SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------
FORM 10-Q
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended June 29, 1997
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the transition period from ______ to ________
--------------------
COMMISSION FILE NUMBER 0-17980
--------------------
RALLY'S HAMBURGERS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 62-1210077
(State or other jurisdiction of (IRS Employer ID Number)
incorporation or organization)
10002 Shelbyville Road, Suite 150, Louisville, Kentucky 40223
Registrant's telephone number, including area code: 502/245-8900
Indicate by check mark whether 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 (or 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 X No
Indicate the number of shares outstanding of each of the issuer's classes
of common stock as of the latest practicable date.
CLASS - Common stock, Par value $.10 per share
OUTSTANDING AT AUGUST 1, 1997 - 20,567,547 shares
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RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
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INDEX
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PART I. Financial Information PAGE NO.
ITEM 1. Consolidated Financial Statements
Consolidated Balance Sheets as of December 29, 1996 and June 29, 1997 (Unaudited) 2
Consolidated Statements of Operations (Unaudited) for the Quarter and Six Months Ended 3
June 30, 1996 and June 29, 1997
Consolidated Statements of Cash Flows (Unaudited) for the Six Months Ended 4
June 30, 1996 and June 29, 1997
Notes to Consolidated Financial Statements (Unaudited) 5
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12
PART II. Other Information
ITEM 1. Legal Proceedings 18
ITEM 6. Exhibits and Reports on Form 8-K 18
SIGNATURES 19
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PART I. FINANCIAL INFORMATION
ITEM 1. Consolidated Financial Statements
<TABLE>
RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 29, 1996 AND JUNE 29, 1997
(In thousands, except shares and per share amounts)
<S> <C> <C>
(UNAUDITED)
DECEMBER 29, JUNE 29,
1996 1997
---------------- -----------------
ASSETS
Current assets:
Cash and cash equivalents $ 2,285 $ 4,390
Restricted cash 1,649 1,413
Investments 1,958 1,495
Royalties receivable, net of reserve for doubtful accounts of $1,405 and $939
at December 29, 1996 and June 29, 1997, respectively 437 1,046
Accounts and other receivables, including $565 and $821 from related parties at
December 29, 1996 and June 29, 1997, respectively, net of reserve for doubtful accounts
of $301 and $282 at December 29, 1996 and June 29, 1997, respectively 1,698 1,446
Inventory, at lower of cost or market 794 827
Prepaid expenses and other current assets 999 1,027
Assets held for sale 596 244
---------------- -----------------
Total current assets 10,416 11,888
Assets held for sale 1,426 1,076
Property and equipment, at historical cost, less accumulated depreciation of $39,188 and
$41,990 at December 29, 1996 and June 29, 1997, respectively 69,806 69,894
Notes receivable, including $127 and $112 from related parties at December 29, 1996 and
June 29, 1997, respectively, net of reserve for doubtful accounts of $853 and $659 at
December 29, 1996 and June 29, 1997, respectively 773 873
Goodwill, less accumulated amortization of $2,243 and $2,528 at December 29, 1996 and
June 29, 1997, respectively 10,482 10,197
Reacquired franchise and territory rights, less accumulated amortization of $1,984 and
$2,434 at December 29, 1996 and June 29, 1997, respectively 11,439 11,032
Other intangibles, less accumulated amortization of $2,459 and $2,696 at December 29,
1996 and June 29, 1997, respectively 4,769 4,532
Other assets, less accumulated amortization of $1,101 and $1,252 at December 29, 1996 and
June 29, 1997, respectively 3,147 2,780
---------------- -----------------
Total assets $ 112,258 $ 112,272
================ =================
LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities:
Accounts payable $ 4,884 $ 5,999
Accrued interest and other accrued liabilities 13,600 14,347
Current maturities of long-term debt and obligations under capital leases 1,484 1,226
---------------- -----------------
Total current liabilities 19,968 21,572
Senior notes, net of discount of $429 and $377 at December 29, 1996 and June 29, 1997,
respectively 57,897 57,949
Long-term debt, less current maturities 4,775 4,383
Obligations under capital leases, less current maturities 5,408 5,055
Other liabilities 4,845 4,260
---------------- -----------------
Total liabilities 92,893 93,219
---------------- -----------------
Commitments and contingencies (Note 5)
Shareholders' equity:
Preferred stock, $.10 par value, 5,000,000 shares authorized, no shares issued -- --
Common stock, $.10 par value, 50,000,000 shares authorized, 20,788,000 and 20,836,000 shares
issued at December 29, 1996 and June 29, 1997, respectively 2,079 2,084
Additional paid-in capital 71,023 71,566
Less: Treasury shares, 273,000 at December 29, 1996 and June 29, 1997 (2,108) (2,108)
Retained deficit (51,629) (52,489)
---------------- -----------------
Total shareholders' equity 19,365 19,053
---------------- -----------------
Total liabilities and shareholders' equity $ 112,258 $ 112,272
================ =================
The accompanying notes to consolidated financial statements
are an integral part of these consolidated financial statements.
