<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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 November 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 14(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _________________
Commission File Number 0-18859
SONIC CORP.
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(Exact name of registrant as specified in its charter)
Delaware 73-1371046
------------------------ ----------------
(State of Incorporation) (I.R.S. Employer
Identification No.)
101 Park Avenue
Oklahoma City, Oklahoma 73102
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(Address of Principal Executive Offices) Zip Code
Registrant's telephone number, including area code: (405) 280-7654
Indicate by check mark whether the Registrant (1) has filed all
reports required by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for the shorter period that the
Registrant has had to file the reports), and (2) has been subject to the
filing requirement for the past 90 days. Yes X . No .
----- -----
As of November 30, 1998, the Registrant had 18,931,331 shares of
common stock issued and outstanding (excluding 1,692,370 shares of common
stock held as treasury stock).
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SONIC CORP.
INDEX
Page
Number
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets at
November 30, 1998 and August 31, 1998 3
Consolidated Statements of Income for the
three months ended November 30, 1998 and 1997 4
Condensed Consolidated Statements of Cash Flows
for the three months ended November 30, 1998 and 1997 5
Notes to Condensed Consolidated Financial Statements 6
Independent Accountants' Review Report 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 2. Changes in Securities 17
Item 3. Defaults Upon Senior Securities 17
Item 4. Submission of Matters to a Vote of Security Holders 17
Item 5. Other Information 17
Item 6. Exhibits and Reports on Form 8-K 17
<PAGE>
SONIC CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
<TABLE>
<CAPTION>
(UNAUDITED)
NOVEMBER 30, AUGUST 31,
1998 1998
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<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 4,905 $ 2,602
Accounts and notes receivable, net 8,217 7,587
Other current assets 4,158 6,350
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Total current assets 17,280 16,539
Property, equipment and capital leases 237,481 226,435
Less accumulated depreciation and amortization (41,723) (38,370)
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Property, equipment and capital
leases, net 195,758 188,065
Trademarks, tradenames and other goodwill 24,100 21,985
Other intangibles and other assets 14,436 14,488
Less accumulated amortization (8,136) (7,897)
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Intangibles and other assets, net 30,400 28,576
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Total assets $ 243,438 $ 233,180
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 9,551 $ 10,740
Deposits from franchisees 699 883
Accrued liabilities 9,266 11,140
Obligations under capital leases and
long-term debt due within one year 3,306 1,068
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Total current liabilities 22,822 23,831
Obligations under capital leases due
after one year 7,354 7,429
Long-term debt due after one year 66,370 61,400
Other noncurrent liabilities 7,991 8,509
Contingencies (Note 2)
Stockholders' equity:
Preferred stock, par value $.01; 1,000,000
shares authorized; none outstanding - -
Common stock, par value $.01; 40,000,000
shares authorized; 20,623,701 shares
issued (20,554,213 shares issued
at August 31, 1998) 206 206
Paid-in capital 64,826 63,866
Retained earnings 95,385 89,455
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160,417 153,527
Treasury stock, at cost;
1,692,370 common shares (21,516) (21,516)
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Total stockholders' equity 138,901 132,011
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Total liabilities and stockholders'
equity $ 243,438 $ 233,180
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</TABLE>
See accompanying notes.
3
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SONIC CORP.
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
<TABLE>
<CAPTION>
(Unaudited)
THREE MONTHS ENDED
NOVEMBER 30,
1998 1997
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<S> <C> <C>
Revenues:
Company-owned restaurant sales $ 48,713 $ 41,235
Franchised restaurants:
Franchise fees 781 440
Franchise royalties 9,451 7,902
Other 677 295
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59,622 49,872
Cost and expenses:
Company-owned restaurants:
Food and packaging 13,621 11,535
Payroll and other employee benefits 14,329 11,947
Other operating expenses 9,745 7,627
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37,695 31,109
Selling, general and administrative 5,444 5,048
Depreciation and amortization 4,416 3,463
Minority interest in earnings of
restaurant partnerships 1,579 1,583
Provision for impairment of long-lived assets 16 15
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49,150 41,218
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Income from operations 10,472 8,654
Interest expense 1,174 772
Interest income (152) (153)
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Net interest expense 1,022 619
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Income before income taxes and cumulative
effect of accounting change 9,450 8,035
Provision for income taxes 3,520 2,992
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Income before cumulative effect of
accounting change 5,930 5,043
Cumulative effect of accounting change,
net of tax (Note 3) - 681
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Net income $ 5,930 $ 4,362
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Basic income per share:
Income before cumulative effect of
accounting change $ 0.31 $ 0.26
Cumulative effect of accounting change - (0.03)
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Net income per share - basic $ 0.31 $ 0.23
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------------ ---------
Diluted income per share:
Income before cumulative effect of
accounting change $ 0.31 $ 0.26
Cumulative effect of accounting change - (0.04)
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Net income per share - diluted $ 0.31 $ 0.22
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</TABLE>
See accompanying notes.
