Earnings Transcript for SG - Q2 Fiscal Year 2023

Operator: Good day, everyone, and welcome to the Sweetgreen Second Quarter 2023 Earnings Call. Today's call is being recorded. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. I would now like to turn the conference over to Rebecca Nounou, Head of Investor Relations. Please go ahead.

Rebecca Nounou: Thank you, and good afternoon, everyone. Here with me today are Jonathan Neman, Co-Founder and Chief Executive Officer; and Mitch Reback, Chief Financial Officer. Before we begin, we have a couple of reminders. Our earnings release is available on our website at investor.sweetgreen.com. During this call, we will be making comments of a forward-looking nature. Actual results may differ materially from those expressed or implied as a result of various risks and uncertainties. For more information about some of these risks, please review the company's SEC filings, including the section titled "Risk Factors" in our latest Annual Report on Form 10-K filing and subsequently filed quarterly report on Form 10-Q. These forward-looking statements are based on information as of today, and we assume no obligation to publicly update or revise our forward-looking statements. Additionally, we will be discussing certain non-GAAP financial measures, which are in addition to and not a substitute for measures of financial performance prepared in accordance with GAAP. A reconciliation of these items to the nearest U.S. GAAP measure can be found in this afternoon's press release available on our IR website. With that, it's my pleasure to turn the call over to Jonathan to kick things off.

Jonathan Neman: Thank you, Rebecca, and good afternoon, everyone. I've shared before that I believe times like these create opportunities for companies with great brands, large addressable markets and loyal customers. Great businesses have to be and companies, balancing growth and profitability. In the second quarter, we put our words into action generating 22% year-over-year revenue growth, delivering a restaurant level profit margin of 20.4% and adjusted EBITDA of $3.3 million. Our first quarter of positive adjusted EBITDA as a public company. This milestone demonstrates our commitment to disciplined capital efficient growth. I want to extend my gratitude to every Sweetgreen team member for their hard work and dedication in delivering these results. We reported second quarter revenue of $152.5 million, representing 22% year-over-year growth and same-store sales growth of 3%. Our same-store sales growth was driven by an increase in price and traffic, with a partial offset from mix. Total digital sales represented 59% of our Q2 revenue, with approximately two-thirds of those sales coming from our own digital channels. We continue to work every day to improve our operations. Restaurant level margin of 20.4% in the second quarter was the result of strong operational execution and our cross-functional focus to identify a wide range of process optimization. This includes better labor deployment as well as improvements in supply chain sourcing, which we see continuing into future quarters. We remain committed to identifying additional opportunities to enhance our restaurant margins. We balance strong revenue growth and restaurant level profit performance with a focus on cost discipline that yielded a reduction in both absolute and relative G&A expenses when compared to the prior year. Our second quarter G&A expense $40.4 million is down $11.4 million or 22% from the $51.8 million a year ago. We continue to gain operating leverage as we sharpen our allocation framework to increase the flow through of each incremental dollar of revenue we generate. As we have discussed in the past, we operate with four strategic priorities, which are the basis for driving strong top-line growth, customer acquisition and loyalty and profitability. Our strategic priorities are

