Noodles & Company (NASDAQ:NDLS) Q4 2023 Earnings Call Transcript

Noodles & Company (NASDAQ:NDLS) Q4 2023 Earnings Call Transcript March 7, 2024

Noodles & Company isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and thank you for standing by. Welcome to the Noodles & Company Fourth Quarter 2023 Earnings Conference Call. At this time all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised, today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Mike Hynes, Chief Financial Officer. Please go ahead.

Mike Hynes: Thank you, and good afternoon, everyone. Welcome to our fourth quarter 2023 earnings call. Here with me this afternoon is Drew Madsen, 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 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 fourth 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. Quantitative reconciling information for these measures is unavailable without unreasonable efforts. With that, I would like to turn the call over to Drew Madsen, our Chief Executive Officer.

Drew Madsen: Thanks, Mike, and good afternoon, everyone. Over the past four months as Interim CEO, I’ve gotten a chance to work closely with our team and begin the process of reigniting this one-of-a-kind brand to drive sustainable top line growth, improved profitability and ultimately, create long-term shareholder value. As you’ve likely already seen, the company announced today that I’ve decided to stay on full time, and the Board has appointed me as permanent CEO. While I initially only agreed to be the Interim CEO and help with the transition. Once I got under the hood of Noodles, I became increasingly excited about the opportunity to lead this company through a new stage of growth. I’m thrilled that the Board concluded that I was the best person to become Noodle’s permanent CEO, and I’m honored to assume this role and will be all-in on leading Noodles with the expectation of being here a minimum of three years.

I wanted to remain CEO, because I believe that Noodles is a differentiated brand with substantial opportunity ahead of us. And I believe I have the ability to align the organization behind the strategic priorities necessary to achieve it. Before we discuss our priorities for the year, let’s start with Noodles’ unique positioning within the restaurant industry that we will leverage going forward. First, we compete in very attractive segments. Fast-casual has outperformed both QSR and casual dining on traffic for the last few years, because it offers a more compelling combination of quality, price and convenience. Pasta and noodles as a menu segment is affordable, broadly appealing and very durable. And the emotional need our customers have for comfort and comfort food is timeless.

Second, we have a meaningful point of difference, compared to others competing in these segments. No one else offers a scale perspective on all things Noodles with a variety of flavors from around the world like we do. And third, our brand is aligned with current consumer preferences. They want fresh food. Our restaurants don’t have freezers. We prepare a dozen fresh vegetables daily. And as I said, we don’t hold our vegetable, proteins or noodles in hot steam tables. We cook your meal as you order. Today’s increasingly diverse customer also wants more interesting flavor profiles, more spicy, smoky and tangy flavors from regions all over the world. Our menu is full of globally inspired noodle bowls and dishes, from classic dishes like Wisconsin Mac & Cheese to Penne Rosa and more elevated, but still approachable dishes like Japanese Pan noodles and Spicy Korean Beef noodles.

And third, today’s consumer wants more convenience when they choose to eat out. Guests can access Noodles by ordering through our mobile app, website or third-party delivery services, and can choose to receive their food via in-restaurant quick pick up or delivery to their home or office. Approximately 54% of sales originate digitally, creating a strong platform for us to build upon. And lastly, our food travels very well, which makes Noodles a great choice for off-premise occasions. Despite these competitive advantages, our business has not performed well recently. To capture the opportunity available to us, I believe we need to take better advantage of the platform we have. We need to do some things we haven’t done for a long time, and we need to raise our standards across the entire business.

Accordingly, I focused our organization on the following five priorities. First, we need to strengthen our culture of operational excellence. Operations is the foundation of our business and it starts with people. The general manager position is the most critical role in our business, and we are proud to share the general manager retention is the best it has been in almost 10-years and is better than industry average. And we’re delighted that virtually all of our restaurants are fully staffed. But there are other areas that require increased focus and higher standards, most critically in the dimensions of our guest experience that correlate most directly with traffic growth. Specifically, we are focused on three key areas: first, order accuracy and taste of food; second, the dinner daypart where we’ve seen more traffic loss than during lunch; and third, our lowest quartile restaurants where we have the most opportunity to make meaningful improvement in the near-term.

To monitor progress and drive change, we have instituted schedule changes for managers and hourly team members to allocate our best workers to our highest volume time periods. Biweekly training sessions and multiunit supervisor restaurant visits focused on reinforcing their critical behaviors highlighted in our training sessions. Our second 2024 priority is to increase desire for our brand through a multiphase menu transformation, guided by our new contemporary comfort kitchen culinary identity. While Noodles has consistently introduced new limited time offering menus in recent years, it has been a long time since we updated our core menu. As a result, our menu looks dated compared to newer fast casual competitors. While we still offer familiar and comforting dishes that many of our existing guests love, we are not currently a compelling alternative for lapsed guests or for new guests.

