Aramark (ARMK) Earnings Call Transcript & Summary

This is the Aramark Q&A. When I say Q&A, it's really a fireside chat. I ask Tom questions. And at the end, there's a couple of -- room for a couple of questions from the audience. So take up your questions. Scott Sullivan, IR; Tom Ondrof is the CFO of Aramark. Tom has been around for a while now. So people surely know him. He came at a curious part: He joined Aramark early 2020. So he didn't have much time before the pandemic to make a huge splash. But boy, did they use the pandemic time well. And also things you should know about Tom is, before for Aramark, he was at a food distributor, which is, obviously, a key experience. And then before that, he was at Aramark's peer company competitor, Compass, where he was an executive that led to the enhanced growth trajectory of that company. Welcome, Tom. Thank you for joining us.

I know you just introduced or just reported earnings. We just spoke, but it is good to maybe review with people, how did you use that pandemic time? And why is that paying off benefits now?

Yes. Well, as Andrew said, good morning, everyone. I appreciate you being here and your interest in Aramark. As Andrew said, John Zillmer, our CEO, came in, in September of '19; I came in, in January '20, with a pretty clear idea of what we wanted to do with the business, having both spent many, many years in it. And we knew that the growth environment, the growth paradigm within the business had been really cut away. And this is a business, we feel strongly that you build margin through scale. You sort of build the winning approach through scale. You can't cut your way to greatness, and that's really the approach that had been taken for a number of years. So we set upon it, the sales force from a peak in around 2015, '16, has been cut in the U.S. over 40%. So we knew there were a few things we needed to do right away, and then pandemic hit. So there was a question about staying resolved to that strategy through the pandemic. So we had to do what we had to do at the -- from an operational standpoint to sort of right the ship in those first few months, first couple of quarters. But we stayed resolved to reinvesting in the business and entered the pandemic woefully underinvested and underresourced and sort of undercultured in a way from a growth perspective, and have built that over the last couple of years. So some of the keys there for us have been the people bringing back and hiring in the people, but it goes much deeper than that. We've built it into our monthly operating reviews, where we review our pipeline with our different lines of business and our countries. Every single month, there's an accountability exercise. When we had a CRM in place, before John and I got there, but it was not used. You'd look at the pipeline and some of the work that the sales people are doing and the time on the chart had been a year, 2 years, 3 years. They were just trying to look busy. So there was accountability built back into the system. We simplified the approval processes so that we could just have direct dialogues. We wanted it to be easy for the salespeople to be able to make decisions on the fly. We changed commission rates. We changed -- added sales net growth into our MIB, management incentive bonus plan. It's weighted 40% now. It wasn't even on the chart before. So it was sort of an everybody sells, everybody supports what can we do for your approach as well as investing in the people and the training. And we're now seeing some stability in that group. It's a relationship sell business, and the benefits are starting to show.

And you mentioned your outlook for net new this year as well. You used this phrase, "cruising speed for net new north of $800 million in fiscal '23." Help me understand what you meant by cruising speed? Somehow that caught my ear. Does cruising speed mean an annuity stream? Does it mean a growing annuity stream? Like what does that phrase mean to you?

I think we -- where we came from historical context, we came from no net growth from the 2016 to '20 period. I'm trying to make sure -- Scott's nodding.

Also, define for them net new.

Net new is gross new wins, contract wins minus losses in the year. So if you win a $10 million account, and you lose a $5 million account, your net new -- your net gross is $5 million. So that's -- and that was -- we were basically losing everything we were winning for the 5-year period before 2020. We'd win $800 million, we'd lose $800 million. So what we've done this year is we've won $1.6 billion and lost $800 million. So that growth is really starting to pick up, and that's gone from $0 to $800 million over quicker -- about it, as I said the other day about -- to you about a year quicker than we had hoped for to get to that cruising speed. Cruising speed for us is really about getting to a sustainable level of net growth. If you think about it, you've got a certain number of salespeople, so with a certain level of productivity; we'll continue to add. But if we can grow, and that was our target, our -- what we -- our aim that we set at Analyst Day mid-single digits on this basis and then additional growth from pricing or same-store sales volume. If we can get to that mid-single-digit organic net growth, that's really the sustainable number we want to stay in. And that's cruising speed to us. If you're booking more than that, it's really hard to open it in a quality way. That's why you won't see the industry in my experience -- in my past life was, you'd get to a speed, you want to make sure you're booking for 2 reasons. One, the ability to mobilize more than that is tough from a cash standpoint. And also, you do want to walk away. You don't want to win everything -- or you're leaving money on the table. You want to walk away from a few accounts either because you didn't have the relationship and you don't want to spend time and effort to sell it just not to win it. But also you need to say no a couple of times just to make sure you're at the right place from a profitability standpoint.

