UNITED STATES
SECURITIES AND EXCHANGE COMMISION
Washington, D.C. 20549
FORM 10-K
(Mark one)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended....... December 31, 1997..............................
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from ________________ to ______________________
Commission file number...............0-24388....................
MANHATTAN BAGEL COMPANY, INC.
(Exact name of registrant as specified in its charter)
Delaware 22-2981539
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
246 Industrial Way West, Eatontown, NJ 07724
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(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code (732) 544-0155
Securities registered under Section 12(b) of the Exchange Act: NONE
Title of each class Name of each exchange on which registered
.................................. ..........................................
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, No Par Value
......................................
(Title of class)
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..........
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K ( 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
form 10-K or any amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of
the registrant's computed by reference to the closing share price on the
registrant's Common Stock on March 27, 1998 as reported on the NASDAQ Small Cap
market was approximately $4,370,838.
APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
YES.........NO..............
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
The number of shares outstanding of each of the registrant's Common Stock,
as of March 27, 1998: 7,535,572 shares.
DOCUMENTS INCORPORATED BY REFERENCE
None
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Annual Report on Form 10-K, particularly under
Items 1-8, constitute "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995 (the "Reform Act"). Such
forward-looking statements involve known and unknown risks, uncertainties and
other factors which may cause the actual results, performance, or achievements
of Manhattan Bagel Company, Inc. ("the Company") to be materially different from
any future results, performance or achievements, expressed or implied by such
forward-looking statements.
The Company filed for protection under Chapter 11 of the Federal
Bankruptcy Code in November, 1997 and is operating as a debtor-in-possession.
The Company's success is highly dependent on its ability to structure and
implement a plan of reorganization and to emerge from the Chapter 11
proceedings.
The Company is dependent upon the success of existing and newly
franchised and Company-owned stores, and alternative distribution outlets; the
success of the Company, its master franchisees and area developers in getting
new stores or other retail locations opened; the ability of the Company and its
master franchisees to attract new qualified franchisees; and such other factors
as competition, commodity pricing and economic conditions.
The opening and success of Manhattan Bagel Company stores will depend on
various factors, including the availability of suitable store sites and the
negotiation of acceptable lease terms for new locations, the ability of the
Company or its franchisees to obtain construction and other necessary permits in
a timely manner, the ability to meet construction schedules, the financial and
other capabilities of the Company's franchisees and master franchisees, and
general economic and business conditions.
The Company's success is partially dependent on its ability to attract,
retain and contract with suitable franchisees and the ability of these
franchisees to open and operate their stores successfully.
The Company's business may also be subject to changes in consumer taste,
national, regional and local economic conditions, demographic trends and the
type, number and location of competing businesses. Competition in the bagel
industry is increasing significantly with an increasing number of national,
regional and local stores competing for franchisees and store locations as well
as customers.
The Company's future results may also be negatively impacted by future
pricing of the key ingredients for its frozen bagel dough.
The success of Manhattan Bagel Company units in alternative distribution
locations, including convenience stores, supermarkets, military bases and other
non-traditional locations, will depend, in addition to the factors affecting
traditional franchisee and Company-owned stores, on the success of the locations
in which they are located.
The openings and remodelings of Manhattan Bagel stores, as well as
openings of units within alternative locations, may be subject to potential
delays caused by, among other things, permitting, weather, the delivery of
equipment and materials, and the availability of labor.
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PART 1
Item 1. Description of Business
The Company manufactures bagel dough and blends a wide variety of cheese
spreads that are distributed to its franchised, licensed and Company-owned
stores. The bagels sold by the stores are first boiled and then baked in the
traditional "New York" style. The Company's retail system consists of 319 stores
as of December 31, 1997, including 302 franchised and licensed stores, 12
Company-owned and 5 joint-ventured stores in 18 states.
Chapter 11 Proceedings
On November 19, 1997, Manhattan Bagel Company, Inc. and on December 31,
1997, I & J Bagel, Inc., its wholly-owned subsidiary, filed voluntary petitions
in the United States Bankruptcy Court for the district of New Jersey (the
"Bankruptcy Court") seeking to reorganize under Chapter 11 of the U.S.
Bankruptcy Code. The filings were as a result of operating losses and being
placed in default by its primary lender, First Union National Bank.
The filing will enable the Company and its franchisees to conduct business
as usual while the Company develops a plan of reorganization. The Company has
assured franchisees that they will continue to receive a steady supply of bagel
dough and cheese spreads from its manufacturing plants, as well as operational
and marketing support, during the course of the reorganization.
Events completed in relation to the Company's ongoing operational
restructuring include the closing of underperforming Company stores, exiting the
store construction business, and reductions in corporate administrative
expenses. Additional components of the operational restructuring include ongoing
evaluation of operations and a refocusing of the Company's marketing strategies.
Since the commencement of the Chapter 11 filing, the Company has had the
exclusive right to file a plan of reorganization. The period of exclusivity
granted to the Company has been extended and is now scheduled to expire on July
29, 1998. Any further extension is within the discretion of the Bankruptcy
Court.
The Bankruptcy Court entered an order on April 8, 1998 and established the
"Bar Date" of June 15, 1998 as the deadline for filing proofs of claim to the
Chapter 11 proceedings.
Market Opportunity
The consumer food products industry is being shaped by several factors,
including increased consumer demand for healthier food products. Management
believes many American consumers are actively seeking to reduce the fat content
and improve the nutritional content of their diet. Bagels have a significantly
lower fat content than food alternatives typically purchased for breakfast
take-out such as donuts and pastries, and it is management's belief that
consumers generally consider bagels to be a healthier alternative.
Although in recent years, there has been an expanded number of bagel
stores operated by national or regional chains, management believes that the
bagel industry continues to be primarily comprised of small operators that
operate one or a few stores and larger bagel chains that
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generally have their bagel dough produced at each retail location or at
independently-operated regional facilities. See "Competition." As a result,
bagel quality can vary from location to location within these chains. Management
believes that there is a market opportunity for companies able to produce large
volumes of consistent, superior quality bagels and distribute such product
nationally and internationally.