We are in the process of changing that as we use the contemporary comfort kitchen framework to transform our menu. Let’s break this framework down to its parts. Contemporary means we are going back to our roots as the ultimate curators of contemporary comfort. We need to do more than offer Italian dishes living beside Asian dishes. We need to offer dishes that are creatively fused. Dishes with classic profiles, bold flavors and signature twists that make them our own. We also need to offer dishes that interpret modern trends in approachable ways that resonate with our guests. Our reimagined LTO program that better leverages trending flavor profiles and seasonality will also be part of our menu transformation work. Comfort means food that is creamy, cheesy, craveable and satisfying, but increasingly, it also means food that’s wholesome, homemade, nostalgic and nourishing.

Going forward, our menu will embrace both definitions of comfort and also feature ingredient-forward menu descriptors that conjure craveability. Kitchen means we will continue to make each dish to order in cookware accounts, blanching pasta, prepping fresh vegetables daily, finishing in our custom saute station, garnishing with fresh herbs and designing recipes that bring more texture, color and garnish to every plate. We are working with The Culinary Edge, one of the preeminent food innovators and culinary consultants to the restaurant industry to help bring this menu transformation to life. It is a very ambitious program that involves new concepts, recipes, prices and a new layout across our menu. I believe the opportunity is significant and we all want these improvements in our restaurants as soon as possible.

That said, given the magnitude of change, we also want to avoid any major surprises. Accordingly, our plan is to evaluate each of these changes independently. We will then bring them together for an in-market test in at least 25 restaurants. And finally, we will gradually introduce improvements that are exciting for our guests and that our operators can execute consistently. So where are we in this process? The new dish concept work is complete, and we are preparing to test the first phase of new menu recipes later this month. Our goal is to start an in-market test of the first phase of changes early this summer with a phased rollout anticipated to begin later in 2024 and into early 2025. Our new menu architecture will be amplified by utilizing our digital menu boards.

Our third 2024 priority is to broaden our guest base by increasing active membership and frequency in our loyalty program, leverage guest data to grow our digital business and extend our reach by expanding our digital marketing touch points. Noodles has one of the industry’s top-performing digital ecosystems, consistently generating over 50% of sales through digital channels each year. This is driven by our more than 5 million loyalty members who spend more than double that of non-loyalty members on average. Our loyalty members represent approximately 25% of our total transactions and more than 90% of all app orders. A key area of focus for our loyalty program is to win back lapsed loyalty members by leveraging personalized data in our new customer data platform to provide a more relevant message to each lapsed member at the right time.

Our digital app provides a convenient way for guests to order their favorite Noodles’ dishes with over 1.7 million active app users. Over the past year, we’ve better leveraged this strong platform as we have achieved a 200 basis point lift in conversion rates by reducing friction in the ordering process. A focus on growing the number of app users and further increasing conversion utilizing our new tools will support traffic growth going forward. We are also further optimizing our digital media buys to more efficiently reach our target guests. We are currently in the process of testing multiple spending levels across media channels that, if successful, would be implemented in the second half of the year. We will also continue to invest in third-party marketplaces to reach the new guests and expedite their return visit.

Lastly, we successfully implemented digital menu boards across all company-owned units during 2023. As we’ve discussed before, these boards will allow us to better trial proposed menu changes by allowing quicker test iterations and more precise conclusions of the impacts we would expect to see across the system and also greatly assist in changing the menu architecture in our restaurants. We are testing a variety of ways to drive check without hurting value perception and plan to feature signature dishes that showcase our culinary expertise and strengthen brand relevance. Our fourth priority is to develop a long-term strategy to grow our catering business. And to help spearhead that effort, we recently hired a new Director of Catering, who was most recently with Panera.

Our fifth and final 2024 priority is to increase our financial strength. For 2024, we plan to strategically slow short-term new unit growth to approximately 10 to 12 new company restaurants, relative to the 18 new company restaurants in 2023. In addition, we’re focused on driving increased efficiencies across the business, which we believe will have a material positive impact on our future financial results. Successful execution of these priorities will position us for stronger new unit growth in the future, including new franchise locations and opportunities to refranchise company locations. I’m very excited about the future of the Noodles brand and believe these priorities I discussed today will improve our operations foundation, strengthen the relevance of and desire for our brands, support long-term traffic growth and lead to sustainable top line momentum and profitability growth.

I will now turn it over to Mike to discuss our results and expectations in more detail.

