<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C., 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 26, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission file number 0-23024
BROTHERS GOURMET COFFEES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 52-1681708
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2255 GLADES ROAD
SUITE 100E
BOCA RATON, FL 33431
(Address of principal executive offices)
(Zip code)
(561) 995-2600
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for 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 [ ]
As of August 1, 1998, the Registrant had outstanding (1) 12,121,324 shares of
Common Stock, par value $.0001 per share, and (2) 839,332 shares of Class B
Common Stock, par value $.0001 per share.
<PAGE>
BROTHERS GOURMET COFFEES, INC.
INDEX
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets--June 26, 1998 and
December 26, 1997 . . . . . . . . . . . . . . . . . . . . . . 1
Condensed Consolidated Statements of Operations--Three
months and six months ended June 26, 1998
and June 27, 1997 . . . . . . . . . . . . . . . . . . . . . . 2
Condensed Consolidated Statements of Cash Flows--Three
months and six months ended June 26, 1998 and
June 27, 1997.. . . . . . . . . . . . . . . . . . . . . . . . 3
Notes to Condensed Consolidated Financial Statements--
June 26, 1998. . . . . . . . . . . . . . . . . . . . . . . . 4
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations. . . . . . . 11
PART II - OTHER INFORMATION
Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . 16
Item 2. Changes in Securities . . . . . . . . . . . . . . . . . . . . 16
Item 3. Defaults Upon Senior Securities . . . . . . . . . . . . . . . 16
Item 4. Submission of Matters to a Vote of Security Holders . . . . . 16
Item 5. Other Information . . . . . . . . . . . . . . . . . . . . . . 16
Item 6. Exhibits and Reports on Form 8-K. . . . . . . . . . . . . . . 16
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
</TABLE>
<PAGE>
SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS
EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED IN THIS QUARTERLY REPORT ON
FORM 10-Q FOR THE FISCAL QUARTER ENDING JUNE 26, 1998, CERTAIN MATTERS
DISCUSSED HEREIN INCLUDING, WITHOUT LIMITATION, PART I - FINANCIAL
INFORMATION, ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS AND ELSEWHERE IN THIS FORM 10-Q (AND ANY
DOCUMENTS INCORPORATED HEREIN BY REFERENCE) CONTAIN FORWARD-LOOKING
STATEMENTS BASED ON MANAGEMENT'S EXPECTATIONS REGARDING, AND EVALUATIONS OF
CURRENT INFORMATION ABOUT, THE COMPANY'S BUSINESS THAT INVOLVE RISKS AND
UNCERTAINTIES THAT COULD CAUSE FUTURE RESULTS TO DIFFER, BOTH ADVERSELY AND
MATERIALLY, FROM CURRENTLY ANTICIPATED RESULTS. THESE STATEMENTS ARE
TYPICALLY IDENTIFIED BY THEIR INCLUSION OF PHRASES SUCH AS "THE COMPANY
ANTICIPATES," "MANAGEMENT BELIEVES" AND OTHER PHRASES OF SIMILAR MEANING.
SUCH FACTORS INCLUDE, AMONG OTHERS, THE EFFECT OF ECONOMIC AND MARKET
CONDITIONS; INDUSTRY AND INDUSTRY SEGMENT CONDITIONS AND DIRECTIONS; WEATHER;
COFFEE CROP AND GREEN COFFEE PRICE FLUCTUATIONS; FOREIGN LABOR PROBLEMS;
FOREIGN COFFEE DELIVERY DIFFICULTIES; PRODUCTION COSTS; COMPETITIVE
PRESSURES; THE COMPANY'S OWN FINANCING CONTINGENCIES AND RESTRICTIONS; THE
COMPANY'S DETERIORATING CASH FLOW POSITION; THE COMPANY'S ONGOING DEBT
RESTRUCTURING NEGOTIATIONS WITH ITS LENDERS; THE ABILITY OF THE COMPANY TO
CLOSE A DEBT RESTRUCTURING PLAN ON TERMS ACCEPTABLE TO IT AND ITS LENDERS;
COMPETING DEMANDS ON MANAGEMENT'S TIME; MANAGEMENT LIMITATIONS; THE ABILITY
AND WILLINGNESS OF PURCHASERS TO COMPLETE ACQUISITIONS OF THE COMPANY'S
RETAIL COFFEE BARS; THE COMPANY'S ABILITY TO RESOLVE POST-CLOSING DIFFERENCES
WITH THE PURCHASERS OF CERTAIN COMPONENTS OF THE COMPANY'S DISCONTINUED
RETAIL OPERATIONS; LEGISLATION AND REGULATIONS; RESOLUTION OF PENDING
LITIGATION IN WHICH THE COMPANY IS A DEFENDANT; THE ABILITY OF THE COMPANY TO
CLOSE CONTRACTS WITH NEW ACCOUNTS AND TO RENEW EXISTING ACCOUNTS AS SUCH
ACCOUNTS COME UP FOR RENEWAL; CHANGES IN CONSUMER TASTES AND PREFERENCES; THE
SUCCESS OR LACK THEREOF OF THE COMPANY'S NEW PRODUCTS, DISPLAY MODELS AND
PACKAGING LINES; AND OTHER FACTORS REFERENCED IN THIS FORM 10-Q. AS A RESULT
OF THE FOREGOING AND OTHER FACTORS, NO ASSURANCE CAN BE GIVEN AS TO FUTURE
RESULTS, LEVELS OF ACTIVITY AND/OR ACHIEVEMENTS, AND NEITHER THE COMPANY NOR
ANY OTHER PERSON ASSUMES RESPONSIBILITY FOR THE ACCURACY OR COMPLETENESS OF
THESE STATEMENTS.
