Winmark CEO Brett Heffes on the Business of Resale

Motley Fool senior analyst Jim Gillies caught up with Winmark CEO Brett Heffes to chat about topics including:

• How a focused mission shapes Winmark's business.
• Creating long-lasting relationships with franchisees.
• The resale company's capital allocation strategy and growth expectations.
• What some investors misunderstand about Winmark.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.

This video was recorded on July 09, 2023.

Brett Heffes: We have something that most companies crave and it's clarity of purpose. As I've mentioned earlier, we're Winmark the resale company and our mission is to provide resale for everyone. So when you have a mission that is pure and it's communicated often. It takes the emphasis off of one person and it focuses on the company and the opportunity.

Mary Long: I'm Mary Long and that's Brett Heffes, CEO and Chairman of Winmark, a company that's in the business of secondhand stuff. It's the franchisor of resale brands, including Plato's Closet, Once Upon A Child, and Play It Again Sports. Heffes joined Motley Fool Canada's Jim Gillies for a rare interview about how Winmark stands out in the business of resale. It's focused on sustainability, setting up a company that's not dependent on Heffes' leadership, and a look at Winmark's franchising process.

Jim Gillies: First off, I want to commend you for your most recent quarterly earnings press release, the Q1 2023, [laughs] and Fools, I'm going to read the entirety of the press release here just because it tickles me. That sum total of commentary was, and I quote, "2023 is off to a good start," commented, Brett Heffes, Chairman and Chief Executive Officer. It's not possible for me to tell you how much I love the brevity of that type of press release. Because a lot of press releases from a lot of companies are longer. I like that you seem to prefer letting your results do the talking. In that press release you've done this for a while. You talk about the number of franchises, you have an operation. At the most recent one you had 1,297 operating, 70 awarded, but not yet open, and "Over 2,800 available territories." I believe you just started mentioning the territory number, about midway through 2021, if my notes are correct. But what does an ideal franchisee look like to you? As you slowly grow your franchisee base, what does the ideal person look like or group look like to you?

Brett Heffes: Yeah, I wish there was a test that we can give our high-performing franchisees and replicate that. That has not been fruitful to try and do that, but there really isn't a ideal candidate. But in terms of background or what we found, however, is what we tried to do in our screening process as we try to screen people that are both operationally qualified and financially qualified. So you have to have a certain net worth to be involved because it takes some capital to get started. Bank support you, but we want you to have a very conservative balance sheet coming into the relationship because things can happen. Sometimes growth happens and you need more capital than you thought and it's a good thing, not a bad thing. Other times, performance isn't what you wanted you need a little more capital to get going. First off, we want you financially qualified, then it's operationally qualified. Are the candidates, they learn more about us. They talked to franchisees, they come in for what we call a discovery day. Then it's really a two-way interview. It's very shocking to people sometimes because we don't really say yes, we're interviewing them and they're interviewing us. We're selling and buying at the same time, which is an interesting dynamic.

But what we're trying to determine is, will you follow the operating model? Because there's a lot of people that are too entrepreneurial. We want someone who's entrepreneurial but wants to work within a framework of an established system. We have an operating model that we believe works very well, has been in place for over 30 years. We want you to come in and run them off. Run the model for a couple of years, be a successful store than we love to hear your input. Then that's how we all get better together. But people come from all walks of life, retail professionals, teachers, we've had a lot of success with engineers because a lot of this is sort of process and flow driven in terms of the buy counter and how things are organized. There really isn't one thing that we can screen for. But if you have an underlying passion for sports, for sustainable consumption, for being a part of the local community. Those are all factors that lead to being very, very successful.

Jim Gillies: In the most recent press release where you talk about 70 awarded franchises, but not yet open. I believe the quarter before is at 57. Like how fast should we expect? Because they see the number is actually opening it as about two or three a quarter. It looks like you've been adding and this last couple of quarters. Is that a number that you'd like to move marginally higher? I would get scared if you said significant, if you said no, Jim, we're going 25%, I would get frightened, but it like what is that-

Brett Heffes: Yeah.

Jim Gillies: What is a reasonable growth expectation for investors, so we understand?