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2
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<TABLE>
RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands except per share amounts)
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THREE MONTHS ENDED SIX MONTHS ENDED
----------------------------------- -----------------------------------
JUNE 30, JUNE 29, JUNE 30, JUNE 29,
1996 1997 1996 1997
-------------- ---------------- ---------------- ---------------
REVENUES:
Restaurant sales $ 45,771 $ 36,561 $ 86,279 $ 67,811
Franchise revenues and fees 1,586 1,346 2,990 2,481
Owner fee income -- 183 -- 393
---------------- ---------------- ---------------
-------------- ---------------- ---------------
Total revenues 47,357 38,090 89,269 70,685
-------------- ---------------- ---------------- ---------------
COSTS AND EXPENSES:
Restaurant cost of sales 16,064 12,072 30,865 22,008
Restaurant operating expenses, exclusive of
depreciation and amortization and advertising
and promotion expenses shown separately below 19,532 15,064 39,084 28,831
General and administrative expenses 4,645 3,205 9,305 7,157
Advertising and promotion expenses 2,067 2,909 4,915 4,263
Depreciation and amortization 2,614 2,236 5,302 4,524
Owner expense -- 279 -- 579
Provision for restaurant closures and other charges 22 519 754 502
-------------- ---------------- ---------------- ---------------
Total costs and expenses 44,944 36,284 90,225 67,864
-------------- ---------------- ---------------- ---------------
Income (loss) from operations 2,413 1,806 (956) 2,821
-------------- ---------------- ---------------- ---------------
OTHER INCOME (EXPENSE):
Interest expense (2,146) (1,854) (4,459) (3,734)
Interest income 34 264 379 367
Other (4) 26 (33) (14)
-------------- ---------------- ---------------- ---------------
Total other (expense) (2,116) (1,564) (4,113) (3,381)
-------------- ---------------- ---------------- ---------------
Income (loss) before income taxes and extraordinary 297 242 (5,069) (560)
items
PROVISION (BENEFIT) FOR INCOME TAXES 186 150 (1,496) 300
-------------- ---------------- ---------------- ---------------
Income (loss) before extraordinary items 111 92 (3,573) (860)
EXTRAORDINARY ITEM (net of tax expense of $1,817) -- -- 4,522 --
-------------- ---------------- ---------------- ---------------
Net income (loss) $ 111 $ 92 $ 949 $ (860)
============== ================ ================ ===============
Earnings (loss) per common share:
Income (loss) before extraordinary item $ .01 $ -- $ (.23) $ (.04)
Extraordinary item -- -- .29 --
-------------- ---------------- ---------------- ---------------
Earnings (loss) per common share $ .01 $ -- $ .06 $ (.04)
============== ================ ================ ===============
Weighted average shares outstanding 15,934 20,552 15,802 20,545
============== ================ ================ ===============
The accompanying notes to consolidated financial statements
are an integral part of these consolidated financial statements
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3
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RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (NOTE 4)
(Unaudited)
(In thousands)
<S> <C> <C>
SIX MONTHS ENDED
JUNE 30, JUNE 29,
1996 1997
------------ -----------
CASH FLOWS PROVIDED FROM (USED IN) OPERATING ACTIVITIES:
Net income (loss) $ 949 $ (860)
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:
Depreciation and amortization 5,302 5,142
Provision for restaurant closures and other charges 754 (125)
Provision (benefit) for losses (gains) on receivables 372 (350)
Extraordinary items, before tax expense of $1,817 (6,339) --
Amortization of compensatory stock options and warrants -- 484
Other 706 29
Changes in assets and liabilities, net of effects from business combinations:
(Increase) decrease in assets:
Receivables (234) (935)
Inventory 108 (30)
Prepaid expenses and other current assets 63 (57)
Other assets -- 221
Increase (decrease) in liabilities:
Accounts payable, accrued interest and other accrued liabilities (1,605) 1,251
Accrued income taxes (22) (59)
Other liabilities (494) (557)
------------ -----------
Net cash provided by (used in) operating activities (440) 4,154
------------ -----------
CASH FLOWS PROVIDED FROM (USED IN) INVESTING ACTIVITIES:
Decrease in investments 4,926 463
Notes receivable 318 98
Pre-opening costs (32) (108)
Capital expenditures (718) (2,709)
Proceeds from the sale of property and equipment and assets held for sale 3,712 783
Increase in other assets (280) --
------------ -----------
Net cash provided by (used in) investing activities 7,926 (1,473)
------------ -----------
CASH FLOWS PROVIDED FROM (USED IN) FINANCING ACTIVITIES:
Decrease in restricted cash 14 236
Principal payments of debt (2,999) (679)
Senior notes retirement (11,053) --
Proceeds from the issuance of common stock, net of costs of issuance 28 68
Principal payments on capital lease obligations (282) (201)
------------ -----------
Net cash used in financing activities (14,292) (576)
------------ -----------
Net increase (decrease) in cash (6,806) 2,105
CASH AND CASH EQUIVALENTS, beginning of period 8,811 2,285
------------ -----------
CASH AND CASH EQUIVALENTS, end of period $ 2,005 $ 4,390
============ ===========
The accompanying notes to consolidated financial statements
are an integral part of these consolidated financial statements.
</TABLE>
4
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RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(Tabular dollars in thousands, except per share amounts)
1. FINANCIAL STATEMENT PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with the rules and regulations of the Securities and
Exchange Commission for interim financial information. Accordingly, they do
not include all the information and footnotes required by generally
accepted accounting principles for complete financial statements.
Therefore, it is suggested that the accompanying financial statements be
read in conjunction with the financial statements and notes thereto
included in the Company's annual report on Form 10-K for the fiscal year
ended December 29, 1996 ("10-K"). Except as disclosed herein, there has
been no material change in the information disclosed in the notes to the
consolidated financial statements included in the 10-K. Forward looking
statements contained herein should be read in conjunction with the
cautionary statements contained in the 10-K.
The consolidated financial statements include Rally's Hamburgers, Inc. and
its wholly-owned subsidiaries, each of which is described below. Rally's
Hamburgers, Inc. and its subsidiaries are collectively referred to herein
as the context requires as "Rally's" or the "Company". All significant
intercompany accounts and transactions have been eliminated.
Rally's is one of the largest chains of double drive-thru restaurants in
the United States. At June 29, 1997, the Rally's system included 473
restaurants in 18 states, primarily in the Midwest and the Sunbelt,
comprised of 217 Company-owned and operated, 230 franchised restaurants and
26 Company-owned restaurants in Western markets which are operated as
Rally's restaurants by CKE Restaurants, Inc. ("CKE"), a significant
shareholder of the Company, under an operating agreement which began July
1996. Two additional Company-owned stores covered by the operating
agreement have been converted to the Carl's Jr. format and are not included
in the above store count. The Company's restaurants offer high quality fast
food. The Company primarily serves the drive-thru and take-out segments of
the quick-service restaurant industry. The Company opened its first
restaurant in January 1985 and began offering franchises in November 1986.
