Driven Brands Holdings Inc. (DRVN) Earnings Call Transcript & Summary

Hi. Good afternoon. Thank you for joining us today for our last session of day 1 of the Goldman Sachs Retail Conference. We're very happy to be hosting Driven Brands. We have with us today, Jonathan Fitzpatrick, President and CEO; and Tiffany Mason, EVP and CFO, of Driven Brands. Driven Brands is the largest automotive service company in North America, with a highly franchised base of more than 4,300 locations across the U.S. and 14 other countries. The company's diversified platform provides an extensive range of services, including paint, collision, glass, vehicle repair, oil change maintenance and carwash. I'm going to turn the reins over to Jonathan, who's going to run through a couple of slides, Tiffany as well, and then we'll open this up to a fireside chat. Thanks for joining us today.

Awesome, and thanks. And good afternoon, everyone. Thanks for being with us today. We appreciate it. We know that many of you have had a long day. I'm Jonathan, and I'm joined by my amazing partner and CFO, Tiffany Mason. I would like to thank you, Kate, and Goldman Sachs, for having us today. We appreciate that. And we have a handful of slides that we'll walk through, but then really look forward to getting into the Q&A. So hopefully, everyone sees the slides that are up there. If we go to the next slide, really before we talk about any of the business or current trends, I thought it would be helpful to explain some of the core strengths that we have at Driven Brands. The first is our size and our scale. So we are, as Kate mentioned, the largest automotive services company in North America, and we'll certainly talk about some of the scale benefits that we've had over the last sort of number of years. We're a compound grower. So when we grow new stores, we grow same-store sales. That obviously compounds into revenue and adjusted EBITDA. We believe that our growth is very low-risk. In North America alone, we believe we've got 12,000 stores of white space, and we've got a really strong track record of both organic growth and then highly acquisitive M&A growth. Our business has performed incredibly well through all the economic cycles. Up to 2019, we had 12 consecutive years of same-store sales growth. And then despite a bit of a hiccup in early March and into April of last year, we rebounded very, very well, and I think you've seen our results, since then, have been very, very strong. We're asset-light. Majority of our stores are franchised or independently operated. And because of that asset-light nature of our business, we're highly cash-generative. And what we've been doing with that cash is putting it back into the business either through new units or M&A, which then further compounds the growth algorithm. And then lastly, I think something that we're incredibly proud of, is that we have consistently executed. We are a results-driven management team that think and act like owners, and execution on our strategy is one of the most important things that drives our engine. On the next slide, a little more detail on this slide about sort of this unique combination that Driven has, which is really this combination of being a high-growth retailer wrapped in a franchise business, 2 sort of unique characteristics, really sort of the best of both worlds. In 2020, we had $3.4 billion of system-wide sales. We've got over 4,300 locations, serving over 50 million cars annually. We're highly franchised, as I mentioned before. We've got less than a total -- less -- our current market share is less than 5% of this still massive and growing highly fragmented industry. As I mentioned before, we delivered 12 consecutive years of same-store sales growth. And important to note that the industry we operate in really delivered about a decade of 3% CAGR as well. So this is still a big and growing industry. And lastly, obviously, we've had a really nice 5 years, where we've had a revenue CAGR of 40% and adjusted EBITDA CAGR of 31%. So with that, maybe Tiffany can spend a few minutes just talking about some of the specific metrics of our business.