<PAGE>
BROTHERS GOURMET COFFEES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
June 26, December 26,
1998 1997
----------- ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Trade receivables, net $ 5,397 $ 11,118
Receivable from the sale of discontinued retail operations 490 1,818
Inventories 7,226 9,516
Prepaid expenses and other current assets 286 836
--------- --------
Total current assets 13,399 23,288
Plant and equipment, net 13,220 15,839
Other assets:
Excess of cost over net assets acquired, net -- 50,991
Prepaid promotional expenses, net 2,430 5,070
Debt acquisition costs, net 2,133 2,759
Other assets 714 1,066
--------- --------
$ 31,896 $ 99,013
--------- --------
--------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Revolving credit facility $ 11,427 $ --
Current maturities of long-term debt 5,722 1,779
Accounts payable 4,125 4,419
Accrued expenses 5,518 5,477
Accrued losses and other costs of
discontinued retail operations 1,600 1,389
Accrued losses on future purchase
commitments 557 --
Accrued restructuring costs -- 29
--------- --------
Total current liabilities 28,949 13,093
Long-term debt, less current liabilities 12,032 27,777
Minority interest 67 83
Redeemable warrants 300 300
Stockholders' equity (deficit):
Preferred Stock--10,000,000 shares authorized: $1.00 par value;
-0- shares issued and outstanding at June 26, 1998
and December 26, 1997 -- --
Common Stock--25,000,000 shares authorized: $.0001 par value;
12,324,890 shares issued at June 26, 1998 and December 27, 1997 1 1
Common Stock Class B -- 2,000,000 shares authorized:
$.0001 par value; 839,332 shares issued and outstanding
at June 26, 1998 and December 26,1997 -- --
Additional paid-in capital 151,693 151,693
Accumulated deficit in earnings (160,696) (93,484)
Treasury stock (203,566 shares, at cost) (450) (450)
--------- --------
Total stockholders' equity (deficit) (9,452) 57,760
--------- --------
$ 31,896 $ 99,013
--------- --------
--------- --------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
1
<PAGE>
BROTHERS GOURMET COFFEES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
Three months Three months Six months Six months
Ended June 26, Ended June 27, Ended June 26, Ended June 27,
1998 1997 1998 1997
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Net sales $ 13,892 $ 15,863 $ 29,337 $32,671
Cost of goods sold 9,798 7,302 19,723 16,349
-------- -------- -------- -------
Gross profit 4,094 8,561 9,614 16,322
Operating expenses:
Distribution, selling and marketing 7,185 6,715 13,765 13,784
Administrative 2,055 1,416 3,397 2,741
Amortization of intangibles 370 669 740 1,338
Write down of fixed assets 1,552 -- 1,552 --
Write off of goodwill 50,251 -- 50,251 --
Future purchase commitment losses 557 -- 557 --
Loss due to market decline
of inventory 1,018 -- 1,018 --
-------- -------- -------- -------
Loss from operations (58,894) (239) (61,666) (1,541)
Other expenses (income):
Interest expense, net 1,570 961 3,031 1,904
Other (income) expense 16 (4) 15 11
-------- -------- -------- -------
Loss before discontinued retail operations (60,480) (1,196) (64,712) (3,456)
Loss on disposal of discontinued
retail operations (2,500) -- (2,500) (2,700)
-------- -------- -------- -------
Net loss $(62,980) $ (1,196) $(67,212) $(6,156)
-------- -------- -------- -------
-------- -------- -------- -------
Loss per common share and loss per common share --
assuming dilution:
Loss from continuing operations $ (4.67) $ (0.11) $ (4.99) $ (0.31)
Loss from discontinued retail operations (0.19) -- (0.19) (0.24)
-------- -------- -------- -------
Net loss $ (4.86) $ (0.11) $ (5.18) $ (0.55)
-------- -------- -------- -------
-------- -------- -------- -------
Weighted average common shares outstanding 12,961 11,202 12,961 11,202
-------- -------- -------- -------
-------- -------- -------- -------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
2
<PAGE>
BROTHERS GOURMET COFFEES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Three months Three months Six months Six months
Ended June 26, Ended June 27, Ended June 26, Ended June 27,
1998 1997 1998 1997
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss $(62,980) $(1,196) $(67,212) $(6,156)
Adjustments to reconcile net income (loss) to cash
provided by (used in) operating activities:
Write off of goodwill 50,251 -- 50,251 --
Depreciation and amortization 3,120 3,185 6,155 6,342
Discontinued retail operations 2,500 -- 2,500 2,700
Adjustment for write down of assets 1,564 -- 1,564 --
Future purchase commitment losses 557 -- 557 --
Loss due to market decline of inventory 1,018 -- 1,018 --
Provision for doubtful accounts 101 76 195 106
Changes in operating assets and liabilities:
Current assets 4,179 2,693 7,348 7,418
Current liabilities (239) (1,113) (282) (6,740)
Prepaid promotional expenses 874 (1,285) 589 (3,784)
Other noncurrent assets 137 3 134 (23)
-------------- -------------- -------------- --------------
Net cash provided by (used in) operating activities:
Continuing operations 1,082 2,363 2,817 (137)
Discontinued retail operations (191) (1,662) (949) (2,068)
-------------- -------------- -------------- --------------
891 701 1,868 (2,205)
Cash flows from investing activities:
Purchases of plant and equipment, net (569) (1,243) (1,273) (3,012)
Proceeds from sale of discontinued retail
operations -- -- 178 100
-------------- -------------- -------------- --------------
Net cash used in investing activities (569) (1,243) (1,095) (2,912)
Cash flows from financing activities:
Net borrowings and repayments under
revolving line of credit 195 954 250 5,964
Payment of term loan (412) (375) (825) (750)
Payments under capital lease (54) (37) (104) (74)
Debt issuance costs (51) -- (94) (23)
-------------- -------------- -------------- --------------
Net cash (used in) provided by financing
activities (322) 542 (773) 5,117
Change in cash -- -- -- --
Cash at the beginning of the period -- -- -- --
-------------- -------------- -------------- --------------
Cash at the end of the period $ -- $ -- $ -- $ --
-------------- -------------- -------------- --------------
-------------- -------------- -------------- --------------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
NOTE 1--BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q pursuant
to the Securities Exchange Act of 1934, as amended, and Article 10 of
Regulation S-X, as amended. Accordingly, they do not include all of the
financial statements and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for
the three-months and six month periods ended June 26, 1998 are not
necessarily indicative of the results that may be expected for the year
ending December 25, 1998 ("Fiscal Year 1998"). For further information, refer
to the Brothers Gourmet Coffees, Inc.'s (the "Company") consolidated
financial statements and footnotes (collectively the 1997 Financial
Statements") included in its Annual Report on Form 10-K ("1997 Form 10-K")
for the fiscal year ended December 26, 1997 ("Fiscal Year 1997") and its
Quarterly Report on Form 10-Q for the fiscal quarter ended March 27, 1998
(the "First Quarter 1998 Form 10-Q").
NOTE 2--SALES
The Company is an integrated sourcer, roaster and wholesaler of high quality
gourmet coffee products. The Company distributes its product principally
through grocery stores, supermarkets, mass merchandisers, drug stores,
military commissaries, warehouse stores and specialty stores (the "wholesale
distribution channel"). The Company's business is seasonal, with increased
sales during the colder months. As a result, in a typical year, a
substantial portion of the Company's sales and its reported results from
operations occur during the fourth quarter of the year. The Company's
results of operations for any particular quarter may not necessarily be
indicative of its results of operations for any other particular quarter or
for the whole year.