Brett Heffes: If you look back at our history and when I started at the company, we had about 800 stores. Right now we have about 1,300 stores. That's a 62% growth rate almost 21 years, which isn't all that impressive on a gross basis over that period of time, it's a little over 2% store count, growth rate 2.3% somewhere in that neighborhood. But our systemwide sales have gone up almost 400% to a little over $1.5 billion. So what's worked for us is focusing on the stores that we have. The one you brought to the dance is a heck of a lot more important than the other one that you're seeing dance and on the dance floor. We just focus on that. Our current store owners during that time have gotten dramatically better. And that sort of growth rate in network sales is somewhere around 7% with 2.3% store count about 7% sales growth. With that difference means our stores are getting better every year. Maybe if it's 5% or 4%, whatever the number is, that might not seem all that impressive, but over 21 years, it's enormous. So that's really what we try to do. Because if I get on stage at our franchisee conference, we just had one in Nashville for our apparel conference and they're getting quite big now we had 1,300 people there. If I got on stage and talked about how many stores we're going to add. No one in the audience cares.

They care about their own location, how they're doing, are they making money? My primary responsibility is to them. There are partners and we want them to be profitable. Now, we also want to grow and we have great concepts. If we could find more qualified people that fit our criteria, we'd add a heck of a lot more, but it's definitely going to be more than one or two a quarter, Jim. That number that you saw the referenced in that backlog, that increased. We signed more agreements in 2022 than we have in any year since 2016. I'm sure we're going to get into it. We've repositioned the company, we're refocused the marketing in terms of what we're about, redefined our mission and we're starting to have a lot of success. I think that's been really beneficial. We want to add as many as we can. It's not going to be 25%, but we can add a lot more than one or two a quarter and I think just stay tuned. That's why we gave you that backlog number because we want people to have a sense for what's coming without making a lot of predictions because it's just not how we run the business in terms of investor relations. We really don't talk about future all that much, but we're really pleased with where we are despite the eight words in the press release, that's it's pretty verbose for me.

Jim Gillies: That's brilliant. Brett, let's talk a little bit about sustainability because the concept has been mentioned a number of times. Full disclosure I am a former environmental engineer. Sustainability, and I'll call it green thinking, is something that I have been passionate enough to get a couple of degrees in the subject. I'll put it that way. What does sustainability for a franchising company like yourself? What does that mean for you guys?

Brett Heffes: Sure. What that means is that we've started organizing what all of our individual locations are doing to support some of our concepts and to support our franchisees and kind of give them the tools to make sure that we are promoting how much good we're doing in the world. We never really packaged it that way before. No one really thinks about it. But we've been doing this for over 30 years. There's a lot of relatively new entrants to this marketplace, to the resale industry broadly defined. We've been a leader in the circular economy for 35 years. We just never really talked about it. We started getting organized in concert with some of the changes I mentioned earlier. It's just quite impressive what we've done. We've extended the lives of almost 1.6 billion items since 2010. If you were a circularities specialist or someone involved with ESG, you would understand how impactful that number is and how massive it is. Last year alone we extended the life of 169 million items. That's 457,000 items a day and five items per second. We're keeping in use and those benefits to the environment are just substantial. That's what it means to us. There's really another layer to it also, Jim, because our focus as a company is on value-oriented items, there's a lot of energy and attention around luxury, but ours, we are focused on value.

Our two largest brands are Plato's Closet and Once Upon a Child, our price points are average retail price for Plato's Closets, right around $10. It's right around $5 for Once Upon A Child. I don't believe there's really a lot of people are very many, if any, at scale, that can sell $5 items profitably. We have this interesting combination where we're doing great things for the environment, but we're also providing really strong economic benefit. And I think it's one of the best examples of sort of shared value that I've seen out there. That's just a framework where the social value you provide plus the economic value you provide is really coming up with this incredible shared value concepts. That's really what it means to us. But these value items, if you don't have an outlet like ours, they end up in the landfill. We still continue to believe that although there's other people attacking this marketplace, the biggest competitor to us is just throwing it away and put it in in the landfill. So if we keep adding stores and fulfill our mission to provide resell for everyone, that's just going to be less items go in in the landfill every year and that's just better for the world.

