Arko Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
August 8, 2023

There are 10 speakers on the call.

Operator

Greetings, and welcome to Arco Corp's Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Ross Parman.

Operator

Thank you. You may begin.

Speaker 1

Thank you. Good morning, and welcome to Arco's Q2 2023 earnings conference call and webcast. On today's call are Ari Kotler, Fairmont President and Chief Executive Officer and Don Basssell, Chief Financial Officer. Our earnings press release, quarterly report on Form 10 Q for the Q2 of 2023 is filed with the SEC And our earnings presentation are available on Arco's website at arcocorp.com. Before we begin, please note that all The second quarter 2023 financial information is unaudited.

Speaker 1

And during the course of this call, management may make forward looking statements within the meaning of the Private These statements may be identified by the use of words such as will, may, expect, plan, intend, could, estimate, project and similar references to future periods. These statements speak only as of today and are based on management's Current expectations and beliefs may involve risks and uncertainties that could cause actual results to differ materially from those described in these forward looking statements. Please refer to our press release, our quarterly report on Form 10 Q for the quarter ended June 30, 2023, And our other filings with the SEC, including our Annual Report on Form 10 ks, for a detailed discussion of the risks that could cause actual results To differ materially from those expressed or implied in any forward looking statements made today, please note that on today's call, Management will refer to non GAAP financial measures, including same store measures, EBITDA and adjusted EBITDA. While the company believes These non GAAP financial measures provide useful information for investors. The presentation of this information is not intended to be considered in isolation Or as a substitute for our financial information presented in accordance with GAAP, please refer to our earnings press release for reconciliations of our non GAAP measures to the most directly comparable GAAP measures.

Speaker 1

I would also like to note that we're conducting our call today from our respective remote locations. As such, there may be brief delays, crosstalk or other minor technical issues during this call. We thank you in advance for your patience and understanding. And now, I'd like to turn the call over to Ari.

Speaker 2

Thank you, Russ. Good morning, everyone. We appreciate you joining the call. First, I'd like to thank our approximately 14,000 employees for their hard work and dedication, which I see first and every day. We have had a busy first half of twenty twenty three and continue to execute our strategy of creating long term shareholder value.

Speaker 2

I have great conviction that we are doing the right things. We have a deliberate focus on improving the performance of our retail stores, including our customer service and experience to our marketing and merchandising strategy and of course executing on accretive M and A transaction. Looking at our performance, I'm extremely happy with our results this quarter. Adjusted EBITDA for the quarter Was $86,200,000 compared to $79,000,000 in the prior year quarter, an increase of 9.1% including recent acquisitions. I encourage you to review our earnings release in which we provide more color on how our recent acquisitions Contributed to our performance.

Speaker 2

The headlines this quarter are, our strong organic growth in merchandise gross profit, which was offset by lower organic fuel gross profit and increased labor expense. At our retail stores, We continue to see the positive results of our many initiatives. Our strong and experienced merchandising and marketing team Continue to work to maintain our trajectory of generating more gross profit inside our stores By focusing their efforts on our 3 strategic key pillars, growing sales in core destination categories, Our fast rewards loyalty program and expanding our food and beverage service. As a result, Merchandise gross profit dollars grew to $135,600,000 a 5% increase On a same store basis as compared to Q2 2022. Merchandise margin On a same store basis grew 130 basis points to 31.9% compared to 30.6 in Q2 2022.

Speaker 2

I'm very proud of these results. This quarter, Same store merchandise sales excluding cigarettes grew 3.8% and same store sales increased by 0.7% compared to Q2 2022. We consider a store to be a same store beginning in the Q1, in which the store had a full quarter of activity in the prior year. I want to underscore why we believe that the same store sales Focused on our core destination categories, which are packaged beverages, candy, salty snacks, Packaged sweet snacks, alternative snacks and beer. We measure our retail success on our ability to grow sales And profitability outside of cigarettes and in our core destination categories.

Speaker 2

We have executed on our strategy, Growing merchandise sales and gross profit, while decreasing our exposure to cigarettes. We encourage you to look at our 2nd quarter presentation on arcocorp.com, where we have provided some information about this trend and our performance. I will detail some key metrics with all numbers comparing Q2 2023 to Q2 2020 over the last 3 years. As a result of our strategy, as a percentage of total merchandise sales, Core destination categories have increased from 38.4% to 44.6%. Cigarettes have decreased from 38.2 percent to 29.6 percent of total merchandise sales.

