Aramark (NYSE:ARMK) Q4 2022 Earnings Call Transcript

Aramark (NYSE:ARMK) Q4 2022 Earnings Call Transcript November 15, 2022

Aramark reports earnings inline with expectations. Reported EPS is $0.49 EPS, expectations were $0.49.

Operator: Good morning, and welcome to Aramark’s Fourth Quarter and Full Year Fiscal 2022 Earnings Results Conference Call. My name is Luciana and I will be your operator for today’s call. At this time, I would like to inform you that this conference is being recorded for rebroadcast. . I will now turn the call over to Felise Kissell, Vice President of Investor Relations and Corporate Affairs. Ms. Kissell, please proceed.

Felise Kissell: Thank you, and welcome to Aramark’s Earnings Conference Call and Webcast. I hope all of you are doing well. This morning, we will be hearing from our Chief Executive Officer, John Zillmer; as well as our Chief Financial Officer, Tom Ondrof. As a point of reference, there will be accompanying slides for this call that can be viewed through the webcast. These slides will be made available following our prepared remarks also for easy reference. Additionally, our notice regarding forward-looking statements is included in our press release this morning, which can be found on our website. During this call, we will be making comments that are forward-looking. Actual results may differ materially from those expressed or implied as a result of various risks, uncertainties and important factors, including those discussed in the risk factors, MD&A and other sections of our annual report on Form 10-K and our other SEC filings.

We will be discussing certain non-GAAP financial measures. A reconciliation of these items to U.S. GAAP can be found in this morning’s press release as well as on our website. So with that, I will now turn the call over to John.

John Zillmer: Thanks, Felise, and thanks to all of you for joining us. This morning, Tom and I will review our fourth quarter performance and briefly recap our progress throughout fiscal ’22. We will also preview the year ahead that is anticipated to build upon the strong momentum the business has established over the past couple of years. And finally we will provide an update on the previously announced uniformed services set off transaction which is expected to occur in the second half of fiscal ’23. As I think about the past year, I am incredibly proud of our teams across the globe, who have embodied the client focused profitable growth culture we set out to establish. Despite a challenging and complex operating environment, we were able to demonstrate significant value for clients and deliver on our strategic priorities.

Our ability to achieve the highest annual revenue in Aramark’s history, combined with the second consecutive year of record net new business is a testament to the exceptional talent embedded throughout our organization. Aramark’s strong growth performance was broad based coming from multiple lines of business and geographies, as well as from clients with large and small, annualized gross new business went exceeded $1.6 billion, representing 10% of pre-COVID fiscal ’19 revenues and retention rates were once again about 95% as we sustained a step change improvement. In client retention collectively, this resulted in $790 million of net new business, which is more than 50% higher than fiscal ’21 and over eight and a half times greater than the company’s historical five year average between fiscal ’16 through fiscal ’20.

This exceptional level of net new business represents nearly 5% of our pre-COVID fiscal ’19 revenues, already at the top end of the 4% to 5% range provided our analysts day financial algorithm. Again, our growth extended across all segments during the fiscal year. Our U.S. food and facilities segment delivered over $400 million of net new business more than 40% higher than fiscal ’21 and about 20 times higher than fiscal €˜19 driven by strong retention and significant growth new business wins, particularly in facilities, healthcare and corrections. International also reached a new milestone with nearly $300 million of net new business more than doubled last year. There have been significant wins across the portfolio ranging in size from small startup operations to large multi site accounts like Merlin, which you may recall was the largest win in the company’s history awarded earlier this year.

Even excluding Merlin net new business performance reflected a record results in the international segment, a testament to our growth strategies and consistent success of our team. Uniform services continued strong growth momentum with net new business more than 25% higher than fiscal ’21 and retention rates maintain the significant improvement from last year. Our continuous investment in the unit on sales force, an ongoing focus on customer experience have driven sustainable success in new business wins and vertical sales opportunities. Across the portfolio, we capitalize on greater first time outsourcing opportunities, with over 45% of our wins coming from self-op conversions, including six of our top 10 largest wins this year in the U.S. alone.

With our robust pipeline and commitment to drive profitable growth, I remain confident in our ability to achieve our growth targets, and drive our business to even greater heights. I would now like to review Aramark’s financial performance in the fourth quarter. Despite unprecedented global inflation levels, our teams remain focused on providing high quality service while simultaneously working closely with clients to mitigate costs, and implement pricing increases. In the quarter, pricing contributed more than 6% to revenue growth. Moreover, we are leveraging our robust supply chain to gain real time insights for effective pricing strategies tailored to specific clients, sectors and geographies. The pricing environment is something we will continue to actively monitor and address as appropriate.

