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Franchise Group, Inc. (FRG)
Q1Â 2020 Earnings Call
Jun 18, 2020, 4:30 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Ladies and gentlemen, thank you for standing by, and welcome to the Franchise Group's First Quarter Conference Call. [Operator Instructions]
I would now like to hand the conference over to your host, Andrew Kaminsky, Executive Vice President and Chief Administrative Officer of Franchise Group.
Andrew F. Kaminsky -- Executive Vice President & Chief Administrative Officer
Thank you, Joel. Good afternoon, and thank you for joining our conference call. I'm on the call with Brian Kahn, Franchise Group's President and CEO and Eric Seeton, Franchise Group's CFO.
Before getting started, I'd like to mention that certain matters discussed on this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other provisions of the federal securities laws. These forward-looking statements are based on management's current expectations and are not guarantees of future performance. Actual results could differ materially from those expressed in or implied by the forward-looking statements.
The forward-looking statements are made as of the date of this call, and except as required by law, Franchise Group assumes no obligation to update or revise them. Investors are cautioned not to place undue reliance on these forward-looking statements. For more detailed discussion of these and other risks and uncertainties that could cause Franchise Group's actual results to differ materially from those indicated in the forward-looking statements, please see our Form 10-K/T for the fiscal year ended December 28, 2019 and other filings we make with the SEC.
The financial measures discussed today include non-GAAP measures that we believe investors focus on in comparing results between periods and among peer companies. Please see our earnings release in the News and Events section of our website at franchisegrp.com for a reconciliation of non-GAAP financial measures to GAAP measures. Non-GAAP financial information should not be considered in isolation from as a substitute for or superior to GAAP financial information, but included because management believes it provides meaningful supplemental information regarding our operating results when assessing our business and is useful to investors for informational and comparative purposes. The non-GAAP financial measures that company uses have limitations and may differ from those used by other companies.
Now I'd like to turn over -- turn the call over to Brian. Brian?
Brian R. Kahn -- Chief Executive Officer
Thanks, Andrew. And thank you to our listeners for joining us in our inaugural investor call. We appreciate your interest in the Franchise Group. I'm going to briefly walk you all through the formation and history of Franchise Group, our businesses, our strategy and current trends we are experiencing before turning the call over to Eric Seeton to discuss details of our first quarter results. Afterwards we are happy to answer questions.
Franchise Group was established in 2019 with the ultimate goal of paying dependable and growing dividends to its shareholders. As our name suggests, we own and operate franchise and franchisable multi-unit consumer businesses that typically fall into one of three categories. The businesses are either multi-unit franchise businesses that we believe we can scale or they are multi-unit businesses that are predominantly corporate-owned units that we believe we can refranchise and potentially grow further through additional franchising or we may opportunistically acquire multi-unit businesses that we believe we can restructure and ultimately maximize value for our shareholders using our operating philosophies and our capital allocation philosophies.
At this point, we have assembled the mix of businesses that fall into each those three categories. The businesses have provided us balance and resiliency in the respective consumer categories and have allowed us to be successful before, during and after the recent crisis. We believe we've provided further evidence of their collective balance and resiliency today since we've exceeded our first quarter guidance and we are raising our non-GAAP earnings per share and free cash flow expectations for 2020.
Before discussing the details of the first quarter results, I'd like to give you a brief history of Franchise Group. Franchise Group's foundational investment was vintage Capital's 2018 acquisition of a controlling equity ownership interest in Liberty Tax. Liberty Tax happens to be the corporate predecessor to Franchise Group. We announced in July of 2019 that Liberty would transform into what is now Franchise Group through the acquisition of Buddy's Home Furnishings. Buddy's has been Vintage Capital Holdings since 2012.
As part of the transformation last July, the company also self-tendered for its publicly traded shares a significant premium to provide liquidity option for all its shareholders. The board made no recommendation to the company's shareholders regarding the tender offer. But the offer was purely to provide optionality to all its shareholders in light of planning a dramatically different strategy compared to running a stand-alone tax prep business.