Speaker 2

Since Q2 2020, gross profit dollars from core destination categories have grown 67%, while gross profit dollars from cigarettes have only increased 7.5%. In the same time frame, All other categories, gross profit dollars have grown approximately 32%. The gross margin in core destination categories has Expanded approximately 546 basis points, while cigarette gross margin has expanded by approximately 148 basis points. Turning to the progress of our 3 key merchandising and marketing pillars. Our first pillar is to grow sales in core destination categories through data driven decision, execution And strong supplier partnership.

Speaker 2

We define our core destination categories as those categories where we invest resources such as People, technology, space and capital. Same store sales in these categories for Q2 this year Increased by 5.6% as compared to the prior year period with 12.2% Same store growth in Kandi. Importantly, margin in these core destination categories on a same store basis grew 100 50 basis points year over year. These categories were approximately 65% of our Q2 same store sales excluding Cigarettes and 45% of our total same store sales. We work to ensure that our stores meet our ice based assortment standards For these core destination categories and that we offer our customers the right assortment and value proposition.

Speaker 2

This reinforces my belief that we are doing the right things by way of assortment and marketing. This is the Arco way, which we quickly implemented in our recent acquisition. We previously provided an update on our success at Andy Mart. This is not a one off. We are seeing similar progress in our newly acquired where we added approximately 1,000 items into stores.

Speaker 2

At this location, merchandise margin increased 290 basis points to 34.8% compared to Q1 2023. Moving to the 2nd pillar of our Fast Rewards loyalty program, we are very pleased with the results from the major upgrade of our loyalty app, which went live on March 28. We believe that our program develops and enhanced our relationship with our customers, drives more trips with our existing customers and attracts new loyal customers. To support the growth in our loyalty program, On May 17, we launched our 100 days of summer loyalty enrollment offer and new customers were enrolled with a valid e mail address and phone number I'll be rewarded with $10 in Fast Box delivered to the new app wallet. We are seeing increased cadence of enrollment And importantly, of marketable loyalty members.

Speaker 2

At the end of Q2 of this year, We had 1,480,000 enrolled members and we are just getting started. Marketable members, which are loyal customer In fact, since we launched our new app in March, we added more than 205,000 net enrolled marketable members. We know that enrolled marketable members make more trips and spend more in our stores than non enrolled members. In Q2, enrolled members made an average of almost 6 more trips per month versus non enrolled members. For the same period, they also spend on average more than $60 per month more than non enrolled members.

Speaker 2

Given the increased frequency and spend of enrolled members, we are very excited about the upside opportunities as our program gains more traction. Our 3rd pillar is expanding our food and beverage services, and we are making great progress. This includes branded food franchises, Packaged, fresh and frozen food offerings, including pizza, chicken, roller grills and hot, Cold and frozen dispensed beverages. Although we have a lot of upside to grow our food and beverage offerings, I want to highlight our existing capabilities. We currently have 150 plus branded food franchises, 160 plus in store delis, 160 plus oat grab and go units, 1200 plus cold grab and go units, 370 plus roller grill And over 700 bean to cup coffee stores.

Speaker 2

We have expanded bean to cup coffee by 135 stores Since the Q1 of 2023, branded franchise food sales increased 10.4% on a same Store basis in the Q2 as compared to the prior year. Our Grab and Go sales have increased 13.4% in Q2 2023 As compared to the prior year period, we are happy with this performance, but know we have more to achieve and plan to grow in this category, particularly in a way that allow us to control our own destiny. We are targeting approximately 120 more stores For all our Grills by the year end of 2023, we have targeted an additional approximately 230 stores Food or bean to cup coffee expansion by the end of 2023. We continue to challenge ourselves on our food and beverage service offering For further growth, delivering great results, while exceeding our customers' expectations. As you know, I like to get out with the team to keep our fingers on the pulse at our retail stores and check the performance of our operation.

Speaker 2

I and several senior executives recently surprised visited many stores. We walk into the stores unannounced, Speak to our associates and managers and truly inspect in store each store. I believe we have made a lot of progress on our merchandise execution, but believe we still have more to go. We understand that excellent customer Experience and service is a necessity and is core to our business. The operations team goal It's for merchandise and marketing plans to be closely followed and mix an assortment in each location executed to our strategy and always in stock.

Speaker 2

We will continue to invest in updating key areas of our stores that we believe are essential for continued growth. We are more committed than ever driving long term sustainable inside sales growth, Spending margin and gross profit dollars and we know that there is a runway for improvement and growth. Turning to fuel, Total fuel contribution increased to $156,000,000 compared to $130,800,000 In the prior year quarter, an increase of $25,200,000 At our stores, On a same store basis, retail fuel gross profit for Q2 was down 5.1% as compared to the prior year period. This reflects the impact from both declining gallons sold of 2.6% and slightly lower cent per gallon, $0.01 on a same store basis, both as compared to the prior year period. I will note that according to OPIS data, Volume is down year over year in each of the region in which we operate.