Mitch Reback: Thank you, Jonathan, and good afternoon, everyone. Total revenue for the second quarter was $152.5 million, up from $124.9 million in the second quarter of 2022, growing 22% year-over-year. Same-store sales grew 3%. This consisted of 4% of price, a 2% increase in traffic, offset by 3% in mix. The mix offset is largely attributable to the early investments made in Sweetpass as well as channel movement into the frontline and pickup from native delivery. Our average unit volume in the second quarter was $2.9 million. In the second quarter, we delivered $3.3 million profit on an adjusted EBITDA basis an improvement of $11.1 million from the second quarter of 2022 loss of $7.8 million. Our second quarter revenue increase of $28 million year-over-year was a significant driver of the $11.1 million increase in adjusted EBITDA, a 40% flow through to the bottom line. We opened 10 new restaurants this quarter for a total of 19 net new restaurants in the first half of 2023. We ended the quarter with 205 restaurants. We remain on track to achieve our guidance of at least 30 to 35 net new restaurants this year. Restaurant level profit margin in the second quarter was 20.4%, 185 basis point improvement from the second quarter of 2022. We delivered a 20.4% margin with 40% of our fleet under two years old. Restaurant level profit for the second quarter was $31.1 million, up $7.9 million from a year ago. For a reconciliation of restaurant level margin to comparable GAAP figures, please refer to the earnings release. Food, beverage, and packaging costs are 27% of revenue for the quarter, consistent with the second quarter of 2022, and showing sequential improvement of approximately 160 basis points since Q1. Labor and related costs were 29% of revenue for the second quarter down 100 basis points from the comparable period in 2022, and showing sequential improvement of 285 basis points since Q1. This improvement is primarily attributable to head coach schedule optimization we implemented in the spring. Our restaurants are fully staffed and we remain pleased with the quality of talent we are able to attract. Additionally, we’ve seen an easing of wage pressures. Occupancy and related expenses were 9% of revenue consistent with the second quarter of 2022. General and administrative expenses $40.4 million or 26% of revenue for the second quarter of 2023 as compared to a $51.8 million or 41% of revenue in the prior year period. The decrease in general and administrative expense was primarily due to an $8.8 million decrease in stock-based compensation expense, as well as a reduction in spend across the support center. During the second quarter, our G&A expense excluding stock-based comp was 9% lower than the second quarter of 2022. Our net loss for the quarter was $27.3 million, compared to a loss of $40.5 million in the prior year period. The $13.2 million improvement in net loss is primarily due to a $7.9 million increase in our restaurant level profit, a $2.7 million increase in interest income, as well as a decrease in G&A as previously discussed. These decreases in expense were partially offset by a non-cash restructuring charge associated with our former Sweetgreen Support Center and an increase in depreciation and amortization associated with additional restaurants. Adjusted EBITDA, which excludes stock-based compensation and certain other adjustments, was $3.3 million for the second quarter of 2023 as compared to a loss of $7.8 million in the prior year period. This $11.1 million improvement was primarily due to an increase in restaurant level profit and a decrease in general and administrative expenses as described previously. Last year, we made a commitment that we would be very close to a breakeven year in 2023 on an adjusted EBITDA basis, and in 2024 be adjusted EBITDA profitable on a full-year basis. We remain relentless in pursuit to achieve these goals. Halfway through the year, our adjusted EBITDA is a loss of $3.4 million, compared to a loss last year at this time of $24.8 million, a $21.4 million improvement year-over-year. We ended the quarter with a cash balance of just over $280 million and generated positive operating cash flow during the second quarter. In light of our second quarter results, our fiscal 2023 guidance now reflects a higher restaurant level margin and a lower adjusted EBITDA loss. 30 to 35 net new restaurant openings, revenue ranging from $575 million to $595 million, same-store sales growth between 2% and 6%, restaurant level margins between 16% and 18%, and an adjusted EBITDA loss between $10 million and zero. We see pathways for further margin expansion and are unrelenting in our search to find efficiencies in G&A. We are keenly focused on continuing to be a high revenue growth company and becoming both profitable and cash flow positive. With that, I'll turn the call back to the operator to start Q&A.

Operator: Thank you. [Operator Instructions]. We'll take our first question from Sharon Zackfia with William Blair.

Sharon Zackfia: Hi, good afternoon. I want to just touch based on the Infinite Kitchen because those restaurant level margins were pretty impressive. I also assume having been there, it costs more to build, so I'm curious on kind of how the ROI looks or how you expect it to look for Naperville, and then as you think about development and rolling out warrants in the kitchens, assuming they cost more how do you kind of adjust your development plans if you need to in order to kind of extend the runway of the cost that you have?

Jonathan Neman: Sharon, good to hear from you and I'm glad you're able to check out the Infinite Kitchen in person. So what I'd say is, we're -- so far, we're really pleased with the results we're seeing. As I mentioned on the -- in the prepared remarks, I think first and foremost, really excited about the experience we're delivering to customers. We're getting a lot of positive feedback on everything from the theater of the food, really showing the scratch cooking, the hospitality, the speed of service, and the portioning and accuracy. So does solve a lot of customer experience challenges that exist in the restaurant industry. And so I think that that was a huge proof point for it. Of course, we also expect it to have an economic financial gain in terms of margin expansion and overall improving our returns on capital. To your point, yes, of course, the machines do have an incremental investment, but we believe we actually know that they will deliver an accretive return on capital anywhere we put them. We're not guiding today around how much these -- they actually cost, but we will only be deploying them where we will see an incremental accretive return on capital, which we expect to see given the early results. And just a reminder, what we saw in Naperville, it was just our first month, as you'd expect in most restaurants, we expect a ramping period. So we do expect the stabilized margin to be north of where it was in its first month.