Strategy
The Company's objective is to become one of the leading producers of fresh
bagels and bagel dough nationally, utilizing the strength of its manufacturing
capability and know-how, franchise stores and brand name to create demand for
the Company's products. Key elements of the Company's strategy include the
following:
Control of Manufacturing and Distribution. The Company places great
emphasis on product quality in both bagels and cheese spreads, which it
believes, together with competitive pricing, is the primary factor in a
consumer's decision to patronize Manhattan Bagel Company stores. The Company
believes that controlling the manufacture and distribution of bagels and cheese
spreads is key to ensuring its product quality and thereby maximizing
profitability. To support this business philosophy, the Company has continued to
expand its manufacturing capacity and to make significant improvements in
processing technology and formulations.
In 1997, the Company increased overall manufacturing capability with the
addition of a second production line in Eatontown. The Company's construction of
a new 25,000 sq. ft. distribution facility adjacent to the existing factory,
which is expected to quadruple raw material and finished goods storage was
halted with the filing of the Chapter 11 petition. Also, the Company's
construction of a new bagel dough manufacturing facility in Los Angeles, CA, to
service the Company's West Coast stores was halted with the filing of the
Chapter 11 petition. Completion of the Eatontown expansion is expected in 1998;
however, completion of the Los Angeles facility is uncertain and depends on the
Plan of Reorganization adopted under the Chapter 11 proceeding.
Alternative Distribution Strategies. The Company believes that marketing
and selling its products in association with national or regional chain stores
or food service providers (co-branding), offers an excellent way to expand the
distribution of its products. Co-branding arrangements may range from
over-the-counter sales of the Company's products by the chain store, in-store
kiosks to display and sell the Company's products or opening a Manhattan Bagel
Company franchised store in association with a chain. The Company is continuing
to develop new types of branded display formats. The Company believes that its
method of manufacturing and shipping frozen raw bagel dough to retail stores
provides the necessary flexibility and simplicity of operation to expand
distribution within a broad range of retailing environments.
The Company is pursuing alternative distribution opportunities with strong
regional supermarket chains, major food service contractors that service
non-traditional retail environments, and established food retailers.
Distribution within supermarkets may include a traditional branded retail
unit which boils and bakes bagels at the supermarket in a small area, or
non-producing full service kiosks or self-service branded product cases. The
Company currently has agreements with Kroger's in Georgia and North Carolina in
which three units are open, Clemens Market in Pennsylvania in which four units
are open and Foodtown in New Jersey in which one unit is open.
The Company also seeks to expand its distribution through major food
service contractors in non-traditional retail environments, such as college
campuses, military bases, hospitals, airports
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and convenience stores and food courts on toll roads. An agreement has been
signed with ARAMARK Corp. providing the Company's franchisees the right to place
Manhattan Bagel cases on college campuses, serviced by ARAMARK. Under this
agreement, Manhattan Bagel branded product cases are currently found at the
University of Delaware and at West Chester State College in Pennsylvania. A
license agreement has also been signed with the Army and Air Force Exchange
Service (AAFFES), to operate traditional Manhattan Bagel Company stores and
Kiosks within military bases in the United States and certain other countries.
The Company currently has units open on two military bases, Ft. Hood, TX and Ft.
Irwin, CA, and will expand its program with the planned opening of four
additional full-bake units through the first quarter of 1999.
The Company is pursuing alternative distribution opportunities with
regional supermarket chains, major food service contractors which service
non-traditional retail environments, and established food retailers as discussed
above. The Manhattan Bagel Company units operated in these alternative
distribution locations are typically operated by the Company's franchisees and
in some cases are procured by the Company's master franchisees. In the case of
established food retailers, the co-venturer may act as a franchisee or may in
turn offer a Manhattan Bagel franchise to its franchisees. The Company has
various franchise fee arrangements in these types of situations.
Products
The Company seeks to provide the consumer with superior quality products,
primarily bagels and cheese spreads, combined with excellent service in a clean
pleasant environment. The Company's bagels are prepared in each store with the
Company's frozen raw bagel dough using a technique which requires the bagel to
be boiled first, then baked, under the Company's quality control guidelines, a
procedure which is believed to be the traditional "New York" style.
Non-producing locations such as branded cases or kiosks are typically provided
with bagels prepared at a local store or commissary.
In addition, the Company blends and supplies a wide variety of cheese
spreads, including low fat and no fat cheese spreads to substantially all of the
Company-owned and franchised stores. The Company purchases plain cream cheese
from independent suppliers and mixes in ingredients at its manufacturing
facilities. The Company produces cheese spreads in various size containers.
The Company manufactures and distributes to its franchisees and
Company-owned stores frozen raw bagel dough from its central manufacturing
facilities. By supplying the franchisees and Company-owned stores with frozen
raw bagel dough and cheese spreads, the Company is able to control the quality
of product sold in the stores. Other benefits realized include an easier and
more efficient operation at the stores; a reduction in the cost of establishing
a franchise outlet; and a reduction in utility and labor costs. The bagel dough
is delivered to each store generally by the Company's and/or distributor's
delivery vehicles.
In addition to bagels and cheese spreads, Manhattan Bagel Company stores
generally offer coffee, soft drinks, deli meats, salads, muffins and soups.
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Bagel Manufacturing and Distribution
The Company believes that it has developed significant know-how and
technical expertise for manufacturing and freezing mass quantities of raw bagel
dough in variable conditions to produce a high-quality product more commonly
associated with smaller bakeries. The Company believes this system enables
stores to provide all Company customers with consistent, superior products,
thereby helping to build brand name awareness and customer loyalty. The Company
currently operates bagel manufacturing and distribution facilities located in
Eatontown, NJ, Los Angeles, CA and Greenville, SC which provide bagel dough to
Company-owned and franchised stores.