Speaker 2

2nd quarter retail cent per gallon on a same store basis was $0.403 against $0.414 in the prior year period, as we continue to cycle elevated cents per gallon from 2022. We still believe that structurally higher margin will remain. Marginal operators with their cost structure and operating pressures are one of the main factors of this assessment. Looking ahead for Q3, we do not expect retail fuel margin as remarkable as the prior year period. In Q3 2022, we netted retail cent per gallon of $0.448 which was exceptional, and we do not believe that high margin is reflective of a normal quarter.

Speaker 2

As always, we continue pursuing our strategy of fuel gross Profit Optimization. Turning to M and A. Following the closing of the Qualls and Pride acquisition in 2022, We closed the TEG acquisition on March 1, 2023. TEG added 135 convenience stores and expanded our Southern Retail territory Into Alabama and Mississippi. We also added 181 dealer locations.

Speaker 2

As I mentioned earlier, We are encouraged by early results at the Pride stores that we recently reset to our standards. We believe we will have similar results at the TEG stores that we recently reset. WTG, which we closed on June 6, 2023, Added 24 company operated anchored convenience stores and significantly announced the company's footprint into the attractive Western Texas market. This is our 2nd closing in 2023. We expect this to have approximately $14,900,000 of Adjusted EBITDA on an annualized basis, including expected synergies.

Speaker 2

As part of this acquisition, We added 68 Gascart branded split fueling card lock sites and 43 private card lock sites, 1 of the largest fleet fueling operation in West Texas. Approximately 75% of 2022 fuel cells by volume at WTG Carslock Jason, Verdiza. In addition, the WCG business issues fuel cars that provide customers with access to a nationwide network of fueling sites. Arco's Fleet Fueling segment expect to leverage its leading marketing and operation knowledge to manage fleet fueling sites and create value for our customers. We see a major opportunity to leverage our This is clearly a complementary acquisition, and we are pleased with the results so far.

Speaker 2

During the Q2, GPM Petroleum Upside its credit line by $300,000,000 to $800,000,000 and extended in maturity until May of 2028. There is $602,000,000 of availability under our line of credit as of June 30, 2023. In all, Arco currently has access to more than $2,000,000,000 in available funding for continued M and A activity. We continue to see tremendous opportunity ahead of us in our acquisition strategy with a deep pipeline of potential opportunities. We believe our successful track record of making accretive acquisition will continue to enhance value for our stockholders.

Speaker 2

Lastly, I'd like to welcome a new Pride location to our footprint. On June 30, We opened our newest location in South Windsor, Connecticut and carries those in the area to come visit. This location is beautiful, Almost 5000 Square Foot Store Offering Indoor and Outdoor Sitting TO Enjoy Chester Chicken and Our Food and Beverage Program. The location is equipped with a drive through to offer our guests even more convenience. There are 40 parking spaces for our customers, 16 retail fuel pumps and 10 high flow diesel pumps along with a truck parking area.

Speaker 2

We have additional new units in the pipeline that are in various stages of development, and I look forward to adding more into the future. One last point before I turn the call over to Don. We continue to make progress on electric vehicle front. As we are always monitoring the EV transition, I will note that there is very limited penetration in our core footprint. That said, we assess installation on a site by site basis and with a view on return on capital.

Speaker 2

We were among the first to install EV charging capabilities in Wisconsin and we now have 15 EV charging locations With 62 ports across 9 states, I remain excited about the many achievable opportunities in front of us. Thank you for your time today. And with that, I will now turn the call over to Don.

Speaker 3

Thank you, Ari. As our many initiatives continue to gain traction, the company has continued to record excellent results. Our balance sheet continues to be strong and we currently have a very good liquidity position. As of June 30, 2023, we had cash and cash equivalents Approximately $220,000,000 our outstanding debt, excluding capital leases, was approximately $824,000,000 resulting in net debt of $604,000,000 Further, we enjoy the benefit of our Oaktree program, which Ari mentioned earlier on the call. Additionally, we continue to realize excellent cash flow.

Speaker 3

For the quarter, net cash provided by operating activities $30,100,000 versus $42,100,000 for the Q2 of 2022. This included investment in working capital $31,800,000 in the prior year quarter. Merchandise margin increased by 150 basis points as compared to the prior year quarter to 31.9%. Total capital expenditures were roughly $27,600,000 for the quarter. This is compared to capital expenditures of $24,500,000 in Q2, 2022.

