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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-KSB
ANNUAL REPORT
Under Section 13 or 15(d) of the Securities Act of 1934
For the Fiscal Year Ended June 30, 1998
ARTHUR TREACHER'S, INC.
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(Name of Small Business Issuer in Its Charter)
UTAH 34-1413104
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(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
7400 Baymeadows Way, Suite 300, Jacksonville, Florida 32256
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(Address of Principal Executive Offices) (Zip Code)
(904) 739-1200
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(Issuer's Telephone Number)
Securities registered under Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which
to be so Registered Each Class is to be Registered
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Securities registered under Section 12(g) of the Act:
Common Stock, $.01 par value
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(Title of Class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes |_|
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Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B is not contained in this form, and no disclosure will
be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB. |X|
State issuer's revenues for its most recent fiscal year. $22,986,762
Shares outstanding. 14,869,748
State the aggregate market value of the voting stock held by
non-affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, as of a specified date within
the past 60 days. (See definition of affiliate in Rule 12b-2 of the Exchange
Act.) $15,791,656.
Note: if determining whether a person is an affiliate will involve an
unreasonable effort and expense, the issuer may calculate the aggregate market
value of the common equity held by non-affiliates on the basis of reasonable
assumptions, if the assumptions are stated.
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PART I
Item 1. Description of Business.
The Company is a fast service seafood restaurant chain based in Jacksonville,
Florida. The Company's principal business is the operation, franchising,
ownership and development of "Arthur Treacher's Fish & Chips" fast food
restaurants. The Company has 110 restaurants in the Arthur Treacher's system,
consisting of 62 Company owned restaurants and 48 independently owned and
operated franchised locations. The restaurants are located in 10 states in the
mid-western and eastern United States as well as in Washington D.C. and the
province of Ontario, Canada. The Company's main product is its "Original Fish &
Chips" product consisting of fish fillets coated with a special batter prepared
under a proprietary formula, deep-fried golden brown and served with
English-style chips and two corn meal "hush puppies." The Company's other
products include chicken and an assortment of other seafood combination dishes
including shrimp and clams.
(A) Background
The Company was originally founded in 1969 as Arthur Treacher's Fish & Chips,
Inc., a Delaware corporation. In 1979, Mrs. Paul's, Inc. ("Mrs. Paul's")
purchased Arthur Treacher's Fish & Chips, Inc. Mrs. Paul's changed the products
offered at the restaurants, which resulted in severe dissatisfaction among the
franchisees, a reduction in the number of restaurants and litigation between
certain franchisees and Mrs. Paul's. In 1982, Lumara Foods of America, Inc.
("Lumara") acquired the assets of Arthur Treacher's Fish & Chips, Inc. from Mrs.
Paul's. Lumara was unable to achieve profitability and consequently sought
bankruptcy protection in 1983. In December 1983, Arthur Treacher's Inc., an Ohio
corporation, entered into an agreement to purchase the assets of Lumara, during
Chapter XI bankruptcy proceedings. In February 1984, Arthur Treacher's Inc., an
Ohio corporation, merged into El Charro, Inc., a Utah corporation, which
consummated the acquisition of the assets of Lumara and changed its name to
Arthur Treacher's, Inc.
On May 31, 1996, an investor group organized by Mr. Bruce Galloway, the current
Chief Executive Officer and Chairman of the Board, acquired control of the
Company through the purchase of 2,000,000 shares from the then principal
shareholder and President.
Mr. R. Frank Brown served as CEO, President and Treasurer from May, 1996 through
April, 1998. Mr. Brown left the Company at the end of his two year contract that
was not renewed to pursue other interests.
On November 27, 1996 the Company purchased 100% of the common stock of its
largest franchisee, MIE Hospitality, Inc. (MIE), whose operations include 32
restaurants in the midwest and northeast United States. The Company anticipates
that the MIE acquisition will provide
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opportunities for additional expansion, since the Company can open additional
Company-owned stores and sell additional franchises in states where MIE was the
exclusive franchisee.
The Company has also commenced pursuing co-branding opportunities. In August
1998, the Company entered into a co-branding licensing agreement with Miami Subs
Corp. ("Miami Subs"). As of May 31, 1998, Miami Subs system consisted of 171
restaurants in the eastern United States, including 150 franchise locations.
Miami Subs offers fresh fast food including hot and cold submarine sandwiches
and various ethnic foods.
(B) Corporate Strategy
The Company seeks to focus on three key areas of development:
o Human Resources
o Unit Expansion and Co-Branding
o Marketing, Advertising and Promotion
1. Human Resources
In May 1998, Bruce Galloway was elected Chief Executive Officer of the Company.
William F. Saculla was promoted from Chief Financial Officer to President.
Thomas Hoffman, previously President of MIE, became Executive Vice President of
Corporate Development.
Messrs. Galloway and Saculla set a corporate objective to recruit a new
management team by September 1, 1998. The goal was to recruit individuals that
were leaders, trainers and results oriented individuals. Each of the key
management hires was to have extensive restaurant operations experience to
accelerate their impact on the Company's restaurants.
The Company recruited senior management for operations and marketing in July and
August 1998. Joining Messrs. Galloway, Saculla and Hoffman were Richard Gerner,
Director of Operations and Michael Cohen, Director of Marketing. Their
responsibilities included the creation of a corporate culture that focuses on
recruiting, training and empowering restaurant managers to build their business.
The new executive team recognizes that the implementation of the corporate
culture is only successful if the field staff follows through by training,
supervising and creating a sense of urgency. Two new Regional Directors of
Operations were also hired in August to ensure the implementation of operational
and marketing efforts. Richard Lang supervises primarily freestanding stores in
Central Pennsylvania and Northeast Ohio. Ralph Dilemmo supervises the New York
to Philadelphia markets that are mostly mall food court locations. The Company
recognizes that restaurant operations are key to enhancing its future
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growth; therefore, Messrs. Gerner, Dilemmo and Lang bring a hands-on management
approach into the restaurants and a combined 60 years of experience with
restaurant management.
2. Unit Expansion & Co-branding
The Company intends to open more Company owned and operated stores and
franchised stores. The Company's system has 110 restaurants, of which 62 (56%)
are Company owned. The Company expects to achieve a ratio of approximately 40%
of the restaurants as Company owned by the year 2000 as a result of franchise
development. The Company will continue to build its network of Company owned and
franchised restaurants in the United States with additional locations in order
to increase the Company's penetration into local markets. The Company seeks to
expand both in its principal existing markets of Florida, Ohio, and the New York
metropolitan area. The Company has no current plans to expand outside of the
United States and Canada.
o Expansion in Previously Exclusive Territory
The Company believes that the purchase of MIE will provide additional
opportunities for expansion since the Company may now open additional Company
owned stores and sell additional franchises in New York, New Jersey,
Pennsylvania and Delaware, where MIE was the exclusive franchisee and had
exclusive development rights. In addition, the Company purchased MIE because it
can operate the 32 stores owned by MIE with minimal increase in administrative
overhead. Since May 1998, the Company has opened three stores in the New York
City metropolitan area and entered into a joint venture agreement to develop
additional stores in portions of New York City.
o Acquiring competitors' locations.
The Company views the acquisition of franchisees or restaurants in competitors'
systems as opportunities to increase the Company's market penetration by adding
locations, increasing revenues and maximizing the Company's brand in the
marketplace. By removing a competitor's store from the market and adding an
Arthur Treacher's Fish & Chip's restaurant, the Company will have eliminated
some competition, add market share and will create a larger revenue base to
spread advertising, supervision and administrative costs. The Company continues
to enter into discussions with financing companies specializing in restaurants,
to fund acquisitions of franchisees or competitors that operate in markets where
the Company has a concentration of restaurants.
o Co-branding with other concepts.
The Company intends to continue to pursue co-branding opportunities. As of
November 1997, the Company entered into a management agreement with Miami Subs
as to one location and in
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August 1998, the Company entered into a co-brand license agreement with Miami
Subs to put a limited Arthur Treacher's menu in Miami Subs units. As of
September 30, 1998 the Company owned one co-branded store in Jacksonville,
Florida and has a joint venture with Miami Subs in two other locations
(Bergenfield, New Jersey and St. Petersburg, Florida). As of September 30, 1998,
17 Miami Sub franchisees have co-branded with Arthur Treacher's. The Company
anticipates opening additional co-brand locations during the current fiscal
year. Arthur Treacher's receives royalties of 2% based on the Arthur Treacher's
incremental sales increase from each Miami Subs co-brand franchisee.
The Company seeks co-branding between two restaurant concepts when one concept
provides a product or serves a demographic group that is underserved by the
other. In addition, the Company will seek complementary concepts that offer
different products to the same customers during different parts of the day.
o Acquisitions
Execution of its growth strategy requires the Company's management to, among
other things: (i) identify acquisition candidates who are willing to be acquired
at prices acceptable to the Company; (ii) consummate identified acquisitions;
and (iii) obtain financing for future acquisitions or competitor's locations.
The Company believes that the acquisition of franchise restaurants is preferable
to opening new Company owned restaurants where there is a concentration of other
restaurants, particularly Company owned restaurants. Such concentration of
Company owned restaurants enables the Company to achieve more effective control
of marketing, economies of scale regarding the purchase of supplies, the
deployment of field personnel and advertising and thereby improve the
restaurants' operations without any increase in central administrative overhead.
The Company believes that such economies of scale can be achieved if a minimum
of six to ten restaurants are in an area.
The Company intends to improve its restaurant operations by directing the
corporate culture of the chain towards the customer and management development.
This change in culture will be accentuated with training programs, local store
marketing workshops and sales incentives combined with an emphasis on Quality,
Service and Cleanliness.
o Corporate Franchisees
The Company intends to develop joint programs with new corporate franchisees for
regional expansion opportunities in certain selected markets. This program will
entail a corporate sponsor for a particular region based upon metropolitan
population densities. A region would typically be large enough to cover an area
that could accommodate ten or more store locations. The Company anticipates that
a regional representative franchise agreement would be executed with the
corporate franchisee providing it with rights to a specified region and to
support from the Company in order to develop the area within certain guidelines
established by the Company
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relating, among other things, to a minimum number of restaurants to be opened
within particular time periods. The Company also intends to grant new franchises
to operators of single restaurants. There can be no assurance, however, that
suitable franchisees can be located or that regional representative franchise
agreements will be reached at terms acceptable to the Company.
The Company estimates the cost of opening a new Company owned restaurant at
between $50,000 and $200,000 per restaurant (assuming the purchase, not lease,
of new equipment), depending upon factors such as the size of the restaurant,
the lease and local construction costs.
The Company also offers its franchisees the option to co-brand with Miami Subs.
Co-branding the Arthur Treacher's menu into a Miami Sub's restaurant entails a
conversion cost of approximately $35,000.
By standardizing the construction and equipment procurement process of its
restaurant network, the Company believes that it could develop the economies of
scale in the design and site selection process. A supplementary benefit of such
an expansion program could include proposals to arrange for regional or national
equipment leasing and financing programs and the use of national or regional
contractors to provide support for franchisees wishing to expand. There can be
no assurance that such programs will be reached at terms acceptable to the
Company.
The Company's proposed expansion and store renovations will be dependent on,
among other things, the availability of suitable restaurant sites, negotiation
of acceptable lease terms, timely development of such sites, obtaining
landlords' consents to renovations, constructing or renovating restaurants,
hiring of skilled management and other personnel, the general ability to
successfully manage growth (including monitoring restaurants, controlling costs
and maintaining effective quality controls) and the availability of adequate
financing. In the case of franchised restaurants, the Company will be
substantially dependent on the management skills of its franchisees
3. Marketing, Promotion and Advertising
o Core menu items
Batter-dipped fish, chicken and shrimp accounted for more than 75% of the
Company's sales, in fiscal year ended June 30, 1998. Management prefers
increasing total sales with the above mentioned core menu products than
incurring the cost and risk of developing new menu items. Arthur Treacher's has
built a strong brand awareness over the past 30 years with its core menu and
anticipates increasing the marketing and promotion of the batter-dipped
products.
The Company's restaurants are designed to produce the batter-dipped products
easily. Increasing the sales of already high volume products will improve
product rotation and help ensure hot,
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fresh food for customers.
The Company believes that batter-dipped food is a strong focus for the menu
because, in part, batter-dipped food can not be prepared easily at home. Most
households do not have a deep fryer and a recipe for batter. Therefore,
customers who like batter-dipped fish, chicken and shrimp would be attracted to
Arthur Treacher's for these products.
o Marketing strategies.
Mall based stores are critical to the Company's success. Seventy percent of the
Company revenue is mall based. Therefore, marketing strategies will be tailored
to generate business in malls. If the tactics are feasible for freestanding
stores, the marketing approach will expand to the freestanding markets. Certain
promotions developed for freestanding stores will not necessarily be successful
in the mall locations. Freestanding locations can benefit substantially from
external media (print, radio, television, direct mail and out of home).
Purchasing external media to drive customers to a mall, to the food court in
that mall and finally to Arthur Treacher's in that food court is not cost
efficient. The geographic distribution of the Company's mall based and free
standing stores permits the Company to design marketing programs for each
region. Most of the Company's freestanding and mall locations are in separate
markets. Northeast Ohio and Central Pennsylvania have most of the freestanding
stores while the mall based Arthur Treacher's are located primarily in the New
York to Philadelphia corridor and Florida.
