ONE Group Hospitality, Inc. Q1 FY2024 Earnings Call

Greetings, and welcome to The ONE Group First Quarter 2024 Earnings Conference Call. As a reminder, this conference is being recorded. I would now like to turn the call over to Tyler Loy. Please go ahead.

Thank you, operator, and hello, everyone. Before we begin our formal remarks, let me remind you that part of our discussion today will include forward-looking statements. These forward-looking statements are not guarantees of future performance, and you should not place undue reliance on them. These statements are also subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Please also note that these forward-looking statements reflect our opinion only as of the date of this call. We undertake no obligation to revise or publicly release any revisions of these forward-looking statements in light of new information or future events. We refer you to our recent SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial condition. During today's call, we will discuss certain non-GAAP financial measures, which we believe can be useful in evaluating our performance. However, the presentation of these measures or other information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP. For reconciliations of these measures, such as adjusted EBITDA, adjusted net income, restaurant operating profit, comparable sales, and total food and beverage sales at owned and managed and licensed units to GAAP measures. Along with the discussion of why we consider these measures useful, please see our earnings release issued today. With that, I'd like to turn the call over to Manny Hilario.

Thank you, Tyler, and hello, everyone. We sincerely appreciate you joining us today and for your interest in The ONE Group. To begin, I would like to express my gratitude to each of our dedicated team members, including the nearly 6,500 new teammates who joined The ONE Group last week with the closing of the acquisition of Safflower Holdings Corp., the parent company of the Benihana and RA Sushi restaurant brands. For the remainder of this call, we will be referring to Safflower Holdings as Benihana. Thanks to our remarkable teams, we have solidified our leadership position in the high-end and polished casual dining segment. Let's discuss highlights from this first quarter 2024 and provide an update on the strategic initiatives that shaped the quarter. First, despite a challenging sales environment, we grew sales 3% to $85 million, driven by the strength of our company-owned new restaurants, which contributed significant revenues at margins above the rest of the system. Second, with only moderate pricing and stickier-than-expected inflation, we kept restaurant-level margins intact at 16%. This was enabled by the cost-saving initiatives that we enacted in the fourth quarter of last year, which generated approximately $3 million in restaurant operating profit throughout the quarter. Next, we managed G&A effectively as G&A, excluding stock-based compensation as a percentage of revenue improved by 20 basis points year-over-year. All of this resulted in $10.5 million in adjusted EBITDA, nearly in line with last year despite the tough consumer environment experienced throughout the industry. During the quarter, we celebrated the opening of our 28th STK Steakhouse. The restaurant is located in Washington, D.C. across from the Walter E. Washington Convention Center and inside the Marriott Marquis Hotel. The opening of this new STK marks an important step in The ONE Group's strategic expansion initiatives and long-term growth strategy. We are thrilled to be welcoming new guests to this exquisitely designed restaurant and providing them with a truly memorable dining experience. Looking ahead, we remain laser-focused and continue to drive top-line growth while further enhancing operational efficiencies. Key strategic priorities for 2024 include: first, a focus on driving sales. Similar to others in the industry, during the first quarter, we experienced a decrease in comparable store sales due to a choppy and challenging consumer environment. As a result, we have focused our efforts on delivering value, coupled with strong execution. We continue to promote our $3, $6, and $9 Happy Hour menu at both brands, and our $69 and $39 Steak Night America offerings at STK and Kona Grill, respectively. In addition, to cater to those looking for higher-end experiences, we continue to innovate our culinary program with premium product lines. To amplify these value-driven and experiential offerings, we are leveraging our robust digital marketing capabilities supporting these strategies, coupled with a relentless focus on delivering fantastic guest experiences. We are confident that we can successfully navigate the current challenging sales environment and drive sustainable sales growth. Our second key priority is to improve Kona Grill margins. At the end of 2023, we performed an in-depth review of our Kona Grill portfolio of restaurants and determined that about 1/4 of the 24 restaurants we acquired are underperforming due to challenging real estate. The bifurcation of performance continued into the first quarter as our core base of restaurants saw significantly healthier margins than these other locations. As previously mentioned, we will address each of these locations on a case-by-case basis. As we look at our pipeline of new units, we expect the new Kona Grills to have a target AUV of $5 million and a 70% restaurant-level margin. For both the STK and Kona Grill brands, we have implemented several key initiatives to improve restaurant operating profit and overall profitability. Managing the menu and product mix is one, enhancing purchasing efficiencies for both food and operating supplies, maximizing productivity through smart scheduling practices, evaluating all third-party vendor relationships, and reducing travel costs. We saw these initiatives take hold during the quarter as we were able to maintain margins. We are confident that this momentum will continue throughout 2024 as we further optimize operations. Our third key priority is to rely on self-funded growth for company-owned operations. As I previously mentioned, this year, we have opened one company-owned STK in Washington, D.C. For the remainder of the year, we expect to open an additional 5 to 7 new STK and Kona Grill venues, which includes 1 to 3 company-owned STKs, 2 company-owned Kona Grill, and 1 to 2 managed or licensed units. We also plan to open 1 to 2 company-owned Benihana and 1 company-owned RA. There are currently 4 company-owned restaurants under construction in the following cities: an STK restaurant in Aventura, Florida at the Aventura Mall, a Salt Water Social, which is a high-end seafood vibe dining restaurant, that will be located in Denver, Colorado, in the Cherry Creek neighborhood, a Kona Grill restaurant in Tigard, Oregon at the Bridgeport Village, and RA Sushi restaurant in Plantation, Florida. Over the long term, we plan on growing 3 to 5 new units of each of our growth brands, STK, Kona Grill, and Benihana. We view this as a proven and scalable international platform with compelling whitespace. We see an addressable market of over 800 venues, which includes 400 restaurants for Benihana U.S. alone, 200 STKs, and 200 Kona Grills. We are clearly in the early innings of a robust growth strategy. Our fourth key priority is the successful integration of Benihana. This acquisition not only aligns with our vision of being the undisputed global leader in vibe dining, but it will also generate tremendous synergies. From our ability to manage commodity costs at scale, drive menu mix through culinary innovation, leverage our combined digital databases and digital capabilities, and utilize our robust reservation management system, we have a tremendous opportunity to create value for our shareholders through this combination of top entertainment brands. Lastly, our fifth key priority is to continue to return value to our shareholders through share repurchases. We generate tremendous cash flow, and we believe there is an opportunity to leverage our internally generated cash to create balance between growth and shareholder accretion via share count reduction. To this end, earlier this year, the company's Board of Directors authorized a $5 million share repurchase program on top of the $50 million program that was already completed last year. To conclude, I'm pleased with how we have kicked off the new year despite navigating a particularly challenging restaurant environment. This is a testament to the fantastic job our team is doing. We believe that our strong leadership team combined with our strategic initiatives positions us well to navigate the evolving market conditions and capitalize on growth opportunities. We are excited for the future, and we will remain focused on executing our strategy and enhancing shareholder value. I will now turn the call over to Tyler.