Speaker 3

Retail fuel profitability, excluding intercompany charges for the Q2 of 2023, increased 11.4% this quarter to $116,600,000 This includes a decrease of $5,200,000 in same store fuel profits, Excluding intercompany charges, more than offset by $19,000,000 in fuel contributions from acquisitions. The company maintained relatively Strong retail fuel margin of $0.403 per gallon for the 2nd quarter compared to $0.414 per gallon on a same store basis in Q2 2022. 2nd quarter convenience store operating expenses increased $29,500,000 or 17.5% versus the prior year quarter, primarily due to $29,800,000 of expenses related to the recent acquisitions An approximately $3,200,000 increase in expenses at same stores, mainly driven by approximately $4,200,000 or 6.5 percent of higher personnel costs compared to Q2 2022. The increase in store operating expenses Partially offset by underperforming retail stores that we closed or converted to dealers. I'd like to pause here and give some color around our labor costs.

Speaker 3

We, like others in the industry, have faced wage inflation. Our average hourly wage increased to $1.50 an hour in Q2 or approximately 10% on same store basis as compared to the prior year period as we continue to invest in our employees. We have made a concerted effort to wisely use hours and decrease overtime hours as we continue to fill open positions. Moving to wholesale for the quarter, wholesale fuel contribution excluding intercompany charges decreased approximately $2,500,000 compared to the prior year period. This was primarily due to lower prom pay discounts related to lower fuel costs and declining fuel volumes at legacy wholesale sites, partially offset by $5,400,000 contributed by our recent acquisitions.

Speaker 3

The relatively new fleet fueling business Generate fuel revenues of approximately $121,100,000 for the Q2. Fuel contribution excluding intercompany charges From the fleet fueling sites was approximately $14,400,000 for the quarter. Fuel margin cents per gallon, excluding intercompany charges for the proprietary card lock locations was $0.439 per gallon. Net interest and other financial expenses for the 2nd quarter increased by $12,800,000 versus the prior year quarter to $20,200,000 The majority of this is related to approximately $7,000,000 due to favorable fair value adjustments in the prior year quarter. Net income for the quarter was $14,500,000 versus net income of $31,800,000 in the prior year period, primarily due to an approximately $15,000,000 increase And depreciation and amortization expenses in connection with recent acquisitions and the favorable fair value adjustments in the prior year quarter.

Speaker 3

Adjusted EBITDA was $86,200,000 compared to $79,000,000 in the Q2 of 2022. In the Q2, the company repurchased 1,487,349 shares of our common stock For a total of approximately $11,200,000 There are, as of June 30, 2023, approximately $49,100,000 remaining under our previously announced Upsize $100,000,000 Stock Repurchase Program. Because of our continued strong results and desire to enhance returns for stockholders, we We announced on Friday that Arco's Board of Directors declared a quarterly dividend of $0.03 per share of common stock to be paid on September 1, 2023 to stockholders of record as of August 15, 2023. And with that, I'll turn the call back over to Ari.

Speaker 2

Thanks, Don. I will close by saying that we believe 2023 will be another year of strong performance and growth. I'm very proud of our continual progress as a company. Now we will take your questions.

Operator

Thank you. At this time, we'll be conducting a question and answer Our first question comes from Karru Martinson with Jefferies. Please proceed with your question.

Speaker 4

Good morning. When we look at the same store sales on the merchandise front, how much of that do you feel was pricing versus the traffic that you're getting in?

Speaker 2

Good morning, Karru. That's a good question. So I think it's a mixed bag. I mean, sales are up in part due to inflation. At the same time, we also see some units decline, but there are some subcategory units grow Such as energy drinks is up 4.7%, roller grill is up 14.5% And the single beers are up 4.05%.

Speaker 2

So I think it's really a mixed bag Between inflation and some categories are down and some categories basically are up over here. And that's the reason While we are adding assortment and using category management to add higher margin item to our mix over here, It's really all about consumer behavior and we try to follow consumer behavior to make sure that we're keeping the pace over here. And we're Strategically working really, really hard over here to shoot the consumer to higher margin product, especially to our loyalty program. That's really something that we're working really hard to plan ahead.

Speaker 4

And when you look at that footprint, how much opportunity is there to add kind of those branded food franchise offerings? And how do those stores That have them perform relative to the rest of the network.

Speaker 2

Sure. We actually review each and every store on an individual basis. We have today Over 160 different delis inside the store. Our first thing that we are doing is we're actually transforming some of our current delis And their footprint, of course, to better menu offering, such as, for example, Dunkin', we had We continue to build Duncan in the Tri City area. We see a great opportunity over there and we continue to Build a new one, basically and add them to our footprint.

Speaker 2

I think at the end of the day, we are Really, really trying to figure out a structure of a food and beverage service offering based on the consumer behavior. And as I said earlier, I mean, we have over 150 Branded Foods franchises at the moment. And you see what happened to sales. I mean, sales are up 10.4% quarter over quarter. So it's really we are moving along based on demand.