A local marketing training program for managers of Arthur Treacher's restaurants
located in food courts has been developed. One day training classes have been
held for the managers. The program is designed to enable and empower managers to
market their store within the confines of the mall by capturing new customers,
use fewer discounts and improve frequency of visits. Promotional tools have been
provided to the managers. Managers are working with their supervisors and the
marketing department to create marketing plans tailored to the needs of each
store.
Managers of freestanding locations are also being trained in local marketing,
techniques which are designed to reflect the different needs of freestanding
stores. The freestanding stores had an "All You Can Eat Fish & Chicken
Promotion" in the fall of 1998. This promotion was developed to attract a new
and younger customer base, promote the Company's core menu items (batter-dipped
fish and chicken), provide an alternative to competitor's 'buy one get one free'
discounting and to increase gross margins.
The franchisees will be expected to pay a portion of the three percent of
revenues currently required to be spent on advertising by each franchisee to the
Company as a fee for such coordinated advertising. A portion of the
approximately three percent of gross sales currently spent by the Company for
advertising Company owned stores would also be devoted to the coordinated
campaign. The amounts collected would be utilized entirely on marketing and
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promotional campaigns to benefit the entire franchise network.
o "Value Menu" strategy
The Company is introducing a Value Menu that will be separate from the
traditional menu board. This new menu will feature lower price items and snack
size meals. The rationale for implementing this menu in mall locations is that
many mall shoppers are not interested in a full meal whereas most of the
Company's existing menu is based on large meals. The Company expects to increase
business during non-meal periods by attracting `grazers' and people that want to
share a snack. Many of the products will be `finger food'. The rationale for
introducing the Value Menu to freestanding locations is that many of the meals
on the existing menu may be too large for lunch. Lower price points and smaller
portions are intended to increase lunch traffic. Freestanding locations will get
newspaper support to introduce the Value Menu. The Company recognizes that lower
price points will lower check averages; however, the Company expects increased
traffic to off-set the lower prices.
o Revised merchandising
The Company will use outside design experts to develop an effective and
contemporary look to our restaurants signage. The Company is also seeking to
implement an interior store design with a cleaner and less cluttered appearance.
The Company also hopes to achieve cost savings in printing by having consistent
sized point of purchase material.
o Less discounting
The Company intends to limit the use of discounting to build traffic. The
Company's core menu (batter-dipped fish, chicken and shrimp) should not have
their `value' undermined by constant discounting. A strategy of continual
discounting results in diminishing returns (coupon redemption). Couponing
targets only one segment of the potential customer base and misses most of the
younger age groups, men and urban ethnic demographics.
Gross margins will be a key factor in meal promotions. All gross margins for
promotions will be compared to the "Original Fish & Chips". Those promotions
that generate less gross margin per meal will need to have a corresponding
increase in traffic.
(C) Franchises
As of June 30, 1998 the Company had 48 independently owned and operated
franchised locations. The Company has two options for franchises: individual
stores and area development. In addition, one franchisee has agreed to open one
franchise for each of the next three years in northeastern Ohio, although such
franchisee does not have any exclusive territory. The Company also has a
franchisee with an exclusive franchise for the province of Ontario, Canada,
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where there are nine restaurants.
Pursuant to its franchise agreement, the Company provides its franchisees with a
method of operation, including trade secrets, technical knowledge, a supply
distribution program and standards for customer service, quality control, decor,
layout, signs and accounting systems. The Company also provides centralized
advertising and cooperative advertising programs and an initial training
program, which is required for franchisees. Each franchisee is required to spend
a minimum of three percent of monthly gross sales on advertising. In addition,
each franchisee must purchase certain private label, proprietary food, paper
supplies, equipment and signage from Company approved suppliers and
distributors.
The Company does not select restaurant sites for franchisees, but all sites are
subject to the Company's approval. The Company also requires that its
franchisees name the Company as an additional insured party on their property
and casualty insurance policies and that vendors provide subrogation to the
Company with respect to their product liability insurance.
Pursuant to the Company's standard franchise agreement, which is incorporated in
its Uniform Franchise Offering Circular, the initial franchise fee for a one
unit franchise is $19,500. The fee for each additional franchise declines
thereafter. The fee for an area development franchise is $69,500. These
franchise fees do not include the costs associated with the operation of the
restaurant, including food, supplies, labor, equipment, occupancy costs and
taxes.
Each franchisee is subject to a royalty fee of a maximum of six percent of the
franchisee's gross sales, net of sales taxes and certain other adjustments,
based upon sales reports at the end of each calendar month. In the fiscal year
ended June 30, 1998, the Company received a total of $330,569 in franchise fees
and royalty income. Most franchisees, pay royalties at a rate substantially
lower than six percent of gross sales, with an average royalty of about three
percent. Reduced royalty fees have been granted by the Company for certain older
franchisees and for franchisees who operate multiple units.
As of September 30, 1998, franchisees operating sixteen restaurants have either
been notified of being in default for non-payment of royalties or are more than
90 days in default on royalty payments. The inability of the Company's
franchisees to make payments on a timely basis will adversely affect the
Company's liquidity and its operations.
(D) Suppliers and Pricing
Seafood prices, particularly the price of pollack, are subject to supply
problems due to environmental and economic factors. The Company is developing
measures to minimize the effect on the Company. However through negotiations,
the Company was able to reduce the cost of seafood from the fiscal year ended
June 30, 1997.
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The Company's principal product, "Fish and Chips," includes pollack. Other
species are being tested as alternatives due to supply, price and availability.
The Company and franchisees utilize one supplier to the Company owned stores for
pollack. The Company and its franchisees use three suppliers for shrimp. For the
fiscal year ended June 30, 1998, purchases of pollack and shrimp accounted for
approximately 20% and 7% of the Company's operating expenses, excluding
occupancy costs, respectively. The Company has reduced its costs since June 30,
1997 by utilizing new suppliers of pollack, chicken and shrimp. Such seafood
supplies and prices are subject to volatility. Seafoods of the quality sought by
the Company tend to trade on a negotiated basis depending upon supply and demand
at the time of purchase. Supply and price can be affected by multiple factors,
such as weather, politics and economics in the producing countries. An increase
in the prices of seafood, particularly pollack, could have an adverse effect on
the Company.
The Company maintains relationships with certain seafood vendors in an effort to
obtain seafood of the quality and in the quantity demanded by the Company's
customers. These relationships enable the Company to maintain its supply of fish
as well as affording the Company some price stability. The Company has sought to
mitigate the effects of price volatility by entering into agreements with its
principal fish suppliers to provide fixed prices for seafood products during the
six months to one year duration of the contracts. Such fixed price agreements
also help ensure the Company's supply of fish and enables the Company to reduce
its supply costs. Although the Company anticipates that the agreements will be
renewed on substantially the same terms as the current agreements, there can be
no assurance that the new terms will not be more costly. However the Company
believes that alternate suppliers of pollack and other seafoods are available if
the prices of pollack or other seafoods increase substantially. Management also
intends to take advantage of changing technologies with respect to the "farming"
and breeding of selected species of fish and seafood products, and currently
purchases some fish products that are "farmed."
The Company uses many different individual suppliers for many of its significant
non-seafood items. For example: cups, potatoes, chicken, shortening and
proprietary fish batter are each purchased from different individual suppliers
under oral and written agreements which set the price for one year. New
contracts which have been negotiated will generate lower cost of goods with
better quality. All of the Company's supplies are delivered by such suppliers to
one distributor who services the Company's restaurants from three distribution
centers. Any disruption in supplies from such suppliers could temporarily have
an adverse effect on the Company's operations, although the Company believes
that the supplier could readily be replaced. Except with respect to the
Company's proprietary batter mix, franchisees can purchase such products from
other suppliers or distributors, subject to the Company's prior approval.
(E) Competition
The restaurant business is highly competitive with respect to price, service,
location and food
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quality and is generally considered to be a mature industry. Competition in the
industry can be expected to increase. The industry is affected by changes in
consumer eating habits and preferences, local, regional and national economic
conditions, demographic trends, automobile traffic patterns, government
regulation, employee availability and commodity and operating cost fluctuations,
many of which are beyond the Company's control. Any unplanned or unanticipated
changes in these factors could adversely affect the Company.
There are numerous well-established competitors in the operating areas of the
Company. Restaurants operated or franchised by the Company compete directly not
only with quick service restaurants ("QSRs"), but also with moderately priced
family and specialty restaurants. Significant competitors include fast food
seafood restaurants such as Long John Silvers and Captain D's, casual dining
restaurants with a seafood emphasis such as Red Lobster and Landry's, and other
chains that serve seafood or chicken, or both.
The Company's primary competitors in the fast service seafood restaurant
business are Long John Silvers and Captain D's. Both competitors have company
owned and franchised restaurant operations in certain regions of the United
States. Long John Silvers is the largest competitor with over 1,300 locations
nationwide. However, in June 1998 Long John Silver's filed for bankruptcy
protection under Chapter 11. Captain D's, a wholly owned subsidiary of Shoney's,
Inc. with approximately 600 units, has a strong regional presence in the
southeastern United States. The amount of competition varies among the Company's
principal regional markets. Both Captain D's and Long John Silvers compete
directly with the Company in Ohio and Pennsylvania, although the level of
competition is highest in several Pennsylvania markets. Long John Silvers
competes directly with the Company in several of its markets in Florida.
In Ontario, the Company has significant direct competition from independent fish
and chips restaurants, but less direct competition from other major fast service
seafood chains. Many of the Company's competitors possess substantially greater
financial, marketing, personnel and other resources than those of the Company.
Such competitive pressures limit the Company's ability to increase food and
beverage prices and thus may limit the extent to which the Company and its
franchisees can offset certain costs of doing business. There can be no
assurance that well-established competitors will not place additional
restaurants in close proximity to those of the Company and its franchisees.
The Company also faces vigorous competition from other QSR chains in attracting
and retaining suitable franchises. Beginning in the fiscal year commencing July
1, 1998, the Company plans to increase its number of franchised restaurants but
there can be no assurance that it will be able to attract and retain suitable
franchisees.
The Company has developed a concentration of restaurant locations in the food
courts of regional shopping malls. The competition in the malls typically
consists of the seven to thirteen different restaurant concepts in each food
court. Each food concept generally serves a distinctive menu
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item which may compete, directly or indirectly, with the Company. There can be
no assurance that the Company will continue to be able to compete effectively
with such food concepts. Top competitors in food courts include Sbarros,
Chik-fil-a, Philly Stations, a variety of small chains featuring Japanese,
Chinese, Cajun and other ethnic foods. Major QSR chains such as McDonald's, KFC,
Burger King, Wendy's, and Taco Bell are opening in food courts. The major chains
benefit from broad consumer awareness generated by broadcast media. These
concepts can dominate a food court.
(F) Seasonality
The Company derives a significant portion of its sales during the
November/December (Christmas) and March/April (Easter) holiday seasons, which
are reflected in the Company's operating results for the second and third
quarter. These seasonal effects are dependent upon the general retailing
environment and customers' preference to shopping malls. Weather can have a
significant affect on shopping in Northern climates. 86% of the Company's sales
come from Northern states. These areas can be significantly impacted by weather
during December, January and February. Approximately 70% of the Company's
restaurant revenue is derived from shopping malls. The Company derives
approximately 15% of its total annual revenues from operations of the stores
located in shopping malls during the holiday season.
(G) Employees
At September 30, 1998, the Company had approximately 700 employees. A total of
approximately 575 employees are paid on an hourly basis and 125 employees
receive a salary. Six of the Company's employees perform executive functions.
Most of the Company's employees are employed at the Company's restaurants. The
Company believes that the number of persons employed is adequate to conduct the
Company's current level of operations. The addition of new restaurants will also
increase the number of employees at the restaurants and may require added
corporate staff if significant expansion occurs.
(H) Government Regulation
The Company's business is subject to extensive federal, state and local
government regulation, including regulations relating to franchising, public
health and safety, zoning and fire codes. The failure to obtain or retain food
or other licenses would adversely affect the operations of the Company's
restaurants.
The Company is subject to federal and state laws, rules and regulations that
govern the offer and sale of franchises. The Company is also subject to a number
of state laws that regulate certain substantive aspects of the
franchisor-franchisee relationship. If the Company is unable to comply with the
franchise laws, rules and regulations of a particular state, relating to offers
and sales of franchises, the Company will be unable to engage in offering or
selling franchises in such state.
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The Company believes it is in compliance with such laws, rules and regulations
and has not been cited for non-compliance. In 1995, the Federal Trade Commission
("FTC") conducted an investigation related specifically to the Company following
a complaint filed by certain franchisees but the FTC took no action. The
complaint alleged various misrepresentations by the Company, including
misrepresentations to the franchisees regarding (i) the investment risk,
earnings, food costs and construction costs that could be expected by a
franchisee, (ii) the rate of expansion of the number of Arthur Treacher's
restaurants and (iii) the availability of national advertising and marketing
support. The Company is not currently subject to any investigation by any
federal or state regulatory authority.
On a national level, the FTC requires the Company to furnish prospective
franchisees with a disclosure document which complies with the FTC's Trade
Regulation Rule (the "FTC Rule"). The Company's current FTC disclosure document
is effective for use in 37 states, and the District of Columbia, that do not
require registration of disclosure documents. However, in the 13 remaining
states, the Company is required to register a state-specific document and
receive an effective registration notice prior to the commencement of sales of
franchises in such states. The Company is not qualified to sell franchises in
any state that requires a state specific document although the Company believes
that it could register in such states if it chose to offer franchises in such
states. The Company has begun the registration process in Illinois, New York,
Virginia and Maryland.
