We are subject to a variety of additional risks associated with our franchisees.
Our franchise system subjects us to a number of additional risks, any one of which may impact our ability to collect royalty payments and fees from our franchisees, may harm the goodwill associated with our brand, and/or may materially and adversely impact our business and results of operations. Such risks may also apply to us as owners of stores. These risks include, but are not limited to:
•those relating to the application of local, state, federal and foreign bankruptcy laws and other applicable laws governing creditors’ rights generally and the impact such laws could have on our ability to collect payments and fees under applicable franchise agreements;
•those relating to franchisees that are operating entities, which generally are not limited-purpose entities, including business, credit, financial and other risks in addition to risks related to credit cardunions;
•those relating to franchisee changes in control and debit cardsuccession in general and the ability to find acceptable successors who would be able to perform a former franchisee’s obligations under applicable franchise agreements or successfully operate impacted stores in the event of a change of control or other succession event;
•those relating to franchisee insurance, including the inadequacy of, or inability to obtain, insurance coverage, losses in excess of policy limits or payments we accept.
not being made on a timely basis, extraordinary hazards not being subject to coverage (or only being subject to coverage at prohibitively high rates) or third parties seeking to recover losses from us to the extent those losses experienced by such third parties are either not covered by the franchisee’s insurance or exceed the policy limits of the franchisee’s insurance;•those relating to instances of termination of or default under a franchisee’s franchise agreement or the non-renewal thereof at the end of such agreement’s expiration date and the corresponding impact on the franchisee’s or our operations;
•those relating to product liability exposure or noncompliance with health and safety regulations and the impact such events could have on a franchisee’s ability to make payments under applicable franchise agreements, on us if an aggrieved party seeks to recover their losses from us and on our brand’s reputation;
•the imposition of injunctive relief, fines, damage awards or capital expenditures under the Americans with Disabilities Act of 1990, as amended, or other laws or regulations that could adversely affect the ability of a franchisee to make payments under applicable franchise agreements;
•litigation involving franchisees, including litigation involving us or litigation involving a third-party directed at a franchisee, which could decrease the ability of a defendant-franchisee to make its royalty payments and divert our resources regardless of whether the allegations in such litigation are valid or whether we are liable; and
•those relating to the reliance of a franchised store business on its franchisees and the nature of franchisees in general, including the retention of franchisees (especially including our top-performing franchisees) in the future or our ability to attract, retain, and motivate sufficient numbers of franchisees of the same caliber in the future as well as our ability to maintain a positive and constructive relationship with our franchisees.
Our current insurance coverage may not be adequate, insurance premiums for such coverage may increase and we may not be able to obtain insurance at acceptable rates, or at all.
For certain periods prior to December 1998 and for periods after December 2001, we maintain insurance coverage for workers’ compensation, general liability and owned and non-owned automobile liabilities. We are generally responsible for up to $2.0 million per occurrence under these retention programs for workers’ compensation and general liability, depending on policy year and line of coverage. We are generally responsible for up to between $500,000 and $5.5 million per occurrence under these retention programs for owned and non-owned automobile liabilities, depending on policy year and line of coverage.
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Total insurance limits under these retention programs vary depending upon the period covered and range up to $110.0 million per occurrence for general liability and owned and non-owned automobile liabilities and up to the applicable statutory limits for workers’ compensation. These insurance policies may not be adequate to protect us from liabilities that we incur in our business. In addition, in the future our insurance premiums may increase, and we may not be able to obtain similar levels of insurance on reasonable terms, or at all. Any such inadequacy of, or inability to obtain insurance coverage could have a material adverse effect on our business, financial condition and results of operations.
Environmental, social and governance matters may impact our business and reputation.