Our results in the fourth quarter continued to build both on the top and bottom line reflecting record level net growth, pricing and effective cost management through ongoing base recovery. Organic revenue grew 26% year-over-year reaching 113% of pre-COVID levels and AOI margin increased nearly 140 basis points on a constant currency basis compared to the fourth quarter last year. Within U.S. food and facilities organic revenue rose 26% year-over-year with contribution from all sectors. Education experienced typical seasonal slowdown in the summer months and is now off to a strong start in the new academic year as we welcome back students and educators in both collegiate hospitality and student nutrition at the end of our fiscal fourth quarter.

Our teams have introduced new concepts including innovative culinary offerings, technological advances, and enhanced dining spaces. Where appropriate and possible we worked closely with clients to implement additional pricing action for board plans and on campus retail outlets. Sports, leisure and correction continued its positive performance trajectory. Sports and entertainment maintain high attendance levels with better than historic per capita spending across event categories. I also want to take this opportunity to congratulate our clients, the Philadelphia Phillies and Houston Astros for both reaching the World Series. Destination and greater gift activity year-over-year despite unforeseen weather and fire challenges at certain sites, and corrections reporting growth led by record level new business wins during the year.

Our workplace experience group showed progress has returned to office continued across the portfolio, particularly in September. We’re providing clients with solution oriented services customized to their specific needs with the transition back to P&L contracts are occurring as volumes increase. Healthcare Plus recorded increased patient and retail activity as well as benefited from the contribution of a significantly higher net growth from newly awarded client contracts, improved retention rates and success in providing additional services to existing clients. Facilities and other drove performance or ongoing demand and core business offerings and existing client locations and had a strong level of new end throughout the year, largely from self-op conversions.

International organic revenue grew 39% compared to the fourth quarter last year, driven by higher per capita spending at sports and entertainment venues, particularly in Europe and increased B&I activity across the portfolio. Similar to the U.S. education internationally, it was largely closed and summer resumed activity at high levels with the start of the fall semester. And another year of consistent net growth and international continued to drive strong results, creating additional scale across geographies. Organic revenue in the uniform services segment increased 8% year-over-year driven by both the current recurring rentals and adjacency services. Came in the team remain focused on building upon their momentum and executing on strategic growth initiatives across the estimated $40 billion market in North America.

We’re making progress on the planned tax free spin off of this business into an independent company and we will be sharing further details in the New Year regarding this strategic transaction. I also want to reiterate that we expect to be able to complete the transaction under the terms of our existing debt agreements. And we believe that with our prudent capital structure strategy in place, which Tom will review, both companies will be positioned for great success. Lastly, I’d like to spend a moment sharing some recent initiatives focused on one of our core goals contributing to the greater good with our focus on people and planet. First last month we submitted our proposed greenhouse gas reduction targets for validation by the science based targets initiative.

Next, in partnership with the Humane Society, we announced their commitment that by 2025, at least 44% of our residential dining menu offerings will be plant based. Third, we find the Pacific Coast foodways commitment as an extension of our existing pledge to reduce food waste by 50% by 2030. And finally, I want to commend the passion exhibited by 1000s of Aramark teams who worked around the world on a recent Aramark Building Community Day, which consisted of service projects to reduce inequity, support and grow local communities and protect the planet. Our people truly are the cornerstone of everything we do. And this day of impact, among many, it’s just one example that speaks volumes of the special culture we have created. I’ll turn the call over to Tom for detailed financial review of the business.

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Thomas Ondrof: Thanks, John. And good morning, everyone. Our results in the fourth quarter and in fact, our performance throughout the entire fiscal year reflect the resolve of our teams across the globe to execute on our growth driven strategy. Despite ongoing macroeconomic challenges, we continue to stay focused on delivering top and bottom line improvement and remain committed to our long term priorities. On analysts day we shared our plans to re establish a growth culture. We build the hospitality field focused mindset, built margin through scale and deleverage through focused cash management. These strategies is yielding positive results. And it’s just the beginning. John mentioned we signed an historic high of $1.6 billion of annualized gross new business in the year and our client focused field empowered approach delivered retention rates above 95% once again, resulting in record net new business levels.

Revenue and profits are on the rebound. Cash flows rebuilding and leverage is reducing, keeping us on track to achieve our fiscal ’25 goals. Before reviewing our fiscal ’23 outlook, I want to first provide some additional insights on our fiscal ’22 financial results. In the fourth quarter, organic revenue grew 26% year-over-year to $4.5 billion and exceeded $16.3 billion for the full year, up 35% compared to the last fiscal year. Performance is driven by strong net new business pricing pass through and ongoing recovery of COVID related volumes, which is just over 90% of pre-COVID levels for the year progressed each quarter from an estimated 85% in Q1 about 95% in Q4. We expect this COVID related volume recovery continue to contribute to both revenue and AOI results in fiscal ’23 most materially in the first half of the year.

