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| BAGL > SEC Filings for BAGL > Form 10-K on 2-Mar-2009 | All Recent SEC Filings |
2-Mar-2009
Annual Report
Overview
We are a leading fast-casual restaurant chain, specializing in high-quality foods for breakfast and lunch in a bakery-café atmosphere with a neighborhood emphasis. As of December 30, 2008, we owned and operated, franchised or licensed 649 restaurants in 36 states and in the District of Columbia, primarily under the Einstein Bros., Noah's and Manhattan Bagel brands. Einstein Bros. is a national fast-casual restaurant chain. Noah's is a regional fast-casual restaurant chain operated exclusively on the West Coast and Manhattan Bagel is a regional fast-casual chain operated predominantly in the Northeast. Our product offerings include fresh bagels and other goods baked on-site, made-to-order sandwiches on a variety of bagels, breads and wraps, gourmet soups and salads, desserts, snacks, premium coffees and other café beverages. Our manufacturing and commissary operations prepare and assemble consistent, high-quality ingredients and we deliver them to our restaurants quickly and efficiently through our network of independent distributors. These operations support our main business focus, restaurant operations, by exposing our brands to new product channels as well as enabling sales of our products to third parties.
We have a 52/53-week fiscal year ending on the Tuesday closest to December 31. Fiscal years 2006, 2007 and 2008 ended on January 2, 2007, January 1, 2008 and December 30, 2008, respectively, each contained 52 weeks.
Executive Summary
The most important themes or significant matters on which management was primarily focused during fiscal 2008 are as follows:
• Economy-Our results depend on consumer spending, which is See page 42 influenced by consumer confidence, disposable income and general economic conditions. In particular, the effects of higher energy, food costs, job losses, increases in the rate of foreclosures, market uncertainty, and a reduction in the availability of credit, among other things, may impact discretionary consumer spending in restaurants. Accordingly, we experience declines in comparable store sales during economic downturns or during periods of economic uncertainty. Any material decline in the amount of discretionary spending could have a material adverse effect on our sales and income.
• Commodities-We have utilized a third party advisor to manage See pages 28 our wheat purchases, and have secured our wheat requirements as and 42 well as established the price for wheat for approximately 90% of our 2009 anticipated needs as of December 30, 2008, at virtually flat prices compared to 2008.
• Debt-Our mandatorily redeemable Series Z Preferred Stock See page 39 ("Series Z") has a mandatory redemption on June 30, 2009. To the extent that we do not redeem the full amount on that date, the unredeemed portion requires additional redemption at a rate of 250 basis points higher than our highest rate paid on our funded debt which is currently 5.52%.
• Interest expense-The Company entered into an interest rate swap See pages 32 on May 7, 2008 with an effective date of August 28, 2008. The net and 45 effect of the swap is to fix the interest rate on $60 million of our First Lien Term Loan at 3.52% plus an applicable margin. The fair value of the swap as of December 30, 2008 was a liability of $2.5 million, which was recorded as an unrealized loss in other liabilities and accumulated other comprehensive loss in stockholders' deficit.
• California wage and hour settlements-The Company accrued $1.9 See page 31 million to cover the estimated settlement amounts.
• Senior management transition-$1.3 million was accrued to pay See page 31 for recruiting and severance charges related to changes in senior management.
2009 Outlook
New Restaurant Openings
We intend to continue to expand our company-owned restaurants in 2009 with the addition of six to eight new units in markets that are underpenetrated. The reduction of development in 2009 from the levels in 2007 and 2008 will reduce the amount of cash required for development and provide free cash flow to permit the Company to redeem outstanding shares of the Series Z Preferred Stock. We believe this strategy is appropriate given the current state of the economy and consumer sentiment.
Our site selection process focuses on identifying markets, trade areas and specific sites based on several factors including visibility, ready accessibility (particularly for morning and lunch time traffic), parking, signage and adaptability of any current structures.
The Company has several franchise and license agreements in place and plans on moving forward with the opening of locations within this segment. We opened two franchise restaurants in 2008 and have three locations which were in various stages of development during the fourth quarter of 2008 with openings scheduled for the first half of 2009. In 2009 we plan to open six to eight franchise locations. During fiscal year ended December 30, 2008 we opened 32 Einstein Bros. and Noah's license restaurants. We plan to open 30 to 35 license restaurants in fiscal year 2009.
