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FRS > SEC Filings for FRS > Form 10-Q on 21-Oct-2011All Recent SEC Filings

Show all filings for FRISCHS RESTAURANTS INC

Form 10-Q for FRISCHS RESTAURANTS INC


21-Oct-2011

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION and ANALYSIS of FINANCIAL CONDITION and RESULTS of OPERATIONS

SAFE HARBOR STATEMENT under the PRIVATE SECURITIES LITIGATION REFORM ACT of 1995

Forward-looking statements are included in this Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A). Such statements may generally express management's expectations with respect to its plans, or its assumptions and beliefs concerning future developments and their potential effect on the Company. There can be no assurances that such expectations will be met or that future developments will not conflict with management's current beliefs and assumptions, which are inherently subject to risks and other uncertainties. Factors that could cause actual results and performance to differ materially from anticipated results that may be expressed or implied in forward-looking statements are included in, but not limited to, the discussion in this Form 10-Q under Part II, Item 1A. "Risk Factors."

Sentences that contain words such as "should," "would," "could," "may," "plan(s)," "anticipate(s)," "project(s)," "believe(s)," "will," "expect(s)," "estimate(s)," "intend(s)," "continue(s)," "assumption(s)," "goal(s)," "target" and similar words (or derivatives thereof) are generally used to distinguish "forward-looking statements" from historical or present facts.

All forward-looking information in this MD&A is provided by the Company pursuant to the safe harbor established under the Private Securities Litigation Reform Act of 1995 and should be evaluated in the context of all risk factors. Except as may be required by law, the Company disclaims any obligation to update any of the "forward-looking statements" that may be contained in this MD&A.

This MD&A should be read in conjunction with the consolidated financial statements. The Company has no off-balance sheet arrangements other than operating leases that are entered from time to time in the ordinary course of business. The Company does not use special purpose entities.

CORPORATE OVERVIEW

On August 23, 2011, the Company closed six underperforming Golden Corral restaurants. As a result, a non-cash pretax asset impairment charge (with related closing costs) of $4,000,000 was recorded in the First Quarter of Fiscal 2012 (defined below). The impairment charge lowered the carrying values of the six restaurant properties (all of which are owned in fee simple estate) to their fair values, which in the aggregate amount to approximately $6,900,000.

On October 12, 2011, the Company announced that it had engaged an investment banking firm specializing in the restaurant industry to assist the Company in its evaluation of strategic alternatives relating to its Golden Corral business segment. While the engagement is focused on optimizing the value of the Company's investment in its Golden Corral segment, there is no specific strategic or financial transaction in mind nor is there any fixed endpoint for the project's conclusion.

The operations of Frisch's Restaurants, Inc. and Subsidiaries (Company) consist of two reportable segments within the restaurant industry: full service family-style "Big Boy" restaurants and grill buffet-style "Golden Corral" restaurants. As of September 20, 2011, 96 Big Boy restaurants and 29 Golden Corral restaurants were owned and operated by the Company, which are located in various regions of Ohio, Kentucky and Indiana, plus smaller regions in Pennsylvania and West Virginia.

The Company's First Quarter of Fiscal 2012 consists of the 16 weeks ended September 20, 2011. It compares with the 16 weeks ended September 21, 2010, which constituted the First Quarter of Fiscal 2011. The first quarter of the Company's fiscal year normally accounts for a disproportionate share of annual revenue and earnings because it contains 16 weeks, whereas the following three quarters normally contain only 12 weeks each. References to Fiscal 2012 refer to the 52 week year that will end on May 29, 2012. References to Fiscal 2011 refer to the 52 week year that ended May 31, 2011.

A net loss of $2,274,000 was experienced in the First Quarter of Fiscal 2012, a diluted loss per share of ($0.46). Net earnings were $2,741,000 ($0.54 diluted earnings per share) in the First Quarter of Fiscal 2011. The diluted loss/ earnings per share calculations used the following diluted weighted average shares outstanding: 4,941,839 in the First Quarter of Fiscal 2012 and 5,122,276 in the First Quarter of Fiscal 2011. The estimated effective tax rate was 16 percent in the First Quarter of Fiscal 2011 and was 32 percent in the First Quarter of Fiscal 2011.


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Factors having a notable effect when comparing the pretax loss of ($2,707,000) in the First Quarter of Fiscal 2012 with pretax earnings of $4,031,000 reported in the First Quarter of Fiscal 2011:

$4,000,000 charge (with related closing costs) for impairment of long lived Golden Corral assets in the First Quarter of Fiscal 2012

Consolidated restaurant sales decreased $1,198,000, a decline of 1.3 percent.

