SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 14, 1999
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ______ to ________
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COMMISSION FILE NUMBER 0-17980
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RALLY'S HAMBURGERS, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 62-1210077
- ------------------------------- ------------------------
(State or other jurisdiction of (IRS Employer ID Number)
incorporation or organization)
14255 49TH STREET NORTH, BUILDING 1, SUITE 101, CLEARWATER, FL 33762
--------------------------------------------------------------------
(Address of principal executive offices)
Registrant's telephone number, including area code: 727/519-2000
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 July 20, 1999 - 29,335,243 shares
<PAGE>
TABLE OF CONTENTS
PAGE NO.
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
June 14, 1999 and December 28, 1998..........................3
Condensed Consolidated Statements of Operations and
Comprehensive Income Quarter Ended June 14, 1999 and
June 14, 1998 and Two Quarters Ended June 14, 1999 and
June 14, 1998 ...............................................5
Condensed Consolidated Statements of Cash Flows
Two Quarters Ended June 14, 1999 and June 14, 1998 ..........6
Notes to Condensed Consolidated Financial Statements.............7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................14
Item 3. Quantitative and Qualitative Disclosures About Market Risk.......20
Part II OTHER INFORMATION
Item 1. Legal Proceedings................................................20
Item 2. Changes in Securities ...........................................21
Item 3. Defaults Upon Senior Securities..................................21
Item 4. Submission of Matters to a Vote of Security Holders..............21
Item 5. Other Information................................................21
Item 6. Exhibits and Reports On Form 8-K.................................21
2
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
RALLY'S HAMBURGERS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
ASSETS
<TABLE>
<CAPTION>
(UNAUDITED)
JUNE 14, DECEMBER 28,
1999 1998
---------- ------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 10,114 $ 4,601
Restricted cash 1,492 1,880
Investments 83 47
Accounts receivable, net 1,938 2,597
Notes receivable, net - current portion 108 153
Inventory 922 1,017
Prepaid expenses and other current assets 1,081 310
Assets held for sale 1,311 1,131
-------- --------
Total current assets 17,049 11,736
Property and equipment, net 60,277 61,914
Investment in affiliate, net of accumulated amortization 22,117 23,001
Notes receivable, net - less current portion 295 375
Goodwill, net of accumulated amortization 8,159 8,477
Reacquired franchise and territory rights, net of accumulated amortization 11,095 11,620
Other intangibles, net of accumulated amortization 3,670 3,783
Other assets, net of accumulated amortization 1,735 2,400
-------- --------
$124,397 $123,306
======== ========
</TABLE>
See notes to condensed consolidated financial statements
3
<PAGE>
RALLY'S HAMBURGERS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
(UNAUDITED)
JUNE 14, DECEMBER 28,
1999 1998
----------- ------------
<S> <C> <C>
CURRENT LIABILITIES:
Accounts payable $ 6,300 $ 3,686
Reserves for restaurant relocations and abandoned sites 2,920 3,148
Accrued liabilities 10,795 7,541
Current maturities of long-term debt and obligations under capital lease 1,663 1,490
--------- ---------
Total current liabilities 21,678 15,865
Senior notes, net of discounts 52,184 55,768
Long-term debt, less current maturities 8,074 7,819
Obligations under capital lease, less current maturities 5,129 5,230
Long-term reserves for restaurant relocations and adandoned sites 2,187 2,275
Other noncurrent liabilities 1,874 1,830
--------- ---------
Total liabilities 91,126 88,787
STOCKHOLDERS' EQUITY:
Preferred Stock, $.10 par value, authorized 5,000,000 shares,
no shares outstanding -- --
Common stock, $.10 par value, authorized 50,000,000 shares,
issued 29,608,688 at June 14, 1999 and
at December 28, 1998 2,961 2,961
Additional paid-in capital 97,346 97,346
Retained deficit (64,928) (63,680)
--------- ---------
35,379 36,627
Less treasury stock, at cost, 273,445 shares (2,108) (2,108)
--------- ---------
Net stockholders' equity 33,271 34,519
--------- ---------
$ 124,397 $ 123,306
========= =========
</TABLE>
See notes to condensed consolidated financial statements
4
<PAGE>
RALLY'S HAMBURGERS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
QUARTER ENDED TWO QUARTERS ENDED
----------------------- -----------------------
JUNE 14, JUNE 14, JUNE 14, JUNE 14,
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
REVENUES:
Restaurant sales $ 35,157 $ 33,173 $ 64,197 $ 64,135
Franchise revenues and fees 1,048 1,108 1,964 2,151
Owner fee income 163 169 326 328
-------- -------- -------- --------
Total revenues $ 36,368 $ 34,450 $ 66,487 $ 66,614
-------- -------- -------- --------
COSTS AND EXPENSES:
Restaurant food and paper costs 11,025 10,503 19,594 20,550
Restaurant labor costs 10,481 10,343 19,901 20,051
Restaurant occupancy expense 1,814 1,664 3,583 3,216
Restaurant depreciation and amortization 1,603 1,687 3,227 3,364
Other restaurant operating expense 3,046 2,959 5,870 5,621
Advertising expense 2,296 2,747 4,097 4,391
Owner depreciation 352 145 705 281
Other depreciation and amortization 570 541 1,141 1,168
General and administrative expenses 2,976 2,777 6,056 6,258
Loss provisions -- 854 -- 885
-------- -------- -------- --------
Total costs and expenses 34,163 34,220 64,174 65,785
-------- -------- -------- --------
Operating income 2,205 230 2,313 829
OTHER INCOME (EXPENSE):
Interest income 112 78 300 155
Gains on bond repurchases 197 -- 454 --
Loss on investment in affiliate (450) (198) (884) (240)
Interest expense (1,672) (1,684) (3,357) (3,374)
-------- -------- -------- --------
Income (loss) before income tax expense 392 (1,574) (1,174) (2,630)
Income tax expense 37 26 74 52
-------- -------- -------- --------
Net income (loss) $ 355 $ (1,600) $ (1,248) $ (2,682)
======== ======== ======== ========
Comprehensive income (loss) $ 355 $ (1,600) $ (1,248) $ (2,682)
======== ======== ======== ========
Net income (loss) per common share -
(basic and diluted) $ 0.01 $ (0.06) $ (0.04) $ (0.11)
======== ======== ======== ========
Weighted average number of common shares -
basic 29,335 24,698 29,335 24,633
======== ======== ======== ========
diluted 32,218 24,698 29,335 24,633
======== ======== ======== ========
</TABLE>
See notes to condensed consolidated financial statements
5
<PAGE>
RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
QUARTER ENDED
-----------------------
JUNE 14, JUNE 14,
1999 1998
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (1,248) $ (2,682)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 5,073 4,812
Provision for losses on assets to be disposed of -- 885
Gains on bond repurchases (454) --
Amortization of bond costs and discounts 204 184
Provision for bad debt 210 103
Loss, net of amortization on investment in affiliate 884 240
Provision for income tax 74 52
Changes in assets and liabilities:
Decrease (increase) in accounts receivable 489 (1,598)
Decrease in notes receivable 85 107
Decrease (increase) in inventory 95 (104)
(Increase) decrease in prepaid expenses and other current assets (783) 818
Decrease (increase) in deposits and other assets 476 (15)
Increase in accounts payable 2,614 1,940
Increase (decrease) in accrued liabilities 2,894 (2,223)
-------- --------
Net cash provided by operating activities 10,613 2,519
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (1,234) (1,180)
Cash paid on business purchases (142) (855)
(Increase) decrease in investments (36) 311
Proceeds from sale of assets 1 271
Cash paid for investments in affiliates -- (32)
-------- --------
Net cash used in investing activities (1,411) (1,485)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Decrease in restricted cash 388 --
Repayments of senior notes (3,158) --
Principal payments on long-term debt and capital lease obligations (919) (548)
Net proceeds from issuance of common stock -- 55
Other equity funding -- 116
-------- --------
Net cash used in financing activities (3,689) (377)
-------- --------
Net increase in cash 5,513 657
CASH AT BEGINNING OF PERIOD 4,601 4,008
-------- --------
CASH AT END OF PERIOD $ 10,114 $ 4,665
======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION---
Interest paid, net $ 817 $ 3,411
======== ========
Income taxes paid $ 175 $ 21
======== ========
SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVIRIES:
Capital lease obligations incurred $ 481 $ --
======== ========
Notes payable incurred upon acquisition of restaurants $ 765 $ 420
======== ========
</TABLE>
See notes to condensed consolidated financial statements
6
<PAGE>
RALLY'S HAMBURGERS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) BASIS OF PRESENTATION - The accompanying unaudited financial
statements have been prepared in accordance with generally accepted accounting
principles for interim financial information and the instructions to Form 10-Q
and Article 10 of Regulation S-X. Accordingly, they do not include all the
information and notes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
necessary to present fairly the information set forth therein have been
included. The operating results for the two quarters ended June 14, 1999, are
not necessarily an indication of the results that may be expected for the fiscal
year ending January 03, 2000. 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 Company's Annual Report on Form 10-K/A for
the year ended December 28, 1998. Therefore, it is suggested that the
accompanying financial statements be read in conjunction with the Company's
December 28, 1998 consolidated financial statements. As of December 29, 1997 the
Company changed from a 13-week quarter to a 12-week quarter with the exception
of the fourth quarter which will generally consist of 16 weeks. The fiscal year
will end on the Monday closest to December 31st. The Company's 1999 fiscal year
will include a 53rd week, thereby increasing the fourth quarter to 17 weeks.
