement of lost profits, net of the related costs, is included in the accompanying consolidated statements of income, for the year ended December 27, 2023, as a reduction of company restaurant expenses. We received from the insurance company cash of $0.5 million, net of the insurance deductible, during fiscal 2023.
General and Administrative Expenses
General and administrative expenses increased $2.9 million, or 7.5%, in fiscal 2023. The increase was due primarily to a $1.4 million increase in labor related costs, primarily related to an increase in estimated management bonus expense, a $1.1 million increase in restructuring costs related to certain positions in the organization, and a $0.6 million increase in
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executive transition costs. General and administrative expenses as a percentage of total revenue were 9.0% in fiscal 2023, up from 8.3% in fiscal 2022. This increase is primarily due to the cost increases described above.
Franchise Expenses
Franchise expenses increased $2.2 million, or 6.2%, in fiscal 2023. The increase was primarily due to an increase in advertising expenses, primarily resulting from higher franchise revenue, higher franchise services expense and higher rent expense for locations sub-leased to franchisees that have a portion of the rent based on a percentage of revenue generated.
Gain on Disposition of Restaurants
During fiscal 2023, we completed the sale of 18 restaurants within California, Utah and Texas to existing franchisees. We determined that these restaurant dispositions represent multiple element arrangements, and as a result, the cash consideration received was allocated to the separate elements based on their relative standalone selling price. Cash proceeds included upfront consideration for the sale of the restaurants and franchise fees. The cash consideration per restaurant related to franchise fees is consistent with the amounts stated in the related franchise agreements, which are charged for separate standalone arrangements. We initially defer and subsequently recognize the franchise fees over the term of the franchise agreement. During fiscal 2023, these sales resulted in cash proceeds of $7.7 million and a net gain on sale of restaurants of $5.0 million. Since the date of their sale, these restaurants are now included in the total number of franchised El Pollo Loco restaurants.
During fiscal 2022, we completed the sale of three company-operated restaurants within the Orange County area to an existing franchisee. We determined that these restaurant dispositions represent multiple element arrangements, and as a result, the cash consideration received was allocated to the separate elements based on their relative standalone selling price. Cash proceeds included upfront consideration for the sale of the restaurants and franchise fees. The cash consideration per restaurant related to franchise fees is consistent with the amounts stated in the related franchise agreements, which are charged for separate standalone arrangements. We initially defer and subsequently recognize the franchise fees over the term of the franchise agreement. This sale resulted in cash proceeds of $1.0 million and a net gain on sale of restaurants of $0.8 million for the fiscal year ended December 28, 2022. These restaurants are included in the total number of franchised El Pollo Loco restaurants.
Impairment and Closed-Store Reserves
During fiscal 2023, we recorded a $1.5 million non-cash impairment charge primarily related to the property and equipment assets of one restaurant in Nevada and the carrying value o f the ROU assets of one restaurant in California. During fiscal 2022, we recorded a $0.5 million non-cash impairment charge primarily related to the carrying value o f the ROU assets of one restaurant in California that closed in 2021 and the property and equipment assets of two restaurants in California.
During fiscal 2023, we recognized $0.2 million of closed-store reserve expense related to the amortization of ROU assets, property taxes and CAM payments for our closed locations compared to $0.3 million during fiscal 2022 .
Interest Expense, Net
For fiscal 2023, net interest expense, increased by $3.1 million, primarily related to higher outstanding balances on our 2022 Revolver (as defined below) as well as the higher interest rates during fiscal 2023 versus the comparable period during the prior year.
Income Tax Receivable Agreement
On July 30, 2014, we entered into the income tax receivable agreement (the “TRA”) . The TRA calls for us to pay to our pre-IPO stockholders 85% of the savings in cash that we realize in our taxes as a result of utilizing our net operating losses and other tax attributes attributable to preceding periods. In fiscal 2023 and fiscal 2022 we recognized income tax receivable agreement expense of $0.1 million and income of $0.4 million, respectively. In fiscal 2023 and 2022, we paid $0.3 million and $0.4 million, respectively, to our pre-IPO stockholders under the TRA.
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Provision for Income Taxes
In fiscal 2023, we recorded an income tax expense of $9.4 million, compared to income tax expense of $8.1 million in fiscal 2022, reflecting an estimated effective tax rate of 26.7% and 28.0%, respectively. The difference between the 21.0% statutory rate and our effective tax rate of 26.7% for the year ended December 27, 2023 is primarily a result of windfall tax benefit related to stock options exercised, state taxes, a Work Opportunity Tax Credit benefit and the corresponding valuation allowance release in connection with the California Enterprise Zone credits expiration .
The difference between the 21.0% statutory rate and our effective tax rate of 28.0% for the year ended December 28, 2022 is primarily a result of state taxes, the change in valuation allowance against certain state credits, a tax shortfall related to equity compensation and non-deductible executive compensation, partially offset by a Work Opportunity Tax Credit benefit.
Fiscal Year 2022 Compared to Fiscal Year 2021
Year-to-year comparisons of fiscal 2022 and fiscal 2021 that are not included in this Form 10-K can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 on our Annual Report on Form 10-K for the year ended December 28, 2022, which was filed with the SEC on March 10, 2023.