The Company will be required to update its FTC disclosure document to reflect
the occurrence of material events. The occurrence of any such events may, from
time to time, require the Company to modify its disclosure documents within 90
days or stop offering and selling franchises until the document is so updated.
There can be no assurance that the Company will be able to update its disclosure
document or become registered to offer or sell franchises in certain states
consistent with its expansion plans or that the Company will be able to comply
with existing or future franchise regulations in any particular state, any of
which could have an adverse effect on the Company.
(I) Trade and Service Marks and Trade Secrets
The Company believes that the "Arthur Treacher's" and the "Arthur Treacher's
Fish & Chips" service marks and other service marks may have significant value
and are important to the marketing of its restaurants and products. All are
registered with the United States Patent Office. The Company has applied to
register "Arthur Treacher's Seafood Grille" as a service mark. The Company's
principal "Arthur Treacher's" and "Arthur Treacher's Fish and Chips" service
marks are subject to renewal for 10 year periods upon application to the United
States Patent Office in 2007. The other service marks are subject to renewal for
10 year periods on various dates between 1999 and 2001. Upon expiration of each
period, the marks may be renewed for successive 10 year periods. There can be no
assurance, however, that the Company's trade and service marks do not, or will
not, violate the proprietary rights of others, that the Company's
14
<PAGE>
trade and service marks would be upheld if challenged or that the Company would
not be prevented from using its trade or service marks.
Any of the aforementioned instances could have a material adverse effect on the
Company and its franchisees. The Company's trade and service marks have not been
and are not subject to any material challenges and the Company has acted to
vigorously defend the marks in several isolated instances where alleged
infringement has occurred. The Company is aware of two restaurants in the New
York metropolitan area which infringed on the Company's service mark in 1996,
each of which ceased such infringement upon demand by the Company.
The Company utilizes a proprietary batter mix in connection with the preparation
of its seafood products. There can be no assurance that such recipe will not be
copied by a competitor and that the Company's business will not be adversely
affected.
15
<PAGE>
Item 2. Description of Property.
The Company's principal executive offices are located at 7400 Baymeadows Way,
Jacksonville, Florida 32256 (904-739-1200). The Company rents its 7,600 square
feet of headquarters space for an annual rent of approximately $134,000 pursuant
to a lease which expires in 2001. The Company believes that its headquarters
space is adequate for its proposed expansion.
The Company's 62 restaurants include 31 restaurants located in premises leased
by the Company, 31 located in premises leased by MIE, a wholly-owned subsidiary
of the Company. In addition, with respect to five leases, the Company either
guarantees the obligations of franchisees or leases the properties and subleases
them to franchisees. The Company's free standing restaurants are each
approximately 2,000 square feet and the Company's restaurants located in malls
are each approximately 400 to 1,100 square feet.
The leases have remaining terms ranging from one to 20 years. Many of the leases
contain renewal options for periods of five to 10 years. The Company is
reviewing whether to continue to operate any marginal restaurants acquired in
the MIE Acquisition and to renegotiate the terms of each restaurant lease upon
the expiration of each lease. The following chart sets forth the expiration
dates of the terms of (i) the leases of Company owned restaurants, and (ii) the
Company's leases which are subleased to franchisees and leases of franchisees
which are guaranteed by the Company.
Leases Subject
to Guarantees
Number of Leases or Subleases Expiration Date
---------------- --------------- ---------------
6 1 1998
5 0 1999
4 1 2000
16 0 2001
12 3 2002
15 0 2003
7 0 2004
8 0 After 2004
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Item 3. Legal Proceedings
ATAC Corporation and Patrick Cullen v. Arthur Treacher's, Inc. and James
Cataland, Case No. 1:95CV 1032, In the U.S. District Court, Northern District,
Ohio Eastern Division; filed May 9, 1995. On November 16, 1994, Arthur
Treacher's terminated the agency agreement of a Regional Development
Representative, ATAC Corporation, on the grounds that ATAC breached the
agreement by assigning the agency agreement to a third party without the consent
of Arthur Treacher's. ATAC claims that the Company was aware of and consented to
the third-party assignment. The Company is unaware of any document signed by a
properly-authorized representative of the Company formally authorizing or
consenting to the assignment. On May 9, 1995, ATAC filed the action and alleged
that the Company terminated the contract without cause, tortuously interfered
with other business relationships, committed wrongful conversion of the
territory and committed restraint of trade and price-fixing, breach of contract,
fraud, and violations of RICO. ATAC originally demanded a minimum of $2,750,000
in compensatory damages and $6,000,000 in punitive damages. In response to the
original complaint, the Company filed a motion to dismiss all of the claims. In
addition, the Company filed a counterclaim against ATAC seeking a Declaratory
Judgment that ATAC does not have a service contract with the Company in certain
areas which the Company does business, that ATAC has committed breach of
contract and that the Company is entitled to indemnification for previous
lawsuits which have occurred because of the actions of ATAC on behalf of the
Company. ATAC has twice amended the claims and allegation of the original
complaint. In the Third Amended Complaint, ATAC asserts claims against the
Company and the Company's former President, James Cataland, for fraud, breach of
contract, tortuous interference with contract, violations of the Ohio Business
Opportunity Act, violations of the Ohio Consumer Sales Practices Act and breach
of fiduciary duty. ATAC seeks in excess of $10,000,000 in compensatory,
punitive, and statutory damages from the Company. In response to the Third
Amended Complaint, the Company in 1997 filed a Motion to Dismiss ATAC's claims
for breach of fiduciary duty and under the Consumer Sales Practices and Business
Opportunity Acts. The Company also requested that the district court dismiss the
claim against the Company's former President. The Company in 1998 filed Motions
for Summary Judgment on behalf of itself and the Company's former President with
respect to all of ATAC's claims (except breach of contract) and requested that
the court refer the remaining contract claim to binding arbitration. The Court
recently granted the Company's Motion to Stay the lawsuit pending arbitration
and the ruling is presently the subject of an appeal to the Sixth Circuit Court
of Appeals.
The Company originally believed that the lawsuit was an attempt by plaintiffs to
regain the territory by forcing the Company to defend expensive litigation at
significant expense and that the plaintiffs' claims are without merit. The
Company now understands that ATAC solely seeks damages from the Company. The
Company still believes that ATAC's claims are meritless. The Company's
attorneys have indicated that they intend to vigorously defend The Company from
the claims made by ATAC and pursue any counterclaims.
In opinion of Management, the ultimate disposition of these matters will not
have a material adverse effect on the Company's consolidated results of
operations of financial position.
17
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders.
Not Applicable.
18
<PAGE>
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
The following table sets forth the high and low prices for the periods indicated
as reported by the National Daily Quotation Service, Inc. between dealers and do
not include retail mark-ups, mark-downs, or commissions and do not necessarily
represent actual transactions, as reported by the National Association of
Securities Dealers Composite Feed or other qualified inter-dealer quotation
medium. As of September 30, 1998, the closing bid price was $ .875 per share.
Low High
----- -----
1997 Fiscal Year:
First Quarter 2.000 3.375
Second Quarter 3.000 3.375
Third Quarter 3.000 3.875
Fourth Quarter 3.000 3.313
1998 Fiscal Year:
First Quarter 3.000 3.500
Second Quarter 3.000 4.250
Third Quarter 3.125 4.000
Fourth Quarter 2.000 3.563
The Common Stock is recorded on the NASD Bulletin Board with the symbol ATCH. As
of June 30, 1998, the number of record holders of the Company's Common Stock was
551.
Dividends
To date, the Company has not paid any dividends on its Common Stock. The payment
of dividends, if any, in the future is within the discretion of the Board of
Directors and will depend upon the Company's earnings, its capital requirements
and financial condition, and other relevant factors. The Company does not intend
to declare any dividends in the foreseeable future, but instead intends to
retain all earnings, if any, for use in the Company's business operations. No
dividends may be distributed with respect to the Common Stock so long as there
are accrued and unpaid dividends on the Series A Preferred Stock and Series C
Preferred Stock. The amount of accumulated and unpaid dividends on the Series A
Preferred Stock and Series C Preferred Stock was approximately $68,985 as of
June 30, 1998. On December 23, 1997, the Company completed a Private Placement
Offering of Series C 10% Cumulative Redeemable Preferred Stock and Common Stock
Purchase Warrants with gross proceeds of an aggregate amount of $990,000.
In conjunction with the acquisition of MIE, the former owners of MIE (Magee) and
the Company
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amended the terms of the Series B Preferred Stock and agreed that no
dividends would accumulate on such Preferred Stock after November 30, 1996. The
Company also agreed to pay Magee an amount equal to the accrued dividends on the
Series B Preferred Stock through November 30, 1996 (which was $390,417) was paid
in full on September 1998. In addition, the 490,000 outstanding shares of Series
B Preferred Stock are now allowed to be convertible at the auction of the holder
or the Company at any time, and the conversion rate was increased so that Magee
will receive 765,625 shares of Common Stock upon conversion for no additional
consideration. The Company has not determined when it will require conversion of
the Series B Preferred Stock into Common Stock.
Item 6. Management's Discussion and Analysis or Plan of Operation.
This Management's Discussion and Analysis of Financial Condition and Results of
Operations of the Company should be read in conjunction with the Financial
Statements and Notes thereto appearing elsewhere in this Registration Statement.
Safe Harbor Statement Under the Private Securities Litigation Reform Act of
1995.
Information set forth herein contains "forward-looking statements" which can be
identified by the use of forward-looking terminology such as "believes,"
"expects," "may," "should" or "anticipates" or the negative thereof or other
variations thereon or comparable terminology, or by discussions of strategy. No
assurance can be given that the future results covered by the forward-looking
statements will be achieved. The Company cautions readers that important factors
may affect the Company's actual results and could cause such results to differ
materially from forward-looking statements made by or on behalf of the Company.
Such factors include, but are not limited to, changing market conditions, the
impact of competitive products, pricing and acceptance of the Company's
products.
Overview
The Company's principal sources of revenues are from the operations of the
Company owned restaurants and the receipt of royalties from franchisees. The
Company's cost of sales includes food, supplies and occupancy costs (rent and
utilities at Company owned stores). Operating expenses include labor costs at
the Company owned stores and advertising, marketing and maintenance costs.
Franchise services and selling expenses include fees payable to regional
representatives and their expenses and the salary of the Company's Director of
Franchise Services. General and administrative expenses include costs incurred
for corporate support and administration, including the salaries and related
expenses of personnel at the Company's headquarters in Jacksonville, Florida
(except the Director of Franchise Services), the costs of operating the
headquarters offices (rent and utilities) and certain related costs (travel and
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<PAGE>
entertainment).
Results of Operations
The following discussion includes the following periods: (i) the fiscal year
ended June 30, 1998 ("Fiscal 1998") and (ii) the fiscal year ended June 30, 1997
("Fiscal 1997") and the fiscal year ended June 30, 1996 ("Fiscal 1996"). The
financial results of the Company have been audited as of the full fiscal years
ended June 30, 1998, June 30, 1997 and June 30, 1996. Fiscal 1997 reflects the
operation of MIE as of November 27, 1996 (the date of consummation of the
acquisition).
Fiscal 1998 and Fiscal 1997
The Company's reported total revenues of $22,986,762 for Fiscal Year 1998, ended
June 30, 1998, an increase of $5,211,103 or 29.3%, compared to Fiscal 1997. The
increase in sales include the operating results of the restaurants from the
Company's M.I.E. division for all of Fiscal Year 1998, compared to the 31 weeks
of operation for fiscal 1997.
The most significant increase from revenues came from net restaurant sales
(defined as gross restaurant sales less coupons, promotion cost and discounts)
which increased 25.9% or $4,156,236 to $20,202,927 compared to the same period
last year of $16,046,691. The increase was attributable to the net restaurant
sales generated by the M.I.E. division for a full 52 week period ended Fiscal
Year 1998, compared to the post acquisition 31 week period of operation for the
period ended Fiscal Year 1997.
Franchise and royalty income decreased 31.8% or $154,316 to $330,569 for Fiscal
Year 1998 primarily due to the acquisition of M.I.E. Hospitality, Inc., the
Company's former 32 restaurant franchisee and several other franchise locations.
Regional representative fees decreased in conjunction with the decline in
royalty revenue compared to the same period last year. Overall, comparable store
sales for restaurants operated a minimum of 12 months decreased by 6.6% in
Fiscal Year 1998 compared to Fiscal Year 1997.
Cost of sales from restaurant operations improved by 1.1% to 34.6% on net
restaurant sales for Fiscal Year 1998, as compared to 35.7% for the same period
last year. The Company's total costs and expenses increased 27.0% or $5,399,318
to $25,097,878 for Fiscal Year 1998, as compared to the same period last year.
Of the increase $4,945,806 or 91.6% of the increase was attributed to cost and
expenses incurred by the M.I.E. division from July 1 through November 26, 1997.
Additional costs incurred in Fiscal Year 1998 was a function of the acquisition
of three additional restaurants during the fiscal year.
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<PAGE>
The Company considers Earnings (Losses) Before Interest, Taxes, Depreciation and
Amortization, and non-recurring expenses ("EBITDA" or "EBITDA Losses") to be
another important indicator of operating performance. For Fiscal 1998, the
Company reported EBITDA Losses of ($895,760) as compared to EBITDA Losses of
($1,257,933) for the same period last year, an improvement of $362,173 or 28.8%.
