Noodles & Company (NASDAQ:NDLS) Q3 2023 Earnings Call Transcript

Noodles & Company (NASDAQ:NDLS) Q3 2023 Earnings Call Transcript November 8, 2023

Operator: Good day and thank you for standing by. Welcome to the Noodles & Company Third Quarter 2023 Conference Call. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your first speaker today, Mike Hynes, CFO. Mike, you have the floor.

Mike Hynes: Thank you, and good afternoon, everyone. Welcome to our third quarter 2023 earnings call. Here with me this afternoon is Dave Boennighausen, our Chief Executive Officer. I’d like to start by going over a few regulatory matters. During our remarks, we may make forward-looking statements regarding future events or the future financial performance of the company. Any such items should be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act. Such statements are only projections, and actual events or results could differ materially from those projections due to a number of risks and uncertainties, including those referred to in this afternoon’s news release and the cautionary statement in the company’s annual report on Form 10-K for its 2022 fiscal year and subsequent filings with the SEC.

During the call, we will discuss non-GAAP measures, which we believe can be useful in evaluating the company’s operating performance. These measures should not be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP. A reconciliation of these measures to the most directly comparable GAAP measures is available in our third quarter 2023 earnings release. To the extent that the company provides guidance, it does so only on a non-GAAP basis and does not provide reconciliations of forward-looking non-GAAP measures, specifically forecasted adjusted EBITDA, adjusted EPS and contribution margin. Quantitative reconciling information for these measures is unavailable without unreasonable efforts. The corresponding GAAP measures are not accessible on a forward-looking basis, and such information is likely to be significant to an investor.

Now, I would like to turn it over to Dave Boennighausen, our Chief Executive Officer.

Dave Boennighausen: Thanks, Mike, and good afternoon, everyone. During the third quarter, Noodles & Company gained meaningful traction improving our financial performance, culminating in adjusted EBITDA of $11.7 million, nearly 20% above the third quarter of 2022. This growth can primarily be attributed to restaurant-level margin improvement of 200 basis points relative to prior year to 16.4%. Compared to the second quarter of 2023, adjusted EBITDA grew 26% and restaurant-level margin improved 160 basis points. During the third quarter, we were able to take advantage of continued favorability in the expense environment, the benefit of labor efficiency initiatives and realized savings from our focused G&A restructuring that occurred earlier this year.

After a challenging second quarter, I’m encouraged by the progress that we made in margin expansion and EBITDA growth. From a top line perspective, total revenue decreased 1.2% in the third quarter versus prior year to $127.9 million, driven by a 3.7% decline in system-wide comparable restaurant sales. Thus far in Q4, sales are trending similarly to Q3 with a modest deceleration in comparable restaurant sales but an acceleration in 2-year growth. As we discussed in our last earnings call, we are focused on 5 initiatives to drive our sales performance through the balance of the year and beyond: first, price optimization with the balance of appropriate discounting and promotions; second, advancement in our technology platforms to increase guest engagement and analytics; third, leveraging the recent introduction of a highly recognizable consumer favorite into the fast-casual world, Chicken Parmesan; fourth, a complete evaluation and assessment of our culinary offerings, including our approach to our menu layout, utilizing a leading industry third-party consulting firm; and fifth, a significant expansion of our catering program.

The first area that we’ve been actively addressing has been around value and optimizing our pricing strategy. Clearly, in today’s environment, value is increasingly important, and we believe we have an opportunity to address the price of our proteins, which are added to their dish by 80% of our guests. During the third quarter, we began testing pricing strategies to address this opportunity, as well as partnering with third-party research firms to better understand the elasticity of our pricing, both at a dish and trade area level. We are encouraged by the initial results of this work and anticipate both broadening our test, as well as introducing more surgical pricing tiers within our menu and across trade areas in future months. Our second area of focus is the improvements that we have made to our technology and data platforms.

Nearly 50% of our guests experience the brand in restaurant, including dine-in and orders to go. In 2023, we have been installing digital menu boards across all of our company restaurants, which will allow us to quickly incorporate insights from our current pricing and extensive menu research across the system. Digital menu boards have now been installed in over 75% of company restaurants, and we anticipate being fully rolled out by the end of the year. As an example of the benefit of digital menu boards, our primary messaging has been around Chicken Parmesan and Rice Crispy add-on to the digital board restaurants. And in those units, in-restaurant sales of those items were meaningfully higher than those restaurants without digital boards. While the in-restaurant guest experience improves with the implementation of digital menu boards, we also continue to meaningfully enhance our ability to engage with guests through a better understanding of their behavior with our recently-implemented customer data platform, as well as through our rewards program.

We’re excited to announce that NoodlesREWARDS just recently welcomed its 5 millionth member. As an example, we have now introduced nationwide, a product recommendation engine on our website and app, driven by machine learning. This has led to a 45% increase in the likelihood of a digital guest adding a recommended item, and ultimately, an approximate 1% lift in average check on our digital platforms. We have a very strong technology foundation to build from. And with the completion of digital menu boards, increased learnings from our customer data platform and third-party work around optimizing our menu pricing and layout, I’m excited with the potential to positively impact the business, both in the short and long term. Another example of this strength can be seen with our third focus area, leveraging our recent introduction of Chicken Parmesan.

