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GCFB > SEC Filings for GCFB > Form 10-K on 20-Mar-2013All Recent SEC Filings

Show all filings for GRANITE CITY FOOD & BREWERY LTD. | Request a Trial to NEW EDGAR Online Pro

Form 10-K for GRANITE CITY FOOD & BREWERY LTD.


20-Mar-2013

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Forward-Looking Statement Disclaimer

This Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. The statements contained in this Annual Report that are not purely historical are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements include, without limitation, statements relating to future economic conditions in general and statements about our future:

º •
º Strategy and business;

º •
º Development plans and growth;

º •
º Sales, earnings, income, expenses, operating results, profit margins, capital resource needs and competition; and

º •
º Ability to obtain and protect intellectual property and proprietary rights.

All of these forward-looking statements are based on information available to us on the date of filing this Annual Report. Our actual results could differ materially. The forward-looking statements contained in this Annual Report, and other written and oral forward-looking statements made by us from time to time, are subject to certain risks and uncertainties that could cause actual results to differ materially from those anticipated in the forward- looking statements. Factors that might cause such a difference include, but are not limited to, those discussed in Item 1A of this report under the caption "Risk Factors."

Overview

We operate two casual dining concepts under the names Granite City Food & Brewery® and Cadillac Ranch All American Bar & Grill®. As of March 8, 2013, we operated 28 Granite City restaurants and six Cadillac Ranch restaurants in 16 states. We plan to open two additional Granite City restaurants in 2013. The Granite City restaurant theme is upscale casual dining with a wide variety of menu items that are prepared fresh daily, including Granite City's award-winning signature line of hand-crafted beers finished on-site. The extensive menu features moderately priced favorites served in generous portions. Granite City's attractive price point, high service standards, and great food and beer combine for a memorable dining experience. Cadillac Ranch restaurants feature freshly prepared, authentic, All-American cuisine in a fun, dynamic environment. Patrons enjoy a warm, Rock N' Roll


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inspired atmosphere, with plenty of room for friends, music and dancing. The Cadillac Ranch menu is diverse with offerings ranging from homemade meatloaf to pasta dishes, all freshly prepared using quality ingredients.

Our industry can be significantly affected by changes in economic conditions, discretionary spending patterns, consumer tastes, and cost fluctuations. In recent years, consumers have been under increased economic pressures and as a result, many have changed their discretionary spending patterns. Although negative trends in consumer spending within the casual dining sector appear to be easing, many consumers continue to dine out less frequently than in the past and/or have decreased the amount they spend on meals while dining out. To offset the negative impact of decreased sales, we continue to seek to renegotiate the pricing of various aspects of our business. We also implemented marketing initiatives designed to increase brand awareness and help drive guest traffic. We believe these initiatives contributed to the increase in sales in fiscal year 2012 over fiscal year 2011.

We believe that our operating results will fluctuate significantly because of several factors, including the operating results of our restaurants, changes in food and labor costs, increases or decreases in comparable restaurant sales, general economic conditions, consumer confidence in the economy, changes in consumer preferences, nutritional concerns and discretionary spending patterns, competitive factors, the skill and the experience of our restaurant-level management teams, the maturity of each restaurant, adverse weather conditions in our markets, and the timing of future restaurant openings and related expenses.

We use a 52/53-week fiscal year ending on the last Tuesday of December to account for our operations. All references to "2012" and "2011" within the following discussion represent the fiscal years ended December 25, 2012 and December 27, 2011, respectively. Fiscal years 2012 and 2011 each consisted of 52 weeks. Our fiscal year ended December 25, 2012 included 1,675 operating weeks, which is the sum of the actual number of weeks each restaurant operated. Our fiscal year ended December 27, 2011 included 1,360 restaurant weeks. We provide the statistical measure of restaurant weeks to enhance the comparison of revenue from period to period as changes occur in the number of restaurants we are operating.