Jim Gillies: You've brought up the idea of there are others who are in the resale market, I know there's a few folks online who've tried to make it go both in luxury and lower down. But Winmark isn't the only concept for retail stores and Buffalo Exchange comes to mind, I think there's some franchise concepts Clothes Mentor, Uptown Cheapskate is another one that one of my coworkers through the name at me. What's the secret sauce that differentiates Winmark from these other retail concepts, I'm staying away from the RealReal online because that's a very different space. But if the high-quality franchisees are beating a path to someone's door, why should they choose a Winmark banner?

Brett Heffes: Yeah, and it's interesting Jim we really don't get a lot of direct people coming in and looking at multiple people and shopping, our concept versus someone else. We're not exactly sure how that happens in terms of how they choose someone else versus choosing us. But we're the market leader in terms of store count, in terms of four of the five categories we're in and where the highest average unit volume in all five. There's a lot of other companies out there and this very big market and there's been competition since we started. When I started it was about eBay and even Walmart selling $4 T-shirts and that's going to hurt us, and then it was eBay is going to put you out of business, and then it was the online people are going to put us out of business. It honestly doesn't matter, we have a model that if our stores run the model they're going to be just fine. 

Other than the landfill is to competitor the two things that people don't talk about which is interesting to those of us in the industry as the donation market is massive. If you think about, particularly in the States I don't know as much in Canada Jim, but bringing your items to goodwill, bringing your arms to salvation army that's a very, very big market. It's a very good outlet for a product that you're not using, and in that model we're sort of complimentary if you think about it and we've had a lot of stores very successful next to a goodwill, next to a salvation army or savers. Because we want to be the first stop, if we are the first stop you come to us, we buy your items we'll pay you cash. There are things that we don't accept because we don't think they'll sell well in our stores, well then you can make your dropped to so that you're not throwing them away. We've had a lot of success there. The other sort of concept that people don't talk about but I think they should is the independent thrift stores. There's an independent thrift store in every town everywhere, there's a heck of a lot more of them than there are any probably the other locations put together. 

They're not organized, they're not as well capitalized, there's some strong independent operators but there's a lot of weak ones. It's such a big market and it's growing so fast, and even some of the online people that you mentioned, they're spending so much money educating millions and millions of people about resale. And then all of a sudden, the consumer's eyes are open to resale and guess what they're going to do, they're going to walk in, they're going to notice our stores and they're going to come in. We just think we have most convenient sustainable option, you don't have to ship things all over the world, you don't have to worry about returns, you don't need a warehouse with the robots move and everything around. Everyone is trying to do really good for the environment, and I'm really proud to be a part of this industry because everyone's trying to push it forward. but I like how we're positioned, we're the only pure play resale company at scale that's actually paying you for your clothes or your sporting goods. I think that position does really well to do other things going forward, but we just have to focus on each individual owner and making sure that they're following the model. I'm not terribly concerned about how the competition is behaving because it's a very big, growing market, there's plenty of room for a lot of participants.

Jim Gillies: Couple of more questions here. Things that investors get wrong about Winmark, obviously as you said earlier there's not a lot of coverage for you guys out there. You don't particularly care, I don't think how much coverage there is you're focused on the business which we like. It's a very foolish concepts, but are there things out there that you believe that the broader investment community has mistaken about Winmark? Or is it more a variation of the you're still largely under the radar of a lot of shops?

Brett Heffes: Yeah, we don't want formal research coverage. I think it doesn't make sense for us. We have 20 shareholders that own about 71% of the company, so if people want to get a hold of us they call and Tony or I will return the phone call. It's pretty easy to get a hold of us in terms of we understand the needs of our shareholders and there's good lines of communication, so we're not looking for coverage. We're very focused on running the company we think that's going to deliver the best outcome for any shareholder, and I don't have any issues with how other companies do it. It's just this is the way it's always been for us and it's worked and we haven't changed that. But the only thing I would say in terms of what shareholders it's not that they get wrong, it's I don't think they understand how we've set up the company in terms of managing it. I don't mean to be arrogant I want to be really clear Jim, but it's just something that I've acknowledged after being a professional for 30 years or so. It's like we have something that most companies crave and it's clarity of purpose.