This improvement was primarily the result of the net increases from restaurant
operations and the continued focus on cost controls.
Other non-recurring cost increased by $512,204 of which $419,417 was attributed
to the professional fees and due diligence expenses associated with the proposed
Seattle Crab Company and Miami Sub's Corporation acquisitions, which were
subsequently terminated.
Interest expense increased 18.1% or $29,557 to $192,687 for Fiscal Year 1998, as
compared to $163,130 for the same period last year. The increase in interest
expense was a function of increased debt financing for recent acquisitions, new
store construction and renovations.
Depreciation and amortization increased 67.6% or $490,388 to $1,215,356 for
Fiscal Year 1998, as compared to $724,968 for the same period last year. This
increase was primarily driven by acquisitions, new store construction and
renovations and a write-down of $110,000 in accordance with FASB 121.
The undeclared preferred stock dividends increased $51,387 in Fiscal Year 1998
primarily due to the issuance of Series C Preferred Shares in November 1997.
As a result of the foregoing, particularly the increase in depreciation and
amortization and non recurring cost, the Company's net loss (before preferred
dividends) increased 33.2% or $689,673 to $2,768,695 for Fiscal Year 1998, as
compared to a net loss (before preferred dividends) of $2,079,022 for the Fiscal
Year 1997.
Fiscal 1997 and Fiscal 1996
The Company's revenues increased 126% to $17,775,659 for Fiscal 1997 compared to
Fiscal 1996. This increase was primarily driven by the Company's acquisition of
MIE, an operator of 32 Arthur Treacher's Fish & Chips restaurants, which
generated revenue of approximately $8,400,000 and the purchase or assumption of
nine additional franchise restaurants. Comparable store sales for restaurants
operated a minimum of 12 months increased 1.13% in Fiscal 1997 compared to the
Fiscal 1996. The increase in revenues was also stimulated by new marketing
campaigns, new menu promotion items such as scallops, oysters and popcorn shrimp
and an aggressive approach to retain quality restaurant management.
The most significant increase from revenues came from restaurant sales, which
increased 155% to $16,934,481 in Fiscal 1997 compared to $6,648,564 in Fiscal
1996. Franchise and royalty
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<PAGE>
income decreased 44% to $484,885 in Fiscal 1997 primarily because of the
acquisition of 41 franchised restaurants.
The Company's total cost and expenses excluding depreciation and amortization
and interest increased 122% to $19,033,592 for Fiscal 1997 compared to Fiscal
1996. Approximately $544,000 of the increase resulted from settlements of
lawsuits, lease cancellations and start-up cost associated with the Seafood
Grille concept in the Detroit market. With the addition of 41 Company-owned
restaurants, including 32 purchased from MIE, total costs and expenses increased
compared to Fiscal 1996, although total cost as a percentage to sales declined
1.75% from Fiscal 1996.
Regional representative fees, which are included in operating expenses are based
on the number of representatives and the amount of royalty income from
franchisees in a representative's region. Such fees declined compared to Fiscal
1996 in conjunction with the purchase of 41 franchise restaurants. Each
representative acted as the Company's exclusive agent in a designated territory
to market and supervise individual franchisees and to sell franchise
opportunities. Each representative received 50% of the royalties received by the
Company under each franchise agreement and $9,000 of the $19,500 initial
franchise fee paid by each franchisee in such territory. The Company has two
remaining regional representatives but the development of the regional
representative program has been discontinued by the Company.
Cost of sales from restaurant operations, which excludes occupancy and
depreciation, declined by 3.2% in Fiscal 1997 compared to Fiscal 1996 primarily
due to an aggressive effort to increase the Company's purchasing efficiencies by
reducing contract prices with several major suppliers of fish, shrimp, chicken,
potatoes and cooking oil.
General and administrative expenses increased to $2,050,734 for Fiscal 1997
compared to $1,097,350 for Fiscal 1996 as a result of the settlements of
lawsuits, disputes regarding leases and fees related to a consulting agreement
with the former Chief Executive Officer which became effective on June 1, 1996.
These expenses totaled approximately $681,000 in Fiscal 1997, which included
approximately $137,000 to the former Chief Executive Officer.
Interest expense for Fiscal 1997 was $163,130 compared to $168,513 in Fiscal
1996. Although total outstanding debt increased, the decrease in interest
expense was a function of improved interest rates on new debt with respect to
recent acquisitions of restaurants.
Depreciation and amortization increased to $724,968 in Fiscal 1997 from $290,120
in Fiscal 1996. This increase was primarily caused by the increase in fixed
assets from the acquisition of restaurants.
On May 23, 1997 the Internal Revenue Service accepted the Company's proposal of
payment of $20,000 and the forfeiture of $1,180,064 of the Company's net
operating loss for the period prior
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<PAGE>
to 1992 and removed all restrictions relative to the use of the Company's
remaining net operating losses for the tax periods prior to 1992 and all
subsequent net operating losses. As a result of this agreement, the Company
determined it has additional deferred tax assets of $1,025,088 related to net
operating loss carry forwards. This entire amount was recorded during 1997 and
has been offset by an increase in the valuation allowance.
As a result of the foregoing, particularly the increase in general and
administrative expenses, the Company's net loss was $2,079,022 in Fiscal 1997
compared to a loss of $1,154,340 in Fiscal 1996.
Liquidity and Capital Resources
The Company has financed its operations principally from revenues derived from
Company owned restaurants, royalty income from franchisees, and private
placements of equity and debt. The Company has raised over $12 million in equity
since May 1996, of which $2 million of equity and debt has been raised since
December 1997.
Preferred Stock "Series C" December 1997 $ 990,000
Common Stock June 1998 $ 438,315
Private Placement of Promissory Notes and Warrants. September 1998 $ 600,000
----------
$2,028,315
The Company has been and will continue to engage in contract negotiations with
certain suppliers to reduce the Company's cost of goods sold and improve the
Company's liquidity.
The Company's current liabilities exceeded its current assets by $2,143,782 at
June 30, 1998 compared to $599,694 at June 30, 1997. The Company had cash and
short-term investments of $909,636 at June 30, 1998 compared to $867,847 at June
30, 1997. Particularly before the installation of new management and change in
control in June 1996, operating losses caused the Company to suffer liquidity
problems, which included the Company's inability to make certain lease and note
payments when due. The Company became in arrears with respect to certain leases
because of poor performance by stores in those locations. The Company had also
incurred indebtedness in connection with (i) the conversion of past due amounts
under certain leases to indebtedness and (ii) the repurchase of certain
franchises, but several of such restaurants were unable to generate sufficient
revenues to repay the indebtedness.
During Fiscal 1998, the Company experienced negative cash flow which has
adversely affected its liquidity. Such negative cash flow resulted primarily
from start-up expenses related to the introduction of the "Seafood Grille"
concept into the Detroit marketplace, legal and lease obligation settlements,
integration expenses related to the construction of new restaurants in the New
York City area, and the professional fees and due diligence expenses associated
with the proposed Seattle Crab Company and Miami Subs Corporation acquisitions,
which were
24
<PAGE>
subsequently terminated.
The management of the Company has reduced certain costs since the change of
control in June 1996 and continues to seek opportunities to reduce the Company's
operating costs. Since March 30, 1997, the management of the Company has reduced
its administrative staff and has reassigned various middle management positions
that the Company hopes to yield a cost savings of approximately $275,000
annually. Since June 30, 1996, the Company has changed suppliers and
distributors to further reduce costs.
The Company believes that its current cash resources, cash flow from operations,
cost savings (including equipment leasing opportunities and new supplier
relationships) will be sufficient to adequately fund its current working capital
needs through the fiscal year commencing July 1, 1998, although additional
financing may be required for all planned capital expenditures. In the event
that the Company needs additional working capital to finance its operations or
capital expenditures, the Company believes it could meet its needs through
either additional borrowings or the sale of additional equity, although there
can be no assurance that the Company would be successful in obtaining any such
financing, or on what terms such transactions could be effected.
Year 2000 Compliance
The Company has undertaken a comprehensive review of its computer-based systems
and applications to identify modifications necessitated by the century change in
the year 2000 and has implemented a plan to make such modifications. The Company
intends to have all critical systems compliant with the century change prior to
December 31, 1998. The Company is in the process of updating all accounting and
computer programs, which the Company does not expect the costs of compliance to
be material relative to its financial condition. The Company has made inquiries
with its suppliers in regards to year 2000 compliant. However the business of
the Company could be adversely affected should the Company or other entities
with whom the Company does business with be unsuccessful in completing
critical modifications in a timely manner.
Item 7. Financial Statements.
The financial statements are filed as part of this Annual Report on
Form 10-KSB.
Item 8. Changes in and Disagreements with Accountants. None
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PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons.
Name Age Position
- ----------------- --- --------
Bruce R. Galloway 40 Chairman of the Board and
Chief Executive Officer
Skuli Thorvaldsson 56 Vice Chairman of the Board
William F. Saculla 46 President, Chief Financial Officer,
Secretary, Director
Fred Knoll 43 Director
Heinz Schimmelbusch 54 Director
Dennis S. Bookshester 59 Director
Directors
Bruce R. Galloway. Mr. Galloway has been Chief Executive Officer since May 1998
and Chairman of the Board of Directors since May 1996. Mr. Galloway is currently
a managing director of Burnham Securities Inc., the placement agent in the
November Private Placement, an NASD Broker/Dealer and investment bank based in
New York. Prior to joining Burnham in 1993, Mr. Galloway was a senior vice
president at Oppenheimer & Company, an investment bank and NASD Broker/Dealer
based in New York, from 1991 through 1993. Mr. Galloway holds a B.A. degree in
Economics from Hobart College and an M.B.A. in Finance from New York
University's Stern Graduate School of Business.
Skuli Thorvaldsson. Mr. Thorvaldsson has been Vice Chairman of the Board of
Directors since May 1996. Mr. Thorvaldsson has been the Chief Executive Officer
of the Hotel Holt in Iceland since 1980. . Mr. Thorvaldsson has various
diversified interests in food court services, travel agency and pork processing.
He is also a master franchisee of Domino's Pizza in Scandinavia. Mr.
Thorvaldsson is a director of Allied Resources Corp. Mr. Thorvaldsson graduated
from the Commercial College of Iceland and the University of Barcelona. Mr.
Thorvaldsson received his Degree in Law from the University of Iceland.
William F. Saculla. Mr. Saculla has served as Secretary of the Company and Chief
Financial
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Officer since 1984. In May 1998, Mr. Saculla was named President and was also
nominated to the Board of Directors. Mr. Saculla earned a B.S. degree in
Accounting from Youngstown State University in 1978.
Fred Knoll. Mr. Knoll is a Director of the Company. Since 1987, he has been the
principal of Knoll Capital Management, L.P., a venture capital firm specializing
in the information technology industry. From 1989 until 1993, Mr. Knoll was
Chairman of the Board of Directors of Telos Corporation (formerly C3 Inc.), a
computer systems integration company with approximately $200 million in annual
sales. From 1985 to 1987, Mr. Knoll was an investment manager for General
American Investors, responsible for the technology portfolio, and served as the
United States representative on investments in leveraged buyouts and venture
capital for Murray Johnstone, Ltd. of Glasgow, Scotland. Mr. Knoll is the
Chairman of the Board of Thinkings Tools Inc. and is co-manager of Valor
International fund. Mr. Knoll holds a B.S. in Electrical Engineering and
Computer Science and a B.S. in Management from Massachusetts Institute of
Technology and an M.B.A. from Columbia University in Finance and International
Business.
Heinz C. Schimmelbusch. Mr. Schimmelbusch is a Director of the Company. He is
Chairman, President and Chief Executive Officer of Allied Resource Corporation
("Allied"), a company founded by Mr. Schimmelbusch in 1994 to develop companies
active in mining, advanced materials and recycling. Mr. Schimmelbusch is also
Chairman of Alanx Corporation, a producer of composite ceramics for wear
solutions; Chairman and Chief Executive Officer of Puralube, Inc., which is
commercializing an advanced process for re-refining used oil; and a Director of
Northfield Minerals Inc., a gold mining and exploration company listed on the
Toronto Stock Exchange. Mr. Schimmelbusch has been a Director of Safeguard
Scientific Corporation, a company whose shares are listed on the New York Stock
Exchange, since 1989. Prior to 1994, Mr. Schimmelbusch was Chairman of the
Management Board of Metallgesellschaft AG, Germany, a multinational company in
the process industries, and Chairman of the Supervisory Board of LURGI AG,
Germany's leading process engineering firm; of Buderus AG, a leading
manufacturer of commercial and residential health equipment; of Dynamit Nobel
AG, a leading manufacturer of explosives; and Norddeutsche Affinerie AG,
Europe's largest copper producer. Mr. Schimmelbusch also served on the Boards of
several leading German Corporations and institutions, including Allianz
Versicherungs AG, Munich; Philipp Holzmann AG, Frankfurt; Mobil Oil AG, Hamburg;
Teck Corporation, Vancouver; and others. Mr. Schimmelbusch has been the founder
and Chief Executive Officer of a number of public companies in process
industries, including: Inmet Corporation, Toronto, Canada (formerly Metall
Mining Corporation); Methanex Corporation, Vancouver, Canada; and B.U.S.