Key Performance Indicators
To evaluate the performance of our business, we utilize a variety of financial and performance measures. These key measures include company-operated restaurant revenue, system-wide sales, comparable restaurant sales, company-operated average unit volumes (“AUV”), restaurant contribution, restaurant contribution margin, new restaurant openings, EBITDA, and Adjusted EBITDA. In fiscal 2023, our restaurants generated company-operated restaurant revenue of $398.4 million and system-wide sales of $1,050.2 million, and system comparable sales decline of 0.3%, consisting of company-operated restaurant comparable sales growth of 0.3% and franchised comparable sales decline of 0.7%. The company-operated comparable sales increase consisted of a 2.3% increase in average check size due to increases in menu prices and partially offset by a 2.0% decrease in transactions. In fiscal 2023, for company-operated restaurants, our annual AUV was $2.2 million, restaurant contribution margin was 15.5%, and Adjusted EBITDA was $57.8 million.
Company-Operated Restaurant Revenue
Company-operated restaurant revenue consists of sales of food and beverages in company-operated restaurants net of promotional allowances, employee meals, and other discounts. Company-operated restaurant revenue in any period is directly influenced by the number of operating weeks in such period, the number of open restaurants, and comparable restaurant sales.
Seasonal factors and the timing of holidays cause our revenue to fluctuate from quarter to quarter. Our revenue per restaurant is typically lower in the first and fourth quarters due to reduced January and December transactions and higher in the second and third quarters. As a result of seasonality, our quarterly and annual results of operations and key performance indicators such as company-operated restaurant revenue and comparable restaurant sales may fluctuate.
System-Wide Sales
System-wide sales are neither required by, nor presented in accordance with, accounting principles generally accepted in the United States of America (“GAAP”). System-wide sales are the sum of company-operated restaurant revenue and sales from franchised restaurants. Our total revenue in our consolidated statements of income is limited to company-operated restaurant revenue and franchise revenue from our franchisees. Accordingly, system-wide sales should not be considered in isolation or as a substitute for our results as reported under GAAP. Management believes that the presentation of system-wide sales provides useful information to investors because it is a measure that is widely used in the restaurant industry, including by our management, to evaluate brand scale and market penetration.
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The following table reconciles system-wide sales to company-operated restaurant revenue and total revenue:
Fiscal Year
2023
2022
2021
(Dollar amounts in thousands)
(52-Weeks)
(52-Weeks)
(52-Weeks)
Company-operated restaurant revenue
$
398,437
$
403,218
$
394,733
Franchise revenue
41,002
38,225
33,729
Franchise advertising fee revenue
29,225
28,516
25,901
Total Revenue
468,664
469,959
454,363
Franchise revenue
(41,002)
(38,225)
(33,729)
Franchise advertising fee revenue
(29,225)
(28,516)
(25,901)
Sales from franchised restaurants
651,777
635,819
578,497
System-wide sales
$
1,050,214
$
1,039,037
$
973,230
Comparable Restaurant Sales
Comparable restaurant sales reflect year-over-year sales changes for comparable company-operated, franchised, and system-wide restaurants. A restaurant enters our comparable restaurant base the first full week after it has operated for fifteen months. Comparable restaurant sales exclude restaurants closed during the applicable period. At December 27, 2023, December 28, 2022 and December 29, 2021, there were 470, 464 and 464 comparable restaurants, 178, 184 and 187 company-operated and 292, 280 and 276 franchised, respectively. Comparable restaurant sales indicate the performance of existing restaurants, since new restaurants are excluded. Comparable restaurant sales growth can be generated by an increase in the number of meals sold and/or by increases in the average check size, resulting from a shift in menu mix and/or higher prices resulting from new products or price increases. Because other companies may calculate this measure differently than we do, comparable restaurant sales as presented herein may not be comparable to similarly titled measures reported by other companies. Management believes that comparable restaurant sales is a valuable metric for investors to evaluate the performance of our store base, excluding the impact of new stores and closed stores.
Company-Operated Average Unit Volumes
We measure company-operated AUVs on both a weekly and an annual basis. Weekly AUVs consist of comparable restaurant sales over a seven-day period from Thursday to Wednesday. Annual AUVs are calculated using a step process. First, we divide our total net sales for all company-operated restaurants for the fiscal year by the total number of restaurant operating weeks during the same period. Second, we annualize that average weekly per-restaurant sales figure by multiplying it by 52. An operating week is defined as a restaurant open for business over a seven-day period from Thursday to Wednesday. This measurement allows management to assess changes in consumer spending patterns at our restaurants and the overall performance of our restaurant base.
Restaurant Contribution and Restaurant Contribution Margin
Restaurant contribution and restaurant contribution margin are neither required by, nor presented in accordance with, GAAP. Restaurant contribution is defined as company-operated restaurant revenue less company restaurant expenses which includes food and paper cost, labor and related expenses and occupancy and other operating expenses, where applicable. Restaurant contribution therefore excludes franchise revenue, franchise advertising fee revenue and franchise expenses as well as certain other costs, such as general and administrative expenses, franchise expenses, depreciation and amortization, impairment and closed-store reserve, loss on disposal of assets and other costs that are considered corporate-level expenses and are not considered normal operating costs of our restaurants. Accordingly, restaurant contribution is not indicative of overall Company results and does not accrue directly to the benefit of shareholders because of the exclusion of certain corporate-level expenses. Restaurant contribution margin is defined as restaurant contribution as a percentage of net company-operated restaurant revenue.
Restaurant contribution and restaurant contribution margin are supplemental measures of operating performance of our restaurants, and our calculations thereof may not be comparable to those reported by other companies. Restaurant contribution and restaurant contribution margin have limitations as analytical tools, and you should not consider them in isolation or as substitutes for analysis of our results as reported under GAAP. Management uses restaurant contribution and restaurant contribution margin as key metrics to evaluate the profitability of incremental sales at our restaurants, to evaluate our restaurant performance across periods, and to evaluate our restaurant financial performance compared with
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our competitors. Management believes that restaurant contribution and restaurant contribution margin are important tools for investors, because they are widely-used metrics within the restaurant industry to evaluate restaurant-level productivity, efficiency, and performance. Management further believes restaurant level operating margin is useful to investors to highlight trends in our core business that may not otherwise be apparent to investors when relying solely on GAAP financial measures.
