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| SPKL > SEC Filings for SPKL > Form 10QSB on 14-Aug-2007 | All Recent SEC Filings |
14-Aug-2007
Quarterly Report
General
The following discussion and analysis should be read in conjunction with our consolidated financial statements and related footnotes for the year ended December 31, 2006 included in our report on Form 10-KSB. The discussion of results, causes and trends should not be construed to imply any conclusion that such results or trends will necessarily continue in the future.
Overview
Our sole business is the franchise and operation of Spicy Pickle restaurants. Spicy Pickle is a fast casual restaurant where made-to-order panini, submarine style sandwiches, pizzetti (neapolitan thin crust pizza), and salads created by our founders are served using fresh baked breads and high quality ingredients. Although prices are set by franchisees at the store level and vary from location to location, sandwiches typically cost approximately $6.50, with small and large soups and salads ranging from $3.25 to $6.00, respectively. Individual size pizzetti is usually $7.50. Our goal is to deliver a delicious flavor profile, an exceptional customer experience, and an enjoyable atmosphere in its locations; we cannot assure you that we will succeed. We believe our menu items appeal to diners of all ages and preferences and will soon accommodate breakfast, lunch and dinner segments.
We market our menu primarily through targeted local store marketing efforts, mail drops, and print campaigns, as well as through other grass roots efforts. The "Spicy Pickle" brand name has existed for seven years. We are headquartered in Denver, Colorado.
The first Spicy Pickle restaurant was launched in 1999 by founders Kevin Morrison and Anthony Walker under the name Spicy Pickle, LLC. In late 2001, there were three restaurants, two in Denver and one in Lakewood, a Denver suburb. By January 2003, we organized Spicy Pickle Franchising, LLC and launched the Spicy Pickle brand as a national franchise and recruited Marc Geman, former founder and president of the PretzelMaker franchise, as our chief executive.
As of August 1, 2007, we currently have 24 franchise restaurants opened. Until recently we had one company restaurant. We recently closed our company restaurant, which was in Lakewood, Colorado. We are building a replacement company restaurant more centrally located in Denver, Colorado, which we expect to open during the second half of 2007 and which will include a bakery.
Our prior company restaurant, which we used as a training restaurant, operated at a loss. This loss is primarily due to higher labor costs at a restaurant which is used for training purposes. The number of employees per shift is higher than a normal restaurant, and the employees are less productive during the training period. We anticipate that our new training restaurant will also operate at a loss for the foreseeable future.
Our franchise agreements include build out schedules for franchisee restaurants. Based on current franchise agreements and construction schedules, we believe there will be at least 30 Spicy Pickle, franchisee-owned and operated restaurants and at least 1 company-operated restaurant open by the end of 2007.
As of August 1, 2007, we have sold 90 franchises. Of the franchises sold, 24 restaurants are opened and operating, 9 restaurants are under construction, 10 sites are under lease negation (we have either received an actual lease which is being reviewed or a letter of intent), and 47 sites are under area development agreements. An area development is where a franchisee has purchased the rights to a geographic area with a set number of stores in that area.
We are building a bakery at our new Denver company store to supply the Spicy Pickle restaurants in the Denver, Boulder, and Ft. Collins areas with daily fresh baked bread. This bakery will replace the current supplier of our artisan breads and is expected to result in a food cost savings for the franchisees in that market. Spicy Pickle restaurants outside this market are equipped for bread baking at the store location.
Our locations and marketing efforts are directed principally to white collar administrative, managerial, professional, and sales personnel which are generally found in and near downtown districts, technological centers, universities, hospitals and government complexes.
We currently derive our revenue from the sale of franchises and from royalties paid by franchisees. We expect to resume deriving revenue from the sale of food and beverages when the company store we plan to open in the second half of 2007 begins operations. Our business is currently centralized in the Rocky Mountain region, but we have sold several franchises elsewhere in the United States that we expect to open within the next eighteen months. Our restaurant locations (including both Company-owned and franchisee-owned), including those under construction and lease negotiation as of August 1, 2007, are:
Restaurants Under In Lease
Location Operating Construction Negotiation
Denver, Colorado 4 1 2
Boulder, Colorado 1 1
Ft. Collins, Colorado 1 1
Aurora, Colorado 1
Littleton, Colorado 1
Centennial, Colorado 1
Lone Tree, Colorado 1
Greenwood Village, Colorado 1
Federal Heights, Colorado 1
Loveland, Colorado 1
Colorado Springs, Colorado 2
Louisville, Colorado 1
Englewood, Colorado 1
Ashburn, Virginia 1
Sioux Falls, South Dakota 1
Portland, Oregon 1 1
Poway, California 1
Sacramento, California 1
Henderson, Nevada 1
Reno, Nevada 1 1
Chicago, Illinois 1 1
Cincinnati, Ohio 1 1
Austin, Texas 2 1
San Diego, California 2
Indianapolis, Indiana 1 1
Chandler, Arizona 1
Washington, DC 1
New York, New York 1
Hattiesburg, Mississippi 1
Edmond, Oklahoma 1
24 10 13
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We intend to increase our revenues by adding new company-owned stores, selling new franchises and expanding consumption of our food products at all stores. General economic and industry conditions may affect our ability to do so and our revenue performance.