NOTE 3--EARNINGS PER SHARE
In 1997, the Financial Accounting Standard Board issued Statement No. 128,
"Earnings per share" ("Statement 128"). Statement 128 replaced the
calculation of primary and fully diluted earnings per share. Unlike primary
earnings per share, basic earnings per share excludes any dilutive effects of
options or warrants. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
amounts for all periods have been presented, and where appropriate, restated
to conform to the Statement 128 requirements. Shares underlying options and
warrants totaling 3,501,604 shares and 3,369,120 shares are not included in
the computation for the three months and six month periods ended June 26,
1998 and the three months and six months period ended June 27, 1997,
respectively, because the effect is antidilutive.
4
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
NOTE 4--INVENTORIES
The Company's inventories are valued at the lower of cost or market using the
First-in, First-out (FIFO) method. The components of inventories consist of
the following:
<TABLE>
<CAPTION>
June 27, December 26,
1998 1997
-------- ------------
<S> <C> <C>
Green coffee $ 4,272 $ 2,606
Finished goods 3,097 5,851
Packaging and other supplies 875 1,059
------- -------
8,244 9,516
Less: allowance for market decline in inventories (1,018) --
------- -------
$ 7,226 $ 9,516
------- -------
------- -------
</TABLE>
NOTE 5--GOODWILL
Goodwill is reviewed on a quarterly basis to determine if facts and
circumstances suggest that it may be impaired. If this review indicates that
goodwill will not be recoverable, as determined based on the remaining
amortization period, the Company's carrying value of the goodwill will be
reduced by the estimated shortfalls of cash flows. During the second quarter
of Fiscal Year 1998, the Company incurred a significant decline in sales
volume principally due to the loss of certain customers. The Company's
decision not to enter into unprofitable promotional contracts, requiring the
payment of substantial product placement costs (slotting fees), was the
primary reason for the loss of such customers. The Company also did not have
the cash available to pursue certain other contracts. In addition, these
customer losses significantly reduced the Company's estimated future cash
flows. As a result of the Company's estimated shortfalls of cash flows, the
Company wrote-off its goodwill in the amount of $50,251 in the quarter ended
June 26, 1998.
NOTE 6--LONG LIVED ASSETS
On quarterly basis, the Company evaluates the recoverability of the carrying
amount of its long lived assets, including plant and equipment and other long
lived assets, by determining if any impairment indicators are present. If
this review indicates that the carrying value of assets will not be
recoverable as determined based on estimated undiscounted cash flows over the
assets' remaining estimated useful lives, their carrying values are reduced
to fair value. Generally, fair value will be determined using valuation
techniques such as expected discounted cash flows or appraisals, as
appropriate. As a result of the loss of customers in the second quarter of
Fiscal Year 1998 and related plant idle capacity, the Company decided that
certain fixed assets became unusable. The Company recognized an impairment
loss on its fixed assets in the amount of $1,552 to reduce the assets to
their estimated fair value in the quarter ended June 26, 1998.
5
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
NOTE 7--DEBT FACILITIES
A summary of indebtedness outstanding under various credit arrangements at
June 26, 1998 and December 26, 1997 is as follows:
<TABLE>
<S> <C> <C>
Revolving Credit Facility(a)(c) $ 11,427 $ 11,177
Term Loan Facility(b)(c) 5,675 6,500
Senior Subordinated Note Facility(d) 15,000 15,000
Capital lease obligations 47 150
-------- --------
32,149 32,827
Less value ascribed to warrants (2,968) (3,271)
Less current maturities (17,149) (1,779)
-------- --------
$ 12,032 $ 27,777
-------- --------
-------- --------
</TABLE>
(a) The Company's revolving credit facility (the "Revolving Credit
Facility"), in the aggregate principal amount of up to $21,500 (the
"Revolving Credit Facility"), bears interest at the prime rate plus
2.0% (10.50% at June 26, 1998). Interest is payable monthly. The
Revolving Credit Facility matures on May 29, 1999. The Revolving
Credit Facility carries an unused commitment fee of .5% of the average
daily unused balance. At June 26, 1998 the remaining availability
under the Revolving Credit Facility was $755. Eligible inventory,
receivables and unamortized slotting fees collateralize borrowings
under the Revolving Credit Facility.
(b) The Company's Term Loan Facility (the "Term Loan Facility"), consists
of (1) a term loan in the amount of $2,025 ("Term Loan A") and (2) a
second term loan in the amount of $3,650 ("Term Loan B"). Term Loan A
bears interest at the prime rate plus 2.0% (10.5% at June 26, 1998)
and is payable in eleven monthly installments of $37.5 each plus
accrued interest and one installment of $1,612.5 plus interest payable
at maturity. Term Loan B bears interest at a fixed rate of 11.75% and
is payable in eleven monthly installments of $100 each plus accrued
interest and one installment of $2,550 plus accrued interest payable
at maturity.
(c) The Revolving Credit Facility and the Term Loan Facility are
components of the Company's Amended and Restated Credit Agreement (the
"Restated Credit Agreement") with Goldman Sachs Credit Partners, L.P.
("GSCP")
(d) The Company's unsecured Subordinated Note Facility (the "Subordinated
Note"), with Dilmun Financial Services ("Dilmun"), in an aggregate
principal amount of $15,000, bears interest at the rate of 11.25% per
annum. Interest is payable quarterly and the Subordinated Note
matures December 26, 2002.
The Company's debt agreements with GSCP and Dilmun contain various financial
and non-financial covenants. These covenants require the Company (1)
beginning with the first quarter of fiscal 1998, to maintain total capital
funds, as defined in the Restated Credit Agreement, at various quarterly
amounts (the "Total Capital Funds Covenant"), (2) beginning with the second
quarter of 1998, to maintain earnings before interest expense, taxes paid,
depreciation and amortization ("EBITDA"), as defined in the Restated Credit
Agreement, at various quarterly amounts (the "EBITDA Covenant"), (3) to
maintain cash flow to debt service, as defined in the Subordinated Note
Agreement, at specified levels (the "Cash Flow Covenant"), (4) to maintain
consolidated tangible net worth, as defined in the Subordinated Note
Agreement, at specified levels (the "Net Worth Covenant"), (5)
6
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
beginning in the first quarter of 1998, to limit annual capital expenditures to
$5,000 and (6) at all times during 1998, to restrict the payment of dividends.
At June 26, 1998, the Company was not in compliance with (1) the Total Capital
Funds Covenant and EBITDA Covenant (the "GSCP Covenants") and (2) the Cash Flow
Covenant and the Net Worth Covenant (the "Dilmun Covenants") (referred to herein
as the "Covenant Defaults"). In addition, the Company did not make the interest
payment of $420 due to Dilmun on June 30, 1998 (the "Interest Payment"). Dilmun
has given the Company an extension of time until the close of business on August
17, 1998, to make the Interest Payment. At this time, the Company does not
intend to make such payment. Accordingly, assuming the payment is not timely
made, the nonpayment will mature into an event of default under the Subordinated
Note (thereafter an "Interest Payment Default").