Right. So a lot of the net new this past year that you just finished from self-op conversions, but not particularly university wins. And I know you're very well diversified, but that's the one vertical that stood out to me that might have been kind of more the year where you had to kind of re-up your existing in education. So my question is, do you feel like this coming year, the coming fiscal year will be a year where there's a lot of self-op conversions in universities and will Aramark win its fair share this year in net new in that vertical?

I don't know if it will or won't. I mean, we don't get particularly hung up on where the new business comes from. We'd love to see it. I know that a list was put out years ago of the self -- higher-ed self-op big contracts and they've been very slow to move -- that's fine. They're future wins. We picked off one off that list Purdue -- 2 years ago, I believe. And so they'll slowly come. But outsourcing is a very emotional decision for most companies or universities or hospitals. There's a control issue that they've got to overcome. And so that's why the relationship is so, important, why the stability in your sales force is important because you've got a -- that was an 8-year hello to contract for Purdue. You've probably heard that story before. It took 8 years. So we keep after it. We've got targets on that list, as I'm sure our competitors do too, and we keep working on the list. But we're very happy, too. And you've asked me a couple of times, we've traditionally been about 1/3, 1/3, 1/3 pre-pandemic between where we want our business, self-op conversions, regional players or the other 2 big players. The self-op has pushed up a bit the last couple of years because of the added complexity of COVID and sanitation and supply chain and everything to where I think we said it was about 45% from self-op. We expect that to settle back down, and that's fine.

Settle all the way down to 1/3?

I think it will stay elevated for a little bit longer than maybe I thought. But we're fine if it settles back to 1/3, 1/3, 1/3. Our market is so large, the industry opportunity is so great, it's one of the reasons John and I were so excited to sort of come back in and rebuild this growth culture with Aramark because the opportunity is so big. But long may that self-op bump live.

And most of your growth, most of your growth, you would say is industry growth, right? You're just winning your fair share. And I know -- and a little bit more and you execute and you get some per capita and stuff, but it is mostly industry growth?

It is. Yes, the pie typically grows, food away from home continues to grow. Some of the markets, some lines of business are -- will shrink on occasion. The long tail, for example, of higher ed, I think, is shrinking a little bit through the pandemic, where some of these very, very small universities, their ability to exist in the long run, who knows. But the core sort of 300, 400 universities that we would play and want to serve, they're going to be around for a long time. So yes, the industry's got a real health to it.

Right. So your fiscal year ends September. You just gave guidance for the new fiscal year: 11% to 13% organic revenue growth. You broke it down nicely of what multiple drivers are to build up today to show us the credibility. Did you have any specific economic assumption underlying these growth rates? Like do you think that if we're in a mild U.S. recession that you could still make your '23 guide, which you just gave this week?

Right. We do. The only thing underpinning that guidance, the 3 components are net growth, about 4.5% to 5%, building to the 11% to 13%; net growth, 4.5% to 5%. The base recovery, which -- let me -- I'd like to touch on that for a second, if I can, of 3% to 4%. And then we're expecting pricing in sort of the 3.5% to 4% range. The only economic assumption underpinning it is that pricing. We're assuming inflation to maintain in mid-single digits throughout the year. If it starts to edge back up, we're going to have to price a little bit harder, and we will do that. We've sort of proven that throughout the year. We had a 6% pricing impact in the fourth quarter, a tailwind for our revenues. That was closer to 1%, 2% in the first quarter of last fiscal year. So we were able to move the pace of pricing up as the year went on and inflation dictated it. So that would be the only one that's underpinning. The other -- the net growth -- that's regardless of what's going to happen.