Rally's Hamburgers, Inc., Rally's of Ohio, Inc., Self Service Drive Thru,
Inc. and Hampton Roads Foods, Inc. own and operate Rally's restaurants in
various states. Additionally, Rally's Hamburgers, Inc. operates as
franchisor of the Rally's brand. Rally's Management, Inc. provides overall
corporate management of the Company's businesses. Rally's Finance, Inc. was
organized for the purpose of making loans to Rally's franchisees to finance
the acquisition of restaurant equipment and modular buildings. RAR, Inc.
was organized for the purpose of acquiring and operating a corporate
airplane and is currently inactive. The Company's wholly-owned subsidiary,
ZDT Corporation, was formed to own the Zipps brand and franchise system.
MAC I was organized for the purpose of acquiring a manufacturer of modular
buildings and is currently inactive. The manufacturing business was sold in
January 1995.
5
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The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures 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 when actual transactions anticipated are consummated. In
addition, despite management diligence, changes in estimates do and will
continue to occur due to changes in available relevant data and
consummation of the events and transactions. The statements are prepared on
a going concern basis. Certain of the most significant estimates include,
among other things, useful lives assigned to depreciable/amortizable
assets, fair value less costs to sell of long-lived assets held for sale,
fair value of long-lived assets held for use, future net occupancy costs
related to closed/disposable properties, accruals for the Company's
self-insured and high deductible insurance programs and disclosures
regarding commitments and contingencies.
In the opinion of management, the accompanying unaudited consolidated
financial statements include all adjustments considered necessary to
present fairly, when read in conjunction with the 10-K, the Company's
financial position as of June 29, 1997 and the results of its operations
for the quarter and six months ended June 30, 1996 and June 29, 1997, and
cash flows for the six months ended June 30, 1996 and June 29, 1997. The
results of operations for such interim periods are not necessarily
indicative of the results to be expected for the full year.
In March 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, "Earnings Per Share," ("SFAS 128")
which is effective for both interim and annual periods ending after
December 15, 1997. SFAS 128 replaces the standards for computing earnings
per share previously found in Accounting Principles Board Opinion No. 15,
"Earnings Per Share" ("APB 15"). Due to the Company's reported profit/loss
positions in the periods presented, the inclusion of options and warrants
as required by SFAS 128 result in either an insignificant or an
antidilutive impact on all periods presented. Therefore, the adoption of
SFAS 128 is expected to have no effect on earnings (loss) per share as
reported for the quarters and six months ended June 30, 1996 and June 29,
1997.
Certain items have been reclassified in the accompanying consolidated
financial statements for prior periods in order to be comparable with the
classification adopted for the current period. Such reclassifications had
no effect on previously reported net income.
2. RESTRICTED CASH
Restricted cash consists of amounts held in various Certificates of Deposit
as collateral for Letters of Credit and Automated Clearing House ("ACH")
transactions.
3. INVESTMENTS
Excess funds have been invested in U.S. Treasury and investment grade
corporate debt securities. These securities are deemed as
"available-for-sale" under SFAS 115, "Accounting for Certain Investments in
Debt and Equity Securities" and are reported at fair value. Unrealized
holding gains and losses, excluding those losses considered to be other
than temporary, are reported as a net amount in a separate component of
shareholders' equity. There were no unrealized holding gains or losses at
December 29, 1996 and June 29, 1997. Provisions for declines in market
value are made for losses considered to be other than temporary. No such
provision was necessary for any period presented. The market value of the
portfolio was determined based on quoted market
6
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prices for these investments. Realized gains or losses from the sale of
investments are based on the specific identification method.
The carrying value is equal to the market value of investments at December
29, 1996 and June 29, 1997 and consists of the following:
December 29, 1996
-----------------
United States government and its agencies $ 500
Corporate debt instruments 1,458
=============
Total $ 1,958
=============
June 29, 1997
-------------
United States government and its agencies $ 500
Corporate debt instruments 995
=============
Total $ 1,495
=============
The proceeds from the sale of investments and related gross gains and
losses for the quarters ended June 30, 1996 and June 29, 1997 were as
follows:
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QUARTERS ENDED SIX MONTHS ENDED
-------------------------------------- ---------------------------------
JUNE 30, JUNE 29, JUNE 30, JUNE 29,
1996 1997 1996 1997
----------------- ----------------- --------------- --------------
<S> <C> <C> <C> <C>
Proceeds from the sale of
investments $ -- $ 1,476 $ 4,933 $ 1,644
Gross gains realized -- -- -- --
Gross losses realized -- -- -- --
</TABLE>
4. SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
SIX MONTHS ENDED
--------------------------------
JUNE 30, 1996 JUNE 29, 1997
--------------- ---------------
Interest paid (net of amount capitalized) $ 4,550 $ 3,533
Income taxes paid 342 331
Capital lease obligations incurred 111 --
Interest incurred during the construction of restaurants is capitalized as
a component of the cost of the restaurants and is amortized on a
straight-line basis over the estimated useful lives of the restaurants. The
amount of interest capitalized in all quarters was insignificant.
For purposes of the statement of cash flows, the Company considers all
highly liquid debt instruments with an original maturity of three months or
less at the date of purchase to be cash equivalents.