Mike Hynes: Thank you, Drew. In the fourth quarter, our total revenue decreased 8.9% to $124.3 million compared to last year. As a reminder, we had a 53rd week in the fourth quarter of 2022. We estimate that the 53rd week increased revenue by approximately $9.1 million in 2022. Absent the impact of the 53rd week in ’22, fourth quarter total revenue decreased by approximately 2.4% compared to last year. System-wide comp restaurant sales during the fourth quarter decreased 4.2%, including a decrease of 4.3% at company-owned restaurants and a decrease of 3.6% at franchise restaurants. Company comp traffic during the fourth quarter declined 9%. Pricing during the fourth quarter contributed 3.8%. Company average unit volumes in the fourth quarter were $1.31 million.

Turning to the P&L. For the fourth quarter, restaurant level contribution margin was 14.7%. Our restaurant contribution margin continued to benefit from significant year-over-year improvement and our cost of goods sold line offset by deleverage in labor, occupancy and other operating costs. COGS in the fourth quarter was 25.4% of sales, 150 basis point improvement from last year. This improvement was primarily due to pricing and the continued year-over-year favorability in commodity gets which led to food deflation of 1.2% during the quarter. Labor costs for the fourth quarter were 32% of sales compared to 31.2% in the prior year. Labor productivity initiatives in the fourth quarter contributed 40 basis points to restaurant contribution margin when compared to 2022, which was offset by the combination of wage inflation and sales deleverage.

Wage inflation continued to moderate in the fourth quarter, with year-over-year hourly rate growth of 3.9% for the full quarter. Due to deleverage, occupancy costs increased 60 basis points over prior year to 9.5%. And other restaurant operating costs increased by 50 basis points in the fourth quarter to 18.4%. G&A for the fourth quarter was $13.9 million compared to $13.7 million in 2022. G&A in the fourth quarter of 2023 was negatively impacted by $1.4 million of severance costs. G&A included non-cash stock-based compensation of approximately $765,000 during the fourth quarter, compared to $976,000 in 2022. We expect full-year 2024 G&A of $52 million to $55 million, inclusive of approximately $6 million of stock-based compensation. Net loss for the fourth quarter was $6.1 million or a loss of $0.14 per diluted share, compared to net income of $975,000 and earnings per diluted share of $0.02 last year.

During the fourth quarter, we changed our methodology for calculating adjusted EBITDA and adjusted net income. Please refer to our earnings release issued this afternoon for a reconciliation of our non-GAAP measures, including a recasting of non-GAAP measures in prior periods to conform to the new methodology. The change in methodology resulted in a reduction to adjusted EBITDA of $849,000 in the fourth quarter of 2023 and $3.3 million in fiscal year 2023 and compared to the previous methodology, while fiscal year 2022 adjusted EBITDA was reduced by $3.4 million compared to the previous methodology. Under the new methodology, adjusted EBITDA for the fourth quarter was $7.5 million compared to adjusted EBITDA of $9.1 million in the fourth quarter of 2022.

In the fourth quarter, we opened five new company-owned restaurants and closed two restaurants at lease expiration, one franchise restaurant closed in the fourth quarter of 2023. Turning to the balance sheet. At quarter end, we had cash and cash equivalents of $3 million and a total debt balance of $82.2 million. We currently have over $30 million of incremental liquidity available for future borrowings under our amended credit facility. Before we close, I would like to provide some additional color driving our expectations for 2024. We expect full-year comp sales to be flat to positive 3%. The first quarter in 2024 is expected to have negative mid-single-digit comp sales driven by the impact of severe weather in January and more difficult prior year comparisons previous to our price increase in February of 2023.

We expect full year 2024 restaurant contribution margin of 14% to 15%, which reflects low to mid-single-digit commodity and wage inflation. Turning to development. We expect 10 to 12 new company-owned restaurant openings and up to three new franchise openings in fiscal year 2024. And we estimate overall 2024 capital expenditures between $28 million and $32 million, which is more than $20 million lower than fiscal year 2023 capital expenditures. For further information regarding our 2024 expectations, please see the business outlook section of our press release. With that, I would like to turn the call back over to Drew for final remarks.

Drew Madsen: Thanks, Mike. I am excited to lead this brand forward and help capture the very significant opportunity ahead of us. I believe that we have aligned the organization around strategic priorities that will position us to drive sustainable growth and create shareholder value over the long term as we execute on these initiatives. Thank you for your time today. Operator, please open the lines for Q&A.

Operator: Thank you. [Operator Instructions] And our first question is going to come from the line of Todd Brooks with The Benchmark Company. Your line is open, please go ahead.