Critical Accounting Policies and Estimates
The preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported revenues and expenses during the reporting periods. Actual results could differ from those estimates. A summary of accounting policies that have been applied to the historical financial statements presented in this quarterly report can be found in the footnotes thereto and in the footnotes included with the financial statements filed in our annual report on Form 10-KSB for the year ended December 31, 2006. We consider certain of these accounting policies to be critical as they are both important to the portrayal of our financial condition and results of operations and may require judgments on the part of management about matters that are uncertain. We have identified the following accounting policies that are important to the presentation of financial information in this periodic report.
Revenue Recognition
Initial Franchise Fees - We enter into franchise agreements which grant franchisees the exclusive right to develop and operate businesses at certain locations. Initial franchise fees are recognized as revenue when all material services and conditions required to be performed by us have been substantially completed, which is generally when the restaurant opens.
Royalty Fees - Pursuant to the franchise agreements, franchisees are required to pay royalties to us at the rate of 5% of weekly gross sales as reported to us through the franchisees' point of sale systems. Royalties are recognized as revenue in the period corresponding to the reported period. Royalty fees were $126,973 and $73,046 for the three months ended June 30, 2007 and 2006, respectively, and $238,584 and $135,361 for the six months ended June 30, 2007 and 2006, respectively.
In regards to royalty fees, our franchisees grant us the right to extract data from their point of sale systems in each restaurant they operate. We receive weekly reports on sales at each franchise location and calculate our revenue directly from those reports. This allows for extremely accurate accounting of our revenue stream from royalty fees. We do not anticipate any future change in the method of reporting.
Rebates - We receive rebates from purveyors that supply products to our franchisees. Rebates related to franchisees are included in Franchise Fees and Royalties. The rebates are recorded when earned. Rebates which relate to the company-owned restaurant are offset against restaurant cost of sales. Rebates related to franchisees were $27,144 and $16,271 for the three months ended June 30, 2007 and 2006, respectively, and $52,175 and $27,346 for the six months ended June 30, 2007 and 2006, respectively.
Product Sales - We sell logo products to our franchisees. Sales are recognized when products are shipped to the franchisee. Since we are selling to our franchisees, we do not anticipate any problems with collectibility of product sales.
Restaurant Sales - We record revenue from company-owned restaurant sales upon delivery of the related food and other products to customers. Our restaurant sales are either cash or credit card (which are pre-approved) sales and, therefore, no estimate for collectibility is necessary.
Advertising Costs
Franchisees must contribute to an advertising fund established by us at a rate of up to 2% of total franchisee gross sales. In our discretion, we may spend more or less than our actual advertising receipts from the franchisees. Advertising fees collected were $52,692 and $45,237 for the three months ended June 30, 2007 and 2006, respectively, and $95,727 and $86,469 for the six months ended June 30, 2007 and 2006, respectively. These fees are offset against actual advertising expenses, which are recognized when incurred. We incurred advertising expenses of $76,955 and $17,947 for the three months ended June 30, 2007 and 2006, respectively, and $137,792 and $80,375 for the six months ended June 30, 2007 and 2006, respectively. We paid those expenses from the advertising fund and from our own funds. The net amounts reflected as advertising costs in the financial statements are $24,263 and ($27,290) for the three months ended June 30, 2007 and 2006, respectively, and $42,065 and ($6,094) for the six months ended June 30, 2007 and 2006, respectively.
Rent Expense
We recognize rent expense on a straight-line basis over the reasonably assured lease term as defined in the Financial Accounting Standards Board ("FASB") Statement of Financial Accounting Standards ("SFAS") No. 98, "Accounting for Leases.'' In addition, certain of our lease agreements provide for scheduled rent increases during the lease term or for rental payments commencing at a date other than the date of initial occupancy. We include any rent escalations and construction period and other rent holidays in our determination of straight-line rent expense. Therefore, rent expense for new locations is charged to expense beginning with the start of the construction period.