The Company's primary bagel dough manufacturing facility is located at the
Company's headquarters in Eatontown, New Jersey. The facility, which became
operational in April 1996, is currently capable of supplying approximately 200
stores at current store sale levels. This highly automated, state-of-the-art
facility was originally built with the ability to expand its capacity by adding
a new production line. In 1997, the new line was added which has become
operational. The completion of a new 25,000 square foot distribution facility
adjacent to the manufacturing facility is expected to quadruple raw material and
finished good storage capacity. When fully operational, the manufacturing
facility will be capable of supplying 400 stores at current store sales levels.
Construction of the distribution facility was halted as a result of the Chapter
11 filing. Completion of the facility is expected in 1998.
The Company's lease for its original Eatontown facility expired in
December 1997 and the Company vacated the facility.
The Company's bagel manufacturing facility located in Greenville, South
Carolina, became operational in July 1995 and has the capacity to supply 100
stores at current store sales levels. It supplies the Company's franchised
stores in the Southeastern territory of the United States, including stores in
Florida, Georgia, North Carolina, South Carolina, Virginia and Texas.
The Company's facility located in Los Angeles, California was acquired as
part of the acquisition of I & Joy Bagels (I & J), in June 1995. The lease for
the 10,844 s uare foot facility commenced in September 1994 and has a term which
extends through March 31, 2001. I&J has two five-year options to extend this
lease through March 31, 2011 and an option to expand the leased space. In March
1997, a ten year lease was signed with the San Fernando Business Center to lease
approximately 24,000 sq. ft. of space at 1145 Arroyo Ave. in San Fernando County
as part of a plan to relocate manufacturing and office facilities in California.
Completion of the facility is uncertain and depends on the Plan of
Reorganization adopted under the Chapter 11 proceeding. The initial capacity of
the planned facility will supply approximately 75 stores.
The Company's products are typically delivered by truck directly from the
manufacturing facility to the store. The Company has determined that in certain
regions, because of the distance of stores from the manufacturing facility, it
is more efficient to deliver bagel dough and cheese spreads to a local
distribution facility having adequate freezer facilities, from which products
are delivered to the stores. The Company has established manufacturing and
distribution facilities in Eatontown, NJ, Los Angeles, CA, and Greenville, SC;
and additional distribution facilities in Richmond, VA; Longwood, FL; West
Hartford, CT and Houston, TX.
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Franchising
The Company offers both single unit and multi-unit franchises throughout
the United States. The Company is currently registered to offer franchises in
over 30 states. The Company offers franchises both directly by the Company and
through master franchisees. The Company has sold master franchise rights for six
territories in the United States.
The Company attempts to attract single and multiple unit franchisees that
are committed to the Company's high standards of product quality and customer
service. All franchisees are required to operate their stores in accordance with
the guidelines and standards detailed in the Company's operations manual. The
Company and/or its master franchisees conduct regular inspections of franchise
stores to determine whether the stores meet applicable standards, and work with
franchisees to improve substandard performance.
Current franchise agreements provide for payment of an initial franchise
fee for traditional producing stores of $30,000 with lesser fees for additional
traditional or alternative units. Current franchise agreements also provide for
a weekly royalty of 5% of gross sales (exclusive of sales tax) and a monthly
contribution to a national advertising fund ranging from .5% to 4.0% of gross
sales (the current contribution maximum is 2.5%) depending when the franchise
was sold. The current franchise agreement term is 10 years. In the past, the
Company had signed the majority of the leases as lessee and subleased the store
to the franchisee. The Company no longer signs leases as lessee. Franchisees now
generally sign directly as the lessee. Each franchise agreement provides the
right to renew the franchise, at one-third of the then current initial franchise
fee, if the lease term is renewed and additional requirements described in the
franchise agreement are met. While costs including initial franchise fee, cost
of construction, equipment and other start-up expenses vary by location and type
of store, such costs usually range from $175,000 to $250,000. It typically takes
six to eight months from the signing of the franchise agreement to the opening
of the store.
In certain instances the Company has become a joint-venture partner in a
franchise in return for providing funds for the start-up costs of the Manhattan
Bagel store. The Company is currently a joint-venture partner in five locations.
The Company may also operate stores repurchased from franchise owners (where the
Company believes a change of ownership is beneficial).
The Company has the right to terminate a franchise agreement for a variety
of reasons, including a franchisee's failure to make payments when due or
failure to adhere to the Company's policies and standards. Many state franchise
laws limit the ability of a franchisor to terminate or refuse to renew a
franchise. See "Government Regulation."
Field Support/Marketing
The Company and/or its master franchisees provide field support and
advertising services to its franchisees to increase market area penetration,
maintain quality control and customer service excellence, stay abreast of new
product developments and to allow the franchisees the opportunity to share new
business ideas with the Company.
Prior to operating a store, all franchisees attend training classes at
Bagel University, a two-week training program run each month by the Company that
includes one week of classroom training in marketing, administrative record
keeping, and inventory control, and one week of training in baking and food
preparation. This program is also available to employees of franchisees. The
Company has an 1,100 square foot fully equipped training center at its
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Eatontown headquarters. The Company and/or its master franchisees also provide
on-site personnel for each store's grand opening. After a store opens, the
Company and/or its master franchisees monitor operational results, visit stores
for on-site consultation and provide advice based on the experience of other
franchisees. Management reviews franchise store sales weekly and attempts to
provide operational assistance as necessary.
Master Franchises
Although no longer being offered, the Company pursued a strategy of
developing new territories through the sale of master franchises. The Company
has sold master franchises in the following areas: a territory consisting of the
states of North Carolina, South Carolina and Georgia; a territory consisting of
the states of Maryland, Virginia and the District of Columbia; a territory
consisting of the state of Florida; a territory consisting of western New York,
Erie, Pennsylvania, and a portion of northeastern Ohio; a territory in Texas
consisting of Austin, San Antonio and El Paso; a territory in northern
California consisting of Sacramento, San Francisco and San Jose.
A master franchisee is responsible for selling franchises, finding
locations, negotiating leases, supervising the design and building of new
stores, training franchisees and supervising them after the locations are
opened, all in accordance with Company's quality control guidelines. The Company
retains the exclusive right to supply bagel dough, cheese spreads, and other
proprietary products to franchisees of the master franchisee.