Speaker 2

I mean, We have a huge pipeline of opportunities. For example, we have we were talking about the bean to cup coffee stores, for example. Total coffee cups are up 71.35 percent year over year, which is approximately 278,000 more cups. We have for this year another 120 stores that we are going to add to roller grill and we have another 230 stores We are going to add bid to cap basically to the offering. So we have a huge runway ahead of us.

Speaker 4

Okay. And then just lastly, the year ago, Q3, very strong performance. Is there anything that we should be aware of as we cycle That quarter are things that we would call out on a comparison basis?

Speaker 2

As you know, we are not talking about Q3, we are not providing guidance over here. I think the one thing that I mentioned on the call was fuel margin last quarter. As you remember, Fuel margin in Q3 2022, really fuel margin was just remarkable. Given that the National the average national price back in the end of June, beginning of July was above $5 Galen, and then we saw a big drop in a very short order between, I recall, at the beginning of July to the end of July, beginning of August, Satish, I think those remarkable basically cent per gallon, I believe we're going to see that in Q3 2023. But as you see, even in Q2 2023, We came we're very, very close to $0.40 per gallon over here.

Speaker 2

So it's slightly below what we basically saw in Q2. But at the same time, shifting to merchandise sales, you see what happened to merchandise sales. Our inside sales excluding cigarettes are up tremendously. Our margin quarter after quarter after quarter, we continue to increase Margin and I think some of the results from the inside sales and with our initiative, I think are going to overcome some of the CPG shortage that we probably saw between 2022 to 2023.

Speaker 4

Thank you very much guys. Appreciate it.

Speaker 2

Thank you.

Operator

Our next question is from Ben Wood with BMO Capital Markets. Please proceed with your question.

Speaker 5

Hey, good morning. This is Ben on behalf of me and Kelly. Thank you for taking our questions and we definitely appreciate all the additional We first wanted to dig in on that. Now that you've kind of closed all the deals and had At least a couple of them for a quarter or 2. Any changes to the previously disclosed EBITDA run rate target?

Speaker 5

And then in general, how's the synergy capture coming relative to expectations? And can you just refresh us on where we should Expect to see those in the P and L and the timing of the big chunks.

Speaker 2

Sure. Given that Don was working really hard With our team to add additional disclosures over here, I will let Don answer the question.

Speaker 3

Thanks. And just know a lot of this was based on discussions with you, especially with our analysts, so we can get a lot more transparency about Obviously, not all this we are realizing synergies on them on the acquisition, but we're not done yet. We still have a lot more to do. I think one of the things I know it's already talked about and not EAD to talk about the opportunities of putting additional items in the stores, but we also There's been tremendous upside with Pride, as we talked about. We also have not yet fully realized the G and A synergies that we're looking for because a lot of these are so new, but there's several things we can point to and talking about things that are not yet They are, for example, putting our loyalty programs into TEG, putting them into WTG.

Speaker 3

There's a lot of up and runway, but We've gotten a lot of the synergies just from the from what we've gotten from a cost standpoint. But obviously, there's a lot more to add.

Speaker 5

Okay. That's great. And then just switching gears quickly On the labor disclosure that you went through, Don, I believe you mentioned our average hourly wage increased 10% in 2Q. Can you Do you know where does that put you relative to peers and who is your biggest competitor on the labor front? I guess trying to gauge if this was a catch up or to get ahead and try Yes.

Speaker 3

So Ben, that's a great question. It's something we talk about all the time And our competitors are everybody. It's not just our competitors in the industry. It's Fast Feeders, it's Walmart, it's everybody because anybody paying an hourly wage. I think the thing a couple of things to point out.

Speaker 3

Number 1, yes, we were up 6.5% in Q2, but that's down. The cadence is down from Q1 where we were at 9 point 7%. And something else that's important to point out is our overtime has decreased a tremendous amount. And that goes towards I think quality of life That we're getting the people and also getting temp services and things like that, so people aren't having to be taxed to those hours. So We always do wage surveys.

Speaker 3

We're not the lowest, we're not the highest, but we go market by market and be competitive for the employees we want. We also want to make sure that those employees have

Speaker 6

a good quality of life.

Speaker 5

That's great. Thank you very much.

Operator

Our next question comes from Bobby Griffin with Raymond James. Please proceed with your question.

