<PAGE> 1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
For Quarter Ended August 2, 1998 Commission file number 0-11514
-------------------- ----------
Max & Erma's Restaurants, Inc.
----------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware No. 31-1041397
------------------------- -----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4849 Evanswood Drive, Columbus, Ohio 43229
--------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (614) 431-5800
--------------------------
Indicate by checkmark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months, and (2) has been subject to the filing
requirements for at least the past 90 days.
YES____X____ NO_________
As of the close of the period covered by this report, the registrant had
outstanding 4,264,932 common shares.
1
<PAGE> 2
PART I - FINANCIAL INFORMATION/ITEM 1 - FINANCIAL STATEMENTS
MAX & ERMA'S RESTAURANTS, INC. - BALANCE SHEETS (UNAUDITED)
<TABLE>
<CAPTION>
ASSETS
------
August 2, October 26,
1998 1997
----------- -----------
<S> <C> <C>
Current Assets:
Cash $ 1,011,916 $ 1,149,482
Inventories 853,785 738,124
Other Current Assets 1,587,424 1,449,833
----------- -----------
Total Current Assets 3,453,125 3,337,439
Property - At Cost: 69,167,100 79,222,149
Less Accumulated Depreciation and Amortization 23,372,114 21,138,547
----------- -----------
Property - Net 45,794,986 58,083,602
Other Assets 3,034,577 2,534,918
----------- -----------
Total $52,282,688 $63,955,959
=========== ===========
</TABLE>
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
<TABLE>
<CAPTION>
<S> <C> <C>
Current Liabilities:
Current Maturities of Long-Term Obligations $ 1,400,287 $ 1,460,128
Accounts Payable 2,276,656 2,874,559
Accrued Liabilities 3,928,044 3,272,603
----------- -----------
Total Current Liabilities 7,604,987 7,607,290
Long-Term Obligations - Less Current Maturities 22,276,040 36,358,966
Minority Interests in Affiliated Partnerships 20,225
Stockholders' Equity:
Preferred Stock - $.10 Par Value;
Authorized 500,000 Shares - none outstanding
Common Stock - $.10 Par Value;
Authorized 10,000,000 Shares,
Issued and Outstanding 4,264,932 Shares
at 8/2/98 and 4,231,113 Shares at 10/26/97 426,493 423,111
Additional Capital 11,513,428 11,268,830
Retained Earnings 10,461,740 8,277,537
----------- -----------
Total Stockholders' Equity 22,401,661 19,969,478
----------- -----------
Total $52,282,688 $63,955,959
=========== ===========
</TABLE>
(See notes to financial statements)
2
<PAGE> 3
MAX & ERMA'S RESTAURANTS, INC.
STATEMENTS OF INCOME (UNAUDITED)
<TABLE>
<CAPTION>
Twelve Weeks Ended Forty Weeks Ended
------------------ -----------------
August 2, August 3, August 2, August 3,
1998 1997 1998 1997
------------ ------------ ----------- -----------
<S> <C> <C> <C> <C>
REVENUES: $ 23,692,064 $ 22,252,057 $76,865,083 $69,860,993
COSTS AND EXPENSES:
Costs of Goods Sold 6,211,248 6,091,006 20,335,209 18,899,945
Payroll and Benefits 7,451,070 6,902,708 23,875,514 21,670,092
Other Operating Expenses 7,034,887 6,428,451 22,835,834 20,338,614
Administrative Expenses 1,555,846 1,273,814 5,127,770 4,291,329
------------ ------------ ----------- -----------
Total Operating Expenses 22,253,051 20,695,979 72,174,327 65,199,980
------------ ------------ ----------- -----------
Operating Income 1,439,013 1,556,078 4,690,756 4,661,013
Interest Expense 361,732 663,165 1,508,816 2,104,077
Minority Interest in Income (Loss)
of Affiliated Partnerships (4,634) (5,415) 37,737 74,263
------------ ------------ ----------- -----------
INCOME BEFORE INCOME TAXES 1,081,915 898,328 3,144,203 2,482,673
INCOME TAXES 323,000 270,000 960,000 750,000
------------ ------------ ----------- -----------
NET INCOME $ 758,915 $ 628,328 $ 2,184,203 $ 1,732,673
============ ============ =========== ===========
BASIC NET INCOME
PER COMMON SHARE $ 0.18 $ 0.15 $ 0.51 $ 0.42
============ ============ =========== ===========
DILUTED NET INCOME
PER COMMON SHARE $ 0.18 $ 0.15 $ 0.51 $ 0.41
============ ============ =========== ===========
BASIC SHARES OUTSTANDING 4,264,932 4,160,157 4,256,337 4,163,689
============ ============ =========== ===========
DILUTED SHARES OUTSTANDING 4,304,176 4,196,069 4,270,914 4,201,332
============ ============ =========== ===========
</TABLE>
(See notes to financial statements)
3
<PAGE> 4
MAX & ERMA'S RESTAURANTS, INC.
STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
Forty Weeks Ended
-----------------
August 2, August 3,
1998 1997
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,184,203 $ 1,732,673
Depreciation and amortization 4,506,394 4,459,154
Minority interest in income of Affiliated Partnerships 37,737 74,263
Changes in other assets and liabilities (190,166) 408,884
------------ ------------
Net cash provided by operating activities 6,538,168 6,674,974
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Property additions (7,831,301) (7,246,810)
Decrease (increase) in other assets (56,865) (974)
Proceeds from sale of assets 16,994,532 1,250
------------ ------------
Net cash provided (used) by investing activities 9,106,366 (7,246,534)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments under long-term obligations (42,582,318) (38,922,413)
Proceeds from long-term obligations 26,806,500 40,426,313
Proceeds from sale of common stock 89,976 73,770
Cash paid for purchase of common stock (664,924)
Distributions to minority interests in Affiliated Partnerships (96,258) (77,006)
------------ ------------
Net cash provided (used) by financing activities (15,782,100) 835,740
------------ ------------
NET INCREASE (DECREASE) IN CASH & EQUIVALENTS (137,566) 264,180
CASH & EQUIVALENTS BEGINNING OF PERIOD 1,149,482 927,261
------------ ------------
CASH & EQUIVALENTS AT END OF PERIOD $ 1,011,916 $ 1,191,441
============ ============
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for:
Interest $ 1,490,654 $ 1,956,263
Income taxes $ 1,244,869 $ 800,151
Non-cash activities:
Property additions financed by capital leases $ 920,862
Property additions financed by accounts payable $ 412,674 $ 2,253,218
Deferred gain from sale of assets $ 1,508,709
</TABLE>
(See notes to financial statements)
4
<PAGE> 5
MAX & ERMA'S RESTAURANTS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. Presentation
------------
The accompanying unaudited condensed financial statements have been
prepared in accordance with the instructions to Form 10-Q and include
all of the information and disclosures required by generally accepted
accounting principles for interim reporting, which are less than those
required for annual reporting. In the opinion of management, all
adjustments, consisting of only normal recurring accruals, considered
necessary for a fair presentation have been included.
The Company's fiscal year consists of one sixteen-week and three
twelve-week quarters.
2. Basic and Diluted Earnings Per Share
------------------------------------
The Company adopted Financial Accounting Standard No. 128 (FAS 128)
"Earnings Per Share" in the first quarter of fiscal 1998 which required
retroactive adoption. FAS 128 requires the calculation of earnings per
share (EPS) under two methods, basic and diluted. Basic EPS is
calculated as income available to common shareholders divided by the
weighted-average common shares outstanding. Diluted EPS is based on the
weighted average shares outstanding and stock options outstanding. The
effect of the convertible securities is anti-dilutive.
3. Property Sale-Leaseback
-----------------------
On December 31, 1997 the Company entered into a sale-leaseback
transaction with regard to the land, buildings, fixtures and
improvements at eight restaurant sites. As a result of the sale, the
Company received approximately $17,000,000 in net proceeds, which were
used to substantially pay off borrowings under the Company's revolving
line of credit. The Company leases back the restaurant sites under
operating leases over a twenty year period at a base annual rent of
approximately $1,583,000 (plus taxes and insurance). The transaction
resulted in a deferred gain of approximately $1,509,000 which will be
accreted to income over the twenty year lease term.
5
<PAGE> 6
Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
REVENUES
Revenues for the third quarter of 1998 increased $1,440,000 or 6.5%
from the third quarter of 1997. The increase was a result of i) the opening of
one Max & Erma's restaurant during the fourth quarter of 1997, ii) the opening
of three Max & Erma's restaurants during the first quarter of 1998, and iii) the
opening of the first Ironwood Cafe during the second quarter of 1998.
Year-to-date revenues rose $7,004,000 or 10% from 1997 to 1998. The
increase was a result of i) the opening of five Max & Erma's restaurants during
1997, ii) the opening of three Max & Erma's and one Ironwood Cafe during 1998,
and iii) the receipt of franchise fees and royalty payments in 1998 totaling
$148,000.