Our restaurant revenue is comprised almost entirely of the sales of food and beverages. We also obtain a small percentage of revenue from cover charges, banquet or private dining room rentals and the sale of retail items. Such sales make up approximately one percent of total revenue. Product costs include the costs of food, beverages and retail items. Labor costs include direct hourly and management wages, taxes and benefits for restaurant employees. Direct and occupancy costs include restaurant supplies, marketing costs, rent, utilities, real estate taxes, repairs and maintenance and other related costs. Pre-opening costs consist of direct costs related to hiring and training the initial restaurant workforce, the salaries and related costs of our new restaurant opening team, cash and non-cash rent costs incurred during the construction period and certain other direct costs associated with opening new restaurants. General and administrative expenses are comprised of expenses associated with all corporate and administrative functions that support existing operations, which include management and staff salaries, employee benefits, travel, information systems, training, market research, professional fees, supplies and corporate rent. Acquisition costs are expenses related to due diligence performed as part of the acquisition of assets. Depreciation and amortization includes depreciation on capital expenditures at the restaurant and corporate levels and amortization of intangibles that do not have indefinite lives. Interest expense represents the cost of interest expense on debt and capital leases net of interest income on invested assets.


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Results of Operations as a Percentage of Sales

The following table sets forth results of our operations expressed as a percentage of sales for fiscal years 2012 and 2011.

                                                 Fiscal Year Ended
                                           December 25,     December 27,
                                               2012             2011
          Restaurant revenue                       100.0 %          100.0 %
          Cost of sales:
          Food, beverage and retail                 27.1             27.3
          Labor                                     32.9             34.3
          Direct restaurant operating               15.0             15.3
          Occupancy                                  8.3              7.7

          Total cost of sales                       83.3             84.5

          Pre-opening                                0.9              0.1
          General and administrative                 8.0              8.8
          Acquisition costs                          0.6              0.9
          Depreciation and amortization              6.1              6.4
          Exit or disposal activities                0.1             (0.1 )
          Loss on disposal of assets                 0.4              0.2

          Operating income (loss)                    0.7             (0.8 )

          Interest:
          Income                                     0.0              0.0
          Expense                                   (4.1 )           (4.1 )

          Net interest expense                      (4.1 )           (4.1 )

          Net loss                                  (3.4 )%          (4.9 )%

Certain percentage amounts do not sum due to rounding.

Critical Accounting Policies

This discussion and analysis is based upon our consolidated financial statements, which were prepared in conformity with generally accepted accounting principles. These principles require management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. We believe our estimates and assumptions are reasonable; however, actual results and the timing of the recognition of such amounts could differ from those estimates. We have identified the following critical accounting policies and estimates utilized by management in the preparation of our financial statements:

Property and Equipment

The cost of property and equipment is depreciated over the estimated useful lives of the related assets ranging from three to 20 years. The cost of leasehold improvements is depreciated over the initial term of the related lease, which is generally 10 to 20 years. Depreciation is computed on the straight-line method for financial reporting purposes and accelerated methods for income tax purposes. Amortization of assets acquired under capital lease is included in depreciation expense. We review property and equipment, including leasehold improvements, for impairment when events or circumstances indicate these assets might be impaired pursuant the Financial Accounting Standards Board's ("FASB") accounting guidance on accounting for the impairment or disposal of long-lived


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assets. We base this assessment upon the carrying value versus the fair market value of the asset and whether or not that difference is recoverable. Such assessment is performed on a restaurant-by-restaurant basis and includes other relevant facts and circumstances including the physical condition of the asset.

Our accounting policies regarding property and equipment include certain management judgments regarding the estimated useful lives of such assets and the determination as to what constitutes enhancing the value of or increasing the life of existing assets. These judgments and estimates may produce materially different amounts of depreciation and amortization expense than would be reported if different assumptions were used.

We continually reassess our assumptions and judgments and make adjustments when significant facts and circumstances dictate. Historically, actual results have not been materially different than the estimates we have made.

Leasing Activities

We have entered into various leases for our buildings, equipment and for ground leases. At the inception of a lease, we evaluate it to determine whether the lease will be accounted for as an operating or capital lease pursuant to the FASB guidance on accounting for leases.