Umweltservice AG, Frankfurt, Germany. Mr. Schimmelbusch served as a Member of
the Presidency and Chairman of the Environmental Division of the German
Industrial Association (BDI) and represented Germany on the Executive Board of
the International Chamber of Commerce, Paris, where he held the office of Vice
President. Mr. Schimmelbusch received his graduate degree (with distinction) and
his doctorate (magna cum laude) in Economics from the University of Tubigen,
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Germany.
Dennis S. Bookshester Mr. Bookshester is a Director of the Company. Since 1991,
he has been a business consultant. In January 1997, he became President and
Chief Executive Officer of H20 Plus, LLP. From 1990 through 1991, he served as
President and Chief Executive Officer of Zale Corporation. From 1984 through
1989, he served as Vice Chairman of Carson Pirie Scott & Company and as Chairman
and Chief Executive Officer of its retail division. From 1983 through 1984, he
served as the President and Chief Executive Officer of the Department Stores
Division of Carson Pirie Scott & Company. From 1977 through 1983, he held
various executive positions with Associated Dry Goods Corporation, where he
served as President of its Caldor, Inc. subsidiary from 1982 through 1983, as
Chairman and Chief Executive Officer of Sibley, Lindsay and Curr Division from
1978 through 1982 and as President of such division from 1977 through 1978. From
1961 through 1977 he was with Federated Department Stores, Inc. where he became
Senior Vice President of Merchandising. Mr. Bookshester has been Chairman of the
Board of Cutonix Corp. since July 1997. Mr. Bookshester is a Director of Evans,
Playboy Enterprises Inc., Fruit of the Loom, Sundance Homes, and the University
of Chicago Council for the Graduate School of Business. Mr. Bookshester received
his B.S. degree from the University of Alabama in 1960.
Each Director is elected to serve until the Company's next annual meeting of
Shareholders and until his successor is duly elected and qualified. There are no
agreements with respect to the election of directors. Executive officers are
appointed annually by the Board of Directors and each executive officer serves
at the discretion of the Board of Directors.
Other Key Employees
Thomas K. Hoffman, Executive Vice President, Corporate Development. Mr. Hoffman
joined the Company when MIE was purchased in November of 1996. In his current
capacity he is responsible for purchasing, new product development, store
development and franchise relations. Prior to this he served as Vice President
of Operations for MIE from 1986 until 1996. He continued supervising the MIE
stores after the Company purchased the franchise until May 1998 when he was
promoted to his current position. He received a BA degree in Business Management
from Bloomsburg University in 1975.
Richard J. Gerner, Director of Operations. Mr. Gerner joined the Company in
August of 1998. Prior to this, he was Vice President of Operations for Public
Storage, Inc. In this capacity he supervised the operation of 80 storage
facilities. From 1990 to 1996 he was Regional Director of Operations for
Hardee's Food System, Inc. (Roy Rogers Division) were he supervised 99
restaurants divided among three concepts (Hardee's, Roy Rogers and Roy's Char
Grill).
Michael H. Cohen, Director of Marketing. Mr. Cohen joined the Company in July,
1998 as
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Director of Marketing. Prior to this, Mr. Cohen was an independent consultant in
marketing and training from 1990 focusing on restaurants, retail,
telecommunications, real estate, utility deregulation and facility management.
Mr. Cohen has experience with advertising agencies and corporate marketing
departments. In these capacities he has worked with McDonald's, Arby's, Long
John Silver's, General Mills, Village Inn, and KFC during the past twenty years.
Mr. Cohen received a B.A. degree in History and Political Science from Trinity
College, Hartford, Connecticut in 1978.
Robert J. Zelinski, Controller. Mr. Zelinski has served as Controller of the
Company since 1987. Mr. Zelinski is responsible for the Company's financial
reporting activities and internal controls . Mr Zelinski earned a B.S. degree in
Accounting from Youngstown State University in 1987 and was also a franchisee of
the Company from 1990 through 1993.
Committees
In December 1996, the Board of Directors formed the following committees:
Executive, Compensation and Audit. The Board of Directors elected William F.
Saculla, Bruce Galloway and Skuli Thorvaldsson to the Executive Committee. The
Compensation Committee of the Board of Directors was formed to review the
Company's executive compensation proposals, subject to the approval of the Board
of Directors. The Compensation Committee is composed of Dennis Bookshester,
Skuli Thorvaldsson and Bruce Galloway. The Audit Committee was formed to advise
the Board in matters relating to the audit of the Company's financial statements
and the Company's financial reporting systems. The Board elected Messrs. Bruce
Galloway, R. Skuli Thorvaldsson, William Saculla, Fred Knoll, and George Koo, an
independent advisor to the Company, as members of the Audit Committee.
In addition, the International Advisory Committee was formed to advise the Board
of Directors regarding international operations and expansion opportunities,
although without the power to obligate the Company. The Board selected Messers.
Gudmundur Jonsson, David Baron, Valdimar Thomasson, Evan Binn, Gisly Martinsson,
Lorie Karnath and Hans Rutkowski to the International Advisory Committee.
Item 10. Executive Compensation.
The following table provides certain summary information concerning the
compensation paid or accrued by the Company to or on behalf of its Chief
Executive Officer and the other named executive officers of the Company for
services rendered in all capacities to the Company and its subsidiaries for the
fiscal years ended June 30, 1998, 1997 and 1996.
29
<PAGE>
(a) Summary Compensation Table
<TABLE>
<CAPTION>
Long-Term Compensation
Annual Compensation Awards Payouts Payouts
--------------------- -------------- -------
Name and Other Annual Restricted Securities LTIP All Other
Principal Year Salary Bonus Compensation Stock Award(s) Underlying Payouts Compensation
Position Options/SARs
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Bruce 1998 $ 20,000.00 0.00 $0.00 0.00 10,000. $0.00 0
Galloway 1997 $ 00,000.00 0.00 $0.00 0.00 255,000. $0.00 0
Chairman, shares of
CEO Common Stock
1996 $ 00,000.00 0.00 $0.00 0.00 430,000 $0.00
shares of
Common Stock
William 1998 $ 78,000.00 0.00 $0.00 0.00 0.00 $0.00 0
F. 1997 $ 75,000.00 0.00 $0.00 0.00 0.00 $0.00 0
Saculla shares of
President, Common Stock
Treasurer
R. Frank 1998 $125,000.00 0.00 $0.00 0.00 0.00 $0.00 0
Brown 1997 $125,000.00 0.00 $0.00 0.00 20,000 $0.00 0
Former shares of
President, Common Stock
CEO, 1996 $ 10,025.00 0.00 $0.00 0.00 700,000 $0.00
Treasurer shares of
Common Stock
</TABLE>
30
<PAGE>
(b) Option/SAR Grants in Last Fiscal Year - None
(c) Aggregated Option/SAR Exercises in Last Fiscal Year and FY-End Option/SAR
Values
<TABLE>
<CAPTION>
Shares acquired on Number of Unexercised Value of unexercised
Name exercise Value Realized options/SARs at June 30, 1998 in-the-money options/SARs at
June 30, 1998
<S> <C> <C> <C> <C>
R. Frank Brown(1) 0 0 260,000 options $0.00 Exercisable,
250,000 Exercisable
10,000 Unexerciseable
Bruce Galloway 0 0 695,000 options $0.00 Exercisable
685,000 Exercisable
10,000 Unexerciseable
</TABLE>
(1) 25% of the options for 20,000 vest each year over a period of four years
commencing March 27, 1997 and are exercisable for five years after vesting.
20% of the options for 260,000 shares vest each year over a period of five
years commencing June 1, 1997 and are exercisable for five years after vesting.
(d) Long-Term Incentive Plans - Awards in Last Fiscal Year - None
Mr. R. Frank Brown had executed an employment agreement with the Company which
expired in July 1998. Pursuant to the employment agreement, the Company granted
Mr. Brown options to purchase an aggregate of 700,000 shares of Common Stock,
with an exercise price of $1.375 per share with respect to 350,000 shares and an
exercise price of $2.125 per share with respect to 350,000 shares. Mr. Brown's
is only entitled to exercise the 240,000 options which vested as of the
termination of his contract. In March 1997, Mr. Brown received options to
purchase 20,000 shares of Common Stock at a purchase price of $3.37 per share.
25% of these options vest each year over a period of four years commencing March
27, 1997. The Company also purchased
31
<PAGE>
$1,000,000 of key man life insurance on Mr. Brown, of which the Company is the
beneficiary. Ownership of the policy was assigned to Mr. Brown upon termination
of Mr. Brown's employment.
Item 11. Security Ownership of Certain Beneficial Owners and Management.
The following table sets forth information as of September 28, 1997 with respect
to officers, directors and persons who are known by the Company to be beneficial
owners of more than 5% of the Company's Common Stock. Except as otherwise
indicated, the Company believes that the beneficial owners of the Common Stock
listed below, based on information furnished by such owners, have sole
investment and voting power with respect to such shares, subject to community
property laws where applicable.
Shareholder Shares Percentage
Lifeyrissjodur Austurlands 1,225,375 8.2
Bruce R. Galloway(1) 1,113,214 7.5
NTS Financial Services Ltd. 849,041 5.9
Lifeyrissjodurinn Hlif 845,875 5.7
Fred Knoll (2) 822,916 5.5
Liferissjodur Vestmannaeyinga 813,125 5.5
Evan Binn and Ronna Binn(3) 794,292 5.3
Magee Industrial
Enterprises, Inc.(4) 765,725 5.1
AFC Enterprises, Inc.(5) 664,166 4.5
Skuli Thorvaldsson (6) 158,625 1.0
Heinz Schimmelbusch(7) 76,668 ---
Dennis Bookshester(8) 50,000 ---
William Saculla(9) 15,000 ---
Officers and Directors as a Group(10) 2,236,423 15.0%
Total Outstanding Shares 14,869,748
Notes
- -----
(1) Mr. Bruce R. Galloway is the Chairman of the Board of the Company.
Excludes (i) warrants to purchase 430,000 shares of Common Stock at a
purchase price of $1.51, which warrants are exercisable through May 31,
2001, (ii) warrants to purchase
32
<PAGE>
250,000 shares of Common Stock which are exercisable at an exercise
price of $3.30 per share through December 31, 2001 and (iii) warrants
to purchase 10,000 shares of Common Stock which are exercisable at an
exercise price of $3.37 per share through March 27, 2002. Does not
include warrants to purchase 10,000 shares of Common Stock at an
exercise price of $3.37 per share for five years, 5,000 of which vest
each year commencing March 27, 1999.
(2) Excludes warrants to purchase 10,000 shares of Common Stock at an
exercise price of $3.37, which warrants are exercisable through March
27, 2002 and warrants to purchase 10,000 shares of common stock at an
exercise price of $3.125 through April 30, 2003. Includes 156,250
shares of Common Stock owned by Europa International Inc. Knoll Capital
Management, Inc., is the investment manager for Europa. Mr. Knoll is
the sole shareholder of Knoll Capital Management Inc.
(3) Excludes warrants to purchase 50,000 shares of common stock owned by
Mr. And Mrs. Binn and are exercisable at a price of $1.51 per share
through May 31, 2001.
(4) Gives effect to the conversion of 490,000 shares of Series B Preferred
Stock into 765,625 shares of Common Stock for no additional
consideration
(5) Excludes warrants to purchase 112,500 shares of Common Stock owned by
Mr. Andrew Catapano, President of AFC Enterprises. Such warrants are
exercisable at a purchase price of $1.51 per share through May 31,
2001. Excludes warrants to purchase 12,500 shares of Common Stock at an
exercise price of $1.78 per share, which warrants are exercisable
through September 15, 2003.
(6) Excludes (i) warrants to purchase 250,000 shares of Common Stock at a
purchase price of $1.51, which warrants are exercisable through May 31,
2001, (ii) warrants to purchase 50,000 shares of Common Stock which are
exercisable through January 9, 1997 at an exercise price of $3.00 per
share (iii) warrants to purchase 10,000 shares of Common Stock which
are exercisable at an exercise price of $3.37 per share through March
27, 2002, and (iv) warrants to purchase 100,000 shares of common stock
at an exercise price of $1.78 per share, which warrants are
exerciseable through September 15, 2003. Does not include warrants to
purchase 10,000 shares of Common Stock at an exercise price of $3.37
per share for five years, 5,000 of which vest each year commencing
March 27, 1999.
(7) Mr. Heinz Schimmelbusch, a Director disclaims beneficial ownership of
133,334 shares of Common Stock held in trust for his children. Excludes
warrants to purchase 10,000 shares of Common Stock which are
exercisable through March 27, 2002 at an exercise price of $3.37 per
share and warrants to purchase 10,000 shares of common stock through
April 30, 2003 at $3.125 per share.
33
<PAGE>
(8) Excludes warrants to purchase 10,000 shares of Common Stock which are
exercisable through March 27, 2002 at an exercise price of $3.37 per
share and warrants to purchase 10,000 shares of common stock through
April 30, 2003 at $3.125 per share.
(9) Mr. William Saculla is the President, Treasurer, and Secretary of the
Company. Excludes options to purchase 3,000 shares of Common Stock at a
price of $2.65 per share through August 31, 2002. Does not include
options which have been granted but have not vested to purchase 12,000
shares of Common Stock at a price of $2.65 per share. 20% of such
options vest for a period of five years commencing September 1, 1999.
(10) Gives no effect to the issuance of any shares of Common Stock upon the
exercise of any outstanding options or warrants.
Item 12. Certain Relationships and Related Transactions.
