Greetings. Welcome to Arko’s Third Quarter Fiscal Year 2021 Earnings Conference Call and Webcast. [Operator Instructions] Please note, this conference is being recorded. At this time, I’ll now turn the conference over to Chris Mandeville, Managing Director of Investor Relations. Chris, you may now begin.

Thank you. Good morning, and welcome to Arko’s third-quarter fiscal year 2021 earnings conference call and webcast. On today’s call are Arie Kotler, Chairman, President, and Chief Executive Officer; and Don Bassell, Chief Financial Officer. By now, everyone should have access to the company’s earnings press release that was furnished to the SEC this morning and is also available on the Investor Relations section of Arko ‘s website at www.arkocorp.com. Before we begin, please note that all third-quarter 2021 financial information is unaudited. And during the course of this call, management may make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements may be identified by the use of words such as will, may, expect, plan, intend, could, estimate, and similar references to future periods. These statements speak only as of today, are based on management’s current beliefs and expectations, and involve risks and uncertainties that could cause actual results to differ materially from those described in these forward-looking statements. Please refer to today’s press release, the company’s annual report on Form 10-K for the fiscal year ended December 31, 2020, and the company’s other filings with the SEC 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. Except as required by federal securities laws, Arko does not undertake to publicly update or revise any forward-looking statements subsequent to the date made as a result of new information, future events, changing circumstances or for any other reason. Please note that on today’s call, management will refer to non-GAAP financial measures, including same-store measures; EBITDA; adjusted EBITDA; and adjusted EBITDA, net of incremental bonuses. 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 the financial information presented in accordance with GAAP. Please refer to today’s press release for reconciliations of our non-GAAP measures to the most directly comparable GAAP measures. I would also like to note that we are 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 Arie.

Thank you, Chris, and good morning, everyone. On today’s call, I will briefly review our financial highlights for the quarter ended September 30, 2021, and provide an update on our business. Don will then review our financial results in more detail before we take your questions. To start, we report record merchandise revenue and net income for the third quarter. Our adjusted EBITDA, net of incremental bonuses, increased nearly 40% to $80.2 million for the quarter, driven by both profitable growth in-store and at the pump for our retail segment, as well as continued outperformance by Empire in our wholesale segment. In-store, we experienced another quarter of meaningful merchandise margin expansion where we generated merchandise margin in excess of 30%, with 270 basis points in merchandise margin expansion to 30.6% not only reflects our continued emphasis on leveraging analytics to purposefully and strategically drive greater sales of higher-margin categories such as packaged beverages, candy, other tobacco products and grab and go, but it also highlights our efforts to optimize margin within key categories as well. Looking at our top 10 categories by inside sales, which account for nearly 90% of our total merchandise sales, we managed to deliver notable margin expansion through our strategic merchandising decisions, pricing, and improved purchasing economics. In light of certain COVID-related demand aberration in the prior-year period, I’d like to focus on our two-year stock same-store merchandise sales, excluding cigarette brands, as a more accurate indicator for the underlying health of our business, and a better barometer to evaluate our performance, given the company’s strategic focus in driving higher-margin sales. On a two-year stock basis, same-store merchandise sales, excluding cigarettes, increased 8.7%, with dollar growth most notably driven by strength in other tobacco products, packaged beverages and candy. From a growth rate perspective, we have…

