Pizza Pizza Royalty Corp.

Ladies and gentlemen, thank you for standing by and welcome to the Pizza Pizza Royalty Corp's earnings call for the second quarter of 2022. During the presentation, all participants will be in a listen-only mode. After the speaker's remarks, there will be a question and answer session. If you'd like to ask a question during this time, simply press star then the number one on your telephone keypad. As a reminder, this conference call is being recorded on August 10th, 2022. I would now like to turn the conference call over to Mr. Alexander Suratin, Director of Finance. Please go ahead.

Thank you. Good afternoon, everyone, and welcome to Pizza Pizza Royalty Corps' earnings call for the second quarter ended June 30, 2022. Joining me on the call today are Pizza Pizza Limited's Chief Executive Officer, Paul Goddard, and Chief Financial Officer, Christine Da Silva. Our discussion today will contain forward-looking statements that may involve risks relating to future events. Actual events may differ materially from the projections discussed today. All forward-looking statements should be considered in conjunction with the cautionary language in our earnings press release and the risk factors included in our annual information form. Please refer to our earnings press release and MD&A in the investor relations section of our website for reconciliation and other disclosures related to our non-IFRS financial measures mentioned on this call. As a reminder, Analysts are welcome to ask questions after the prepared remarks. Portfolio managers and media can contact us after the call. Before turning the call over to Paul for the business update, I wanted to spend a few moments reviewing the structure of the corp for our new investors. Pizza Pizza Royalty Corp indirectly owns the Pizza Pizza and Pizza 73 brands and trademarks through its subsidiary Pizza Pizza Royalty Limited Partnership. This partnership has two partners. Pizza Pizza Royalty Corp, the public company, which owns 76.5%, and the other partner, Pizza Pizza Limited, the private operating company, which owns the remaining 23.5%. The Royalty Corp is a top-line restaurant royalty corp that earns a monthly royalty through a lease agreement with Pizza Pizza Limited. In exchange for the use of the Pizza Pizza and Pizza 73 trademarks in its restaurant operations, Pizza Pizza pays the partnership a monthly royalty calculated as a percentage of royalty pool sales. Growth in the corp is derived from increasing the same store sales of the restaurants in the royalty pool and by adding new restaurants to the pool each year. The royalty pool is adjusted at the beginning of each year by adding new restaurants opened in the previous year, less any restaurants that have been permanently closed. For the fiscal year 2022, the royalty pool was adjusted on January 1st, 2022, to include 624 Pizza Pizza restaurants and 103 Pizza 73 restaurants. With that review, I'll turn the call over to Paul Goddard to provide a business update.