Current master franchise agreements provide for a payment by the master
franchisee which is based on the population of the territory covered by such
master franchise. Master franchise fees are generally calculated based on a
negotiated rate per person in that territory. The master franchisee is
responsible for collecting the initial franchise fee and royalties from each
franchisee in its territory. As part of the master franchise agreement, the
master franchisee retains two-thirds of the initial franchise fee and royalties
payable by the individual franchisees in the master franchisee's territory, and
remits to the Company one-third of such amounts.
Master franchisees have minimum franchise sales requirements to maintain
their exclusive rights in their respective territories.
Area Developers
Although no longer being offered, the Company has executed area
development agreements for Lansing, MI; Morris County, NJ; Center City,
Philadelphia, PA and Clark County, NV.
Area developers were granted limited exclusivity to develop and operate
stores within a predetermined geographic area. Limits to exclusivity include
supermarket distribution and non-traditional retail opportunities. To maintain
development rights developers must open units in accordance with a predetermined
schedule, meet all financial obligations to the Company and operate stores
within established operating standards.
Construction of Stores
The Company exited the construction business in 1997 and no longer
constructs stores either for franchisees or for operation by the Company. Until
June 1997, the Company, for a fee, would serve as the general contractor for
store construction for franchisees.
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The Company also from time to time constructed stores at locations for
which it was the lessee but for which there was no franchisee, with the
intention of operating the store and then selling it to a franchisee.
It is the Company's intention to have all stores owned by franchisees;
however, on occasion the Company may be required to temporarily take over a
store from a franchisee but will seek to resell it promptly.
Store Locations
The following table sets forth by location the number of Company-owned,
franchised and licensed stores as of December 31, 1997.
STORE LOCATIONS
1997 STORES OPEN 1998 STORES IN DEVELOPMENT
STATE Company Franchised Total Company Franchised Total
New Jersey 0 58 58 0 6 6
Pennsylvania 0 54 54 0 6 6
California 12 25 37 0 2 2
New York 0 31 31 0 5 5
Florida 0 28 28 0 2 2
Virginia 0 19 19 0 2 2
Ohio 0 16 16 0 0 0
Georgia 0 15 15 0 1 1
Connecticut 0 14 14 0 0 0
North Carolina 0 14 14 0 2 2
Texas 0 8 8 0 0 0
Delaware 0 6 6 0 0 0
Massachusetts 0 3 3 0 0 0
Maryland/DC 0 5 5 0 1 1
Rhode Island 0 1 1 0 0 0
South Carolina 0 2 2 0 0 0
Nevada 0 3 3 0 0 0
Michigan 0 5 5 0 9 9
Wisconsin 0 0 0 0 1 1
- - - - - -
TOTAL 12 307 319 0 37 37
== === === = == ==
The number of franchised and licensed stores in development represent
locations for which the Company has executed franchise agreements or signed
leases. While historically few franchisees that have reached this stage of
development fail to commence operations, no assurance can be given that all such
stores will ultimately open. The Company had 12 Company operated stores at
December 31, 1997; down from 35 at December 31, 1996. The Company has adopted a
policy of not developing stores for its own operation and selling or closing all
stores currently owned and operated by the Company. On occasion the Company may
be required to temporarily take over a store from a franchisee but will seek to
resell it promptly.
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Trademarks and Service Marks
The Company's Manhattan Bagel (TM) is registered with the United States
Patent and Trademark Office and in several foreign countries. The mark is
licensed to franchisees pursuant to the franchise agreements.
The Company's "Manhattan Bagel" name and Service Mark suggest an
association with New York City, which is the place the Company believes is most
often associated with quality bagels. Similarly, the Company's depiction of a
skyline is intended to invoke a similar association and maintain a recognizable
image in the customer's eyes.
The Company is aware of a number of companies which use various
combinations of the words "Manhattan" and "Bagel" in their names, some of which
may have senior rights to the Company for such use, but none of which, either
individually or in the aggregate, are considered to materially impair the use by
the Company of its Service Mark. The Company considers its intellectual property
rights to be material to its business and intends to actively defend and enforce
them.
Competition
The Company competes against well established food service companies with
greater product and name recognition and with larger financial, marketing and
distribution capabilities than the Company's, as well as with innumerable local
food establishments that offer similar products. The food service industry in
general, and the take-out sector in particular, are intensely competitive with
respect to food quality, concept, location, service and price.
The bagel industry has been highly fragmented and has traditionally been
dominated by "mom and pop" operators. However, there are a growing number of
national, regional and local chains, operating both owned and franchised bagel
stores. The Company believes that its most direct competitors are Dunkin Donuts,
Einstein Brothers Bagel, Inc. ("Einstein Brothers"), Bruegger's Corporation
("Bruegger's"), Chesapeake Bagels ("Chesapeake") and Big Apple Bagels ("Big
Apple"). Einstein Brothers' retail system consists of over 500 owned and
franchised stores. Dunkin Donuts is the U. S. leading bagel provider with
approximately 2,800 locations.
Advertising
The Company presently advertises and plans to continue advertising its
franchises in current stores consistent with applicable law, franchise trade
shows, newspapers and business opportunity magazines.
The Company and its franchisees also advertise products in newspapers and
through direct mailing. Advertising is primarily funded out of the required
contribution to the Company's National Advertising Fund by franchisees. The
Company's "Co-operative Advertising" program provides advertising support in the
form of recommended advertisements, advertising mats, community cash back
programs, gift certificates, "Dozen Club", direct mail and focused local store
marketing programs.
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Government Regulation
The Company and its franchisees are required to comply with federal,
state, and local government regulations applicable to consumer food service
businesses generally, including those relating to the preparation and sale of
food, minimum wage requirements, overtime, working and safety conditions, and
citizenship requirements, as well as regulations relating to zoning,
construction, health, business licensing and employment. The Company believes
that it and its master franchisees and franchisees are in material compliance
with these provisions. Continued compliance with this broad federal, state and
local regulatory network is essential and costly, and the failure to comply with
such regulations may have an adverse effect on the Company and its franchisees.
