Mister Car Wash, Inc. (NYSE:MCW) Q3 2023 Earnings Call Transcript

Mister Car Wash, Inc. (NYSE:MCW) Q3 2023 Earnings Call Transcript November 4, 2023

Operator: Good afternoon, and welcome to Mister Car Wash’s Conference Call to Discuss Financial Results for the Third Quarter Ending September 30, 2023. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. Please note, this call is being recorded, and the reproduction of this call in whole or in part is not permitted without written authorization from the company. Speaking from management on today’s call are John Lai, Chairperson and Chief Executive Officer; and Jed Gold, Chief Financial Officer. After John and Jed have made their formal remarks, we will open the call to questions. During this conference call references to non-GAAP financial measures will be made.

A complete reconciliation of these measures to the most comparable GAAP measures have been included in the company’s earnings Press Release issued earlier today and posted to the Investor Relations section of the company’s website at www.mistercarwash.com. As a reminder, comments made on today’s call may include forward-looking statements, which are subject to significant risks and uncertainties that could cause the company’s actual results to differ materially from the company’s current expectations. Please be advised that the statements made today are currently as of this call and based on the company’s present understanding of the market and industry conditions. While the company may choose to update these statements in the future, they are under no obligation to do so unless required by applicable law or regulations.

Please review the forward-looking statements disclaimer contained in the company’s latest annual 10-K and 10-Q reports as such factors may be updated from time to time and other filings with the Securities and Exchange Commission. I will now turn the call over to Mr. John Lai. Please go ahead, sir.

John Lai: Good afternoon, everyone. And thank you for joining our Q3 earnings call. We had a solid third quarter and feel good about the upward momentum in our business. Comp store sales were positive and continue to grow quarter-over-quarter. New build openings are on schedule and performing nicely. Our Titanium launch is moving full steam ahead, and we’re encouraged by the early results. Our Unlimited Wash Club members, who represent over 70% of our revenues, continue to remain our most loyal and steadfast customers, and we continue to manage our expenses while simultaneously investing for the future. For the quarter, sales grew 8% to $234 million. Adjusted EBITDA increased 8% to $72 million. Comp store sales increased 1.7%.

We opened eight new Greenfield stores and are on track to hit our full year target of approximately 35, and we ended the quarter with 462 locations. As we continue to build the company that has enduring value, at the end of the day it’s all about the people that you surround yourself with. From our field operations to our Tucson headquarter staff, it truly takes an army and the strength of Mister Car Wash is due to the strength of our team. Our Titanium launch is a perfect example of how awesome our teams are. I want to recognize two groups in particular, our Facility Maintenance group and our Tucson Distribution Center, who worked around the clock, building, reconfiguring and installing our new Rinse Improvement, Lower Reconfiguration and Titanium Solution.

When it comes to differentiation, Titanium is just the latest in a long list of proprietary innovations that we have developed in-house. Over the last several decades, our research and development teams, staffed with very talented engineers and chemists, have developed truly unique products like HotShine, Wheel Polish, Repel Shield and now Titanium, which offer exceptional performance and tremendous value. At the very core, we are operators who take great pride in putting out a clean dry shiny car at pace. The efficiency of our stores starts with technology and our ability to leverage mechanization, chemistry of water quality. We not only scientifically balance our in-house chemical program, but we are able to process cars in a speedy fashion, which our customers have come to expect.

Part of the Mister experience is not just the efficiency in which we operate, but the level of customer service we provide to our frontline staff. This is where we really excel and it’s what we hear about most often. Last week, we hosted our National Leadership Conference where we brought in over 200 leaders from around the country to discuss our vision, go deep on our strategy and drill down into how we’re going to execute and win the war in an increasingly competitive environment. The depth of talent in the room and the energy throughout the conference was impressive and contagious. As we round the bend on the fourth quarter and look ahead to 2024, this team is laser focused on growing and continuously improving our business to further our competitive advantage.