On November 27, 1996 the Company purchased 100% of the common stock of its
largest franchisee, MIE Hospitality, Inc. (MIE), whose operations include 32
restaurants in the midwest and northeast United States. The purchase price was
$4,232,976 (calculated as $2,250,000 in cash, $1,139,563 in long-term debt
assumed and $843,413, which represents the rights to acquire 275,625 shares of
Company common stock for no consideration at a future date. The $1,139,563
principal amount of remaining debt owed by MIE to Magee is evidenced by a
promissory note (the "Magee Note") payable in 10 equal semiannual installments,
with the first payment being due on June 1, 1998 and the final payment being due
on December 1, 2002. The principal amount of the Magee Note bears interest at
the rate of eight percent (8%) per annum, and interest is payable every six
months commencing June 1, 1997. In the event of a closing of any financing by
the Company in excess of $10,000,000, provided that the debt or equity financing
which results in equaling or exceeding the aggregate gross proceeds of
$10,000,000 is a debt or equity financing for gross proceeds of a minimum of
$5,000,000 (other than any purchase money financing in connection with the
acquisition of any assets) or the sale of all or substantially all of the
capital stock of the Company or MIE, the balance of all outstanding principal
and interest under the Magee Note shall be immediately due and payable.
The 490,000 shares of Series B Preferred Stock of the Company owned by MIE were
transferred to Magee in connection with the Company's acquisition of MIE. The
Series B Preferred Stock is convertible into 765,625 shares of Common Stock of
the Company at the option of the Company commencing April 27, 1997. The Company
agreed to pay Magee an amount equal to the accrued dividend on the Series B
Preferred Stock of $390,417 through November 30, 1996, which was paid in full on
September 1, 1998. No dividends have accumulated on such Preferred Stock since
34
<PAGE>
November 30, 1996.
In connection with the November private placement of 3,163,911 shares of Common
Stock for gross proceeds of $5,631,761 in November and December 1996, Bruce
Galloway received $71,000 as selling commissions. Burnham, the placement agent
of the November Private Placement, had agreed to pay Mr. Galloway, the Chairman
of the Board of the Company and a Managing Director of Burnham, 20% of the cash
compensation payable to Burnham in consideration for his services rendered in
connection with the November Private Placement.
Effective January 10, 1997, the Company issued 250,000 warrants to Mr. Bruce
Galloway, 100,000 warrants to Mr. George Koo (an advisor to the Board) and
50,000 warrants to Mr. Skuli Thorvaldsson. The warrants are exercisable for a
term of five years at an exercise price of $3.00 per share. The warrants were
issued for services rendered in connection with the acquisition of MIE and
represented the reinstatement of 400,000 warrants previously issued to Mr.
Galloway (with an exercise price of $0.60 per share) which had expired in August
1995.
On September 15, 1998, Skuli Thorvaldsson, a Director of the Company,
participated in a private placement of the Company's secured 15% promissory
notes and common stock purchase warrants, which private placement generated
gross proceeds of $600,000. Mr. Thorvaldsson loaned the Company $400,000
pursuant to the terms of a promissory note. Interest accrues at the rate of 15%
per annum. Interest only shall be payable in equal semi-annual installments on
March 1, 1999 and September 1, 1999. Principal and interest shall be payable in
eight semi-annual installments commencing March 1, 2000 and on each subsequent
September 1 and March 1 thereafter, until September 1, 2003. The promissory
notes are secured by the assets of certain restaurants. In addition, Mr.
Thorvaldsson received warrants to purchase 100,000 shares of Common Stock at an
exercise price of $1.78 per share, which warrants are exercisable through
September 15, 2003.
Item 13. Exhibits and Report
(a) Exhibits
3.1.1 *Registrant's Certificate of Incorporation
3.1.2 *Agreement and Plan of Reorganization and First
Addendum dated December 5, 1983
3.1.3 *Certificate of Merger dated January 23, 1984
3.1.4 *Articles of Merger dated January 27, 1984
35
<PAGE>
3.1.5 *Articles of Amendment to Articles of Incorporation
dated January 27, 1984
3.1.6 *Amendment to Articles of Incorporation dated
January 27, 1986
3.1.7 *Articles of Amendment to Articles of Incorporation
dated June 28, 1996
3.2 *Registrant's Bylaws
4.1 *Form of Common Stock Certificate
4.2 *Certificate of Designation on Series A Preferred
Stock
4.3 *Certificate of Designation on Series B Preferred
Stock
4.4 *Certificate of Designation on Series C Preferred
Stock
10.1 *Purchase Agreement dated May 31, 1996 between James
Cataland and Registrant
Exhibits
--------
*Exhibit A - Option Agreement (See Exhibit
10.16)
*Exhibit B - Consulting Agreement (See
Exhibit 10.14
Schedules
**Schedule A - States of Incorporation and
Qualification
**Schedule B - Financial Statements
**Schedule C - Taxes
**Schedule D - Contracts
**Schedule E - Accounts Receivable
**Schedule F - Litigation
**Schedule G - Conflicting Interests
**Schedule H - Leases
**Schedule I - Franchises
**Schedule J - Trademarks
**Schedule K - Payroll Register
**Schedule L - Employment Contracts
**Schedule M - Insurance Policies
10.2 *Employment Agreement dated June 1, 1996 between
R. Frank Brown and Registrant
36
<PAGE>
10.3 *Purchase Agreement dated November 27, 1996, between
M.I.E. Hospitality and Registrant
Schedules
---------
**Schedule 1 Notice of Target Inter-
Company Debt
**Schedule 1(b) Seller's Distribution
Schedule (See Exhibit 10.17)
**Schedule B Qualifications as Foreign
Corporations in Delaware,
New Jersey, New York
**Schedule 2(a) Capital Stock
Representations,
Exceptions, etc.
**Schedule 2(b) Exceptions to GAAP and
Ordinary Course of Business
since September 30, 1996,
etc.
**Schedule 2(c) Disclosure of Liabilities of
M.I.E. Hospitality Not
Disclosed in Financial
Statements or Other
Schedules
**Schedule 2(d) Exceptions to Tax Returns,
Representations and
Warranties
**Schedule 2(e) List of assets owned or
leased, etc.
**Schedule 2(f) Exceptions to Usability and
Salability of Inventories
**Schedule 2(g) Contracts, Notices,
Defaults, etc.
**Schedule 2(g)(5) Insurance policies and bonds
**Schedule 2(g)(6) Banks
37
<PAGE>
**Schedule 2(g)(7) Interests in entities
having been party to
transaction with M.I.E.
in past 12 months
**Schedule 2(g)(8) Consents or approvals of
third parties
required
**Schedule 2(g)(9) Accounts receivable aging
schedule
**Schedule 2(i) Salary increases,
contracts with employees,
agents, etc., and M.I.E.
benefit plans; M.I.E.
payroll roster;
Collective Bargaining
Agreements
**Schedule 2(k) Legal Actions
**Schedule 2(l) Patents and trademarks,
licenses, etc.
**Schedule 2(m) List of Indemnification
Given for M.I.E.
Hospitality for Patent,
Trademark or Copyright
Infringement
**Schedule 2(o) Insurance Policies, see
Schedule 2(g)(5)
**Schedule 2(p) Outstanding Loans or
Advances or Obligations
to Make Loans or Advances
**Schedule 2(r) Environmental
**Schedule 3(b) Consents required for
performance by Buyer
**Schedule 3(d) Preferred Stock Rights
and Preferences
**Schedule 3(e) Buyer Financials
**Schedule 5 Consents and Release of
Guarantees
38
<PAGE>
Received by M.I.E.
Hospitality (Identified
Leases)
**Schedule 5(i) Consents to Lease, etc.,
not received
**Schedule 7(e) Actual Knowledge
(individuals)
**Schedule 12(i) Target Working Capital
Statement
Exhibits
--------
*Exhibit A M.I.E. Note (See Exhibit
10.8)
*Exhibit B Buyer Guaranty (See
Exhibit 10.4)
*Exhibit C Buyer Note (See Exhibit
10.7)
**Exhibit 2(b) Balance Sheets and
statements of Income as
of 12/31/95 and 9/30/96
**Exhibit D Form of Questionnaire
**Exhibit D-1 Responses to
Questionnaire
*Exhibit E Escrow Agreement (See
Exhibit 10.5)
*Exhibit F General Mutual Releases
(See Exhibit 10.6)
10.4 *Guaranty Surety Agreement dated November 27, 1996 by
Arthur Treacher's, Inc.
10.5 *Escrow Agreement dated November 27, 1996 among
Arthur Treacher's, Inc. Seller and Brown Brothers
Harriman & Co.
10.6 *Mutual Release Agreement dated November 27, 1996,
among M.I.E. Hospitality, Inc. and Magee Industrial
Enterprises, Inc.
10.7 *Promissory Note dated November 27, 1996 for $390,417
from M.I.E. Hospitality, Inc. in favor of Magee
Industrial Enterprises Inc.
10.8 *Promissory Note dated November 27, 1996 for
$1,139,563 from M.I.E.
39
<PAGE>
Hospitality, Inc in favor of Magee Industrial
Enterprises, Inc.
10.9 *Uniform Franchise Offering Circular as of January 1,
1997
10.10 *Form of Franchise Agreement as of January 1, 1997
10.11 *Form of Warrant exercisable at $1.51 per share
10.12 *Form of Warrant to Burnham Securities, Inc.
10.13 *Form of Stock Option to Employees
10.14 *Consulting Agreement dated May 31, 1996 between
James Cataland and Registrant
10.15 *Termination Agreement dated May 31, 1996 between
James Cataland and Registrant
10.16 *Option Agreement dated March 29, 1996 between James
Cataland and Skuli Thorvaldsson
10.17 *Schedule 1(b) to the Purchase Agreement dated
November 27, 1996 between M.I.E. Hospitality and
Registrant.
10.18 *Form of agreement with holders of Series A Preferred
Stock
11.1 *Statement of Computation of Per Share Earnings
21. *List of Subsidiaries
27. *Financial Data Schedules
* Previously Filed with Form 10-SB Declared Effective on August 12, 1997
** Not Included with previous filings.
*** Previously Filed with Form 10-QSB filed on November 13, 1997
40
<PAGE>
SIGNATURES
In accordance with the Securities Exchange Act of 1934, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
ARTHUR TREACHER'S, INC.
(Registrant)
Date: October 10, 1998 By /s/ Bruce Galloway
--------------------------------
Bruce Galloway
Chief Executive Officer
By /s/ William F. Saculla
--------------------------------
William F. Saculla
President, Chief Financial Officer
Name Title Date
---- ----- ----
/s/ Bruce Galloway Chief Executive Officer,
- ------------------------- Director, Chairman of the Board October 12, 1998
Bruce Galloway
/s/ William F. Saculla President, Treasurer, Chief October 12, 1998
- ------------------------- Financial Officer, Director
William F. Saculla
Director October 12, 1998
- -------------------------
Skuli Thorvaldsson
/s/ Fred Knoll Director October 12, 1998
- -------------------------
Fred Knoll
/s/ Heinz Schimmelusch Director October 12, 1998
- -------------------------
Heinz Schimmelusch
Director October 12, 1998
- -------------------------
Dennis Bookshester
41
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Financial Statements
June 30, 1998 and 1997
(With Independent Auditors' Report Thereon)
<PAGE>
ARTHUR TREACHER'S, INC.
Index to Consolidated Financial Statements
Page
----
Independent Auditors' Report of KPMG Peat Marwick LLP F-1
Consolidated Balance Sheets as of June 30, 1998 and 1997 F-2
Consolidated Statements of Operations for the years ended
June 30, 1998 and 1997 F-4
Consolidated Statements of Stockholders' Equity (Deficit) for the
years ended June 30, 1998 and 1997 F-5
Consolidated Statements of Cash Flows for the years ended
June 30, 1998 and 1997 F-6
Notes to Consolidated Financial Statements F-8
<PAGE>
Independent Auditors' Report
The Board of Directors
Arthur Treacher's, Inc.:
We have audited the accompanying consolidated balance sheets of Arthur
Treacher's, Inc. as of June 30, 1998 and June 30, 1997, and the related
consolidated statements of operations, stockholders' equity (deficit), and cash
flows for the years then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Arthur Treacher's,
Inc. as of June 30, 1998 and 1997, and the results of their operations and
their cash flows for the years then ended, in conformity with generally
accepted accounting principles.