As we introduced Chicken Parmesan, we were able to tailor messaging and imagery to guests that had previously added chicken to their entree. This more personalized approach led to a meaningful increase in message engagement, as well as increased trial of Chicken Parmesan for those guests when compared to guests who did not receive specific messaging. We’re very pleased with the guest response thus far from Chicken Parmesan. Since launch, it has consistently been one of our top 3 selling dishes, has one of our highest tasted food scores, and we saw a 33% increase in rewards program sign-ups during the 2-week rewards exclusive period prior to full launch. Encouragingly, we have seen the dish appeal primarily to young and lower income cohorts, which are the most price-sensitive in today’s environment.

We are only 2 months into the launch of Chicken Parmesan. And given its broad appeal and attractive price point, we believe we continue to have significant runway for the product to drive traffic from loyal, lapsed and new guests alike. We believe the introduction of Chicken Parmesan is an integral step in advancing our menu, which will be further transformed by our fourth focus area, a comprehensive review to enhance and optimize our current menu, supported by an industry-leading third-party culinary consulting firm. While we’re still relatively early in this partnership, we’re very excited at the progress and potential from their areas of focus and look forward to integrating their work into our operating model and menu strategy over the course of 2024.

One of the areas of our menu we are optimizing is our fifth focus area, our catering program. During the third quarter, catering grew 35% over prior year, and we continue to believe the opportunity is much larger. The variety inherent in our menu, which eliminates the veto vote, combined with how well our food holds for the catering occasion, provides the opportunity to substantially grow this part of our business. As we enter the holiday season, we feel well positioned to further expand the program, and I look forward to sharing in future updates our progress in catering, as well as our other sales-driving initiatives. Clearly, building sales remains a top priority. That said, as we discussed on our last call, we’re focused on strengthening our financial performance in its entirety.

I’m pleased with the progress we made in the third quarter, leading to significant margin and EBITDA expansion and will now turn over to Mike to discuss our results and expectations in more detail.

Mike Hynes: Thank you, Dave. In the third quarter, our total revenue decreased 1.2% to $127.9 million compared to last year, driven by a decline in comparable sales, partially offset by revenue from new restaurants. System-wide comparable restaurant sales during the third quarter decreased 3.7%, including a decrease of 4.3% at company-owned restaurants and a decrease of 1.2% at franchise locations. Company average unit volumes in the third quarter were $1.34 million. Company comparable traffic during the third quarter declined 6.7%. Pricing during the third quarter was 3.9%. We anticipate a similar amount of price to carry forward through the fourth quarter. Turning to the P&L for the third quarter, restaurant-level contribution margin was 16.4%, a 200 basis point increase compared to last year.

Our restaurant contribution margin continued to benefit from significant year-over-year improvement in our cost of goods sold line, offset by modest deleverage across other areas of restaurant expense. COGS in the third quarter was 25.1% of sales, a 290 basis point improvement from prior year. This improvement was primarily due to continued favorability in commodity markets compared to last year, which led to food deflation of 5.7% during the quarter. We continue to expect overall low-single digit food deflation for 2023, led by chicken, which is contracted for the full year. Labor costs for the third quarter were 31.3% of sales compared to 30.8% in the prior year. Wage inflation continues to moderate with year-over-year hourly rate growth of 5.5% for the full quarter.

September was our lowest hourly inflation of the year at 3.9% growth year-over-year. As a percentage of sales, third quarter labor costs were lower than the first and second quarters, primarily due to the impact of labor productivity initiatives. Labor productivity initiatives in the third quarter also contributed 70 basis points to restaurant contribution margins when compared to 2022. Due to deleverage, occupancy costs increased 40 basis points over prior year to 9.2%. Other restaurant operating costs increased slightly in the third quarter to 18% compared to 17.9% in 2022. G&A for the third quarter was $11.9 million compared to $11.6 million in the prior year. G&A included non-cash stock-based compensation of approximately $694,000 during the third quarter compared to $751,000 in the prior year.

We anticipate full-year G&A to be between $50 million and $52 million. GAAP net income for the third quarter was $700,000 or $0.02 per diluted share compared to net income of $795,000 last year. Non-GAAP diluted earnings per share was flat to prior year at $0.04. Please refer to our earnings release for reconciliations of non-GAAP measures. Turning to the full year, I would like to provide an update to the 2023 guidance. For 2023, we anticipate full-year revenue of $502 million to $506 million, inclusive of negative low-single digit comparable restaurant sales. For this current fourth quarter, we anticipate total revenue of between $123 million and $127 million and comparable restaurant sales to decline mid-single digits. We anticipate full-year restaurant contribution margin of approximately 15% with our current guidance reflecting margin expansion of 100 basis points versus prior year.