Like I mentioned earlier, we're Winmark the resale company and our mission is to provide resale for everyone. When you have a mission that is pure and it's communicated often, it takes the emphasis off of one person and it focuses on the company and the opportunity. I really feel that the work that we've done over the past couple of years it's changed the entire trajectory of the company, it's changed for the positive, it's changed the culture, it's changed the performance, it changed accountability, and we got this new store activity that's been increasing a little bit and it's really helped with the marketing. I know that I had an impact on redefining the mission but that's my job, it's not some unique skill that only I'm capable of. I think one of our shareholders had this quote that I love. The quote was, I am wary of companies where the CEO makes themselves part of the show, and I think you know the person who did the quote because it's you.

Jim Gillies: I might know who said that, yes.

Brett Heffes: I don't know if that was yours or you stole it from someone but I love the quote Jim, because I think sometimes people in my position they just can't help themselves. They have to be a lead in a story and hopefully, in your prep work, you've reviewed our materials, you reviewed our tag lines, and you see that what's front and center for our company is the mission. I would say frankly for a company our size which is very small from a headquarters perspective, we have incredible executive depth. You can call and had the same conversation we just had with me these last 25 minutes with Tony Ishaug, our Chief Financial Officer, he's been with us for 15 years and extremely talented executive. Rene Gaudette, our Chief Operating Officer, she has one of the best stories in speciality retail that no one's ever heard about. She started with us as a store manager at a Once Upon A Child location, she's now our Chief Operating Officer. I have three-four other people on sort of our weekly management calls, that are just unbelievably talented and there's too many to name but we have an unbelievably talented group of employees. We have an average tenure just shy of 10 years, which is pretty rare. When you have strong employees, executive depth and a clear mission, that reduces the risk for the shareholders, it reduces the risk for the franchisees. We train on this. We have a training document, we call it We Are Winmark. When someone comes in, we train you on this is how we communicate to franchisees.

This is how we treat each other. This isn't an individual pursuit, this is a shared pursuit. We try to promote from within for every position if at all possible. There's just a lot of ways that we foster kind of who's your replacement and continuity because our renewal rate is so high, it's 99% over the last 10 years with our franchisees. There's a very good chance that people signing up with us today are going to be with us 20, 30 years and we have plenty of examples of that. The people that are coming into the system today, they're going to be in the system after my career at the company's over. In my role, I have a responsibility to help organize the company in a way that is not relying on me. And I think everyone on our team has sort of bought into that now and I think that's, again, going back to your question, not what people get wrong, but they don't appreciate about us because we're not out there that much talking about it, but I'm very confident in that we're going to continue to provide really strong franchisee support. Whether I'm in this chair or whether someone else's in this chair and that's very gratifying because ultimately that's what I want. I want something that is built-to-last and something that's permanent and I feel like that's the path we're on and it's really rewarding them, but very exciting as well.

Jim Gillies: We are an investing company. We are obviously focused on investing and investing outcomes. I would be remiss if I didn't ask at least one investing question. But again, as someone who has held personally your shares for about a decade and a half. I don't think I'm in your 20 investors who own 71% of your shares though. But you've been a very interesting dividend story since declaring your first dividend back in 2010, I believe and it was $0.02 a quarter. I believe you're now up to $0.80 a quarter. What's a 20 fold or 40 fold increase over a decade between friends, I suppose? But you've also done buyback. Because you are profitable, you are very cash-generative, that's something that I admire about franchise businesses in general and certainly Winmark in particular. How do you, as an executive team think about do you prefer dividends, dividend increases, buybacks as part of the way that you return capital to shareholders?