A reconciliation of restaurant contribution and restaurant contribution margin to company-operated restaurant revenue is provided below:
Fiscal Year
(Dollar amounts in thousands)
2023
(52-Weeks)
2022
(52-Weeks)
2021
(52-Weeks)
Restaurant contribution:
Income from operations
$
39,792
$
30,120
$
41,335
Add (less):
General and administrative expenses
42,025
39,093
39,852
Franchise expenses
38,404
36,169
32,831
Depreciation and amortization
15,235
14,418
15,176
Loss on disposal of assets
192
165
289
Gain on recovery of insurance proceeds, property, equipment and expenses
(247)
—
—
Franchise revenue
(41,002)
(38,225)
(33,729)
Franchise advertising fee revenue
(29,225)
(28,516)
(25,901)
Impairment and closed-store reserves
1,732
752
1,087
(Gain) loss on disposition of restaurants
(5,034)
(848)
1,534
Restaurant contribution
$
61,872
$
53,128
$
72,474
Company-operated restaurant revenue:
Total revenue
$
468,664
$
469,959
$
454,363
Less:
Franchise revenue
(41,002)
(38,225)
(33,729)
Franchise advertising fee revenue
(29,225)
(28,516)
(25,901)
Company-operated restaurant revenue
$
398,437
$
403,218
$
394,733
Restaurant contribution margin (%)
15.5
%
13.2
%
18.4
%
New Restaurant Openings
The number of restaurant openings reflects the number of new restaurants opened by us and our franchisees during a particular reporting period. Before a new restaurant opens, we and our franchisees incur pre-opening costs, as described below. New restaurants often open with an initial start-up period of higher than normal sales volumes, which subsequently decrease to stabilized levels. New restaurants typically experience normal inefficiencies in the form of higher food and paper, labor, and other direct operating expenses and, as a result, restaurant contribution margins are generally lower during the start-up period of operation. The average start-up period after which our new restaurants’ revenue and expenses normalize is approximately fourteen weeks. When we enter new markets, we may be exposed to start-up times and restaurant contribution margins that are longer and lower than reflected in our average historical experience.
EBITDA and Adjusted EBITDA
EBITDA represents net income (loss) before interest expense, provision (benefit) for income taxes, depreciation, and amortization. Adjusted EBITDA represents net income (loss) before interest expense, provision (benefit) for income taxes, depreciation, amortization, and items that we do not consider representative of our on-going operating performance, as identified in the reconciliation table below.
EBITDA and Adjusted EBITDA as presented in this Annual Report are supplemental measures of our performance that are neither required by, nor presented in accordance with, GAAP. EBITDA and Adjusted EBITDA are not measurements of our financial performance under GAAP and should not be considered as alternatives to net income, operating income, or any other performance measures derived in accordance with GAAP, or as alternatives to cash flow
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from operating activities as a measure of our liquidity. In addition, in evaluating EBITDA and Adjusted EBITDA, you should be aware that in the future we will incur expenses or charges such as those added back to calculate EBITDA and Adjusted EBITDA. Our presentation of EBITDA and Adjusted EBITDA should not be construed as an inference that our future results will be unaffected by unusual or nonrecurring items.
EBITDA and Adjusted EBITDA have limitations as analytical tools, and you should not consider them in isolation, or as substitutes for analysis of our results as reported under GAAP. Some of these limitations are (i) they do not reflect our cash expenditures, or future requirements for capital expenditures or contractual commitments, (ii) they do not reflect changes in, or cash requirements for, our working capital needs, (iii) they do not reflect interest expense, or the cash requirements necessary to service interest or principal payments, on our debt, (iv) although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and EBITDA and Adjusted EBITDA do not reflect any cash requirements for such replacements, (v) they do not adjust for all non-cash income or expense items that are reflected in our statements of cash flows, (vi) they do not reflect the impact of earnings or charges resulting from matters we consider not to be indicative of our on-going operations, and (vii) other companies in our industry may calculate these measures differently than we do, limiting their usefulness as comparative measures.
We compensate for these limitations by providing specific information regarding the GAAP amounts excluded from such non-GAAP financial measures. We further compensate for the limitations in our use of non-GAAP financial measures by presenting comparable GAAP measures more prominently.
Management believes that EBITDA and Adjusted EBITDA facilitate operating performance comparisons from period to period by isolating the effects of some items that vary from period to period without any correlation to core operating performance or that vary widely among similar companies. These potential differences may be caused by variations in capital structures (affecting interest expense), tax positions (such as the impact on periods or companies of changes in effective tax rates or net operating losses) and the age and book depreciation of facilities and equipment (affecting relative depreciation expense). We also present EBITDA and Adjusted EBITDA because (i) management believes that these measures are frequently used by securities analysts, investors and other interested parties to evaluate companies in our industry, (ii) management believes that investors will find these measures useful in assessing our ability to service or incur indebtedness, and (iii) we use EBITDA and Adjusted EBITDA internally as benchmarks to compare our performance to that of our competitors.