The increases in revenues discussed above were offset by a decline in
same-store sales of 3.2% and .6% for the quarter and year-to-date periods,
respectively. The declines were a result of a planned strategy to reduce the
frequency and dollar amount of couponing and discounting. The declines occurred
primarily during the third quarter when the Company has historically discounted
through the use of direct mail coupons. In 1998 the Company elected to forego
this marketing program due to i) the high costs of production and distribution,
ii) adverse effects of heavy discounting on labor costs, and iii) a general
belief that the Company should discount less and shift marketing dollars to
programs designed to build traffic and long-term customer loyalty. In that
regard, the Company's marketing strategy going forward will be to employ mass
media in selected markets, including radio and direct mail, with a
brand-building, not discounting, message. The Company is also targeting
community involvement opportunities in the neighborhoods and cities surrounding
its locations to create alliances and "word of mouth" advertising regarding its
commitment to the community. Management believes the potential gains in customer
loyalty should outweigh the short-term loss of customers motivated solely by
discounts and, on a longer term basis, will reflect positively in same-store
sales.
Management recognizes the importance of positive same-store sales but
also believes the change in marketing philosophy will create a profitable
same-store sales trend. Management believes the same-store sales declines were
not profitable sales. For the third quarter the 3.2% decline in same-store
sales equaled approximately $624,000. During the same period, marketing
expenditures, primarily the direct mail coupon program, were reduced
approximately $450,000 compared to the third quarter of 1997. When cost of goods
sold is factored in, the discount coupon program broke even in prior quarters,
with no contribution towards other variable operating expenses such as labor,
benefits, utilities, kitchen supplies, percentage rents and other expenses.
6
<PAGE> 7
COSTS AND EXPENSES
Cost of goods sold, as a percentage of revenues, decreased from 27.3%
for the third quarter of 1997 to 26.2% for the third quarter of 1998. The
decrease was a result of unusually high beef and ground beef prices during the
third quarter of 1997 and menu changes made at the start of 1998 which removed
certain higher cost and higher waste menu items. Year-to-date cost of goods
sold, as a percentage of revenues, declined from 27.1% during 1997 to 26.5%
during 1998. The decline was a result of the factors discussed above. A sharp
increase in produce prices during the second quarter of 1998 somewhat offset
the effect of the Company's cost reduction efforts on a year-to-date basis.
Payroll and benefits, as a percentage of revenues, increased from 31.0%
for the third quarter of 1997 to 31.4% for the third quarter of 1998.
Year-to-date payroll and benefits, as a percentage of revenues, remained steady
at 31.0% for both 1997 and 1998. Generally, the removal of more labor intensive
menu items and the reduction of labor associated with discounted meals have been
offset by the continual upward pressure on wage rates and increases in the
minimum wage.
Other operating expenses, as a percentage of revenues, increased from
28.9% for the third quarter of 1997 to 29.7% for the third quarter of 1998. The
increase was primarily a result of the sale-leaseback transaction which occurred
during the first quarter of 1998, which increased rent $346,000 and reduced
depreciation $88,000 during the quarter. This resulted in a net increase in
other operating expenses of $258,000 or 1.1% of revenues. The increase was
offset by the lower, but more cost-effective, marketing expenditures previously
discussed. Year-to-date other operating expenses, as a percentage of revenues,
increased from 29.1% for 1997 to 29.7% for 1998 for reasons similar to the
quarterly increase. All other expenses remained essentially even with last year
for both the quarter and year-to-date periods.
ADMINISTRATIVE EXPENSES
Administrative expenses, as a percentage of revenue, increased from
5.7% for the third quarter of 1997 to 6.6% for the third quarter of 1998. For
the year-to-date period administrative expenses increased from 6.1% of revenues
in 1997 to 6.7% of revenues in 1998. In dollar terms, the increases were 22% and
20% for the quarter and year-to-date periods, respectively. The increases were,
in part, a result of overhead related to the Ironwood Cafe concept. Most of the
remaining increases were a result of raises for corporate employees and
additional employees needed to support the increased number of restaurants,
franchising and a planned accelerated growth rate. During 1998 the Company added
two additional real estate representatives, a director of franchising, a
corporate recruiter, an assistant food and beverage director, a staff accountant
and an additional point of sales support person.
Management believes the addition of these personnel is necessary to
achieve the Company's growth plans in 1999 and beyond and to properly support
the Company's existing
7
<PAGE> 8
restaurants. Management anticipates that administrative expenses, as a
percentage of revenues, may remain slightly above comparable expenses last year
for the next two to three quarters until revenue growth accelerates, and then
should begin to decline again.