The Company's offers and sales of franchises are subject to regulation by
the Federal Trade Commission ("FTC") in compliance with the FTC's rule entitled,
"Disclosure Requirements and Prohibitions Concerning Franchising and Business
Opportunity Ventures", which requires, among other things, that the Company
prepare and update periodically a comprehensive disclosure document, known as
the Uniform Franchise Offering Circular ("UFOC"), in connection with the sale
and operation of its franchises. In addition, some states require a franchisor
to register its franchise with the state before it may offer the franchise. The
Company believes that its UFOC, together with any applicable state versions or
supplements, complies with both the FTC rules and all applicable state laws
regulating franchising in those states in which it has offered franchises. The
UFOC must be provided to prospective franchisees in accordance with the FTC
rule.
In addition to the rules governing the offer and sale of franchises, the
Company is also subject to a number of state laws, as well as foreign laws (to
the extent it offers franchises outside of the United States), that regulate
substantive aspects of the franchisor-franchisee relationship, including, but
not limited to, those concerning termination and non-renewal. Currently, 18
states, the District of Columbia, Puerto Rico and the Virgin Islands, have
franchise termination and Non-renewal laws. These laws govern the termination
and/or non-renewal of the franchise agreement and, by and large, require the
franchisor to have good cause, reasonable cause or just cause in order to
terminate the franchise agreement or not to renew the franchise agreement. In
addition, some of these laws provide for longer cure periods than are provided
for in the Company's franchise agreement.
Each store will be subject to regulation by federal agencies and to
licensing and regulation by state and local health, sanitation, safety, fire and
other departments. Difficulties or failures in obtaining the required licenses
or approvals could delay or prevent the opening of a new store. The Company
believes that it is in substantial compliance with the applicable laws and
regulations governing its operations.
While the Company intends to comply with all federal, state and foreign
laws and regulations, there can be no assurance that it or its Master
Franchisees will continue to meet the requirements of such laws and regulations,
which, in turn, could result in a failure to meet the requirements or a
withdrawal of approval to franchise in one or more jurisdictions. Any such loss
of approval would have a material adverse effect upon the Company's ability to
successfully market its franchises. Violations of franchising laws and/or state
laws and regulations regulating substantive aspects of doing business in a
particular state could subject the Company and its affiliates to recission
offers, monetary damages, penalties, imprisonment of officers and directors
and/or injunctive proceedings. The state laws and regulations concerning
termination and non-renewal of franchisees are not expected to have a material
impact on the Company's operations.
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In addition, under court decisions in certain states vicarious liability may be
imposed upon franchisors based upon claims made against franchisees. Even if the
Company is able to obtain coverage for such claims, there can be no assurance
that such insurance will be sufficient to cover potential claims against the
Company. Further, there can be no assurance that existing or future franchise
regulations will not have an adverse effect on the Company's ability to expand
its franchise program.
Employees
At December 31, 1997, the Company had 329 employees. The Company has never
experienced a work stoppage and no employees are represented by any labor union.
The Company believes that its employee relations are good.
Item 2. Description of Property.
The Company's leased headquarters is located at 246 Industrial Way West,
Eatontown, New Jersey 07724. Bagel University is also housed at the facility,
which includes a fully operational Manhattan Bagel Company store. The lease term
ends on January 31, 2005 and on January 31, 2015 if two five year options to
extend the term are exercised. The total square footage of space leased is
approximately 101,000 of which one-third is used for office and administrative
space and two-thirds for manufacturing.
The Company owns and operates a 12,500 square foot manufacturing facility
to serve the southeast region on a 1.45 acre parcel of land in Greenville, South
Carolina which became operational in July 1995.
The Company's facility located in Los Angeles, California was acquired as
part of the acquisition of I & Joy Bagels (I & J), in June 1995. The lease for
the 10,844 square foot facility commenced in September 1994 and has a term which
extends through March 31, 2001. I&J has two five-year options to extend this
lease through March 31, 2011 and an option to expand the leased space. In March
1997, a ten year lease was signed with the San Fernando Business Center to lease
approximately 24,000 sq. ft. of space at 1145 Arroyo Ave. in San Fernando County
as part of a plan to relocate manufacturing and office facilities in California.
Completion of the facility is uncertain and depends on the Plan of
Reorganization adopted under the Chapter 11 proceeding.
Item 3. Legal Proceedings.
On November 19, 1997, Manhattan Bagel Company, Inc. and on December 31,
1997 I & J Bagel, Inc., its wholly-owned subsidiary, filed voluntary petitions
under Chapter 11 of the United States Bankruptcy Code. Pursuant to the
provisions of Bankruptcy Code Section 362, the litigation pending against the
Company has been automatically stayed. As of March 31, 1998, no party to any of
the litigation pending against the Company as of November 19, 1997 has sought or
been granted relief from the automatic stay.
On June 20, 1996, the Company announced that following the installation of
new management at its I&J West Coast subsidiary the Company had uncovered
certain improper bookkeeping and accounting practices at the Los Angeles
subsidiary, that it would be restating its first quarter 1996 statement of
operations to account for these improper practices. As a result, the Board of
Directors of the Company authorized a full investigation into the accounting
practices at the Los Angeles subsidiary and retained special counsel to assist
in the investigation. Based on
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the conclusion of that investigation, the Company restated its first quarter
1996 statement of operations to reduce revenues $90,000 and record additional
expenses of $290,000.
On the day following the announcement, the stock price of the Company's
Common Stock declined from a closing price of $21.25 on June 20, 1996 to a
closing price of $13.75 on June 21, 1996. As a result, certain class action
lawsuits have been filed claiming violation of the Federal securities laws,
specifically Rule 10b-5 under the Securities Exchange Act of 1934. These
lawsuits from New Jersey and California have now been consolidated into one
class action lawsuit in the Federal District Court in New Jersey. Roger
Copeland, Henry A. Billetet, Soo May Lee & David Y. Lee v. Jack Grumet, Leonard
Johnson, Manhattan Bagel Company, Inc., Eric Cano, Jason Gennusa, Andrew
Gennusa, Allan Boren and Debbie Boren, United States District Court, District of
New Jersey, Master File No. 96-CV-3351 (MLP) (consolidated). There also remains
an additional action filed under California State law and removed to the Federal
Court in New Jersey purporting to be on behalf of a class of plaintiffs, the
status of which in relation to the class action lawsuits referred to above is
unsettled. Christine Overend v. Manhattan Bagel Co., Inc., et al., Jack Grumet
and Leonard Johnson, United States District Court, District of New Jersey, No.