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The following table sets forth reconciliations of our net income to EBITDA and Adjusted EBITDA:
Fiscal Year
(Amounts in thousands)
2023
(52-Weeks)
2022
(52-Weeks)
2021
(52-Weeks)
Net income
$
25,554
$
20,801
$
29,121
Non-GAAP adjustments:
Provision for income taxes
9,324
8,078
10,332
Interest expense, net of interest income
4,811
1,677
1,824
Depreciation and amortization
15,235
14,418
15,176
EBITDA
$
54,924
$
44,974
$
56,453
Stock-based compensation expense (a)
3,337
3,491
3,220
Loss on disposal of assets (b)
192
165
289
Impairment and closed-store reserves (c)
1,732
752
1,087
(Gain) loss on disposition of restaurants (d)
(5,034)
(848)
1,534
Income tax receivable agreement expense (income) (e)
103
(436)
58
Securities class action legal expense (f)
—
443
495
Special dividend (g)
129
350
—
Legal settlements (h)
—
(541)
—
Special legal expenses (i)
137
—
—
Shareholder advisory fees (j)
293
—
—
Gain on recovery of insurance proceeds (k)
(399)
—
—
Executive transition costs (l)
618
—
—
Severance (m)
1,055
—
—
Pre-opening costs (n)
269
326
259
Adjusted EBITDA
$
57,356
$
48,676
$
63,395
(a) Includes non-cash, stock-based compensation.
(b) Loss on disposal of assets includes the loss on disposal of assets related to retirements and replacement or write-off of leasehold improvements or equipment.
(c) Includes costs related to impairment of property and equipment and ROU assets and closing restaurants. During fiscal 2023, we recorded non-cash impairment charges of $1.5 million, primarily related to the property and equipment assets of one restaurant in Nevada and the carrying value o f the ROU assets of one restaurant in California. D uring fiscal 2023, we recognized $0.2 million of closed-store reserve expense, primarily related to the amortization of ROU assets, property taxes and CAM payments for our closed locations.
In fiscal 2022, we recorded non-cash impairment charges of $0.5 million for the year ended December 28, 2022, primarily related to the carrying value of the ROU assets of one restaurant in California that closed in 2021 and the property and equipment assets of two restaurants in California. During fiscal 2022, we recognized $0.3 million of closed-store reserve expense, primarily related to the amortization of ROU assets, property taxes and CAM payments for our closed locations.
In fiscal 2021, we recorded non-cash impairment charges of $0.7 million for the year ended December 29, 2021, primarily related to the carrying value of one restaurant in Texas that closed in 2019, the ROU assets of one restaurant in California closed in 2021, and the property and equipment assets of three restaurants in California. During fiscal 2021, we recognized $0.4 million of closed-store reserve expense, primarily related to the amortization of ROU assets, property taxes and CAM payments for our closed locations.
(d) During fiscal 2023, we completed the sale of 18 company-operated restaurants within California, Utah and Texas to existing franchisees. These sales during 2023 resulted in cash proceeds of $7.7 million and a net gain on sale of restaurants of $5.0 million for the year ended December 27, 2023. During fiscal 2022, we completed the sale of three company-operated restaurants within the Orange County area to an existing franchisee. This sale during 2022 resulted in cash proceeds of $1.0 million and a net gain on sale of restaurants of $0.8 million for the year ended December 28, 2022. During fis cal 2021, we completed the sale of our eight restaurants within Sacramento area to an
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existing franchisee. This sale resulted in cash proceeds of $4.6 million during the year ended December 29, 2021 and a net loss on sale of restaurants of $1.5 million for the year ended December 29, 2021.
(e) On July 30, 2014, we entered into the TRA. This agreement calls for us to pay to our pre-IPO stockholders 85% of the savings in cash that we realize in our taxes as a result of utilizing our net operating losses and other tax attributes attributable to preceding periods. For the years ended December 27, 2023, December 28, 2022 and December 29, 2021, income tax receivable agreement (income) expense consisted of the amortization of interest expense and changes in estimates for actual tax returns filed, related to our total expected TRA payments.
(f) Consists of costs related to the defense of securities lawsuits. During the year ended December 29, 2021, we received $0.5 million in insurance proceeds, net of legal expenses, related to the derivative complaint. See Note 13 “ Commitments and Contingencies—Legal Matters” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report.
(g) During fiscal 2023 and fiscal 2022, we encountered costs related to a special dividend declaration. On October 11, 2022, the Board of Directors declared a special dividend of $1.50 per share on our common stock. T he special dividend was paid on November 9, 2022, to stockholders of record, including holders of restricted stock, at the close of business on October 24, 2022.
(h) Includes $0.5 million received from legal settlements, net of legal expenses.
(i) Consists of legal costs related to the share distribution that occurred on March 28, 2023. Refer to Note 14, “Related Party Transactions” for further details on the share distribution.
(j) Consists of advisory fees pertaining to a Shareholder Rights Agreement adopted in connection with a shareholder’s accumulation of a significant amount of shares of our common stock. Refer to Note 16, “Shareholder Rights Agreement” for further details on the Shareholder Rights Agreement.
(k) During fiscal 2023 and fiscal 2022, two of our restaurants incurred damage resulting from a fire. In fiscal 2023, we incurred costs directly related to the fire of less than $0.1 million. We recognized gains of $0.2 million, related to the reimbursement of property and equipment and expenses incurred and $0.3 million related to the reimbursement of lost profits. The gain on recovery of insurance proceeds and reimbursement of lost profits, net of the related costs is included in the accompanying consolidated statements of income, for fiscal 2023, as a reduction of company restaurant expenses. We received from the insurance company cash of $0.5 million, net of the insurance deductible, during fiscal 2023.