INTEREST EXPENSE
Interest expense decreased 45% from the third quarter of 1997 to the
third quarter of 1998. Year-to-date interest expense decreased 28% from 1997 to
1998. The decreases were a result of the sale-leaseback transaction previously
discussed. The Company received net proceeds of approximately $17.0 million from
the transaction. The net proceeds were used to reduce borrowings under the
Company's revolving credit line, resulting in an annual interest savings of
$1,530,000. The Company expects a similar decline in interest expense during the
fourth quarter of 1998. The Company capitalized $143,000 of construction period
interest during the first 40 weeks of 1998 as compared to $158,000 during the
comparable 1997 period.
INCOME TAXES
The Company's effective tax rate rose slightly from 30.2% for the 40
weeks of 1997 to 30.5% for the comparable 1998 period. The increase was due to
the fact that certain tax credits available to the Company are unrelated to
pre-tax income and as pre-tax income rises the credits have a lesser effect on
the Company's effective tax rate.
LIQUIDITY AND CAPITAL RESOURCES
The Company's working capital ratio increased from .4 to 1 at October
26, 1997 to .5 to 1 at August 2, 1998. Historically, the Company has been able
to operate with a working capital deficiency because 1) restaurant operations
are primarily conducted on a cash basis, 2) high turnover (about once every 10
days) permits a limited investment in inventory, and 3) trade payables for food
purchases usually become due after receipt of cash from the related sales.
During the first 40 weeks of 1998, the Company expended approximately
$7,831,000 for property additions and $42,582,000 to reduce long-term
obligations. Funds for such expenditures were provided primarily by $26,807,000
from proceeds of long-term obligations, $16,995,000 of net proceeds from the
sale-leaseback of assets, $6,538,000 from operations and $138,000 from cash on
hand. The Company routinely draws down and repays balances under its revolving
credit agreement, the gross amounts of which are included in the above numbers.
At August 2, 1998, two Max & Erma's restaurants were under
construction. One in Warrenville, Illinois, a suburb of Chicago, subsequently
opened August 31,1998. The second, in Lexington, Kentucky, will also open during
the fourth quarter of 1998. In conjunction with the opening of that restaurant,
the Company has elected not to renew the lease for its original
8
<PAGE> 9
Lexington location. The Company will close that restaurant during the fourth
quarter due to its proximity to the new restaurant and marginal profitability.
The loss on closing did not have a material effect.
The Company expects to open eight Max & Erma's restaurants during 1999.
Purchase contracts or ground leases have been executed for sites in Middleburg
Heights, Ohio, a suburb of Cleveland, and Monroeville and Peters Township,
Pennsylvania, suburbs of Pittsburgh. The Company is negotiating for nine
additional sites, primarily in existing markets, which would complete 1998's
growth plan and a portion of 1999's.
The addition of company-owned Max & Erma's restaurants could be
supplemented by the opening of franchised locations by late 1998. The Company
has promoted a veteran regional manager to the position of Director of
Franchising. Although no additional franchise agreements have been signed, the
Company expects to be actively marketing franchises by early 1999.
The Company also expects to open five Ironwood Cafes during 1999. At
August 2, 1998 two leases have been signed for locations in Mentor, Ohio, a
suburb of Cleveland and Gahanna, Ohio, a Columbus suburb. Additional leases are
being negotiated in Cincinnati and Dayton, Ohio; Detroit, Michigan, and
Pittsburgh, Pennsylvania. The Company plans on completing 1999's development
plan and then will evaluate the future development potential of the Ironwood
Cafe concept.
The Company anticipates that funding for new restaurants will be
provided primarily by cash flow from operations, real estate and equipment
leasing and the Company's revolving credit line. At August 2, 1998, the Company
had a commitment for an additional $10.0 million of sale-leaseback financing,
had approximately $10.2 million available under its $12.0 million revolving
credit line and approximately $1.3 million available under equipment lease
commitments.
YEAR 2000
The Company has reviewed its computer systems and software with respect
to the Year 2000 issue. The Company has identified three critical areas:
register systems, network and accounting software and payroll processing.
Register systems currently being installed are Year 2000 compliant. Older
register systems function and accumulate data without regards to date and
therefore Year 2000 is not an issue. The Company's main accounting software is
supplied by an outside vendor and has been upgraded to be Year 2000 compliant in
the course of normal system upgrades. Certain database and spreadsheet software
may need to be upgraded during fiscal 1999 at an expected cost not to exceed
$50,000 which would be expensed as incurred. During 1998 the Company expended
approximately $25,000 for computer equipment used exclusively to process
payroll. The related software was provided by the Company's outside payroll
service and has been represented to be Year 2000 compliant.