Adjusted operating income was $267 million in the quarter. constant currency increases 62% compared to the fourth quarter last year, resulting in an AOI margin of 6.2%. Constant currency AOI margin was 6.1% due to approximate 10 basis point impact from FX. This performance reflects continued AOI margin recovery, with the fourth quarter closing in on 80% of the same quarter pre-COVID margins, compared to 60% in the fourth quarter last year. AOI for the full year was $780 million, resulting in an AOI margin of 4.9% nearly 250 basis points better than last year’s AOI margin on a constant currency basis. This progression was driven by our ability to contain above unit operational costs, and leverage SG&A support across higher sales volume as well as benefits from a stabilizing supply chain in tight in unit cost management.

Our teams and partnerships with our clients have been and continue to be actively working to mitigate inflation through the various actions available to us across food, labor, and direct cost categories and ultimately passing through price as needed, and where appropriate. Over the course of the year, we’ve been gradually able to transition back to preferred suppliers and products as fill rates improved. While there’s still much more to go, this year was an important step for a return to normal supply chain operations. In addition, as the supply chain settles, and our net new business growth significantly increases our management, we work to renegotiate current deals to achieve next generation savings is beginning. We’re encouraged by the opportunity in front of us in this area.

As we’ve mentioned before, the significantly higher levels of new business we have delivered over the past two years tend to have a short term drag on margins due to the related startup costs and natural account profitability ramp. In the interim, these new accounts accelerated our top line growth and add the dollar profit today and will benefit margin as they mature over time, giving us confidence when combined with the supply chain opportunity and our ability to ultimately exceed pre-COVID AOI margin levels and stay on track to deliver our analysts a margin target. Our results in the quarter led to adjusted EPS of $0.49 on a constant currency basis, versus $0.22 in the fourth quarter last year. For the full year adjusted EPS was $1.20 on a constant currency basis, compared to a loss of $0.29 in fiscal ’21.

FX impacted adjusted earnings per share by one penny in the fourth quarter, and by $0.04 for the year On a GAAP basis, Aramark reported consolidated revenue of $4.4 billion, operating income of $198 million and diluted earnings per share of $0.29 for the fourth quarter. For the full fiscal year, consolidated revenue was $16.3 billion, operating income was $628 million and diluted earnings per share for $0.75. Now turning to cash flow. Consistent with the typical seasonality of our business, the fourth quarter generated a significant cash inflow. Net cash provided by operating activities was $836 million and free cash flow was $717 million. For the full year, net cash provided by operating activities was $694 million, and free cash flow was $330 million, compared to $282 million in fiscal ’21.

The year-over-year increase was the result of improved profit performance and slightly lower capital expenditures, partially offset by higher working capital related to net new business growth and recovering base account activity. Our strong cash flow performance combined with significantly higher earnings resulted in an improved leverage ratio of 5.3 times compared to 7.4 times at year end fiscal ’21. We remain on track to reduce leverage below 3.5 times as mentioned at analyst day, and we believe we are well positioned to navigate the current environment with a net debt portfolio of more than 80% fixed rate instruments inclusive of swaps, no significant maturities until 2025 and over 1.8 million in cash availability of fiscal year end. Plan uniform spin also create some degree of flexibility related to our balance sheet.

There are a number of different paths execute the transaction, we will be strategic in managing the capital structure, particularly in the current environment in a way that we expect will maximize value for shareholders and best position each independent company for sustaining the same success. We’re confident in our ability to complete spin under our existing debt agreement, and that we will not be required fully or partially replace the existing capital structure other than what we choose to do. We continue to make progress in completing the essential tasks necessary for the separation and look forward to sharing additional details, including distinct financial targets and leverage profiles for each company as we get closer to completing the transaction.

Let me wrap up by sharing our outlook for fiscal 2023. Based on our current expectations, we projected following full year total company performance. Organic revenue rose between 11% and 13% reflecting a slightly higher results and the approximately $18 billion mentioned during the last earnings call. We expect the components of growth to include 4.5% to 5% of net new business, 3% to 4% from recovery of COVID related volumes weighted to the first half of the year, and 3.5% to 4% pricing in any inflationary environment remains constant, as we partner with our clients to balance operating costs with quality service. Adjusted operating income growth of 34% to 39%. With this target, we expect to achieve 97% to 100% of our fiscal ’19 pre-COVID AOI dollar levels, inclusive of the contributions and unions of fibers and portion of which will remain excluded from our AOI until we left the acquisition date in June.