Thanks, Arie. It’s great to be speaking with you all today about our strong third-quarter results. Merchandise revenue increased by 7.7%, primarily due to the ExpressStop and Empire acquisitions. Merchandise margin dollars increase by $20.3 million versus the prior year, while margin expanded 270 basis points to 30.6%, largely due to do a lower reliance on cigarettes and higher contribution from packaged beverage, other tobacco products and other center-store items, as well as improved purchasing economics. The ExpressStop and Empire acquisitions added $12.7 million in merchandise contribution, while same stores increased by $8.7 million, which was offset by sites that we either closed or converted to the other operated sites. Retail fuel profitability, excluding intercompany charges for the quarter, increased $21.2 million or 28%, with Empire and ExpressStop accounting for $18.5 million of the increase, coupled with same stores increasing by $3.7 million. Retail fuel margin for the quarter was $0.345 per gallon versus $0.31 per gallon for the prior year. For the third quarter of 2021, wholesale fuel profitability, excluding intercompany charges, increased approximately $22 million compared to the prior-year period, with substantially all the growth coming from the Empire acquisition. Fuel contribution from non-consignment agent locations grew by $12 million compared to the prior year, driven by approximately 206 million gallon increase in fuel volume and a $0.005 increase in fuel margin per gallon for these locations versus the third quarter of 2020 due to an increase in the prompt pay discount related to the increased cost of fuel along with increased rebates. Fuel contribution from consignment agent locations grew $10 million compared to the prior year, due to an increase in volume of 37 million gallons and an increase of fuel margin cents per gallon of $0.011. Third-quarter store operating expenses increased $32.7 million or 24.8% versus…

Thanks, Don. I’d like to close by thanking our over 10,000 associates company-wide. They are a driving force behind what success we realized in the quarter and have proven instrumental in our executing against what we believe remains a significant and exciting long-term growth outlook. Thanks for joining the call today and your interest in Arko. I will now turn it over to the operator for questions. Operator?

[Operator Instructions] Bobby Griffin, Raymond James.

Good morning, everybody. Thanks for taking my questions and congrats on a good quarter. Arie, I just wanted to maybe touch on the merchandise margin improvement again in retail and ask for a little bit more detail. And then I guess secondly, was there anything unique with the mix of the product this quarter that might not be sustainable going forward? Or do you look at the mix of your items this quarter as normal -- quote/unquote, normal -- and that should be sustainable, so these type of margin improvements could be consistent or held onto?

Sure. Good morning, Bobby, and it’s a great question. I think it’s sustainable. And the reason for that, it’s really what we have discussed over the past few quarters since the beginning. If you are really looking over here on a same-store sales and ex-cigarettes, we continued to perform exactly in accordance to our strategy. If you look on Q3 2020 versus Q3 2021, our concentration on cigarettes is actually down. I mean. right now, the concentration is that we are actually at 36% cigarette sales versus 37.9%. So, the strategy worked, which means that we are selling more, basically, items of the center of the store. And in particular, if you’re looking on 90% basically of our merchandise sales -- actually, those are the ones that really drove the margin over here. So, there is no question that the minute you all concentrate less on cigarettes and concentrate more on other products ex-cigarettes, there is no question that the margin will expand. And I think that’s what you see over here. And I’m expecting margin to continue to grow as we move forward over here.

Okay, very good. And then I guess also I’ll maybe just touch on OpEx and where you guys are from the labor situation. I know we talked last time about some initiatives you’re working on from the hiring standpoint. Maybe just any updates around labor and how you are managing the OpEx expense side of that, going forward, would be helpful.

Sure. Don, would you like to take it?

Sure. Sure, let me do that. Bobby, our biggest -- if you look on a same-store basis, the biggest increase for us in OpEx, by far, was credit cards. Obviously with the price of fuel going up, that accounted for a big jump in OpEx. And we did have over a 5% jump in OpEx for salaries and wages, but that’s a little bit lower than what we expected. I mean, obviously we do expect that OpEx will grow, but it has not outpaced what we expected to do in this year. Obviously, it’s a tough labor market. We know we’re having to compete for employees. But, by far, the biggest driver in OpEx this quarter was credit cards versus salaries and wages.

Okay. And Don, maybe just remind us so we are all on the same page, that your credit card fees -- does that fall into store operating expenses on the consolidated income statement?

Yes, it does. For management reporting, we don’t do that. But for GAAP reporting, it does fall into operating expenses.