There has been a lot of talk recently about competition. And as we mentioned on our last call, competition is nothing new to us and something we’ve been facing for many years. We believe that when customers are given a choice, the best operators will ultimately prevail and to that end, we are keenly intent on managing what we can control, which is the customer experience. We still believe the market is underpenetrated with additional white space in every market we’re in. We also believe there’s more tailwind to our category as new users adopt Express Carwash format and join our Unlimited Wash Club plan. But the car wash landscape remains dynamic and continues to evolve. The battle for regional dominance continues, albeit at a more rational and thoughtful pace, which we believe is healthy and good for our industry.

When we’re asked questions about how consumers are currently behaving, our answer is that we feel very fortunate to be in a space that acts more like a staple than a discretionary, with demand for our service remains steady and strong. As we continue to densify in existing markets and look for new markets to move into, we will stay disciplined in our approach to scaling at a pace that’s manageable, and will deploy capital where we think we can generate the highest and best return while managing expenses thoughtfully. We currently are focused on building out Greenfield locations, but we’ll continue to evaluate acquisitions and other uses of capital. I’d like to end my prepared remarks with a note of gratitude to the men and women of Mister, who show up every day, with smiles on their faces and skipping their step, delivering happiness to the millions of customers we serve.

I will now turn the call over to Jed to provide more commentary around our financial results for the quarter.

Jed Gold: Thank you, John. And good afternoon, everyone. Overall, we had a solid third quarter. We continued to manage our expenses, execute against our strategic priorities and move the business forward. Before I review the financial details of our third quarter results, let me give you a brief update on our new Titanium offering. We remain optimistic about Titanium and the positive impact it is going to have on the business and results. The early Titanium results are encouraging and running in line with our expectations. As of today, we have implemented our new Titanium offering, Rinse Improvement Technology and Reconfigured Blowers in 317 stores. We continue to pick up momentum and installations are slightly ahead of our implementation plan.

We now expect all stores to be reconfigured by mid Q1 next year. We continue to refine and test various promotional offers to help drive Titanium trial and adoption. As we have said previously, this is likely to result in slightly higher churn rates during the implementation period. We expect this to be more than offset by higher early membership levels. We believe Titanium could represent a meaningful portion of our UWC and retail business over time and remain very comfortable with the initial target of at least 10% of UWC subscription mix within a year of implementation. As previously mentioned, the revenue and EBITDA impact will likely be minimal this year due to the timing of the rollouts and the promotional offerings and strategy, but we believe it will be meaningfully accretive to next year and should have a multiyear impact.

Now turning to the third quarter results. During the quarter, total net revenue increased 7.6% and comparable store sales increased 1.7% compared to last year. UWC sales represented nearly 72% of total wash sales and we added 6,000 net members in the third quarter. On a year-over-year basis, the number of UWC members increased 11.3%. The performance of the subscription business remained very stable in the quarter. Core churn rates remained in line with historic ranges, and we did not see customers trade down to lower-priced packages. On the development side, we opened eight new Greenfield locations and acquired five existing stores in the third quarter. The performance of our Greenfields remains strong, ramping toward our mature Express Exterior average unit volumes of approximately $2.1 million and four-wall EBITDA margins of approximately 45% in under three years.

On the expense side of the business, we remain focused on managing expenses where we can and optimizing the investments we are making to support the long-term growth and health of the business. Excluding stock-based compensation as a percentage of revenue, total operating expenses increased 110 basis points to 78.9% year-over-year. The main drivers were, labor and chemicals decreased 20 basis points to 30.1%. Other store operating expense increased 90 basis points to 38.7%. G&A expense decreased 30 basis points to 9.6% and gain loss on sell of assets increased 90 basis points to 0.6%. The cost of labor and chemicals benefited from better labor scheduling and optimizing regional labor infrastructure, which was partially offset by an increase in average hourly wages.