Right. That's for what you did last year, helps us this year. I'm surprised you're so confident about the base growth. Like I definitely understand that's the trajectory now, but if there's a recession, there could be layoffs and that could affect your base growth.

Yes, absolutely. And that's what some people pointed out the COVID recovery, which is what we labeled it. We should have just labeled it base recovery because there's cross currents going on now, to your point, that we've got -- continue to have the base recovery coming back and particularly in the business dining sector, but also a little bit from the early part of the year in higher ed, where a lot of the retail sites weren't yet open. Enrollments weren't full if you go all the way back, it seems like forever ago now, to last fall compared to this fall. Concerts last fall compared to this fall weren't fully up. So we sort of got that role impact. So there's a number of things in that 3% to 4% volume come back that people have, in the -- since the call yesterday, have said, it feels like it should be a little bit more than that because you were at 90% for the year. You exited the fourth quarter at 95%. Is there a little bit more? Admittedly, yes, probably. Cross current, we're assuming is if there's a bit of recession.

Right. So 3% to 4% already has both puts and takes?

Exactly. So that's where we're factoring that in.

Yes. Just so everyone understands this base growth. They've already passed their 2019 levels for total revenues or even inorganic revenues, but there are some areas where the volumes haven't fully recovered, probably in this building included.

Right. Yes, that's true.

Okay. So you feel like you're on path for your margin targets in '25 -- and the overall targets in '25. The margins are 7% to 7.5% and your target for fiscal year '25. Even though we've had this inflation bout, is the whole range, 7% to 7.5% appropriate as a target? And then my next question is, is 7.5% really kind of like, let's just say, the optimal margin that you really shouldn't go over if you want to balance out your high-growth initiatives?

Yes. Both good questions. I think inflation is certainly putting a bit of a -- a bit of pressure on that margin since we put that goal out, about a year ago now.

Yes, it's about a year.

And so we talked about yesterday about all things being equal, that might put us -- start to edge us down to the lower end of the range. But as always, there are other things that can start to pick up as the supply chain. We factored some supply chain benefit into -- certainly into that margin. Again, historical context, our pre-COVID margin was about 6.7% and trying to work our way back to that and through that. So by '25, we would be exceeding that, to Andrew's question. And so part of that -- the drive to and through that '19 margin is supply chain efficiency is the growth from -- the margin growth from scale, on the top line and leveraging our above-unit overheads. So I think we still feel very good about that range. It's just going to have to work a little bit harder to offset the inflation impact that we didn't fully anticipate a year ago.

Right. And there was a second part to the question. Like is 7.5% like an optimal margin?

It's one of those -- no, is the quick answer. It's one of those where you put a target out, let's get there and then decide what's next.

It's a meaningful milestone?

Exactly.

I got you. So you talked about scale a few times. I didn't, obviously, lead you to talk about it, but that's what's on your mind. And when I think about our cafeteria, it is still a pretty people-intensive business. Good news is they don't pay rent. But it's still a people-intensive business. When you say scale, do you mean purchasing power of being a larger purchaser? Or are there other things where you feel like automation could go much further? We've reduced our number of cashiers from 3 to 1 here. She's really more of like a customer service person now. But are you talking both purchasing power and automation? Or is it mostly purchasing power when you say scale?

Scale -- the first port of call is going to be purchasing power. Beyond that, I think it trickles into a lot of things that we do. In any individual unit, if you go across and see this, scale is not going to be -- we're not going to grow that footprint. We're limited by what you guys allow us to operate in, but you can certainly use a lot of the scale that we have from an innovation standpoint, Mashgin, which you see as the checkout is a perfect example of the more we're using Mashgin and partnering with them, the better pricing we get per unit for those units. So there are little pieces of scale in every unit, but by and large, the supply chain and then, again, all the costs above each of these units, 5,000 of them that we have, like the one here, we are able to scale that cost as we grow the number of units we have.