4
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SONIC CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
(Unaudited)
THREE MONTHS ENDED
NOVEMBER 30, NOVEMBER 30,
1998 1997
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 5,930 $ 4,362
Adjustments to reconcile net income to net
cash provided by operating activities:
Cumulative effect of accounting change - 681
Depreciation and amortization 4,416 3,463
Other (321) (815)
Decrease in operating assets 1,518 2,353
Decrease in operating liabilities (3,307) (823)
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Total adjustments 2,306 4,859
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Net cash provided by operating activities 8,236 9,221
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (12,491) (13,068)
Other 738 399
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Net cash used in investing activities (11,753) (12,669)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on long-term borrowings (14,029) (7,028)
Proceeds from long-term borrowings 19,000 7,000
Other 849 329
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Net cash provided by financing
activities 5,820 301
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Net increase (decrease) in cash and
cash equivalents 2,303 (3,147)
Cash and cash equivalents at beginning
of period 2,602 7,334
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Cash and cash equivalents at end of period $ 4,905 $ 4,187
------------ ---------
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SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the quarter for interest $ 1,771 $ 737
</TABLE>
See accompanying notes.
5
<PAGE>
SONIC CORP.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1
The unaudited Condensed Consolidated Financial Statements include all
adjustments, consisting of normal, recurring accruals, which Sonic Corp. (the
"Company") considers necessary for a fair presentation of the financial
position and the results of operations for the indicated periods. The notes
to the condensed consolidated financial statements should be read in
conjunction with the notes to the consolidated financial statements contained
in the Company's Form 10-K, for the fiscal year ended August 31, 1998. The
results of operations for the three months ended November 30, 1998, are not
necessarily indicative of the results to be expected for the full year ending
August 31, 1999.
NOTE 2
The Company is a party to several lawsuits and claims arising in the ordinary
course of business. Management believes that the ultimate resolution of these
matters will not have a material adverse effect on the Company's financial
position or results of operations.
NOTE 3
The Company adopted Statement of Position ("SOP") 98-5, "Reporting on the
Costs of Start-Up Activities" effective September 1, 1997. SOP 98-5 requires
that pre-opening and other start-up costs be expensed as incurred. Prior to
the adoption of the new standard, the Company capitalized the direct costs
associated with opening new restaurants and amortized these costs over the
first twelve months of restaurant operations. The cumulative effect of
adopting SOP 98-5 resulted in a charge of $681 thousand or $.03 per share,
net of income tax effects of approximately $404 thousand and minority
interest of $248 thousand.
6
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NOTE 4
The following table sets forth the computation of basic and diluted earnings
per share:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
NOVEMBER 30,
(In thousands, except share data) 1998 1997
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<S> <C> <C>
Numerator:
Net income $ 5,930 $ 4,362
Denominator:
Weighted average shares outstanding
- basic 18,880,338 19,112,353
Effect of dilutive employee stock options 409,311 588,530
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Weighted average shares - diluted 19,289,649 19,700,883
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------------ ----------
Net income per share - basic $ 0.31 $ 0.23
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Net income per share - diluted $ 0.31 $ 0.22
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</TABLE>
7
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Independent Accountants' Review Report
The Board of Directors
Sonic Corp.