Yes. That's great, Jonathan. Thanks. So as you heard throughout Jonathan's remarks there, Driven Brands is a high-growth, highly cash-generative auto services company, and we have really compelling opportunities for further expansion as this market consolidates. And as you all well know, it's tough to find a double-digit grower in retail today. And we're not only growing revenue rapidly, but we're also posting attractive margins. So I think this slide is really powerful as we look back at history. We've been aggressively growing units since 2015 through our franchising strategy, acquisitions and company greenfield development. We have a strong franchise development team. We have a proven track record of accretive M&A. And we have a core competency in real estate site selection. And this has allowed us to nearly double our store base since 2015. And the white space going forward is nearly triple our current store count. While store growth is a core part of our strategy, same-store sales growth is equally important. And if you look at that top-right chart, as Jonathan said, we've delivered 12 consecutive years of same-store sales growth, positive same-store sales growth, from 2008 to 2019. That was even during the Great Recession, which really speaks to the needs-based nature of our services. Our commercial partnerships with fleet and insurance customers, the power of our marketing and data analytics capabilities and continuous operational improvements have allowed us to deliver a 4% average comp during that period. 2020, of course, was a unique circumstance with the onset of the pandemic, but the team really leaned into enhancements last year and efficiencies that have allowed us to come into 2021 strong, with year-to-date same-store sales of positive 19%. On the bottom left and right, you can see, from '15 to '20, we grew revenue at a CAGR of 40%, reaching $904 million in 2020. And through unit expansion as well as same-store sales growth, together with tight expense controls, we yielded a strong adjusted EBITDA CAGR of 38% over that same time frame. And you can see that we're off to a great start in 2021. So as Jonathan said, as a result of our strong growth in operating profitability and minimal maintenance CapEx from our highly franchised base, we generate significant cash flow. And we invest this cash flow back into the business in high-return assets. And we intend to continue using our balance sheet to capitalize on the substantial white space in a roughly $300 million consolidating industry. So if we go to the next slide, that reinvestment in our business, with the playbook we've consistently executed since 2015, allows us to compound growth over the long term. And that translates into this algorithm: low single-digit same-store sales growth; low double-digit revenue and adjusted EBITDA growth; and mid- to high-teens adjusted net income growth. These are organic long-term targets. Our model assumes unit growth based on our visibility to a well-developed company greenfield and franchise pipeline. There is no M&A in our targets. M&A is a core part of our strategy, and we have a good reputation for being a reliable and effective acquirer. But M&A is lumpy and it's difficult to predict, so we've chosen to exclude it. Second, our model assumes only modest same-store sales growth. It's below our historical average, so we feel very confident that we can deliver at least this level of growth. And we've also not assumed any margin expansion. And that's not because there is an opportunity, but rather to prove the double-digit algorithm works with or without it. Keep in mind that this is a roughly 60-40 fixed variable model. So as top line volumes grow, the flow-through of this model is powerful. Said simply, these results are absolutely achievable with a solid execution. So let's finish our prepared remarks where we started. Driven Brands is a scaled platform, the largest auto services company in North America. We're a compound grower, with tremendous white space, providing needs-based services in any economic environment. And because we are highly franchised and therefore asset-light, we are highly cash-generative. All of this provides significant opportunity for shareholder value creation. And with that, we look forward to your questions, Kate, and the audience.

I knew I was going to do that at some point today. I was muted. Sorry. Thank you so much for those introductory comments, Tiffany and Jonathan.

I just want to remind everybody, I'm going to go through some questions here, but we will have time at the end for Q&A. There is a little bit of delay of when you send it to me, to when I get it. So if you want to get those questions in a little bit on the earlier side to make sure they're asked, if you can send them over the next few minutes, and I'll be sure to read them to the team. I think I'm just going to start out with the discussion on unit growth, if you don't mind, since it's such a big part of your story. And you talked a little bit about it in these introductory comments. You have the ability to open new stores, but you also have been very active in the M&A environment over the last several years. So can you maybe talk to us a little bit about how you view unit growth, both organically and from an M&A standpoint? And then we can go into more questions from there.

Yes. Sure. I'll start, and Tiffany, of course, will jump in. But I think we're unique, Kate, in that we've got the ability to grow sort of units organically. But then if you sort of split that up, we've got the ability to grow them, both from the company stores, which we're doing with our company, Quick Lube, and our company, Car Wash, and then we've also got the ability to do that with our franchisees. So if you look today, we've got a pipeline of franchise locations of about 750 locations. Those are signed development agreements where franchisees have actually paid us fees to secure the territories to build in. We think that 750 licenses will sort of come to fruition over the next sort of 3 to 4 years. What's really interesting about that business is when you think about the compounding effect of that, those businesses typically take sort of 2 to 3 years to ramp. So there's going to be a built-in ramp as those stores open. And then as you think about sort of being a franchise business, the incremental cost profile for us with new franchise stores is very minimal, so high degree of flow-through from that incremental franchise loyalty and importantly, the franchise procurement or rebate margin that we get because franchisees buy through us. So secondly, the second part of the pipeline is the company store pipeline. Again, we're building company greenfield Quick Lubes and company greenfield Car Washes. Our pipeline today sits at about 200 locations. That means that we've secured real estate for 200 locations. That's split pretty evenly between Quick Lube and Car Wash. And while the franchise pipeline will sort of come to fruition over a 3- to 4-year basis, that company pipeline will happen over the next 2 years. So we feel really good about the pipeline, the secured real estate. And the pipeline for both company and franchise continues to build, so we're really pleased with where we stand from a new unit horizon.