(b) PURPOSE AND ORGANIZATION - The principal business of Rally's
Hamburgers, Inc. (the "Company" or "Rally's") is the operation and franchising
of Rally's restaurants. Rally's is one of the largest chains of double
drive-thru restaurants in the United States. At June 14, 1999, the Rally's
system included 468 restaurants in 18 states located primarily in the Midwest
and the Sunbelt and are comprised of 228 Company-owned and operated restaurants
and 240 franchised restaurants, including 24 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 in 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. The
consolidated financial statements include Rally's Hamburgers, Inc. and its
wholly owned subsidiaries. Rally's Hamburgers, Inc. and its subsidiaries are
collectively referred to herein, as the context requires, as "Rally's" or the
"Company". All significant inter-company accounts and transactions have been
eliminated. The investment in affiliate, which is 26.06% owned, represents an
investment in Checkers Drive-In Restaurants, Inc. ("Checkers") and is recorded
under the equity method.
(c) REVENUE RECOGNITION - The Company recognizes franchise fees as
income on the date a restaurant is opened, at which time the Company has
performed its obligations relating to such fees. Area development fees are
generated from the awarding of exclusive rights to develop, own and operate
Rally's restaurants in certain geographic areas pursuant to an Area Development
Agreement. Such fees are recognized as income on a pro rata basis as the
restaurants are opened or upon the cancellation or expiration of an Area
Development Agreement. Both franchise fees and area development fees are
non-refundable. The Company also receives royalty fees from franchisees
typically in the amount of 4% of each franchised restaurant's gross revenues, as
defined in the Franchise Agreement. Royalty fees are recognized as earned.
(d) CASH AND CASH EQUIVALENTS - The Company considers all highly
liquid instruments purchased with an original maturity of less than three months
to be cash equivalents. Restricted Cash consists of cash on deposit with various
financial institutions as collateral to support the Company's obligations to
certain states for potential workers' compensation claims. This cash is not
available for the Company's use until such time that the respective states
permit its release.
(e) RECEIVABLES - Receivables consist primarily of franchise fees,
royalties and notes due from franchisees and owner fee income and advances to
the National Advertising Fund which provides broadcast creative production for
use by the Company and its franchisees. Allowances for doubtful receivables were
$1.1 million at June 14, 1999 and $969,000 at December 28, 1998.
(f) INVENTORY - Inventory is valued at latest invoice cost, which
approximates the lower of first-in, first-out cost or market.
(g) IMPAIRMENT OF LONG LIVED ASSETS - The Company accounts for
tangible property and intangibles under the 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), which requires the write-down
of certain intangibles and tangible property associated with under performing
sites to the level supported by the forecasted discounted cash flow in cases
where undiscounted cash flow projected does not exceed the book value of the
related assets.
7
<PAGE>
(h) PROPERTY AND EQUIPMENT - Property and equipment are
depreciated using the straight-line method for financial reporting purposes and
accelerated methods for income tax purposes. The estimated useful lives for
financial reporting purposes are the shorter of 20 years or the lease life plus
available renewal options for buildings and property held under capital leases,
eight years for furniture and equipment, five years for software and computer
systems and the life of the lease for leasehold improvements. Expenditures for
major renewals and betterments are capitalized while expenditures for
maintenance and repairs are expensed as incurred. Property and equipment held
for sale includes various excess restaurant facilities and land. The aggregate
carrying value of property and equipment held for sale is periodically reviewed
and adjusted downward to market value, when appropriate.
(i) USE OF ESTIMATES - 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 disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reported period. Actual results could differ from those estimates.
(j) DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS - The
balance sheets as of June 14, 1999 and December 28, 1998 reflect the fair value
amounts which have been determined using available market information and
appropriate valuation methodologies. However, considerable judgment is required
in interpreting market data to develop the estimates of fair value. Accordingly,
the estimates presented herein are not necessarily indicative of the amounts
that the Company could realize in a current market exchange. The use of
different market assumptions and/or estimation methodologies may have a material
effect on the estimated fair value amounts. The carrying amounts of cash and
cash equivalents, receivables, accounts payable, and long-term debt are a
reasonable estimate of their fair value. Interest rates that are currently
available to the Company for issuance of debt with similar terms and remaining
maturities are used to estimate fair value for debt issues that are not quoted
on an exchange.
(k) EARNINGS (LOSS) PER COMMON SHARE - Basic and diluted earnings
(loss) per share are calculated in accordance with the Statement of Financial
Accounting Standard No. 128, "Earnings per Share." Potentially dilutive common
stock warrants and options have no effect for all periods presented.
(l) OWNER FEE INCOME AND DEPRECIATION - Revenue received as a
result of the operating agreement with CKE is referred to as owner fee income in
the accompanying consolidated financial statements. Depreciation expenses
related to the ongoing investment in the CKE-operated restaurants are referred
to as owner depreciation in the accompanying consolidated financial statements.
(m) ADVERTISING COSTS - It is the Company's policy to expense
advertising costs as incurred.
(n) RECLASSIFICATIONS - 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.
NOTE 2: LIQUIDITY
The Company has a working capital deficit of $4.6 million at
June 14, 1999. It is anticipated that the Company will continue to have a
working capital deficit since approximately 86% of the Company's assets are
long-term (primarily property, equipment, investment in affiliate and
intangibles), and since all operating trade payables, accrued expenses, and
property and equipment payables are current liabilities of the Company. At June
14, 1999, a significant portion ($52.2 million) of the Company's long-term
liabilities relate to the Company's Senior Notes that mature on June 15, 2000.
The Company is currently evaluating alternatives for refinancing or repaying the
outstanding Senior Notes that mature in June 2000. These alternatives include a
sale-leaseback transaction or additional mortgage financing. Other options
include the sale of certain company-owned markets to current or new franchisees
in transactions that would provide immediate funds to reduce debt and would also
provide a continued source of income through future royalties. There can be no
assurance that the Company will be able to satisfy the entire principal balance
of the Senior Notes on the maturity date of June 15, 2000.
See Note 6: "Merger" for discussion of the Merger with
Checkers. Checkers has a working capital deficit of $25.4 million at June 14,
1999. It is anticipated that Checkers will continue to have a working capital
deficit since approximately 89% of Checkers are long-term (primarily property,
equipment, and intangibles), and since all operating trade payables, accrued
expenses, and property and equipment payables are current liabilities of
Checkers. At June 14, 1999, a significant portion ($17.4 million) of Checkers
debt relates to Checkers Restated Credit Agreement which originally was to
mature on July 31, 1999. During March and April 1999, Santa Barbara Restaurant
Group, Inc. ("SBRG"), a company which is an 8.2% owner of Rally's acquired
approximately $4.9 million of debt due to three members of the lender group. The
terms associated with the SBRG debt are identical to terms that other
participants of the lender group have pursuant to the Restated Credit Agreement.
On March 24, 1999, SBRG and the other remaining members of the lender group
agreed to an extension of the maturity date to April 30, 2000. As of June 11,
1999, Fidelity National Financial, Inc. owned approximately 29% of the
outstanding common stock of SBRG.