Operator: We'll take our next question from Katherine Griffin with Bank of America.

Katherine Griffin: Hi, thanks for taking the question. I was hoping either Mitch or Jon, if you could just speak to the cadence monthly in the quarter, sort of what you saw in terms of traffic trends in the second quarter. That would be helpful. Thank you.

Mitch Reback: Hey Katherine, thank you for the question. What we saw were somewhat consistent traffic patterns during the quarter really across the fleet as we came into the third quarter, I'll just make an observation. We saw a slowdown during the July 4 weekend, and then it picked back up to be more consistent with the second quarter.

Operator: And we'll take our next question from John Ivankoe with JPMorgan.

John Ivankoe: Hi, thank you. In your prepared remarks, you mentioned some of the second quarter margin improvement was due at least partially to I think I wrote down supply chain sourcing. I was hoping that if we could just elaborate on that topic broadly. I mean, what that specifically means is that just in terms of how you're consolidating some suppliers and how you're handling the physical distribution, or are you embarking on kind of considering how you're allocating some costs that you're currently duplicating within each store to potentially using or leaning a little bit more on your supply chain in terms of bringing in some value-added products into the store to make them in fact easier and more efficient to run?

Jonathan Neman: John, you hit it pretty much -- pretty accurately. So the supply -- so the margin leverage that we saw was a combination of labor and COGS savings. On the COG side, it was really due to a lot of supply chain sourcing around economies of scales and content contract pricing that we were able to lock in as well as, as you mentioned, upstreaming -- the upstreaming, it actually doesn't help your COGS, it helps your labor. You actually spend a little bit more on bringing certain things in a different way to reduce the labor load inside of the restaurants. But the balance is a higher margin, easier to run restaurant. So we do not reduce the quality of any of the food in doing so. It was more just consolidation of certain distribution logistics as well as contract pricing. And so just huge shout out to the -- our supply chain and procurement team on delivering an awesome quarter. And as we mentioned on the prepared remarks, we do expect these savings to continue.

John Ivankoe: And could you elaborate a little bit more on upstreaming, specific like what you've already maybe put into the stores and what you may see going forward, how big of an opportunity that might be?

Jonathan Neman: Yes, absolutely. As you know, Sweetgreen really prides ourselves on our sourcing as well as our scratch cooking model. However, we do see opportunities to simplify the labor model inside restaurants by taking certain items that we think we can improve the quality and consistency and upstreaming them. So you've seen in the -- in past years doing things like Parmesan Crisps as an example. What we're doing, what we've begun doing this year is upstreaming a number of our dressings. So we have a -- not all of our dressings, but are a number of our dressings that are now upstream, ones that don't have any fresh herbs in them. We think the ones with really the herbs we still want to do in restaurants because you want it, we want that flavor to come out. But a number of the ones that don't -- do not have that we still use the same quality of ingredients. It's what took us so long to do same-store, same quality, broaden fresh to the restaurants, but it removes the ability -- the need to do that in stores. As we've talked about before, we're very careful on what we touch around our food ethos. And so we test things. We're very careful about what this -- what things we change because we know what people love about us is the quality that we bring. And so we do expect to do more things, but we will do them very carefully over time.

Operator: We'll take our next question from Chris Carril with RBC Capital Markets.

Chris Carril: Hi, thanks for taking the question. So can you expand maybe a bit more on the updated restaurant level margin guidance and how we should think about margins here for the balance of the year? I know there's typically a good bit of seasonality with respect to the top-line and margins. But could you just maybe walk us through some of the puts and takes around the restaurant margins here going forward, including your cost inflation outlook from here? Thanks.

Mitch Reback: Hey Chris, thank you for the question. As you saw in the guidance, we increased our restaurant level margin from 15% to 17% through 16% to 18%. That was really reflective of some of the current actions we saw in the second quarter becoming permanent throughout the rest of the year. And Jon talked a little bit about the changes made in labor and in the cost of goods in sourcing. What we're seeing in inflation essentially in the second quarter was very, very little to no inflation in both commodities and in labor. And we expect much of these trends to continue on through the back half of the year. Those are the factors that really led to the improvement in the margin, and we see that largely being sustained out into the future.