We have reviewed the accompanying condensed consolidated balance sheet of
Sonic Corp. as of November 30, 1998, and the related consolidated statements
of income for the three-month periods ended November 30, 1998 and 1997, and
the condensed consolidated statements of cash flows for the three-month
periods ended November 30, 1998 and 1997. These financial statements are the
responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures
to financial data, and making inquiries of persons responsible for financial
and accounting matters. It is substantially less in scope than an audit
conducted in accordance with generally accepted auditing standards, which
will be performed for the full year with the objective of expressing an
opinion regarding the financial statements taken as a whole. Accordingly, we
do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that
should be made to the accompanying consolidated financial statements referred
to above for them to be in conformity with generally accepted accounting
principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Sonic Corp. as of August 31,
1998, and the related consolidated statements of income, stockholders'
equity, and cash flows for the year then ended (not presented herein) and in
our report dated October 12, 1998, we expressed an unqualified opinion on
those consolidated financial statements. In our opinion, the information set
forth in the accompanying condensed consolidated balance sheet as of August
31, 1998, is fairly stated, in all material respects, in relation to the
consolidated balance sheet from which it has been derived.
ERNST & YOUNG LLP
Oklahoma City, Oklahoma
December 30, 1998
8
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Form 10-Q contains various "forward-looking statements" within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended.
Forward-looking statements represent the Company's expectations or belief
concerning future events, including the following: any statements regarding
future sales or expenses, any statements regarding the continuation of
historical trends, and any statements regarding the sufficiency of the
Company's working capital and cash generated from operating and financing
activities for the Company's future liquidity and capital resources needs.
Without limiting the foregoing, the words "believes," "anticipates," "plans,"
"expects," and similar expressions are intended to identify forward-looking
statements. The Company cautions that those statements are further qualified
by important economic and competitive factors that could cause actual results
to differ materially from those in the forward-looking statements, including,
without limitation, risks of the restaurant industry, including a highly
competitive industry and the impact of changes in consumer tastes, local,
regional and national economic conditions, demographic trends, traffic
patterns, employee availability and cost increases. In addition, the opening
and success of new restaurants will depend on various factors, including the
availability of suitable sites for new restaurants, the negotiation of
acceptable lease or purchase terms for new locations, permitting and
regulatory compliance, the ability of the Company to manage the anticipated
expansion and hire and train personnel, the financial viability of the
Company's franchisees, particularly multi-unit operators, and general
economic and business conditions. Accordingly, such forward-looking
statements do not purport to be predictions of future events or circumstances
and may not be realized.
RESULTS OF OPERATIONS
The Company derives its revenues primarily from Company-owned restaurant
sales and royalty fees from franchisees. The Company also receives revenues
from initial franchise fees, area development fees, the leasing of signs and
real estate and from minority ownership positions in certain franchised
restaurants. Costs of Company-owned restaurant sales and minority interest in
earnings of restaurant partnerships relate directly to Company-owned
restaurant sales. Other expenses, such as depreciation, amortization, and
general and administrative expenses, relate to both Company-owned restaurant
operations, as well as the Company's franchising operations. The Company's
revenues and expenses are directly affected by the number and sales volumes
of Company-owned restaurants. The Company's revenues and, to a lesser extent,
expenses also are affected by the number and sales volumes of franchised
restaurants. Initial franchise fee revenues are directly affected by the
number of franchised restaurant openings.
The following table sets forth the percentage relationship to total revenues,
unless otherwise indicated, of certain items included in the Company's
statements of income.
9
<PAGE>
PERCENTAGE RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS ENDED
NOVEMBER 30,
1998 1997
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<S> <C> <C>
INCOME STATEMENT DATA:
Revenues:
Company-owned restaurant sales 81.7% 82.7%
Franchised restaurants:
Franchise royalties 15.9 15.8
Franchise fees 1.3 0.9
Other 1.1 0.6
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100.0% 100.0%
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Cost and expenses:
Company-owned restaurants (1)
Food and packaging 28.0% 28.0%
Payroll and other employee benefits 29.4 28.9
Other operating expenses 20.0 18.5
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77.4% 75.4%
Selling, general and administrative 9.1 10.1
Depreciation and amortization 7.4 6.9
Minority interest in earnings of
restaurant partnerships (1) 3.2 3.8
Income from operations 17.6 17.4
Net interest expense 1.7 1.2
Income before cumulative effect of change
in accounting 9.9 10.1
Net income 9.9% 8.7%
RESTAURANT OPERATING DATA:
RESTAURANT COUNT (2):
Company-owned restaurants
Core-markets 194 172
Developing markets 106 95
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All markets 300 267
Franchise restaurants 1,595 1,450
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System-wide restaurants 1,895 1,717
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SALES DATA ($ in thousands):
System-wide sales $ 361,326 $ 305,972
Percentage increase (3) 18.1% 19.1%
Average sales per restaurant:
Company-owned $ 166 $ 158
Franchise 200 184
System-wide 194 179
Change in comparable restaurant sales (4):
Company-owned restaurants:
Core markets 5.9% 8.4%
Developing markets (1.2) (3.8)
All markets 4.8% 5.4%
Franchise 8.1 9.4
System-wide 7.5 8.9
________________________
</TABLE>
(1) As a percentage of Company-owned restaurant sales.