Following a nearly 250 basis point unproven AOI margin in fiscal ’22 organic revenue and AOI outlook at the midpoint anticipate another roughly 100 basis point margin improved progression this coming year. Finally, we expect free cash flow to be in a range of $475 million to $525 million for payment of the following items. First, we will make the last two deferred FICA payments associated with the Cares Act like last year, and as a previously articulated, we expect to make this payment of approximately $65 million in the first quarter. Second, we anticipate a cash flow impact of approximately $100 million to $120 million related to restructuring charges, public company costs and transaction fees associated with a uniform spin. After these specific items, we expect free cash flow to be in the range of $300 million to $350 million.

With the benefit of this strong cash flow generation, combined with expected higher operating income, we anticipate our leverage ratio to be between 4 and 4.5 times by the end of fiscal ’23. This year is the next significant step on our journey to achieve the fiscal ’25 goals we established on analyst day. Our strategy is producing results. And we’re excited to keep building on this momentum. Thanks for your time this morning.

John Zillmer: Thank you, Tom. As a company, we’ve moved from recovery mode to growth mode very quickly, including our fiscal year on substantially stronger footing, and believe we are well poised to continue the strategic transformation we set out to achieve back at the beginning of fiscal ’20. This year, we achieved the highest annual revenue results in company history, more than doubled our AOI margin compared to last year, and realized the second consecutive year of record net new business performance exceeding the midpoint of our original targets by nearly $200 million. I’m extremely proud of the performance milestones we’ve accomplished this past year as a global team. Fiscal ’23 is just underway with new client wins already occurring, as well as a strong pipeline of opportunities ahead.

With our plans strategic initiatives in place we have big goals for this year and beyond. And we expect the exceptional momentum across the company will enable us to achieve them. Thank you, everyone. And operator, we now like to open the call for questions.

Q&A Session

Operator: Thank you. Ladies and gentlemen, we will now begin the question and answer session. And our first question coming from the line of Heather Balsky from Bank of America. Your line is open.

Heather Balsky: Hi, thank you. Two questions on revenue. The first is when you look at your outlook for next year in terms of growth, can you help us appreciate sort of the macro dynamic you’re thinking about? And if there is a tougher environment kind of sort of where you think you can, I guess the give and take in your outlook. Thanks.

Thomas Ondrof: Yes. I think a couple of things there. We feel as though one of the tailwinds continues to be the outsourcing trend. And the net new business wins, we have a incredibly strong pipeline at the moment as we enter into fiscal ’23. So we feel confident about that. The teams are really starting to get stability and sort of pace to their process that’s been built over the last couple of years. So feel good about that. Retention rates within our control. And so that feels solid. We actually have probably a lower level of rebate activities issues, and we’ve had in ’23 than we’ve had in ’22. So that’s helpful as well. Pricing is a big variable. Depending on what happens with inflation as I mentioned, certainly we will continue to keep pace between pricing pass through and mitigation activities.

That pricing really did accelerate for us in the second half as it needed to this year. And so inflation continues to move and has been, we will go ahead and keep pace if it mitigates the debts and then that might take some pressure off and then lastly to COVID recovery is getting harder and harder to track that as we get further and further away from early 2020 and with some effects of recessionary pressures, particularly within business dining, kicking in it’s really hard to segregate those. So those would be the overall comments. I think it helps John.

John Zillmer: I think that characterizes it well. We’re very excited by the by the revenue achievements that the company has been able to establish. Our teams very focused on the operating side of the business. We’ve got great momentum on the new account, sales side, very good retention activity. So we’re confident in the revenue number, but there are a couple of macroeconomic factors that could impact that next year and we’ll respond aggressively as we always do.

Heather Balsky: Thank you. And as a follow up, when you think about pricing, on a longer term basis, if it turns out that we’re in a higher than normal inflationary environment for multiple years, rather than sort of this one or two years. I guess, what does that mean for your business, your ability to take price consistently in that type of environment and your ability to kind of manage that on the margin line, as well as taking into account that you did a pretty good job this year.

John Zillmer: Yes, that is absolutely the economic model that we’ve been operating in for decades, and we’ve seen different inflationary environments. Both Tom and I have seen it both with high inflationary environments and low inflationary environments over the years. So we expect the business to be able to adjust our operators in the field, we’ll be able to adjust. And the pricing activity will be a significant component of that. And we’ve got very strong disciplines around it, very strong technology to support and tools to support the pricing initiatives. We give our frontline managers data on a monthly basis with respect to supply chain activity and food costs inflation. So they have the tools in place in order to manage this.