8
<PAGE>
NOTE 3: LONG -TERM DEBT
Long-term debt consists of the following:
<TABLE>
<CAPTION>
JUNE 14, DECEMBER 28,
1999 1998
-------- ------------
<S> <C> <C>
Mortgages payable to FFCA Acquisition Corporation secured by eight
Company-owned restaurants payable in 240 aggregate monthly installments
of $40,082, including interest at 9.5%. The Company to utilized the
net proceeds of the loan to retire Senior Notes (See Note 2: "Liquidity") $ 4,269 $ 4,300
Notes payable to former franchise owners for acquisition of markets,
secured by the related assets acquired, with maturities through May 1,
2004, bearing interest at rates ranging from 7.5% to 9%. The notes are payable
in monthly principal and interest installments ranging from $4,742 to $50,211. 4,519 4,022
Notes payable to banks, maturing at various dates through November 10,
2001, secured by property and/or equipment, bearing interest ranging from
1/2% above prime to 9.25%. The notes are payable in monthly principal and
interest installments ranging from $1,531 to $13,333. Interest is payable
monthly. 186 323
Secured notes payable to a bank used to finance equipment and/or modular
buildings for franchisees (the Franchisee Loans), maturing at various dates
through July 15, 2000, bearing interest at prime plus 1/2%. The notes are
payable in monthly principal installments of $4,875. Interest is payable
monthly. 49 78
------- -------
9,023 8,723
Less current portion (949) (904)
------- -------
$ 8,074 $ 7,819
======= =======
</TABLE>
NOTE 4: RELATED PARTY TRANSACTION
Effective November 30, 1997, the Company entered into a
Management Services Agreement, pursuant to which the management of Checkers is
providing key services to the Company, including executive management, financial
planning and accounting, franchise administration, purchasing and human
resources. In addition, the Company and Checkers share their executive officers,
including the Chief Executive Officer and the Chief Operating Officer. The total
cost of these services was $3.5 million and $2.0 million during the two quarters
ended June 14, 1999 and the two quarters ended June 15, 1998. This increase in
costs billed by Checkers to Rally's was primarily due to the transfer of various
marketing and field management personnel from Rally's to Checkers during the
third quarter of 1998. Effective April 6, 1999, the Company began sharing the
services of the Chief Financial Officer with Checker's.
NOTE 5: STOCK OPTION PLANS
The Company currently has three stock option plans in effect;
the 1990 Stock Option Plan (the Employees' Plan"), the 1990 Stock Option Plan
for Non-Employee Directors (the "1990 Directors' Plan"), and the 1995 Stock
Option Plan for Non-Employee Directors (the "1995 Directors' Plan"). During
1996, a total of 350,000 non-plan options were granted to five of the current
directors. The options were granted at a price equal to the stock's market price
on the date the grants were immediately exercisable and expire after five years.
The Employees Plan was amended on June 11, 1998 to increase
the number of shares subject to the Plan from 3,250,000 to 5,750,000 and was
further amended to enable certain employees of Checkers Drive-In Restaurants,
Inc. who provide services to the Company pursuant to the Management Services
Agreement that exists between the two companies to participate in the Employees'
Plan.
Pursuant to the Employees' Plan, the Company issued options to
purchase 728,800 shares at an exercise price of $2.531 on April 27, 1998 and
issued options to purchase 100,000 shares at an exercise price of $1.313 on
August 18, 1998.
9
<PAGE>
Pursuant to the 1995 Directors Plan, the Company issued
options to purchase 184,000 shares at an exercise price of $2.313 on May 11,
1999. The options were immediately exercisable and expire after ten years.
On December 15, 1998, the Company repriced the 1990 Stock
Option Plan and the options issued outside of a plan. The new option price is
$.531 the closing market price at December 15, 1998. As a result of this
transaction 2,124,216 options in the 1990 Stock Option Plan and 1,850,000
options issued outside of a plan were cancelled and reissued at the new price.
The Company has adopted the disclosure-only provisions of
Statement of Financial Accounting Standards no. 123, "Accounting for Stock Based
Compensation." Accordingly, no compensation cost has been recognized for the
stock option plans. Had compensation cost for the Company's stock option plan
for employees been determined based on the fair value at the grant date for
awards in the first two quarters of 1999 and the first two quarters of 1998
consistent with the provisions of SFAS No. 123, and the Company's net loss would
have been increased to ($1.3 million) and ($4.3 million) respectively, on a pro
forma basis. The fair value of each option grant is estimated on the date of
grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for grants in the first two quarters of fiscal
1999 and the first two quarters of 1998, respectively: divided yield of zero
percent for both periods: expected volatility of 100 and 94.8 percent, risk-free
interest rates of 5.0 for the quarters ended June 14, 1999and 5.77 percent and
5.45 percent for quarters ended June 14, 1999 and expected lives of 2 years for
both periods. The compensation cost disclosed above may not be representative of
the effects on reported income in future quarters, for example, because options
vest over several years and additional awards are made each year.
NOTE 6: MERGER
On January 29, 1999, Rally's and Checkers announced the
signing of a definitive merger agreement pursuant to which both companies would
merge in an all stock transaction, (the "Merger"). The Merger agreement provides
that each outstanding share of Rally's stock will be exchanged for 1.99 shares
of Checkers stock. Immediately following the Merger, the Checkers common stock
will undergo a one-for-twelve reverse split resulting in total common shares
outstanding of approximately 9,387,859. In addition, each of Rally's outstanding
stock options (5.7 million at June 14, 1999) will be exchanged for Checkers
options at an exchange rate of 1 to 1.99. The approximate 19.1 million shares of
Checkers common stock which Rally's owns will be retired following the Merger.
Checkers and Rally's have each received investment bankers' opinions as to the
fairness of the exchange rate used in the Merger. The transaction is subject to
certain approvals, including but not limited to approval by the shareholders of
Checkers and Rally's, and is expected to close August 9, 1999.
At June 14, 1999, Rally's owned 19,130,930 shares (26.06
percent) of the outstanding common stock of Checkers and public shareholders
owned the remaining 54,277,177 shares of Checkers common stock. Checkers will
issue 58,377,134 shares of its common stock to Rally's shareholders in exchange
for all the outstanding common stock of Rally's (29,335,243 outstanding shares)
at a 1 to 1.99 exchange ratio. After the transaction, Rally's shareholders will
own 58,377,134 shares (51.8 percent of the outstanding common stock of the new
Checkers) and the remaining 54,277,117 shares (48.2 percent of Checkers common
stock) will then be held by then current shareholders of Checkers.
The Merger transaction will be accounted for under the
purchase method of accounting and will be treated as a reverse acquisition as
the stockholders of Rally's will receive the larger portion of the voting
interests in the combined enterprise. Accordingly, Rally's is considered the
acquirer for accounting purposes and therefore, Checkers' assets and liabilities
will be recorded based upon their fair market value.
10
<PAGE>
The following pro forma condensed consolidated financial data
sets forth certain pro forma financial information giving effect to the Merger.
The pro forma financial information is based on, and should be read in
conjunction with the historical consolidated financial statements of each of the
companies and the notes related thereto.
The pro forma condensed consolidating balance sheet gives
effect to the issuance of 58,377,134 shares of Checkers common stock in exchange
for 29,335,243 shares of Rally's common stock, based upon the per share price of
Checkers common shares at $0.531 and a one-for twelve reverse split, assuming
the Merger had occurred June 14, 1999:
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
CHECKERS RALLY'S
JUNE 14, JUNE 14, PRO FORMA
1999 1999 ADJUSTMENTS MERGED
-------- --------- ----------- ---------
<S> <C> <C> <C> <C>
ASSETS:
Total current assets 11,270 17,049 -- 28,319
Property and equipment, net 76,994 60,277 137,271
Investment in affiliate, including net goodwill
of $11,572 after accumulated amortization -- 22,117 A) (22,117) --
Intangibles, net of accumulated amortization 9,710 22,924 G) 20,113 52,747
Other assets, net of accumulated amortization 1,228 2,030 -- 3,258
-------- --------- -------- ---------
$ 99,202 $ 124,397 $ (2,004) $ 221,595
======== ========= ======== =========
LIABILITIES:
Current liabilities 36,695 21,678 B) 1,500 59,873
Senior notes, net of discount, less current maturities -- 52,184 52,184
Long-term debt and capital lease obligations, less
current maturities 11,560 13,203 24,763
Minority interests in joint ventures 586 -- 586
Other long-term liabilities 8,036 4,061 12,097
-------- --------- -------- ---------
Total liabilities 56,877 91,126 1,500 149,503
STOCKHOLDERS' EQUITY:
Preferred stock -- -- -- --
Common stock 73 2,961 C) (3,025) 9
Additional paid-in capital 121,579 97,346 D) (81,914) 137,011
Retained deficit (78,927) (64,928) E) 78,927 (64,928)
-------- --------- -------- ---------
42,725 35,379 (6,012) 72,092
Less treasury stock, at cost (400) (2,108) F) 2,508 --
-------- --------- -------- ---------
Net stockholders' equity 42,325 33,271 (3,504) 72,092
-------- --------- -------- ---------
$ 99,202 $ 124,397 $ (2,004) $ 221,595
======== ========= ======== =========
</TABLE>
A) Pro forma adjustment to record the elimination of Rally's original
investment of $10,545 in Checkers common stock and the reclassification to
intangibles of $11,572 of goodwill associated with Rally's investment in
Checkers.