- Total Big Boy sales increased $1,355,000, the result of more restaurants in operation

- Big Boy same store sales decreased 0.2 percent

- Golden Corral sales decreased $2,553,000, including the effect of lost sales from the six closed restaurants in the final four week period of the quarter (August 24 through September 20, 2011)

- Golden Corral same store sales decreased 4.9 percent

Big Boy gross profit decreased $1,144,000, a decline of 16.7 percent

As a percentage of sales:

- Food cost was 34.0 percent in the First Quarter of Fiscal 2012, up from 32.5 percent in the First Quarter of Fiscal 2011

- Other operating costs were 21.0 percent, up from 20.3 percent in the First Quarter of Fiscal 2011

Golden Corral gross profit decreased $819,000, a decline of 39.3 percent

As a percentage of sales:

- Food cost was 38.3 percent in the First Quarter of Fiscal 2012, up from 37.9 percent in the First Quarter of Fiscal 2011

- Payroll and related expenses were 29.3 percent in the First Quarter of Fiscal 2012, up from 28.2 percent in the First Quarter of Fiscal 2011

- Other operating costs were 28.2 percent in the First Quarter of Fiscal 2012, up from 27.5 percent in the First Quarter of Fiscal 2011

Administrative and advertising expense increased 16.3 percent, primarily due to stock based compensation costs, which increased $455,000, including $371,000 for an unrestricted stock award to the Chief Executive Officer.

RESULTS of OPERATIONS

Sales

The Company's sales are primarily generated through the operation of Big Boy restaurants and Golden Corral restaurants. Big Boy sales also include wholesale sales from the Company's commissary to restaurants licensed to other Big Boy operators and the sale of Frisch's signature brand tartar sauce to grocery stores. Same store sales comparisons are a key metric that management uses in the operation of the business. Same store sales are affected by changes in customer counts and menu price increases. Changes in sales also occur as new restaurants are opened and older restaurants are closed. Below is the detail of consolidated restaurant sales:

                                                       1st Quarter
                                                    2012         2011
                                                     (in thousands)
              Big Boy restaurants                 $ 58,165     $ 57,001
              Wholesale sales to licensees           2,908        2,733
              Wholesale sales to grocery stores        288          272

              Total Big Boy sales                   61,361       60,006
              Golden Corral restaurants             30,367       32,920

              Consolidated restaurant sales       $ 91,728     $ 92,926


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The Company operated 96 Big Boy restaurants as of September 20, 2011. The count of 96 includes the following changes since the beginning of Fiscal 2011 (June 2010), when 91 Big Boy restaurants were in operation:

July 2010 - new restaurant opened in Louisville, Kentucky

August 2010 - new restaurant opened near Dayton, Ohio

October 2010 - new restaurant opened in Elizabethtown, Kentucky (Louisville market)

December 2010 - new restaurant opened in Heath, Ohio (Columbus market)

July 2011 - new restaurant opened near Cincinnati, Ohio

One Big Boy restaurant building was under construction as of September 20, 2011. It opened on October 3, 2011 in Highland Heights, Kentucky (Cincinnati market). A nearby aging restaurant was permanently closed on September 30, 2011. Two other older Big Boy restaurants currently operating at leased locations will likely be closed and the properties vacated as their leases expire in December 2011 and May 2012. There are currently no other new Big Boy restaurants planned to open before the end of Fiscal 2012.

Big Boy same store sales decreased 0.2 percent during the First Quarter of Fiscal 2012. The same store decrease reflects a 2.6 percent decline in customer counts, which was offset by menu price increases of 1.0 percent implemented respectively in September 2010 and March 2011 to which a 1.5 percent increase was added in September 2011. Another increase will likely be implemented in March 2012.

Frisch's grocery line business will be significantly expanded in November 2011 when its brand of salad dressings begins arriving in grocery stores joining tartar sauce products, which have been a staple on grocery store shelves for many years. Also in November 2011, all of the Company's grocery line products will only be marketed under the name "Frisch's" with reference to "Big Boy" deleted to allow entry into previously restricted markets.

The Company operated 29 Golden Corral restaurants as of August 23, 2011. The count of 29 includes the following changes since the beginning of Fiscal 2011 (June 2010), when 35 restaurants were in operation:

August 2011 - closed four restaurants in or near Cincinnati, Ohio

August 2011 - closed restaurant in Medina, Ohio (Cleveland market)

August 2011 - closed restaurant in West Akron, Ohio (Cleveland market)

The Company has no plans to open any new Golden Corral restaurants.