Thank you, Manny. Let me start by discussing our first quarter financials in greater detail. Total GAAP revenues were $85 million, increasing 3% from $82.6 million for the same quarter last year. Included in our total revenue is our owned restaurant net revenues of $81.5 million, which increased 3.7% from $78.6 million for the same quarter last year. The increase was primarily attributable to the opening of 6 restaurants since July of 2023. This was partially offset by a 7.9% decrease in comparable sales, consisting of a 6.8% decrease at STK and a 9.7% decrease at Kona Grill. Management, license, and incentive fee revenues were $3.5 million, decreasing 12.3% from $4 million in the first quarter of 2023. The decrease was primarily attributed to decreased revenues at our STK restaurants in North America and the exit out of STK Westminster as we consolidated our London operations in the fourth quarter of 2023. Owned restaurant cost of sales as a percentage of owned restaurant net revenue improved 100 basis points to 23% in the first quarter of 2024 compared to 24% in the prior year, primarily due to operational cost reduction initiatives, product mix management, and pricing offset by cost inflation. Owned restaurant operating expenses as a percentage of owned restaurant net revenue reached 130 basis points to 60.9% in the first quarter of 2024 from 59.6% in the first quarter of 2023, due to fixed cost deleveraging and operating cost inflation, partially offset by operational cost reduction initiatives. Restaurant operating profit was 16.1% for the first quarter of 2024, compared to 16.4% in the first quarter of 2023. On a total reported basis, general and administrative expenses were flat at $7.5 million for the first quarter of 2024 and 2023. When adjusting for stock-based compensation, adjusted general and administrative expenses were $6.2 million in the first quarter of 2024 and 2023. Pre-opening expenses were $2.9 million compared to $1.3 million in the prior year. The increase was related to payroll, training, and non-cash pre-open rent for STK Washington, D.C., which opened in March 2024, and STK and Kona Grill restaurants currently under development. Interest expense was $2.1 million in the first quarter of 2024 compared to $1.8 million in the first quarter of 2023. The income tax benefit was $0.3 million in the first quarter of 2024 compared to an income tax expense of $0.2 million in the first quarter of 2023. Net loss attributable to The ONE Group Hospitality, Inc. was $2.1 million or $0.07 net loss per share compared to a net income of $2.6 million in the first quarter of 2023 or $0.08 net income per share. Adjusted net loss was $0.6 million or $0.02 adjusted net loss per share compared to an adjusted net income of $3.2 million in the first quarter of 2023 or $0.10 net income per share. Adjusted EBITDA for the first quarter attributable to The ONE Group Hospitality, Inc. was $10.5 million compared to $10.9 million in the first quarter of 2023. We have included a reconciliation of adjusted EBITDA and adjusted net income in the tables in our first quarter 2024 earnings release. During the first quarter, our Board of Directors authorized an additional $5 million share repurchase program. However, there were no stock repurchases in the first quarter of 2024. Now I would like to provide some forward-looking commentary regarding our business. This commentary is subject to risks and uncertainties associated with forward-looking statements as discussed in our SEC filings. We always remind our investors that the actual number and timing of new restaurant openings for any given period is subject to a number of factors outside the company's control, including macroeconomic conditions, weather, and factors controlled by landlords, contractors, licensees, and regulatory and licensing authorities. Based on the information available now and the expectations as of today, we are updating our 2024 targets to include the addition of Benihana. The guidance includes projections for Benihana from May 1, the date of the acquisition until the end of the year. Beginning with revenues, we project total GAAP revenues of between $700 million and $740 million, which consists of an additional $340 million to $360 million for the addition of Benihana. Managed, franchise, and license fee revenue are expected to be between $17 million and $19 million, which consists of an additional $2 million to $3 million for the addition of Benihana. Total owned operating expenses as a percentage of owned restaurant net revenue are approximately 83%. Total G&A, excluding stock-based compensation, is approximately $40 million, with adjusted EBITDA of between $95 million and $100 million. Restaurant preopening expenses are between $7 million and $9 million, with an effective income tax rate of between 5% and 10%. Total capital expenditures, net of allowances received from landlords, are estimated to be between $50 million and $60 million. And finally, we plan to add 8 to 11 new venues in 2024. Based on the guidance discussed, coming out of 2024, our annual run rate system-wide F&B revenues will exceed $1 billion. Our run rate GAAP revenues will be approximately $950 million, and our run rate adjusted EBITDA will be greater than $140 million.