B) Pro forma adjustment to accrue estimated transaction costs related to the
Merger.
C) Pro forma adjustments to record the issuance of 58,377 shares of Checkers
common stock in exchange for Rally's outstanding shares, $58; to eliminate
the previous common stock account of Rally's, ($2,961); to eliminate the
par value associated with Rally's investment in Checkers common stock,
($19); and to effect a one-for-twelve reverse split, ($103).
D) Pro forma adjustments, in accordance with reverse acquisition accounting,
to record the fair value of the outstanding 54,277 shares of common stock
of Checkers valued at $0.531 per share, $28,767 which is net of related par
value; eliminate the previous treasury stock of Rally's, ($2,108);
eliminate the previous additional paid-in capital account of Checkers,
($121,579); to reduce additional paid in capital for the par value of the
58,377 shares issued to Rally's shareholders, ($58); to eliminate the
previous common stock account of Rally's, $2,961; to attribute a $10,000
estimated fair value to the outstanding Checkers stock options and
warrants, and effect a one-for-twelve reverse split, $103.
E) Pro forma adjustments to record the elimination of the retained deficit
account of Checkers.
F) Pro forma adjustment to eliminate the previous treasury stock of Checkers,
$400, as well as the treasury stock of Rally's, $2,108 which is cancelled
as a result of the Merger.
G) Pro forma adjustment to record goodwill of $8,541 associated with the
Merger and the reclassification of $11,572 of goodwill associated with
Rally's original investment in Checkers (see A).
NOTE: The final adjustments to value the outstanding Checkers options and
warrants as well as final adjustments to the fair value of assets and
liabilities as a result of the Merger will not be known until the Merger is
completed.
11
<PAGE>
The following unaudited pro forma condensed consolidating
statement of operations sets forth certain pro forma financial information
giving effect to the Merger, assuming the Merger had occurred December 29, 1997:
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
CHECKERS RALLY'S
TWO QUARTERS TWO QUARTERS
ENDED ENDED PRO FORMA
JUNE 14, 1999 JUNE 14, 1999 ADJUSTMENTS MERGED
------------- ------------- ----------- ---------
<S> <C> <C> <C> <C>
TOTAL REVENUES $ 65,779 $ 66,487 $ 132,266
-------- -------- ------- ---------
COSTS AND EXPENSES:
Restaurant operating costs 54,707 52,175 106,882
Advertising expense 4,066 4,097 8,163
Other expenses 160 705 865
Other depreciation and amortization 907 1,141 H) 388 2,436
General and administrative expense 6,142 6,056 I) (176) 12,022
SFAS 121 provisions 22 -- 22
-------- -------- ------- ---------
Total cost and expenses 66,004 64,174 212 130,390
-------- -------- ------- ---------
Operating (loss) income (225) 2,313 (212) 1,876
Other income (expense):
Interest income 106 300 406
Gains on bond repurchases -- 454 454
Loss on investment in affiliate -- (884) J) 884 --
Interest expense (2,350) (3,357) (5,707)
-------- -------- ------- ---------
Loss before minority interest, income taxes (2,469) (1,174) 672 (2,971)
Minority interests in (losses) earnings (186) -- (186)
-------- -------- ------- ---------
Loss before income taxes (2,283) (1,174) 672 (2,785)
Income taxes -- 74 74
-------- -------- ------- ---------
Net (loss) earnings $ (2,283) $ (1,248) $ 672 $ (2,859)
======== ======== ======= =========
Comprehensive (loss) earnings $ (2,283) $ (1,248) $ 672 $ (2,859)
======== ======== ======= =========
Net (loss) income per common share (basic and diluted) $ (0.03) $ (0.04) $ (0.30)
======== ======== =========
Weighted average number of common shares
(basic and diluted) 73,408 29,335 K) 9,388
======== ======== =========
</TABLE>
H) Pro forma adjustment to increase the amortization of goodwill associated
with the Merger.
I) Pro forma adjustment to eliminate excess public company expenses recorded
on Rally's.
J) Pro forma adjustment to eliminate loss from the Rally's equity investment
in Checkers.
K) The merged weighted average number of common shares outstanding consists of
112,654 shares immediately following the Merger, effected for the
one-for-twelve reverse split.
12
<PAGE>
The following unaudited pro forma condensed consolidating
statement of operations sets forth certain pro forma financial information
giving effect to the Merger, assuming the Merger had occurred December 29, 1997:
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
CHECKERS RALLY'S
FISCAL YEAR FISCAL YEAR
ENDED ENDED
DECEMBER 28, DECEMBER 28, PRO FORMA
1998 1998 ADJUSTMENTS MERGED
------------ ------------ ----------- ---------
<S> <C> <C> <C> <C>
TOTAL REVENUES $ 145,708 $ 144,952 $ 290,660
--------- --------- -------- ---------
COSTS AND EXPENSES:
Restaurant operating costs 119,416 113,782 233,198
Advertising expense 6,921 9,853 16,774
Other expenses 516 647 1,163
Other depreciation and amortization 2,275 2,503 H) 842 5,620
General and administrative expense 13,309 13,404 I) (380) 26,333
SFAS 121 provisions 2,953 3,362 6,315
--------- --------- -------- ---------
Total cost and expenses 145,390 143,551 462 289,403
--------- --------- -------- ---------
Operating income (loss) 318 1,401 (462) 1,257
Other income (expense):
Interest income 272 480 752
Loss on investment in affiliate -- (2,019) J) 2,019 --
Interest expense (6,007) (7,145) -- (13,152)
--------- --------- -------- ---------
Loss before minority interest and income tax
expense (benefit) (5,417) (7,283) 1,557 (11,143)
Minority interests in operations of joint ventures (73) -- (73)
--------- --------- -------- ---------
Loss before income tax expense (benefit) (5,344) (7,283) 1,557 (11,070)
Income tax expense (benefit) -- 252 252
--------- --------- -------- ---------
Net (loss) earnings (5,344) (7,535) 1,557 (11,322)
========= ========= ======== =========
Comprehensive (loss) earnings $ (5,344) $ (7,535) $ 1,557 $ (11,322)
========= ========= ======== =========
Net loss per common share (basic and diluted) $ (0.07) $ (0.28) $ (1.21)
========= ========= =========
Weighted average number of common shares
(basic and diluted) 73,388 27,170 K) 9,388
========= ========= =========
</TABLE>
H) Pro forma adjustment to increase the amortization of goodwill associated
with the Merger.
I) Pro forma adjustment to eliminate excess public company expenses recorded
on Rally's.
J) Pro forma adjustment to eliminate loss from the Rally's equity investment
in Checkers.
K) The merged weighted average number of common shares outstanding consists of
112,654 shares immediately following the Merger, effected for the
one-for-twelve reverse split.
13
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
INTRODUCTION
The principal business of Rally's Hamburgers, Inc. (the
"Company", "Rally's") is the operation and franchising of Rally's restaurants.
At June 14, 1999, the Rally's system included 468 restaurants, comprised of 228
Company-owned and operated, 240 franchised restaurants, including 25
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 in 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.
On January 29, 1999, Rally's and Checkers Drive-In
Restaurants, Inc. ("Checkers") announced the signing of a definitive merger
agreement pursuant to which both companies would merge in an all stock
transaction (the "Merger"). The Merger agreement provides that each outstanding
share of Rally's stock will be exchanged for 1.99 shares of Checkers stock. The
approximate 19.1 million shares of Checkers common stock which Rally's owns will
be retired following the Merger. Subject to shareholder approval, the companies
expect to complete the Merger effective August 9, 1999. See Note 6 to the
condensed consolidated financial statements.