Golden Corral same store sales decreased 4.9 percent in the First Quarter of Fiscal 2012 (the six closed restaurants have been removed from the same store comparison). The same store sales decrease reflects a 9.6 percent decline in customer counts, which was offset by menu price increases of 1.3 percent in September 2010, 0.9 percent in January 2011, 1.0 percent in March 2011 and 0.9 percent in June 2011

Higher menu prices may contribute to the trend in lower customer counts. However, of greater concern is the persistently high level of unemployment in the Midwest region that continues to restrict the disposable income of the customer bases for both Big Boy and Golden Corral, which in turn impedes sales growth opportunities. Management has no plans to offer competitive discounting or other promotional deals to which many other chain restaurants have recently reverted in an effort to boost their sagging customer traffic during the continued economic downturn. Management believes the avoidance of deep discounting has kept the Company's sales declines to a minimum, placing the Company in a solid position of not having to ask customers to give up deals when the economy eventually recovers.

Proposed regulations of the menu labeling provision of the Federal Patient Protection and Affordable Care Act (enacted March 2010) were issued by the U.S. Food and Drug Administration on April 1, 2011. Final regulations are expected by the end of calendar year 2011 with implementation required by mid 2012. Sales volumes in both Big Boy and Golden Corral restaurants may be adversely affected if customers significantly alter their dining choices as a result of the requirement to add nutritional information to menus.


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Gross Profit

Gross profit for the Big Boy segment includes wholesale sales and cost of wholesale sales. Gross profit differs from restaurant level profit discussed in Note G (Segment Information) to the consolidated financial statements because advertising expense and impairment of asset losses are charged against restaurant level profit. Gross profit for both operating segments is shown below:

                                                    1st Quarter
                                                 2012        2011
                                                  (in thousands)
                   Big Boy gross profit         $ 5,691     $ 6,835
                   Golden Corral gross profit     1,264       2,083

                   Total gross profit           $ 6,955     $ 8,918

The operating percentages shown in the following table are percentages of total sales, including Big Boy wholesale sales. The table supplements the discussion that follows, which addresses cost of sales for both the Big Boy and Golden Corral reporting segments, including food cost, payroll and other operating costs.

                                                         1st Quarter 2012                    1st Quarter 2011
                                                                Big                                 Big
                                                   Total        Boy         GC         Total        Boy         GC
Sales                                               100.0       100.0       100.0       100.0       100.0       100.0

Food and Paper                                       35.4        34.0        38.3        34.4        32.5        37.9

Payroll and Related                                  33.6        35.7        29.3        33.1        35.8        28.2

Other Operating Costs (including opening costs)      23.4        21.0        28.2        22.9        20.3        27.5

Gross Profit                                          7.6         9.3         4.2         9.6        11.4         6.4

The cost of food continued to rise sharply during the First Quarter of Fiscal 2012. Higher prices were experienced during the summer of 2011 for most food commodities, especially hamburger. The high cost of hamburger is driven by a) the high cost of corn, which is the principal feed ingredient for cattle, hogs and poultry, and b) 50-year lows in cattle supplies. Elevated prices for most of the commodities that the Company uses are expected to continue through the remainder of calendar year 2011, although food costs in the Golden Corral segment have moderated somewhat due to longer term pricing that has been locked-in for top butt steaks.

The Company does not use financial instruments as a hedge against changes in commodity prices. The effect of commodity price increases is actively managed with changes to the Big Boy menu mix and effective selection and rotation of items served on the Golden Corral buffet, together with periodic increases in menu prices. However, rapid escalations in the cost of food can be problematic to effective menu management, as evidenced by the sharply rising percentages in the above table despite higher prices being charged to customers. Food and paper cost percentages for the Golden Corral segment are much higher than the Big Boy segment because of the all-you-can-eat nature of the Golden Corral concept, and because top butt steak is featured daily on the buffet line.

Food safety poses a major risk to the Company. Management rigorously emphasizes and enforces established food safety policies in all of the Company's restaurants and in its commissary and food manufacturing plant. These policies are designed to work cooperatively with programs established by health agencies at all levels of government authority, including the Federal Hazard Analysis of Critical Control Points (HACCP) program. In addition, the Company makes use of ServSafe Training, a nationally recognized program developed by the National Restaurant Association. The ServSafe program provides accurate, up-to-date science-based information to all levels of restaurant workers on all aspects of food handling, from receiving and storing to preparing and serving. All restaurant managers are required to be certified in ServSafe Training and are required to be re-certified every five years.