Thank you, Tyler, and thank you all for your time today and your interest in The ONE Group. We are in the early stages of our long-term growth strategy as we continue to build a portfolio of high-volume brands with compelling returns for our shareholders. We've recently added Benihana and RA Sushi, two vibe and entertainment dining brands that will diversify and strengthen our industry-leading portfolio of world-class experiential restaurant concepts and blend perfectly with STK and Kona Grill. This is an exciting time to be part of this company, and we appreciate your support. Tyler and I would be happy to answer any questions that you may have. Operator?

Your first question comes from Jim Salera, Stephens Inc.

Manny, I was curious if you could maybe level set what you saw from the consumer during the quarter. And just kind of run that versus the results versus your expectations. I know we hear a lot about consumer engaging in value-seeking behavior, especially with restaurants. If you can just give us an idea for the appetite for some of the experiential dining that you talk about, and how that aligns with what the consumer is engaging in with kind of a value-oriented lens right now?

Yes, that's a great question. As we mentioned in last quarter's call, the sales environment has been somewhat inconsistent, which makes sales predictability week-over-week more challenging. When it comes to consumer behavior, we observe that customers are increasingly choosing our Happy Hour options; the $3, $6, and $9 price points are performing strongly. There is definitely a shift towards Happy Hour offerings. Regarding the dinner sets at STK, we have noticed two trends. Some customers are sharing more at the table, while others are still opting for premium items like Wagyu. There appears to be a split in behavior among STK patrons. Overall, I see increased interest in our lower-priced menu items, but at the same time, many consumers are still willing to invest in high-end products.

Okay. Great. And then maybe if I can just ask a question on the new unit side. Can you just give us an update on any labor delays or permitting issues? We know that depends on where you're opening stores but we've heard some other restaurant operators may have delays.

Yes, that's a great question. In the past, we typically planned for a permitting cycle of 3 to 6 months, but now we believe it's more like 9 months. We've added an extra 3 months to the permitting timeline. The process has become longer, with more back and forth and slower responses to submissions. Generally, when we develop new units and open new stores, there's a lot of excitement. The potential for growth is significant when we open in great locations, like our recent opening in Washington, D.C., where we see a tremendous amount of business because consumers are seeking something unique and experiential, which results in strong initial revenue.

Your next question comes from Mark Smith, Lake Street.

