<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 February 28, 1999
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.
------------------------------------------------------
(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
---------------------------------------- --------
(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 February 28, 1999, the Registrant had 18,954,088 shares of common
stock issued and outstanding (excluding 1,722,370 shares of common stock held
as treasury stock).
<PAGE>
SONIC CORP.
INDEX
<TABLE>
<CAPTION>
Page
Number
------
<S> <C> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets at February 28, 1999
and August 31, 1998 3
Consolidated Statements of Income for the three months and
six months ended February 28, 1999 and 1998 4
Condensed Consolidated Statements of Cash Flows for the
six months ended February 28, 1999 and 1998 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 17
Part II. OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities 18
Item 3. Defaults Upon Senior Securities 18
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 5. Other Information 19
Item 6. Exhibits and Reports on Form 8-K 19
</TABLE>
<PAGE>
SONIC CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
<TABLE>
<CAPTION>
(UNAUDITED)
FEBRUARY 28, AUGUST 31,
1999 1998
----------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 1,343 $ 2,602
Accounts and notes receivable, net 7,691 7,587
Other current assets 3,948 6,350
----------- -----------
Total current assets 12,982 16,539
Property, equipment and capital leases 246,840 226,435
Less accumulated depreciation and amortization (45,147) (38,370)
----------- -----------
Property, equipment and capital leases, net 201,693 188,065
Trademarks, tradenames and other goodwill 25,624 21,985
Other intangibles and other assets 14,139 14,488
Less accumulated amortization (8,041) (7,897)
----------- -----------
Intangibles and other assets, net 31,722 28,576
----------- -----------
Total assets $ 246,397 $ 233,180
----------- -----------
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 7,787 $ 10,740
Deposits from franchisees 581 883
Accrued liabilities 8,267 11,140
Obligations under capital leases and long-term debt
due within one year 988 1,068
----------- -----------
Total current liabilities 17,623 23,831
Obligations under capital leases due after one year 7,171 7,429
Long-term debt due after one year 70,341 61,400
Other noncurrent liabilities 7,873 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; 20,676,458 shares issued (20,554,213
shares issued at August 31, 1998) 207 206
Paid-in capital 65,683 63,866
Retained earnings 99,683 89,455
----------- -----------
165,573 153,527
Treasury stock, at cost; 1,722,370 common shares
(1,692,370 shares at August 31, 1998) (22,184) (21,516)
----------- -----------
Total stockholders' equity 143,389 132,011
----------- -----------
Total liabilities and stockholders' equity $ 246,397 $ 233,180
----------- -----------
----------- -----------
</TABLE>
See accompanying notes.
3
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
THREE MONTHS ENDED SIX MONTHS ENDED
FEBRUARY 28, FEBRUARY 28,
1999 1998 1999 1998
------------------------ -----------------------
<S> <C> <C> <C> <C>
Revenues:
Company-owned restaurant sales $ 44,219 $ 37,198 $ 92,932 $ 78,433
Franchised restaurants:
Franchise fees 977 467 1,758 907
Franchise royalties 8,342 6,538 17,793 14,440
Other 669 623 1,346 918
------------------------ -----------------------
54,207 44,826 113,829 94,698
Cost and expenses:
Company-owned restaurants:
Food and packaging 12,281 10,382 25,902 21,917
Payroll and other employee benefits 12,862 10,832 27,191 22,779
Other operating expenses 8,894 7,055 18,639 14,682
------------------------ -----------------------
34,037 28,269 71,732 59,378
Selling, general and administrative 5,940 5,274 11,384 10,322
Depreciation and amortization 4,638 3,566 9,054 7,029
Minority interest in earnings of
restaurant partnerships 1,216 1,392 2,795 2,975
Provision for impairment of long-lived assets 403 14 419 29
------------------------ -----------------------
46,234 38,515 95,384 79,733
------------------------ -----------------------
Income from operations 7,973 6,311 18,445 14,965
Interest expense 1,276 810 2,450 1,582
Interest income (153) (179) (305) (332)
------------------------ -----------------------
Net interest expense 1,123 631 2,145 1,250
------------------------ -----------------------
Income before income taxes and cumulative
effect of account change 6,850 5,680 16,300 13,715
Provision for income taxes 2,552 2,116 6,072 5,108
------------------------ -----------------------
Income before cumulative effect of accounting change 4,298 3,564 10,228 8,607
Cumulative effect of accounting change, net of
tax (Note 3) - - - 681
------------------------ -----------------------
Net income $ 4,298 $ 3,564 $ 10,228 $ 7,926
------------------------ -----------------------
------------------------ -----------------------
Basic income per share:
Income before cumulative effect of accounting change $ .23 $ .19 $ .54 $ .45
Cumulative effect of accounting change - - - (.04)
------------------------ -----------------------
Net income per share - basic $ .23 $ .19 $ .54 $ .41
------------------------ -----------------------
------------------------ -----------------------
Diluted income per share:
Income before cumulative effect of accounting change $ .22 $ .18 $ .53 $ .44
Cumulative effect of accounting change - - - (.04)
------------------------ -----------------------
Net income per share - diluted $ .22 $ .18 $ .53 $ .40
------------------------ -----------------------
------------------------ -----------------------
</TABLE>
See accompanying notes.
