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TAST > SEC Filings for TAST > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for CARROLS RESTAURANT GROUP, INC. | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for CARROLS RESTAURANT GROUP, INC.


9-Nov-2012

Quarterly Report


ITEM 2-MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Throughout this Quarterly Report on Form 10-Q, we refer to Carrols Restaurant Group, Inc. as "Carrols Restaurant Group" and, together with its consolidated subsidiaries, as "we", "our" and "us" unless otherwise indicated or the context otherwise requires. Any reference to "Carrols" refers to our wholly-owned subsidiary, Carrols Corporation, a Delaware corporation, and its consolidated subsidiaries, unless otherwise indicated or the context otherwise requires. We use a 52-53 week fiscal year ending on the Sunday closest to December 31. The fiscal years ended January 1, 2012 and January 2, 2011 each contained 52 weeks and the three and nine months ended September 30, 2012 and October 2, 2011 each contained thirteen and twenty-six weeks, respectively. Introduction
We are a holding company and conduct all of our operations through our direct and indirect subsidiaries and have no assets other than the shares of capital stock of Carrols, our direct wholly-owned subsidiary. The following MD&A is written to help the reader understand our company. The MD&A is provided as a supplement to, and should be read in conjunction with our Consolidated Financial Statements and the accompanying financial statement notes appearing elsewhere in this report, our Current Report on Form 8-K filed on November 8, 2012 and our Annual Report on Form 10-K for the year ended January 1, 2012, as amended. The overview provides our perspective on the individual sections of MD&A, which include the following:
Company Overview-a general description of our business and our key financial measures.
Recent and Future Events Affecting Our Results of Operations-a description of recent events that affect, and future events that may affect, our results of operations.
Operating Results from Continuing Operations-an analysis of our results of continuing operations for the three and nine months ended September 30, 2012 compared to the three and nine months ended October 2, 2011, respectively, including a review of material items and known trends and uncertainties. Liquidity and Capital Resources-an analysis of historical information regarding our sources of cash and capital expenditures, the existence and timing of commitments and contingencies, changes in capital resources and a discussion of cash flow items affecting liquidity.
Application of Critical Accounting Policies-an overview of accounting policies requiring critical judgments and estimates.
Effects of New Accounting Standards-a discussion of new accounting standards and any implications related to our financial statements.
Forward Looking Statements-cautionary information about forward-looking statements and a description of certain risks and projections. Company Overview
We are one of the largest restaurant companies in the United States and have been operating restaurants for more than 50 years. We are the largest Burger King franchisee in the world and have operated Burger King restaurants since 1976. As of September 30, 2012, we operated 572 Burger King restaurants in 13 states. On May 30, 2012, we acquired 278 company-owned restaurants from Burger King Corporation ("BKC"), which we refer to as the "acquired restaurants". Our restaurants operated prior to the acquisition are referred to as our "legacy restaurants". Our former indirect wholly-owned subsidiary, Fiesta Restaurant Group, Inc., which we refer to as "Fiesta", was spun off by us to our stockholders on May 7, 2012, which we refer to as the "spin-off". The results of operations and cash flows of Fiesta are presented as discontinued operations in our consolidated financial statements for all periods presented. The discussion in our MD & A is focused on our continuing Burger King restaurant operations. The following is an overview of the key financial measures discussed in our results of operations:
Restaurant sales consist of food and beverage sales, net of discounts, at our restaurants. Restaurant sales are influenced by changes in comparable restaurant sales, menu price increases, new restaurant openings and closures of restaurants. Restaurants are included in comparable restaurant sales after they have been open for 12 months. For comparative purposes, the calculation of the changes in comparable restaurant sales is based on a 52-week year.

Cost of sales consists of food, paper and beverage costs including packaging costs, less purchase discounts. Cost of sales is generally influenced by changes in commodity costs, the sales mix of items sold and the effectiveness of our restaurant-level controls to manage food and paper costs.


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Restaurant wages and related expenses include all restaurant management and hourly productive labor costs and related benefits, employer payroll taxes and restaurant-level bonuses. Payroll and related benefits are subject to inflation, including minimum wage increases and increased costs for health insurance, workers' compensation insurance and state unemployment insurance.

Restaurant rent expense includes base rent and contingent rent on our leases characterized as operating leases, reduced by the amortization of deferred gains on sale-leaseback transactions.

Other restaurant operating expenses include all other restaurant-level operating costs, the major components of which are royalty expenses paid to BKC, utilities, repairs and maintenance, real estate taxes and credit card fees.

Advertising expense includes all promotional expenses including advertising payments paid to BKC based on a percentage of sales as required under our franchise agreements.