(l) Includes costs associated with the transition of our CEO, such as severance, executive recruiting costs and stock-based compensation costs associated with the transition of our former CEO.
(m) On April 13, 2023 the Company made the decision to eliminate and restructure certain positions in the organization, which resulted in one-time costs of approximately $1.1 million.
(n) Pre-opening costs are a component of general and administrative expenses, and consist of costs directly associated with the opening of new restaurants and incurred prior to opening, including management labor costs, staff labor costs during training, food and supplies used during training, marketing costs, and other related pre-opening costs. These are generally incurred over the three to five months prior to opening. Pre-opening costs also include occupancy costs incurred between the date of possession and the opening date for a restaurant.
Liquidity and Capital Resources
Our primary sources of liquidity and capital resources have been cash provided from operations, cash and cash equivalents, and the 2022 Revolver (as defined below). Our primary requirements for liquidity and capital are new restaurants, existing restaurant capital investments (remodels and maintenance), legal defense costs, lease obligations, interest payments on our debt, working capital and general corporate needs . Our working capital requirements are not significant, since our customers pay for their purchases in cash or by payment card (credit or debit) at the time of sale. Thus, we are able to sell many of our inventory items before we have to pay our suppliers. Our restaurants do not require significant inventories or receivables. We believe that these sources of liquidity and capital are sufficient to finance our
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continued operations, including planned capital expenditures, for at least the next 12 months and beyond from the issuance of the consolidated financial statements.
However, depending on macroeconomic conditions, our financial performance and liquidity could be further impacted and could impact our ability to meet certain financial covenants required in our 2022 Credit Agreement (as defined in Note 6 “Long-Term Debt”) , specifically the lease-adjusted coverage ratio and fixed-charge coverage ratio.
Cash Flows
The following table presents summary cash flow information for the years indicated:
Fiscal Year
(Amounts in thousands)
2023
(52-Weeks)
2022
(52-Weeks)
2021
(52-Weeks)
Net cash (used in) provided by
Operating activities
$
40,688
$
38,549
$
52,099
Investing activities
(13,447)
(18,915)
(12,485)
Financing activities
(40,446)
(29,187)
(22,787)
Net (decrease) increase in cash
$
(13,205)
$
(9,553)
$
16,827
Operating Activities
In fiscal 2023, net cash provided by operating activities increased by $2.1 million compared to fiscal 2022. This increase was due primarily to an increase in profitability and favorable working capital fluctuations during fiscal 2023.
In fiscal 2022, net cash provided by operating activities decreased by $13.6 million compared to fiscal 2021. This decrease was due primarily to lower profitability and unfavorable working capital fluctuations during fiscal 2022.
Investing Activities
In fiscal 2023, net cash used in investing activities decreased by $5.5 million compared to fiscal 2022. This decrease was due primarily to cash proceeds of $7.7 million received during fiscal 2023 related to the sale of nine company-operated restaurants within Texas to an existing franchisee, eight company-operated restaurants within California to existing franchisees and one company-operated restaurant in Utah to another existing franchisee.
In fiscal 2022, net cash used in investing activities increased by $6.4 million compared to fiscal 2021. This increase was due primarily to opening four new company-operated restaurants during fiscal 2022 compared to opening two new company-operated restaurants during fiscal 2021. This was partially offset by cash proceeds of $1.0 million received during fiscal 2022 related to the sale of three restaurants within the Orange County area to an existing franchisee compared to cash proceeds of $4.6 million received during fiscal 2021 related to the sale of eight restaurants within the Sacramento area to an existing franchisee.
Financing Activities
In fiscal 2023, net cash used in financing activities increased by $11.3 million compared to fiscal 2022. The increase was due primarily to repurchases of common stock of $59.2 million during fiscal 2023. This increase was partially offset by $18.0 million in net borrowings on the 2022 Revolver during fiscal 2023 compared to the net pay downs of $26.0 million on the 2022 Revolver during fiscal 2022.
In fiscal 2022, net cash used in financing activities increased by $6.4 million compared to fiscal 2021. This change was due primarily to a special dividend payout of $56.0 million during fiscal 2022 partially offset by net borrowings on the 2022 Revolver of $26.0 million, compared to net pay downs of $22.8 million in fiscal 2021. Additionally, this change was due to a $1.7 million cash inflow related to option exercises during the year ended December 28, 2022, compared to a $0.9 million cash inflow during the year ended December 29, 2021.
Debt and Other Obligations
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The Company, as a guarantor, is a party to a credit agreement (the “2022 Credit Agreement”) among EPL, as borrower, Intermediate, as a guarantor, Bank of America, N.A., as administrative agent, swingline lender, and letter of credit issuer, the lenders party thereto, and the other parties thereto, which provides for a $150.0 million five-year senior secured revolving credit facility (the “2022 Revolver”). The 2022 Revolver, which is available pursuant to the 2022 Credit Agreement, includes a sub limit of $15.0 million for letters of credit and a sub limit of $15.0 million for swingline loans. The 2022 Revolver and 2022 Credit Agreement will mature on July 27, 2027. The obligations under the 2022 Credit Agreement and related loan documents are guaranteed by Holdings and Intermediate. The obligations of Holdings, EPL and Intermediate under the 2022 Credit Agreement and related loan documents are secured by a first priority lien on substantially all of their respective assets.