4
<PAGE>
SONIC CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
(UNAUDITED)
SIX MONTHS ENDED
FEBRUARY 28, February 28,
1999 1998
-------------------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 10,228 $ 7,926
Adjustments to reconcile net income to net cash provided by
operating activities:
Cumulative effect of accounting change - 681
Depreciation and amortization 9,054 7,029
Other (921) (618)
Decrease in operating assets 1,888 2,071
Decrease in operating liabilities (5,887) (1,728)
-------------------------------
Total adjustments 4,134 7,435
-------------------------------
Net cash provided by operating activities 14,362 15,361
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (23,407) (25,104)
Proceeds from disposition of assets 1,351 558
Increase in intangibles and other assets (3,375) (208)
-------------------------------
Net cash used in investing activities (25,431) (24,754)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on long-term borrowings (40,558) (12,557)
Proceeds from long-term borrowings 49,500 15,500
Proceeds from exercise of stock options 1,818 2,293
Other (950) (518)
-------------------------------
Net cash provided by financing activities 9,810 4,718
-------------------------------
Net decrease in cash and cash equivalents (1,259) (4,675)
Cash and cash equivalents at beginning of period 2,602 7,334
-------------------------------
Cash and cash equivalents at end of period $ 1,343 $ 2,659
-------------------------------
-------------------------------
</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 six months ended February 28, 1999, 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 $.04 per share,
net of income tax effects of approximately $404 thousand and minority
interest of $248 thousand.
6
<PAGE>
NOTE 4
The following table sets forth the computation of basic and diluted earnings per
share:
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
FEBRUARY 28, FEBRUARY 28,
(In thousands, except per share data) 1999 1998 1999 1998
------------- ------------- --------------- --------------
<S> <C> <C> <C> <C>
Numerator:
Net income $ 4,298 $ 3,564 $ 10,228 $ 7,926
Denominator:
Weighted average shares outstanding - basic 18,944 19,180 18,912 19,146
Effect of dilutive employee stock options 616 644 513 616
--------------------------- ------------------------------
Weighted average shares - diluted 19,560 19,824 19,425 19,762
--------------------------- ------------------------------
--------------------------- ------------------------------
Net income per share - basic $ .23 $ .19 $ .54 $ .41
--------------------------- ------------------------------
--------------------------- ------------------------------
Net income per share - diluted $ .22 $ .18 $ .53 $ .40
--------------------------- ------------------------------
--------------------------- ------------------------------
</TABLE>
7
<PAGE>
Independent Accountants' Review Report
The Board of Directors
Sonic Corp.