Thanks, Alex, and welcome, everyone, to Pizza Pizza's second quarter investor conference call. Today, I'll discuss our second quarter results, and then Christine will summarize our key financial highlights for the Q&A at the end of the call. We are very pleased to report strong sales and earnings per share growth for the second quarter. Our results were driven by a 20.3% sales and 19.5% growth in adjusted earnings per share, both of which are drivers of shareholder value. As a result, our board was pleased to announce a 3.8% increase in the monthly dividend effective June 2022. And this marks the second dividend increase in 2022, supported by a healthy $6.5 million working capital balance. So building on the momentum of the first quarter, we continue to see growth in our walk-in and non-traditional channels, as well as our pickup category. And we're also excited to see many of our special events, major special events especially, return this summer, such as Honda Indy, lots of conventions, music festivals, Calgary Stampede Out West, and many more. And the consumer demand for hot and fresh pizza slices has been exciting to see after these past few years. And the lifting of COVID-19 government restrictions this year provided relief in all channels. It was as though the lights turned back on, which is fantastic to see. Our non-traditional sales channel, which was 10% of total sales pre-COVID, is being restored, and we expect universities and colleges to reopen fully in the fall. We continue focusing on our core competitive advantages of convenience, innovation, high-quality menu offerings, and, of course, our restaurant network expansion. Further enhancements continue to be made in regards to product development and operational programs. Internally, we continue to enhance our already strong operational excellence in our day-to-day operations. And that's both on the food level, of course, and our customer service. And we're really happy with an amplified effort in recent quarters, especially on that internally. And based on customer feedback, our execution, where it matters most of all, continues to improve. We have two fully staffed customer contact centers that have been very active taking care of customer orders and also working towards securing school, business, and other large catering orders. Returning to our marketing and food innovations, this spring, Pizza Pizza continued to focus on pizza quality and innovation via our Gourmet Thins food innovation campaign. Four new recipes were introduced, along with our first vegan Gourmet Thin option, and during this promotional period, we saw our Gourmet Thins category sales more than double, and sales have remained strong. Ongoing innovation in the pizza category continues to be a critical component of our food quality and innovation strategy, introducing customers to high-quality and on-trend ingredients. As we expand our menu offerings into new categories, such as chicken sandwiches, where we've done really well, beer, of course, and dessert offerings, and many more, it remains critical to still maintain focus on our best-in-class pizza offerings. Both brands continue to find success winning the moment as we work to build brand relevance around key occasions and sales opportunities throughout the quarter. In April, Pizza Pizza launched a renewed 420 strategy, offering four small pizzas for $20, High-impact media placements, including massive billboards in Yonge and Dundas Square, were purchased, which, along with a highly effective social media campaign, catapulted Pizza Pizza to the number one brand associated with the 420 occasion and resulted in a 60% sales increase on the day versus last year. Similar success was achieved at Pizza 73 as we leveraged our team sponsorships and incremental paid media to associate the brand with a rare Battle of Alberta playoff series that ended with the Edmonton Oilers advancing. Unfortunately, that one didn't last that long, but we still saw some nice increase in activity when that Battle of Alberta was on. We also continue to leverage new partnerships to expand the sales opportunity for each Pizza Pizza and Pizza 73 location. This spring, we launched a pilot program with Chinese-language third-party delivery service Tantuan at over 30 Pizza Pizza locations. If the pilot proves successful, we will expand to all applicable Pizza Pizza and Pizza 73 locations. We also expanded our pioneering Ben & Jerry's ice cream virtual store pilot to over 130 Pizza Pizza locations, with significant incremental sales realized immediately from this net new category, along with the ongoing efforts of introducing beer on both Pizza Pizza and Pizza 73, where over 100 locations are live and more coming online weekly. Leveraging our spaces for maximum sales benefits, both from our traditional business and new opportunities such as these, and they'll continue to be a perfect priority for us for both brands. At both Pizza Pizza and Pizza 73, our marketing strategies are structured to support restaurant profitability while also increasing customer orders and order frequency. Whether you prefer to phone 967-1111, tap your Pizza Pizza app, or simply walk into your local neighborhood Pizza Pizza. And, of course, all of our campaigns are supported holistically by our in-house marketing team who design and create it and deploy it on an array of assets from radio, flyer, billboards, and on our multiple social media and digital channels. So obviously, we continue to be very pleased with our overall momentum and continue to work plans and strategies to further enhance our customers' experience. On the flip side, we, like the rest of the world, continue to face significant inflationary cost increases across our supply chain and restaurant labor. We successfully have been able to balance an increase in customer traffic while selectively taking many price increases. We know our customers are looking for value. It's a core, core part of our brand. They also want quality, so we have to find the right balance there of perceived value for money. We are really good at that, and we don't always get it exactly right, but I think we have a pretty good track record of finding that balance quite well. It's a fine line to walk, and we need to keep customers happy, of course, while also simultaneously doing all we can to drive not just sales growth, but also profitability for our restaurant owner-operators and our private operating company, Pizza Pizza Ltd. I should mention, too, though, that realty court investors are, of course, insulated from that operational risk since our key drivers for investors are limited to same-store sales growth and net restaurant network growth. So turning to that restaurant network growth, during the quarter, PPL opened five traditional and three non-traditional pizza restaurants. And meanwhile, two traditional and five non-traditional pizza restaurants were closed. Over at the Pizza 73 brand, we opened one non-traditional location and closed one traditional and one non-traditional restaurant. The new restaurants were opened outside of our core markets as we continue to expand our footprint across Canada. And as an interesting quarter as well, we really were all over the place. We had some openings in Quebec, sold in Lake Alberta. We had a conversion to a Pizza Pizza, downtown Vancouver opening down on Robson Street, one in Saskatchewan. And we've also been really accentuating our non-traditional locations location development plan as well. And we actually had, I think, two out of three openings there were at high volume service stations and one in a landmark cinema, movie theater. So lots going on there and, you know, happy to see that growth that we've really been pushing, carrying on across the country. Pizza Pizza Limited's management team expects to continue its restaurant network expansion to hit our three to four percent traditional restaurant growth target. And by the way, we've had that higher last year, and we think we can do better than that, but we're being a little conservative, I think. We've been very happy with the franchisee pipeline and very happy with our siting. Our real estate team has been great at finding locations in our core markets and in newer markets, be it Quebec, B.C., or in more remote areas of the Maritimes or what have you. But we have seen these supply chain issues, and that's why we've reduced our target a little bit because we've seen issues with things like oven – lead times. We've had issues with permit approvals with the government institutions at the different levels. It's been very much slower than last year even. And so that has impacted us. But on the bright side, I think commercially, the things that we can control, we're moving as fast as we can. And that's working really nicely. So we'll see how we do. But we're saying, I would say, conservatively 3% to 4%. And hopefully, we'll do a little bit better. We realize we're a little slow compared to last year in terms of where we are at this point in the calendar year. But our team's very confident that it's going to be a busy couple of quarters coming up here, and hopefully we'll finish maybe a little bit of that. We'll see. And to date, I would say as well that we're really proud to say that over 80% of our restaurants now feature our hot and fresh new look and or a refresh on the interior and exterior. And significant upgrades continue to be made in regards to restaurant equipment, such as new and more efficient ovens, digital menu boards, and in-store technology. And this quarter, the first full quarter without restrictions, exceeded our expectations. Our business has really returned to its full capacity and more. And it's just great to see all the hard work really paying off. And so it's super exciting. And I think it's also motivating for our internal team and our operators out there and hopefully customers as well. They seem to be agreeing with us that, hey, we're really reinvesting, we're really refreshing, and we're pushing hard to always reinvent ourselves and really lift the brand to ever new heights. And our restaurants and operators were refreshed and excited to serve all of our loyal customers returning to the stores. We knew our brand was resilient, and we want to thank all of our restaurant owner operators, our passionate employee team, and our devoted customers for continuing to support our brand during the last two-plus years of COVID. Our restaurant network growth continues to be very strong, as I said, and as we continue to scale effectively, we've only become stronger. So we look forward to the rest of the year, continued momentum from the return to full operations. Thanks for listening and tuning in today, and I'll now ask Christine to provide a brief financial update.