General and administrative expenses are comprised primarily of
(1) salaries and expenses associated with corporate and administrative functions that support the development and operations of our restaurants,
(2) legal, auditing and other professional fees and (3) stock-based compensation expense. Historical general and administrative expenses are shown net of allocations to Fiesta for periods prior to the spin-off. Amounts charged under a transition services agreement with Fiesta subsequent to the spin-off are recorded as an offset to general and administrative expenses and were $1.5 million and $2.6 million in the three and nine months ended September 30, 2012, respectively.

EBITDA and Adjusted EBITDA. EBITDA and Adjusted EBITDA are non-GAAP financial measures. EBITDA represents net income (loss) from continuing operations, before provision (benefit) for income taxes, interest expense and depreciation and amortization. Adjusted EBITDA represents EBITDA as adjusted to exclude impairment and other lease charges, acquisition and integration costs, stock compensation expense and loss on extinguishment of debt. We exclude these items from EBITDA when evaluating our operating performance and believe that Adjusted EBITDA provides a more meaningful comparison than EBITDA of our core business operating results, as well as with those of other similar companies that may have different capital structures. Management believes that EBITDA and Adjusted EBITDA, when viewed with our results of operations calculated in accordance with GAAP and our reconciliation of Adjusted EBITDA to net income (loss) from continuing operations, provide useful information about our operating performance and period-over-period growth, and provide additional information that is useful for evaluating the operating performance of our core business without regard to potential distortions. Additionally, management believes that EBITDA and Adjusted EBITDA permit investors to gain an understanding of the factors and trends affecting our ongoing cash earnings, from which capital investments are made and debt is serviced. However, EBITDA and Adjusted EBITDA are not measures of financial performance or liquidity under GAAP and, accordingly, should not be considered as alternatives to net income (loss) from continuing operations or cash flow from operating activities as indicators of operating performance or liquidity. Also, these measures may not be comparable to similarly titled captions of other companies. For a reconciliation between net income (loss) from continuing operations and EBITDA and Adjusted EBITDA see page 27.

EBITDA and Adjusted EBITDA, have important limitations as analytical tools. These limitations include the following:

         EBITDA and Adjusted EBITDA do not reflect our capital expenditures,
          future requirements for capital expenditures or contractual commitments
          to purchase capital equipment;


         EBITDA and Adjusted EBITDA do not reflect the interest expense or the
          cash requirements necessary to service principal or interest payments
          on our debt;


         Although depreciation and amortization are non-cash charges, the assets
          that we currently depreciate and amortize will likely have to be
          replaced in the future, and EBITDA and Adjusted EBITDA do not reflect
          the cash required to fund such replacements; and


         EBITDA and Adjusted EBITDA do not reflect the effect of earnings or
          charges resulting from matters that our management does not consider to
          be indicative of our ongoing operations.  However, some of these
          charges (such as impairment expense) have recurred and may reoccur.


      Depreciation and amortization primarily includes the depreciation of fixed
       assets, including equipment, owned buildings and leasehold improvements
       utilized in our restaurants and the amortization of franchise rights and
       franchise fees.


      Impairment and other lease charges are determined through our assessment
       of the recoverability of property and equipment and intangible assets by
       determining whether the carrying value of these assets can be recovered
       over their respective remaining lives through undiscounted future
       operating cash flows. A potential impairment charge is evaluated whenever


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events or changes in circumstances indicate that the carrying amounts of these assets may not be fully recoverable. Lease charges are recorded for our obligations under the related leases for closed locations net of estimated sublease recoveries. We currently do not have any lease charges accrued for closed locations at September 30, 2012.
Interest expense consists primarily of interest expense associated with our 11.25% Senior Secured Second Lien Notes due 2018 (the "Notes"), borrowings under our prior Carrols LLC senior secured credit facility and the amortization of deferred financing costs. There have been no borrowings under our new senior credit facility in 2012.

Recent and Future Events Affecting our Results of Operations Acquisition of Burger King Restaurants