Okay, perfect. Yes, I will note that. And then I guess just lastly for me, any comments on October? I mean, the fuel margins here this quarter were impressively very strong despite a rising oil environment. We’ve seen a little bit of a compression in the OPIS data for October. Just curious what you guys have seen over the last four or five weeks from a fuel margin perspective.

Well, we can’t really comment on October; we can only talk about everything related to Q3. But what we can comment is that if you are looking at what happened in Q3, the same thing that you guys have been seeing over here, quarter after quarter. We are very, very analytical. We are going after, of course, gross profit dollars. And that I think is the name of the game over here. I mean, this is where we are concentrating. We are concentrating on increased profitability. At the same time, just want to touch, you probably heard, we renegotiated three of our supply contracts which represent around 30% of our gallons. And those things, of course, help us to increase our margin, and, at the same time, be very competitive. So, that’s what I can tell you about, at least our gross profit dollars and our increase in profitability related to -- basically to CPG. You see the jump over here?

Perfect. That’s helpful. I appreciate it, Arie. And congrats on getting those renegotiations done. Best of luck in the fourth quarter.

Thank you very much, Bobby.

Mark Astrachan, Stifel.

Yes, thanks, and good morning, everyone. I guess one sort of directional follow-up on the last line of questioning. How do we think about the benefit, if any, in your merchandise margins from pricing? I guess I’m thinking about it in terms of whether you’re raising list prices on product in-store to offset your own rising inflation pressures. And then the suppliers are obviously taking price up on just about everything. So do you benefit from that as well, meaning do they share some of that pricing with you all? And is that reflected in the merchandise margins as well?

Well, it’s an interesting question, Mark. Yes, the suppliers are increasing prices, and we are trying to be very careful with increasing prices. We are actually working in a computing environment and this is something that we are facing over here. I think -- as I said, I think the margin increase is not because of supply chain or just the increase of prices; that’s not related to the increase in margin. The increase in margin is really related to the mix that we are seeing over here. We are just able to -- basically to sell more product, less cigarettes, more products, more OTP. For example, if you’re looking on OTP, which you all know that the OTP margin, it’s around 30%. I mean, our OTP business was up 7.7% quarter over quarter. And I think that’s really the reason for the increase in margin over here. It’s concentrating less on cigarettes and being able to increase the basket on customers coming in the stores. So it’s not necessarily because of just increasing prices.

Okay.

Mark, one other thing to add on that. You can look across the board -- I mean, we’ve talked about our frozen foods, the grab and go, those sales are through the roof, which are high-margin -- the sales are increasing tremendously also on candy. So, a lot of items, it’s not just one thing we’re doing, it’s a lot of strategies across the board. But as Arie said, were being competitive on cigarettes. It’s not that we’re not being competitive, but were seeing a lot more switchover to OTP. So, we do think this is a sustainable push. Obviously, you never know what the future can hold. But it’s not just trying to push up as much as we can, because we still need to remain competitive out there on the market.

Yes, that’s helpful.

One thing to comment, Mark, just one comment to mention over here is you guys remember for the past two quarters, I have been talking about adding 680 freezers and 525 grab-and-go coolers. I mean, if you are really looking on our same-store sales, just in grab and go, our same-store sales are up 46.1% with an increase of margin. If you are looking on frozen foods, our sales are up 72.5%. So everything that we’ve been talking about over the past two or three quarters, finally now you actually see the result. Because, as you can imagine, it takes time to install them. And one thing I can tell you, with the supply chain issues and the whole nine yards, we were able to actually locate the product, bring the product and install the product. And we see great results, and of course the increase of margin. I mean, that’s basically what we’ve been seeing over here. And that just demonstrates that we are in the win. We have a great team of people over here that made sure that we follow the supply chain issue, we were able to perform.