Equity Based Compensation
On January 1, 2006, we adopted SFAS No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)"), which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options based on estimated fair values. SFAS 123(R) supersedes our previous accounting under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." In March 2005, the Securities and Exchange Commission (the "SEC") issued Staff Accounting Bulletin No. 107 ("SAB 107") relating to SFAS 123(R). We have applied the provisions of SAB 107 in our adoption of SFAS 123(R).
SFAS 123(R) requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in our Statement of Operations. Prior to the adoption of SFAS 123(R), we had no stock-based compensation awarded to employees and directors.
Recent Pronouncements
We have reviewed all recently issued, but not yet effective, accounting pronouncements and do not believe the future adoption of any such pronouncements may be expected to cause a material impact on our financial condition or the results of our operations.
On February 15, 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities - Including an Amendment of FASB
Statement No. 115" ("SFAS 159"). This standard permits an entity to measure many
financial instruments and certain other items at estimated fair value. Most of
the provisions of SFAS 159 are elective; however, the amendment to SFAS No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," applies to
all entities that own trading and available-for-sale securities. The fair value
option created by SFAS 159 permits an entity to measure eligible items at fair
value as of specified election dates. The fair value option (a) may generally be
applied instrument by instrument, (b) is irrevocable unless a new election date
occurs, and (c) must be applied to the entire instrument and not to only a
portion of the instrument. SFAS 159 is effective as of the beginning of the
first fiscal year that begins after November 15, 2007. Early adoption is
permitted as of the beginning of the previous fiscal year provided that the
entity (i) makes that choice in the first 120 days of that year, (ii) has not
yet issued financial statements for any interim period of such year, and
(iii) elects to apply the provisions of SFAS No. 157. Management is currently
evaluating the impact of SFAS 159, if any, on our financial statements.
We believe that any estimates or assumptions we have made in the past have been accurate. We do not anticipate that any estimate or assumption is likely to change in the future. We also believe that due to the nature of our business there should not be any change to our accounting policies in the future.
Results of Operations
The following analysis shows operating statistics for the three months ended
June 30, 2007 and 2006:
Operating Statistics
2007 2006
As a As a
Percentage of Percentage of
Total Total
Revenues: Amount Revenue Amount Revenue
Restaurant sales $ - - $ 120,625 53.00 %
Franchise fees and royalties 320,734 100.00 % 106,972 47.00 %
Total revenue 320,734 100.00 % 227,597 100.00 %
Operating costs and expenses:
As a As a
Percentage Percentage
of of
Restaurant Restaurant
Restaurant: Sales Sales
Cost of sales - - 50,730 42.06 %
Labor - - 46,728 38.74 %
Occupancy - - 23,682 19.63 %
Other operating cost - - 17,357 14.39 %
Total restaurant operating expenses - - 138,497 114.82 %
As a As a
Percentage Percentage
of of
Franchise Franchise
Fees and Fees and
Franchise and general: Royalties Royalties
Cost of sales 12,418 3.87 % 23,582 22.05 %
General and administrative 787,325 245.48 % 260,390 243.42 %
Depreciation 5,852 1.82 % 757 0.71 %
Total franchise and general expenses 805,595 251.17 % 284,729 266.18 %
As a As a
Percentage of Percentage of
Total Total
Revenue Revenue
Total operating costs and expenses 805,595 251.17 % 423,226 185.95 %
(Loss) from operations (484,861 ) (151.17 %) (195,629 ) (85.95 %)
Other income:
Other income - - 743 0.33 %
Interest income 12,656 3.95 % 2,413 1.06 %
Total other income 12,656 3.95 % 3,156 1.39 %
Net (loss) $ (472,205 ) (147.23 %) $ (192,473 ) (84.57 %)
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The components of revenue are restaurant sales for company-owned restaurants and royalties and franchise fees for our franchise operations. In November of 2006, we closed our company-owned restaurant as the lease had expired. Accordingly, there were no restaurant operations for the three months ended June 30, 2007. We plan to open a new store located within 10 miles of the original location in the second half of 2007.
During the three months ended June 30, 2007, franchise fees and royalties increased $213,762 (200%) to $320,734 from $106,972 in 2006. This increase is due to the greater number of franchises sold and the number of opened franchised restaurants in 2007. Initial franchise fees are recognized as revenue when all material services and conditions required to be performed by us have been substantially completed, which is generally when the restaurant opens. For the three months ended June 30, 2007, we recognized franchise fees of $150,000. This represented five locations opened during this period. Two new restaurants opened during the three months ended June 30, 2006, and we recognized franchise fees of $45,000.
Deferred franchise revenue, which is not included in the statement of operations, decreased $45,000 (4.8%), from $940,000 at March 31, 2007 to $895,000 at June 30, 2007. Deferred franchise revenue represents franchise fees paid to us for restaurants which have not yet opened. Until the restaurant is opened, no revenue is recognized, but cash is available to us for start-up costs.