Our lease term used for straight-line rent expense is calculated from the date we take possession of the leased premises through the termination date. There is potential for variability in our "rent holiday" period which begins on the date we take possession of the leased premises and ends on the date the restaurant opens, during which no cash rent payments are typically due. Factors that may affect the length of the rent holiday period generally relate to construction related delays. Extension of the rent holiday period due to delays in restaurant opening will result in greater pre-opening rent expense recognized during the rent holiday period.

Certain leases contain provisions that require additional rent payments based upon restaurants sales volume ("contingent rentals"). Contingent rentals are accrued each period as the liabilities are incurred.

Management makes judgments regarding the probable term for each restaurant property lease which can impact the classification and account for a lease as capital or operating. These judgments may produce materially different amounts of depreciation, rent expense and interest expense than would be reported if different assumptions were made.

Stock-Based Compensation

We have granted stock options to certain employees and non-employee directors. We account for stock-based compensation in accordance with the FASB fair value recognition guidance. Stock-based compensation is measured at the grant date based on the value of the award and is recognized as an expense over the vesting period. Under the Black-Scholes option-pricing model, we determine the fair value of stock-based compensation at the grant date. This requires judgment, including but not limited to judgment concerning the expected volatility and forfeiture of our stock. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted.

Revenue Recognition

Revenue is derived from the sale of prepared food and beverage and select retail items and is recognized at the time of sale. Revenue derived from gift card sales is recognized at the time the gift card is redeemed. Until the redemption of gift cards occurs, the outstanding balances on such cards are included in accrued expenses in the accompanying consolidated balance sheets. When we determine


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there is no legal obligation to remit the value of unredeemed gift cards to the relevant jurisdictions, we periodically recognize gift card breakage which represents the portion of our gift card obligation for which management believes the likelihood of redemption by the customer is remote, based upon historical redemption patterns. Such amounts are included as a reduction to general and administrative expense. We arrive at this amount using certain management judgments and estimates. Such judgments and estimates may produce different amounts of breakage than would be reported if different assumptions were used.

Recently Issued Accounting Standards

In July 2012, the FASB issued Accounting Standards Update ("ASU") No. 2012-02, "Intangibles-Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment." This update amends ASU 2011-08, "Intangibles-Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment" and permits an entity first to assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30, Intangibles-Goodwill and Other-General Intangibles Other than Goodwill. The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted, including for annual and interim impairment tests performed as of a date before July 27, 2012, if a public entity's financial statements for the most recent annual or interim period have not yet been issued or, for nonpublic entities, have not yet been made available for issuance. The adoption of ASU 2012-02 did not have a material impact on our financial position or results of operations.

In August 2012, the FASB issued ASU 2012-03, "Technical Amendments and Corrections to SEC Sections: Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin (SAB) No. 114, Technical Amendments Pursuant to SEC Release No. 33-9250, and Corrections Related to FASB ASU 2010-22 (SEC Update)" in ASU No. 2012-03. This update amends various SEC paragraphs pursuant to the issuance of SAB No. 114. The adoption of ASU 2012-03 is not expected to have a material impact on our financial position or results of operations.

In October 2012, the FASB issued ASU 2012-04, "Technical Corrections and Improvements" in ASU No. 2012-04. The amendments in this update cover a wide range of Topics in the Accounting Standards Codification ("ASC"). These amendments include technical corrections and improvements to the ASC and conforming amendments related to fair value measurements. The amendments in this update will be effective for fiscal periods beginning after December 15, 2012. The adoption of ASU 2012-04 is not expected to have a material impact on our financial position, results of operations or cash flows.

Results of Operations for the Fiscal Years Ended December 25, 2012 and December 27, 2011

Revenue

We generated $120,931,643 and $93,222,655 of revenue during fiscal years 2012 and 2011, respectively, an increase of 29.7%. Approximately $21,650,647 of such increased revenue was generated from the Cadillac Ranch restaurants we acquired between November 4, 2011 and May 31, 2012. Comparable restaurant revenue, which we define as revenue from restaurants in operation over 18 months, includes 26 of our Granite City restaurants but none of our Cadillac Ranch restaurants. Comparable restaurant revenue increased 2.6% from 2011 to 2012. The average weekly revenue per restaurant at our comparable restaurants increased $1,751 from $68,437 in 2011 to $70,188 in 2012.