Speaker 6

Good morning, buddy. Thanks for taking my questions and congrats on a nicely balanced I guess, Don, just to follow-up on the OpEx side of things and the labor. Like, what do you think a healthy Same store operating expense growth rate is for this industry or what you would target? Is it 3% or 4% or are we still kind of been Where same store are going to have to grow a lot higher than that? I'm just trying to get a better feel for what the core business should grow over time and then we can layer on the acquisitions

Speaker 3

Yes, yes. And Ben, thanks. And this is a question we struggle with all the time because obviously, While we had a slowdown of wage growth Bobby, I'm sorry. I apologize. Bobby asked for that.

Speaker 3

No worries. While we while it was mainly driven by $4,200,000 in higher personnel costs, we also had a benefit because credit cards were down, okay, because we didn't have those High rates out there. So look, we think we have opportunities on because of our size and because of everything else that And as we consolidate to lower those costs going forward, the biggest unknown is going to be labor. But again, as we look and go forward, I think we've in my opinion, We've kind of hit that peak and are starting to move downward. But there could be other economic conditions that could affect that.

Speaker 3

But I think one of the things that as I point to and I think I talked about with Ben just before Is that we have slowed that growth from 9.7% down to into the mid-6s and that we have increased the hourly wage. And the other thing I want to point out Is that we went from a model where we were trying to do incentives and stay on bonuses And then also that the and trying to put it into the wage. So I think that The opportunities we have because cost of turnover is huge and that's something we don't talk about a lot. And so our turnover is down And that's going to slow down operating expense growth and we put a lot of resources at that to do it. So filling opening positions with committed associates is essential in providing excellent customer service and that's what we're really focused on.

Speaker 6

Okay. Appreciate that. And secondly for me, Ari, I mean, we've closed here a good bit of acquisitions in the last year or so, just recently closed one here in June. Can you maybe talk about where you're at from the M and A journey? And as we sit here today, does there need to be a pause for integration?

Speaker 6

Or do you still have the bandwidth to be aggressive out there, from M and A if there are opportunities?

Speaker 2

So as you remember that Bobby, I keep saying it almost on every call, that's our DNA. That's really the Arco, basically core DNA Acquisition. We continue to grow through acquisition. And I think that's one of the reasons, while most of the industry It's down a little bit quarter after quarter on their EBITDA because we know that the CPG was a little bit elevated prior year. We continue to basically grow EBITDA given our basically acquisition model over here.

Speaker 2

We just finished to upsize our credit line by $300,000,000 $800,000,000 and we extended maturity to 2028. We have $602,000,000 availability under our line of credits As of June 30, 2023, we're sitting on a lot of cash. We have the Oak Street Capital Agreement that we just renewed recently, so we have over $2,000,000,000 In available funding to continue M and A activity, we will continue the M and A activity. Our team was built To integrate those locations, and we're going to continue to do so. We're going to continue to do so.

Speaker 2

And we're going to continue to add More basically labor to it and we're going to increase the team on the integration side, but There is no reason for us to stop anytime

Speaker 6

soon. Okay. And then lastly for me, I was looking through some of the newly disclosed data about the recent I second everybody else's comments. I appreciate that disclosure. When you look at Pride, the merchandise margins notably higher than maybe some of the consolidated stores the consolidated average for the company at 34.8%.

Speaker 6

So is there an opportunity there to I guess for kind of reverse synergies across And can you maybe talk about what Pride does well to drive that higher merchandise margin and if there is any opportunity to kind of take some of that expertise and put it back into more of the core Arco

Speaker 2

Sure. Sure. So I think that the number one thing to remind everybody, Cigarette sales concentration in the Northeast, it's probably a little bit lower than some other areas in the country. So I think the one thing that you see in Pride, A, we added over 1,000 different items into the mix over here. In MD Mart, if you remember, we talked about adding 700 We added more than 1,000 items to the mix.

Speaker 2

We added more food service or expand more food service and been to cup coffee To the mix. So I think the basket and the mix concentration over there, it's a little bit different than some other areas in the country. And that's the reason the margin is a little bit higher. No question, we increased margin by adding those that's basically those additional product to the store. But I think there is one thing, Bobby, that I think I have to mention.

Speaker 2

Besides all of the good things that we're doing and adding product and Assortment and making sure that we have the right product, we are loyalty, it's a big piece to it and I keep talking about loyalty. I think it's very important to emphasize the basically the sales excluding cigarettes that we try to basically to point almost quarter over quarter over quarter. And the reason I said that is because if you're really looking on our sales Including cigarettes on average, since Q2 2020, we are up on average 4.6%, While at the same time, sales basically the cigarette sales on average since Q2 2020 are down 3.6%. So what I'm trying to say is that we have a huge, huge, huge increase in the core category and those core categories by the way Are the ones that are driving the margin up. And this is where we are focusing and that's the reason we keep showing and mentioning The cigarettes basically settled since Q2 2020 were down from 38.2% To 29.6 percent this quarter and that's very important because that's what drives the margin.