When it comes to M&A, how do you think about consolidating larger players versus tuck-ins? And just given what seems to be a pretty active M&A environment in the industry broadly, can you talk about what you're thinking about acquisition multiples going forward?

Sure. Well, I think we think of M&A a couple of ways, Kate. One is that what we call bolt-on or tuck-in acquisitions, that's where we're buying 2 Car Washes or 2 Quick Lubes and immediately sort of absorbing them into our base business. That's something we've been doing for a decade at this point. We've got a 15-person M&A team. We've got a specialized business development team. We know how to interact with small business owners or small entrepreneurs. We keep things simple. It's small, simple LOIs; small, simple asset purchase agreements. We've got a great reputation in the industry. So that pipeline has sort of pivoted from Quick Lube, more to Car Wash, over the last 12 months. Since we got into the Car Wash business a little over a year ago, we've acquired 75 locations in the last 12 months. So we're very pleased with that, both execution and the pipeline. In terms of multiples, specifically, most of the questions are around the Car Wash space. Certainly, there's more activity in that space than there was a year ago, 2, 3 years ago. I think you're seeing a lot of private equity money flow into the space. So you are seeing multiples creep up a little bit. I will still tell you though that the multiples that we're acquiring businesses at are still highly accretive in terms of the overall Driven Brands. And we don't buy anything if we can't make it better. So those are 2 questions we always ask ourselves. If we buy an asset, will that asset make Driven better? And can we make that asset better? So in every instance, we have an underwriting thesis, which really grows both top line revenue and profitability of the acquired assets. So I think there's a little bit of multiple frothiness in the marketplace today, but not something that would stop us from continuing to be highly acquisitive.

Okay. That's helpful. And you did mention Car Wash, and I wondered if we could spend a little bit of time on Car Wash in particular because this is the more recent large acquisition that you've done. It got you into a new area of business. It's expanded your portfolio. You just, as you mentioned, you just made 75 small acquisitions. I think 30 happened in the second quarter. I guess I was curious, just based on the portfolio of businesses you already had, why was Car Wash the right business to add to the Driven portfolio?

Yes. It's -- well, it's a phenomenal business. We've actually owned a handful of Car Washes for a number of years, so we got to sort of look at the business and study the business. And then we had the opportunity to buy the ICWG business a little over a year ago. The things that attract us to the business, Kate, are not probably terribly surprising, but first and foremost, the unit-level economics of this business are just fabulous. So we're generating 4-wall EBITDA margins in the mid-30%. IRRs for this business on greenfield can be 45%. So a highly profitable business. The second thing that's super important to us is the simplicity of the business. So all of our Car Washes are express tunnel car washes. So they're very much dependent on technology and less on people. So we don't have large full-service car washes. These can be run very effectively with 3, maybe 4 people at peak periods. So that's a really interesting component, very similar to our Quick Lube business, quite frankly. The next thing that's super interesting in this business is sort of the nascent nature of the business. So a huge respect for John Lai and the Mister Car Wash team that became public recently. But there's still a lot of markets where there isn't Car Washes or where consumers think of car wash, they think of a rollover car wash or a hand car wash. So I think there's massive white space opportunity within the industry. And I think there's room for some players like ourselves to grow significantly over the next decade. And I think sort of the icing on the cake for this business is the subscription revenue model that's built into this business. So we bought the business about a year ago. About 39% of our revenue was coming from monthly subscriptions. We've grown that nicely by about 500 or 600 basis points to sort of the mid-40s now. And obviously, we see what John and the team have done at Mister. I think they're somewhere in the mid-60s, which is just terrific. So that sticky recurring revenue stream is just sort of an extra benefit to this phenomenal business. So we're really excited about it and excited to continue to put a lot of capital to work there.