Right. So now I'm going to talk about the margins for education. Historically, that's been high single-digit margins. What does it take to get there? What does it take to have success? Do you need more net new wins to get to the margins? I surely know, I have 3 college-aged kids, things are well underway on university campuses. Education for you is both K-12 and higher ed. Just pathway back to high single-digit operating margins?

Well, again, yes, net growth is key. As we entered the pandemic '18 and '19, it was a no-growth business. We were in essence losing what we were winning in higher ed. And if you think about one account on one account, the math's pretty easy. You basically will take -- especially these larger accounts like higher ed, they come in inefficiently to the system and then build their margin over time. They typically with -- depending on the level of CapEx we invest into those accounts, can have 10-, 15-year terms. So you're building the margin from the time you mobilize it through that 10-, 15-year life to and hopefully through the sector line of business average. When you lose an account that's mature, let's say, 10%, for example, that's making 10%, and you bring on one, that's at 2% initially, you've just flopped out the same revenues for 800 basis points less on margin. So you can't keep just churning accounts like they were doing, so we have to show net growth to be able to cover. On top of that, higher ed business, the operational sector in the middle, because they were experiencing no growth back 5, 7 years ago, they cut out a lot of their middle management layers, which exacerbated the problem because that's a lot of where retention comes in is what you're paying. So they went on this downward cycle where they were losing accounts then cutting the people that were really responsible for helping maintain the relationships, and then they lose more. So we reinvested -- like with sales and higher ed specifically, we reinvested in that layer of management and customer service. We're getting back on top of that growth, and that will all start to cycle up.

Okay. How long do you think it will take?

You love that question.

Yes. Of course. Of course.

I don't know.

Okay. That's fair. So now I'm going to talk about a similar "how long it's going to take question" on B&I revenues. B&I is not a particular area where there's self-op conversions, I know you can name one good one in the last couple of years. But in general, midsized and large firms already have an outsourced cafeteria. As I've mentioned, we use Aramark. So you're not going to get there through gross NIM. And sure, you talked about some recovery in the base, that's particularly B&I. How long will it take to get back to B&I revenues, to be back matching the 2019 levels, especially since we've had price increases along the way?

Well, it's funny you asked that question because the guy that ran B&I in my old world, he was always very defensive about the growth model in B&I because it is the highest outsourced of all the lines of business. it's 90% plus outsourced where a number of others like higher ed or health care are around 50% or less. So you have that opportunity. But what he always reminded me is that while there's only 5% in-house, not much, there is over 50% with regional players. It's the most regionalized line of business. So you get small players all over the place, a lot of which we've all acquired as a part of the business. So that's where the money is. That's where the growth is. We still feel very comfortable that we bring to the table something those regional players can't bring, as do the other 2 big players, and that we can continue to convert that and show net growth. So I feel very confident that net growth is a big part of the B&I story over the next 2, 3, 4, 5 years.

Right. And we are going to get back to 2019 revenue?

We are absolutely going to get back and past 2019 revenues. Yes.

I'm sure you're pretty happy that you're not overweight high-tech companies in terms of cafeteria?

It's been helpful. Yes.

Sounds good. You talked about reinvesting in customer service and hospitality culture, in general. Do you run a Net Promoter Score? Where does it stand? What are your NPS ambitions, if you have?

We don't. And it's one of the nuances of the business, and I think it makes it very difficult, if I'm in your seat, looking into the business to sometimes understand. If you walk across and see JPMorgan's Cafe...

You should. It's right here.

Yes. It's one of a kind -- not because it's special, hopefully, they think it is, but because it's the unique footprint and request of the client here. And that happens to us in every single account. So if you've been in 1 Aramark account, you've been in 1 Aramark account. No 2 look alike, no 2 operate alike. We are first beholden to our clients as to what they want: Hours of operation, types of service, offer, points of service. The footprint that we're given, a lot of times people walk in and go, well, that's not very nice. I go okay, well, that's what the client gave us. So when we get to things, when we try to get to -- the more we aggregate things, the less meaningful they get in areas like this, like with a Net Promoter Score. We really -- the other example I give is we could please, we could have 20,000 ecstatic students on a college campus. But if we screw up the President's fundraising trustee dinner, we're on thin ice. And so we've got to play the B2B and B2C game constantly. And that's why we've always got to be wired high, wide and deep, we say, at every account, so that any particular area we're able to recover from. But we've got to understand who our economic buyer is and the ultimate decision maker. And it's one of the really important reasons why you have to run these things by line of business and empower the field because working with JPMorgan and the decision-maker there, which is probably procurement, is very different than working with a Board of Trustees at a hospital and the decision-making they make or a board, a committee on a student on a campus, which is filled with students. So we've got to be able to understand the different needs and desires of each of those line business. And so to try to homogenize the business becomes a bit tough.