Other store operating expenses increased primarily from an increase in rent expense from the fact that we have 50 more car wash leases compared to the same time last year as a result of the additional sale leasebacks completed during the last year. In the quarter, cash rent expense increased 16% to $27 million. G&A expenses, excluding stock-based compensation expense increased 4% and was driven by continued investments to support growth in areas such as marketing, construction and development and other support functions, which were partially offset by lower corporate insurances and other previous investments. During the third quarter, interest expense increased to $19.1 million from $10.1 million last year due to higher interest rates and the expiration of our interest rate hedge in October of last year.

Interest expense was slightly favorable compared to plan due to the higher cash balance, resulting from the faster pace of closing on sale leasebacks and the timing of reinvesting the proceeds back into the business. Our GAAP reported effective tax rate for the third quarter was 18.7% compared with 26.9% for the third quarter of 2022. The decrease was primarily due to the benefit related to the Employee Stock Awards exercised in the period and the benefit related to a change in our estimated state tax expense this year compared to last year. Adjusted net income and adjusted net income per diluted share, which add back stock-based compensation and certain noncore operating expenses were $25.5 million and $0.08 respectively, in the quarter. Third quarter adjusted EBITDA was $71.6 million, up from 8.3% from the third quarter last year, adjusted EBITDA margin was a healthy 30.6% and increased 20 basis points from the third quarter of last year.

Moving on to some balance sheet and cash flow highlights. At the end of the third quarter, cash and cash equivalents were approximately $62.1 million and outstanding long-term debt was $897 million. Importantly, our balance sheet remains healthy, and we continue to self-fund our growth and expansion. Despite the rising interest rate environment, demand for sale leasebacks remains healthy and we completed two sale-leaseback transactions in the third quarter for an aggregate consideration of $10.5 million. The sale-leaseback market continues to remain open for us, and we are seeing favorable rates. Lastly, let me make a few comments around guidance and how we are thinking about the rest of the year. Our third quarter results were ahead of our expectations, and we are pleased with the directional trends in our business.

Early Titanium results are in line with our plan, and we continue to tightly manage expenses and execute the business. The macro environment for the consumer remains challenging, and we think this dictates a certain level of cautiousness for the remainder of the year. As a result, we are leaving our full year guidance unchanged and reiterating our previously provided net revenue and adjusted EBITDA ranges of $913 million to $936 million, and $270 million to $283 million, respectively. In closing, we are pleased with our third quarter results, and we remain focused on delivering our growth strategies. I’m very proud of the team’s best-in-class execution as well as their enthusiasm for capitalizing on the opportunity ahead of us as we continue to position ourselves to win the long game.

With that, we’re happy to take your questions.

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Q&A Session

Operator: Yes, thank you. [Operator Instructions] And the first question comes from Simeon Gutman with Morgan Stanley.

Michael Kessler: Hey guys. This is actually Michael Kessler on for Simeon. Thanks for taking our question. First guys, I wanted to ask about how retail customers behaved through Q3? If you noticed anything relative to Q2 earlier in the year as far as some of the weakness that we’ve seen last year or so, and then any differences in how that customer behaves versus how your core UWC member behaved?

John Lai: Yes, I’ll kick it off. So retail volume and revenues are moderating quarter-over-quarter. We’re seeing improvements and a nice healthy growth in our ticket averages as well without having to resort to price increases. And so we’ve been very careful as an organization not to be overly promotional, specifically from a discount standpoint. And so we believe that the trends that we’re currently seeing are healthy, and with all the knock-on-wood, sustainable, but we’re also staying on soft ground.

Jed Gold: Yes. And Michael, just to put a little bit finer point on that. So going back, last call we talked about retail being down double digits in Q1, moderating to a high single-digit negative in Q2. It further moderated during Q3. Still kind of that high mid-single digit, but it was Q3, it was an improvement on a year-over-year basis compared to Q3. So encouraged by the trends that we’re seeing here on the retail side.

John Lai: And Jed, your famous line is ‘up is good,’ right?

Jed Gold: We’ll take it.