That's really helpful. I think you've mentioned maybe on the last quarterly call, if not maybe the one before, that you're looking at rebranding some of your Car Wash locations to the Take 5 brand. And I know it's early days, but I just wondered if you had any indication of how that test is going and what a rollout could look like there.

Yes. Maybe what I'll do is I'll give you our thesis why we think it's a good idea because it's still in test with a handful of stores. But the thesis is pretty simple. So there's 2 things. One is we do believe in the power of brands. Driven Brands has lots of brands, some of them have been around since 1972. So we do believe there's power in having a national brand. So that was sort of question one, and we sort of answered that, but we think that makes sense. The second component is when we looked at what the brand possibly could be, a lot of our existing Car Washes, a lot of our future Car Washes, are going to be in markets where we have our Take 5 Quick Lube brand. That brand has grown exponentially over the last 5 years. We've now got over 600 locations and still growing. So we're really trying to leverage or potentially trying to leverage the brand equity, brand awareness of that Take 5 brand that we've done such a nice job with, leverage that from a consumer awareness perspective and using Take 5 Car Wash. The second -- sort of the third component of the thesis, Kate, is that we will be building on some of the real estate, the pipeline that I talked about, we'll be codeveloping both Quick Lubes and Car Washes on the same piece of real estate. And we think there's tremendous cross-promotion, cross-branding opportunities, not to mention the efficiencies and savings from building both things in one piece of real estate. Broadly speaking, 300 customers a day coming through Car Washes, another 40 coming through Quick Lubes, we think there's a really neat opportunity to cross-brand, cross-promote, particularly when on the same real estate. So what I would tell you is that's our thesis. We're working on the thesis. We've got a handful of stores that we've rebranded already. I think we're pleased with what's happening so far and that we're going to roll it out to a handful more stores. We'll certainly keep the market updated as it continues to evolve from sort of Phase 2 of the test.

That's helpful. I had launched right into unit growth in Car Wash. I wanted to go back to probably where I should have started, was -- which was on what drives a lot of your business, which is miles driven. And obviously, with the pandemic, we saw a pretty big dip in miles driven. And I think, based on the data that we're seeing, we're not quite back at pre-pandemic levels yet with regards to miles driven, depending on where you are in the U.S. So I wondered if you could talk to us a little bit about how you've managed your business to deal with the drop in miles driven and then the opening back up and what your outlook is for miles driven and when you think it can resume to pre-pandemic levels.

Yes. It's a terrific question. So here's what I would say, is VMT, or vehicle miles driven, really started to recover quite quickly in May of last year, and it continues to improve. I think we saw national numbers from various sources that, at the end of June, total vehicle miles traveled were almost at pre-pandemic levels. The one piece that's still missing or lagging that is what we would call congestion miles, which are sort of a subset of vehicle miles traveled. That's really a function of people not being fully back in the offices and sort of the -- sort of typical rush hours in the morning and the afternoon. That impacts one part of our business, which is the collision repair business. Interestingly, on that collision repair business, we're gaining market share and our 2-year stat -- 2-year comps are still positive, really because there's 2 factors going on there. One is we're deepening our relationships with our large insurance partners. We do business with 19 of the top 20 insurance partners. And they want to continue to do more business with us because they can have 1,000 locations that they can service through one sort of account team. So that's continuing to grow and that's driving market share. The other really interesting part of that business is if you look at average check or the average cost of repair, it's gone up about $1,000 in the last decade, Kate, just because cars are more complicated. So that's a natural tailwind for both our franchisee profitability, and of course, the higher check means we're getting more royalty. But let me come back to vehicle miles traveled. So certainly, we continue to see improvement in VMT. All of our businesses are positive on a 2-year basis. I think -- we still think there's obviously some noise around Delta right now. I think some offices are pushing back return to office. Obviously, there's some noise inside of schools and stuff like that right now. I think it will take into the first half of next year to really get back to what we would call full pre-pandemic VMT, including the congestion miles. But I think there are some things that are really important. VMT is, on a consolidated basis, is basically back to where it is. More cars on the road generally is a good thing for Driven Brands. We think that as customers drive more, either for work or personal travel, that's going to continue that tailwind. We think that there's -- obviously, a lot of these things are linked. But when we think about stimulus starting to wane now for some folks, that, that will be sort of offset by labor pressures, employment rising, that means more VMT. And then some structural things for Driven, our business is 4 segments. It's highly diversified. Majority of the business is franchised. We ultimately provide needs-based services for customers, so unlike some other occasions in retail, where if you lose the occasion, you lose the occasion. If you need your oil changed or your car repaired, you still need your car oil changed or car repaired. So we think that this structural advantage of providing needs-based services is going to be very helpful for us going forward. The last thing I would say is that scale has been a big advantage for us over the last 18 months. We have scale. We've taken market share. And I don't think a lot of people realize, but the auto services industry generally is 80% small chains and independents. So while we've been able to lean into the business, whether it's advertising, franchise sales, new unit growth, acquisitions over the past 18 months, I think some of that -- 80% of the industry that's fragmented is definitely losing share and is highly disadvantaged versus some of the scale benefits we have. Sorry, super long-winded answer, but hopefully covered it.