On November 30, 1997, a Management Services Agreement was
established between Rally's and Checkers pursuant to which Checkers is providing
accounting, information technology and other management services to Rally's. At
the same time, a new management team was hired to provide the operational and
functional expertise necessary to explore the opportunities and potential
synergies available to both companies. The relationship between Rally's and
Checkers provided reductions in general and administrative expenses for both
companies. Rally's corporate office in Louisville, Kentucky was closed in
January 1998 as were various regional offices of both companies. The Management
Services Agreement also provided for the supervision of both Checkers and
Rally's operations by a single Regional Vice President, which increased spans of
control with fewer personnel. Rally's general and administrative expenses during
the quarter were approximately $199,000 below the same quarter of the prior
year. The number of markets that contain both Checkers and Rally's units is
limited and no markets in which either company utilizes broadcast media is
shared. Therefore, the companies combined their advertising creative and media
buying with one agency in August of 1998 which resulted in similar commercials
running for both companies with savings of agency fees and production costs.
Although both companies have benefited greatly by participating in the
purchasing cooperative with CKE, further savings were realized during the year
as product specifications were matched where possible.
Comparable store sales at Rally's were 5.8% above the same
quarter of the prior year. The Company continues to benefit from the
introduction of a two-patty platform that has enabled the Company to offer a
lower priced burger to the price conscious consumer while also offering the new
Super Rallyburger to customers desiring a premium product. Offering a lower
priced burger with a smaller patty has enabled the Company to remain competitive
at the $0.99 price point while controlling food and labor costs at the same
time.
Critical to the success of these and other menu offerings was
the operational and marketing focus on serving fresh food. The transition to a
new advertising agency resulted in the utilization of a new positioning
statement "Fresh, because we just made it" to emphasize the commitment to serve
fresh hot food to every customer. This message was primarily communicated to
consumers via television advertising.
The Company is currently evaluating alternatives for
refinancing or repaying the outstanding Senior Notes that mature in June 2000.
These alternatives include a sale-leaseback transaction or additional mortgage
financing. Other options include the sale of certain Company-owned markets to
current or new franchisees in transactions that would provide immediate funds to
reduce debt and would also provide a continued source of income through future
royalties.
The Company's revenues are derived primarily from
Company-owned restaurant sales and royalty fees from franchisees. Rally's 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). 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
expenses relate directly to Company-owned restaurants. General and
administrative expenses relate to both Company-owned restaurants and franchise
operations. Owner expenses relate to CKE-operated restaurants and consist
primarily of depreciation and amortization.
14
<PAGE>
RESULTS OF OPERATIONS
The table below sets forth the percentage relationship to total
revenues, unless otherwise indicated, of certain items included in the Company's
condensed consolidated statements of operations and operating data for the
periods indicated:
<TABLE>
<CAPTION>
QUARTER ENDED TWO QUARTERS ENDED
(UNAUDITED) (UNAUDITED)
----------------------- -----------------------
JUNE 14, JUNE 14, JUNE 14, JUNE 14,
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
REVENUES
Restaurant sales 96.7% 96.3% 96.6% 96.3%
Franchise revenues and fees 2.9% 3.2% 3.0% 3.2%
Owner fee income 0.4% 0.5% 0.5% 0.5%
----- ----- ----- -----
Total revenues 100% 100% 100% 100%
----- ----- ----- -----
COSTS AND EXPENSES
Restaurant food and paper costs (1) 31.4% 31.7% 30.5% 32.0%
Restaurant labor costs (1) 29.8% 31.2% 31.0% 31.3%
Restaurant occupancy expense (1) 5.2% 5.0% 5.6% 5.0%
Restaurant depreciation and amortization (1) 4.6% 5.1% 5.0% 5.2%
Other restaurant operating expenses (1) 8.7% 8.9% 9.1% 8.8%
Advertising expense (1) 6.5% 8.3% 6.4% 6.8%
Owner depreciation (2) 216.1% 85.8% 216.1% 85.7%
Other depreciation and amortization 1.6% 1.6% 1.7% 1.8%
General and administrative expense 8.2% 8.1% 9.1% 9.4%
Loss provisions 0.0% 2.5% 0.0% 1.3%
----- ----- ----- -----
Operating income 6.1% 0.7% 3.5% 1.2%
----- ----- ----- -----
OTHER INCOME (EXPENSE)
Interest income 0.3% 0.2% 0.5% 0.2%
Gains on bond repurchases 0.5% -- 0.7% --
Loss on investment in affiliate 1.2% 0.6% 1.3% 0.4%
Interest expense (4.6)% (4.9)% (5.0)% (5.1)%
----- ----- ----- -----
Loss before income tax expense 1.1% (4.6)% (1.8)% (3.9)%
Income tax expense 0.1% 0.1% 0.1% 0.1%
----- ----- ----- -----
Net loss 1.0% 4.6% (1.9)% 4.6%
===== ===== ===== =====
(1) As a percent of restaurant sales.
(2) As a percent of owner fee income.
Number of restaurants (system-wide):
Restaurants open at the beginning of period 469 478 475 477
----- ----- ----- -----
Company restaurants opened (closed or transferred),
net during period 3 1 2 1
Franchised restaurants opened (closed or transferred),
net during period (4) 5 (9) 6
----- ----- ----- -----
Total restaurants opened (closed or transferred),
net during period (1) 6 (7) (1)
----- ----- ----- -----
Total restaurants open at end of period 468 484 468 484
===== ===== ===== =====
</TABLE>
15
<PAGE>
COMPARISON OF HISTORICAL RESULTS - QUARTER ENDED JUNE 14, 1999 AND QUARTER ENDED
JUNE 14, 1998
REVENUES. Total revenue for the quarter ended June 14, 1999 of
$36.4 million reflects a increase of $1.9 million from the revenue of $34.5
million that was recognized for the quarter ended June 14, 1998. Comparable
store sales for Company-owned restaurants increased 5.8% compared to the same
twelve weeks of the prior year. Comparable Company-owned restaurants are those
continuously open during both reporting periods.
COSTS AND EXPENSES. Restaurant food and paper cost decreased
to 31.4% of restaurant sales in the quarter ended June 14, 1999 compared to
31.7% of restaurant sales in the quarter ended June 14, 1998. The decrease is
due primarily to the introduction of the two-patty platform that utilizes a
smaller hamburger patty for the value conscious customer.
Restaurant labor costs, which includes restaurant employees'
salaries, wages, benefits and related taxes decreased to 29.8% of restaurant
sales for the quarter ended June 14, 1999 compared to 31.2% of restaurant sales
for the quarter ended June 14, 1998. This decrease is due primarily to the
impact of operating at a higher sales levels.
Restaurant occupancy expense, which includes rent, property
taxes, licenses and insurance totaled $1.8 million or 5.2% of restaurant sales
for the quarter ended June 14, 1999 compared to $1.7 million or 5.0% of
restaurant sales for the quarter ended June 14, 1998. The dollar increase is due
primarily to increased insurance and rental costs.
Restaurant depreciation and amortization decreased to $1.6
million for the quarter ended June 14, 1999 compared to $1.7 million for the
quarter ended June 14, 1998. This decrease was due to certain assets becoming
fully depreciated since the end of the quarter ended June 14, 1998 and the net
reduction of two units since that time period.
Other restaurant operating expenses include all other
restaurant level operating expenses other than food and paper costs, labor and
benefits, rent and other occupancy costs and specifically includes utilities,
maintenance and other costs. These expenses totalled $3.0 million or 8.7% of
restaurant sales for the quarter ended June 14, 1999 compared to $3.0 million or
8.9% of restaurant sales during the quarter ended June 14, 1998. This decrease
as a percent of net restaurant sales is primarily due to the efficiencies gained
by operating at a higher sales level.
Advertising expense decreased to $2.3 million or 6.5% of
restaurant sales for the quarter ended June 14, 1999 compared to $2.7 million or
8.3% of restaurant sales for the quarter ended June 14, 1998. The decrease is
due to reduced television spending and agency fees in the current fiscal quarter
as compared to the comparable second quarter in the prior year.