Subsequently, we closed on the acquisitions of the Sears Outlet business in October, The Vitamin Shoppe in December and American Freight in February of 2020. Our management team has known each of these businesses for many years and believes all of them are attractive franchising concepts due to their superior unit economics, but they also have an added benefit of being resistant to economic downturns. With multiple brands now under one umbrella, we are executing strategy to leverage best practices, common functions and purchasing efficiencies in order to realize additional improvements in income and free cash flow.
Franchise Group's focus on a daily basis is to strengthen our current brands through organic growth and franchising, but our strategy also includes acquiring assets that can be combined with and enhance our current operating companies. Over time, we would expect to acquire additional stand-alone consumer businesses by partnering with exceptional operators who share our passion to succeed and have the same sense of urgency to enhance the value of their brands.
Across all businesses, we look to create operating efficiencies through shared service platform that drives incremental free cash flow while allowing the management teams of each brand to focus on growing their businesses. We believe our portfolio of brands lets us offer franchisees a variety of platforms, allow them to optimize their geographic penetration and grow their businesses. Our management team is fortunate to have experience as both the franchisor and the franchisee, so we understand the intricacies in creating a successful platform for both the franchisor and franchisee. While in the short-term, it may be possible for our franchisor to be successful at the expense of its franchisees, I've never seen a franchisor find long-term success without ensuring the prosperity of their franchisees.
As all of us know, the last few months have been unprecedented in countless ways, we've heard it many times. We've tried to be transparent with our stakeholders and have been communicating our operating plans and performance throughout the pandemic. Before discussing the current trends in each business, I want to reiterate that we have continued to prioritize the health and safety of our employees, customers and communities. We have researched and invested in best practices for sanitizing our offices, our stores and our distribution centers as well as practicing social distancing protocols to do our part in keeping everyone safe and slow the spread of the virus.
Additionally, we invested in the health of our employees by offering to pay for all testing regardless of whether employees participate in our health plans. And we absorbed the full cost of our health and welfare premiums for any employee furloughed who is enrolled in our plans. Our IT departments have continued to upgrade and invest in our infrastructure to ensure that we can support remote workers and have the business continuity regardless physical location.
As closed stores and offices reopen now, we have detailed protocols to keep people safe and mitigate the potential for future outbreaks. I'm very grateful for the support and dedication of our operating management teams throughout this crisis and our successes are completely a reflection of their strong performance.
In no particular order, I'm going to walk you through the current performance of each of our businesses. I'll start with American Freight. Please note that when we refer to American Freight, it now includes the former Sears Outlet business, which was merged in April and we'll celebrate its grand rebranding in July as American Freight appliance, furniture and mattress. The combined business totaled 300 locations throughout the United States, of which eight are now franchised. American Freight is a category-defining deep-discount retailer with flexible payment options that create a compelling proposition for our customers.
Since bringing Outlet and A Freight together in mid-February, we have assembled a single focused management team that has already driven significant synergy across multiple functions, including merchandising, marketing, finance and operations. This team has been able to rebrand and drive the business forward despite having up to 150 stores closed during the current crisis. The resiliency of this business model is demonstrated in its results. As of today, despite the long shutdown and stay at home orders, the combined American Freight is still on track to meet its original 2020 pro forma adjusted EBITDA budget, which was set prior to the outbreak of COVID-19.
While we will not provide monthly guidance or breakout by legacy American Freight and Outlet stores in the future, due to COVID-19 and our delay in reporting the first quarter results, we want to give some additional insight into the recent performance of our stores. Total revenue for the legacy American Freight stores for fiscal April, just the month of April, was approximately $18 million, down over 50% compared to last year due to store closures. Stores that remained open in April, however, comped a positive 23%. In fiscal May, total revenue reached over $45 million, which was up over 40% compared to last month. Stores that remained open in May comped to positive 69%.