We have reviewed the accompanying condensed consolidated balance sheet of
Sonic Corp. as of February 28, 1999, and the related consolidated statements
of income for the three-month and six-month periods ended February 28, 1999
and 1998, and the condensed consolidated statements of cash flows for the
six-month periods ended February 28, 1999 and 1998. 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
March 23, 1999
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 SIX MONTHS ENDED
FEBRUARY 28, FEBRUARY 28,
1999 1998 1999 1998
--------------------------- -------------------------
<S> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Revenues:
Company-owned restaurant sales 81.6% 83.0% 81.6% 82.8%
Franchised restaurants:
Franchise royalties 15.4 14.6 15.6 15.2
Franchise fees 1.8 1.0 1.6 1.0
Other 1.2 1.4 1.2 1.0
--------------------------- -------------------------
100.0% 100.0% 100.0% 100.0%
--------------------------- -------------------------
--------------------------- -------------------------
Cost and expenses:
Company-owned restaurants (1)
Food and packaging 27.8% 27.9% 27.9% 27.9%
Payroll and other employee benefits 29.1 29.1 29.3 29.0
Other operating expenses 20.1 19.0 20.0 18.8
--------------------------- -------------------------
77.0% 76.0% 77.2% 75.7%
Selling, general and administrative 11.0 11.8 10.0 10.9
Depreciation and amortization 8.6 8.0 8.0 7.4
Minority interest in earnings of restaurant
partnerships (1) 2.7 3.7 3.0 3.8
Other .7 - .4 -
Income from operations 14.7 14.1 16.2 15.8
Net interest expense 2.1 1.4 1.9 1.3
Income before cumulative effect of change in accounting 7.9 8.0 9.0 9.1
Net income 7.9% 8.0% 9.0% 8.4%
RESTAURANT OPERATING DATA:
RESTAURANT COUNT (2):
Company-owned restaurants
Core-markets 200 170 200 170
Developing markets 106 106 106 106
--------------------------- -------------------------
All markets 306 276 306 276
Franchise restaurants 1,624 1,466 1,624 1,466
--------------------------- -------------------------
System-wide restaurants 1,930 1,742 1,930 1,742
--------------------------- -------------------------
--------------------------- -------------------------
SALES DATA ($ in thousand):
System-wide sales $342,001 $283,081 $704,963 $588,304
Percentage increase (3) 20.8% 20.0% 19.8% 18.6%
Average sales per restaurant:
Company-owned $ 147 $ 139 $ 313 $ 296
Franchise 186 169 385 352
System-wide 179 164 373 343
Change in comparable restaurant sales (4):
Company-owned restaurants:
Core markets 6.9% 8.3% 6.1% 8.3%
Developing markets 5.2 (0.4) 2.8 (2.3)
All markets 6.4 6.5 5.5 5.9
Franchise 9.1 8.7 8.7 9.1
System-wide 8.6 8.1 8.1 8.5
</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 SECOND FISCAL QUARTER OF 1999 TO THE SECOND FISCAL QUARTER
OF 1998.
Total revenues increased 20.9% to $54.2 million in the second fiscal quarter
of 1999 from $44.8 million in the second fiscal quarter of 1998.
Company-owned restaurant sales increased 18.9% to $44.2 million in the second
fiscal quarter of 1999 from $37.2 million in the second fiscal quarter of
1998. Of the $7.0 million increase in Company-owned restaurant sales, $5.0
million was due to the net addition of 47 Company-owned restaurants since the
beginning of fiscal 1998. Average sales increases of approximately 6.4% by
stores open the full reporting periods of fiscal 1999 and 1998 accounted for
$2.0 million of the increase. Thirty-two franchise drive-ins opened in the
second fiscal quarter of 1999 compared to 19 in the comparable quarter of
1998, with franchise fee revenues increasing 109.2%. In addition to the
larger store count, this increase resulted from (i) a higher proportion of
drive-ins opening under the current form of license agreement which requires
a $30,000 franchise fee and (ii) franchise fees of approximately $0.2 million
related to the conversion of certain stores to new license agreements and the
renewal of certain license option fees. Franchise royalties increased 27.6%
to $8.3 million in the second fiscal quarter of 1999, compared to $6.5
million in the second fiscal quarter of 1998. Of the $1.8 million increase,
approximately $1.1 million resulted from the franchise same-store sales
growth of 9.1% over the second 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 77.0% in the second fiscal quarter of 1999, compared to 76.0% in
the second fiscal quarter of 1998. Food and packaging costs were down
slightly as a percentage of Company-owned restaurant sales as a result of
overall lower unit costs particularly on paper items. Payroll and employee
benefits, as a percentage of Company-owned restaurant sales, were consistent
with the second fiscal quarter of 1998 as the leverage of operating at higher
volumes offset an increase in the average wage rate which has resulted from
unfavorable conditions in the labor market and 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 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 2.8% in the second fiscal
quarter of 1999, compared to 3.7% in the second fiscal quarter of 1998.