Owner expenses of $352,000 for the quarter ended June 14, 1999
represent the Company's segregated ownership cost related to the 25 units
operated by CKE. These expenses, consisting primarily of depreciation and
amortization associated with the properties, have increased by $207,000 from the
quarter ended June 14, 1998 due to a reduction in the estimated lives of the
underlying assets.
The loss on investment in affiliate of $450,000 for the
quarter ended June 14, 1999 and $199,000 for the quarter ended June 14, 1998
represents the Company's share of the income (loss) of Checkers and the
amortization of related goodwill.
General and administrative expenses were $3.0 million for the
quarter ended June 14, 1999 compared to $2.8 million for the quarter ended June
14, 1998. This increase is due to additional recruiting, relocation and training
costs incurred during the second quarter of 1999.
INTEREST EXPENSE. Interest expense was $1.7 million for the
quarter ended June 14, 1999 and $1.7 million for the quarter ended June 14,
1998.
INTEREST INCOME. Interest income increased by $34,000 for the
quarter ended June 14, 1999 to $112,000 compared to $78,000 for the quarter
ended June 14, 1998 due to increases in the average daily invested amounts.
INCOME TAX. The Company's net tax provision for both quarters
represents estimated state income taxes expected to be payable for both years.
The Company has continued not recording a net tax benefit for the current book
losses due to uncertainty of their ultimate realization.
COMPARISON OF HISTORICAL RESULTS - TWO QUARTERS ENDED JUNE 14, 1999 AND TWO
QUARTERS ENDED JUNE 14, 1998
REVENUES. Total revenue for the two quarters ended June 14,
1999 of $66.5 million reflects a decrease of $126,000 from the revenue of $66.6
million that was recognized for the two quarters ended June 14, 1998. Comparable
store
16
<PAGE>
sales for Company-owned restaurants remained consistent with the same 24 weeks
of the prior year. Comparable Company-owned restaurants are those continuously
open during both reporting periods.
COSTS AND EXPENSES. Restaurant food and paper cost decreased
to 30.5% of restaurant sales in the two quarters ended June 14, 1999 compared to
32.0% of restaurant sales in the two quarters ended June 14, 1998. The decrease
is due primarily to the introduction of the two-patty platform that utilizes a
smaller hamburger patty for the value conscious customer enabling the Company to
increase margins on lower priced menu items.
Restaurant labor costs, which includes restaurant employees'
salaries, wages, benefits and related taxes decreased $150,000 to 31.0% of
restaurant sales for the two quarters ended June 14, 1999 compared to 31.3% of
restaurant sales for the two quarters ended June 14, 1998.
Restaurant occupancy expense, which includes rent, property
taxes, licenses and insurance totaled $3.6 million or 5.6% of restaurant sales
for the two quarters ended June 14, 1999 compared to $3.2 million or 5.0% of
restaurant sales for the two quarters ended June 14, 1998. The dollar increase
is due primarily to increased insurance and rental costs.
Restaurant depreciation and amortization decreased to $3.2
million for the two quarters ended June 14, 1999 compared to $3.4 million for
the two quarters ended June 14, 1998. This decrease was due to certain assets
becoming fully depreciated since the end of the two quarters ended June 14, 1998
and the net reduction of two units since that time period.
Other restaurant operating expenses include all other
restaurant level operating expenses other than food and paper costs, labor and
benefits, rent and other occupancy costs and specifically includes utilities,
maintenance and other costs. These expenses increased to $5.9 million or 9.1% of
restaurant sales for the two quarters ended June 14, 1999 compared to $5.6
million or 8.8% of restaurant sales during the two quarters ended June 14, 1998,
due to increased repair and maintenance expenditures.
Advertising expense decreased to $4.1 million or 6.4% of
restaurant sales for the two quarters ended June 14, 1999 compared to $4.4
million or 6.8% of restaurant sales for the two quarters ended June 14, 1998.
The decrease is due to reduced television and radio spending and lower agency
fees in the current two quarters as compared to the comparable first two
quarters in the prior year.
Owner expenses of $705,000 for the two quarters ended June 14,
1999 represent the Company's segregated ownership cost related to the 25 units
operated by CKE. These expenses, consisting primarily of depreciation and
amortization associated with the properties, have increased by $424,000 from the
two quarters ended June 14, 1998 due to a reduction in the estimated lives of
the underlying assets.
The loss on investment in affiliate of $884,000 for the two
quarters ended June 14, 1999 and $241,000 for the two quarters ended June 14,
1998 represents the Company's share of the income (loss) of Checkers and the
amortization of related goodwill.
General and administrative expenses were $6.1 million for the
two quarters ended June 14, 1999 compared to $6.3 million for the two quarters
ended June 14, 1998. This reduction is due to additional savings associated with
the Management Services Agreement with Checkers which gained the most
significant effect in the middle of the first quarter of 1998.
INTEREST EXPENSE. Interest expense was $3.4 million for the
two quarters ended June 14, 1999 and $3.4 million for the two quarters ended
June 14, 1998.
INTEREST INCOME. Interest income increased by $145,000 for the
two quarters ended June 14, 1999 to $300,000 compared to $155,000 for the two
quarters ended June 14, 1998 due to increases in the average daily invested
amounts.
INCOME TAX. The Company's net tax provision for both quarters
represents estimated state income taxes expected to be payable for both years.
The Company has continued not recording a net tax benefit for the current book
losses due to uncertainty of their ultimate realization.
LIQUIDITY AND CAPITAL RESOURCES
Rally's cash flow from operating activities was approximately
$10.6 million for the two quarters ended June 14, 1999 compared with $2.5
million for the two quarters ended June 15, 1998. The notable increase from 1998
to 1999 resulted primarily from reduced net losses and increased balances in
accounts payable and accrued liabilities compared to the prior year.
17
<PAGE>
Capital expenditures of approximately $1.2 million for the two
quarters ended June 14, 1999 were funded primarily through cash flow from
operations. Approximately $224,000 of these expenditures were for the
construction or conversion of new stores in 1999. Additionally, in 1999,
$212,000 was spent to add dining rooms to test units. Remaining capital
expenditures in 1999 of $799,000 were primarily for the purchase and
installation of certain replacement equipment.
During 1998 and prior to December 18, 1998, Rally's
repurchased on the open market approximately $1.7 million face value of its
Senior Notes at an average price of $887.90 per $1,000 principal amount. During
the third quarter of 1998, the Company completed the required mandatory sinking
fund payment due June 15, 1999 calculated to retire 33 1/3% in aggregate
original principal amount of the Senior Notes. On December 18, 1998, Rally's
entered into a $4.3 million mortgage transaction with FFCA Acquisition
Corporation pursuant to which eight fee-owned properties were mortgaged. The
terms of the transaction include a stated interest rate of 9.5% on the unpaid
balance over a 20 year term with monthly payments totaling approximately
$40,000. Rally's is required to utilize the entire net proceeds to reduce the
Senior Notes. Purchases on the open market were initiated immediately after the
mortgage was finalized and will be completed as notes become available on the
open market. As of June 14, 1999, the Company had utilized $3.9 million of the
proceeds to repurchase $4.5 million face value of the Senior Notes.
The Company is actively marketing the assets included in the
caption "Assets held for sale" in the accompanying consolidated balance sheet
and expects realization in cash over the next 12 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 fair market value less costs to
sell. There can be no assurances that these values will ultimately be realized.
On July 1, 1996, Rally's entered into a ten-year operating
agreement with Carl Karcher Enterprises, Inc., a subsidiary of CKE Restaurants,
Inc. (collectively referred to as "CKE"). Pursuant to the agreement, 27 (2 of
which have been converted to a Carl's Jr. format) Rally's-owned restaurants
located in California and Arizona are being operated by CKE. The Company retains
ownership in the restaurants and receives from CKE a percentage of gross
revenues referred to in the financial statements as owner fee income. This
income is offset by the Company's segregated ownership costs related to these
units, referred to as owner depreciation in the financial statements and
consists primarily of noncash expenses of depreciation and amortization. The
agreement has improved cash flow, generating approximately $714,000 in 1998 and
$326,000 in the two quarters ended June 14, 1999.