On May 30, 2012, we completed the acquisition of 278 of BKC company-owned Burger King restaurants, which we refer to as the "acquisition", for a purchase price consisting of (i) a 28.9% equity ownership interest, (ii) $3.8 million for cash on hand and inventory at the acquired restaurants and (iii) $9.4 million of franchise fees and $3.8 million for BKC's assignment of its right of first refusal on franchisee restaurant transfers in 20 states ("ROFR") pursuant to an Operating Agreement, which we refer to as the "operating agreement", dated as of May 30, 2012 with BKC. The amount for the ROFR is payable in quarterly payments over five years and the first quarterly payment of $0.2 million was made at closing on May 30, 2012. We also entered into new franchise agreements pursuant to the purchase and operating agreements and entered into leases with BKC for all of the acquired restaurants, including leases for 81 restaurants owned in fee by BKC and subleases for 197 restaurants under terms substantially the same as BKC's underlying leases for those properties. Pursuant to the operating agreement, we also agreed to remodel 455 Burger King restaurants to BKC's 20/20 restaurant image, including 57 restaurants in 2012, 154 restaurants in 2013, 154 restaurants in 2014 and 90 restaurants in 2015. The Series A Convertible Preferred Stock, which we refer to as the "Series A Preferred Stock", issued to BKC was subject to restrictions limiting the conversion of the Series A Preferred Stock to an amount of shares not to exceed 19.9% of the outstanding shares of our common stock as of the date of issuance (the "issuance limitation"). The removal of the issuance limitation was approved by our stockholders at our 2012 annual meeting.

The results of operations of the acquired restaurants have been included in our operating results from May 31, 2012, the day following the closing of the acquisition.
Refinancing of Outstanding Indebtedness
On May 30, 2012, we issued $150.0 million of 11.25% Senior Secured Second Lien Notes due 2018 and entered into a new senior credit facility that provides for up to $20.0 million of revolving credit borrowings (which was undrawn at closing). The net proceeds from the issuance of the Notes were used to (i) repay all outstanding borrowings under the prior Carrols LLC senior credit facility of $64.8 million (ii) pay $12.1 million related to the acquisition of the acquired restaurants from BKC and (iii) fees and expenses related to the offering of the Notes. The remainder of the net proceeds will be used together with anticipated operating cash flow to fund the restaurant remodeling obligations committed to in connection with the acquisition, and to fund future payments to BKC for the ROFR. Interest expense associated with this indebtedness, including the amortization of deferred financing costs, will be approximately $4.5 million in the remainder of 2012.
Spin-off of Fiesta Restaurant Group, Inc. On April 16, 2012, our board of directors approved the spin-off of Fiesta, which through its subsidiaries, owns and operates the Pollo Tropical and Taco Cabana restaurant brands. In connection with the spin-off, on April 24, 2012, we and Carrols entered into several agreements that govern our post spin-off relationship with Fiesta, including a Separation and Distribution Agreement, Tax Matters Agreement, Employee Matters Agreement and Transition Services Agreement. Amounts earned by us under the Transition Services Agreement were $1.5 million and $2.6 million in the three and nine months ended September 30, 2012, respectively and are expected to be approximately $4.0 million for all of 2012.

Fiesta filed with the Securities and Exchange Commission (the "SEC") a Form 10 registration statement, File No. 001-35373, as amended, which included as an exhibit an information statement which describes the spin-off. The Form 10 registration statement, which registered the common stock of Fiesta under the Securities Exchange Act of 1934, as amended, was declared effective by the SEC on April 25, 2012.
On May 7, 2012, we completed the spin-off of Fiesta in the form of a pro rata dividend of all of the issued and outstanding common stock of Fiesta to Carrols Restaurant Group's stockholders whereby each stockholder of Carrols Restaurant Group's common stock of record on April 26, 2012 received one share of Fiesta common stock for every one share of Carrols Restaurant Group common stock held. As a result of the spin-off, Fiesta is now an independent company whose common stock is traded on The NASDAQ Global Select Market under the symbol "FRGI." Carrols Restaurant Group's common stock continues to trade on The NASDAQ Global Market under the symbol "TAST."


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The historical operating results of Fiesta prior to the spin-off are included in our operating results as income or loss from discontinued operations for all periods presented.

Operating Results from Continuing Operations Three Months Ended September 30, 2012 Compared to Three Months Ended October 2, 2011
The following table sets forth, for the three months ended September 30, 2012 and October 2, 2011, selected operating results from continuing operations as a percentage of restaurant sales for all of our restaurants, our legacy restaurants and the acquired restaurants:

2012 2011 Costs and expenses (all restaurants):
Cost of sales 32.1 % 29.7 % Restaurant wages and related expenses 31.6 % 30.5 %

Restaurant rent expense                7.3 %    6.3 %
Other restaurant operating expenses   17.0 %   15.1 %
Advertising expense                    4.6 %    4.2 %
General and administrative             5.5 %    5.3 %


                                          2012     2011
Costs and expenses (legacy restaurants):
Cost of sales                            30.0 %   29.7 %
Restaurant wages and related expenses    29.5 %   30.5 %
Restaurant rent expense                   6.2 %    6.3 %
Other restaurant operating expenses      14.7 %   15.1 %
Advertising expense                       4.4 %    4.2 %