Results of Operations for fiscal year 2008 as compared to fiscal year 2007
Consolidated Results
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Revenue 402,902 413,450 2.6 %
Cost of sales 321,972 331,682 3.0 %
Total gross profit 80,930 81,768 1.0 %
Operating expenses 52,664 54,152 2.8 %
Income from operations 28,266 27,616 (2.3 %)
Other expenses 15,226 5,439 (64.3 %)
Income before income taxes 13,040 22,177 70.1 %
Income taxes 454 1,100 142.3 %
Net income $ 12,586 $ 21,077 67.5 %
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For the fiscal period ended December 30, 2008 compared to the same period in fiscal 2007 ended January 1, 2008, total revenue increased $10.5 million, gross profit increased $0.8 million, income from operations declined
$0.7 million, and our income before income taxes increased $9.1 million. This growth is primarily due to having 10 additional company-owned restaurants and 27 additional franchise and license locations from a year ago, which increased our sales and cost of sales. System-wide comparable store sales increased 1.4% in fiscal 2008 compared to the same period a year ago. Additionally, revenues have increased as a result of increased locations, offset by increased cost of sales which was primarily driven by volatile commodity costs and labor costs for both the company-owned restaurants and our manufacturing and commissary operations. Adding to this was a decrease in our general and administrative expenses related to decreased stock-based compensation expense and other cost savings, decreased interest expense related to the debt redemption in 2007, offset by an increase in depreciation expense from the new restaurants that have been opened and upgrades that have been completed. Additionally, general and administrative expenses included expenses of $1.9 million related to the settlement of two class-action lawsuits in California and the $1.3 million from the senior management transition costs.
Company-Owned Restaurant Operations
Our company-owned restaurants vary in their unit volume, profitability and recent comparable store sales performance. As of December 30, 2008, we had 123 restaurants that generate an average unit volume in excess of $1 million. These 123 restaurants had an average unit volume of approximately $1.2 million and an average gross profit of $322,000. In the aggregate, these restaurants contribute approximately 39.5% of total restaurant sales and 53.8% of total restaurant operating profit.
The following table includes only restaurants that have been open for one full year and have not been relocated or closed during the current year. It summarizes our financial performance since 2006 by reporting company-owned restaurants by sales level and the related revenue (in thousands of dollars) and gross profit percentage:
Fiscal 2006 Fiscal 2007 Fiscal 2008
Number of Net Gross Number of Net Gross Number of Net Gross
Sales Level: Restaurants Revenue Profit Restaurants Revenue Profit Restaurants Revenue Profit
greater than $1,000 96 $ 115,000 28.5 % 119 $ 143,000 26.9 % 123 $ 148,700 26.6 %
$900 - $1,000 57 $ 54,300 23.2 % 63 $ 59,800 21.2 % 55 $ 51,800 21.0 %
$800 - $900 76 $ 64,600 19.7 % 72 $ 61,100 18.7 % 79 $ 66,700 18.3 %
$700 - $800 73 $ 55,200 16.7 % 74 $ 55,700 14.9 % 70 $ 52,600 14.8 %
$600 - $700 72 $ 46,700 12.6 % 49 $ 32,100 11.5 % 58 $ 38,000 10.0 %
less than $600 35 $ 18,700 4.8 % 25 $ 13,700 3.6 % 22 $ 12,000 2.5 %
Totals 409 $ 354,500 20.9 % 402 $ 365,400 20.6 % 407 $ 369,800 20.2 %
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Revenue
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Company-owned restaurant sales $ 372,997 $ 376,664 1.0 %
Percent of total revenue 92.6 % 91.1 %
Company-owned restaurant gross margin 20.3 % 19.5 % (3.9 %)
Number of company-owned restaurants 416 426
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Company-owned restaurant sales for the fifty-two weeks ended December 30, 2008 increased $3.7 million, when compared to the same period in 2007. These results were primarily due to price increases at Einstein Bros. and Noah's coupled with a net increase in the number of restaurants opened over the last twelve months, partially offset by a decline in volume. On average, the restaurants opened since January 1, 2008 had higher volumes relative to those that were closed over the same period, which positively contributed to our sales. Additionally, restaurant sales for 2008 benefited from $0.3 million in gift card breakage.