For the current fourth quarter, we anticipate restaurant margin between 15% and 16%. Building on our third quarter performance, we expect adjusted EBITDA of between $36 million and $40 million. Included in our full-year guidance is expected adjusted EBITDA for the fourth quarter of $8 million to $12 million. Our adjusted EPS expectations for 2023 are now between negative $0.08 and $0.00. For the fourth quarter, we anticipate adjusted EPS between negative $0.05 and positive $0.03. For further information regarding our 2023 expectations, please see the Business Outlook section of our press release. Turning to the balance sheet at quarter-end, we had cash and cash equivalents of $2.5 million and a total debt balance of $65.4 million. We currently have over $50 million of incremental liquidity available for future borrowings under our amended credit facility.

Additionally, during the third quarter, the company retired over 1.7 million shares at an average price of $2.86 per share, effectively completing the $5 million share repurchase authorization that was announced on our prior earnings call. In the third quarter, the company opened 4 new restaurants. For the full year, we continue to expect approximately 20 new restaurant openings system-wide, including one franchise opening in the fourth quarter, representing 5% gross unit growth in company-owned restaurants for the year. With that, I’d like to turn the call back over to Dave for final remarks.

Dave Boennighausen: Thanks, Mike. We are pleased with the traction the Noodles & Company made during the third quarter with meaningful expansion both in restaurant-level margin and adjusted EBITDA, as well as improvement in top lines performance relative to the prior quarter. But we are far from satisfied. While building on our financial performance in Q3, we continue to aggressively execute on our sales-driving initiatives for the balance of the year and beyond, including price optimization, improved guest engagement analytics, leveraging our recent introduction of Chicken Parmesan, a comprehensive third-party supported enhancement and optimization of our menu and brand messaging for 2024, and a significant expansion of our catering program.

These initiatives will build upon our strong foundation with a differentiated brand, robust digital and rewards program, and the culinary and pricing flexibility that we will garner from the impending completion of our digital menu board rollout. I look forward to sharing our progress in upcoming quarters. Thank you for your time today, and please open the lines for Q&A.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from Tyler Prause with Stephens. Tyler, please go ahead with your question.

Tyler Prause: Thanks for taking the question. And congrats on the great quarter. Just the third-party pricing optimization efforts are especially encouraging. And I was going to see if you could talk more about the learnings from possibly overstating on price earlier in the year. And what could be different this time around? And then, I had one follow-up.

Dave Boennighausen: Sure, Tyler, and appreciate that. And ultimately, as we said in the last earnings call, we do believe that we were too aggressive with price in totality during 2022 as well as early 2023. That said, we do feel there’s some opportunity for modest price by just becoming more surgical with our pricing strategy. We feel there’s great optimization opportunities from a trade area tiering perspective, specific menu items, and importantly, that interplay between the entree level and protein prices. The digital menu boards, the third-party conjoint pricing study that we’re working on, they’re all going to – they are all in process right now. They’ll help us optimize the price as we go forward. At the same time, we will be taking our time. We want to make sure that we test it appropriately, complete the research to optimize price for the long-term.

Tyler Prause: Great. Thank you for that. And if we could just get an update on what you’re seeing at the brand level from different income cohorts? Any trends of trade down or mix management would be very helpful. And that’s it for me.

Dave Boennighausen: Yes, we’re not seeing much difference, Tyler, between what we had seen during the tail end of Q2 as well as Q3. What I will say one aspect that is encouraging is, as we normalize different trade areas based on their economics and demographics, Chicken Parmesan in particular has an index almost 30% higher in trade areas that are younger and a bit lower income than those that are a bit older and higher income. So, I think we are starting to really effectively address some of those challenges we have with the lower income cohorts, with the introduction of Chicken Parm.

Tyler Prause: Great. That’s it for me. Thank you.

Operator: Our next question comes from Andrew Barish with Jefferies. Andrew, please go ahead with your question.

Andrew Barish: Hey guys. Good afternoon. Just wondering on – October, for the industry, was better and your fourth quarter guide kind of in a similar range as 3Q. I mean is that mostly comparisons, just given the big lap you have coming up with over 10% in the company-owned same-store sales last year?

Dave Boennighausen: Yes. And just to level set, as a reminder, Andy, you just mentioned it. We had a very strong Q4 of last year with same-store sales above 10%, and it was higher during the first half of Q4 of last year. That’s when you look at the overall cadence, there is obviously a lot of moving pieces on what’s kind of considered normal seasonality. As we said on the call, thus far in Q4, what we are seeing is an acceleration in our 2-year same-store sales growth as we face that more challenging comparison, while 1-year same-store sales has modestly decelerated. From an average unit volume perspective, which we think is a very appropriate look at the health of the business, it’s probably behaving as we expected. We have seen some stabilization in average unit volumes.

Clearly, we are not satisfied, but we are pleased at how the economic model performed at those volumes in Q3. And as you look at the cadence of where our volumes are today, we are at $1.33 million quarter-to-date. That’s on par with full Q3. It was actually a little bit of a step-up from where we were during the September fiscal period. So overall, we feel that the trajectory, especially given those comparisons, is pretty steady and healthy.