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We expect that restaurant revenue will vary from quarter to quarter. Continued seasonal fluctuations in restaurant revenue are due in part to increased outdoor seating and weather conditions. Due to the honeymoon effect that periodically occurs with the opening of a restaurant, we expect the timing of any future restaurant openings to cause fluctuations in restaurant revenue. Additionally, other factors outside of our control, such as timing of holidays, consumer confidence in the economy and changes in consumer preferences may affect our future revenue.

Restaurant Costs

Food and beverage

Our food and beverage costs, as a percentage of revenue, decreased 0.2% to 27.1% in 2012 from 27.3% in 2011. While we experienced some cost increases, primarily fish, chicken and beer, such increases were offset by decreases in other protein, wine, liquor and retail products. While pricing negotiations with our suppliers have reduced our exposure to commodity price increases, we do expect that our food and beverage costs will continue to vary going forward due to numerous variables, including seasonal changes in food and beverage costs for certain products for which we do not have contracted pricing, fluctuations within commodity-priced goods and guest preferences. We periodically create new menu offerings and introduce new craft brewed beers based upon guest preferences. Although such menu modifications may temporarily result in increased food and beverage cost, we believe we are able to offset such increases with our specials which provide variety and value to our guests. Our varieties of craft brewed beer, which we believe we can produce at a lower cost than beers we purchase for resale, also enable us to keep our food and beverage costs low while fulfilling guest requests and building customer loyalty. We anticipate increases in commodity prices in 2013. While we will seek to offset such increases with new menu offerings and specials, we expect our food and beverage costs as a percent of revenue to increase approximately two percentage points in 2013.

Labor

Labor expense consists of restaurant management salaries, hourly staff payroll costs, other payroll-related items including management bonuses, and non-cash stock-based compensation expense. Our experience to date has been that staff labor costs associated with a newly opened restaurant, for approximately its first four to six months of operation, are greater than what can be expected after that time, both in aggregate dollars and as a percentage of revenue.

Our labor costs, as a percentage of revenue, decreased 1.4% to 32.9% in 2012 from 34.3% in 2011. Although we experienced a slight increase in insurance, performance compensation and labor relating to the security and janitorial services we brought in-house at a number of our locations, virtually all other labor costs decreased year over year. Non-cash stock-based compensation decreased $122,628 from $251,162 in 2011 to $128,534 in 2012.

We expect that benefit costs will increase as new health insurance regulations are implemented. Additionally, we expect labor costs will vary as minimum wage laws, local labor laws and practices, and unemployment rates vary from state to state, as will hiring and training expenses. We believe that retaining good employees and more experienced staff ensures high quality guest service and may reduce hiring and training costs.

Direct restaurant operating

Operating supplies, repairs and maintenance, utilities, promotions and restaurant-level administrative expense represent the majority of our direct restaurant operating expense, a portion of which is fixed or indirectly variable. Our direct restaurant operating expense, as a percentage of revenue, decreased 0.3% to 15.0% in 2012 from 15.3% in 2011. While we experienced cost increases in


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maintenance and repair, security service and janitorial supplies, those cost increases were offset by cost decreases in marketing, utilities, and credit card discounts.

We continue to seek ways to reduce our direct operating costs going forward including additional pricing negotiations with suppliers and the elimination of waste.

Occupancy

Our occupancy costs, which include both fixed and variable portions of rent, common area maintenance charges, property insurance and property taxes, increased 0.6% as a percentage of revenue to 8.3% in 2012 from 7.7% in 2011. The primary source of the increase was the non-cash difference between our current rent payments and straight-line rent expense over the initial lease term which is included in occupancy costs. This non-cash rent expense was $377,337 in 2012 and $(158,979) in 2011. The credit balance in 2011 was due to the rental abatement agreements entered into for two of our restaurants. Pursuant to such agreements, we wrote off approximately $307,000 of rent expense we had recorded but withheld during negotiations.