For the fifty-two weeks ended December 30, 2008, our restaurant comparable store sales were relatively flat with a decrease of 0.1% over the same periods in 2007. This was due to a decrease in the number of units sold, which we believe was mostly related to both the economic climate and its negative impact on consumer discretionary spending and from a decrease in our hours of operation. This was offset by system-wide price increases since January 1, 2008 and a shift in product mix to higher priced items.
Comparable store sales for our restaurants for each quarter in fiscal 2007 and 2008, compared to the same periods in the previous year were as follows:
Fiscal 2007 Fiscal 2008
First Quarter 1.0 % 3.6 %
Second Quarter 5.2 % 1.0 %
Third Quarter 5.2 % -1.7 %
Fourth Quarter 3.2 % -3.3 %
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Cost of sales
Cost of sales consists of cost of goods sold, labor expenses, other operating costs, and rent and related and marketing costs.
Cost of goods sold
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Cost of goods sold $ 110,397 $ 112,675 2.1 %
As a percentage of company-owned
restaurant sales 29.6 % 29.9 %
As a percentage of total revenue 27.4 % 27.3 %
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Food, beverage and packaging costs are three elements that make up cost of goods sold and constitute a large portion of the cost of sales at our company-owned restaurants. Cost of goods sold increased predominantly due to an increase in commodity costs, an increase in distribution costs that were driven by higher fuel costs during the year, and increased costs associated with a net opening of 10 stores over the last twelve months, partially offset by a reduction in the average volume of products sold.
Compared to 2007, most of our commodity-based food costs increased in 2008. Flour represents the most significant raw ingredient we purchase. The market cost of wheat and in turn the cost to produce flour increased substantially in the last half of 2007 but stabilized by the end of the second quarter of 2008 and stayed at these levels through the remainder of 2008. To mitigate the risk of increasing market prices, we have utilized a third party advisor to manage our wheat purchases for our company-owned production facility. As a result of this relationship, our wheat costs remained relatively constant throughout fiscal year 2008. We will continue to work with our third party advisor to strategically source our wheat purchases. However, there can be no assurance that we will benefit from a decline in the cost of any of the commodity-based products that we purchase.
Labor expenses
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Labor costs $ 111,453 $ 112,007 0.5 %
As a percentage of company-owned
restaurant sales 29.9 % 29.7 %
As a percentage of total revenue 27.7 % 27.1 %
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For the fifty-two weeks ended December 30, 2008 compared to the same period in 2007, labor costs increased $0.6 million from a combination of the growth of new restaurant openings that occurred throughout 2007 and 2008, an increase in base pay year-over-year from a combination of merit and an overall inflationary shift in our compensation structure caused by a July 2008 increase in minimum wage rates at the federal level and in several states in which we operate and an increase in workers' compensation, partially offset by a decrease in incentive compensation and insurance costs.
Other operating costs
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Other operating costs $ 35,786 $ 37,781 5.6 %
As a percentage of company-owned
restaurant sales 9.6 % 10.0 %
As a percentage of total revenue 8.9 % 9.1 %
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Other operating costs consist of other restaurant-level occupancy expenses such as utilities, repairs and maintenance costs, credit card fees and supplies. For the fifty-two weeks ended December 30, 2008, other operating costs increased $2.0 million compared to the same period in 2007. This increase was primarily attributable to an increase in utilities due primarily to escalating energy costs, an increase in credit card fees due to a shift in consumer payment practices from using cash to using credit cards, and an increase in maintenance on our restaurants.
Rent and related, and marketing costs
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Rent and related, and marketing costs $ 39,544 $ 40,653 2.8 %
As a percentage of company-owned
restaurant sales 10.6 % 10.8 %
As a percentage of total revenue 9.8 % 9.8 %
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Rent and related, and marketing costs consist of restaurant-level rent expense, common area maintenance expense, property taxes and marketing expense. For the fifty-two weeks ended December 30, 2008, rent and related and marketing costs increased $1.1 million compared to the same period in 2007. The increase was principally attributable to an increase in rent and related expense due to new restaurants as well as increases in the cost of rent on renewed leases, partially offset by a decrease in marketing expense from $3.3 million in fiscal 2007 to $2.3 million in fiscal 2008.