For the former Outlet stores, revenue for the months of April and May were approximately $30.2 million and $34.5 million respectively. On a comparable basis for the same months last year for stores that remained open, comps were down 5% and up 2% for April and May respectively. Additionally, online sales at Outlet have grown to approximately 22% of total sales over the last few months compared to approximately 9% of total annual sales historically.
Since shelter in place and stay at home orders have been lifting and all of our stores have reopened, we've seen a steady increase in business across all of American Freight. At the end of fiscal week 11 of quarter two, which just ended on Saturday, June 13, each of Outlet and legacy American Freight had generated more total revenue than they did during the first 11 weeks of the second quarter of 2019.
We believe the impact of stimulus checks, government subsidies and customer spending more time in their homes have contributed to the recent strong performance. Additionally, as economic times have been tough for many, new customers are responding well to our deep value products and flexible payment options. We expect these trends to have a supporting effect on our financial results, while we continue to execute on our revenue and cost synergies.
Moving on to The Vitamin Shoppe. The Vitamin Shoppe is an omnichannel specialty retailer and wellness lifestyle company. In the first quarter, The Vitamin Shoppe outperformed our expectations due to customer demand for immunity support health and wellness products as a result of COVID-19. In the month of March, total comps were up 10% and helped improve comps for the full quarter to be down less than 1%, with online direct-to-consumer revenue up over 12% and brick and mortar comps down less than 3%.
In most states, The Vitamin Shoppe met the guidelines of an essential business and remained predominantly open during the pandemic. Of the 735 Vitamin Shoppe locations, 90 were closed at the peak of the crisis. For the remaining open stores, most operated on reduced hours and were impacted as stay at home and shelter in place orders which put further pressure on in-store sales. During this time, we saw a migration to our direct-to-consumer business, which helped offset store comp performance.
Direct-to-consumer represented 14% of all sales in 2019 and is currently trending in the low-20s as a percentage of sales in June after peaking at 34% in April. As I stated with American Freight, we will not be providing monthly performance details in the future, but due to COVID-19 and the delay in our reporting the first quarter results, we want to give you some additional insight into The Vitamin Shoppe's monthly performance so far in the second quarter. As stores began reopening and with a more regular operating our schedule, we have seen steady improvement in our overall weekly comparable sales from down over 20% at the beginning of April to down 2.8% at the end of fiscal May. At this time, The Vitamin Shoppe is on track to deliver its original adjusted EBITDA plan for the year.
Year-to-date, we have retired or purchased for our own account $22.1 million of The Vitamin Shoppe's $70 million term loan. We expect further reduce the term loan liabilities to no more than $28 million by the end of the year. Overall, we believe that the shift witnessed in consumer sentiment toward immune system support and general wellness will have a positive and lasting impact on The Vitamin Shoppe.
Turning to our assisted tax return prep business, Liberty Tax. The overall assisted tax prep market has had a challenging year as a result of the IRS extending the tax filing deadline from April 15 to July 13. When the virus hit the United States in mid-March, Liberty still had over 30% of its annual return volume expected to file in the final 30 days of the season. Adding three months to the 2020 tax season may not reduce the overall number of tax returns that need to be filed in the U.S., but it will dramatically change the cost structure for Liberty and its franchisees due to the additional time that they would need to remain fully open. As a result, Liberty's management team is focused on cost management and execution. Liberty management made significant operational strides over the last year to prepare for the 2020 season, but these efforts won't fully be recognized in this year's financial results.
In order to create a more balanced business and smoothed the dramatic seasonality of Liberty, we've been working to provide franchisees and customers more value-added all season products and services. We will provide more details for these initiatives as they are rolled out to the market. Additionally, we are currently planning to add Liberty Tax offices and kiosks within our American Freight and Buddy's stores for the 2021 tax season. Not only will combining these locations increase foot traffic for both brands, but we plan to cross-promote between the businesses to drive our brands forward.
Our operating leverage will allow us to drive higher net margin at Liberty, while hopefully increasing revenue at American Freight and Buddy's. The true value of combining our brands will be further evident when we begin to refranchise these locations and are able to sell two businesses in one location to prospective franchisees.