No. That's great. And I wondered and asking the question, I'm wondering if it's a silly question, but is there any opportunity with the spike in used car sales for Driven Brands?

Yes. Look, I think what you're seeing is that maybe cars are being saved where they would have been previously written off. But these things happen over time, Kate. We saw Cash for Clunkers back in sort of '08, '09. I think it's short-term. It's not having a material impact on our business one way or the other. So it's not something we really spend a lot of time on. What I will tell you is that vehicles are continuing to get more complicated to fix and repair, and there's definitely a premiumization in the oil category as well. So I really think the long-term sort of technical advancement of the vehicle will be a net positive for Driven Brands. But we're not super worried about the short-term used car business.

Okay. Great. Maybe if I can pivot to -- gosh, I was going to say supply chain, but maybe we should start with inflation first and then go into the supply chain. I feel like we're in a somewhat inflationary environment between product costs, transportation costs, wage increases. I've wondered what Driven Brands was currently seeing from an inflation standpoint, where more of it is coming from of those buckets. And how do you see it playing out for the rest of the year?

Sure. Maybe, Tiffany, do you want to take this one?

Yes. Absolutely. So Kate, look, we're certainly seeing some pressure on a couple of different fronts. We're not immune to any of the questions that you cited, right? So from a labor perspective, obviously, the labor market has been tight. And we're seeing a little bit of -- green shoots are loosening here lately. So the good news for us is in our company-owned businesses in particular, those models are pretty light labor models, right? So we're employing anywhere from 3 to 5 people on average in a Quick Lube or a company-owned Car Wash business. And in those particular company-owned businesses, the people have a pretty good affinity for automotive services, right? They want to work in the auto services industry. We have pretty competitive pay packages, which include variable comp. And so we're competing for talent generally pretty well, given the tightness in the industry. So we're starting to see that loosen up a little bit here in the back half. I think we're going to start to see that sort of continue to trend in our favor. And we certainly saw some good data out in the market today. From a supply chain perspective, anything that's coming across the water, obviously, is tough right now. The good news is we're in a very fragmented market. Jonathan talked earlier about 80% of who we compete with are independents. So being one of the largest players or the largest player in certain categories means that most of that supply for the auto services sector is coming to us. So when we have the scale that we have, we have less trouble getting the supply that is available in the market than most of the folks that we're competing against. And that's a benefit that we have, just given our size and our stature in the industry. So we're working closely with our vendors. We have multiple suppliers in most cases. And we're buying out in terms of lead times, buying out into the future, probably a little bit further than we normally would, to make sure that we have supply available. If you think about our Platform Services segment, in particular, we've talked in the last couple of earnings calls actually about leading end-to-end stocks and making sure that we have product available when others don't, and that's paying dividends for us. So I don't want to suggest that we don't have any sort of tightness, or we're concerned about either one of those categories, but we're managing it pretty well and don't have any concern. And where we are seeing inflation, because of the size of our average ticket, we're actually able to take retail price up to cover the cost of any sort of inflation relatively easily because it is a needs-based service and the average check is relatively large. And so we can take minimal increases and still be able to maintain our traffic levels and customer service scores.