GSCP, Dilmun and the Company are parties to a Subordination Agreement. Pursuant
to the terms of that agreement, (1) absent a bankruptcy filing by the Company,
Dilmun does not have the right to accelerate repayment of the Subordinated Note
solely because of the Dilmun Covenant defaults (the "Dilmun Covenant Defaults"),
(2) absent a bankruptcy filing by the Company, Dilmun must wait 180 days after
it gives notice to GSCP and the Company of the Interest Payment Default before
it can accelerate repayment of the Senior Note by reason of such default and (3)
upon the filing of a bankruptcy petition by the Company, Dilmun may proceed
immediately to accelerate repayment of the Subordinated Note. As discussed
above, the cure period for the Interest Payment has been extended until the
close of business on August 17, 1998. Accordingly, the Company has continued to
classify the outstanding borrowings under the Subordinated Note as long-term.
The Company previously asked Dilmun to amend the Subordinated Note to eliminate
or waive the Dilmun Covenant Defaults. The parties were not able to reach
agreement on the terms of such amendment or waiver.
The Company is currently in negotiations with GSCP and Dilmun to restructure
its Revolving Credit Facility, Term Loan Facility and Subordinated Note. See
Note 12--Management's Plans.
NOTE 8--DISCONTINUED RETAIL OPERATIONS
In June 1995, the Company's Board of Directors (the "Board") adopted a plan (the
"Disposition Plan") to dispose of all of the Company's retail operations,
consisting of the Gloria Jean's specialty retail business ("Gloria Jean's") and
the Brothers Gourmet Coffee Bars (the "Coffee Bars"). Accordingly, the
operating results of discontinued retail
7
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
operations, including provisions for estimated losses during the phase-out
period, have been segregated from continuing operations and reported as a
separate line item on the statement of operations. Due to the subjective
nature of estimating future operating losses and incremental costs of
disposal, it is reasonably possible that these estimates may change in the
operating losses and incremental costs of disposal, it is reasonably possible
that these estimates may change in the future. Future changes in estimates
will be included in the statement of operations in the fiscal year
determined. See Notes 10 and 11--Contingencies and Litigation below. For
more information concerning the Company's disposition of its Gloria Jean's
business and the Brothers Coffee Bars.
During the second quarter of Fiscal Year 1998, the Company incurred $2,500 of
losses on the disposal of discontinued retail operations. The losses
consisted of (1) $685 related to the final settlement of claims associated
with the sale of Gloria Jean's, (2)$1,000 of estimated potential liability
related to guaranteed leases from the sale of its Coffee Bars as a result of
continued litigation related primarily to the Zebra Room and (3) $765 of
legal and settlement costs related to the termination and/or disposition of
certain remaining Coffee Bar leases principally because of the Nassau & Liberty
Coffee Bar Litigation. See Note 11--Litigation.
As of June 26, 1998, the Company's obligations under the non-cancelable
operating leases for its remaining five Coffee Bars were as follows: Fiscal
Year 1998- $366; Fiscal Year 1999 - $753; Fiscal Year 2000 - $770; Fiscal
Year 2001 -$802; Fiscal Year 2002 - $831; and thereafter -$2,711. The
Company has sublease agreements on two (2) of the five (5) remaining
non-cancelable lease agreements. Future minimum sublease income under these
sublease agreements at June 26, 1998 is as follows: Fiscal Year 1998 - $168;
Fiscal Year 1999 - $341; Fiscal Year 2000 - $347; Fiscal Year 2001 - $375;
Fiscal Year 2002 - $384; and thereafter -$1,526. The Company is negotiating
to terminate its obligations under all of the remaining leases and estimates
that the total costs relating to the assignment and termination of these
leases will be approximately $765. This incremental cost has been included
in the estimated loss on disposal.
As of June 26, 1998, the Company remained as a guarantor on sixteen (16) leases
sold and assigned to third parties with future commitments under these
agreements at June 26, 1998 as follows: Fiscal Year 1998 - $449; Fiscal Year
1999 - $915; Fiscal Year 2000 - $845; Fiscal Year 2001 - $845; Fiscal Year 2002
- - $422; and thereafter - $577.
NOTE 9--INCOME TAXES
The Company historically has experienced net operating losses and has
established valuation allowances to offset net deferred tax assets.
Accordingly, the Company has had no provision for income taxes and expects this
trend to continue for the remainder of Fiscal Year 1998.
NOTE 10--COMMITMENT AND CONTINGENCIES
The Company incurred a $557 charge in the second quarter of Fiscal Year 1998
due to the declines in green coffee prices as compared to the Company's
existing firm purchase commitments.
In May 1998, the NASDAQ Stock Market, Inc. ("NASDAQ"), informed the Company,
in writing, that it was no longer in compliance with the net tangible
assets/market capitalization/net income continued listing requirement (the
"NTA Requirement") of the NASDAQ National Market system ("NNM"), and, unless
the Company could demonstrate that it would promptly regain compliance with
such listing requirement, the Company's common stock would be de-listed from
the NNM. Subsequently, NASDAQ also informed the Company that the price of its
common stock had been trading below the NNM $1.00 minimum bid price requirement
(the "Minimum Bid Price Requirement"). A written hearing before the NASDAQ
Qualifications Hearings Panel (the "Panel") was scheduled for August 6, 1998
(the "Hearing"). The Company submitted written materials to NASDAQ outlining
a plan for regaining compliance with the NTA Requirement, which was dependent,
in part, on the Company and its lenders reaching a definitive debt
restructuring plan prior to the date of the Hearing. The Company also
indicated in its written submission to NASDAQ that it would consider
implementing a reverse split of its common stock to regain compliance with the
Minimum Bid Price Requirement provided that NASDAQ accepted the Company's plan
for regaining compliance with the NTA Requirement. The Company and its
lenders were not able to reach agreement on a debt restructuring plan prior
to the date of the Hearing, and the Company so informed NASDAQ. The Company
has asked NASDAQ to stay any de-listing action pending the outcome of the
Company's continuing discussions with its lenders. As of the date hereof,
the Panel has not rendered a decision in this matter.
8
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
NOTE 11--LITIGATION
For historical information concerning the Kona Coffee Action, Nassau &
Liberty Coffee Bar Litigation, Employee Litigation and Second Cup Warranty
Claims/Litigation. There have been no material developments with respect to
any of these litigation matters and no new litigation filed against the
Company since April 5, 1998, except as set forth below.
KONA COFFEE ACTION. This case has been decertified as a class action.