(2) Number of restaurants open at end of period.
(3) Represents percentage increase from the comparable period in the prior
year.
(4) Represents percentage increase (decrease) for restaurants open both in the
current and prior year.
10
<PAGE>
COMPARISON OF THE FIRST FISCAL QUARTER OF 1999 TO THE FIRST FISCAL QUARTER OF
1998.
Total revenues increased 19.6% to $59.6 million in the first fiscal quarter
of 1999 from $49.9 million in the first fiscal quarter of 1998. Company-owned
restaurant sales increased 18.1% to $48.7 million in the first fiscal quarter
of 1999 from $41.2 million in the first fiscal quarter of 1998. Of the $7.5
million increase, $5.9 million was due to the net addition of 44
Company-owned restaurants since the beginning of fiscal 1998. Average sales
increases of approximately 4.8% by stores open the full reporting periods of
fiscal 1999 and 1998 accounted for $1.6 million of the increase. Thirty-seven
franchise drive-ins opened in the first fiscal quarter of 1999 compared to 26
in the comparable quarter of 1998, with franchise fee revenues increasing
77.5%. This increase resulted from a greater number of new store openings as
well as a higher proportion of drive-ins opening under the current form of
license agreement which requires a $30,000 franchise fee. Franchise royalties
increased 19.6% to $9.5 million in the first fiscal quarter of 1999, compared
to $7.9 million in the first fiscal quarter of 1998. Of the $1.6 million
increase, approximately $0.7 million resulted from the franchise same-store
sales growth of 8.1% over the first fiscal quarter of 1998. The balance of
the increase was attributable to additional franchise restaurants in
operation.
Restaurant cost of operations, as a percentage of Company-owned restaurant
sales, was 77.4% in the first fiscal quarter of 1999, compared to 75.4% in
the first fiscal quarter of 1998. The promotion of items with a higher
discount from standard menu prices resulted in approximately one-third of the
decrease in operating margins. Food and packaging costs were consistent with
the first fiscal quarter of 1998. However, excluding the impact of higher
discounting, unit costs decreased slightly during the quarter. Payroll and
employee benefits increased approximately one-half percentage point, as a
percentage of Company-owned restaurant sales, due to an increase in the
average wage rate which has resulted from unfavorable conditions in the labor
market and from an increase in the labor hours per store. The increase in
labor hours resulted from the Company's continued efforts to provide superior
customer service. The increase in payroll and benefits is expected to
continue in fiscal 1999. The increase in other operating expenses resulted
from higher marketing expenditures, increased landscaping and repair costs
associated with the Sonic 2000 retrofit, and higher repair and maintenance
costs resulting from the outsourcing of point-of-sale support which was
handled internally during fiscal 1998. The increase in marketing expenditures
reflects the Company's commitment to increased media penetration through its
system of advertising cooperatives. As a result of the decline in restaurant
operating margins, minority interest in earnings of restaurant partnerships
decreased, as a percentage of Company-owned restaurant sales, to 3.2% in the
first fiscal quarter of 1999, compared to 3.8% in the first fiscal quarter of
1998.
Selling, general and administrative expenses, as a percentage of total revenues,
decreased to 9.1% in the first fiscal quarter of 1999, compared with 10.1% in
the first fiscal quarter of 1998. Management expects selling, general and
administrative expenses, as a percentage of revenues, to continue to decline in
future periods because of a declining rate of increase in the number of
corporate employees and because the Company expects a significant portion of
future revenue growth to be attributable to Company-owned restaurants.