The Company has a working capital deficit of $4.6 million at
June 14, 1999. It is anticipated that the Company will continue to have a
working capital deficit since approximately 86% of the Company's assets are
long-term (primarily property, equipment, investment in affiliate and
intangibles), and since all operating trade payables, accrued expenses, and
property and equipment payables are current liabilities of the Company. At June
14, 1999, a significant portion ($52.2 million) of the Company's long-term
liabilities relate to the Company's Senior Notes that mature on June 15, 2000.
The Company is currently evaluating alternatives for refinancing or repaying the
outstanding Senior Notes that mature in June 2000. These alternatives include a
sale-leaseback transaction or additional mortgage financing. Other options
include the sale of certain company-owned markets to current or new franchisees
in transactions that would provide immediate funds to reduce debt and would also
provide a continued source of income through future royalties. There can be no
assurance that the Company will be able to satisfy the entire principal balance
of the Senior Notes on the maturity date of June 15, 2000.
On January 29, 1999, Rally's and Checkers Drive-In
Restaurants, Inc. ("Checkers") announced the signing of a definitive merger
agreement pursuant to which both companies would merge in an all stock
transaction (the "Merger"). The Merger agreement provides that each outstanding
share of Rally's stock will be exchanged for 1.99 shares of Checkers stock. The
approximate 19.1 million shares of Checkers common stock which Rally's owns will
be retired following the Merger. Subject to shareholder approval, the companies
expect to complete the Merger effective August 9, 1999. See Note 6: "Merger" to
the condensed consolidated financial statements for discussion of the Merger
with Checkers.
Checkers has a working capital deficit of $25.4 million at
June 14, 1999. It is anticipated that Checkers will continue to have a working
capital deficit since approximately 89% of Checkers assets are long-term
(primarily property, equipment, and intangibles), and since all operating trade
payables, accrued expenses, and property and equipment payables are current
liabilities of Checkers. At June 14, 1999, a significant portion ($17.4 million)
of Checkers debt relates to Checkers Restated Credit Agreement which originally
was to mature on July 31, 1999. During March and April 1999, Santa Barbara
Restaurant Group, Inc. ("SBRG"), a company which is an 8.2% owner of Rally's
acquired approximately $4.9 million of debt due to three members of the lender
group. The terms associated with the SBRG debt are identical to terms that other
participants of the lender group have pursuant to the Restated Credit Agreement.
On March 24, 1999, SBRG and the other remaining members of the lender group
agreed to an extension of the maturity date to April 30, 2000. As of June 11,
1999, Fidelity National Financial, Inc. owned approximately 29% of the
outstanding common stock of SBRG.
18
<PAGE>
Management has plans in place to improve profitability and
cash flows from operations. The Company believes existing cash balances and cash
flow from operations should be sufficient to fund its current operations and
obligations for the remainder of fiscal year 1999. 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. In addition, the Company is evaluating other alternatives
for the repayment and refinancing of the Senior Notes. If the Company is unable
to refinance the debt in full, management of the Company is evaluating a series
of sale-leaseback or mortgage transactions and the possibility of selling
Company-owned stores in certain markets to existing and potentially new
franchisees. Management also anticipates that further debt reductions may also
be accomplished by completing a private placement of preferred or common stock
during the twelve months preceding the maturity date of the Senior Notes. There
can be no assurance that the Company will be able to satisfy the entire
principal balance of the Senior Notes on the maturity date of June 15, 2000.
YEAR 2000
The Year 2000 problem arose because many existing computer
programs use only the last two digits to refer to a year. Therefore, these
computer programs do not properly recognize a year that begins with "20" instead
of "19". Pursuant to the terms of the Management Services Agreement that exists
between Rally's and Checkers, the information technology department of Checkers
has completed an assessment of all known internal information technology (IT)
systems of Rally's and Checkers to document the state of readiness.
Administrative services such as accounting and payroll are
provided to Rally's by Checkers. Checkers utilizes accounting software packages
such as Lawson (general ledger/accounts payable) and Cyborg (payroll) that
require periodic upgrades to benefit from the latest modifications to the
programs. Typically, all releases of such upgrades must be implemented,
eliminating a company's ability to move directly to the most recent release.
During 1998, Checkers successfully implemented all required releases of both
Lawson and Cyborg that preceded the Year 2000 compliant release. The consulting,
training and implementation required for the next Lawson and Cyborg upgrades are
underway with targeted implementation dates during the third quarter of 1999 at
a total cost to Rally's of approximately $75,000. Costs of replacing certain
desktop computers and other required modifications at the corporate office are
not expected to exceed $70,000. Pursuant to the Management Services Agreement
that exists between Rally's and Checkers, the costs of compliance of shared
corporate office systems are allocated between the two companies. The upgrade of
corporate office systems is approximately 75% complete and should be finalized
by September 30, 1999.
An assessment of the computer systems utilized at the store
level has also been completed. While the cash registers that are used for each
transaction are Year 2000 compliant, the back-office computer and related
software is not. The back-office computer is utilized for capturing and
controlling such items as payroll and food cost and is required to sustain
communication of this and other data to the corporate office. The Company has
purchased new computer systems and has begun the installation of the software
currently utilized by the Checkers restaurants. Completion of the rollout is
expected by September 30, 1999. The estimated cost of the project is
approximately $500,000.
Rally's is continuing to identify third parties that must be
Year 2000 compliant to ensure the continued success of our operations. Letters
requesting written verification of compliance have been set to companies that
provide financial services, utilities, inventory preparation and distribution
and other key services. Rally's has not been notified of any anticipated Year
2000 related failures by these third parties but it can not be assured that all
such entities will be operating on January 1, 2000. The distribution centers
that deliver products to the restaurants maintain an adequate inventory to
supply items for approximately three weeks. If suppliers are unable to deliver
product to the distribution centers due to Year 2000 or other plant
malfunctions, alternative suppliers are currently identified that could deliver
product that matches Rally's specifications. Rally's has obtained verification
of Year 2000 compliance from its primary distributor. If documentation of Year
2000 compliance is not received from financial institutions by November 1, 1999,
Rally's will transfer its banking relationships to other banks at an incremental
cost not expected to exceed $100,000. No contingency plans are available if the
utility services for the restaurants are interrupted due to Year 2000 failures.
Although the Company's systems are not currently fully Year
2000 compliant, management feels that risk in this area is minimal. The most
significant exposure exists in the planned rollout of a back-office computer
system at the store level. Failure to complete this project in a timely manner
would require the temporary installation of a manual payroll system at the store
level and the food cost controls that are provided by the current and proposed
systems would be lost resulting in higher cost of sales. As the cash registers
would remain operable, the Company's restaurants would remain open for business.
If Checkers is unable to implement the upgrade to the payroll
system, Rally's would be able to utilize a third party to process payroll at a
cost of approximately $125,000 per year. Contingency plans related to the
accounting software package are still under development.
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
LITIGATION - JONATHAN MITTMAN ET AL. V. RALLY'S HAMBURGERS,
INC., ET AL. (Case NO. C-94-0039-L-CS). In January and February 1994, two
putative class action lawsuits were filed, purportedly on behalf of the
stockholders of Rally's, in the United States District Court for the Western
District of Kentucky, Louisville division, against Rally's, Burt Sugarman and
GIANT and certain of Rally's present and former officers and directors and its
auditors. The cases were subsequently consolidated under the case name Jonathan
Mittman et al vs. Rally's Hamburgers, Inc., et al, case number C-94-0039-L (CS).
The complaints allege defendants violated the Securities Exchange Act of 1934,
among other claims, by issuing inaccurate public statements about the Company in
order to arbitrarily inflate the price of its common stock. The plaintiffs seek
unspecified 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 despite opposition by the defendants, the Court granted such motion
for class certification on April 16, 1996, certifying a class from July 20, 1992
to September 29, 1993. 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 position as both a former director of Rally's and a partner
in Christensen, Miller. Defendants filed an opposition to the motion, and the
motion to disqualify Christensen, Miller was denied. A settlement conference
occurred on December 7, 1998, but was unsuccessful. Fact discovery is not yet
complete, but it is anticipated that a deadline for completion of fact discovery
will be set during 1999. No trial date has been set. Management is unable to
predict the outcome of this matter at the present time or whether or not certain
available insurance coverages will apply. The defendants deny all wrongdoing and
intend to defend themselves vigorously in this matter. 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. 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.
HARBOR FINANCE PARTNERS V. GIANT GROUP, LTD. ET AL. (Civ. Act.