7
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5. COMMITMENTS AND CONTINGENCIES
Litigation
In January and February 1994, two putative class action lawsuits were
filed, on behalf of the shareholders of Rally's in the United States
District Court for the Western District of Kentucky, against Rally's, Burt
Sugarman and GIANT GROUP, LTD. ("GIANT") and certain of Rally's present and
former officers and directors and its auditors. The complaints allege
defendants violated the Securities Exchange Act of 1934, as amended, among
other claims, by issuing inaccurate public statements about the Company in
order to arbitrarily inflate the price of Rally's common stock, and seek
unspecified damages, including punitive damages. On April 15, 1994, Rally's
filed a motion to dismiss and a motion to strike. On April 5, 1995, the
Court struck certain provisions of the complaint but otherwise denied
Rally's motion to dismiss. In addition, the Court denied plaintiffs' motion
for class certification; the plaintiffs renewed this motion, and the Court
certified the class on April 16, 1996. In October 1995, the plaintiffs
filed a motion to disqualify Christensen, Miller, Fink, Jacobs, Glaser,
Weil & Shapiro, LLP ("Christensen, Miller") as counsel for defendants based
on a purported conflict of interest allegedly arising from the
representation of multiple defendants, as well as Ms. Glaser's association
with Christensen, Miller. That motion was denied on September 19, 1996. The
action was stayed briefly between May 30 and June 21, 1996 to facilitate
settlement discussions. Two settlement conferences have been conducted; the
parties are presently in the process of scheduling a third conference. Fact
discovery is now set to be completed in late August 1997. No trial date has
been scheduled yet. Management is unable to predict the outcome of this
matter at the present time or whether or not certain available insurance
coverages will apply. Discovery is proceeding. Because these matters are in
a preliminary stage, the Company is unable to determine whether a
resolution adverse to the Company will have a material effect on its
results of operations or financial condition. Accordingly, no provisions
for any liabilities that may result upon adjudication have been made in the
accompanying financial statements. The defendants deny all wrongdoing and
intend to defend themselves vigorously in this matter. An estimate of
defense costs reimbursable under the Company's directors' and officers'
insurance is included in "Other Assets" in the accompanying consolidated
financial statements.
In February 1996, Harbor Finance Partners ("Harbor") commenced a derivative
action, purportedly on behalf of Rally's, against GIANT, Burt Sugarman,
David Gotterer and certain of Rally's other officers and directors before
the Delaware Chancery Court. Harbor named Rally's as a nominal defendant.
Harbor claims that the directors and officers of both Rally's and GIANT,
along with GIANT, breached their fiduciary duties to the public
shareholders of Rally's by causing Rally's to repurchase certain Rally's
Senior Notes at an inflated price. Harbor seeks "millions of dollars" in
damages, along with rescission of the repurchase transaction. In the fall
of 1996, all defendants moved to dismiss the action. On April 3, 1997, the
Chancery Court denied defendants' motions. GIANT and the other defendants
deny all wrongdoing and intend to vigorously defend the action. It is not
possible to predict the outcome of this action at this time.
Rally's filed a lawsuit on August 12, 1996 against Arkansas Investment
Group, Inc. ("AIGI"), a franchisee that currently operates ten Rally's
restaurants located in Arkansas. The lawsuit sought to recover royalties
and contributions to the Rally's National Advertising Fund owed by AIGI
pursuant to the applicable franchise agreements, which total approximately
$540,000 with accrued interest as of March 30, 1997. AIGI filed an Answer
and Counterclaim in which it alleged that it did not owe the royalties and
advertising contributions due to its alleged disagreement with operational
and marketing decisions of Rally's and Rally's alleged failure to rebate
sums obtained
8
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from suppliers. The Counterclaim alleged that AIGI has been damaged in
excess of approximately $75,000 (the minimum jurisdictional amount for
federal court), but no specific amount of damages is identified in the
Counterclaim. Rally's denied AIGI's allegations. Subsequently, the parties
entered into settlement negotiations which resulted in the sale of the
market to the Company. The sale closed on July 9, 1997, and the parties
have agreed to dismiss the litigation. See Note 10 to the accompanying
consolidated financial statements.
In December 1994, Rally's entered into two franchise agreements with Kader
Investments, Inc. ("Kader") for the development and operation of Rally's
Hamburgers restaurants in Anaheim, California and Tustin, California.
Rally's assisted the franchisee in developing and opening the restaurants.
On November 27, 1996, Kader filed a six-count Complaint against Rally's in
the California Superior Court for Orange County (Case No. 772257) alleging
material misrepresentation, respondent superior, breach of contract, breach
of the implied covenant of good faith and fair dealing, fraud and unfair
competition. These claims arise out of allegations concerning Rally's offer
and sale of two franchises (under a two-store development agreement), and
Rally's actions during the term of the agreements. The Complaint seeks as
relief rescission of the parties' franchise and development agreements;
general damages of at least $1,494,277 and $1,400,000 for the material
misrepresentation and fraud counts, respectively; general damages in
unspecified amounts as to the other counts; punitive damages in unspecified
amounts; and attorneys' fees. Rally's filed an Answer, and has filed a
Cross-Complaint alleging breach of contract. The court has permitted the
parties to hold discovery in abeyance for a short period pending settlement
discussions. Rally's is currently attempting to settle the claim. However,
the outcome of such settlement discussions is uncertain at this time.
Should discussions not result in a settlement, Rally's intends to
vigorously defend against the claims. Trial has been set for October 27,
1997. Because the litigation is in a preliminary stage, the Company is
unable to determine whether a resolution adverse to the Company will have a
material effect on its results of operations or financial condition.
Accordingly, no provisions for any liabilities that may result upon
adjudication have been made in the accompanying financial statements.
The Company is involved in other litigation matters incidental to its
business. With respect to such other suits, management does not believe the
litigation in which it is involved will have a material effect upon its
results of operation or financial condition.
Other Commitments
The Company is contingently liable on certain franchisee lease/loan
commitments totaling approximately $331,000.
The Company, from time to time, negotiates purchase contracts for certain
items used in its restaurants in the normal course of business. Although
some of these contracts contain minimum purchase quantities, such
quantities do not exceed expected usage over the term of such agreements.
6. ASSETS HELD FOR SALE
Assets held for sale include land and modular buildings idled by the prior
years' slowdowns in the Company's expansion plans and land associated with
the closure of stores. The Company has recorded, in prior years,
significant charges resulting from restructurings, other restaurant
closings and certain other charges more fully discussed in the 10-K.