96-CV-5900(MLP). The plaintiffs in these actions seek unspecified money damages.
Although the court has denied the defendant's request to dismiss the complaint,
the court required the class plaintiffs to replead their claims brought under
Section 11 of the Securities Act of 1933 and Section 10(b) of the Securities
Exchange Act of 1934 by April 8, 1998. On January 26, 1998, Jack Grumet and
Leonard Johnson moved for reconsideration of that portion of the Order denying
their motion to dismiss the claims asserted against them under Sections 25400
and 25500 of the California Corporations Code. That motion has been fully
briefed. The District Court has indicated that it will not take oral argument on
the motion. Although the Company believes it has acted properly and has adequate
defenses to such actions, no assessment of the amount or range of any loss that
might be incurred by, or the effects thereof on, the Company should it be found
to have violated any law, can be made at this time. In addition, no estimates
can reasonably be made at this time of the costs of defense of the actions.
The Company believes that an adverse outcome, if any, as a result of this
lawsuit would not be expected to have a material adverse effect on the financial
condition of the Company.
The Company has received notification from the Securities and Exchange
Commission that the SEC Staff is considering recommending that the SEC institute
a civil enforcement action against the Company (but not including any present
officer or director of the Company) relating to the filing by the Company of
what the Staff believes are inaccurate financial statements for certain prior
periods. The Staff and the Company have had discussions regarding the Company's
different views on these matters. No action has been commenced by the SEC, nor
is the Company able to predict when such an action might be commenced.
Other Litigation
The Company is a defendant in several other lawsuits. The Company is
defending each claim to the fullest extent but is unable at this time to assess
the effect on the financial condition of the Company should there be an adverse
determination of these lawsuits. The adverse outcome of any of these legal
proceedings is not expected to have a material adverse effect on the financial
condition of the Company. It is the Company's expectation that each of these
claims will be disposed of as part of the plan of reorganization to be filed in
the Company's Chapter 11 case.
Jeffrey Boren, Rochell Boren, Stephen Boren, as Trustee of the B
Irrevocable Trust, dated June 4, 1979; and Naphtalie Deutsch, as Trustee of the
JMB Irrevocable Trust, dated June 4, 1979 v. Manhattan Bagel Company, Inc.,
United States District Court for the Central District of California, Case
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No. CV97-0276-RAP (ANX). The Plaintiffs claim that the Company failed to comply
with contractual obligations under the Agreement and Plan of Merger dated as of
May 10, 1995, as amended, by and between the Company, DAB Acquisition Corp., DAB
Industries, Inc. and Allan Boren, with respect to the obligations of the Company
to register shares owned by the Plaintiffs for public sale by them. The
Plaintiffs are seeking damages in unspecified amounts. The matter is in the
discovery phase.
Hernandez v. I& J Bagel, Inc. et al. (Superior Court of California, Los
Angeles County, Case No. LC 045001). In March 1998, Plaintiff brought suit
alleging wrongful termination, employment discrimination based on national
origin, and other allegation based on his employment with the Company. The
Complaint was served in late March 1998.
The Company is or was involved in several other matters which have
resulted in litigation and it is unable at the current time to assess the effect
of the matter on the financial condition of the Company.
ALMEG Inc. v. Manhattan Bagel Company, Inc. (United States District Court,
for the Central District of California, Case No. CV-96-9046). In December 1996,
Plaintiff brought suit alleging breach of contract, breach of fiduciary duty and
other alleged defaults under a license agreement signed December 15, 1995
between Plaintiff's assignor and I&J Bagel, Inc., a subsidiary of the Company.
The Company settled this case pursuant to a Settlement Agreement and General
Release dated July 25, 1997, which provided for the termination of the license
agreement, the repurchase of Defendant's franchised location and the payment of
Common Stock for consideration.
Manhattan Bagel Company, Inc. v. Bagel Brothers Bakery and Deli, Inc.,
et. al. (United States Bankruptcy Court for the District of New Jersey, Case No.
97-53360). In February 1998, the Company filed a complaint for the turnover of
pledged stock, judgment on promissory notes and guaranties and related relief.
Defendants filed for a Chapter 11 Bankruptcy in early March 1998. The Company
has moved aggressively to enforce its rights.
Item 4. Submission of Matters to a Vote of a Security Holders.
None
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PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The Company's Common Stock is quoted on the NASDAQ Small Cap Market under
the symbol "BGLSQ". Prior to January 28, 1998 the Company's Common Stock was
listed on the NASDAQ National Market under the symbol "BGLS". The following
table sets forth, for the quarters indicated, the high and low bid prices of
these securities on the NASDAQ National Market prior to January 28, 1998 and on
the NASDAQ Small Cap Market thereafter.
High Low
Year Ended December 31, 1996:
First Quarter ................................... $25 1/2 $14 7/8
Second Quarter .................................. 29 1/2 11
Third Quarter ................................... 16 9 3/8
Fourth Quarter .................................. 12 1/2 6 3/8
Year Ended December 31, 1997
First Quarter ................................... $ 9 1/4 $ 5 7/16
Second Quarter .................................. 8 7/16 4 3/8
Third Quarter ................................... 7 1/4 5
Fourth Quarter .................................. 6 15/32
Year Ending December 31, 1998
First Quarter ................................... $ 1 7/32 23/32
Second Quarter (through April 23, 1998) ......... $ 1 30/32 3/4
The quotations in the above table reflect inter-dealer prices without
retail markups, markdowns or commissions. In addition, for all periods after
January 28, 1998, the quotations do not represent actual transactions.
As of March 27, 1998, there were approximately 492 shareholders of record
and beneficial shareholders of the Company's Common Stock.