Michael Kessler: Maybe one follow-up Jed on CapEx guidance, which is coming up a bit, I think, about $50 million, $55 million or 20%. So it’s a pretty — it’s a notable step up given that, I guess unit growth is still on track for how you’ve previously been thinking about it. So just any color on what’s changing there and where you’re maybe seeing some inflation in the CapEx line?

Jed Gold: Yes. There’s really three factors there Michael. So the first, as we shared in the prepared remarks, we’ve been accelerating the rollout of Titanium. What was a full rollout as of the end of Q1, we’re now targeting to have it all done by the middle of Q1. So getting more of these stores equipped with Titanium at a faster rate than what we had originally projected. Also, a little bit of a timing with just the spend against our 2024, 2025 pipeline. As we’ve talked about, it’s an 18 to 20 month build out for one of these car washes and when the spend starts, while most of that spend is in the last 8 months of the construction cycle, there’s a little bit of a timing piece there. And then we are seeing some construction inflationary pressure, construction costs are up just a little bit.

But also our ability to get more in proceeds on a sale leaseback is also up. So the net investment on that construction and development is still approximately $2 million, keeping our cash-on-cash – year two cash-on-cash returns at about 50% and under a three year payback.

Michael Kessler: All right, thanks guys.

Operator: Thank you. The next question comes from Justin Kleber with Baird.

Justin Kleber: Yeah, good afternoon everyone. Thanks for taking the questions. Just want to start on the guidance, Jed. Obviously, holding the full year – the full year implies a pretty wide range for 4Q. Just any color on maybe how the business is tracking here quarter-to-date and whether you would anticipate some acceleration, as I believe the comparisons ease quite notably in November and December versus October?

Jed Gold: Yes. As we’ve talked about earlier in the year, we expect the lap just to get a little bit easier in Q4. Also, as the greenfields that we opened in 2022 come online, that will provide a little bit of a tailwind as they move into the sophomore year. And then also with Titanium picking up a little bit faster, that will be a nice tailwind. So in order to hit the full year, the high end of the range, the plus one, it will require a little bit of an acceleration compared to Q3, when we look at October. September and October last year were some of our strongest months. October, we’re lapping a plus 9.3. And so really looking at the two year stack, and we saw a slight improvement in October on a two year stack compared to Q3 on a two year stack.

Justin Kleber: That’s very helpful color. And then just on the – much of the costs with Titanium flowing through CapEx. I’m just wondering if there’s been some, I guess, excess operating expense that the business is absorbing this year that obviously won’t repeat next year as you finish the rollout early in 1Q?

Jed Gold: Yes. Certainly, I think – in particularly the first half of the year, a lot of pressure on the labor front. When you look at less, for the quarter labor rates were up just over 3% compared to, I believe it was, last quarter we were about 5% labor rates up. So we’re starting to see just a little bit of relief on that side. Utilities, we’re also seeing some favorability during Q3 and expect that to continue into Q4, whereas there was a lot of pressure on utilities, particularly in the first half of the year. And then also, finally – and we called this out in the prepared remarks, corporate insurance. We’re seeing some favorability on our insurance in the second half compared to where we were in the first half.

John Lai: Yes Jed, I would just add, when we take on a project of this magnitude, and it really is what I’d describe as a fundamental transformation of our tunnel, and the tunnel experience and we added as we’ve noted before, this blower reconfiguration and rinse improvement. And this is not scope creep, but there’s other things that come with these projects. And so when I look at our repairs and maintenance line and the things that we have to expense upfront, that’s also I think come at a certain cost, but we’re happy to make those investments, because again, we’re setting up our stores for the long haul.

Justin Kleber: Right. Thank you both. Best of luck!

Operator: Thank you. And the next question comes from John Heinbockel with Guggenheim.

John Heinbockel: Yeah, let me start, John. It’s sort of two parts. You’re thought on pricing of membership architecture, right. So I think in some markets there might be a $7 gap between premium and Titanium and others maybe $10. And then how that impacts membership qualities? So is there a thought that maybe you want more of a $7 gap and encourage people to move towards Titanium. So a little less membership, but a little higher price, a little higher quality. How do you think about that?