The special dividend announced by the Company’s Board of Directors on October 11, 2022 was permitted under the terms of 2022 Revolver pursuant to both subclause (iii)(d) and (iii)(e) of the following sentence. Under the 2022 Revolver, Holdings is restricted from making certain payments such as cash dividends, except that it may, inter alia, (i) pay up to $1.0 million per year to repurchase or redeem qualified equity interests of Holdings held by our past or present officers, directors, or employees (or their estates) upon death, disability, or termination of employment, (ii) pay under its TRA, and (iii) so long as no default or event of default has occurred and is continuing, (a) make non-cash repurchases of equity interests in connection with the exercise of stock options by directors, officers and management, provided that those equity interests represent a portion of the consideration of the exercise price of those stock options, (b) pay up to $0.5 million in any 12 month consecutive period to redeem, repurchase or otherwise acquire equity interests of any subsidiary that is not a wholly-owned subsidiary from any holder of equity interest in such subsidiary, (c) pay up to $2.5 million per year pursuant to stock option plans, employment agreements, or incentive plans, (d) make up to $5.0 million in other restricted payments per year, and (e) make other restricted payments, subject to its compliance, on a pro forma basis, with (x) a lease-adjusted consolidated leverage ratio not to exceed 4.25 times and (y) the financial covenants applicable to the 2022 Revolver.
Borrowings under the 2022 Credit Agreement (other than any swingline loans) bear interest, at the borrower’s option, at rates based upon either the secured overnight financing rate (“SOFR”) or a base rate, plus, for each rate, a margin determined in accordance with a lease-adjusted consolidated leverage ratio-based pricing grid. The base rate is calculated as the highest of (a) the federal funds rate plus 0.50%, (b) the published Bank of America prime rate, or (c) Term SOFR with a term of one-month SOFR plus 1.00%. For Term SOFR loans, the margin is in the range of 1.25% to 2.25%, and for base rate loans the margin is in a range of 0.25% to 1.25%. Borrowings under the 2022 Revolver may be repaid and reborrowed. For borrowings under the 2022 Revolver during fiscal 2023, the interest rate range was 5.7% to 7.0%. For borrowings under the 2022 Revolver and 2018 Revolver during fiscal 2022, the interest rate range was 1.4% to 6.0%. The interest rate under the 2022 Revolver was 7.0% at December 27, 2023 and 5.7% under the 2022 Revolver at December 28, 2022.
The 2022 Credit Agreement contains certain financial covenants. We were in compliance with the financial covenants as of December 27, 2023.
At December 27, 2023, $9.8 million of letters of credit and $84.0 million of the revolving line of credit were outstanding. The amount available under the revolving line of credit was $56.2 million at December 27, 2023.
During the year ended December 28, 2022, we refinanced and terminated our credit agreement (the “2018 Credit Agreement”) among EPL, as borrower, the Company and Intermediate, as guarantors, Bank of America, N.A., as administrative agent, swingline lender, and letter of credit issuer, the lenders party thereto, and the other parties thereto, which provided for a $150.0 million five-year senior secured revolving credit facility (the “2018 Revolver”) and entered into the 2022 Credit Agreement. See Note 6, “Long-Term Debt” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for additional information.
Material Cash Requirements
Our total capital expenditures for 2023 were $21.3 million. In 2023, we spent approximately $5.1 million on the development and construction of our new restaurants. The remaining $16.2 million of capital expenditures during 2023 were related to investments in existing restaurants, including new equipment and hardware, technology to optimize efficiencies, remodeling and similar improvements. In 2024, we expect to incur between $25.0 million and $28.0 million in total capital expenditures, of which we expect $4.0 million to $6.0 million will be related to our construction of new restaurants, and $19.0 million to $21.0 million will be related to investments in existing restaurants, including new
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equipment and hardware, technology to optimize efficiencies, remodeling and similar improvements. Finally, we expect a portion of our incurred capital expenditures in 2024 to be for additional corporate initiatives, including investments in technology for support centers to boost innovation, enhancing the customer experience, and improving operations. We expect to fund these capital expenditures primarily with operating cash flows.
The following table summarizes our other current and long-term material cash requirements as of December 27, 2023, which we expect to fund primarily with operating cash flows:
Payments Due by Period
2025 -
2027 -
2029 and
(Amounts in thousands)
Total
2024
2026
2028
thereafter
Operating leases (1)
$
243,888
$
28,328
$
52,169
$
44,965
$
118,426
Finance leases (1)
2,155
191
341
247
1,376
Long-term debt (2)
101,245
5,682
11,275
84,288
—
Income tax receivable agreement (3)
422
422
—
—
—
Purchasing commitments—chicken (4)
31,298
31,298
—
—
—
Total
$
379,008
$
65,921
$
63,785
$
129,500
$
119,802
(1) Operating and Finance Leases — Represents future minimum lease payments for our restaurants and the principal payments during the lease terms, respectively. Refer to Note 5 “Leases” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for further details regarding our obligations and the timing of expected payments.
(2) Long-Term Debt — Represents our contractual debt obligations. Includes expected interest expenses, calculated based on applicable interest rates at December 27, 2023. Refer to Note 6 “Long-Term Debt” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for further details regarding our obligations and the timing of expected payments.
(3) Income Tax Receivable Agreement — Represents payments to our pre-IPO stockholders under the TRA. Refer to Note 9 “Income Taxes” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for further details regarding our obligations and the timing of expected payments.
(4) Purchasing Commitments (Chicken) — Reflects contractual purchase commitments for goods related to restaurant operations. Refer to Note 13 “Commitments and Contingencies” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report for further details regarding our obligations.
Share Repurchase Programs
On October 11, 2022, our Board of Directors approved the 2022 Stock Repurchase Plan under which we were authorized to repurchase up to $20.0 million of shares of our common stock through March 28, 2024.