All but two of the plaintiffs' original claims have been dismissed. The
Hartford Insurance Company has assumed the defense of the claims against the
Company, subject to a standard reservation of rights. The case is in the
discovery and deposition stage.
NASSAU & LIBERTY COFFEE BAR LITIGATION. This matter involves the Coffee
Bar lease located at Nassau & Liberty, in New York City. The landlord has
obtained judgments against the Company for back rent totaling $130 (through
February 1996) and $295,000 (for the period June 1996 through July 1997). The
Company is appealing both judgments. The Company has posted a bond to stay
collection on the $130 judgment, and one of the Company's banks is holding
another $250 as cash collateral for the payment of the $130 judgment. The court
has stayed any collection proceedings on either judgment until after the appeals
are decided.
EMPLOYEE LITIGATION. Jerry Holland, the former Chief Financial Officer of
the Company, has filed suit against the Company in Florida state court, seeking
approximately $400 of compensation and other amounts he alleges he is owed for
work done for the Company in 1995. The Company disputes all of his claims,
except for certain reimbursements totaling about $15. The case is currently in
the discovery phase. Settlement discussions in the range of $40 are ongoing.
SECOND CUP WARRANTY CLAIMS/LITIGATION. In July 1998, the Company and
Second Cup executed a release agreement pursuant to which Second Cup released
the Company from all further liabilities relating to claims that Second Cup had
to assert (by the terms of the Gloria Jean's sale agreement) on or before
September 30, 1996, except for (a) certain California state taxes for years 1992
through 1995 in excess of $130, (b) certain Illinois state taxes for years 1993
through 1995 and (c) damages awarded in the Kona Coffee Class Action. The
Company is still liable for any breach of representation and warranty claims
asserted by Second Cup that are subject to survival periods in the 1995 Gloria
Jean's sale agreement that have not expired as of the date hereof.
SINGLEBREW PACKAGING COMPANY LITIGATION. Randall C. Schoonover, Inc., the
Company's partner in the Singlebrew Packaging Company, has sued the Company in
Colorado state court for an undisclosed amount of money for breach of the
partnership agreement, breach of the covenant of good faith and fair dealing and
breach of fiduciary duty. Settlement discussions are ongoing.
ZEBRA ROOM LITIGATION. This matter involves the Coffee Bar located at
3238 West Wisconsin Avenue, Washington, D.C. (the "Zebra Room"), which the
Company sold to Foster Brothers Corporation ("FBC") in March 1996. The Company
subleased the space from, and entered into a consulting agreement with, the
lessee. The Company transferred the lease and consulting agreement to FBC. FBC
assumed the lease obligation, and the sole stockholder of FBC guaranteed FBC's
obligations. FBC and the guarantor have defaulted on the sublease and on
9
<PAGE>
BROTHERS GOURMET COFFEES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 26, 1998
(IN THOUSANDS)
(UNAUDITED)
the consulting agreement. The lessee has sued FBC, the guarantor and the
Company in Washington, D.C. for rents, consulting fee payments and other damages
in the amount of approximately $380.
NOTE 12--MANAGEMENT'S PLANS
Based on historical experience, the Company anticipated that its cash
position would tighten in July and August 1998. During the second quarter of
Fiscal Year 1998, the Company lost additional customers and incurred higher
green coffee costs. As a result of these developments, in May 1998, the
Company commenced negotiations with GSCP and Dilmun to restructure its
Revolving Credit Facility, Term Loan Facility and Subordinated Note (the
"Debt Facilities"). The negotiations are ongoing. The Company has asked
GSCP and Dilmun for (1) waivers of the existing Covenant Defaults and other
breaches under the Debt Facilities, (2) amendments to the financial and
certain of the non-financial covenants in the Debt Facilities, (3) an
overadvance facility to bridge the Company's interim cash flow needs, (4) a
new business and existing business renewal facility and (5) certain other
structural changes to the Debt Facilities in order to better match debt
service payments to the lenders with the Company's anticipated future cash
flows (the "Debt Restructuring Plan"). To date, the parties have not been
able to reach agreement on the terms of a Debt Restructuring Plan. In the
meantime, the Company's cash flow position has deteriorated significantly
and, as a result, the Company has been forced to consider other alternatives
in the event it is unable to reach agreement with GSCP and Dilmun. Such
alternatives include, among other things, filing a petition under Chapter 11
of the Federal Bankruptcy Code. The Company has had discussions with GSCP
and Dilmun about obtaining debtor-in-possession financing from them in the
event of a Chapter 11 filing. The Company's decision to file or not file for
protection under the federal bankruptcy laws will be driven primarily by its
ability to continue to finance its operations pending the outcome of its
ongoing negotiations with GSCP and Dilmun concerning its Debt Restructuring
Plan.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSIONS AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The Company is an integrated sourcer, roaster, and wholesaler of high
quality gourmet coffee products. The Company is one of the leading wholesale
suppliers of gourmet coffees in the United States. The Company distributes its
product principally through grocery stores, supermarkets, mass merchandisers,
drug stores, military commissaries, warehouse stores and specialty stores (the
"wholesale distribution channel").
THREE MONTHS ENDED JUNE 26, 1998 COMPARED TO THE THREE MONTHS ENDED JUNE 27,
1997
NET SALES. Net sales decreased $2.0 million, or 12.4%, in the second
quarter of Fiscal Year 1998 as compared to the second quarter of Fiscal Year
1997. Sales decreased $2.4 million due to lower sales volume partially offset
by a $.4 million increase in sales price realization ($.15 per pound). The
decline in sales volume was attributable principally to the loss of certain
customers. The Company's decision not to enter into unprofitable promotional
contracts, requiring the payment of substantial product placement costs
(slotting fees), was the primary reason for the loss of such customers.
The Company also did not have the cash to pursue certain other contracts.
GROSS PROFIT AND GROSS PROFIT MARGIN. Gross profit decreased $4.5 million,
or 52.2%, in the second quarter of Fiscal Year 1998 as compared to the second
quarter of Fiscal Year 1997. The decrease resulted principally from (1) a $1.3
million decrease in sales volume and (2) a $3.2 million increase in green coffee
costs. The gross profit margin decreased as a percentage of sales from 54.0% in
the second quarter of Fiscal Year 1997 to 29.3% in the second quarter of Fiscal
Year 1998 principally due to the higher cost of green coffee and lower sales
volume.