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The increase in payroll and related costs for the Golden Corral segment (as a percentage of sales) is due to the absorption of all management employees from the six closed restaurants along with roughly 60 percent of hourly employees into other Golden Corral restaurants. The percentages will likely increase in the short term before scaling back over time with attrition. Payroll and related costs for the Golden Corral segment are much lower than the Big Boy segment because fewer servers are needed.

Payroll and related costs continue to be adversely affected by mandated increases in the minimum wage.

In Ohio, where roughly two-thirds of the Company's payroll costs are incurred, the minimum wage for non-tipped employees was increased 33 percent from $5.15 per hour to $6.85 per hour beginning January 1, 2007. It was subsequently increased to $7.00 per hour on January 1, 2008, to $7.30 per hour on January 1, 2009 (there was no increase on January 1, 2010) and to $7.40 per hour on January 1, 2011. On January 1, 2012, the rate will increase to $7.70 per hour.

The Ohio minimum wage for tipped employees increased 61 percent from $2.13 per hour to $3.43 per hour beginning January 1, 2007. It was subsequently increased to $3.50 per hour on January 1, 2008, to $3.65 per hour on January 1, 2009 (there was no increase on January 1, 2010) and to $3.70 per hour on January 1, 2011. On January 1, 2012, the rate will increase to $3.85 per hour.

Federal minimum wage statutes currently apply to substantially all other (non-Ohio) employees. The federal minimum wage for non-tipped employees increased from $5.15 per hour to $5.85 per hour in July 2007. It was increased to $6.55 per hour in July 2008 and to $7.25 per hour in July 2009. The rate for tipped employees (non-Ohio) was not affected by the federal legislation, remaining at $2.13 per hour.

Although there is no seasonal fluctuation in employment levels, the number of hours worked by hourly paid employees has always been managed closely according to sales patterns in individual restaurants. However, the effects of paying the mandated higher hourly rates of pay have been and are continuing to be countered through the combination of reductions in the number of scheduled hours and higher menu prices charged to customers. Without benefit of reductions in labor hours, the Ohio minimum wage increase on January 1, 2011 would have added an estimated $140,000 to annual payroll costs in Ohio restaurant operations. The scheduled increase on January 1, 2012 would add an estimated $575,000 to annual Ohio payrolls without the benefit of further reductions in hours.

Despite the savings that come from reductions in hours worked and higher menu prices charged to customers, other factors add to payroll and related costs. These factors include higher costs associated with benefit programs offered by the Company, most notably medical insurance premiums and pension related costs.

Medical insurance premiums totaled approximately $9,900,000 for the plan year that ended December 31, 2010, which was an increase of 5.2 percent over the previous year. Premium cost for the plan year that runs January 1, 2011 through December 31, 2011 is expected to be at least 5.6 percent higher, with total premium payments likely to exceed $10,450,000. The Company has historically absorbed 78 to 80 percent of the cost, with employees contributing the remainder. The medical insurance program for the 2012 plan year is currently being negotiated, with additional cost shifting to employees very likely. Management continues to analyze and evaluate health care reform legislation (the Federal Patient Protection and Affordable Care Act, enacted March 2010) to determine the future short and long term effects on the Company and various strategies to lessen the expected financial burden.

Net periodic pension cost was $848,000 and $1,026,000 respectively, in the First Quarter of Fiscal 2012 and the First Quarter of 2011. Net periodic pension cost for Fiscal 2012 is currently expected to be in the range of $2,700,000 to $2,800,000, which is net of a benefit in excess of $550,000 from certain changes in assumptions relating to retirement, termination and marriage, but which is offset by an increase of approximately $125,000 from the reduction of 25 basis points in the discount rate. The final total periodic pension cost in Fiscal 2011 was $3,025,000.

Net periodic pension cost for both the First Quarter of Fiscal 2012 and the First Quarter of Fiscal 2011 are much higher than historical levels. Equity securities comprise 70 percent of the target allocation of pension plan assets. Although the market for equity securities made significant rebounds in fiscal years 2010 and 2011, the steep market declines experienced in fiscal year 2009 (not to mention significant market declines during the First Quarter of Fiscal 2012) continue to drive the costs well above historical levels. The market losses from 2009 are being amortized through pension cost, which in turn creates a lower credit for the expected return on plan assets that flows through pension cost.


