Business Breakdowns
· Matt Reustle, Asif Jeevanjee
[00:00:00] S0: That's a good opportunity to give a little bit of an understanding in terms of what these things mean. Food versus facilities services. I think I have some broader picture, but can you just talk a little bit about how the money moves through the system. I assume that Compass isn't growing and producing all of this food themselves, but what does it entail to be the food services provider for a large corporation? How did the dollars move through the system, thinking about their suppliers, and then how they supply to the customers. [00:00:00] S1: If you look down at the food on your plate, there are a number of participants in the ecosystem that will have made that possible. So Compass procures food from producers, farmers and other suppliers. The food is then transported from the supplier to a Compass operated client location by food distributors like Sysco and US Foods and so on. On the client site, the food is prepared by Compass Chefs and served to the consumer. When you look at the money flows, they're pretty much in the opposite direction. The consumer purchases meals on site, Compass then pays distributors and suppliers. And there can be some balancing flows between Compass and the client, depending on the contract type, the level of any subsidy and performance against service level agreements.
· Asif Jeevanjee, Matt Reustle
[00:00:00] S1: If you look down at the food on your plate, there are a number of participants in the ecosystem that will have made that possible. So Compass procures food from producers, farmers and other suppliers. The food is then transported from the supplier to a Compass operated client location by food distributors like Sysco and US Foods and so on. On the client site, the food is prepared by Compass Chefs and served to the consumer. When you look at the money flows, they're pretty much in the opposite direction. The consumer purchases meals on site, Compass then pays distributors and suppliers. And there can be some balancing flows between Compass and the client, depending on the contract type, the level of any subsidy and performance against service level agreements. [00:00:00] S0: It's a good opportunity to talk about what contracts look like in this space. Whether it's the term of the contract, how they're priced and structured. Anything that you can share on that for standard contracts, to the extent that there are standard contracts in food services.
· Matt Reustle, Asif Jeevanjee
[00:00:00] S0: It's a good opportunity to talk about what contracts look like in this space. Whether it's the term of the contract, how they're priced and structured. Anything that you can share on that for standard contracts, to the extent that there are standard contracts in food services. [00:00:00] S1: Contracts are typically three to five years. But there are exceptions where they can be longer. In particular in the sports and leisure area, and in education where contracts can run up to eight years. And there are some historical B&I contracts. B&I is business and industry, where contracts have been longer still. There are three types of contracts. There's something known as fixed price contracts where the client will agree with Compass a fixed price per meal, and then it's up to Compass to figure out how to manage their costs to make sure they make a profit. There's another contract type which is Cost plus, where Compass will simply pass on whatever costs are incurred in making the food, plus a small management fee. And then there are P&L contracts where Compass and the client will agree to share the profits earned on the operation. [00:00:00] S0: From an investor perspective, even from the business's perspective, is there a contract type of those three that is most preferred? What results in the highest margins, or something that you see a transition towards more and more?
· Matt Reustle, Asif Jeevanjee
[00:00:00] S0: From an investor perspective, even from the business's perspective, is there a contract type of those three that is most preferred? What results in the highest margins, or something that you see a transition towards more and more? [00:00:00] S1: Contracts are evenly split across the business by those three types. And that hasn't changed very much over time. We don't have enough information to discern different levels of profitability by contract type. And the contract structure that's adopted is largely down to the circumstances of the client. Some clients prefer a fixed price contract because it gives them certainty about what the outlay is each month in a subsidized cafeteria. Other clients may want to share in the upside potential and elect a P&L contract. Whichever structure is written into the RFP, Compass will factor that into their bid terms to ensure that the structure is commercially attractive to them. And that's from a margin point of view, but also from a risk point of view. [00:00:00] S0: On that point, in terms of retention, I'm trying to get some appreciation for how sticky these contracts might be. Because you are on the corporation's premises, their facilities, I imagine there is some ability to switch and it's not going to be a complete overhaul. What does retention tend to look like for the industry and are there things that can make them more sticky? Good service and steady performance is certainly going to be one of those. But are there hidden things that maybe impact the retention rate and stickiness of any of these contracts?
· Matt Reustle, Asif Jeevanjee
[00:00:00] S0: On that point, in terms of retention, I'm trying to get some appreciation for how sticky these contracts might be. Because you are on the corporation's premises, their facilities, I imagine there is some ability to switch and it's not going to be a complete overhaul. What does retention tend to look like for the industry and are there things that can make them more sticky? Good service and steady performance is certainly going to be one of those. But are there hidden things that maybe impact the retention rate and stickiness of any of these contracts? [00:00:00] S1: There are switching costs involved. The retention rate for Compass is 96%, which is industry leading. That is very, very high. And when you think about the scale of the business, $42 billion of revenue, if you're hitting a 96% retention rate, that means you're losing 4% every year, which is a lot of business which they have to then replace. So to tread water, they've got to win, let's call it $1.5 billion a year. To grow as they have, they've got to do that again. Retention is really important. I like to think of it as... in investing, Warren Buffett's rule is don't lose money. I think in contract catering, it's do not lose a contract that you've won. This is really the secret sauce to Compass's ability to grow. They've excelled not only at winning business, but on hanging on to business that they've won.
· Asif Jeevanjee, Matt Reustle
[00:00:00] S1: There are switching costs involved. The retention rate for Compass is 96%, which is industry leading. That is very, very high. And when you think about the scale of the business, $42 billion of revenue, if you're hitting a 96% retention rate, that means you're losing 4% every year, which is a lot of business which they have to then replace. So to tread water, they've got to win, let's call it $1.5 billion a year. To grow as they have, they've got to do that again. Retention is really important. I like to think of it as... in investing, Warren Buffett's rule is don't lose money. I think in contract catering, it's do not lose a contract that you've won. This is really the secret sauce to Compass's ability to grow. They've excelled not only at winning business, but on hanging on to business that they've won. [00:00:00] S0: That 96% tells me that there's something very sticky about their business. And I appreciate that you mentioned it still requires them to replace a billion and a half of revenue each year just to tread water. What would you point to in terms of competitive advantage that they might have versus their peers? And anything else on the switching costs that would be associated with it? If I can comprehend what that would look like, it would be helpful. As an example, what would it entail to move from one provider to the next? Beyond we have this crew that's shown up and served the food out of here on Friday, on Monday, it's going to be this group. What else goes into it that makes it more complex?