Similar to the last question, just on consumers. Just curious, as you look at... can you just talk any more about Kona Grill consumers, more so than STK, and any changes in behavior during the quarter?

For the quarter, Tyler and I were discussing this earlier. I would expect that consumers would have traded down on the product mix, but our product mix only traded down 3 points. So we don't see a lot of trade-down at Kona Grill. The reality is they are gravitating towards, as I mentioned earlier, the $3, $6, $9 price points on the Happy Hour. We also feature $39 Steak Night America at Kona Grill. Value is king, and consumers are gravitating towards that, but the higher-end consumers are still choosing premium products like Wagyu.

As we think about the Benihana consumer, any initial thoughts that you have on potential behavior if maybe they lean more towards the higher-end STK consumer or maybe more like the Kona consumer? Any broad thoughts you have would be great.

Yes. My early observation is that there's a lot of celebrations. The behavior of Benihana has not really changed. I do think that there's a significant upside at Benihana on premium products. I think there's room for us to introduce some premium products that we have access to through our STK program, particularly Wagyu. We think you'll see us introducing seasonal products at a higher price point. There's a group of consumers in that brand that will opt for premium. We also think there is nice upside on beverage, not just because of the offerings, but because of the service style. We believe that drinks don’t play a major role now, but we think that over the next couple of months, we'll be emphasizing beverage and the bar, which will help the average check as well as profitability for Benihana over the next year or two.

Perfect. I think the last one for me, and I apologize that I missed some of this. Of the... I think it's 8 to 11 new restaurants expected this year. Can you go through the breakdown of those again, and any expectations on kind of near-term Q2 openings?

Sure, Mark. This is Tyler. So it's going to be one company-owned RA, 1 to 2 company-owned Benihana locations, one Salt Water Social in Denver, 1 to 2 Kona Grill, and then 3 to 4 STKs.

And the next one coming out the chute is going to be STK in Aventura, Florida. That will be our next opening. Then afterwards, we have Salt Water Social, RA, and a Kona Grill, all expected to open around the middle of the third quarter. The rest will open towards the end of the third quarter and early fourth quarter.

And sorry, Mark, that was 2 to 3 Kona Grill.

Yes, 2 to 3, not 1 to 2.

Your next question comes from Michael Symington, Wedbush.

This is actually Michael on for Nick at Wedbush. Two quick questions. Could you provide the comp breakdown in Q1 for both STK and Kona?

Yes. Give me one second. It was minus 6.8% for STK, Michael, and minus 9.7% for Kona Grill.

And then traffic...

Sorry, in terms of traffic and pricing embedded in that?

Yes, I've got it. So checks down at STK minus 4% and an average check was minus 2.5%, with pricing in that average check up 4%. And then for Kona Grill traffic was down 14%. Pricing, our average check was up 4.5% with pricing up 7% in there.

I mean the prototype ones have performed really well, the new ones. The new ones have been performing as expected on the margin. The Kona Grill brand has core restaurants that have an average margin of about 13% plus. Six Kona restaurants need significant work due to subpar real estate. I think the margin fix for Kona Grill is to continue opening those new restaurants. The core ones still have solid margins for the casual sector. We need to work on the older six restaurants to improve them. Overall, I'm pleased with the progress on the new restaurants regarding the margin side.

Your next question comes from Roger Lipton, Lipton Financial.

Manny, Tyler, congratulations on getting the deal completed so quickly. A couple of questions. It sounds like the synergies from combining the companies is going to be in place pretty quickly. Can you give us some idea of where that's coming from? The run rate by the end of this year will be pretty much in place. So that's the first question. Second question is, what does the current balance sheet look like post the closing in terms of cash and long-term debt?

Yes. The initial synergies we are working on are with our supply chain. We’ve started to look at beef and integrating our supply chain due to our strong purchasing power in that area. We see significant potential there. There are also efficiencies with rebates and other supply chain aspects. The operational efficiency outlook is encouraging as well; for instance, we have a call center that will provide labor efficiencies at restaurants once our services come in. So that's looking pretty good.

And then, Roger, in terms of the balance sheet, in the previous IR presentation, we stated it would be a little north of $50 million there on the balance sheet. Debt after the transaction will be about $350 million, so net debt we anticipate to be around $300 million. We also have a $40 million revolver tied to this new debt deal with no covenant requirements. We only have financial covenants if we draw over a certain amount on our revolver, which we currently have no plans to do in the near future.

Thank you, everyone, for joining today. Again, thanks to our over 10,000 teammates who work very hard every day to live our mission of creating great memories through exceptional experiences at our restaurants for every guest, every time. So thank you for that. I look forward to seeing you all out in our restaurants. Everyone, have a great day.

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your line.