No. 14834). In February 1996, Harbor Finance Partners ("Harbor") commenced a
derivative action, purportedly on behalf of Rally's against GIANT and certain of
Rally's 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 from GIANT
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. The Chancery Court
conducted a hearing on November 26, 1996 and denied the motions to dismiss on
April 3, 1997. Discovery is underway. No trial date has been set. The Company
denies all wrongdoing and intends to vigorously defend the action. It is not
possible to predict the outcome of this action at this time.
FIRST ALBANY CORP., AS CUSTODIAN FOR THE BENEFIT OF NATHAN
SUCKMAN V. CHECKERS DRIVE-IN RESTAURANTS, INC. ET AL. Case No. 16667. This
putative class action was filed on September 29, 1998, in the Delaware Chancery
Court in and for New Castle County, Delaware by an alleged stockholder of 500
shares of the common stock of Checkers. The complaint names the Company and
certain of its current and former officers and directors as defendants including
William P. Foley, II, James J. Gillespie, Harvey Fattig, Joseph N. Stein, James
T. Holder, Terry N. Christensen, Burt Sugarman and C. Thomas Thompson. The
Complaint also names Checkers and GIANT as defendants. The complaint arises out
of the proposed merger announced on September 28, 1998 between Rally's, Checkers
and GIANT (the "Proposed Merger") and alleges generally, that certain of the
defendants engaged in an unlawful scheme and plan to permit Rally's to acquire
the public shares of the common stock of Checkers in a "going-private"
transaction for grossly inadequate consideration and in breach of the
defendants' fiduciary duties. The plaintiff allegedly initiated the Complaint on
behalf of all stockholders of Checkers as of September 28, 1998, and seeks INTER
ALIA, certain declaratory and injunctive relief against the consummation of the
Proposed Merger, or in the event the Proposed Merger is consummated, recision of
the Proposed Merger and costs and disbursements incurred in connection with
bringing the action, including attorney's fees, and such other relief as the
Court may deem just and proper. In view of a decision by Rally's, GIANT and
Checkers not to implement the transaction that had been announced on September
28, 1998, plaintiffs have agreed to provide the Company and all other defendants
with an open extension of time to respond to the complaint. Plaintiffs have
indicated that they will likely file an amended complaint in the event of the
consummation of a merger between Rally's and Checkers. The Company believes the
lawsuit is without merit and intends to defend it vigorously. No estimate of
possible loss or range of loss resulting from the lawsuit can be made at this
time.
19
<PAGE>
DAVID J. STEINBERG AND CHAILE B. STEINBERG, INDIVIDUALLY AND
ON BEHALF OF THOSE SIMILARLY SITUATED V. CHECKERS DRIVE-IN RESTAURANTS, INC., ET
AL. Case No. 16680. This putative class action was filed on October 2, 1998, in
the Delaware Chancery Court in and for New Castle County, Delaware by David J.
Steinberg and Chaile B. Steinberg, alleged stockholders of an unspecified number
of shares of the common stock of Checkers. The complaint names the Company and
certain of its current and former officers and directors as defendants including
William P. Foley, II, James J. Gillespie, Harvey Fattig, Joseph N. Stein, James
T. Holder, Terry N. Christensen, Burt Sugarman and C. Thomas Thompson. The
Complaint also names Checkers and GIANT as defendants. As with the FIRST ALBANY
complaint described above, this complaint arises out of the proposed merger
announced on September 28, 1998 between the Rally's, Checkers and GIANT (the
"Proposed Merger") and alleges generally, that certain of the defendants engaged
in an unlawful scheme and plan to permit Rally's to acquire the public shares of
the Checkers' common stock in a "going-private" transaction for grossly
inadequate consideration and in breach of the defendant's fiduciary duties. The
plaintiffs allegedly initiated the Complaint on behalf of all stockholders of
Checkers as of September 28, 1998, and seeks INTER ALIA, certain declaratory and
injunctive relief against the consummation of the Proposed Merger, or in the
event the Proposed Merger is consummated, recision of the Proposed Merger and
costs and disbursements incurred in connection with bringing the action,
including attorneys' fees, and such other relief as the Court may deem just and
proper. For the reasons stated above in the description of the FIRST ALBANY
action, plaintiffs have agreed to provide the Company and all other defendants
with an open extension of time to respond to the complaint. Plaintiffs have
indicated that they will likely file an amended complaint in the event of the
consummation of a merger between Rally's and Checkers. The Company believes the
lawsuit is without merit and intends to defend it vigorously. No estimate of
possible loss or range of loss resulting from the lawsuit can be made at this
time.
The Company is involved in other litigation matters incidental
to its business. With respect to such other lawsuits, management does not
believe the litigation in which it is involved will have a material effect upon
its results of operation or financial condition.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
NASDAQ MINIMUM REQUIREMENTS-SHARE PRICE UNDER $1.00
In November, 1998, Rally's received notice from NASDAQ that
delisting could occur on February 22, 1999 if the Company's common stock failed
to maintain a closing bid greater than or equal to $1.00 for ten consecutive
trading days during the subsequent 90 day period. The Company's common stock
price did not meet that criteria and management requested and was granted an
oral hearing to present a plan of action to NASDAQ to regain compliance with
this standard. The plan of action included the merger with Checker's Drive-In
Restaurants, Inc. and a subsequent one-for-twelve reverse stock split of the new
stock. On June 18, 1999, the Company was notified by NASDAQ that its listing
would be continued through August 9, 1999, the anticipated closing date of the
merger.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27 Financial Data Schedule
(b) Reports on 8-K:
The following report on Form 8-K was filed during the quarter ended
June 14, 1999:
The Company filed a report on Form 8-K with the Securities and
Exchange Commission dated April 6, 1999, reporting under Item 5, the appointment
of Richard A. Peabody as Senior Vice President and Chief Financial Officer of
Rally's and the resignation of Joseph N. Stein as Executive Vice President and
Chief Financial Officer of Rally's and as Executive Vice President and Chief
Administrative Officer of Checkers Drive-In Restaurants, Inc.
20
<PAGE>
SIGNATURE
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.
------------------------
(Registrant)
Date: July 29, 1999 By: /s/ RICHARD A. PEABODY
----------------------------------
Richard A. Peabody
Senior Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
21
<PAGE>
JUNE 14, 1999 FORM 10-Q
RALLY'S HAMBURGERS, INC.
EXHIBIT INDEX
EXHIBIT NO. EXHIBIT DESCRIPTION
- ----------- -------------------
27 Financial Data Schedule (included in electronic filing only).
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
financial statements of Rally's Hamburgers, Inc., for the quarterly periods
ended June 14, 1999 and June 14, 1998, and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 6-MOS 6-MOS
<FISCAL-YEAR-END> JAN-03-2000 DEC-28-1998
<PERIOD-START> DEC-29-1998 DEC-29-1997
<PERIOD-END> JUN-14-1999 JUN-14-1998
<CASH> 11,606 6,045
<SECURITIES> 22,117 24,780
<RECEIVABLES> 2,431 3,690<F1>
<ALLOWANCES> 0 0
<INVENTORY> 922 1,207
<CURRENT-ASSETS> 17,049 11,990
<PP&E> 116,057 113,755
<DEPRECIATION> 55,780 48,408
<TOTAL-ASSETS> 124,397 131,232
<CURRENT-LIABILITIES> 21,678 21,721
<BONDS> 52,184 62,069
0 0
0 5
<COMMON> 2,961 2,503
<OTHER-SE> 30,310 36,838
<TOTAL-LIABILITY-AND-EQUITY> 124,397 131,232
<SALES> 64,197 64,135
<TOTAL-REVENUES> 66,487 66,614
<CGS> 56,272 57,193
<TOTAL-COSTS> 64,174 65,785
<OTHER-EXPENSES> (300) (155)
<LOSS-PROVISION> 0 885
<INTEREST-EXPENSE> (3,357) 3,374
<INCOME-PRETAX> (1,174) (2,630)
<INCOME-TAX> 74 52
<INCOME-CONTINUING> (1,248) (2,682)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (1,248) (2,682)
<EPS-BASIC> (0.04) (0.11)
<EPS-DILUTED> (0.04) (0.11)
<FN>
(1) Receivables consist of --
Accounts Receivable - net $ 1,938 $ 2,925
Notes Receivable - net 403 765
-------- --------
Total $ 2,341 $ 3,690
======== ========
</FN>
</TABLE>