                                            2012
Costs and expenses (acquired restaurants):
Cost of sales                              34.8 %
Restaurant wages and related expenses      34.2 %
Restaurant rent expense                     8.7 %
Other restaurant operating expenses        19.9 %
Advertising expense                         5.0 %

Since the beginning of the third quarter of 2011 through the end of the third quarter of 2012, we have closed nine restaurants. On May 30, 2012 we acquired 278 restaurants from BKC.
Restaurant Sales. Total restaurant sales in the third quarter of 2012 increased 87.1%, to $169.5 million from $90.6 million in the third quarter of 2011. Restaurant sales in the third quarter of 2012 for the acquired restaurants were $75.1 million. Comparable restaurant sales for our legacy restaurants increased 6.2% resulting from an increase in customer traffic of 3.6% and a 2.6% increase in average check, which resulted from a shift in sales mix and the effect of menu price increases of 1.9% compared to the prior year. This was partially offset by the closure of nine restaurants since the beginning of the third quarter of 2011.
Operating Costs and Expenses (percentages stated as a percentage of restaurant sales for the restaurants being discussed): Cost of sales for all restaurants increased to 32.1% in the third quarter of 2012 from 29.7% in the third quarter of 2011. Cost of sales at our legacy restaurants increased to 30.0% in the third quarter of 2012 from 29.7% in the third quarter of 2011 due primarily to higher commodity prices (1.0%), including higher beef and pork prices, and higher promotional sales discounts, offset in part by a favorable sales mix and the effect of menu price increases taken in the last twelve months of 1.9%. Cost of sales of 34.8% in the third quarter of 2012 for our acquired restaurants was higher than our legacy restaurants due primarily to inefficiencies, shrinkage and higher waste and, to a lesser extend, lower margins on soft drink sales.


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Restaurant wages and related expenses for all restaurants increased to 31.6% in the third quarter of 2012 from 30.5% in the third quarter of 2011. Restaurant wages and related expenses for our legacy restaurants decreased to 29.5% in the third quarter of 2012 from 30.5% in the third quarter of 2011 due to the effect of higher sales volumes on fixed labor costs and lower medical claim costs (0.3%). Restaurant wages and related expenses for our acquired restaurants was 34.2% in the third quarter of 2012 and higher than our legacy restaurants due primarily to our integration efforts including an over-investment in productive labor of $1.8 million prior to implementing our labor scheduling processes at the acquired restaurants late in the third quarter and, to a lesser extent, the effect of fixed labor costs on lower sales volumes relative to our legacy restaurants.
Other restaurant operating expenses for all restaurants increased to 17.0% in the third quarter of 2012 from 15.1% in the third quarter of 2011 due primarily to higher repairs and maintenance expenses associated with the acquired restaurants including $1.1 million of excess repairs as part of our integration efforts to address deferred maintenance at these locations, higher BKC royalty expense at the acquired restaurants, as a percentage of restaurant sales, and the effect of higher fixed operating cost percentages at the acquired restaurants due to lower sales volumes at the acquired restaurants compared to our legacy restaurants.
Advertising expense for all our restaurants increased to 4.6% in the third quarter of 2012 from 4.2% in the third quarter of 2011 due primarily to our commitment to BKC, as part of the acquisition, to spend 0.75% of restaurant sales for additional local advertising in markets that have approved such additional spending in the second half of 2012. This increase was offset by advertising credits received from BKC that were associated with 2012 menu enhancement initiatives. These advertising credits total $5,400 annually per restaurant for 2012 through 2015. In 2012, $2,700 per restaurant was received in the first quarter with $900 per quarter to be received in each of the remaining quarters. For 2013 through 2015 these credits will be received ratably over each year.
Restaurant rent expense for all restaurants increased to 7.3% in the third quarter of 2012 from 6.3% in the third quarter of 2011 due primarily to rent associated with the acquired restaurants which, as a percentage of restaurant sales, was 8.7% during the third quarter of 2012 reflecting the lower sales volumes at the acquired restaurants. Rent expense for our legacy restaurants decreased to 6.2% from 6.3% due to the effect of higher sales volumes on fixed rental costs.
General and Administrative Expenses. General and administrative expenses increased $4.6 million in the third quarter of 2012 to $9.3 million and, as a percentage of total restaurant sales, increased to 5.5% compared to 5.3% in the third quarter of 2011. This increase was due primarily to $1.9 million of legal costs related to recent activity pertaining to our outstanding litigation with the EEOC, additional salaries and other costs for the ongoing operational oversight associated with the acquired restaurants, and $0.5 million of incremental integration costs for recruitment, training, travel, meetings and employee relocation expenses related to the integration of the acquired restaurants.
Adjusted EBITDA. As a result of the factors above, Adjusted EBITDA decreased 14.9% to $7.1 million in the third quarter of 2012 from $8.4 million in the third quarter of 2011. Adjusted EBITDA excludes an aggregate of $3.4 million of integration costs related to the acquired restaurants mentioned above. For a reconciliation between net income (loss) from continuing operations and EBITDA and Adjusted EBITDA see page 27.
Depreciation and Amortization Expense. Depreciation and amortization expense increased to $8.2 million in the third quarter of 2012 from $3.9 million in the third quarter of 2011 due primarily to the addition of the acquired restaurants and from point-of-sale systems installed at our legacy restaurants in 2012 and the second half of 2011.
Impairment and Other Lease Charges. Impairment and other lease charges were $0.1 million in both the third quarter of 2012 and 2011.
Interest Expense. Interest expense increased to $4.5 million in the third quarter of 2012 from $1.7 million in the third quarter of 2011 due to our refinancing in the second quarter of 2012. The weighted average interest rate on our long-term debt, excluding lease financing obligations, increased to 11.25% in the third quarter of 2012 from 6.7% in the third quarter of 2011 due to the issuance of the Notes in the second quarter of 2012.
Provision (Benefit) for Income Taxes. The benefit for income taxes for the third quarter of 2012 was derived using an estimated effective annual income tax rate for 2012 of 41.9%, which excluded discrete tax adjustments. In the third quarter of 2012 we recorded a valuation allowance of $1.4 million against deferred tax assets associated with certain state net operating loss carryforwards which reduced the benefit for income taxes in the third quarter. We also had other discrete tax adjustments which increased the benefit for income taxes by $0.2 million in the third quarter of 2012. The provision for income taxes for the third quarter of 2011 was derived using an estimated effective annual income tax rate for 2011 of 76.6%, which excluded discrete tax adjustments which reduced the provision for income taxes by $0.1 million in the third quarter of 2011. The 2011 effective tax rate is higher than 2012 due to a disproportionate level of employment related tax credits in 2011 relative to the pretax loss for the period.