Brett Heffes: Sure. I'm sure you're not going to be surprised by this, but we have a philosophy that we've shared with ourselves internally, we've shared with our board and we've shared with shareholders in terms of how we think about capital allocation. It's not a mystery, it's a pretty boring document, but the document, it's about five or six bullet points. We have a capital allocation philosophy and the first tenant in the capital allocation philosophy is we're going to focus on running the company. Because if we don't run a good company, there's no capital to allocate and I think when I listened to some executives talk or some shareholders talk, at times, I do chuckle because there doesn't seem to be that really basic premise. You have to run good operations in order to have capital to allocate. But we kind of go through a waterfall things that we'll look at. The other key tenant of the capital allocation strategy is we don't want to sit on excess cash, because we think that's value destroying. Now that we've restructured and refocused the company, the only business we have is this core business, and we don't have any capital expenditures or any needs for capital. We are generating capital in excess of the requirements of the business frankly every week. What we do with that is we just look for value-creating opportunities. Last year we found one, we converted 11 Play It against Sports stores that weren't franchisees to franchisees as a result of some old legacy agreement. That was a very high return transaction, but it was small and there aren't a lot of opportunities like that. What it boils down to, as you highlighted, is we really do have three primary uses. We can pay down some debt. We like having modest amounts of leverage if the rates are proper because we think that makes sense given the 99% renewal rate and the predictability of the business leaves to the ability to have some modest levels of debt. We don't want to get too crazy on that. But the primary avenues are dividends or buybacks and we liked the quarterly dividend, but we don't want it to get to high so that our flexibility is hurt. 

We got to a point where we're pretty comfortable in terms of kind of what we're paying on an annual basis with that vehicle and then when it frankly comes down to it, where do we see the value in the company relative to what the public markets are providing us on a daily basis and if there's a mismatch, there were buyers? I think as you probably seen and maybe even done the calculations, we've repurchased a lot of shares over the years. Last couple of years alone, we've purchased almost $100 million of stock in the last 30 months and as it turns out in the short term, that's been very productive to our shareholders. Ultimately, that's probably better long term to be buying back stock than the special dividends. But given what I said earlier about not wanting to hold onto excess cash, if we have excess cash, we don't have any problems giving it back and that's why we've been doing some of the special dividends as well. Think over our history, maybe done five special dividends. No one ever complains when that happens. People are pretty excited when that happens.

That's a long answer, but I'm preference, we think it's best for everyone if we buy the shares back as long as it's at a reasonable price, absent that, we're going to give them money back and we just have to decide how much cash we want to keep on hand. Before the pandemic we had a million dollar of cash on hand. Well, obviously that was a bad strategy during the pandemic, which we worked out of and going forward, it'll be more than one million dollars obviously, but we just don't know exactly what that number is yet and I just think we're going to keep doing our thing. Jim, it's like we don't spend a lot. I've just spent four minutes probably talking about capital allocation. That's probably more than I'll spend the entire quarter. We just have a formula. We kind of go through it. We know what we really have a strong view on what were worth. We know if we want to be buying the stock or not, it's not a big complicated exercise that we go through, but everyone is on board with how we do it. 

We communicate very frequently with all the constituents involved in making those decisions and we just kind of do it. It's more of a process thing as opposed to some big business school case study and that's just how we've done it. It's worked well for our shareholders. It's worked really well for our shareholders. We have some happy. Jim, you're probably one of our happy shareholders, but we were fortunate that we have some really high-quality long-term owners and that's also very rewarding in my position because having people supportive. Eventually, there'll be a bump, there'll be a hiccup and when you've been through some really good times with people, I think it really helps smooth out when times aren't perfect because it hasn't been a straight line in the past 21 years either. There's been some bumps along the way.

Jim Gillies: Sure. That's perfectly fine. Every company goes through it. But no, I think that's a great answer, Brett, and I think we're up on our time, so I think it's a great place to stop. I really appreciate you joining us today and hopefully introducing some Fools to one of a company that I think a great deal of. I've recommended it in four or five places around the Fool, I think. Certainly, multiple Canadian services, ironically enough. But Minnesota, you're probably a little north of me anyway.

Brett Heffes: Yeah, for sure.

Jim Gillies: It's all good.

Brett Heffes: If you don't mind can I just say one thing?

Jim Gillies: Sure.

Brett Heffes: I'd be remiss if I wasn't on a podcast like this and didn't say this like, I hope everyone understands how much I care about this industry, how much I care about our franchisees. What a good business I think we have together. But we had 2,800 open territories in markets all across North America and if you're interested, go to www.winmarkfranchises.com, learn about our concepts, fill out an application, and we'd love to talk to you about bringing our concept to your community because it's really special and we think we can do really wonderful things together.

Mary Long: As always, people on the program may have an interest in the stocks they talk about. The Motley Fool may have formal recommendations for or against it, so don't buy or sell stocks based solely on what you hear. I'm Mary Long. Thanks for listening. We'll see you tomorrow.