9
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7. IMPAIRMENT OF LONG-LIVED ASSETS
The Company adopted Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets
to Be Disposed of " (SFAS 121), at the beginning of the fourth quarter,
1995. This Statement establishes accounting standards for the impairment of
long-lived assets, certain identifiable intangibles and goodwill related to
those assets to be held and used, and for long-lived assets and certain
identifiable intangibles to be disposed of. SFAS 121 requires that
impairment for long-lived assets and identifiable intangibles to be held
and used, if any, be based on the fair value of the assets. Long-lived
assets and certain identifiable intangibles to be disposed of are to be
reported at the lower of carrying amount or fair value less cost to sell.
For purposes of applying this Statement, the Company determines fair value
utilizing the present value of expected future cash flows using a discount
rate commensurate with the risks involved.
Long-lived assets considered for impairment under SFAS 121 are required to
be grouped at the "lowest level for which there are identifiable cash flows
that are largely independent of the cash flows of other groups." The
Company believes the most correct application of this standard is obtained
by examining individual restaurants where circumstances indicate that an
impairment issue may exist. In addition, if an asset being tested for
recoverability was acquired in a business combination accounted for using
the purchase method, the goodwill that arose in that transaction is
included as part of the asset being evaluated and in determining the amount
of any impairment.
The $754,000 charge for the six months ended June 30, 1996 included in the
caption, "Provision for restaurant closures and other charges," relates
primarily to two additional restaurants which were determined to be
impaired in 1996. No additional long-lived assets have been determined to
be impaired in 1997. As required by the Standard, the Company will continue
to periodically review its assets for impairment where circumstances
indicate that such impairment may exist.
8. REPURCHASE OF SENIOR NOTES
On January 29, 1996, the Company repurchased, in two transactions, at a
price of $678.75 per $1,000 principal amount, $22 million face value of its
9 7/8% Senior Notes due in the year 2000 from GIANT. The price paid in each
transaction represented the market closing price on January 26, 1996. The
first transaction involved the repurchase of $16 million face value of the
Notes for $11.1 million in cash. The second transaction involved the
purchase of $6 million face value of Notes in exchange for a $4.1 million
short-term note, due in three installments of principal and interest,
issued by Rally's. The Company paid the final installment on this note,
together with accrued interest thereon, on September 27, 1996. The
repurchase resulted in an extraordinary gain, net of tax, of $4.5 million
or $.29 per share. An additional $4.7 million face amount of the Senior
Notes were retired during the fourth quarter, 1996 at an aggregate gain of
$200,000. The remaining outstanding Notes are publicly traded and at June
29, 1997 had a market value of $54.6 million based on the quoted market
price for such notes.
These purchases reduced total interest expense by approximately $513,000
and $842,000 for the quarter and six months ended June 30, 1996,
respectively, and $703,000 and $1.4 million for the quarter and six months
ended June 29, 1997, respectively.
10
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9. PROPOSED MERGER
On March 25, 1997, the Company announced that it had agreed in principle to
a merger transaction pursuant to which the Company would have become a
wholly owned subsidiary of Checkers Drive-In Restaurants, Inc.
("Checkers"). On June 16, 1997, the Company and Checkers Drive-In
Restaurants, Inc. announced the termination of the proposed merger
negotiations. All expenses associated with the planned merger,
approximately $222,000, are reflected in the accompanying financial
statements and are included in the caption, "Provision for restaurant
closures and other charges."
10. SUBSEQUENT EVENT
On July 9, 1997, the Company acquired from Arkansas Investment Group, Inc.
("AIGI") (an Arkansas corporation) substantially all the operating assets
employed in the operation of AIGI's franchised Rally's restaurants for
approximately $2.7 million. The cash disbursed in payment of the purchase
price was reduced by certain amounts owed by AIGI to the Company. Actual
cash disbursed was $2.2 million. In addition, the Company assumed five of
AIGI's ground lease obligations and five of its ground and building lease
obligations, and entered into three additional ground leases. AIGI owned
and operated a total of ten Rally's restaurants in the Little Rock,
Arkansas market. The acquisition of the AIGI operating assets will be
accounted for as a purchase. The Company believes that the $2.7 million
represents the fair value of the acquired assets and does not expect this
acquisition to have a material effect on the Company's financial
statements.
11
<PAGE>
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The Company reported net income of $92,000 or less than one cent per share for
the second quarter of 1997 compared with net income of $111,000 or $.01 per
share for the same period of the prior year. For the six months ended June 29,
1997, the Company reported a net loss of $860,000 or $.04 per share compared
with net income of $949,000 or $.06 per share for the prior year period.
Total revenues decreased to $38.1 million from $47.4 million in the second
quarter of the prior year. Total revenues for the six-month period decreased by
21% to $70.7 million in 1997 compared with $89.3 million in 1996. This decline
in revenues for the quarter and for the first half of the year is primarily
attributable to 22 fewer Company stores in operation at the end of the second
quarter and lower same store sales. The agreement with CKE Restaurants ("CKE")
for the operation of the Company's 28 West Coast restaurants was the primary
reason for the decline in the number of Company units in operation.
For the six months ended June 29, 1997, the Company reported income from
operations of $2.8 million compared with a net loss of $956,000 for the same
period of the prior year. The Company attributes this improvement to favorable
store level cost performance year to date. Food, paper and labor costs, as a
percentage of sales, improved six percentage points in the first half of the
year versus the same period of the prior year. Income from operations for the
quarter decreased to $1.8 million from $2.4 million in the second quarter of the
prior year. This quarter-over-quarter decline is due to (i) higher levels of
advertising spending resulting from the relaunch of the brand in Company markets
and $405,000 related to a program under which the Company chose to fund
incremental franchisee advertising spending during the re-launch and (ii)
$222,000 in costs related to terminated merger negotiations with Checkers
Drive-In Restaurants, Inc., partially offset by higher bad debt recoveries in
the quarter and overall lower general and administrative expenses.