While fixed rent has decreased as a percentage of revenue due to the higher revenue base, we have seen an increase of $1,143,920 in fixed rent expense year over year due in part to the nature of our Cadillac Ranch leases. Each Cadillac Ranch lease is considered an operating lease in which all lease expense is included in occupancy expense. In contrast, the majority of our Granite City leases are capital leases in which a portion of the lease expense is recorded as occupancy expense while the remainder is recorded as interest expense and reduction of liability. Additionally, the majority of our leases include a provision for additional rent based upon restaurant sales. As such, with our increased revenue base, our percentage rent has increased as well.

Pre-opening

Pre-opening costs, which are expensed as incurred, consist of expenses related to hiring and training the initial restaurant workforce, wages and expenses of our new restaurant opening team, cash and non-cash rental costs incurred during the construction period and certain other direct costs associated with opening new restaurants. The majority of pre-opening costs, excluding construction-period rent, are incurred in the month of, and two months prior to, restaurant opening.

In 2012, our pre-opening costs were related to our restaurant in Troy, Michigan which opened in May 2012 and our restaurant in Franklin, Tennessee which opened in February 2013. In 2011, such costs were related to the Troy, Michigan restaurant.

General and Administrative

General and administrative expense includes all salaries and benefits, including non-cash stock-based compensation, associated with our corporate staff that is responsible for overall restaurant quality, financial controls and reporting, restaurant management recruiting, management training, and excess capacity costs related to our beer production facility. Other general and administrative expense includes advertising, professional fees, investor relations, office administration, centralized accounting system costs and travel by our corporate management.

General and administrative expense increased $1,527,396 to $9,714,095 in 2012 from $8,186,699 in 2011. As a percentage of revenue, general and administrative expenses decreased 0.8% from 8.8% in 2011 to 8.0% in 2012 due to the higher revenue provided primarily by the Cadillac Ranch and Troy, Michigan restaurants. Employee compensation, travel and occupancy expense increased general and administrative cost due primarily to the addition of several key members of management in connection with our May 2011 transaction with Concept Development Partners LLC ("CDP"), our majority shareholder, as well as additional personnel and travel expense related to the addition of our six


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Cadillac Ranch restaurants. Aggregate non-cash stock-based compensation for employees and non-employee board members was $181,295 and $569,286 in 2012 and 2011, respectively. While we expect similar general and administrative expenses in future months, we believe that the benefit of restaurant, menu and food upgrades and future restaurant unit growth will help to reduce general and administrative expenses as a percentage of revenue.

As we seek new ways to build revenue, we will continue to closely monitor our general and administrative costs and attempt to reduce these expenses as a percentage of revenue while preserving an infrastructure that remains suitable for our current operations. With our growth plans, we will need to recruit additional personnel to provide continued oversight of operations. To the extent our turnover increases above our expectations, additional costs could be incurred in our recruiting and training expenses.

Depreciation and Amortization

Depreciation and amortization expense increased $1,407,765 to $7,405,705 in 2012 from $5,997,940 in 2011. As a percentage of revenue, depreciation and amortization expense decreased 0.3% to 6.1% in 2012 from 6.4% in 2011, indicating that revenue generated from our new locations more than offset the related increase in depreciation expense. We anticipate depreciation expense will increase as we open additional restaurants and complete enhancements at selected restaurants, including increased seating in the bars, enclosure of patios for year-round service, and the addition of private dining rooms to accommodate private parties and reduce wait times during peak periods.

Exit or Disposal Activities

In the first quarter of fiscal year 2011, we entered into lease termination agreements and promissory notes regarding our Rogers, Arkansas restaurant which we ceased operating in August 2008. Pursuant to these agreements, we wrote off the remaining assets and liabilities related to the leases and recorded approximately $168,000 of non-cash income in exit and disposal activities.

Interest

Net interest expense consists of interest expense on capital leases and long-term debt, net of interest earned from cash on hand. Net interest expense increased $1,058,869 to $4,911,425 in 2012 from $3,852,556 in 2011. This increase was due to the increase in the amount borrowed to acquire our six . . .

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