Increasingly, in addition to the importance of their financial performance, companies are being judged by their performance on a variety of environmental, social and governance (“ESG”) matters, which are considered to contribute to the long-term sustainability of companies’ performance. A variety of organizations measure the performance of companies on such ESG topics, and the results of these assessments are widely publicized. In addition, major institutional investors have publicly emphasized the importance of such ESG matters to their investment decisions. Further, in December 2021, we announced our goal to set and reach Science Based Targets by 2035 and achieve net zero carbon emissions by 2050. Execution of these strategies and achievement of these goals are subject to risks and uncertainties, many of which are outside of our control and may prove to be more costly than we anticipate. These risks and uncertainties include, but are not limited to, our ability to execute our strategies and achieve our goals within the currently projected costs and the expected timeframes; unforeseen design, operational and technological difficulties; the outcome of research efforts and future technology developments; the success of our collaboration with franchisees and other third parties; and the actions of competitors and competitive pressures. There is no assurance that we will be able to successfully execute our strategies and achieve our goals. Failure to achieve our goals could damage our reputation and customer, investor and other stakeholder relationships. Such conditions could have an adverse effect on our business, results of operations and financial condition, as well as on our stock price. There also has been increased political focus, including by U.S. and foreign governmental authorities, on environmental sustainability matters, such as climate change, the reduction of greenhouse gases and water consumption. Legislative, regulatory or other efforts to combat climate change or other ESG concerns could also result in new or more stringent forms of oversight and expanding mandatory and voluntary reporting, diligence and disclosure, which could increase costs, bring additional focus and further impact our business, results of operations and financial condition. Any failure or perceived failure by us to manage ESG issues successfully could have a material adverse effect on our reputation and on our business, results of operations, financial condition or stock price, including the sustainability of our business over time.
Risks Related to Our Indebtedness
Our substantial indebtedness could adversely affect our business and limit our ability to plan for or respond to changes in our business.
We have a substantial amount of indebtedness. As store operators, weof January 2, 2022, our consolidated total indebtedness was approximately $5.07 billion. We may also incur additional debt, which would not be prohibited under the terms of our current securitized debt agreements. Our substantial indebtedness could have important consequences for our business and our franchisees acceptshareholders. For example, it could:
•make it more difficult for us to satisfy our obligations with respect to our debt agreements;
•increase our vulnerability to general adverse economic and industry conditions;
•require us to dedicate a substantial portion of our cash flow from operations to payments through credit cardon our indebtedness, thereby reducing the availability of our cash flow for other purposes; and debit card transactions. For credit card
•limit our flexibility in planning for, or reacting to, changes in our business and debit cardthe industry in which we operate, thereby placing us at a competitive disadvantage compared to our peers that may have less debt.
Further, our variable funding notes bear interest at fluctuating interest rates that in certain circumstances is based on the London interbank offered rate (“LIBOR”), and there is currently uncertainty around whether LIBOR will continue to exist going forward. Following completion of a consultation regarding cessation of LIBOR settings in January 2021 and receipt, from a majority of the panel banks, of notices of future departure with respect to each LIBOR setting, ICE Benchmark Administration Limited, the administrator for LIBOR, confirmed its intention to cease the publication of the one-week and two-month U.S. dollar LIBOR settings immediately after December 31, 2021, and the remaining U.S. dollar LIBOR settings immediately following the LIBOR publication on June 30, 2023.
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The Financial Conduct Authority (the “FCA”) also stated that, while most available tenors for U.S. dollar LIBOR will be available for legacy contracts after December 31, 2021, such tenors may not be used in new contracts. The FCA will consult regarding the use of new powers to be granted by the EU and UK governments which would permit the FCA to require panel banks to continue to publish certain LIBOR settings on a “synthetic” basis until the end of 2022, including the use of such powers for one-month, three-month and six-month U.S. dollar LIBOR settings. However, the FCA also stated that any continued publication of “synthetic” LIBOR would not be representative and would only be for use in legacy contracts. In addition, the Federal Reserve Board, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation had previously released a statement that (i) encouraged banks to cease entering into new contracts that use U.S. dollar LIBOR as a reference rate as soon as practicable and in any event by December 31, 2021, (ii) indicated that new contracts entered into before December 31, 2021 should either utilize a reference rate other than U.S. dollar LIBOR or have robust fallback language that includes a clearly defined alternative reference rate after the discontinuation of U.S. dollar LIBOR and (iii) explained that extending the publication of certain U.S. dollar LIBOR tenors until June 30, 2023 would allow most legacy U.S. dollar LIBOR contracts to mature before LIBOR begins experiencing disruptions. In the United States, the U.S. Federal Reserve, in conjunction with the Alternative Reference Rates Committee, a steering committee comprised of large U.S. financial institutions, is considering replacing LIBOR with a new index calculated by short-term repurchase agreements, backed by Treasury securities called the Secured Overnight Financing Rate (“SOFR”).