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Net Income (Loss) from Continuing Operations. As a result of the above, net loss from continuing operations for the third quarter of 2012 was $6.7 million, or $0.29 per diluted share, compared to net income from continuing operations in the third quarter of 2011 of $0.4 million, or $0.02 per diluted share. The net loss from continuing operations in the third quarter of 2012 included charges as discussed above, which reduced earnings by $0.20 per diluted share. These included the acquisition integration costs of $3.4 million ($0.09 per diluted share) and the EEOC litigation related costs of $1.9 million (or $0.05 per diluted share). In addition, tax expense included a charge for a valuation allowance against deferred tax assets of $1.4 million (or $0.06 per diluted share).
Nine Months Ended September 30, 2012 Compared to Nine Months Ended October 2, 2011
The following table sets forth, for the nine months ended September 30, 2012 and October 2, 2011, selected operating results from continuing operations as a percentage of restaurant sales for all of our restaurants, our legacy restaurants and the acquired restaurants::

2012 2011
Costs and expenses:
Cost of sales 31.7 % 29.7 % Restaurant wages and related expenses 31.5 % 31.4 %
Restaurant rent expense                6.9 %    6.6 %
Other restaurant operating expenses   16.1 %   15.4 %
Advertising expense                    4.0 %    4.2 %
General and administrative             6.3 %    5.7 %


                                          2012     2011
Costs and expenses (legacy restaurants):
Cost of sales                            30.6 %   29.7 %
Restaurant wages and related expenses    30.7 %   31.4 %
Restaurant rent expense                   6.3 %    6.6 %
Other restaurant operating expenses      15.0 %   15.4 %
Advertising expense                       3.8 %    4.2 %


                                            2012
Costs and expenses (acquired restaurants):
Cost of sales                              34.7 %
Restaurant wages and related expenses      33.7 %
Restaurant rent expense                     8.5 %
Other restaurant operating expenses        19.0 %
Advertising expense                         4.7 %

In addition to the 278 acquired restaurants, since the beginning of 2011 through the third quarter of 2012 we opened two restaurants, one of which was relocated within its market area, and closed, excluding the relocated restaurant, twelve restaurants.
Restaurant Sales. Restaurant sales in the first nine months of 2012 increased 44.6% to $377.0 million from $260.8 million in the first nine months of 2011 due to sales at the acquired restaurants of $102.5 million and an increase in comparable restaurant sales for our legacy restaurants of 7.0%, from both . . .

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