Operator: We'll take our next question from Jon Tower with Citi.

Karen Holthouse: Hey, it's actually Karen on for Jon this evening. So I think your comment about the dynamics of price mix in the quarter, it sounds like maybe we're at the point, or at least in the second quarter where Sweetpass was like net-net a little bit of a net comp headwind in terms of giving the discount but not seeing the full benefit of potential frequency increases or even new people coming into the brand. So could you kind of comment on what those underlying dynamics are, when you think it becomes accretive and if there's anything else to kind of help frame the scope of the program at this point in terms of membership, percent of sales or anything like that?

Jonathan Neman: Yes, absolutely. So we launched Sweetpass about three months ago and you've kind of got it pretty right, the early parts of the launch was really about the launch and there was a lot of cost around the discount line in terms of the launch of the program. We are really pleased with the early success of the program, really both parts on the Sweetpass and the Sweetpass Plus piece and seeing specifically on the membership on the Sweetpass Plus piece, we're seeing a pretty healthy mix of low frequency users that are joining the program and seeing really healthy incrementality out of that group. What we guided to when we first launched it is Sweetpass was going to be a program that launches and takes a bit of time to build as we build the membership base. And I'd say the last thing is the launch was -- while we launched it was in some ways a pilot given the fact that it's only a digital program today. So it doesn't -- our biggest channel and our fastest growing channel right now is our in-store business and Sweetpass today does not work in-store. Really happy to report that in the next few months we will be unlocking the ability to use both earn and redeem of all Sweetpass functionality in restaurants, which we think is going to be super accretive in terms of the value of the program, especially if you consider the fact that most of our new customers come through the -- through our stores to start. So if we think about Sweetpass as a channel to acquire and hold new customers as well as drive frequency of our lower frequency guests that in-store unlock is really important. So look forward to sharing more on that once we have the full feature set launched and we have a little bit more time under our belts.

Operator: We'll take our next question from Andrew Charles with TD Cowen.

Andrew Charles: Great. Thank you. Two separate questions. Mitch, just following-up on an earlier question, and I appreciate all the details around Infinite Kitchen, but what's the level of normal margin inefficiencies during restaurant's first month of operation? I'm trying to better understand what could be a normalized level of margins from IK once new store inefficiencies aside. And then just my second question was just on development guidance, year-to-date you guys have opened 26, relative to guidance for 30 to 35. Just kind of curious usually it's 4QA with the development, so what's changing that dynamic in 2023 unless it's just conservatism.

Mitch Reback: Thank you, Andrew for the questions. We've really never given our first month margin on typically on new stores, but it would be safe to assume that they're really below the company average. So the Naperville 26, but really be a number that would compare to a number that's well below 20% in the quarter and differently Naperville was considerably higher than any first month for a store's operation. The second question of you had was on our development and whether there was a degree of conservatism in it. The guide that we're sticking with is 30 to 35 net new restaurants. We are trying our best to open restaurants as fast as we can and we're very pleased with the results of the class of 2023.

Operator: And we'll take our next question from Brian Mullan with Piper Sandler.

Brian Mullan: Hey, thanks. Just to follow-up on the Infinite Kitchen. I just want -- is there anything in that Naperville store that you'd like to see fixed or improved before you'd be willing to deploy it more broadly whether that be around how it functions or just the cost of deploying it? Really just trying to understand if you're at the point where you think it could be a material part of the new unit pipeline as early as next year, or do you want investors think it could take a bit longer than that before it's deployed more broadly?

Jonathan Neman: I'd say overall we're really pleased. As I mentioned in previous calls, we were very -- we had a lot of confidence in the technology itself as we've been running with it in a lab setting for a very long time. A lot of what we were really understanding was the overall experience and what are both the first order and second order improvements that we'd see within that experience. I'd say today, really what we're just looking for is more time. It's only been a couple months of being open, so we'd like a little bit more time to see how customers feel about it, how team members feel about it, and how to -- how we can best continue to deploy it. But you -- we do expect for it to be part of our development pipeline in 2024 and as we mentioned, we will be opening a second unit at the end of this year.

Operator: And that does conclude today's presentation. Thank you for your participation and you may now disconnect.