Thanks, Paul. Same-store sales growth, the key driver of yield for shareholders, increased 20.3% for the quarter, with Pizza Pizza reporting 24.6% growth and Pizza 73 reporting a slight decrease of 0.7% for the quarter. Growth sales reported by the restaurants in the royalty pool for the quarter increased was $142.5 million, a 20.8% increase as compared to $118 million in the second quarter of 2021. By brand, sales from the 624 Pizza Pizza restaurants in the royalty pool increased 24.6% to $122.9 million, and sales from the 103 Pizza 73 restaurants increased 1.3% to $19.6 million for the quarter. For the six-month period, sales increased 17.3% to $265.4 million from $226.2 million in the prior year's comparative period. The partnership's royalty income earned as a percentage of royalty pool sales increased 19.3% to $9.1 million for the quarter and 16.1% to $17.1 million for the six-month period. The increase in royalty pool sales and royalty income for the quarter was largely driven by the lifting of COVID-19-related restrictions, the reopening of non-traditional locations, both of which led to an increase in customer traffic, coupled with the increase in the average check during the period. Turning to partnership expenses, administrative expenses, which include director, legal, and auditor fees, as well as public company listing costs, were $169,000 for the quarter, and $281,000 for the six-month period. In addition to administrative expenses, the partnership pays interest expense on its $47 million credit facility. The interest paid in the quarter was $320,000 and $676,000 for the six-month period. The partnership is currently making interest-only payments on the non-revolving credit facility. The interest rate is locked through April 2025 using swap agreements that fix the interest at a banker's acceptance rate of 1.81% plus the credit spread. The credit spread ranges based on the level of debt to EBITDA. In April of 2022, due to the increase in the partnership's earnings, the credit spread on the facility decreased by 25 basis points for a combined interest rate now at 2.685%. So after the partnership has received royalty income, paid administrative and interest expense, The resulting net cash is available for distribution to its two partners based on their ownership. During the quarter, the company increased its dividends for the second time this year. The company declared shareholder dividends of 19.75 cents per share, or 4.9 million, compared to 4.1, or 16.5 cents per share in the comparable period of 2021. The resulting payout ratio for the current quarter was 94%. For the six-month period, the company declared dividends of $9.5 million, or $38.75 per share, compared to $8.1 million, or $0.33 per share, in 2021. The payout ratio for the six-month period is 100%. The company has a healthy working capital reserve of $6.5 million as of June 30, 2022, and this is an increase of $300,000 in the quarter. With government mandated restrictions lifted, the company will continue to monitor sales and royalty income to determine when additional dividend adjustments may be warranted. With the financial overview complete, I'd like to turn the call back to our operator to pull for questions.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by one on your touchtone phone. You will hear a three-tone prompt acknowledging your request and your questions will be pulled in the order they are received. Should you wish to decline from the pulling process, please press star followed by two. And if you're using a speakerphone, please lift your handset before pressing any keys. One moment for your first question. Your first question comes from Derek Lazard with TD Securities. Please go ahead.