DISTRIBUTION, SELLING AND MARKETING EXPENSES. Distribution, selling and
marketing expenses increased $.5 million, or 7.0%, in the second quarter of
Fiscal Year 1998 as compared to the second quarter of Fiscal Year 1997
principally due to higher marketing costs of $1.0 million partially offset by
lower customer sales and distribution expenses of $.5 million. The $1.0 million
increase in marketing costs is due to the timing of advertising programs in
Fiscal Year 1998 versus Fiscal Year 1997. The Company spent advertising dollars
in the second half of Fiscal Year 1997 versus the planned first half of Fiscal
Year 1998. Distribution, selling and marketing expenses as a percentage of
sales increased from 42.3% of sales in the second quarter of Fiscal Year 1997 to
51.7% of sales in the second quarter of Fiscal Year 1998 principally due to
lower sales and higher marketing costs.
ADMINISTRATIVE EXPENSES. Administrative expenses increased $.6 million, or
45.1%, in the second quarter of Fiscal Year 1998 as compared to the second
quarter of Fiscal Year 1997 due to increased legal, accounting and consulting
services.
AMORTIZATION OF INTANGIBLES. Amortization of intangibles expense
decreased $.3 million, 44.7%, in the second quarter of Fiscal Year 1998 as
compared to the second quarter of Fiscal Year 1997 due to the completion of
noncompete amortization during Fiscal Year 1997.
WRITEDOWN OF FIXED ASSETS. As a result of the loss of customers in the
second quarter of Fiscal Year 1998 and related plant idle capacity, the
Company decided that certain fixed assets became unusable.
WRITE-OFF OF GOODWILL. During the second quarter of Fiscal Year 1998,
the Company incurred a significant decline in sales volume principally due to
the loss of certain customers. The Company's decision not to enter into
unprofitable promotional contracts, requiring the payment of substantial
product placement costs (slotting fees), was the primary reason for the loss
of such customers. The Company also did not have the cash available to
pursue certain other contracts. In addition, these customer losses
significantly reduced the Company's estimated future cash flows.
FUTURE PURCHASE COMMITMENT LOSSES. The Company incurred a $.6 million
charge in the second quarter of Fiscal Year 1998 due to the declines in green
coffee prices as compared to the Company's existing firm purchase commitments.
11
<PAGE>
LOSS DUE TO MARKET DECLINE IN INVENTORY. Because of second quarter
declines in green coffee prices in comparison to the Company's existing green
and finished coffee inventories, the Company recorded a valuation allowance of
$1.0 million to write down its green coffee and finished goods inventories to
the lower of cost or market at the end of the second quarter of Fiscal Year
1998.
LOSS FROM CONTINUING OPERATIONS. Loss from continuing operations
increased $58.7 million in the second quarter of Fiscal Year 1998 as compared
to the second quarter of Fiscal Year 1997. The second quarter fiscal year
1998 loss was principally due to (1) the write-off of $50.3 million of
goodwill, (2) a $4.5 million decline in gross profit, (3) a $1.6 million
writedown of fixed assets, (4) a $1.5 million increase in operating expenses
and (5) a $1.0 million market decline in the value of inventory.
INTEREST EXPENSE. Interest expense increased $.6 million, or 63.4%, in the
second quarter of Fiscal Year 1998 as compared to the second quarter of Fiscal
Year 1997. The increase was principally due to higher borrowing amounts.
LOSS FROM DISCONTINUED RETAIL OPERATIONS. Loss from discontinued retail
operations increased $2.5 million in the second quarter of Fiscal Year 1998
as compared to the second quarter of Fiscal Year 1997. The second quarter
Fiscal Year 1998 loss was principally due to (1) the $.7 million final
settlement of claims related to the sale of Gloria Jeans, (2) $1.0 million of
estimated potential liability related to guaranteed leases from the sale of
its Coffee Bars as a result of continued litigation related primarily to the
Zebra Room, and (3) $.8 million of legal and settlement costs relating to the
remaining Coffee Bar leases principally because of Nassau & Liberty Coffee
Bar Litigation.
NET LOSS. Net loss increased $61.8 million in the second quarter of Fiscal
Year 1998 as compared to the second quarter of Fiscal Year 1997 principally due
to the items cited above.
SIX MONTHS ENDED JUNE 26, 1998 COMPARED TO SIX MONTHS ENDED JUNE 27, 1997
NET SALES. Net sales decreased $3.3 million, or 10.2%, during the first
six months of Fiscal Year 1998 as compared to the first six months of Fiscal
Year 1997. The decrease in the first six months of Fiscal Year 1998 was
principally due to a $5.0 million decline in pound volume due to a loss of
certain customers partially offset by a$1.7 million increase in sales price
realization ($.29 per pound).
GROSS PROFIT AND GROSS PROFIT MARGIN. Gross profit decreased $6.7
million, or 41.1%, in the first six months of Fiscal Year 1998 compared to
the first six months of Fiscal Year 1997. The decrease resulted principally
from (1) a $2.7 million decrease in sales volume and (2) a $4.0 million
increase in green coffee costs. The gross profit margin decreased as a
percentage of sales from 50.0% during the first six months of Fiscal Year
1998 to 32.8% during the first six months of Fiscal Year 1998 due principally
due to higher green coffee costs.
DISTRIBUTION, SELLING AND MARKETING EXPENSES. Distribution, selling and
marketing expenses remained constant in the first six months of Fiscal Year
1998 compared to the first six months of Fiscal Year 1997. Distribution,
selling and marketing expenses as a percentage of sales increased from 42.2%
in the first six months of Fiscal Year 1997 to 46.9% in the first six months
of Fiscal Year 1998 due to increased marketing expenses.
ADMINISTRATIVE EXPENSES. Administrative expenses increased $.7 million, or
23.9%, during the first six months of Fiscal Year 1998 as compared to the first
six months of Fiscal Year 1997 principally due to an increase in legal and
professional fees.
INTEREST EXPENSE. Interest expense, including amortization of debt
acquisition costs, increased by $1.1 million, or 59.2%, in the first six
months of Fiscal Year 1998 compared to the first six months of Fiscal Year
1997 due to higher borrowing amounts.
LOSS FROM CONTINUING OPERATIONS. Loss from continuing operations increased
$60.1 million in the six months ended June 26, 1998 as compared to the six
months ended June 27, 1997. The increased loss was caused by (1) a $50.3
million write off of goodwill, (2) a $6.7 million decrease in gross profit, (3)
a $1.6 million writedown of fixed assets, (4) a $1.1 million increase in
interest expense and (5) a $1.0 million loss due to market decline in inventory.
12
<PAGE>
NET LOSS. Net loss increased by $61.1 million in the first six months of
Fiscal Year 1998 compared to the six months six months of Fiscal Year 1997 due
to the items noted above.