Our 2021 Variable Funding Notes loan documents contemplate a transition from LIBOR to SOFR in the event that LIBOR ceases to exist. Because the composition and characteristics of SOFR are not the same as those of LIBOR, in such event, there can be no assurance that SOFR will perform the same way LIBOR would have at any given time or for any applicable period and how markets will respond to SOFR or other alternative reference rates as the transition away from the LIBOR occurs as anticipated. As a result, our interest expense could increase, in which event we may have difficulties making interest payments weand funding our other fixed costs, and our franchisees pay interchange and other fees, which may increase over time. An increase in such fees would cause an increase in our operating expenses and those of our franchisees and could require an increase in the prices chargedavailable cash flow for our products, either of which could harm our operating results. If there are malfunctions or other problems with our or our franchisees’ processing vendors, billing software or payment processing systems, our or our franchisees’ customer satisfactiongeneral corporate requirements may be adversely affectedaffected.
In addition, the financial and one or more ofother covenants we agreed to with our lenders may limit our ability to incur additional indebtedness, make investments, pay dividends and engage in other transactions, and the major payment networks could disallowleverage may cause potential lenders to be less willing to loan funds to us or our franchisees’ continued use of their payment methods. If we or our franchisees fail to adequately control fraudulent credit card and debit card transactions orin the future. Our failure to comply with these covenants could result in an event of default that, if not cured or waived, could result in the Payment Card Industry Data Security Standards, we or our franchisees may face civil liability, diminished public perceptionacceleration of repayment of all of our or their security measures, finesindebtedness.
Downgrades in our credit ratings could impact our ability to access capital and assessments from the card brands,materially and significantly higher credit card and debit card related costs, each of which could adversely affect our business, financial condition and results of operations. The termination
Our debt is rated by credit rating agencies. These agencies may downgrade their credit ratings for us based on the performance of our business, our capital strategies or their overall view of our industry. There can be no assurance that any rating assigned to our currently outstanding indebtedness will remain in effect for any given period of time or that any such ratings will not be lowered, suspended or withdrawn entirely by a rating agency if, in that agency’s judgment, circumstances so warrant. A downgrade of our credit ratings could, among other things, increase our cost of borrowing, limit our ability to processaccess capital, result in more restrictive covenants in agreements governing the terms of any future indebtedness that we may incur, including restrictions on our ability to pay dividends or repurchase shares, or require us to provide collateral for future borrowings, and thereby adversely impact our business and results of operations.
We may be unable to generate sufficient cash flow to satisfy our significant debt service obligations, which would adversely affect our financial condition and results of operations.
Our ability to make principal and interest payments throughon and to refinance our indebtedness will depend on our ability to generate cash in the future. This, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. If our business does not generate sufficient cash flow from operations, in the amounts projected or at all, or if future borrowings are not available to us under our variable funding notes in amounts sufficient to fund our other liquidity needs, our financial condition and results of operations may be adversely affected. If we cannot generate sufficient cash flow from operations to make scheduled principal amortization and interest payments on our debt obligations in the future, we may need to refinance all or a portion of our indebtedness on or before maturity, sell assets, delay capital expenditures or seek additional equity. If we are unable to refinance any majorof our indebtedness on commercially reasonable terms or at all or to affect any other action relating to our indebtedness on satisfactory terms or at all, our business may be harmed.
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The terms of our securitized debt financing of certain of our wholly-owned subsidiaries have restrictive terms and our failure to comply with any of these terms could put us in default, which would have an adverse effect on our business and prospects.
Unless and until we repay all outstanding borrowings under our securitized debt, we will remain subject to the restrictive terms of these borrowings. The securitized debt, under which certain of our wholly-owned subsidiaries issued and guaranteed fixed rate notes and variable funding senior revolving notes, contain a number of covenants, with the most significant financial covenant being a debt service coverage calculation. These covenants limit the ability of certain of our subsidiaries to, among other things:
•alter the business we conduct and engage in mergers, acquisitions and other business combinations;
•declare dividends or redeem or repurchase capital stock;
•incur, assume or permit to exist additional indebtedness or guarantees;
•make loans and investments;
•enter into transactions with affiliates.