Company-owned restaurants require a lower level of selling, general and
administrative expenses, as a percentage of revenues, than the Company's
franchising operations since most of these expenses are reflected in restaurant
cost of
11
<PAGE>
operations and minority interest in restaurant operations. Many of the
managers and supervisors of Company-owned restaurants own a minority interest
in the restaurants, and their compensation flows through the minority
interest in earnings of restaurant partnerships. Depreciation and
amortization expense increased approximately $1.0 million in the first fiscal
quarter of 1999 over the comparable quarter in 1998. The increase in
depreciation resulted primarily from new drive-in development and retrofits
of existing restaurants.
Income from operations increased 21.0% to $10.5 million in the first fiscal
quarter of 1999 from $8.7 million in the first fiscal quarter of 1998. Net
interest expense in the first fiscal quarter of 1999 increased $0.4 million
over the first fiscal quarter of 1998. This increase was the result of
additional borrowings to fund, in part, capital additions and stock
repurchases. The Company expects interest expense to continue to increase in
fiscal 1999.
Provision for income taxes reflects an effective federal and state tax rate
of 37.25% for the first fiscal quarter of 1999, consistent with the same
period in fiscal 1998. Income before cumulative effect of accounting change
increased 17.6% over the comparable period in 1998. Diluted earnings per
share increased to $.31 per share in the first fiscal quarter of 1999,
compared to $.26 per share before cumulative effect of accounting change in
the first fiscal quarter of 1998, for an increase of 19.2%.
LIQUIDITY AND SOURCES OF CAPITAL
During the first three months of fiscal 1999, the Company opened 14
newly-constructed restaurants and completed the Sonic 2000 retrofit of 18
restaurants. The Company funded the total capital additions for the first
fiscal quarter of 1999 of $12.5 million (which included the cost of
newly-opened restaurants, retrofits of existing restaurants, restaurants
under construction, new equipment for existing restaurants, and other general
expenditures) from cash generated by operating activities and through
borrowings under the Company's line of credit. During the first fiscal
quarter ended November 30, 1998, the Company purchased the real estate on all
of the newly-constructed restaurants. The Company expects to own the land and
building for most of its future newly-constructed restaurants. In December
1998, the Company's board of directors increased the funds authorized for the
repurchase of the Company's common stock from $10 million to $15 million. As
of November 30, 1998, the Company's total cash balance of $4.9 million
reflected the impact of the cash generated from operating activities,
borrowing activity, and capital expenditures mentioned above.
The Company has an agreement with a group of banks which provides the Company
with a $60 million line of credit expiring in July of 2001. The Company will
use the line of credit to finance the opening of newly-constructed
restaurants, retrofit of existing restaurants, acquisitions of existing
restaurants, purchases of the Company's common stock and for other general
corporate purposes. As of November 30, 1998, the Company's outstanding
borrowings under the line of credit were $16 million, as well as $0.3 million
in outstanding letters of credit. The available line of credit as of November
30, 1998, was $43.7 million.
12
<PAGE>
The Company plans capital expenditures of approximately $50 to $55 million in
fiscal 1999, excluding potential acquisitions. These capital expenditures
primarily relate to the development of additional Company-owned restaurants,
retrofit and remodeling of Company-owned restaurants, and enhancements to
existing financial and operating information systems, including refinement of
a point-of-sale system. The Company expects to fund these capital
expenditures through borrowings under its existing unsecured revolving credit
facility and cash flow from operations. The Company believes that existing
cash and funds generated from internal operations, as well as borrowings
under the line of credit, will meet the Company's needs for the foreseeable
future.
YEAR 2000
DESCRIPTION. The Year 2000 issue is the result of computer programs being
written using two digits rather than four to define the applicable year. Any
of the Company's computer programs or hardware that have date-sensitive
software or embedded computer chips may recognize a date using "00" as the
year 1900 rather than the year 2000. This could result in a system failure or
miscalculations which could disrupt the Company's normal business activities.
The Company has established a plan to prepare its systems for the Year 2000
issue as well as to reasonably assure that its critical business partners are
prepared. The phases of the Company's plan to resolve the Year 2000 issue
involve awareness, assessment, remediation, testing and implementation. To
date, the Company has completed its assessment of all internal systems that
could be significantly affected by the Year 2000 issue. Based upon its
assessment, the Company has determined that it will be required to modify or
replace portions of its software primarily related to customized interfaces
between its financial systems and other applications. The Company believes
that with modifications or replacements of the identified software programs,
the Year 2000 issue can be mitigated. However, if all additional phases of
the Year 2000 plan are not completed timely, the Year 2000 issue could have a
material impact on the operations of the Company as set forth under RISKS AND
CONTINGENCY PLANS. In addition, the Company is in the process of gathering
information about the Year 2000 compliance status of its key third party
business partners.