YEAR 2000 COMPLIANCE
Until recently, many computer programs were written using two digits
rather than four digits to define the applicable year in the twentieth
century. Such software may recognize a date using "00" as the year 1900
rather then the year 2000. Utilizing both internal and external resources
the Company is in the process of defining, assessing and converting or
replacing various programs, hardware and instrumentation systems to make them
Year 2000 compatible. The Company's Year 2000 project is comprised of two
components - business applications and equipment. The business applications
component consists of the Company's business computer systems, as well as the
computer systems of third-party suppliers or customers, whose Year 2000
problems could potentially impact the Company. Equipment exposures consist
of personal computers, system servers, telephone equipment and roasting and
packaging equipment whose Year 2000 problems could also impact the Company.
The cost of the Year 2000 initiatives is not expected to be material to the
Company's results of operations or financial position.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by (used in) operating activities for the six months
ended June 26, 1998 and June 27, 1997 was $1.9 million and ($2.2) million,
respectively. During the first six months of Fiscal Year 1998, a $7.3
million reduction of current assets, principally accounts receivable, funded
cash operating losses.
Net cash used in investing activities for the six months ended June 26,
1998 and June 27, 1997 was $1.1 million and $2.9 million respectively. In
addition, the Company made $1.3 million of capital expenditures, consisting
of $.9 million for customer display equipment and $.4 million for plant and
computer equipment. Net cash (used in) provided by financing activities for
the six months June 26, 1998 was ($.8) million compared to $5.1 million for
the six months ended June 27, 1997.
Management expects capital expenditures in Fiscal Year 1998 (primarily
associated with the acquisition of customer display and plant equipment) not to
exceed $2.5 million.
The Company's debt agreements with GSCP and Dilmun contain various
financial and non-financial covenants. These covenants require the Company
(1) beginning with the first quarter of fiscal 1998, to maintain total
capital funds, as defined in the Restated Credit Agreement, at various
quarterly amounts (the "Total Capital Funds Covenant"), (2) beginning with
the second quarter of 1998, to maintain earnings before interest expense,
taxes paid, depreciation and amortization ("EBITDA"), as defined in the
Restated Credit Agreement, at various quarterly amounts (the "EBITDA
Covenant"), (3) to maintain cash flow to debt service, as defined in the
Subordinated Note Agreement, at specified levels (the "Cash Flow Covenant"),
(4) to maintain consolidated tangible net worth, as defined in the
Subordinated Note Agreement, at specified levels (the "Net Worth Covenant"),
(5) beginning in the first quarter of 1998, to limit annual capital
expenditures to $5,000 and (6) at all times during 1998, to restrict the
payment of dividends.
At June 26, 1998, the Company was not in compliance with (1) the Total
Capital Funds Covenant and EBITDA Covenant in its Restated Credit Agreement (the
"GSCP Loan Agreement") with Goldman Sachs Credit Partners, L.P. ("GSCP") (the
"GSCP Covenants"), and (2) the Cash Flow Covenant and the Net Worth Covenant in
the Senior Subordinated Agreement (the "Subordinated Note") with Dilmun
Financial Services ("Dilmun") (the "Dilmun Covenants") (referred to herein as
the "Covenant Defaults"). In addition, the Company did not make the interest
payment of $420 due to Dilmun on June 30, 1998 (the "Interest Payment"). Dilmun
has given the Company an extension of time until the close of business on August
17, 1998, to make the Interest Payment. At this time, the Company does not
intend to make such payment. Accordingly, assuming the payment is not timely
made, the nonpayment will mature into an event of default under the Subordinated
Note (thereafter an "Interest Payment Default").
GSCP, Dilmun and the Company are parties to a Subordination Agreement.
Pursuant to the terms of that agreement, (1) absent a bankruptcy filing by the
Company, Dilmun does not have the right to accelerate repayment of the
Subordinated Note solely because of the Dilmun Covenant defaults (the "Dilmun
Covenant Defaults"), (2) absent a bankruptcy filing by the Company, Dilmun must
wait 180 days after it gives notice to GSCP and the Company of the Interest
Payment Default before it can accelerate repayment of the Senior Note by reason
of such default and (3) upon the filing of a bankruptcy petition by the Company,
Dilmun may proceed immediately to accelerate repayment of the Subordinated Note.
As discussed above, the cure period for the Interest Payment has been extended
until the close of business on August 17, 1998. Accordingly, the Company has
continued to classify the outstanding borrowings under the Subordinated Note as
long-term. The Company previously asked Dilmun to amend the Subordinated Note
to eliminate or waive the Dilmun Covenant Defaults. The parties were not able to
reach agreement on the terms of such amendment or waiver.
13
<PAGE>
Based on historical experience, the Company anticipated that its cash
position would tighten in July and August 1998. During the second quarter of
Fiscal Year 1998, the Company lost additional customers and incurred higher
green coffee costs. As a result of these developments, in May 1998, the
Company commenced negotiations with GSCP and Dilmun to restructure its
Revolving Credit Facility, Term Loan Facility and Subordinated Note (the
"Debt Facilities"). The negotiations are ongoing. The Company has asked
GSCP and Dilmun for (1) waivers of the existing Covenant Defaults and other
breaches under the Debt Facilities, (2) amendments to the financial and
certain of the non-financial covenants in the Debt Facilities, (3) an
overadvance facility to bridge the Company's interim cash flow needs, (4) a
new business and existing business renewal facility and (5) certain other
structural changes to the Debt Facilities in order to better match debt
service payments to the lenders with the Company's anticipated future cash
flows (the "Debt Restructuring Plan"). To date, the parties have not been
able to reach agreement on the terms of a Debt Restructuring Plan. In the
meantime, the Company's cash flow position has deteriorated significantly
and, as a result, the Company has been forced to consider other alternatives
in the event it is unable to reach agreement with GSCP and Dilmun. Such
alternatives include, among other things, filing a petition under Chapter 11
of the Federal Bankruptcy Code. The Company has had discussions with GSCP
and Dilmun about obtaining debtor-in-possession financing from them. The
Company's decision to file or not file for protection under the federal
bankruptcy laws will be driven primarily by its ability to continue to
finance its operations pending the outcome of its ongoing negotiations with
GSCP and Dilmun concerning its Debt Restructuring Plan.
SUPPLY OF COFFEE AND GENERAL RISK CONDITIONS
Coffee is the world's second largest traded commodity. Supply and price
can be, and have been, volatile. While most coffee trades in the commodities
market, coffee of the quality level sought by the Company has a tendency to
trade on a negotiated basis at a substantial premium above commodity coffee
pricing, depending upon the supply and demand at the time of purchase. The
supply and price can be affected by multiple factors, such as weather, politics
and economics in the coffee producing countries, many of which are lesser
developed nations.