Management believes the Company's primary challenge continues to be one of
improving same store sales trends. Changing toward more promotion oriented
advertising programs in June resulted in a significant improvement as Company
same store sales declined by only 3% versus 17% experienced in April and May.
Same store sales again declined at double digit rates in July when the Company
was "off-air." Management will continue to fine-tune its marketing program to
improve average unit volumes through increased guest traffic, while maintaining
margins.
On June 16, 1997, the Company and Checkers Drive-In Restaurants, Inc. announced
that merger negotiations had been terminated. The Boards of the combining
companies felt that the goodwill that would have been recorded if the merger
were accounted for as a "purchase" (versus a "pooling" as anticipated in the
letter of intent) would inhibit the value that the post-merger shareholders of
the combined entity could reasonably expect to realize, as the amortization of
the intangibles was expected to materially offset the expected savings from the
synergies created by the merger.
During the quarter, the Company opened four units, including the re-opening of
two units based on the Company's attainment of improved store level economics
and the acquisition of one unit from a franchisee, and closed one unit.
Franchisees opened five units and closed four units, one of which was sold to
the Company.
12
<PAGE>
Results of Operations
Rally's revenues are derived primarily from Company-owned restaurant sales and
royalty fees from franchisees. The Company also receives revenues from the award
of exclusive rights to develop Rally's restaurants in certain geographic areas
(area development fees) and the award of licenses to use the Rally's brand and
confidential operating system (franchise fees). Systemwide sales consist of
aggregate revenues of Company-owned and franchised restaurants (including
CKE-operated). Company revenue also includes payments resulting from an
operating agreement with CKE, referred to as Owner fee income in the
accompanying consolidated financial statements. Restaurant cost of sales,
restaurant operating expenses, depreciation and amortization, and advertising
and promotion relate directly to Company-owned and operated restaurants. General
and administrative expenses relate to both Company-owned and operated
restaurants and franchise operations. Owner expenses relate to CKE-operated
restaurants and consist primarily of depreciation and amortization.
The table below sets forth the percentage relationship to total revenues, unless
otherwise indicated, of certain items included in the Company's consolidated
statements of operations and operating data for the periods indicated:
<TABLE>
<CAPTION>
QUARTER ENDED SIX MONTHS ENDED
-------------------------------- --------------------------------
JUNE 30 JUNE 29, JUNE 30, JUNE 29,
1996 1997 1996 1997
---------------- -------------- -------------- ---------------
<S> <C> <C> <C> <C>
Revenues
Restaurant sales 96.7% 96.0% 96.7% 95.9
Franchise revenues and fees 3.3 3.5 3.3 3.5
Owner fee income -- 0.5 -- 0.6
---------------- -------------- -------------- ---------------
100.0% 100.0% 100.0% 100.0%
================ ============== ============== ===============
Costs and expenses
Restaurant cost of sales (1) 35.1% 33.0% 35.8% 32.5%
Restaurant operating expenses (1) 42.7 41.2 45.3 42.5
General and administrative expenses 9.8 8.4 10.4 10.1
Advertising and promotion expenses (1) 4.5 8.0 5.7 6.3
Depreciation and amortization (1) 5.7 6.1 6.2 6.7
Owner expense (2) -- 152.5 -- 147.3
Provision for restaurant closures and other 0.1 1.4 0.8 0.7
Income (loss) from operations 5.1 4.7 (1.1) 4.0
Total other (expense) (4.5) (4.1) (4.6) (4.8)
---------------- -------------- -------------- ---------------
Net loss before income taxes and
extraordinary items 0.6% 0.6% (5.7)% (0.8)%
Net income (loss) 0.2 0.2 1.1 (1.2)
================ ============== ============== ===============
Number of restaurants:
Restaurants open at the beginning of period 482 469 481 467
---------------- -------------- -------------- ---------------
Company restaurants opened (closed or
transferred), net during period 1 3 -- 8
Franchised restaurants opened (closed or
transferred), net during period 2 1 4 (2)
---------------- -------------- -------------- ---------------
Total restaurants opened (closed or
transferred), net during period 3 4 4 6
---------------- -------------- -------------- ---------------
Total restaurants open at end of period 485 473 485 473
================ ============== ============== ===============
</TABLE>
(1) As a percentage of restaurant sales.
(2) As a percentage of owner fee income.
13
<PAGE>
Three Months Ended June 30, 1996 Compared with Three Months Ended June 29, 1997
Systemwide sales decreased 11% to $77.1 million for the quarter compared with
$86.3 million a year ago. This decrease is primarily attributable to twelve
fewer stores in operation at the end of the quarter and systemwide same store
sales declines of 10%. Systemwide same store sales declines of 3% in June
somewhat offset 14% declines in April and May. Management believes that changing
toward a more trial oriented advertising approach with a "2 Big Bufords for $3"
promotion in late May resulted in the same store sales improvement in June.
Management anticipates using this promotion oriented approach during the
remainder of the year in order to boost same store sales.
Total Company revenues decreased 20% to $38.1 million for the quarter compared
with $47.4 million a year ago. Company-owned restaurant sales decreased $9.2
million to $36.6 million due to a 12% decline in same store sales during the
quarter and to a decline of approximately $5.1 million due to the Company's
operating agreement with CKE, as discussed in Note 1 to the accompanying
consolidated financial statements.
Restaurant cost of sales, as a percentage of sales, decreased to 33.0% for 1997
compared with 35.1% for the comparable quarter of the prior year. This decline
is primarily due to the impact of implemented cost reduction strategies and to
reduced levels of discounting in the current year quarter. These cost reduction
strategies include selective changes in some product and packaging
specifications as well as renegotiation of purchase terms and selection of
alternative vendors. Management intends to continue to consumer test and
implement such cost saving strategies in its stores, where appropriate.