Yes, that’s helpful. I guess related to that, too, you had touched on it. So the other sort of common theme we keep hearing about beyond just inflation is supply chain challenges as well. So, beverages, candy, et cetera, seemingly impacted. Did that have any impact on the business? And, related to that, the relationship that you have with your wholesale supplier now which has changed a little bit for the better -- has that helped, as well, in terms of offsetting some of those potential challenges?

First of all, yes, of course. We are restructuring our agreement with Core-Mark, and of course help us tremendously to increase margin. But I really think that the big thing over here is -- I always tell people that retail is detail. And when everything is great, everybody operating proudly under -- on the same level. When things are a little bit shaky over here, you’ll see what kind of operator we are. We’re in the weeds, we are thinking ahead of -- basically ahead of time. And we are able to get those products in store, at least seasonal product. And our team is working around the clock. From a merchandising standpoint to a fueling standpoint, they’re really working around the clock. And that’s the reason you see those results. It just demonstrates that we have a great operating team and a great marketing team over here at handling merchandise, and able to get the product. It’s not easy, I don’t want to sound that everything is easy, but we are able to execute based on -- basically, on the team that we have actually with us.

Yes, okay, thank you. And then just lastly on a completely unrelated topic. The Oak Street relationship is interesting beyond the piece relating to the acquisition overnight, but also the disclosure in the release about that they had purchased and leased to you $150 million of real estate. Is there more opportunity to do that? I guess to the other, broader question, why then do you get a reduction of rent versus whoever else is owning that? Is that because of the relationship? Because you are going to work with them, going forward, that they are giving you more favorable terms? Maybe just talk about that, as well as the opportunity for that in the future.

First of all, yes, of course, given the size of the commitment, we got of course better terms, given the $1 billion commitment. But as you guys remember, we have all kinds of rights offers, the refusal, all kinds of rights offers -- we have offers, opportunities to buy the real estate, an option to buy the real estate. And when we do those things, as I said, we are thinking ahead. And the bigger you get, the better terms you get at the end of the day. And what we were able to execute this quarter were actually we [indiscernible] is we were able to take up on those options that we had from different sellers. And we were able to buy the real estate for a better -- of course, a better cap rate. And because of that, we were able to save $2.3 million in annual rent, moving forward. This is only on $150 million, basically, of real estate over here. So we are going to continue to execute on that. Of course, we started to take the big ones, right away, off the table. But this has of course continued to be an opportunity for us to reach out to some of the landlords and try to basically either buy the properties from them or try to get better terms. But you are right on spot: at the end of the day, some of them may decide that they want to sell, and some of them may decide they better just reduce our rent because we become bigger and better.

Yes, and to add on to what Arie said, we knew this was in the works and obviously couldn’t mention it until it was final. But the other advantage of besides reducing the rent, we actually got a bunch of properties free and clear, too. So, it added to our total fee store base. So, a total positive. And I think there were a lot of questions when everybody saw this -- you have this $1 billion commitment, what are you going to do with it? There are lots of things we can do with it. And this is one of the ways we can do it positively to impact the business.

Yes, that...

Just for your benefit, Mark, we added around 55 locations -- with the transaction, with the two transactions with Oak Street -- we added another 55, basically, pieces of real estate to our real estate base right now, in addition to that that we actually own right now at the company.

Got it. Very helpful. Thanks, guys.

Sure, thank you.

[Operator Instructions] Kelly Bania, BMO Capital Markets.

Hi, good morning. Thanks for taking our questions. I just to ask about same-store sales, obviously a focus on -- less on cigarettes and more on the higher-margin categories, and maybe also some dynamics of cycling some stronger cigarette trends last year. Just curious if you could talk a little bit about your outlook there on the same-store sales front. Should we expect a similar dynamic to continue for the next couple of quarters, or even longer term, with this deemphasis on the cigarette category?