Yeah, good afternoon, everybody. And I just wanted to give you guys congratulations to you and the franchisees. This is a really great sales quarter for you guys. Thanks, Derek. Appreciate it. Just maybe, I guess on that note, could you maybe help walk us through how you got to $123 million in system sales for Pizza Pizza? I mean, like generally speaking or seasonally speaking, Q2 tends to be the weakest quarter if I go back through your history. And $123 million, that's also a high watermark for you guys.

Well, you know, non-traditional business coming back has been key. We find that as soon as the government restrictions were lifted, just the foot traffic all over our major urban markets increased. And with that, we saw a lot of people return in person to our restaurants for our walk-in business. But additionally, locations like Canada's Wonderland, Centre Island in Toronto, they are extremely busy. People haven't been out in two years. So with the restrictions lifted, the amount of tourism in these locations has increased significantly. So we've seen a lot of incremental sales through those sites. So those have been big keys for us. As well, we have taken price, right? So on top of our traffic, there has been an increase in our average check. So that has helped drive sales.

Yeah. Can I just add to that? I think you've seen some of it really well. I was going to say, Derek, just... I mean, traffic and check, and we find the balance quite well. It's always very tricky to get that line, but it's come from kind of both buckets. Obviously, we're pretty happy with that. And especially, you know, with the volume side, we always want to get more traffic, more units sold. So it seemed like we really hit it quite nicely for this last quarter with everything sort of switched back on.

Yeah, it seems like that. And I guess maybe in the context of putting through price, just Obviously, it seems like the consumer has been able to take it. Just wondering what you're seeing in terms of maybe consumer reaction, any pushback or anything like that?

Not really. I mean, we're certainly trying to be very judicious about it, right? It's not like we've taken price everywhere across our entire menu. You know, certainly more in some areas and some products and specials and things. And we try and look at our consumer experience. data, which we're really happy with our internal system. It enables us to be pretty granular, especially with our digital transactions and things, and to see what is resonating and what isn't. So, I mean, I think we've just struck the balance pretty well. I mean, we don't always get it right. Sometimes we do see the traffic drop off if we've been a little too aggressive on price increase, but we just generally think we've hit it pretty well. I mean, most recently, although it's this next quarter that's out in the market, the fixed price offering that we put out there was a bit of a cheeky tactical campaign that got a lot of media attention, including, you know, across Canada. The Wall Street Journal even mentioned it, just saying, look, everything else in the world is going up. It's all negative, but at least you can count on an extra large $16.99 four-topping pizza from us, fixed rate for a year, if you qualify, kind of thing. So we had some fun with that one, and it got some real attention. And, you know, that's a different price point. That was actually a different, you know, kind of new special that, you know, actually is mixing quite well, by the way. But we don't expect it to be our leading special, but it's a foretopping extra large, right? It's not for everybody, but it's been really wonderful, even though it's this new quarter. But I think we're just getting our communication out there a little more, and we're trying to also be a little playful, a little more approachable, just in general, in an overarching way. And even though it's more this quarter, it's out in the public, the Everyone Deserves Pizza campaign, which is our overarching strategy of just trying to add a little more purpose and meaning to the brand itself, versus just price and value. That's always going to be our core. But we're trying to really make sure that everyone, no matter who you are, if you're a real gourmet, thin fan, or a vegan, or someone that really likes their more specialty items, or you just like a really great value of an extra large pepperoni, you can get it from us. And no matter what, we're going to make your day better. And you can come to us wherever you want. And we're going to have it at a good price. It's going to be good value for money. And I think people are starting to see that. No matter where they come from, no matter what demographic, we can kind of tailor, we have a tailored offering for everybody.

Yeah, that's, that's very helpful. And I'm noticing that too, but, and, and maybe on, on the pricing as well. And, you know, for context, the inflationary environment, I was, I was curious if it's actually, you know, working to your advantage versus, you know, like the third party delivery guys. I'm just so curious about the competitive and intensity out there and, seems to me like you're also gaining share.