Restaurant operating expenses were 41.2% of sales compared with 42.7% for the
comparable quarter of the prior year. The reduction is primarily due to
management's cost reduction actions in the labor area and better fixed cost
coverage in stores operated by the Company during the current year quarter,
primarily the result of the CKE operating agreement covering certain high fixed
cost restaurants in Western markets. The identified and implemented changes in
staffing levels and labor deployment in certain stores are yielding savings in
management and crew labor. Management believes that these cost reduction actions
should favorably influence ongoing operating expense performance; however, their
impact may be partially offset by recent and upcoming increases in the minimum
wage.
General and administrative expenses were lower than 1996 on both a dollar and
percentage of revenues basis. This decrease was primarily attributable to the
transfer of operational responsibility for certain restaurants in Western
markets to CKE, to a reduction in overhead staffing levels, to a reduction in
bonuses payable and to lower bad debt expense for the quarter, somewhat offset
by the amortization of warrants granted to CKE. See "Liquidity and Capital
Resources."
Advertising expenses were higher, on both a dollar and percentage of sales
basis, for the second quarter of 1997 compared to the same period in 1996.
Advertising spending rose during the quarter to 8% of sales as a result of the
acceleration of television spending on repositioning Rally's as THE place for
bigger, better burgers.
Depreciation and amortization decreased approximately $400,000 in the second
quarter of 1997 compared to the same quarter of 1996. This decrease is primarily
due to a segregation into Owner expense of depreciation and amortization
associated with the CKE-operated properties.
Owner expenses of approximately $300,000 in the second quarter of 1997 represent
the Company's segregated ownership cost related to the 28 units operated by CKE.
These expenses consist primarily of depreciation and amortization associated
with the properties.
14
<PAGE>
The Provision for restaurant closures and other charges of $519,000 in the
second quarter of 1997 resulted primarily from charges of $405,000 and $222,000
for expenses related to a program whereby the Company chose to fund incremental
franchisee advertising spending and for expenses associated with the terminated
merger negotiations with Checkers Drive-In Restaurants, Inc., respectively.
These charges were somewhat offset by a credit of $150,000 resulting from
favorable changes in expected recoveries related to surplus properties.
Interest expense decreased $292,000 in the second quarter of 1997 to $1.9
million compared to $2.1 million in 1996 primarily due to the early
extinguishment of debt in late January 1996. See Note 8 to the accompanying
consolidated financial statements for further discussion.
Interest income increased by $230,000 in the second quarter of 1997 to $264,000,
due primarily to increases in the average daily invested amounts and interest on
a refund received from the Internal Revenue Service.
The Company's net tax provision was essentially flat between years and
represents state taxes expected to be payable for both years. The Company's tax
position to not recognize the benefit on currently recordable book losses due to
the uncertainty of ultimate realizability remained unchanged.
Six Months Ended June 30, 1996 Compared with Six Months Ended June 29, 1997
Systemwide sales declined 11% for the first six months of 1997 to $145.3 million
compared with $162.9 million a year ago. This decrease is primarily attributable
to twelve fewer stores in operation at the end of the second quarter and
systemwide same store sales declines of 11%.
Total Company revenues decreased 21% to $70.7 million in 1997 compared with
$89.3 million in 1996. Company-owned restaurant sales decreased $18.5 million to
$67.8 million due to a 13% decline in same store sales during the first half of
1997 and to a decline of approximately $10.5 million due to the Company's
operating agreement with CKE, as discussed in Note 1 to the accompanying
consolidated financial statements. Franchise revenues and fees decreased by 17%
for the year primarily due to fewer franchise stores in operation and to
franchise same store sales declines of 7%.
Restaurant cost of sales, as a percentage of sales, decreased to 32.5% for 1997
compared with 35.8% for 1996. This decline is primarily due to the impact of
implemented cost reduction strategies and to reduced levels of discounting in
the current year quarter, as discussed above in the quarterly comparison.
Restaurant operating expenses were 42.5% of sales compared with 45.3% for the
comparable period of the prior year. See previous discussion above as the
decrease is consistent with the quarterly results.
General and administrative expenses were lower than 1996 on both a dollar and
percentage of revenues basis. See earlier discussion as the decrease is
consistent with the quarterly results.
Advertising expenses were approximately $650,000 lower than the prior year but
represented 6.3% of sales compared with 5.7% for the comparable period of the
prior year due to lower overall sales levels. This dollar decrease was primarily
due to fewer weeks "on air" in the current year, as the Bigger, Better Burger
campaign was not rolled out to the majority of the Company's markets until late
February.
Depreciation and amortization on a year-to-date basis decreased to $4.5 million
compared with $5.3 million for the same period of the prior year. See earlier
discussion above as the decrease is consistent with the quarterly results.
15
<PAGE>
Owner expenses of approximately $600,000 for the first six months of 1997
represent the Company's segregated ownership cost related to the 28 units
operated by CKE. These expenses consist primarily of depreciation and
amortization associated with the properties.
The Provision for restaurant closures and other charges of $502,000 for the
first six months of 1997 resulted primarily from charges for expenses related to
a program whereby the Company chose to fund incremental franchisee advertising
spending and for expenses associated with the terminated merger negotiations
with Checkers Drive-In Restaurants, Inc., somewhat offset by a credit resulting
from favorable changes in expected recoveries related to surplus properties. The
Provision of $754,000 for the comparable period in the prior year relates
primarily to a charge for the estimated impairment of two restaurants under SFAS
121. No additional long-lived assets have been determined to be impaired in the
first six months of 1997.
Interest expense decreased $725,000 on a year-to-date basis to $3.7 million
compared to $4.5 million for the same period in the prior year, consistent with
the quarterly results.
Interest income on a year-to-date basis was essentially flat between years.
The Company's total net tax provision (including the tax expense related to the
extraordinary gain) was essentially flat between years and represents state
taxes expected to be payable for both years. The Company's tax position to not
recognize a tax benefit on currently recordable book losses due to the
uncertainty of ultimate realizability remained unchanged.
The extraordinary item in the first six months of 1996 represents the gain
recognized, net of taxes, on the early retirement of debt. See Note 8 to the
accompanying consolidated financial statements, for further discussion.