9
<PAGE> 10
The Company presently has one major outside food products supplier to
its restaurants. It has inquired of that supplier as to its Year 2000 compliance
efforts and been assured that all operational areas are Year 2000 compliant.
Failure of that supplier to deliver food products to the Company's restaurants
could lead to a cessation of operations. While the Company has no contingency
plan regarding replacement of that vendor, it believes it could be replaced and
operations resumed within a 30 day period.
SAFE HARBOR STATEMENT UNDER THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This Form 10-Q contains forward-looking statements within the meaning
of Section 21E of the Securities Exchange Act of 1934, as amended, and Section
27A of the Securities Act of 1933, as amended. These forward-looking statements
include statements in Item 2, Management's Discussion and Analysis of Financial
Condition and Results of Operations, regarding anticipated future revenues,
franchising, the opening of additional Max & Erma's restaurants (paragraph 15),
franchising (paragraph 16), the opening of additional Ironwood Cafe restaurants
(paragraph 17), and same-store sales (paragraphs 3 and 4), future administrative
expenses (paragraph 9), future sources of capital for new restaurants
(paragraph 18), and Year 2000 preparedness and contingency plans (paragraph
19). The words "plan," "anticipate," "believe," "expect," "estimate," and
"project" and similar words and expressions identify forward-looking statements
which speak only as of the date hereof. Investors are cautioned that such
statements involve risks and uncertainties that could cause actual results to
differ materially from historical or anticipated results due to many factors,
including, but not limited to, the Company's ability to open or franchise new
restaurants as planned, changes in competition in markets where the Company
operates restaurants, the level of market acceptance of the Company's new
restaurant concept (Ironwood Cafe), the Company's ability to control
administrative expenses, changes in interest rates, changes in cash flows from
operations, the availability of real estate leases, and other risks,
uncertainties and factors described in the Company's most recent Annual Report
on Form 10-K and other filings from time to time with the Securities and
Exchange Commission. The Company undertakes no obligation to publicly update or
revise any forward-looking statements.
Item 5 - OTHER INFORMATION
Any shareholder proposal submitted outside the processes of Rule 14a-8
under the Securities Exchange Act of 1934, as amended, for presentation to the
Company's 1999 Annual Meeting of Shareholders will be considered ultimately
filed for purposes of Rule 14a-4 and 14a-5 if notice thereof is received by the
Company after January 5, 1999.
Item 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The exhibits listed in the accompanying index to exhibits on page 11
are filed as part of this report.
(b) Reports on Form 8-K
None
10
<PAGE> 11
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MAX & ERMA'S RESTAURANTS, INC.
------------------------------
Registrant
Todd B. Barnum
------------------------------
Todd. B. Barnum
Chairman of the Board
(Chief Executive Officer)
William C. Niegsch, Jr.
------------------------------
William C. Niegsch, Jr.
Executive Vice President &
Chief Financial Officer
September 10, 1998
- --------------------
Date
11
<PAGE> 12
MAX & ERMA'S RESTAURANTS INC.
EXHIBIT INDEX
Exhibit No. Exhibit Page No.
- ----------- ------- --------
2 Not applicable
3 Not applicable
4 Not applicable
11 Not applicable
15 Not applicable
18 Not applicable
19 Not applicable
22 Not applicable
23 Not applicable
24 Not applicable
27 Financial Data Schedule
12
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> OCT-26-1997
<PERIOD-START> OCT-27-1998
<PERIOD-END> AUG-02-1998
<EXCHANGE-RATE> 1
<CASH> 1,011,916
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 853,785
<CURRENT-ASSETS> 3,453,125
<PP&E> 69,167,100
<DEPRECIATION> 23,372,114
<TOTAL-ASSETS> 52,282,688
<CURRENT-LIABILITIES> 7,604,987
<BONDS> 22,276,040
0
0
<COMMON> 426,493
<OTHER-SE> 21,975,168
<TOTAL-LIABILITY-AND-EQUITY> 52,282,688
<SALES> 0
<TOTAL-REVENUES> 76,865,083
<CGS> 20,335,209
<TOTAL-COSTS> 67,046,557
<OTHER-EXPENSES> 5,127,770
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,508,816
<INCOME-PRETAX> 3,144,203
<INCOME-TAX> 960,000
<INCOME-CONTINUING> 2,184,203
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,184,203
<EPS-PRIMARY> .51
<EPS-DILUTED> .51
</TABLE>