Royalty fees increased by $53,927 (73.8%) from $73,046 in 2006 to $126,973 in 2007 primarily as a result of more franchise locations being open during the period ended June 30, 2007 as compared to the same period in 2006. For the three-month period ended June 30, 2007, we had 24 operating franchise locations. Three of those locations opened towards the end of the period and did not have a significant effect on royalty income. For the three-month period ended June 30, 2006, we collected revenue from 15 locations.
There are two main components of operating expenses, restaurant operating expenses and franchising and general expenses. There were no restaurant operations in the three-month period ended June 30, 2007.
The following table sets forth details of the costs which make up general and administrative expenses and the differences for the three months ended June 30, 2007 as compared to the three months ended June 30, 2006:
2007 2006 Difference
Personnel cost $ 374,005 $ 67,040 $ 306,965
Professional fees 68,878 73,048 (4,170 )
Travel and entertainment 99,406 112,198 (12,792 )
Marketing, advertising, promotion 24,263 (27,290 ) 51,553
Rent 31,575 18,488 13,087
Office supplies and expenses 34,777 2,735 32,042
Communication 30,625 8,101 22,524
Other general and administrative expenses 123,796 6,070 117,726
Total general and administrative expenses $ 787,325 $ 260,390 $ 526,935
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General and administrative expense increased $526,935 (202%) from $260,390 for the three months ended June 30, 2006 to $787,325 for the three months ended June 30, 2007. The increase relates to the increased number of franchises and our increased activity in seeking out new franchisees. We increased the number of employees from 8 to 20 and had an increased personnel cost of $306,965 (458%) from $67,040 in 2006 to $374,005 in 2007. During the three months ended June 30, 2006, we granted no stock options. During the three months ended June 30, 2007, we granted 600,000 options. The fair value of the options granted and expensed was $17,751. This amount is included in personnel cost in 2007. Professional fees, which are comprised of legal, accounting and consulting fees, decreased $4,170 (5.7%) from $73,048 in 2006 to $68,878 in 2007. The decrease is not significant, and we expect that professional fees will increase in future periods as we incur costs associated with being a public company and increased legal cost for leasing activities. Travel and entertainment costs decreased $12,792 (11.4%) from $112,198 in 2006 to $99,406 in 2007. The decrease is due to the timing of new store openings. More travel was concentrated in the period ended June 30, 2006. We believe that these costs will increase in future periods as we and our franchisees continue to open more restaurants. Our franchisees pay an advertising fee equal to 2% of the gross revenue of the franchised restaurants they operate. Our accounting policy is to offset the amounts collected from the franchisees against actual advertising expenses. The amount collected for the three months ended June 30, 2007 was $52,692 as compared to $45,237 in the 2006 period. Actual expenses for the three-month period ended June 30, 2007 were $76,455 as compared to $17,947 for the three-month period ended June 30, 2006. This increase was primarily due to increased marketing efforts to attract new franchisees as well as increased local advertising for a greater number of restaurants. We anticipate marketing, advertising and promotion expenses will increase in proportion to the increase in the total number of restaurants. Other general and administrative expenses increased across the board as our business grew and were anticipated.
The net loss for the three months ended June 30, 2007 was $472,205 compared to a loss of $192,473 for the same period in 2006 for an increased loss of $279,732. The loss from operations was $484,861 for the three months ended June 30, 2007 compared to loss from operations of $195,629 for the three months ended June 30, 2006. The increase in the loss from operations was primarily due to increased payroll expenses and increases in other operating expenses as discussed above.
The following analysis shows operating statistics for the six months ended June
30, 2007 and 2006:
Operating Statistics
2007 2006
As a As a
Percentage of Percentage of
Total Total
Revenues: Amount Revenue Amount Revenue
Restaurant sales $ - 0.00 % $ 237,186 56.80 %
Franchise fees and royalties 542,377 100.00 % 180,362 43.20 %
Total revenue 542,377 100.00 % 417,548 100.00 %
Operating costs and expenses:
As a As a
Percentage of Percentage of
Restaurant Restaurant
Restaurant: Sales Sales
Cost of sales - - 95,147 40.11 %
Labor - - 89,482 37.73 %
Occupancy - - 45,316 19.11 %
Other operating cost - - 34,954 14.74 %
Total restaurant operating expenses - - 264,899 111.69 %
As a As a
Percentage of Percentage of
Franchise Franchise
Fees and Fees and
Franchise and general: Royalties Royalties
Cost of sales 16,618 3.06 % 30,290 16.79 %
General and administrative 1,546,589 285.15 % 473,373 262.46 %
. . .
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