The securitized debt also requires us to maintain specified financial ratios at the end of each fiscal quarter. These restrictions could affect our ability to pay dividends or repurchase shares of our common stock. Our ability to meet these financial ratios can be affected by events beyond our control, and we may not satisfy such a test. A breach of this covenant could result in a rapid amortization event or default under the securitized debt. If amounts owed under the securitized debt are accelerated because of a default under the securitized debt and we are unable to pay such amounts, the investors may have the right to assume control of substantially all of the securitized assets.
During the term following issuance, the outstanding senior notes will accrue interest in accordance with the terms of the debt agreements. Additionally, our senior notes have original scheduled principal payments of $51.5 million in each of 2022, 2023 and 2024, $1.17 billion in 2025, $39.3 million in 2026, $1.31 billion in 2027, $811.5 million in 2028, $625.9 million in 2029, $10.0 million in 2030 and $905.0 million in 2031. In accordance with our debt agreements, the payment networkof principal on the outstanding senior notes may be suspended if the leverage ratio for the Company is less than or equal to 5.0x total debt, as defined, to adjusted EBITDA, as defined in the indenture governing our securitized debt, and no catch-up provisions are applicable.
If we are unable to refinance or repay amounts under the securitized debt prior to the expiration of the term, our cash flow would significantly impairbe directed to the repayment of the securitized debt and, other than a weekly management fee sufficient to cover minimal selling, general and administrative expenses, would not be available for operating our business. No assurance can be given that any refinancing or additional financing will be possible when needed or that we will be able to negotiate acceptable terms. In addition, our access to capital is affected by prevailing conditions in the financial and capital markets and other factors beyond our control. There can be no assurance that market conditions will be favorable at the times that we require new or additional financing.
The indenture governing the securitized debt will restrict the cash flow from the entities subject to the securitization to any of our other entities and upon the occurrence of certain events, cash flow would be further restricted. In the event that a rapid amortization event occurs under the indenture (including, without limitation, upon an event of default under the indenture or the failure to repay the securitized debt at the end of its term), the funds available to us would be reduced or eliminated, which would in turn reduce our ability to operate or grow our business.
Regulatory, Legal and Compliance Risks
We face risks of litigation, investigations, enforcement actions and negative publicity from customers, franchisees, suppliers, employees, regulators and others in the ordinary course of business, which could divert our financial and management resources. Litigation, investigations, enforcement actions or publicity may adversely impact our financial condition and results of operations.
Claims of illness or injury relating to food quality or food handling are common in the food service industry, and vehicular accidents and injuries occur in the food delivery business. We are currently subject to these types of claims and have been subject to these types of claims in the past. Claims within our industry of improper supplier actions also occasionally arise that, if made against one of our suppliers, could potentially damage our brand image.
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In addition, class action lawsuits have been filed, and may continue to be filed, against various QSR alleging, among other things, that QSRs have failed to disclose the health risks associated with high-fat foods and that QSR marketing practices have encouraged obesity. State attorney general offices or other regulators have initiated and may in the future initiate investigations or enforcement actions against us. In addition to decreasing our sales and profitability and diverting our management resources, adverse publicity resulting from such allegations may materially and adversely affect us and our franchisees may need to expandbrand, regardless of whether such allegations are valid or change ourwhether we are liable, and could result in a substantial settlement, fine, penalty or their information systems to support different or emerging forms of payment methods, including as a result of consumer demand or contractual or legal or regulatory requirements, whichjudgment against us.
Further, we may be time-consumingsubject to employee, franchisee and expensive,other claims in the future based on, among other things, discrimination, harassment, working and safety conditions, wrongful termination and wage, expense reimbursement, rest break and meal break issues, including claims relating to overtime compensation. We have been and continue to be subject to these types of claims. If one or more of these claims were to be successful or if there is a significant increase in the number of these claims or if we or they may not realize a return on the investment.