And given that there is this possible upward pressure on price, do you think that the environment still is staying pretty rational from what you can gather?

Yes, Jonathan, we certainly think so. We're not having to do anything sort of promotional or any sort of discounted -- increased discounting way to try to drive traffic to our stores. Again, it's needs-based services. Consumers are coming because they need to have their vehicle serviced on a pretty routine maintenance schedule. So we're not seeing any irrational behavior in the market.

Okay. Great. One other question, Tiffany, I wanted to ask you about was your long-term algorithm. I think a question that we get a lot is just why isn't there a little bit more operating margin expansion being guided for just given what seems to be a lot of opportunity for scale. So could you maybe walk us through that a little bit?

Yes, yes. Kate, I would love to. And I covered a little bit of this in my prepared remarks, but I think we hear this question sort of as a recurring theme. So there's -- I can never talk about it too many times for sure. And I want to be -- take the time here and give it its fair due. So when we wrote this long-term algorithm ahead of the IPO, we wrote it with very modest assumptions in place because we wanted to prove the value and power, frankly, of the model. So we wrote assumptions around your modest same-store sales growth and flat consistent margins, right? So the margin is 23% coming out of 2020, and we held that rate basically to prove that we could be a double-digit grower without any Herculean effort, right? No Herculean task was required. That doesn't mean that there isn't a pretty interesting opportunity for margin expansion. So there are some opportunities for us to continue to drive cost out, whether it's labor initiatives, and we certainly proved some of that through the pandemic as we reduced labor hours per car in the Maintenance segment. We continue to process and reengineer both in Take 5 and in the Quick Lube and the Car Wash space. We continue to look at our marketing spend through targeted digital mix and lower customer acquisitions across marketing, and we're just at the tip of the iceberg there. So as we lower our marketing spend and put those dollars to work, we get some efficiency there. And then, of course, procurement is a shared service across the platform, and we can continue to drive cost out through our procurement programs. So there are ways for us to drive cost out of the equation. But on a 60-40 fixed variable model, the single biggest way to drive flow-through and therefore margin expansion is by driving greater sales volume. And we can do that with fleet contracts, we can do that with insurance partnerships, greater share of wallet through cross-marketing and just frankly, overall unit growth. So again, we can drive top line growth all day long, and it's going to push that much more volume and then therefore flow-through, through the model. So we're not suggesting that margins stay constant -- margin rate stays constant. We're just suggesting if it stayed constant, we can still be a double-digit grower. Hopefully, that's helpful.

Yes. We only actually have a few minutes left, and I have a question from the audience here that I was going to ask you. We talked about raising prices before. This question asks, does Driven have an ability to raise prices in Car Wash to offset cost pressures? And how has the average Car Wash ticket price grown over the last 5 years?

Great question. I think the answer is we operate a multitiered pricing strategy at the Car Wash. So we think of that as sort of a good, better, best pricing model there, Kate. I think through the right merchandising, the right education, you can move people up the ladder. So I think, broadly speaking, let's say, it's 10, 15, 20, how do you get more people from 10 to 15, 15 to 20? So that's one area. The second is obviously executing on the monthly subscribers. That's a big opportunity, getting those into the sort of recurring revenue subscription. And then when you think about the cost profile for a car wash, the actual car wash, if you exclude sort of allocation for rent and things like that, water and chemical and electricity, pretty low cost and hasn't really seen any material impact. So that cost is around the $2 range per car. That's not dramatically changed over the last 18 months.

Okay. If there are any other questions, we can take them now. We might just wait 30 seconds to see if anything else comes through. And I'm not getting anything else. So I wanted to thank you guys for being here with us today, for sticking it out with us until the last presentation of the day. It was great to see you, and thank you for all the insight. And thanks to the audience for listening in.

Pleasure. Thank you, Kate. Thank you, everyone.

Thank you.