STATUS. The Company's internal information technology exposures are primarily
related to financial and management information systems. As of December 31,
1998 the Company has completed the remediation of existing software.
Replacement of certain software is expected to be completed by March 1999.
Once the software is reprogrammed or replaced with a Year 2000 compliant
version, the Company will test and implement the software. As of December 31,
the Company had completed 25% of its testing and had implemented 60% of its
remediated applications. Completion of the testing phase for all significant
systems is expected by June 30, 1999 with all remediated systems fully tested
and implemented by September 30, 1999.
The Company's non-Information Technology systems consist primarily of restaurant
operating equipment including its point-of-sale systems. The initial assessment
of these systems has indicated that modification or replacement will not be
necessary as a result of the Year 2000 issue. As such, the Company is not
currently remediating this operating equipment. However,
13
<PAGE>
the existence of embedded technology is by nature more difficult to identify.
While the Company believes that all significant non-Information Technology
systems are Year 2000 compliant, the Company plans to continue testing its
operating equipment and expects to complete the testing by March 31, 1999.
SIGNIFICANT THIRD PARTIES. The Company's significant third party business
partners consist of suppliers, banks, and its franchisees. The Company does not
have any significant system interfaces with third parties. An initial inventory
of significant suppliers and distributors has been completed and letters mailed
requesting information regarding each parties' Year 2000 compliance status.
Additionally, the Company has identified approximately 20 key suppliers and
distributors which it intends to meet with and discuss their Year 2000
readiness. The Company intends to develop contingency plans by March 31, 1999
for suppliers that appear to have substantial Year 2000 operational risks which
may include the change of suppliers to minimize such risks.
Letters were sent to all relationship banks before January 1, 1999 requesting an
update on their Year 2000 compliance status. Review and evaluation of responses
will be conducted through June 30, 1999. No later than September 30, 1999, the
Company will discontinue relationships with banks that indicate compliance with
Year 2000 has not been achieved.
A Year 2000 information manual has been sent to all franchisees explaining the
Year 2000 issue and associated business risks. This manual provided information
and tools to assist the franchisees in assessing their Year 2000 risks. The
Company will continue its efforts to raise awareness and inform franchisees of
the risks posed by the Year 2000 throughout fiscal year 1999.
COSTS. The Company's Year 2000 plan encompasses the use of both internal and
external resources to identify, remediate, test and implement systems for Year
2000 readiness. External resources include contract resources which will be used
to supplement available internal resources. The total cost of the Year 2000
project, excluding non-incremental internal personnel costs, is estimated at
$650,000 and is being funded by operating cash flows. As of November 30, 1998,
the Company had incurred approximately $90,000, which has all been expensed,
related to the Year 2000 project. Of the total remaining project costs,
approximately $300,000 is attributable to the purchase and implementation of new
software and will be capitalized. The remaining $260,000 relates to
implementation and testing of remediated software and will be expensed as
incurred.
RISKS AND CONTINGENCY PLANS. Management of the Company believes it has an
effective plan in place to address the Year 2000 issue in a timely manner.
However, due to the forward-looking nature and lack of historical experience
with Year 2000 issues, it is difficult to predict with certainty what will
happen after December 31, 1999. Despite the Year 2000 remediation efforts being
made, it is likely that there will be disruptions and unexpected business
problems during the early months of 2000. The Company plans to make diligent
efforts to assess the Year 2000 readiness of its significant business partners
and will develop contingency plans for critical areas where it believes its
exposure to Year 2000 risk is the greatest. However, despite the Company's
efforts, it may encounter unanticipated third party failures, more general
public infrastructure
14
<PAGE>
failures or a failure to successfully conclude its remediation efforts as
planned. If the remaining Year 2000 plan is not completed timely, in addition
to the implications noted above, the Company may be required to utilize
manual processing of certain otherwise automated processes primarily related
to partner compensation and cash management. Any one of these unforeseen
events could have a material adverse impact on the Company's results of
operations, financial condition or cash flows in 1999 and beyond.
Additionally, the inability of franchisees to remit royalty payments on a
timely basis could have a material adverse effect on the Company. The amount
of potential loss cannot be reasonably estimated at this time.