Sure. Good morning, Kelly. The way I think -- the way we are thinking about that, as I said, is that our strategy was always to try to decrease -- or not to decrease, but try to increase sales, ex-cigarettes. We have a loyalty card that we enrolled over one year ago which -- because we knew, at the end of the day, when we do that and when we add the grab and go and the frozen food and the QSR and all of the things and the initiatives that we are doing over the past two quarters, we knew that obviously we would be able to shift sales from cigarettes to -- basically to other sales, ex-cigarettes. I believe we are going to continue to see this trend moving forward. As I mentioned, we are right now finishing a rollup of the rest of the freezers and the grab and go. And as we see a very, very big increase over here in same-store sales that we added the grab-and-go coolers and the frozen food freezers, I think that we are going to continue to see over here an increase of sales, ex-cigarettes, in the next quarters ahead of us. That’s my belief.

Yes, and Kelly, just to reemphasize what we’ve always said. We are very competitive on cigarettes. It’s not that we’re trying to say we don’t want the cigarette buyer. We do with the cigarette buyer. But you’ve seen -- there have been numerous price increases this year. There’s talk of increasing the federal excise tax. I hear some of that has come back, but obviously it puts a crunch on the consumer’s pocketbook. And you see the increase in OTP. We don’t have definitive saying okay, this person switched over. But you see our increase in OTP sales versus cigarettes. We just know that as a category, cigarettes are declining. So we are trying to remain competitive to keep that consumer coming in our store, but at the same time making sure that we are offering other alternatives in OTP products for them to have, and also have other offerings that will be appealing for people to come into. But by no means do we want to discourage the cigarette consumer from coming in our store. We want to be very price conscious about what we’re offering out there, but at the same time giving them more things to buy when they come in.

That’s very helpful. Also just wanted to ask again about gallons and how you think you performed from a gallon perspective maybe in your markets, and how that compared to peers, both maybe at retail and wholesale. And just maybe help us understand gallons on a pro forma basis relative to 2019. Where do you stand, both at retail and wholesale, and when you think you’ll get back to that 2019 level?

Go ahead, Don.

Kelly, I don’t know that we’ll ever get back to the 2019 level. That’s just our belief. I think we’ve seen -- I call it the great return-to-work sort of not happening. Again, this is just our belief. We are seeing, obviously seeing our wholesale base -- our wholesale dealers are doing well. And we believe that obviously things like diesel will continue to do well. So, that’s really to be seen in the future because you still have a big block of workers just not going to work. So that’s yet to be seen. It’s hard for us to project that. But -- and no one can make a projection. But at least it’s our belief that it’s going to be tough to get back to that 2019 level, unless we see people going back to the office and doing things like that, which still remained to be seen. So, as we talk about, we’re looking to optimize what we have, again, while still being competitive in the markets we are. So, it’s really -- we’re coming out of a once-in-a-100-year pandemic where people thought they’d be coming back, coming back, coming back. And all of a sudden, they’re not coming back. So, obviously we’re going to play in those markets and we’re going to be there. The thing I’m really pleased about is how much fuel we are selling up on the wholesale side. We are increasing our gallons, increasing -- and that’s really the focus is that’s where we can really grow our gallons. So that’s a yet-to-be-seen. But I think until that issue of do people return to work gets addressed -- again, who knows about that -- that that will really answer the question of 2019. But in my belief, I don’t know that you really will ever get there, but that’s just my personal belief.

Yes and, Kelly, just to be clear over here, first of all, you know that basically our customer base and our store base, it’s more rural and secondary markets. The second thing is that we are absolutely competitive. I mean, this is what we are seeing. This is what I’ve been telling you from the beginning of the pandemic, that at the end of the day, people are driving less, buying less gallons, but the margin basically expands because of that. I think that the minute we are going to start to see a shift in gallon increase, we might be actually seeing a small decrease in the CPG because of that. But I think even the consumer today, he’s less confident about -- the store price as it used to be probably in 2019. In 2019, people would drive an extra 5 miles just to basically grab five pennies, and that’s not what we see right now.