Dividend Policy
The Company has not paid any dividends since its inception. The Company
does not see the prospect of paying dividends under Chapter 11. Future policy
will depend in part on the Plan of Reorganization filed under Chapter 11 and
thereafter on the operations of the Company and the determination of its Board
of Directors. There can be no assurance that dividends will ever be paid by the
Company.
15
<PAGE>
Item 6. Selected Financial Data
The following table sets forth the selected consolidated financial data of
Manhattan Bagel Company, Inc. for the five years ended December 31, 1997. The
selected financial data was derived from the consolidated financial statements
of the Company (the "Consolidated Financial Statements"). The consolidated
financial data should be read in conjunction with the Consolidated Financial
Statements, related notes and other financial information included elsewhere in
this Form 10K.
Statement of Operations Data:
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------------------------------------------------------
1993 1994 1995 1996 1997
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Revenues $ 2,278,283 $ 12,520,896 $ 21,364,904 $ 35,502,701 $ 39,571,587
Net
Income(loss)(1) 58,072 326,470 1,620,996 (7,480,662) (25,770,108)
Basic net income
(loss) per share $ .02 $ .06 $ 0.30 $ (1.02) $ (3.43)
Diluted net income
(loss) per share $ .02 $ .06 $ 0.29 $ (1.02) $ (3.43)
<CAPTION>
Balance Sheet Data:
December 31,
-------------------------------------------------------------------------
1993 1994 1995 1996 1997
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Working
Capital $ 10,879 $ 1,929,325 $ 30,378,105 $ 9,971,005 $ (453,446)
Total Assets 1,524,804 9,660,866 49,366,720 49,591,190 30,315,588
Total Debt 328,957 1,164,374 5,502,504 5,995,498 6,753,218
Stockholders'
Equity 502,899 5,695,464 37,417,902 35,665,256 10,291,438
</TABLE>
(1) Results of operations for 1996 include Specialty Bakeries, Inc., acquired on
May 22, 1996 in a transaction accounted for as a "pooling of interests". Results
of operations for 1995 and 1994 have been restated to include Specialty
Bakeries. Data for 1993 is MBC only.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion and analysis should be read in conjunction with
the Company's Consolidated Financial Statements and related notes thereto
appearing elsewhere in this document.
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Chapter 11 Proceedings
On November 19, 1997, Manhattan Bagel Company, Inc. and on December 31,
1997, I & J Bagel, Inc. its wholly-owned subsidiary, filed voluntary petitions
in the United States Bankruptcy Court for the district of New Jersey (the
"Bankruptcy Court") seeking to reorganize under Chapter 11 of the U.S.
Bankruptcy Code. Under Chapter 11, certain claims against the Company in
existence prior to the filing of the petition for relief under federal
bankruptcy law are stayed while the Company continues business operations as
debtor-in-possession. In addition, the filing of a voluntary petition under
Chapter 11 was an event of default under all of the Company's loan agreements.
Several subsidiaries with total assets at December 31, 1997 of $793,000 and loss
before provision for income taxes for the year ended December 31, 1997 of
$3,389,000 were not included in the Chapter 11 filings.
The Consolidated Financial Statements of the Company as of and for the
year ended December 31, 1997 filed as part of this 10K have been prepared in
accordance with generally accepted accounting principles applicable to a company
on a "going concern" basis, which, except as otherwise noted, contemplates the
realization of assets and the liquidation of liabilities in the ordinary course
of business; however, as a result of the Chapter 11 proceedings, and
circumstances relating to this event, including the Company's debt structure,
its operating losses, and current economic conditions, such realization of
assets and liquidation of liabilities are subject to significant uncertainties.
As reflected in the Consolidated Financial Statements, the Company experienced
significant net losses in 1996 and 1997. During the Chapter 11 proceedings, the
Company has incurred and will continue to incur substantial reorganization
costs. The Company's ability to continue as a going concern is dependent upon
the confirmation of a plan of reorganization by the Bankruptcy Court, and the
ability to secure adequate exit financing combined with the achievement of
profitable operations. These conditions raise substantial doubt about the
Company's ability to continue as a going concern.
A plan of reorganization, as finally approved by the Bankruptcy Court,
could materially change the currently recorded amounts of assets and
liabilities. The consolidated financial statements do not reflect further
adjustments to the carrying value of assets and the amounts and classifications
of liabilities or shareholders' equity that might be necessary as a consequence
of the bankruptcy proceedings. Events completed in relation to the Company's
ongoing operational restructuring include the closing of underperforming Company
stores, exiting the store construction business, and reductions in corporate
administrative expenses. Additional components of the operational restructuring
include ongoing evaluation of operations and a refocusing of the Company's
marketing strategies.
Since the commencement of the Chapter 11 filing, the Company has had the
exclusive right to file a plan of reorganization. The period of exclusivity
granted to the Company has been extended and is now scheduled to expire on July
29, 1998. Any further extension is within the discretion of the Bankruptcy
Court.
Under the Bankruptcy Code, the Company may elect to assume or reject real
estate leases, employment contracts, personal property leases, service contracts
and other unexpired executory pre-petition contracts, subject to Bankruptcy
Court approval. Certain leases and contracts have been rejected in connection
with the Chapter 11 proceedings. Obligations related to these rejected items
have been included in liabilities subject to settlement in amounts pursuant to
the Bankruptcy Code. The ultimate amount of such claims is subject to adjustment
based on the finalization of a reorganization plan. Accordingly, the Company
cannot presently determine the ultimate liability which
17
<PAGE>
may result from the filing of claims for any contracts which have been or may
subsequently be rejected in the Chapter 11 proceedings.
The Bankruptcy Court entered an order on April 8, 1998 and established the "Bar
Date" of June 15, 1998 as the deadline for filing proofs of claim to the Chapter
11 proceedings.