Manufacturing and Commissary Operations
Revenues
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Manufacturing and commissary revenues $ 24,204 $ 30,369 25.5 %
Percent of total revenue 6.0 % 7.3 %
Manufacturing and commissary gross margin (2.4 %) 5.9 % * *
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** not meaningful
Manufacturing and commissary revenues for the fifty-two weeks ended December 30, 2008 increased $6.2 million compared to the same period in 2007. This increase to revenue and gross margin was attributed to price increases and our expanded role within the distribution chain for sales to our franchise and license locations. For the fifty-two weeks ended December 30, 2008, we saw a moderate rise in volume of units sold to our more significant third-party customers compared to the same periods in 2007.
Cost of sales
Cost of sales consists of cost of goods sold, labor expenses and other operating costs and expenses.
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Manufacturing and commissary costs $ 24,792 $ 28,566 15.2 %
As a percentage of manufacturing and
commissary revenue 102.4 % 94.1 %
As a percentage of total revenue 6.2 % 6.9 %
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Manufacturing cost of sales are composed of cost of goods sold, labor costs and other operating costs. For the fifty-two weeks ended December 30, 2008, manufacturing cost of sales increased $3.8 million compared to the same period in 2007. The component change within manufacturing cost of sales was as follows:
• Manufacturing costs of goods sold increased predominantly due to an increase in commodity costs and, to a lesser extent, a rise in volume of units sold.
• Labor expenses decreased in fiscal 2008 compared to the same period in 2007. This was due to a decrease in incentive compensation and a decrease in personnel that occurred late in the second quarter of 2008, partially offset by an increase in merit pay year-over-year coupled with increased minimum wage rates at the federal level and in some states in which we operate.
• The changes in other operating costs and expenses for the fifty-two weeks ended December 30, 2008 compared to the same period in 2007 decreased primarily related to a decrease in travel expenses, bad debt expense which was higher in 2007 related to our closed commissaries, cost of utilities due to production efficiencies, and marketing costs.
Franchise and License Operations
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Franchise and license related revenues $ 5,701 $ 6,417 12.6 %
Percent of total revenue 1.4 % 1.6 %
Franchise and license gross margin 100.0 % 100.0 % 0.0 %
Number of franchise and license restaurants 196 223
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Overall, licensee and franchisee revenue improved predominantly due to improved comparable sales by franchisees and licensees of the Manhattan Bagel and Einstein Bros. brands of 8.6% in fiscal 2008 compared to the same period in 2007 and a net increase of 28 license restaurants, partially offset by a net decrease of one franchise restaurant since January 1, 2008.
General and Administrative Expenses
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
General and administrative expenses 40,635 36,356 (10.5 %)
California wage and hour settlements - 1,900 * *
Senior management transition costs - 1,335 * *
Total general and administrative, labor
settlements and transition expense 40,635 39,591
As a percentage of total revenue 10.1 % 9.6 %
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Our general and administrative expenses decreased $4.3 million for the fifty-two weeks ended December 30, 2008, respectively, compared to the same period in 2007. The overall decrease was partially related to a decrease in stock-based compensation expense that was primarily due to the additional options that were granted and vested in the second quarter of 2007 related to the secondary public offering, which did not occur again in 2008. Additionally, in 2008 compared to 2007, the Company had decreases in travel expense, recruiting and referral fees, sales and use tax expense and relocation expense related to our corporate headquarters, partially offset by an increase in our professional service fees.
In addition, the Company experienced a decrease in compensation and related benefits as a result of a reduction in administrative positions that occurred in the latter half of 2008, decreased insurance costs, partially offset by an increase in incentive compensation expense.
The Company recorded $1.9 million in operating expenses during 2008 pursuant to SFAS No. 5, Accounting for Contingencies, to satisfy the two California wage and hour settlements. This accrual represents the Company's current estimate of the aggregate amount that is probable to be paid pursuant to these settlements, but there can be no assurance that amounts actually paid will not be more or less than the amount recorded by the Company.
In late 2008 we experienced turnover at the senior management level. In November, our Chief Marketing Officer left the Company, and in December we transitioned to a new Chief Executive Officer. These events resulted in $0.9 million in severance charges and $0.4 million in recruiting and other costs.
Depreciation and Amortization, Disposal and Impairment Charges
Increase/
(dollars in thousands) (Decrease)
Fiscal Fiscal 2008
2007 2008 vs. 2007
Depreciation and amortization 11,192 14,100 26.0 %
As a percentage of total revenue 2.8 % 3.4 %
Loss on sale, disposal or abandonment of
assets, net 601 198 (67.1 %)
Impairment charges and other related
costs 236 263 11.4 %
Total depreciation and amortization,
. . .
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