That’s very helpful. And just -- I know it’s maybe early for 2022, but obviously remodels stepping up next year is a big part of the plan as I understand it. And just want to hear an update, if possible, about your expectation for that acceleration in remodels, the cost of those remodels, the equipment. And just is that trajectory look on-path relative to your expectations?

Yes, so we are on target in terms of opening -- we are opening the third store. You guys remember last quarter, I mentioned that we are in the process of opening the third store. This is a 5,600 square-foot store just off Highway 77 between North and South Carolina. This store is scheduled to open in the next -- basically in the next couple of weeks. So we are on target on that. As I mentioned, we are going to complete the 10 stores that we mentioned. We may have a slight delay of -- I will call it a couple of months. And again, everything is just because we are learning a lot and we are price-engineering. But in terms of the rest of the stores, as I mentioned, we have 45 stores right now that we are already in plans for 2022. We also went ahead and ordered equipment to make sure that we would not have any supply chain issues. But it’s really -- everything we are doing over here is purposely. We want to make sure that when we price engineer and when we actually use those prototypes, we are going to be able to duplicate them in a very efficient way. So, so far, as I said, nothing has changed basically in terms of our planning over here.

Yes and, Kelly, just a little bit more onto that, and I think where the concern in the market is for the supply chain, we don’t have -- we still believe that we will be able to do this. The question is going to be how the supply chain reacts over the next two to three quarters. I mean, obviously, that’s a concern, and we will have to monitor that. But at the same time, we are able to look at what we’re doing, and I think as we said, we’ve got 45 sites already under engineering and design. But we never know what is going to hold up in the supply chain as we go through. So we will have to look at that as we go forward. But again, we look at this is -- this is a temporary issue due to the supply chain, but the whole concept itself is still very viable, and we are pleased with what we’ve seen so far. And we will react to it as the supply chain allows us to. But we are not slowing down, because we are getting the designs done, at least 45 of them right now.

Great, that’s very helpful. And just last one for me -- can we just have an update on how you would characterize staffing levels at your stores, turnover, and just generally the wage environment and how you feel about that going forward?

Well, I can’t comment on turnover right now. But what I can say is that we are very competitive. We are operating our stores. We’re not closing stores. If you’re looking in some areas that people end up closing store earlier, we don’t face those things. We are just managing through the storm over here. We had areas that we had to offer $500 for people to sign in and work for five hours -- I’m sorry, 500 hours for $500. There are areas that we had to increase the $500 to $1000 in order to keep people basically in place. So, it’s a competitive environment. And I think we are managing very well over here, making sure that our stores are open. And again, if you ask me what’s going to happen, moving forward, I think things will settle at the end of the day. At the end of the day, things will settle, no different than the supply chain. I just think that this is a temporary issue that everybody is just facing right now. And at some point, things will basically -- we will get relief over here.

Yes, Kelly, I think the biggest thing that helped us through all of this was adding 10 full-time resources to do recruiting. Because what we found is that people have so many opportunities for offers is that we wanted to be able to make the offer on the spot. And I think if you wait too long to make an offer to somebody, that’s when you lose them. So, that has been a real plus for us by putting those resources in place. We did that back early in the summer, and I think it’s paid a lot of dividends for us. So being able to interview an employee and offer them a job right then, I think has made a big difference.

And just to comment on that, Kelly, remember that’s one of the reasons that we decided to go with grab-and-go and frozen food and basically fresh food versus opening big kitchens over there. That’s exactly one of the reasons that we decided to go so. Because remember, we can operate our stores with a limited amount, basically, of associates.

Thank you.

Thank you.

At this time, we have reached the end of the question-and-answer session. I now turn the call over to Arie Kotler for closing remarks.

Thank you to all participants on the call today. I would like to wish you a wonderful day.

This will conclude today’s conference. Thank you for your participation. You may now disconnect your lines at this time. Have a wonderful day.