Finally, I would like to discuss our Buddy's Home Furnishings business. Buddy's is a specialty retailer that franchises and operate rent-to-own stores. Rent-to-own stores lease durable goods such as electronics, furniture appliances and household accessories. Throughout the pandemic, Buddy's has remained more than 95% open as an essential business providing critical household products. And consistent with our experiences in rent-to-own during past economic downturns, the business has remained resilient.
Buddy's, like others, experienced reduced foot traffic and dramatic increase of online sales and business improvement from the impact of government stimulus. In April and May, Buddy's realized a 58% and 56% increase in online orders respectively over prior year periods. Buddy's commitment to retain all associates, stagger daily schedules and create remote work arrangements, kept its associates centered on serving our local communities, while protecting both their personal and financial wellness.
Buddy's is more than 70% franchised at this time. And we expect Buddy's to be more than 90% franchised over time. With only 290 total locations and sophisticated well capitalized franchisees, we believe Buddy's has a lot of green space to grow, especially considering Rent-A-Center has over 2,300 locations in the United States and Aaron's has over 1,500 locations as well. Overall, the Franchise Group of Companies have proven to be extremely resilient and have performed better than planned in the first quarter and are expected to combine to track at or above the company's plan for the balance of the year.
Before turning the call over to Eric, I would like to thank all of our associates for their hard work and dedication to our company in a very difficult environment. Eric, the floor is yours.
Eric Seeton -- Chief Financial Officer
Thank you, Brian. Before I address the results of operations, I would like to remind you that we will be making many references to pro forma items throughout this call. Our press releases and filings may refer to historical financial results for the acquired businesses prior to their acquisition by Franchise Group. These items have been adjusted to align with our recently changed fiscal calendar and accounting policies to the extent practicable.
Comparison to pro forma results will allow us to discuss and evaluate performance of the acquired companies when a comparable period is not available due to the recent timing of the acquisition. For example, our recent 10-K/T filing reflects our new fiscal year end, a December retail year, but only includes results of Buddy's, Sears Outlet and The Vitamin Shoppe from their respective acquisition dates through December 28, 2019.
The 10-Q that we will file this afternoon, contains the actual results for our businesses and reflects our ownership of American Freight Furniture and Mattress from February 14 through the end of the quarter. When discussing our pro forma results or comparable results to prior periods, we will include American Freight's results as if we owned it since the beginning of the fiscal year.
For the first quarter of 2020, total reported revenue from Franchise Group was $592.6 million compared to our May 5 guidance of $585 million to $605 million. GAAP net income was $61.9 million or $2.51 per share compared to our guidance of $19 million to $24 million or $0.54 to $0.67 per share. Pro forma adjusted EBITDA was $112.2 million compared to our guidance of $83 million to $103 million. Non-GAAP EPS was $2.11 per share compared to our guidance of $1.25 to $1.58 per share.
In calculating GAAP EPS, the company utilized 23.7 million weighted average fully diluted shares outstanding for the first quarter. In calculating non-GAAP EPS and formulating guidance, the company utilized 35.1 million fully diluted shares outstanding. We generated revenue in line with the Q1 estimate we provided on May 5 and we exceeded our GAAP and non-GAAP EPS.
We have four reportable segments; American Freight, The Vitamin Shoppe, Liberty Tax and Buddy's. For the three month period ended March 28, 2020, American Freight have revenue and pro forma adjusted EBITDA of $202.7 million and $28.4 million respectively. The Vitamin Shoppe have revenue and pro forma adjusted EBITDA of $275.9 million and $30.2 million respectively. Liberty Tax have revenue and pro forma adjusted EBITDA of $89.6 million and $51.4 million respectively. And Buddy's have revenue and pro forma adjusted EBITDA of $24.3 million and $5.3 million respectively. Liberty Tax typically has a majority of its revenue and EBITDA in Q1 due to the timing of the tax season. As Brian mentioned earlier, the change in the tax filing deadline has created some new challenges at Liberty, which will create a lag in the end of the season revenue.