Speaker 2

The minute you sell more Of the core categories, that's what's going to drive the margin. And that's basically what you see in price. That's the reason the margin is higher because the core categories are up Tremendously.

Speaker 3

Yes. And Bobby, one other quick note. I mean, there's things of pride that we're already looking at transferring. I mean, they have their own bakery, where they have a very extensive They even make pistachio muffins, I mean, which I've never seen before in my life. And we're already looking at how do we take some of that out to our sites in Connecticut, And that their commissary and their bakery.

Speaker 3

So there's key learnings we can take from each of our acquisitions and sort of reverse engineer back into our core stores.

Speaker 6

Thank you. I might have to try one of the muffins, but I appreciate the details, Don and Ari, and best of luck here going forward.

Speaker 2

Thank you. Appreciate it, Bobby.

Operator

Our next question comes from Anthony Bonadio with Wells Fargo. Please proceed with your question.

Speaker 7

Hey, good morning guys and echo everyone's comments on the added disclosures. So thanks for that. So not to beat a dead horse on gross margins But it does look like this was the highest merch margin quarter you guys have ever had and definitely seems to speak to some of the stuff you're doing strategically inside the store. So can you just help us parse out some of the biggest contributors to that 150 bps expansion we saw in the quarter? And then is that 31% to 32% range sort of a good way to think about the run rate for the business in the back half of the year?

Speaker 2

Sure. Thank you. Thank you, Anthony. I think the one thing that we did very well and continue to do very well is, As I said, it's finding the right assortment and making sure that we have the right assortment based on consumer behavior. We saw a nice increase in different categories like alternative snacks was up 3.9%.

Speaker 2

Candy, which is one of the Biggest category for us for a long period of time, candy was up 12.2%. Fast Bev was up 5.2%. I mean, in fact, sweet snacks was up 7.3%. And remember, all of those core categories, as we call them, Are really the one that drove the margin up tremendously and continue to drive the margin. I mean, if you're looking from since Q2 2020 or 2021, As you can see, we keep increasing margin substantially.

Speaker 2

And again, the reason for that, It's really those core categories that we keep talking about them. They are the ones that are driving the margin. And If you're looking on basically on the gross profit grew basically 67%. And if you're looking on same store sales over here, we are 5.6% in those core categories.

Speaker 7

Okay. That's helpful. Thank you. And then, just quickly on M and A, you've now closed the handful of deals that were announced at the end of last year. But it does seem like things have quieted down a bit, at least in terms of new deal announcements to date.

Speaker 7

Maybe that's just a function of timing, but can you Talk a little bit more about what you're seeing in terms of deal flow and valuations, has that moderated at all? And then just any color that you could give us there would be helpful.

Speaker 2

Well, we closed 2 acquisitions just from July to December 2022 and already closed another 2 acquisitions since technically March to June. Those are large acquisitions. I mean, if you're looking on PEG, PEG was 135 company operated stores and over 180 dealers. I don't see any slowdown in the marketplace. I think that there is a robust pipeline out there.

Speaker 2

And of course, we continue to evaluate and pursue all of that. But again, I don't think anything slowed down. I just think that Everybody got used to probably our core reporting 4 acquisition a year versus 2 already. But as I said, We have tremendous amounts of opportunities ahead of us when it comes to acquisition and the pipeline is full. I can assure you that.

Speaker 2

Thanks so much, Ari. Of course. Thank you, Anthony.

Operator

Our next question comes from Mark Astrin with Stifel. Please proceed with your

Speaker 8

Yes. Thanks and good morning everybody. I guess just following up on the last couple lines of questions there M and A wise. Yes. Maybe remind us about strategy on build versus buy, just to start, please.

Speaker 2

Sure. So As I mentioned earlier, the M and A strategy didn't really change, doesn't change. I mean, we are basically evaluating each and every opportunity as they come along. Given the footprint and given the size of our company, we are always, always, always committed driving long term shareholder value, which means that if there are opportunities to deploy capital in new to industry stores like the one that we just Bill, it's Pride in Connecticut. This is the 1st store that we opened 6 months after 7 months after actually we took this opportunity.

Speaker 2

So that's one thing that we're doing. We continue to evaluate not only new to industry stores, we also continue to evaluate Raise and rebuild, which we did couple already. And again, every time there is an opportunity, We're basically reviewing it based on return on capital, and we can deploy capital in NTI, In raze and rebuild and in acquisition, there is no particular order. I mean, we can basically do it all at the same time. And, Hassane, one thing I want to mention, Mark, because I forgot to talk about that is the functional remodel.

