A huge Pizza Hut franchisee is apparently considering bankruptcy

NPC International’s debt has been downgraded as the company has missed interest payments, says RB’s The Bottom Line.
Pizza Hut storefront
Photograph: Shutterstock

the bottom line

NPC International, the struggling operator of Pizza Hut and Wendy’s restaurants, missed an interest payment in January, leading to a pair of downgrades and, reportedly, a workout effort that could lead to a bankruptcy filing.

Bloomberg reported Wednesday that the Kansas-based operator was considering a bankruptcy filing as it negotiated with lenders on its nearly $800 million in loans. The story indicated that NPC hoped to avoid such a fate, though a filing has seemed inevitable for months.

NPC has been struggling with high debt levels and weakening sales and profits. The company defaulted on financial covenants in its lending agreement late last year, and in January opted to not make an interest payment on its debt. NPC also reached a forbearance agreement with its lenders.

As a result, Standard & Poor's downgraded NPC’s debt rating last week, saying that it does “not expect NPC will satisfy its payment obligations within 30 days of the due date.”

Moody’s downgraded NPC’s rating on Wednesday for the same reason. Moody’s expects the operator’s free cash flow “will remain negative and liquidity to be weak” given the company’s “high capital investment needs” such as relocations, new units and remodels.

According to Bloomberg, NPC’s earnings before interest, taxes, depreciation and amortization, or EBITDA, declined 16% last quarter.

The fate of NPC is a big deal to both Pizza Hut and to Wendy’s, as it is the largest operator for both brands. The company operates more than 1,200 Pizza Hut locations, or about one out of every six of the brand’s restaurants, along with 385 Wendy’s units.

NPC’s problems could also cause a ripple effect throughout the franchise sector, where an aggressive lending environment over the past decade has enabled large-scale franchisees to take out massive amounts of loans to fuel acquisitions and remodels.

Weak sales and higher costs are causing problems with a number of operators. Joel Grade, CFO of giant food distributor Sysco, told investors earlier this month that “we’ve had a few increased bankruptcies” on the local and national level, according to a transcript on financial services site Sentieo.

NPC is one of the two or three largest restaurant franchisees by any measure, and if it were to seek out debt protection, there is a chance that franchise lenders could start pulling back their offerings in the space.

NPC is a longtime operator, and in 2013 it began buying up Wendy’s units, quickly becoming the largest franchisee in that brand. The company was then sold in 2018 to a group including Delaware Holdings and Eldridge Investment Holdings in a $1 billion deal.

It all came with too much debt, and in the meantime, Pizza Hut struggled. The brand’s same-store sales have averaged a minus 0.5% since 2016, while rival Domino’s generated strong growth every quarter.

Wendy’s has performed better, averaging 1.7% over that same period.

Pizza Hut wants the company to relocate many of its restaurants to new trade areas and shift away from dine-in units. Wendy’s wants its franchisees to remodel locations. Add rising labor costs, and suddenly that debt, and its lease costs, all look extremely expensive.

Executives with Pizza Hut parent company Yum Brands have been noting the problems with a handful of the brand’s franchisees and its need to make changes. The company said earlier this month that it might have “some bad debt impact” as it works through franchisee challenges.

“The majority of our franchisees are well-capitalized and committed and continue to drive the business,” Yum CFO Chris Turner said on the company’s fourth quarter earnings call. “But we have a handful of situations where we’re working with franchisees to get them into a better place.”

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