Turning to our balance sheet and cash flow, during the first quarter, we took specific actions to bolster our liquidity position consisting of working alongside suppliers and landlords to extend terms where possible. For the quarter, we have free cash flow of $109.6 million defined as operating cash flow less capital expenditures. Overall, we have a very low capex needs and have a relatively small budget each year. The most material capex programs we had are tied to new store openings as opposed to maintenance.
Capex for the quarter was $6.3 million, which included $1.4 million for the rebranding of the Sears Outlet stores to American Freight. We estimate that the total rebranding cost will be approximately $4.5 million and should be completed during the second quarter of this year. At the end of the quarter, we had $147 million in cash and outstanding debt of $811 million and $0.5 million.
During the first quarter, we acquired American Freight for $450 million in cash and simultaneously recapitalized Buddy's and Outlet through $575 million term loan and $100 million asset-based line of credit. Subsequent to the end of the quarter, we amended The Vitamin Shoppe term loan to allow us to prepay debt used to acquire the company.
By the end of our first year of ownership, we anticipate eliminating $42 million of the $70 million in initial term loan. Additionally, Liberty Tax had a revolving line of credit that had an outstanding balance of $22 million at March 28, 2020. And they have subsequently fully repaid this line as the facility terminated on April 30. We are currently in process of obtaining a new credit facility to help support Liberty Tax and its franchisees during the off-season.
As the U.S. government began providing stimulus during the pandemic, we continually evaluated all opportunities available to us. In conjunction with our professional advisors, we are participating in three Care Act programs. The first and most material opportunity has been our ability to take advantage of the five year net operating loss carryback provision with regard to income taxes. We amended certain 2018 and 2019 federal tax returns to carryback NOLs to taxable years when the comp rate was 35% compared to the current rate of 21%. These actions in aggregate are expected to provide us with the cash benefit of approximately $53 million. In addition, we have taken advantage of the opportunity to defer payroll taxes for the balance of 2020, providing us effectively an interest-free loan estimated to be $14 million, which will be 50% payable on December 31, 2021 and 50% payable on December 31, 2022.
Finally, under the CARES Act, we are working on obtaining employee retention credits, which we estimate could be worth over $3 million. And those are earned by keeping our exempt associates at their full salaries regardless of contribution during the pandemic. In conjunction with our balance sheet and business performance, we believe we have sufficient liquidity to continue to meet all of our obligations and support all of our businesses for the foreseeable future.
I will now turn the call back to Brian to discuss our guidance for the remainder of the year.
Brian R. Kahn -- Chief Executive Officer
Thanks, Eric. As you all can see from our results, we have a very resilient model that is performing ahead of expectations, despite the impacts of COVID-19. On March 11, we provided preliminary guidance for 2020 of revenue of $2.1 billion to $2.15 billion, pro forma adjusted EBITDA of $230 million to $240 million and non-GAAP earnings per share of $2.35 to $2.55 per share, all of which assumed we own American Freight for the full year. As of today, we believe we will be at the high end of that range for revenue and pro forma adjusted EBITDA and our raising our non-GAAP earnings per share guidance to at least $2.60. I want to thank all of our shareholders and lenders for their support to date, putting all of these businesses together in short order was no easy task.
Operator, please open the line for questions. Thank you.
Questions and Answers:
Operator
Thank you. [Operator Instructions] I'm not showing any further questions. I would now like to turn the call back over to Brian Kahn for closing remarks.
Brian R. Kahn -- Chief Executive Officer
Okay. Thank you all again for joining us this afternoon. Operator, you can please conclude the call.
Operator
[Operator Closing Remarks]
Duration: 27 minutes
Call participants:
Andrew F. Kaminsky -- Executive Vice President & Chief Administrative Officer
Brian R. Kahn -- Chief Executive Officer
Eric Seeton -- Chief Financial Officer