Selling, general and administrative expenses, as a percentage of total
revenues, decreased to 11.0% in the second fiscal quarter of 1999, compared
with 11.8% in the second 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,
11
<PAGE>
than the Company's franchising operations since most of these expenses are
reflected in restaurant cost of 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
$1.1 million in the second 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.
During the second quarter, one drive-in became impaired under the guidelines
of FAS 121 "Accounting for the Impairment of Long-Lived Assets." As a result,
a provision for asset impairment of approximately $0.4 million was recorded
for the drive-in's carrying cost in excess of current fair market value. The
resulting charge to earnings resulted in a reduction in earnings per share of
approximately one cent in the second quarter.
Income from operations increased 26.3% to $8.0 million in the second fiscal
quarter of 1999 from $6.3 million in the second fiscal quarter of 1998. Net
interest expense in the second fiscal quarter of 1999 increased $0.5 million
over the second 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 second fiscal quarter of 1999, consistent with the same
period in fiscal 1998. Income before cumulative effect of accounting change
increased 20.6% over the comparable period in 1998. Diluted earnings per
share increased to $0.22 per share in the second fiscal quarter of 1999,
compared to $0.18 per share before cumulative effect of accounting change in
the second fiscal quarter of 1998, for an increase of 22.2%.
COMPARISON OF THE FIRST TWO FISCAL QUARTERS OF 1999 TO THE FIRST TWO FISCAL
QUARTERS OF 1998.
Total revenues increased 20.2% to $113.8 million in the first two fiscal
quarters of 1999 from $94.7 million in the first two fiscal quarters of 1998.
Company-owned restaurant sales increased 18.5% to $92.9 million in the first
two fiscal quarters of 1999 from $78.4 million in the first two fiscal
quarters of 1998. Of the $14.5 million increase in Company-owned restaurant
sales, $10.0 million was due to the net addition of 47 Company-owned
restaurants since the beginning of fiscal 1998. Average sales increases of
approximately 5.5% by stores open the full reporting periods of fiscal 1999
and 1998 accounted for $4.5 million of the increase. Franchise fee revenues
increased 93.8% in the first two fiscal quarters of 1999 as compared to the
first two fiscal quarters of 1998 due primarily to the opening of 69
franchise stores in 1999 compared to 45 in the comparable period of 1998 as
well as fees associated with the early conversion of approximately 125 older
license agreements to new agreements effective January 1, 1999. Franchise
royalties increased 23.2% to $17.8 million in the first two fiscal quarters
of 1999, compared to $14.4 million in the first two fiscal quarters of 1998.
Increased sales by comparable
12
<PAGE>
franchised restaurants resulted in an increase in royalties of approximately
$1.9 million and resulted from the franchise same-store sales growth of 8.7%
over the first two fiscal quarters of 1998. Additional franchised restaurants
in operation resulted in an increase in royalties of $1.5 million.
Restaurant cost of operations, as a percentage of Company-owned restaurant
sales, was 77.2% in the first two fiscal quarters of 1999, compared to 75.7%
in the first two fiscal quarters of 1998. Food and packaging costs, as a
percentage of restaurant sales, for the first six months of fiscal 1999 were
consistent with results for the similar period in fiscal 1998. Higher
discounting, particularly in the first quarter of fiscal 1999, offset the
positive impact of lower unit costs resulting from renegotiation of pricing
terms. The increase in payroll and other employee benefits costs resulted
primarily from an increase in the average wage rate caused by a tight labor
market; a planned increase in labor hours at the restaurant level, and the
cost of providing medical benefits to assistant managers. Other operating
expenses increased as a percentage of Company-owned restaurant sales due to:
higher marketing expenditures reflecting the Company's commitment to
increased media penetration through its system of advertising cooperatives,
additional costs related to the Sonic 2000 retrofit including higher
utilities, and to higher repair and maintenance costs partially resulting
from outsourcing the help desk for the Company's point-of-sale equipment.