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Payroll and related expenses are also affected by adjustments that result each quarter when management performs a comprehensive review of the Company's self-insured Ohio workers' compensation program and adjusts its reserves as deemed appropriate based on claims experience. Increases to the self-insured reserves result in charges to payroll and related expenses, while decreases to the reserves result in credits to payroll and related expenses. Charges of $21,000 and $93,000 respectively, were recorded in payroll and related expenses during the First Quarter of Fiscal 2012 and the First Quarter of Fiscal 2011.

Other operating costs include occupancy costs such as maintenance, rent, depreciation, property tax, insurance and utilities, plus costs relating to field supervision, accounting and payroll preparation costs, franchise fees for Golden Corral restaurants, new restaurant opening costs and many other restaurant operating costs. Opening costs can have a significant effect on other operating costs. Opening costs (all for Big Boy - no Golden Corral restaurants were opened during any of the periods presented in this MD&A) were $283,000 in the First Quarter of Fiscal 2012 and were $548,000 in the First Quarter of Fiscal 2012. As most of the other typical expenses charged to other operating costs tend to be more fixed in nature, the percentages shown in the above table can be greatly affected by changes in same store levels. In other words, percentages rise when same store sales decrease and percentages will decrease when same store sales increase. Other operating costs for the Golden Corral segment are a much higher percentage of sales than Big Boy because the physical facility of a Golden Corral restaurant is roughly twice as large as a Big Boy restaurant and Golden Corral sales volumes have generally remained well below management's original long-term expectations.

Operating Profit

To arrive at the measure of operating profit, administrative and advertising expense is subtracted from gross profit, while the line item for franchise fees and other revenue is added to it. Gains and losses from the sale of real property (if any) are then respectively added or subtracted. Charges for impairment of assets (if any) are also subtracted from gross profit to arrive at the measure of operating profit.

Administrative and advertising expense increased $782,000 during the First Quarter of Fiscal 2012, 16.3 percent higher than the First Quarter of Fiscal 2011. Stock based compensation expense included in administrative and advertising expense was $550,000 during the First Quarter of Fiscal 2012, and was $95,000 in the First Quarter of Fiscal 2011. An unrestricted stock award in June 2011 to the Chief Executive Officer that amounted to $371,000 was included in the stock based compensation expense. (A further discussion of stock based compensation appears below under Financing Activities.) Most of the remaining increase in administrative and advertising expense is for professional services related to the strategic assessment of the Golden Corral business segment.

Revenue from franchise fees is based upon sales volumes generated by Big Boy restaurants that are licensed to other operators. The fees are based principally on percentages of sales and are recorded on the accrual method as earned. As of September 20, 2011, 25 Big Boy restaurants were licensed to other operators and paying franchise fees to the Company. No licensed Big Boy restaurants opened or closed during any of the periods presented in this MD&A. Other revenue also includes certain other fees from restaurants licensed to others along with minimal amounts of rent and investment income.

There were no gains or losses from the sale of real property during the First Quarter of Fiscal 2012 or the First Quarter of Fiscal 2011.

The six underperforming Golden Corral restaurants that were closed on August 23, 2011 resulted in a non-cash pretax asset impairment charge (with related closing costs) of $4,000,000 in the First Quarter of Fiscal 2012. The impairment charge lowered the carrying values of the six restaurant properties (all owned in fee simple estate) to their estimated fair values. The total charge includes impairment losses of intangible assets associated with unamortized initial franchise fees along with certain other costs incurred to close the restaurants.

Interest Expense

Interest expense in the First Quarter of Fiscal 2012 was $457,000 compared with $474,000 during the First Quarter of Fiscal 2011. The reduction is commensurate with slightly lower debt levels.

Income Tax Expense

Income tax expense as a percentage of pretax earnings was estimated at 16 percent in the First Quarter of Fiscal 2012 and at 32 percent in the First Quarter of Fiscal 2011. These rates have historically been kept low through the Company's use of tax credits, especially the federal credits allowed for Employer Social Security and Medicare Taxes Paid on Certain Employee Tips and the Work Opportunity Tax Credit (WOTC). While these tax credits are


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generally more favorable to the effective tax rate when pretax earnings decrease, they are much more favorable to the estimated effective tax rate when estimated annual pretax earnings decrease in a significant fashion, as is the current situation in Fiscal 2012 due to the combination of the charge for impairment of assets and the expected continuation of higher foods costs.

LIQUIDITY and CAPITAL RESOURCES

Sources of Funds

Food sales to restaurant customers provide the Company's principal source of cash. The funds from sales are immediately available for the Company's use, as . . .

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