Yeah, I think we feel, I mean, certainly Pizza Pizza, I mean, you know, a combination of all that, all the different channels, I mean, we've seen good strength, like we talked about, all across, really. And, you know, we have that granularity, too, to see where are we doing better, where do we still need to do better. We think there's still definitely an opportunity to do better in certain channels and things. The third-party folks, I mean, they're certainly... I've seen some of them even turn the corner and actually be profitable. They have huge marketing spend. They're not going away, at least most of them, I think. And it's a very, very powerful competitor. And we do also, I think we've been very open about the fact that we also prefer our channel for sure. But we do augment or supplement our volume by having our offerings at both brands on those platforms. And yes, they're expensive. We'd rather just have our own system. But we realize there's customers we won't otherwise reach in some cases. So we think they can actually be a great customer acquisition channel, especially in places like Quebec or B.C., where B.C. we're not as well-known as we are, say, in Quebec even, or in parts of the Maritimes. So you can kind of go on their coattails a little bit, and they benefit, obviously, from our huge volumes. And so it is sort of a bit of a coopetition scenario. But we think they have been very intensified. And out west in Alberta, I would say – They've been extremely strong there, and that has actually hurt us there in Alberta. We think we have some good plans to sort of adapt to that and then be more aggressive ourselves to do better. But they've been very, very aggressive there and some new entrants there in the third party as well. So, again, we'll use them to our advantage as well, but we want to focus on organic digital growth out there, and we are heavily reinvesting in our tech platform out there as well. There's more to come in future quarters, but suffice to say we're well on our way with a very robust, you know, revamp of our entire platform for the Pizza 73 platform. You can think of it as essentially, pardon me, what we did for Pizza Pizza, a very similar type of platform, which comes with all the different capabilities that our Pizza Pizza platform has, including data intelligence, business intelligence that we'll have, and that's still some ways away. probably six months, seven months or so, we're thinking. Still quite a bit of work to do, but a lot has been done there. And so we think that'll be another way that we can help be very competitive out there. So I don't want to go off your price point, but third parties will still need to be a choice for a lot of customers. We're going to try and use them to our advantage, but then also hopefully win back people to our organic digital platforms as much as possible, especially out there.

Okay, that's great color, Paul. And And maybe one last one for me, and I did want to touch on the pizza 73, obviously it's, um, it's a bit of a, it's how should I say it more of a stark difference in, in, in sales performance. Um, just curious on, you know, some of the, uh, some of the, uh, drivers and the, um, I guess the lower growth out West.

Yeah, I know it's true and it is quite stark. So we obviously expect more of ourselves, our team, and so do our operators. They're very proud and they don't, you know, they, uh, They want to do better and they want bigger dividend checks themselves too. And they want to keep customers as happy as possible. We do see, we have done some, you know, market research, especially in recent quarters. You know, we've been trying a lot of different things. I think some things we've been employing have a bit of a longer fuse and will take a little while, like the tech side. But also we do see very strong competition there in third party and just QSR in general and pizza players as well. We have some data saying that the pizza market is growing, not massively, but is still growing out there. We think we've gained some share on some others, but we've also lost some share apparently with some other pizza players, which is not something that's common for us out there. But we also kind of, we think we're pretty clear on where those shortcomings might be or the things we need to do to make sure we become again where we're not already top of mind and the top choice We don't want to be middle of the pack. We want to be the top choice, especially for the things that we know we can do better than others, which is, you know, the quality, the convenience, the selection. And we are the delivery powerhouse out there, right? And in one way, I would highlight, you know, one of the reasons for a stark difference is, in a way, Pizza 73 has more to lose than others because we've been so dominant out there and it's a very delivery-focused brand, right? Whereas at Pizza Pizza, we've got quite a breadth of other channels, a little more diversity, right? more non-traditional as well, more walk-in, more pickup. But we've successfully grown pickup out there, and deliveries, it's been hard. I mean, we've had some others win some battles with us on deliveries. So we know we've got to do more. So I think some of the things we're doing there will help address that. And we've also put a very senior person on the ground recently, a senior marketing director who's going to be exclusively focused on Pizza 73, on the ground in Calgary. She's got a ton of experience, used to co-run an agency in Alberta, and she's actually leading our efforts there, supplemented with other help there, but also our team in Toronto and reporting to our head of marketing here. But we think that's also going to really help. There's some really great ideas and things we can do there. So we're investing more resource on the marketing side as well. And we think we just need to innovate a little more like we have here And things like the tech side do take longer just by the nature of the projects. But we think if we can leverage some of the things we have here, then we should be able to do more there. And as well, things like brand identity work and things that just give people a reason for Pizza 73 to stand out. We like to stand out from the crowd, not to be considered one of the top three, four options. We want to be number one. That's what we expect, and that's what we're used to being. And now we are still, I'd say, a leader on some attributes, but other attributes we perhaps perceive to not be number one. So we don't like that, and we want to get back to where we should be.

Okay, thanks for that. That's all for me, Paul and Christine. Nice to see the lights back on.

Thanks, Jared.

Appreciate it.

There are no further questions at this time. Please proceed.

Thank you, everyone, for joining us on the call today. If any questions come up after the call, please contact us. Our information is available on the earnings release. Thank you and have a good evening.

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines. Have a great day.