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Q&A Session

Todd Brooks: Hey, thanks for taking my questions. And Drew, glad to hear that you’re going to be around for at least the next few years. That’s exciting. So — I have two quick questions, if I may. One, looking against the lens of where you’re looking to take the brand with the overall kind of five priorities here. You talked about a focus on that bottom quartile of restaurants. You gave us some guidance on gross new unit growth. But if you look at the existing fleet of stores, do we need to contemplate any closures in the near term that would net against that number? And as we start to think about fiscal ’25, is the fiscal ’24 opening level more of a function of leases that were already committed to versus the desire to open that many stores. And as we get to ’25, do we still want to digest the changes before really driving more unit growth? And then I have a follow-up.

Drew Madsen: Sure. Well, on the first question of our current footprint, we think the overall footprint is solid. But like any big system, there’s always going to be 1% to 2% closures a year, for us, 5 to 6 units a year. And that’s about what we’ve been doing. That’s roughly what I would expect going forward. We are doing a portfolio review, but we don’t anticipate anything significant there. Regarding this year’s openings declining from 18 to 10 to 12, that’s really a function of us saying, let’s focus on the opportunities for New Year growth where we have the highest confidence that we’ll be able to achieve, the sort of cash-on-cash return that we want to hit. And that tends to be in 2024 in markets where we’ve got good levels of awareness and where the rents and labor costs are reasonable, and we’ve already had solid success, so Colorado and the Midwest in particular. And was there a third part?

Todd Brooks: No, I did have a separate follow-up, and then I’ll jump back in queue. If I listen to the commentary about the plans, we did have an issue early last year where pricing went a little bit too far and alienated some consumers that you’ve been working to win back. Within the concept of the repositioning of the brand from a culinary standpoint, how do you think about value? And are you far enough along in your pricing work to be able to share anything with us to have kind of accessible value still at one end of the menu, but maybe find a way to barbell it? Or just would love to hear how you’re planning to attack that going forward.

Drew Madsen: Yes. First, let me address that in two ways, pricing strategy year in and year out and then the menu transformation. So I think you’re right, we went a little too far in our pricing last February. And going forward, we’ve developed — I’ve implemented a pricing process that really is just focused on three things: making sure that we are clear about protecting our unit economics by pricing to cover inflation; but also being clear that we’re protecting our competitive position in the market by not taking any more pricing than we need to. And third, for whatever level of pricing we need to take, let’s be disciplined about it and take it in the areas and on the prices around the menu items that are most inelastic, where we’re going to have the least impact to traffic.

And if we use that consistently, I think we’ll avoid the overstep that happened in February. Regarding the new menu transformation, we’re really not intending to reposition it in any significant way, up or down immediately as it relates to check. We’re going to still maintain roughly the same barbell that we’ve got now with really good price point accessibility on the bottom of the price barbell with things like buttered noodles and Mac & Cheese. But we do think there’s an opportunity to add some more signature dishes at the top, not necessarily more expensive than we’ve got today, certainly not meaningfully more expensive but more contemporary, more on trend, things that are going to appeal to the guests that we’ve lost to newer brands, newer competitors.

Todd Brooks: That’s great. Thanks, Drew.

Operator: Thank you. [Operator Instructions] And our next question is going to come from the line of Jake Bartlett with Truist Securities. Your line is open. Please go ahead.

Jake Bartlett: Great. Thanks for taking the question. I hope you can hear me okay, I’m in the airport. But Drew, I’m also just — congratulations, and I’m really happy you’re taking this role longer term. And obviously, I think you have such great experience to bring to bear here. So very exciting from my perspective. My question was first on just on the guidance. I know there’s a lot of moving pieces here and difficult to really judge how your initiatives are going to have an impact near term. But you gave guidance of flat to 3% positive. You’re negative to start the first quarter, so it does imply some pretty serious improvement throughout the remainder of the year. So one, what gives you confidence on that? It sounds to me like some of the menu initiatives is really goes into test, but fairly small test and then it’s kind of more of a back-end end of the year sort of impact at best.

So what gives you the confidence on the improvement that maybe you’re already seeing it potentially in the kind of more recent trends? But your commentary there would be helpful.

Mike Hynes: Hey Jake, I’ll start with the first part, which is just kind of a baseline expectation around timing. So starting Q1, Q1 is our toughest comp of the year. It was going to be our toughest because just the pricing we took in February of last year, we didn’t really start to see the negative impact of that last year until March and then April, May. So Q1, absent any weather or anything else was going to be our toughest comp. And then we saw the impact this year of January weather, which is going to hurt us by about 120 basis points in Q1. So that’s to start. And then in Q2, we’re expecting that, again, as we lap last year’s pricing that we see some positive traction, and we start to see positive comp sales that really, for the most part, offset the negative comp in Q1.