Under the 2022 Stock Repurchase Plan, we were permitted to repurchase our common stock from time to time, in amounts and at prices that we deemed appropriate, subject to market conditions and other considerations. Pursuant to the 2022 Stock Repurchase Plan, we were authorized to repurchase shares of our common stock using open market purchases, including pursuant to Rule 10b5-1 trading plans, and/or through privately negotiated transactions. As of September 27, 2023, the program was completed.
Further, on October 31, 2023, our Board of Directors approved another share repurchase program under which we are authorized to repurchase up to $20.0 million of shares of our common stock. The repurchase program will terminate on March 31, 2025, may be modified, suspended or discontinued at any time, and does not obligate us to acquire any particular number of shares.
Repurchase Agreements
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On August 7, 2023, we entered into a Stock Repurchase Agreement with FS Equity Partners V, L.P. and FS Affiliates V, L.P. (together, the “Sellers”), pursuant to which we agreed to purchase an aggregate of 2,500,000 shares of our common stock from the Sellers at a price of $10.63 per share for a total purchase price of $26.6 million. The repurchase was completed in August 2023.
Prior to the repurchase, Freeman Spogli & Co. (“Freeman Spogli”), collectively with the Sellers and certain other funds managed by Freeman Spogli, was our largest stockholder. In addition, John Roth, a director of the Company until his resignation on August 16, 2023, is a general partner of Freeman Spogli and its chief executive officer.
Further, on November 29, 2023, we entered into a second Stock Repurchase Agreement with the Sellers (the “Repurchase Agreement”), pursuant to which we agreed to purchase an aggregate of 1,500,000 shares of our common stock from the Sellers at a price of $8.40 per share, representing the closing price of such shares as listed on Nasdaq on November 29, 2023, for a total purchase price of $12,600,000. The repurchase was completed on December 4, 2023. Following completion of this repurchase, approximately $7.4 million of our common stock remained available for repurchase under the share repurchase program at December 27, 2023.
Critical Accounting Policies and Estimates
The preparation of our consolidated financial statements in accordance with GAAP requires us to make estimates and judgments that affect our reported amounts of assets, liabilities, revenue, and expenses, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under current circumstances in making judgments about the carrying value of assets and liabilities that are not readily available from other sources. We evaluate our estimates on an on-going basis. Actual results may differ from these estimates under different assumptions or conditions.
Accounting policies are an integral part of our financial statements. A thorough understanding of these accounting policies is essential when reviewing our reported results of operations and our financial position. Management believes that the critical accounting policies and estimates discussed below involve the most difficult management judgments, due to the sensitivity of the methods and assumptions used. Our significant accounting policies are described in Note 2 “Summary of Significant Accounting Policies” in the accompanying “Notes to Consolidated Financial Statements” in this Annual Report.
Revenue Recognition
We record revenue from company-operated restaurants as food and beverage products are delivered to customers and payment is tendered at the time of sale. We present sales net of sales-related taxes and promotional allowances. In the case of gift card sales, we record revenue when the gift card is redeemed by the customer. We record royalties from franchised restaurant sales based on a percentage of restaurant revenues in the period that the related franchised restaurants’ revenues are earned. The initial franchise services, or exclusivity of the development agreements, are not distinct from the continuing rights or services offered during the term of the franchise agreement and are, therefore, treated as a single performance obligation. As such, initial franchise and development fees received, and subsequent renewal fees, are recognized over the franchise, or renewal, term, which is typically 20 years.
Goodwill and Indefinite-Lived Intangible Assets, Net
Intangible assets consist primarily of goodwill and trademarks.
We do not amortize our goodwill and indefinite-lived intangible assets. We perform an annual impairment test for goodwill during the fourth fiscal quarter of each year, or more frequently if impairment indicators arise.
We perform an annual impairment test for indefinite-lived intangible assets during the fourth fiscal quarter of each year, or more frequently if impairment indicators arise. An impairment test consists of either a qualitative assessment or a comparison of the fair value of an intangible asset with its carrying amount. The excess of the carrying amount of an intangible asset over its fair value is its impairment loss.
These assumptions used in our estimates of fair value are generally consistent with past performance and are also consistent with the projections and assumptions that we use in our forward-looking operating plans. These assumptions
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are subject to change as a result of changing economic and competitive conditions. Changes in these estimates and assumptions could materially affect our determinations of fair value and impairment.
Upon the sale or refranchising of a restaurant, we evaluate whether there is a decrement of goodwill. The amount of goodwill included in the cost basis of the asset sold is determined based on the relative fair value of the portion of the reporting unit disposed of compared to the fair value of the reporting unit retained. The fair value of the portion of the reporting unit disposed of in a refranchising is determined by reference to the discounted value of the future cash flows expected to be generated by the restaurant and retained by the franchisee, which includes a deduction for the anticipated, future royalties the franchisee will pay us associated with the franchise agreement entered into simultaneously with the refranchising transition. The fair value of the reporting unit retained is based on the price a willing buyer would pay for the reporting unit and includes the value of franchise agreements. As such, the fair value of the reporting unit retained can include expected cash flows from future royalties from those restaurants currently being refranchised, future royalties from existing franchise businesses and company restaurant operations. We determined that, in connection with the sale of 18 units, there were indicators of potential impairment of our goodwill and indefinite-lived intangible assets during fiscal 2023. After completing the impairment analysis, we did not record any decrement to goodwill related to the disposition of restaurants in fiscal 2023, 2022 and 2021.