IMPACT OF INFLATION
Though increases in labor, food or other operating costs could adversely
affect the Company's operations, management does not believe that inflation
has had a material effect on income during the past several years.
SEASONALITY
The Company does not expect seasonality to affect its operations in a
materially adverse manner. The Company's results during its second fiscal
quarter (the months of December, January and February) generally are lower
than other quarters because of the climate of the locations of a number of
Company-owned and franchised restaurants.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk from changes in interest rates on debt
and notes receivable, as well as changes in commodity prices.
The Company's exposure to interest rate risk currently consists of its Senior
notes, outstanding line of credit and notes receivable. The Senior notes bear
interest at fixed rates which average 6.7%. The aggregate balance outstanding
under the Senior notes as of November 30, 1998 was $50.0 million. Should
interest rates increase or decrease, the estimated fair value of these notes
would decrease or increase, respectively. As of November 30, 1998, the
estimated fair value of the Senior notes exceeded the carrying amount by
approximately $1.3 million. The line of credit bears interest at a rate
benchmarked to U.S. and European short-term interest rates. The balance
outstanding under the line of credit was $16.0 million as of November 30,
1998. The Company has made certain loans to its store operating partners and
franchisees totaling $5.5 million as of November 30, 1998. The interest rates
on these notes are generally between ten and eleven percent. The Company
believes the fair market value of these notes approximates their carrying
amount. The impact on the Company's results of operations of a one-point
interest rate change on the outstanding balances under the Senior notes, line
of credit and notes receivable as of November 30, 1998 would be immaterial.
15
<PAGE>
The Company and its franchisees purchase certain commodities such as beef,
potatoes, chicken and dairy products. These commodities are generally
purchased based upon market prices established with vendors. These purchase
arrangements may contain contractual features that limit the price paid by
establishing price floors or caps. The Company does not use financial
instruments to hedge commodity prices because these purchase arrangements
help control the ultimate cost and any commodity price aberrations are
generally short term in nature.
This market risk discussion contains forward-looking statements. Actual
results may differ materially from this discussion based upon general market
conditions and changes in financial markets.
16
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
During the fiscal quarter ended November 30, 1998, Sonic Corp. (the
"Company") did not have any new material legal proceedings brought against
it, its subsidiaries or their properties. In addition, no material
developments occurred in connection with any previously reported legal
proceedings against the Company, its subsidiaries or their properties during
the last fiscal quarter.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBITS. The Company has filed the following exhibits with this
report:
15.01. Letter re: Unaudited Interim Financial Information.
27.01. Financial Data Schedules
FORM 8-K REPORTS. The Company did not file any Form 8-K
reports during the fiscal quarter ended
November 30, 1998.
17
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the
Company has caused the undersigned, duly authorized, to sign this report on
behalf of the Company.
SONIC CORP.
By: /s/ W. Scott McLain
-------------------------------
W. Scott McLain, Vice President
and Chief Financial Officer
Date: January 12, 1999
<PAGE>
Exhibit 15.01
Letter re: Unaudited Interim Financial Information
The Board of Directors
Sonic Corp.
We are aware of the incorporation by reference in the Registration Statement
(Form S-8 No. 333-26359) pertaining to the Sonic Corp. Savings and Profit
Sharing Plan, the Registration Statement (Form S-8 No. 33-40987) pertaining
to the 1991 Sonic Corp. Directors' Stock Option Plan, the Registration
Statement (Form S-8 No. 33-40988) pertaining to the 1991 Sonic Corp. Stock
Purchase Plan, the Registration Statements (Forms S-8 No. 333-09373, No.
33-40989 and No. 33-78576) pertaining to the 1991 Sonic Corp. Stock Option
Plan and the Registration Statement (Form S-3 No. 33-95716) for the
registration of 1,420,000 shares of its common stock, and the related
Prospectuses of our report dated December 30, 1998 relating to the unaudited
condensed consolidated interim financial statements of Sonic Corp. which are
included in its Form 10-Q for the quarter ended November 30, 1998.
Pursuant to Rule 436(c) of the Securities Act of 1933 our report is not a
part of the registration statements prepared or certified by accountants
within the meaning of Section 7 or 11 of the Securities Act of 1933.
ERNST & YOUNG LLP
Oklahoma City, Oklahoma
December 30, 1998
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