The International Coffee Organization, through the imposition of export
quotas agreed upon by consumer and producer member nations, has in the past
attempted to maintain the commodity prices of green coffees. In August 1993, 21
coffee-producing countries formed a new cartel, the Association of Coffee
Producing Countries ("ACPC"), and announced plans to cut the supply of coffee
by 20% beginning October 1, 1993 in an attempt to raise world coffee prices. In
May 1998, the ACPC agreed to extend its current limitations on the supply of
green coffee through June 1999. The Company is unable to predict whether the
ACPC will be successful in achieving its goals. The supplies of green coffees
held by consumers (roasters and buyers) are currently at low levels.
During 1997, green coffee prices increased from $1.40 per pound at the
start of 1997 to a high over $3.00 per pound in June 1997 and remained
relatively high, $1.70 per pound, at the end of 1997. These price levels in
1997 were principally due to a shortage of supply of many grades of coffee
caused by disruptive weather patterns throughout the world. Since March
1998, coffee prices have been steadily moving lower due to anticipated
increases in future green coffee supplies. The current "C" price for green
coffee is $1.17 per pound. In response, to increased coffee prices in 1997,
the Company raised its selling prices, once in April and again in July, to
maintain its per pound gross profit margin. In response to competitive
prices and lower trends in green coffee, the Company reduced its prices to
the grocery stores and supermarkets in October 1997. The reductions in the
Company's selling prices have preceded the sell through of the Company's
higher cost green coffee inventories, thus reducing its fourth quarter Fiscal
Year 1997 and the first six months of Fiscal Year 1998 gross profit margins
below historical levels. The Company expects its green coffee costs to
decrease steadily in the next six months and the Company's gross profit
margins to return to historical levels.
A significant portion of the Company's green coffee supply is contracted
for future delivery, generally between three and twelve months forward, to
ensure both an adequate supply and reduced risk of short-term price
fluctuations. Green coffee is a large market with well-established brokers,
importers and warehousemen through which the Company manages its requirements.
In addition to forward purchases, the Company keeps physical inventory in its
production facility and third-party warehouses representing anywhere from four
to ten weeks of supply requirements. All coffee purchase transactions are in
U.S. dollars, the industry's standard currency. The Company is not dependent
upon any one importer or broker for its supply of green coffee beans.
SEASONALITY AND FLUCTUATIONS IN QUARTERLY RESULTS
14
<PAGE>
The Company's business is seasonal, with increased sales during the colder
months. As a result, in a typical year, a substantial portion of the Company's
sales and its reported income from operations occur during the fourth quarter of
each Fiscal Year, while the Company's working capital requirements fluctuate
during the year with its greatest needs during the third and fourth quarter of
each year. The Company's income from operations thus fluctuates somewhat from
quarter to quarter. The timing of slotting fee payments, other similar payments
and product introduction costs in connection with wholesale accounts and the
amount of revenue contributed by such new wholesale accounts may cause the
Company's quarterly results of operations to fluctuate in the future. The
Company may experience quarterly losses and its results of operations for any
particular quarter may not necessarily be indicative of net income or loss that
may be expected for any other particular quarter or for the whole year.
15
<PAGE>
PART II. - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See the discussion of the Kona Coffee Class Action, the Nassau & Liberty
Coffee Bar Litigation, the Employee Litigation, the Singlebrew Litigation and
the Second Cup Warranty Claims in Note 9 - Litigation to the Notes to the
Company's Condensed Consolidated Financial Statements for the second quarter
of Fiscal Year 1998 included herewith (the "Second Quarter 1998 Financial
Statements").
The Company is also involved in routine legal proceedings incidental to
the conduct of its business. Management believes that none of these routine
legal proceedings will have a material adverse effect on the financial
condition or operations of the Company.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
See PART I, ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION RESULTS OF OPERATIONS -- Liquidity and Capital Resources above for
a detailed discussion of the current defaults under the GSCP Loan Agreement
and the Subordinated Note.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
In May 1998, the NASDAQ Stock Market, Inc. ("NASDAQ"), informed the
Company, in writing, that it was no longer in compliance with the net
tangible assets/market capitalization/net income continued listing
requirement (the "NTA Requirement") of the NASDAQ National Market system
("NNM"), and, unless the Company could demonstrate that it would promptly
regain compliance with such listing requirement, the Company's common stock
would be de-listed from the NNM. Subsequently, NASDAQ also informed the
Company that the price of its common stock had been trading below the NNM
$1.00 minimum bid price requirement (the "Minimum Bid Price Requirement"). A
written hearing before the NASDAQ Qualifications Hearings Panel (the "Panel")
was scheduled for August 6, 1998 (the "Hearing"). The Company submitted
written materials to NASDAQ outlining a plan for regaining compliance with
the NTA Requirement, which was dependent, in part, on the Company and its
lenders reaching a definitive debt restructuring plan prior to the date of
the Hearing. The Company also indicated in its written submission to NASDAQ
that it would consider implementing a reverse split of its common stock to
regain compliance with the Minimum Bid Price Requirement provided that NASDAQ
accepted the Company's plan for regaining compliance with the NTA
Requirement. As discussed above (see PART I, ITEM 2. MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION RESULTS OF OPERATIONS --Liquidity and
Capital Resources), the Company and its lenders were not able to reach
agreement on a debt restructuring plan prior to the date of the Hearing, and
the Company so informed NASDAQ. The Company has asked NASDAQ to stay any
de-listing action pending the outcome of the Company's continuing discussions
with its lenders. As of the date hereof, the Panel has not rendered a
decision in this matter.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
27 - Financial data Schedule
16
<PAGE>
(b) REPORTS ON FORM 8-K
None
17
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
BROTHERS GOURMET COFFEES, INC.
Dated: August 17, 1998 By: /s/ Barry Bilmes
----------------------------------------
Barry Bilmes
Vice President Finance
and Administration
Signing on behalf of the registrant
and as principal financial officer of
the registrant
18
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED BALANCE SHEETS AND CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS (UNAUDITED) FOR THE SIX MONTHS ENDED JUNE 26, 1998 CONTAINED IN THE
FORM 10-Q FILED ON MAY 12, 1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-25-1998
<PERIOD-START> DEC-27-1997
<PERIOD-END> JUN-26-1998
<CASH> 0
<SECURITIES> 0
<RECEIVABLES> 5,397
<ALLOWANCES> 1,094
<INVENTORY> 7,226
<CURRENT-ASSETS> 13,399
<PP&E> 13,220
<DEPRECIATION> 0
<TOTAL-ASSETS> 31,896
<CURRENT-LIABILITIES> 28,949
<BONDS> 12,032
0
0
<COMMON> 1
<OTHER-SE> (9,453)
<TOTAL-LIABILITY-AND-EQUITY> 31,896
<SALES> 29,337
<TOTAL-REVENUES> 29,337
<CGS> 19,723
<TOTAL-COSTS> 71,280
<OTHER-EXPENSES> 15
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<INTEREST-EXPENSE> 3,031
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