KPMG PEAT MARWICK LLP
Jacksonville, Florida
September 4, 1998
F-1
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Balance Sheets
June 30, 1998 and 1997
<TABLE>
<CAPTION>
Assets 1998 1997
- ------ ---- ----
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 909,636 867,847
Accounts receivable, net of allowance of $19,893
in 1998 and $25,900 in 1997 90,618 137,598
Inventories 274,738 288,663
Prepaid expenses and other 173,509 181,544
------------- -------------
Total current assets 1,448,501 1,475,652
------------- -------------
Property and equipment, at cost (notes 2 and 4):
Land - 150,000
Buildings 156,300 306,300
Leasehold improvements 4,640,605 4,160,812
Furniture, fixtures, and equipment 3,450,160 3,166,180
------------- -------------
8,247,065 7,783,292
Less accumulated depreciation 3,173,746 2,112,778
------------- -------------
Property and equipment, net 5,073,319 5,670,514
Deposits 198,574 151,451
Goodwill, net of accumulated amortization of $25,851 450,689 317,016
in 1998 and $9,524 in 1997 (note 2)
Other 141,511 8,233
------------- -------------
Total assets $ 7,312,594 7,622,866
============= =============
</TABLE>
(Continued)
F-2
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Balance Sheets, continued
June 30, 1998 and 1997
<TABLE>
<CAPTION>
Liabilities and Stockholders' Equity (Deficit) 1998 1997
- ---------------------------------------------- ---- ----
<S> <C> <C>
Current liabilities:
Accounts payable $ 2,307,009 1,050,956
Accrued expenses and other liabilities (note 3) 501,545 654,527
Current maturities of long-term debt (note 4) 393,312 369,863
Dividend payable 390,417 -
------------- ------------
Total current liabilities 3,592,283 2,075,346
Long-term debt, net of current maturities (note 4) 1,398,805 1,570,305
Dividend payable - 390,417
Other liabilities 15,358 2,288
------------- -------------
Total liabilities 5,006,446 4,038,356
------------- -------------
Stockholders' equity (deficit) (note 9): Preferred stock 2,000,000 shares
authorized:
Series A convertible, par value $1; 12,800 shares issued and
outstanding, involuntary liquidation preference
of $1 per share plus accrued and unpaid dividends 12,800 87,200
Series B convertible, par value $1; 490,000 shares issued
and outstanding, involuntary liquidation preference
of $1 per share 490,000 490,000
Series C, par value $100; 9,900 shares issued
and outstanding, involuntary liquidation preference
of $100 per share plus accrued and unpaid dividends 852,705 -
Common stock $.01 par value; authorized 25,000,000 shares,
issued and outstanding 14,869,748 shares at June 30, 1998
and 14,399,248 shares at June 30, 1997 148,539 143,992
Additional paid-in capital 10,411,729 9,704,248
Accumulated deficit (9,609,625) (6,840,930)
------------- -------------
Total stockholders' equity (deficit) 2,306,148 3,584,510
Commitments and contingencies (notes 5 and 8)
------------- -------------
Total liabilities and stockholders' equity $ 7,312,594 7,622,866
============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Statements of Operations
June 30, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Revenues:
Restaurant sales $ 22,329,369 16,934,481
Franchise fees and royalties 330,569 484,885
Other revenues 326,824 356,293
------------- -------------
Total revenues 22,986,762 17,775,659
------------- -------------
Operating expenses:
Cost of sales, including occupancy except depreciation (note 5) 12,144,241 9,445,874
Operating expenses 9,747,656 7,536,984
Depreciation and amortization 1,215,356 724,968
General and administrative expenses (note 8) 1,990,625 2,050,734
------------- -------------
Total operating expenses 25,097,878 19,758,560
------------- -------------
Loss from operations (2,111,116) (1,982,901)
Other income (expenses):
Interest expense, net of interest income of $38,154 in 1998
and $57,851 in 1997 (154,533) (105,279)
Other, net (503,046) 9,158
------------- -------------
Net loss (2,768,695) (2,079,022)
Undeclared preferred stock dividends (60,107) (8,720)
------------- -------------
Net loss for common shareholders $ (2,828,802) (2,087,742)
============= =============
Basic loss per common share $ (.19) (.16)
============ ============
Diluted loss per common share $ (.19) (.16)
============ ============
Weighted average number of outstanding shares for basic and diluted 14,537,153 13,115,395
============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Statements of Stockholders' Equity (Deficit)
Years ended June 30, 1998 and 1997
<TABLE>
<CAPTION>
Additional
Preferred Common Paid in Accumulated Subscriptions
Stock Stock Capital Deficit Receivable Total
----- ----- ------- ------- ---------- -----
<S> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1996 $ 577,800 111,186 3,731,347 (4,371,491) (377,976) (329,134)
Subscription received, net - - 3,711 - 377,976 381,687
Preferred stock redeemed (600) - - - - (600)
Common stock issued - 32,519 5,657,325 - - 5,689,844
Stock issued for restaurant
purchases - 287 88,464 - - 88,751
Common stock conversion rights
issued for MIE acquisition
(note 2) - - 843,413 - - 843,413
Stock issuance costs - - (770,980) - - (770,980)
Warrants issued for services - - 150,968 - - 150,968
Preferred stock dividend declared - - - (390,417) - (390,417)
Net loss - - - (2,079,022) - (2,079,022)
----------- ----------- ----------- ----------- ----------- -------------
Balance at June 30, 1997 577,200 143,992 9,704,248 (6,840,930) - 3,584,510
Common stock issued - 2,690 571,553 - - 574,243
Stock issued for restaurant purchases - 341 99,659 - - 100,000
Preferred stock issued 990,000 - - - - 990,000
Preferred stock issuance costs - - (234,310) - - (234,310)
Warrants issued attached
to preferred stock (137,295) - 137,295 - - -
Preferred stock converted to common (74,400) 1,116 73,284 - - -
Stock issued for exercised warrants - 400 60,000 - - 60,400
Net loss - - - (2,768,695) - (2,768,695)
----------- ----------- ----------- ----------- ----------- -------------
Balance at June 30, 1998 $ 1,355,505 148,539 10,411,729 (9,609,625) - 2,306,148
=========== =========== =========== =========== =========== =============
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Statements of Cash Flows
June 30, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Operating activities:
Net loss $ (2,768,695) (2,079,022)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 1,215,356 724,968
Loss on disposition of restaurants 36,641 27,061
Changes in assets and liabilities:
(Increase) decrease in accounts receivable 46,980 (6,818)
Increase in deposits and other assets (155,401) (67,174)
(Increase) decrease in prepaid expenses and other
current assets 8,035 (116,475)
(Increase) decrease in inventories 13,925 (42,317)
(Decrease) increase in accounts payable 1,256,053 (69,078)
Decrease in accrued expenses, other
liabilities and dividends payable (139,912) (86,961)
------------- -------------
Net cash used in operating activities (487,018) (1,715,816)
------------- -------------
Investing activities:
Purchase acquisitions of restaurants (62,500) (1,842,681)
Capital expenditures (809,577) (1,076,240)
Proceeds from disposition of restaurants 246,102 19,500
------------- -------------
Net cash used in investing activities (625,975) (2,899,421)
------------- -------------
Financing activities:
Proceeds from the issuance of common stock 634,643 5,689,844
Proceeds from the issuance of preferred stock 990,000 -
Cash received from common stock subscribed - 381,687
Preferred stock issuance costs (234,310) (620,012)
Proceeds from long-term debt 177,216 226,738
Principal payments on long-term debt (412,767) (1,185,856)
------------- -------------
Net cash provided by financing activities 1,154,782 4,492,401
------------- -------------
Net increase (decrease) in cash and cash equivalents 41,789 (122,836)
Cash and cash equivalents beginning of year 867,847 990,683
------------- -------------
Cash and cash equivalents end of year $ 909,636 867,847
============= =============
</TABLE>
(Continued)
F-6
<PAGE>
ARTHUR TREACHER'S, INC.
Consolidated Statements of Cash Flows (continued)
June 30, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Supplemental disclosure of cash flow information:
Cash paid for interest $ 187,906 159,539
============= =============
Supplemental disclosure of noncash transactions:
Long-term debt assumed in restaurant purchases $ 87,500 1,401,661
============= =============
Common stock issued for restaurant purchases $ 100,000 88,751
============= =============
Common stock conversion rights issued for restaurant purchases $ - 843,413
============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
June 30, 1998 and 1997
(1) Summary of Significant Accounting Policies
(a) Description of the Business
Arthur Treacher's Inc. (the "Company") owns, operates and
franchises quick service seafood restaurants under the names
"Arthur Treacher's Fish & Chips" and "Arthur Treacher's Seafood
Grille." At June 30, 1998, the Company owned and operated 62
restaurants and franchised, an additional 48 restaurants, located
in 10 states and Canada, with the greatest concentrations in the
northeast and midwest regions of the United States.
(b) Principles of Consolidation
The consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries, Arthur Treacher's
Management Company and Arthur Treacher's Advertising Company. All
material intercompany transactions have been eliminated in
consolidation. Certain 1997 amounts have been reclassified to
conform to presentation adopted during 1998.
(c) Cash and Cash Equivalents
The Company considers all highly liquid investments with an
original maturity of ninety days or less to be cash equivalents.
(d) Inventories
The Company values its inventories at the lower of cost
(first-in, first-out method) or market.
(e) Property and Equipment
Property and equipment are recorded at cost less accumulated
depreciation. Depreciation is provided on a straight-line basis
over the estimated useful lives of the respective assets, which
ranges from 3 to 10 years.
F-8
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(1) Summary of Significant Accounting Policies, continued
(f) Recoverability of Long-Lived Assets
The Company follows the provisions of SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets
to be Disposed Of." This Statement requires that long-lived
assets and certain identifiable intangibles be reviewed for
impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash
flows expected to be generated by the asset. If such assets are
considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets
exceed the fair value of the assets. During 1998, the Company
recognized an impairment loss of approximately $110,000, which is
included in depreciation and amortization on the accompanying
consolidated statement of operations, related to the assets at
two store locations.
(g) Income Taxes
The Company utilizes the asset and liability method of accounting
for income taxes. Under this method, deferred tax assets and
liabilities are recognized for the future tax consequences
attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their
respective tax bases. In addition, the method requires the
recognition of future tax benefits, such as net operating loss
and business tax credit carryforwards, to the extent that
realization of such benefits is more likely than not. Deferred
tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes the
enactment date.
(h) Franchise Operations
Franchise royalties, which are based upon a percentage of
franchise restaurants' sales, are recognized as income on the
accrual basis. Initial franchise fees are typically included in
revenues when substantially all services and conditions relating
to the sale of the franchise have been performed or satisfied,
which occurs when the franchised restaurant commences operations.
Initial franchise fees for area franchise agreements are
recognized as income on a pro rata basis as the restaurants are
opened.
F-9
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(1) Summary of Significant Accounting Policies, continued
(i) Pre-Opening Costs
Costs associated with opening new restaurants are expensed during
the period incurred.
(j) Per share data
The Company adopted the provisions of Statement of Financial
Accounting Standards (SFAS) No. 128, "Earnings per share," during
fiscal 1998. This statement governs the computation,
presentation, and disclosure requirements of earnings per share
(EPS) for entities with publicly held common stock. The Company
has calculated EPS in accordance with SFAS No. 128 and all
periods presented have been restated.
Net income per share of common stock is computed based upon the
weighted average number of common shares and share equivalents
outstanding during the year. When dilutive, stock options and
warrants, and preferred stock are included as share equivalents.
None of these equity instruments are included in the 1998 and
1997 calculations since the Company experienced losses.
(k) Estimates
The preparation of financial statements in accordance with
generally accepted accounting principles requires the Company's
management to make estimates and assumptions that affect the
reported amounts of assets and liabilities, and disclosure of
contingent assets and liabilities, at the date of the financial
statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from
those estimates.
(l) Stock Options and Warrants
The Company follows the provisions of SFAS No. 123, "Accounting
for Stock-Based Compensation," in accounting for its options and
warrants, which permits entities to recognize as expense over the
vesting period the fair value of all stock-based awards on the
date of grant. Alternatively, SFAS No. 123 also allows entities
to continue to apply the provisions of APB Opinion No. 25
"Accounting for Stock Issued to Employees," and provide pro forma
net income and pro forma earnings per share disclosures for
employee stock option grants made in 1996 and future years as if
the fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to continue to apply the
provisions of APB Opinion 25 and provide the pro forma disclosure
provisions of SFAS No. 123.
F-10
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(1) Summary of Significant Accounting Policies, continued
(m) Goodwill
Goodwill, which has been recorded as a result of purchased
acquisitions, is amortized over the period estimated to benefit
from the acquired assets and rights, which is twenty years.
(2) Acquisitions
On June 4, 1998, the Company paid $250,000 in cash, stock, and assumed
liabilities, for one store location. The transaction was accounted for
as a purchase and its results of operations have been included in the
consolidated statement of operations from the date of acquisition
forward. As a result of this acquisition, goodwill of $150,000 has been
recorded. This transaction was not significant to the Company's
operations during 1998.
On November 27, 1996 the Company purchased 100% of the common stock of
its largest franchisee, MIE Hospitality, Inc. (MIE), whose operations
include 32 restaurants in the midwest and northeast United States. The
transaction has been accounted for as a purchase and the results of
operations have been included in the accompanying consolidated financial
statements from the date of acquisition forward. The purchase price of
$4,232,976 (calculated as $2,250,000 in cash, $1,139,563 in long-term
debt assumed and $843,413, which represents the rights to acquire
275,625 shares of Company common stock for no consideration at a future
date (note 9)) has been allocated to the tangible net assets of MIE and
the remaining $326,540 recorded as goodwill. In addition, $736,877 of
deferred tax liabilities of MIE were offset by the Company's deferred
tax assets, resulting in a decrease in the deferred tax valuation
allowance.
The following unaudited pro forma financial information presents the
combined results of operations of the Company and MIE as if the
acquisition had occurred as of the July 1, 1996. The pro forma financial
information does not necessarily reflect the results of operations that
would have occurred had the Company and MIE constituted a single entity
during such period. Pro forma total revenues was $23.7 million, pro
forma net loss was $1.72 million, and pro forma net loss per share was
$.13.