Liquidity and Capital Resources
The Company's cash flow provided by operating activities was approximately $4.2
million for the first half of 1997 compared with cash flow used in operating
activities of approximately $440,000 for the same period in the prior year. This
increase resulted primarily from higher net income from operations in 1997 and
favorable changes in working capital related primarily to differences in the
timing of accounts payable.
Capital expenditures of approximately $2.7 million for the first half of 1997
were funded primarily through operating activities, sales of surplus properties
and existing cash balances. Approximately $2 million of these expenditures were
for the construction or conversion of new stores and for the reopening of three
units previously closed. Eight of these stores opened in the first half of the
year, including three units reopened. The Company had three new units under
construction at June 29, 1997. Remaining capital expenditures were primarily for
the addition of side dining areas for two selected units and the purchase and
installation of certain replacement equipment.
The Company plans to open 15 new units in 1997, excluding 3 units previously
closed which have been re-opened. Full year capital expenditures are expected to
be in the range of approximately $6 to $8 million, inclusive of replacement
capital.
16
<PAGE>
Principal payments of debt and capital leases totaled approximately $880,000
during the first six months of 1997. The Company is required to make a mandatory
sinking fund payment on June 15, 1999 calculated to retire 33 1/3% in aggregate
principal amount of the Senior Notes issued with the balance maturing on June
15, 2000. Such sinking fund requirement, due to debt repurchases in the prior
year, is now approximately $1.6 million.
The Company is actively marketing the assets included in the caption "Assets
held for sale" in the accompanying consolidated balance sheets and expects
realization in cash over the next 3 to 24 months, although actual timing of such
cash flows cannot be predicted. The assets contained in this caption are
recorded at management's current estimate of net realizable value. There can be
no assurances that these values will be realized. Approximately $783,000 in cash
was generated during the first six months of 1997 from the sale of such assets.
During the first half of the year, the Company continued to receive funds
($146,000) on land contracts covering four fee properties which are the subject
of an aggregate amount of $1.8 million of sale/leaseback financing. The interest
rate on such facility is approximately 12.5%. Subsequent to the end of the
second quarter, the Company canceled one contract in the amount of $376,000. The
holder of the contracts has continued to make payments on the remaining
balances. The inability by the holder to fulfill the contracts is not expected
to impact the Company's overall liquidity in any material respect.
The Company completed its Shareholder Rights Offering on September 20, 1996. The
Offering raised over $10.8 million in gross proceeds, offset by legal and other
issuance costs of approximately $437,000. In addition to the approximate $10.8
million of gross proceeds provided by the Offering, the Warrants issued as part
of the Offering, exercisable at $2.25, could provide approximately $10.8 million
for the Company's future growth, if all warrants are exercised. As of June 29,
1997, 4,814,068 Warrants were outstanding. Any proceeds generated from the
exercise of such warrants may be used for new store construction, refurbishment
of some existing restaurants and for other general corporate purposes, including
possible further debt reduction.
On December 20, 1996, the Company issued warrants to purchase an aggregate of
1,500,000 restricted shares of its Common Stock to CKE and Fidelity National
Financial, Inc. These warrants have a three-year term and are not exercisable
until December 20, 1997. The exercise price is $4.375 per share, the closing
price of the Common Stock on December 20, 1996. The underlying shares of Common
Stock have not been registered with the Securities and Exchange Commission and,
therefore, are not freely tradable. If these warrants are exercised, the Company
will receive approximately $6.6 million in additional capital.
The Company believes existing cash balances and cash flow from operations should
be sufficient to fund its current operations and obligations. The ability of the
Company to satisfy its obligations under the Senior Notes, however, continues to
be dependent upon, among other factors, the Company successfully increasing
revenues and profits.
17
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings - See Note 5 to Part I, Item 1 which is incorporated
herein by reference.
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
<TABLE>
<CAPTION>
EXHIBIT NUMBER DESCRIPTION OF DOCUMENT
---------------- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
4.5 Other Debt Instruments - Copies of debt instruments for which the related debt
is less than 10% of the Company's total assets will be furnished to the
Commission upon request.
</TABLE>
(b) Reports on Form 8-K:
There were no Form 8-K reports filed during the second quarter of
1997.
18
<PAGE>
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.
RALLY'S HAMBURGERS, INC.
Date: August 13, 1997 By: /s/ Donald E. Doyle
--------------------------------------------------
Donald E. Doyle
President and Chief Executive Officer
19
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Consolidated Balance Sheet as of 6/29/97 and the Consolidated Statement of
Operations for the 6 months ended 6/29/97.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. Dollars
<S> <C>
<PERIOD-TYPE> 6-mos
<FISCAL-YEAR-END> Dec-28-1997
<PERIOD-START> Dec-30-1996
<PERIOD-END> Jun-29-1997
<EXCHANGE-RATE> 1
<CASH> 5,803
<SECURITIES> 1,495
<RECEIVABLES> 3,365 <F1>
<ALLOWANCES> 0
<INVENTORY> 827
<CURRENT-ASSETS> 11,888
<PP&E> 69,894 <F1>
<DEPRECIATION> 0
<TOTAL-ASSETS> 112,272
<CURRENT-LIABILITIES> 21,572
<BONDS> 67,387
0
0
<COMMON> 2,084
<OTHER-SE> 16,969
<TOTAL-LIABILITY-AND-EQUITY> 112,272
<SALES> 67,811
<TOTAL-REVENUES> 70,685
<CGS> 22,008
<TOTAL-COSTS> 67,864
<OTHER-EXPENSES> 14
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 3,734
<INCOME-PRETAX> (560)
<INCOME-TAX> 300
<INCOME-CONTINUING> (860)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (860)
<EPS-PRIMARY> (.04)
<EPS-DILUTED> (.04)
<FN>
<F1> The asset values for receivables and PP&E represent net amounts.
</FN>
</TABLE>