Speaker 2

As everybody remember, cost to remodel stores was up tremendously since the beginning of COVID. And What we decided to do is the function remodel, which is, for example, instead of waiting to remodel a store, we had a bean to cup coffee to our stores. We had the grab and go coolers. We had the freezers. We are adding locations with franchise food.

Speaker 2

We're adding pizza, we're adding chicken, roller grill. So we don't stop and wait. We just do all of those things that drive margin. And this is what the customer is looking for right now and we're making sure that we keep the pace with customer basically demands.

Speaker 8

Got it. Great. And then remind us, with gas prices increasing A little bit here. How to think about the conversion of shoppers coming into the store, any impact there? And somewhat related to that, where are we today in terms of just conversion, not necessarily relating to higher gas prices, just in general conversion of Folks who are buying gas that are coming in to shop and how does that evolve in stores where I guess just to put sort of high level investments have been made, right, to hit your other points of varying degrees of investments in store.

Speaker 8

Thank you.

Operator

Sure, sure.

Speaker 2

It's a good question. So what we believe as we continue to expand our offering inside the stores like food service, Loyalty is a very big component. We believe that making sure that we have the right offering inside the stores May drive the fuel customers. In the past, we were talking about fuel customers coming to the stores. What we see right now is The tremendous offering that we have inside our box, we believe actually reflect on the fuel customers outside.

Speaker 2

And you basically saw it I think we saw it Q2 in this Q, the gallons were down only 2.6%. If you're looking on the past two quarters, We really, really decreased basically the loss of gallons and look what happened to our inside sales. So that's I think that's the driver over here. Making sure you have the right offering will drive the customers outside. And what we are making sure with our loyalty basically program, there is a lot of offerings within our loyalty that if you buy something inside the stores that will actually provide you Up to $0.20, dollars 0.25 outside for fuel.

Speaker 2

And I think that's something that is helping us tremendously over here.

Speaker 8

Got it. And then just lastly, a reminder about inside sales impact higher gas prices, please?

Speaker 2

Can you ask the question again? I'm sorry I didn't hear.

Speaker 8

Yes. I just wanted to get the answer the question about how to think about the inside stores with rising gas prices, historically, how has that impacted it?

Speaker 2

Well, That's by definition. Every time you have higher gas prices outside the store, it's always impact sales. But I don't think it's Tremendous, it's like dramatically like we actually saw last year. I mean, yes, prices are above $3 In some areas, we are basically very close to $4 but It's not similar to what we saw we see last year. And again, we are focusing on delivering the right value inside the stores.

Speaker 2

That's our I think that's very, very important.

Speaker 8

Got it.

Speaker 2

Okay. Thank you. Thank you, Mark.

Operator

Our next question is from Alex Arnold with Odeon Capital. Please proceed with your question.

Speaker 7

Hey, guys. I I guess I just

Speaker 9

want to twist the M and A question a little differently. In an environment where access to capital is drying up And you guys have great access to capital. Do you see a scenario where you're advantaged or is pricing changing in the market at all?

Speaker 2

It's a good question. We didn't see any slowdown in terms of participant Compared to what we saw in the past, I mean, I'm assuming that some competitor maybe having a little bit of hard time We've access to capital, but so far, I don't see anything change in the marketplace so far. There are plenty of people with basically capital available to do those acquisition. Again, I think when it comes to the larger acquisition, I just think this is probably an area that we have some kind of advantage versus some others. But on the small acquisition, I think the the same basically competitor are still there.

Speaker 9

So how about if you look at the seller dynamic where You have some portion of the owners out there that are going into a refi in a much higher rate environment.

Operator

Is there

Speaker 9

any forced selling or more impetus to sell?

Speaker 2

Not that we are aware of. Not that we are aware of. And again, this is not something that I think what we see over here is smaller player Actually continue to be challenged with the operational challenges that we always see. That's the reason I kept talking about margin, fuel margin. That's the reason why fuel margin is up because All of the small operators are basically challenged.

Speaker 2

They don't have the same offering that we show over here. They don't have the gross profit dollars inside the Stores that we continue to show over here and I think that because they're challenged, I think that's really what drive them versus the refinance. I think operational challenges versus interest rate.

Speaker 9

Great. That's all from me. Thanks a lot.

Speaker 2

Thank you.

Operator

We've reached the end of the question and answer session. I would now like to turn the call back over to Ari Kotler for closing comments.

Speaker 2

Thank you everybody for your participation this morning. We'd like to wish you guys a safe and enjoyable summer.

Operator

This concludes today's conference. You may disconnect your lines at this time and we thank you for

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Earnings Conference Call
Arko Q2 2023
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