Minority interest in earnings of restaurant partnerships decreased as a
percentage of Company-owned restaurant sales to 3.0% in the first two fiscal
quarters of 1999 as a result of the decline in restaurant-level margins.
Selling, general and administrative expenses, as a percentage of total
revenues, decreased to 10.0% in the first two fiscal quarters of 1999,
compared with 10.9% in the first two fiscal quarters of 1998. This decrease
resulted primarily from fewer planned headcount additions. Management expects
selling, general and administrative expenses, as a percentage of revenues, to
decline in future periods 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 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 $2.0 million due to the
purchase of buildings and equipment for new and existing restaurants as well
as retrofit of existing stores. Management expects the rate of increase to
decline in future periods.
Income from operations increased 23.3% to $18.4 million from $15.0 million in
the first two fiscal quarters of 1998. Net interest expense in the first two
fiscal quarters of 1999 increased $0.9 million compared to the comparable
fiscal quarters of 1998 due to increased borrowings to fund, in part, capital
additions and stock repurchases made during the latter part of fiscal 1998.
Provision for income taxes reflects an effective federal and state tax rate of
37.25% for the first two fiscal quarters of 1999, consistent with the
comparable period in fiscal 1998. Net income before the cumulative effect of
accounting change for the first two fiscal quarters of 1999 increased 18.8% to
$10.2 million, compared to $8.6 million in the comparable period of fiscal
13
<PAGE>
1998. Diluted earnings per share before the cumulative effect of accounting
change increased to $0.53 per share in the first two fiscal quarters of 1999,
compared to $0.44 per share in the first two fiscal quarters of 1998, for an
increase of 20.5%.
LIQUIDITY AND SOURCES OF CAPITAL
During the first six months of fiscal 1999, the Company opened 20
newly-constructed restaurants and completed the Sonic 2000 retrofit of 40
restaurants. The Company funded the total capital additions for the first
half of fiscal 1999 of $23.4 million (which included the cost of newly-opened
restaurants, retrofits of existing restaurants, restaurants under
construction, new equipment for existing restaurants, and other capital
expenditures) from cash generated by operating activities and through
borrowings under the Company's line of credit. During the six months ended
February 28, 1999, the Company purchased the real estate on 19 of the 20
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.
During the second quarter, the Company repurchased 30 thousand shares of
common stock at an aggregate cost of $0.7 million. As of February 28, 1999,
the Company's total cash balance of $1.3 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 February 28, 1999, the Company's outstanding
borrowings under the line of credit were $20.0 million, as well as $0.3
million in outstanding letters of credit. The available line of credit as of
February 28, 1999, was $39.7 million.
The Company plans capital expenditures of approximately $50 to $55 million in
fiscal 1999, excluding potential acquisitions and share repurchases. 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
14
<PAGE>
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 February 28,
1999 the Company has completed the remediation of existing custom developed
software. Replacement of certain package software is expected to be completed
by April 1999. Once the software is reprogrammed or replaced with a Year 2000
compliant version, the Company will test and implement the software. As of
February 28, 1999, the Company had completed 40% of its testing and had
implemented 70% 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
assessment of these systems has indicated that modification or replacement
will not be necessary as a result of the Year 2000 issue.
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 party's Year 2000
compliance status. Additionally, the Company has met with approximately 15
key suppliers and distributors to discuss their Year 2000 readiness. The
Company is currently in the process of developing contingency plans with each
of its key suppliers. This contingency planning is expected to be completed
by June 30, 1999 and for suppliers that appear to have substantial Year 2000
operational risks may include the change of suppliers to minimize such risks.