F-11
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(2) Acquisitions, continued
Also during 1997, the Company acquired eight restaurants in six
different transactions all accounted for as purchases. The purchase
price, which totaled approximately $250,000, was satisfied by cash,
common stock, or assumed liabilities. The entire purchase price was
allocated to the tangible assets of the acquired entities. The results
of operations of each entity was included in the consolidated financial
statements from the date of acquisition. None of the acquisitions were
significant to the operations of the Company during 1997.
(3) Accrued Expenses and Other Liabilities
Accrued liabilities consisted of the following at June 30, 1998 and
1997:
1998 1997
---- ----
Accrued professional fees $ 80,000 142,500
Accrued taxes 267,827 328,093
Other 153,718 183,934
------------- -------------
Total accrued liabilities $ 501,545 654,527
============= =============
(4) Long-Term Debt
Long-term debt consisted of the following at June 30, 1998 and 1996:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Notes payable:
Note payable due in semi-annual principal installments
of $113,956, plus interest at 8%, beginning
June 1, 1998 maturing December 2002, unsecured $ 1,025,607 1,139,563
</TABLE>
F-12
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(4) Long-Term Debt, continued
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Notes payable to banks, due in monthly installments totaling
$8,041, including interest at rates ranging from 8% to 18%,
maturing through June 2005, secured by property and equipment $ 317,994 98,424
Various notes payable related to the acquisition of franchised
restaurants, due in monthly installments of principal and
interest at rates ranging from 8% to 14%, maturing at dates
through 2007, secured by property and equipment 448,516 601,031
Note payable due in monthly installments of $13,741, including
interest at 10%, paid in full April 1998,
secured by property and equipment - 101,150
------------- --------------
1,792,117 1,940,168
Less current maturities 393,312 369,863
------------- --------------
Total long-term debt $ 1,398,805 1,570,305
============= ==============
</TABLE>
Principal maturities of long-term debt for the next five years and
thereafter at June 30, 1998 are as follows:
Year ending June 30, Amount
1999 $ 393,312
2000 392,910
2001 352,865
2002 353,795
2003 191,669
Thereafter 107,566
------------
Total $ 1,792,117
============
The Company considers the carrying value of its long-term debt to be a
reasonable estimation of its fair value based on the current market
rates available to the Company for debt of the same remaining
maturities.
F-13
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(5) Leases
The Company is the lessee under various long-term operating leases for
the land and buildings in which its owned and franchised restaurants
operate. The leases generally range between five and twenty years and
usually provide for renewal options.
The majority of the leases require the Company to be billed for taxes,
insurance, utilities, and maintenance costs of the leased property.
Certain of the leases require additional (contingent) rental payments if
sales volumes at the related restaurants exceed specified limits.
Base rent expense for Company owned restaurants, net of sublease income
of $12,000 and $9,000 in 1998 and 1997, respectively, was approximately
$2,396,000 and $1,691,000, for the years ended June 30, 1998 and 1997,
respectively.
The following summarizes future minimum lease payments, for Company
owned restaurants, required for leases that have initial or remaining
noncancelable terms in excess of one year as of June 30, 1998:
Year ending June 30, Amount
1999 $ 2,585,439
2000 2,451,071
2001 2,332,255
2002 1,874,819
2003 1,427,631
Thereafter 3,203,773
------------
Total $ 13,874,988
============
The Company also conditionally guarantees the payment of certain lease
obligations of its franchisees. The amount of this conditional guarantee
is approximately $156,000 in 1999, $132,000 in 2000, $105,000 in 2001
and 2002, and $15,000 in 2003.
F-14
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(6) Income Taxes
Income tax benefit attributable to income from continuing operations for
the years ended June 30, 1998 and 1997, differed from the amounts
computed by applying the U.S. Federal income tax rate of 34% to income
before taxes as follows:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Computed "expected" tax benefit $ (941,356) (729,988)
Increase (decrease) in income taxes resulting from:
Non-deductible meals and entertainment 17,000 11,973
Goodwill amortization 5,551 3,238
Change in valuation allowance 818,341 742,596
Other, net (100,464) (27,819)
------------- -------------
$ - -
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and liabilities as of June 30, 1998 and
1997 are as follows:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforward $ 2,809,098 2,022,284
Allowance for doubtful accounts 6,764 8,806
Other 5,222 -
------------- ------------
Total gross deferred tax assets 2,821,084 2,031,090
Less valuation allowance 2,211,235 1,392,894
------------- -------------
Net deferred tax assets 609,849 638,196
------------- -------------
Deferred tax liabilities - property and equipment 609,849 638,196
------------- -------------
Net deferred tax assets $ - -
============= ============
</TABLE>
F-15
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(6) Income Taxes, continued
At June 30, 1998, the Company had approximately $8.2 million of net
operating loss carryforwards available for use, which expire through
2013. In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or all of
the deferred tax assets will not be realized. The ultimate realization
of deferred tax assets is dependent upon the generation of future
taxable income during the periods in which those temporary differences
become deductible. Management considers the schedule of reversal of
deferred tax assets, projected future taxable income, and tax planning
strategies in making the assessment.
During 1997, the Company reached an agreement with the Internal Revenue
Service regarding the amount of net operating loss carryforwards
available for future use. As a result of this agreement, the Company
determined it had additional deferred tax assets of $1,025,088 relating
to net operating loss carryforwards. This entire amount was recorded
during 1997 and has been offset by an increase in the valuation
allowance.
(7) Stock Options and Stock Warrants
During 1998 and 1997, the Company has granted 55,000 and 316,500
nonqualified stock options, respectively, to certain key employees and
directors to purchase shares of the Company's common stock at a price
equal to or in excess of the market price of the stock, vesting over a
five year period. These options were granted as compensation and the
number of options granted was determined based on specific individual
circumstances. The shares issuable under these option grants are
nonregistered shares and the Company has no requirement to register such
shares. The Company does not have a formal stock option plan.
The per share weighted-average fair value of stock options granted was
calculated using the Black Scholes option-pricing model with the
following weighted-average assumptions: 1998 - no expected dividend
yield, risk-free interest rate of 5.6% weighted average expected
volatility of 22% and an expected life of 5 years; 1997 - no expected
dividend yield, risk-free interest rate of 6.4% weighted average
expected volatility of 8.6% and an expected life of 5 years. In
addition, for 1998 and 1997 the Company has discounted the market price
of the stock, on the date of option grant, by 35% in consideration of
the restrictions on the sale of the underlying shares. The fair value on
the date of grant for options granted with exercise prices in excess of
the market price of the stock was $0.26 and $0.02 for 1998 and 1997,
respectively. No options were granted with exercise prices equal to the
market price of the stock in 1997.
F-16
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(7) Stock Option Plan and Stock Warrants, continued
The Company applies APB Opinion No. 25 in accounting for option grants
and, accordingly, no compensation cost has been recognized for its stock
options in the consolidated financial statements. Had the Company
determined compensation cost based on the fair value at the grant date
for its stock options under SFAS No. 123, the Company's net loss would
not have been materially impacted for the effects of such calculation in
either 1998 or 1997.
In addition, during 1998 and 1997 the Company granted 30,000 warrants
and 721,391 warrants, respectively, (valued at $8,203 and $150,968,
respectively) to purchase shares of Company common stock to
non-employees in return for services provided in connection with the
Company's equity offerings. These warrants have been recorded at fair
value using substantially the same criteria as discussed above for the
stock options.
In connection with an equity offering, the Company also issued 148,500
warrants to purchase shares of Company common stock as described in note
9.
Stock option and warrant activity during the period indicated is as
follows:
<TABLE>
<CAPTION>
Weighted-
Number of Average
Shares Exercise Price
<S> <C> <C>
Balance at June 30, 1996 2,630,000 $ 1.57
Granted:
Exercise price equal to market price of stock 405,000 3.00
Exercise price in excess of market price of stock 632,891 3.14
Exercised - -
Canceled (652,500) 1.61
------------- -----------
Balance at June 30, 1997 3,015,391 1.96
Granted - exercise price in excess of market price of stock 233,500 3.13
Exercised (40,000) 1.51
Canceled (45,000) 2.73
------------- -----------
Balance at June 30, 1998 3,163,891 $ 2.13
============= ========
</TABLE>
F-17
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(7) Stock Option Plan and Stock Warrants, continued
The following table presents information regarding all options and
warrants outstanding at June 30, 1998.
<TABLE>
<CAPTION>
Weighted
Number of Average Weighted
Warrants and Remaining Range of Average
Options Contractual Exercise Exercise
Outstanding Life Prices Price
------------- -------------- ----------------- -----------
<S> <C> <C> <C>
1,645,000 4.0 years $ 1.38 - 1.51 $ 1.48
1,058,500 4.1 years 2.13 - 3.13 2.72
460,391 3.7 years 3.30 - 3.37 3.09
------------- -------------- ----------------- -----------
3,163,891 3.9 years $ 1.38 - 3.37 $ 2.13
============= ============== ================= ===========
</TABLE>
The following table presents information regarding options and warrants
currently exercisable at June 30, 1998.
<TABLE>
<CAPTION>
Number of Weighted
Warrants and Range of Average
Options Exercise Exercise
Exercisable Prices Price
------------- ------------------ ---------
<S> <C> <C>
1,435,000 $ 1.38 - 1.51 $ 1.50
573,000 2.13 - 3.13 2.77
345,191 3.30 - 3.37 3.31
------------- ------------------ ---------
2,353,191 $ 1.38 - 3.37 $ 2.07
============= ================== =========
</TABLE>
F-18
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(8) Commitments and Contingencies
Included in general and administrative expenses in the accompanying
consolidated statement of operations is approximately $544,000 for the
year ending June 30, 1997 related to the settlement of lawsuits, lease
cancellations and other items. The Company is a defendant in one lawsuit
with a former development franchisee alleging wrongful contract
termination, among other things. The plaintiff is seeking damages in
excess of $10 million, however the Company believes the claim is without
merit, has counter sued and is defending the claim vigorously. The case
is presently in the U.S. District Court. The Company is involved in
various other claims and legal actions arising in the ordinary course of
business. In the opinion of management, the ultimate disposition of
these matters will not have a material adverse effect on the Company's
consolidated results of operations or financial position.
The Company has entered into an agreement with its former President and
Chief Executive Officer to provide consulting services to the Company at
a rate of $100,000 per year, commencing June 1, 1996 and expiring in
June 1998.
(9) Stockholders' Equity
In November and December 1997, the Company consummated a private
placement to investors with respect to equity units consisting of shares
of its Series C Preferred Stock, with warrants to purchase shares of
common stock attached, for aggregate proceeds of $990,000. On November
25, 1997 the Company sold 8,100 shares of Series C Preferred Stock, with
warrants to purchase 121,500 shares of common stock attached. On
December 23, 1997, the Company sold 1,800 shares of Series C Preferred
Stock, with warrants to purchase 27,000 shares of common stock attached.
The Company allocated $137,295 of the proceeds to the value of the
warrants and $852,705 to the value of the preferred stock. The preferred
stock is not convertible, but may be redeemed at the option of the
Company at a redemption price of $100 per share plus accrued and unpaid
dividends, at any time after October 31, 1999. The holders of the
preferred stock are entitled to a cumulative dividend of 10 percent per
annum, payable semi-annually, if and when the Board declares a dividend.
At June 30, 1998, the Company had accumulated and unpaid dividends of
approximately $56,000 on this series of preferred stock. The warrants
entitle the holder to purchase one share of common stock at an exercise
price of $3.125 per share of common stock. The Company is utilizing the
proceeds for working capital needs.
F-19
<PAGE>
ARTHUR TREACHER'S, INC.
Notes to Consolidated Financial Statements
(9) Stockholders' Equity, continued
The holders of the Series A Preferred Stock are entitled to a cumulative
dividend of $0.10 per share per annum. Such dividends accrue annually
but are payable if and when the Company declares a dividend. The Company
has not paid any dividends with respect to the Series A Preferred Stock.
The 87,200 outstanding shares of Series A Preferred Stock are
convertible into 96,889 shares of Common Stock for no additional
consideration at the option of the holder of the stock. The Series A
Preferred Stock is entitled to a liquidation preference of $1.00 per
share, plus any accrued and unpaid dividends. The Series A Preferred
Stock may be redeemed by the Company at a redemption price of $1.00 per
share plus all accrued and unpaid dividends. The amount of accumulated
and unpaid dividends was approximately $15,360 as of June 30, 1998. On
November 14, 1997, the certain holders of the Series A Preferred Stock
were issued 111,600 shares of common stock in exchange for 74,400
shares, plus accrued and unpaid interest of the outstanding shares of
the Series A Preferred Stock.
In conjunction with the acquisition of MIE (see note 2), the former
owners of MIE (Magee) and the Company amended the terms of the Series B
Preferred Stock and agreed that no dividends would accumulate on such
Preferred Stock after November 30, 1996. The Company also agreed to pay
Magee an amount equal to the accrued dividend on the Series B Preferred
Stock through November 30, 1996 (which was $390,417) in full on
September 1, 1998. In addition, the 490,000 outstanding shares of Series
B Preferred Stock are now allowed to be convertible at the option of the
holder or the Company at any time, and the conversion rate was increased
so that Magee will receive 765,625 shares of Common Stock upon
conversion (an increase of 275,625 shares, valued at $843,413 and
included as part of the purchase price of MIE) for no additional
consideration. The Company has not determined when it will require
conversion of the Series B Preferred Stock into Common Stock.
In addition, as described in note 2, the Company issued approximately
34,100 and 28,700 shares of its common stock during 1998 and 1997,
respectively, as part of acquiring restaurants.
F-20
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1000
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