That's fair. Okay. This is time for your questions. Repeat the questions after each one.

[indiscernible]

Repeat the question.

Sure. How much of the $800 million of lost business is controllable -- culpable versus nonculpable is sort of the term we use. So certainly, we look ourselves in the mirror when we lose any business. And the field will want to say, well, it was financial. Well, no, it wasn't. If we were doing a great job and serving those needs, we would probably have that chance to match financially. There are certainly some examples of not -- of closures. So let me answer your question directly, and then I'll give [indiscernible]. So roughly half of that -- so that represents 5% of our annualized volume. So roughly half of that is either the business is closed, there's no longer food service there in any form, or we've messed up or there's just some political reason. A lot of time, again going back to higher ed, if a university president has had another food service company through all his travels, because they do tend to move universities, he or she just might be comfortable with that. And when our contract comes up, they have a bias towards that. So that happens. So there's a bias. There's we've screwed up. There's closures. That's half of it. The other half is just -- it's just the competitive process. It's just a rebid process that people are -- no matter how well you're doing, they're just -- they're either required like K-12 schools...

To rebid?

To rebid. And it does become a bit more about price. So we're always looking at that churn and try to make it better. We think 95% retention is the threshold. That's the minimum we find acceptable.

That's the minimum. So you think it can go higher?

97% is always our aspiration, always. I think 96% is quite achievable, which would take another $100 million-plus help. So we're trying to balance that. We'd love to grow more, but retention is so much more important given that margin dynamic we just talked about. So we're playing both ends.

Say it one more time. Like do you think you're going to slip backwards this year on retention just because companies might go out of business, or guess what, maybe those rebids were pushed off during the pandemic?

I don't. I think that pressure was this year.

That was this year. Past fiscal.

Yes. I think we're easing, and John talked about that a little bit yesterday. I think that pressure is easing a little bit as we go into '23 from those dynamics. So not that we're letting our eye off the ball.

You feel good about the direction of retention. I got it. Other questions?

From new to new? [indiscernible] Sorry.

Net new.

For the net new, what was the reason for the improvement, I guess? What was the specific items that led to that?

New management.

Yes. John's charm and good looks, I think. There's no one thing I guess I'd point to, but going from really net new of 0 like we talked about for the 5-year period '16 or '15 through '19, and then now $800 million this year, $500 million last year, and we're expecting circa $800 million again next year. It's just that series of things. It absolutely started with reinvesting in the sales force, particularly in the U.S., which had been cut. So getting feet back on the street. The next step is a stable managed territory, training, so people understand the hello to contract process, to build a relationship to understand what's important to the client, pain points for the client, why they may be willing to switch, cutting bait at that point if there aren't enough reasons to keep going and move on to the next opportunity or keep going, build those relationships, develop those pain points, create our solutions. Not a cookie-cutter approach, but a solution for that university or that hospital. Educating the client on why we're the best ones to deliver that, and then fulfilling the dream in the presentation. So that process wasn't there, and that's what you've got to go through. So that dynamic is starting to really take root along with more people, along with enhanced commission rates, along with everybody being on a measurement incentive plan on net growth. as well as simplified pro formas, less bureaucracy in the sales approval process, all those things.

I think that's a good place to stop. Obviously, I want to thank you, Tom.

Thank you.

We're going to be back here, asking you the same and more questions next year. Thanks, everyone, for joining. In the back, you're surely welcome to take sticky notes, our primer is back there. I'm Andrew Steinerman and I'll be here all day.