15
<PAGE>
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 is currently underway and will continue 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 and certain other correspondence 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. In addition, the Company has surveyed
several entities which provide accounting services to franchisees including
conducting on-site reviews with three such vendors. Results from these
surveys have been distributed to franchisees. 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 thousand and is being funded by operating cash flows. As of
February 28, 1999, the Company had incurred approximately $175 thousand,
which has all been expensed, related to the Year 2000 project. Of the total
remaining project costs, approximately $300 thousand is attributable to the
purchase and implementation of new software and will be capitalized. The
remaining $175 thousand 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 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.
16
<PAGE>
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 February 28, 1999 was $50.0 million. Should
interest rates increase or decrease, the estimated fair value of these notes
would decrease or increase, respectively. As of February 28, 1999, the
estimated fair value of the Senior Notes approximated the carrying amount.
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 $20 million as of February 28, 1999. The Company has made certain loans
to its store operating partners and franchisees totaling $5 million as of
February 28, 1999. 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 February
28, 1999 would be immaterial.
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.
17
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
During the fiscal quarter ended February 28, 1999, 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
On January 20, 1999, the Company held its annual meeting of
stockholders, at which the stockholders elected Kenneth L. Keymer and
re-elected H.E. Rainbolt and E. Dean Werries as directors for three-year
terms ending in January of 2002. The following table sets forth the voting
results for those three directors.
<TABLE>
<CAPTION>
DIRECTOR VOTES FOR VOTES WITHHELD
-------- --------- --------------
<S> <C> <C>
Kenneth L. Keymer 16,375,827 355,840
H.E. Rainbolt 16,375,209 356,458
E. Dean Werries 16,375,179 356,488
</TABLE>
Other directors of the Company whose terms continued after the
meeting consist of Dennis H. Clark, J. Clifford Hudson, Leonard Lieberman,
Frank E. Richardson and Robert M. Rosenberg.
The stockholders also approved and ratified an amendment to the 1991
Sonic Corp. Stock Option Plan ("Plan") to increase the number of shares of
common stock reserved for issuance pursuant to the Plan by an additional
935,000 shares of common stock. The stockholders approved the amendment by a
vote of 12,197,519 shares of common stock in favor, 4,491,662 opposed, and
42,486 abstaining.
In addition, the stockholders approved and ratified an amendment to
the 1991 Sonic Corp. Directors' Stock Option Plan ("Directors' Plan") to
reduce the number of options initially granted to new outside directors under
the Directors' Plan, and to provide for additional options to be granted
annually during a director's tenure of service on the Board. The stockholders
approved the amendment by a vote of 16,158,049 shares of common stock in
favor, 524,078 opposed, and 49,540 abstaining.
18
<PAGE>
Finally, the stockholders approved and ratified the selection of
Ernst & Young, LLP, as the Company's independent auditors by a vote of
16,722,164 shares of common stock in favor, 5,484 shares opposed, and 4,019
shares abstaining.
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 February 28,
1999.
19
<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: April 13, 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
March 23, 1999 relating to the unaudited condensed consolidated interim
financial statements of Sonic Corp. which are included in its Form 10-Q for the
quarter ended February 28, 1999.
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
March 23, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> AUG-31-1999
<PERIOD-START> SEP-01-1998
<PERIOD-END> FEB-28-1999
<CASH> 1,343
<SECURITIES> 0
<RECEIVABLES> 7,691
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 12,982
<PP&E> 246,840
<DEPRECIATION> (45,147)
<TOTAL-ASSETS> 246,397
<CURRENT-LIABILITIES> 17,623
<BONDS> 70,341
0
0
<COMMON> 207
<OTHER-SE> 143,182
<TOTAL-LIABILITY-AND-EQUITY> 246,397
<SALES> 92,932
<TOTAL-REVENUES> 113,829
<CGS> 71,732
<TOTAL-COSTS> 95,384
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 2,145
<INCOME-PRETAX> 16,300
<INCOME-TAX> 6,072
<INCOME-CONTINUING> 10,228
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 10,228
<EPS-PRIMARY> .54
<EPS-DILUTED> .53
</TABLE>