Property and Equipment and ROU Assets
We state the value of our property and equipment, including primarily leasehold improvements and restaurant equipment, furniture, and fixtures, at cost, minus accumulated depreciation and amortization.
We review our property and equipment and ROU assets for impairment on a restaurant-by-restaurant basis whenever events or changes in circumstances indicate that the carrying value of certain assets may not be recoverable. We consider a triggering event to have occurred related to a specific restaurant if the restaurant’s AUV for the last twelve months are less than a minimum threshold or if consistent levels of undiscounted cash flows for the remaining lease period are less than the carrying value of the restaurant’s assets. If we conclude that the carrying value of certain assets will not be recovered based on expected undiscounted future cash flows, an impairment write-down is recorded to reduce the assets to their estimated fair value. The fair value is measured on a nonrecurring basis using unobservable (Level 3) inputs. There is uncertainty in the projected undiscounted future cash flows used in our impairment review analysis. Further, the projected undiscounted future cash flows require management to develop estimates and assumptions about future revenue transaction growth rates, menu pricing changes, and restaurant operating margins, which are made more uncertain by the impact of the current inflationary pressures on our business. If actual performance does not achieve the projections, we may recognize impairment charges in future periods, and such charges could be material.
Insurance Reserves
We are responsible for workers’ compensation, general, and health insurance claims up to a specified amount. We maintain a reserve for estimated claims both reported and incurred but not reported, based on historical claims experience and other assumptions. In estimating our insurance accruals, we utilize independent actuarial estimates of expected losses, which are based on statistical analyses of historical data. Our actuarial assumptions are closely monitored and adjusted when warranted by changing circumstances. Should claims occur or medical costs increase in greater amounts than we have expected, accruals may not be sufficient, and we may record additional expenses.
Accounting for Lease Obligations
We lease a substantial number of our restaurant properties. At the inception of each lease, we evaluate the property and the lease to determine whether the lease is an operating lease or a finance lease. This lease accounting evaluation may require significant judgment in determining the fair value and useful life of the leased property and the appropriate lease term. The lease term used for the evaluation includes renewal option periods only in instances in which the exercise of the renewal option can be reasonably assured because failure to exercise such an option would result in an economic penalty. Such an economic penalty would typically result from our having to abandon a building or fixture with remaining economic value upon vacating a property.
We make significant assumptions and judgments related to determination of whether a contract contains a lease and the discount rate used for the lease. In determining if any of our contracts contain a lease, we make assumptions and judgments related to our ability to direct the use of any assets stated in the contract and the likelihood of renewing any
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short-term contracts for a period extending past twelve months. We also make significant assumptions and judgments in determining an appropriate discount rate for property leases. These include using a consistent discount rate for a portfolio of leases entered into at varying dates, using the full 20-year term of the lease, excluding any options, and using the total minimum lease payments. We utilize a third-party valuation firm to assist in determining the discount rate, based on the above assumptions. For all other leases, we use the discount rate implicit in the lease, or the Company’s incremental borrowing rate.
Income Taxes
We use the asset and liability method of accounting for income taxes. Deferred tax assets and liabilities are determined based on temporary differences between the financial carrying amounts and the tax basis of assets and liabilities using enacted tax rates in effect in the years in which the temporary differences are expected to reverse. As of December 27, 2023, we had no federal and less than $0.1 million state net operating loss ( “ NOL ” ) carryforwards. These State NOLs expire beginning 2029.
A valuation allowance is required when there is significant uncertainty as to whether certain deferred tax assets can be realized. The ability to realize deferred tax assets is dependent upon our ability to generate sufficient taxable income within the carryforward periods provided for in the tax law for each tax jurisdiction. We have considered the following possible sources of taxable income when assessing the realization of our deferred tax assets:
● future reversals of existing taxable temporary differences;
● future taxable income or loss, exclusive of reversing temporary differences and carryforwards;
● tax-planning strategies; and
● taxable income in prior carryback years.
We will continue to reevaluate the continued need for a valuation allowance. Relevant factors include:
● current financial performance;
● our ability to meet short-term and long-term financial and taxable income projections;
● the overall market environment; and
● the volatility and trends in the industry in which we operate.
All of the factors that we consider in evaluating treatment of a deferred tax asset valuation allowance involve significant judgment. For example, there are many different interpretations of “cumulative losses in recent years” that can be used. Also, significant judgment is involved in making projections of future financial and taxable income, especially because our financial results are significantly dependent upon industry trends. Any change in our valuation allowance will significantly impact our financial results in the period of that change.
When there are uncertainties related to potential income tax benefits, in order to qualify for recognition, the position we take has to have at least a “more likely than not” chance of being sustained (based on the position’s technical merits) upon challenge by the responsible authorities. The term “more likely than not” means a likelihood of more than 50%. Otherwise, we may not recognize any of the potential tax benefits associated with that position. We recognize a benefit for a tax position that meets the “more likely than not” criterion as the largest amount of tax benefit that is greater than 50% likely to be realized upon its effective resolution. Unrecognized tax benefits involve our judgment regarding the likelihood of a benefit being sustained. The final resolutions of uncertain tax positions could result in adjustments to recorded amounts and affect our results of operations, financial position, and cash flows. However, we anticipate that any such adjustments would not materially impact our financial statements.
In addition, in fiscal 2014, we applied for various tax credits that resulted in $6.7 million of additional deferred tax assets and tax benefits. As of December 27, 2023, we released the corresponding valuation allowance since the ten-year carryover period for the California Enterprise Zone credit has expired at the end of fiscal 2023. In fiscal 2023, the Company did not record any additional valuation allowance.
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