General
On June 29, 1995, the Company acquired I&J Bagels Inc. I&J was a private
company which owned and licensed a total of 17 bagel bakery stores in the Los
Angeles area operating under the name of I & Joy Bagels. The Company completed
the acquisition through the merging of a newly created, wholly-owned subsidiary
of the Company with DAB, whose sole asset is all of the stock of I&J, in
exchange for 1,500,000 shares of Common Stock of the Company. The costs
associated with this acquisition, primarily legal, accounting and consulting
services were charged against earnings in the second quarter of 1995.
On January 9, 1996, the Company completed the acquisition of Bay Area
Bagels, Inc., a private company which owned eight bagel bakery stores in the San
Francisco Area. The purchase price was 65,500 shares of Common stock of the
Company and $85,000. The transaction was treated as a purchase for accounting
purposes. The Company wrote off the goodwill and wrote down the assets
associated with stores to their net realizable value in 1996, which write-offs
of approximately $2.3 million are included in the write-down of investments of
$3.0 million. The stores were either sold or closed in 1997.
On January 17, 1996, the Company completed the acquisition of three stores
in the Los Angeles market, which were licensed locations of I&J Bagels, Inc.
Such stores are being operated as Company-owned locations. The purchase price
was $1,500,000 and was treated as a purchase for accounting purposes.
On May 22, 1996, the Company completed the acquisition of Specialty
Bakeries, Inc. ("SBI") a private company which owned and franchised a total of
23 bagel bakery stores in the Southern New Jersey and Philadelphia areas
operating under the name Bagel Builders. The Company completed the acquisition
through the merging of a newly created, wholly owned subsidiary of the Company
with and into SBI and 132,500 shares of Common Stock of the Company were issued
to the shareholders of SBI. This transaction is being accounted for as a pooling
of interests.
On June 28, 1996, the Company completed a transaction under which it added
23 Bagel Brothers stores (including two under development) to its franchise
network. Under terms of the agreement, the Company purchased the Bagel Brothers
bagel dough factories in Cleveland and Buffalo for an aggregate of $2,000,000
and 50,000 shares of the Company's Common Stock. This transaction was treated as
a purchase for accounting purposes. Additionally, the Company provided the Bagel
Brothers entities with $6,000,000 in financing, which, among other things,
provided funds to retire existing loans, to pay franchise fees, and to remodel
the 21 operating stores. In addition 23 Bagel Brothers stores were converted to
Manhattan Bagel franchise stores, 9 in Cleveland, Ohio and the balance in and
around Buffalo, New York.
In February 1998, the Company commenced legal actions for the turnover of
pledged stock, judgment on $6 million of promissory notes and guarantees and
related relief against Bagel Brothers Bakery and Deli, Inc. and related
entities. The complaint results from the failure by the Bagel Brothers entities
to pay amounts due to the Company for interest on the promissory notes and
royalty fees. As a part of the transaction, shares representing 75% of the stock
of the Bagel
18
<PAGE>
Brothers Company stock are in escrow. In response to the Company's suit, certain
of the Bagel Brothers entities filed for protection under Chapter 11 of the U.S.
Bankruptcy Code in March 1998. In March 1998, through the Bagel Brothers
bankruptcy proceedings, the Company was given the opportunity to operate the
Ohio franchises and to evaluate the related assets.
Following the installation of new management at its I&J West Coast
subsidiary and subsequent to the Company's filing of its first quarter 1996
10-QSB, the Company uncovered certain improper bookkeeping and accounting
practices at the Los Angeles subsidiary. As a result, the Board of Directors
authorized a full investigation into the accounting practices at the subsidiary
and retained special counsel to assist in the investigation. Based on the
conclusion of that investigation, the Company restated its first quarter 1996
Statement of Operations to reduce revenues $90,000 and record additional
expenses of $290,000. Such adjustments are reflected in the financial statements
for the year ended December 31, 1996. On the day following the announcement, the
Company's Common Stock declined from a closing price of $21.25 on June 20, 1996
to a closing price of $13.75 on June 21, 1996. As a result, certain class action
law suits have been filed. The Company believes it has acted properly and has
adequate defenses to such actions. Accordingly, no provisions for these
contingencies have been made. Certain costs of defense of these actions have
been included in the non-recurring charge. See Note 2, Notes to the Consolidated
Financial Statements. This non-recurring charge substantially effects the
comparability of the results of operations.
The Company's completed review of its West Coast operations led to
Management's Second Quarter 1996 determination to record a write-down of its
investments of $3.0 million relating to such operations. As a result of this
review, Management concluded that in the wake of escalating product demand from
the growing store base, the quality of the bagel dough being produced in the Los
Angeles manufacturing plant was not up to the Company's current standards.
Rather than compromise on quality, during 1997 the Company elected to shut down
the plant and to reopen its plant on Meridian Road in Eatontown, New Jersey, and
to supply bagels to the West Coast from this facility. Approximately $700,000
of the $3,010,000 write-down relating to the West Coast operations were the
result of the write-down of machinery, equipment and the leasehold improvements
at the Los Angeles plant. Quality standards in the Los Angeles plant were
improved and production of bagels resumed in mid-year 1997 as a temporary
measure pending the completion of the new facility in San Fernando County.
Results of Operations
The total number of operating Manhattan Bagel Company stores has increased
from four at December 31, 1990 to 319 at December 31, 1997, as compared to 293
at December 31, 1996. At its highest level in 1997 there were a total of 340
stores.
Comparability of results of operations is affected by increased store
count in several ways. Total royalty income and frozen raw bagel dough sales
rise as new franchised and licensed stores open. New store revenues are not
usually as high in the first periods following their opening as they are in
later periods.
The number of employees as of December 31, 1997 was 329, while the number
of employees as of December 31, 1996 was 572. The decrease reflects a reduction
in the number of Company-owned stores, and a decrease in administrative
personnel.
19
<PAGE>
The Company's revenues are primarily derived from the sale of frozen raw
bagel dough and cheese spreads to franchisees and licensees, retail and
wholesale sale of products by the Company-owned stores, and royalties, franchise
and license fees, including master franchise fees, and area developer fees. The
percentage of revenues derived from product sales to total sales for the year
ended December 31, 1997 was 84.0% compared to 80.7% in 1996.
1997 Compared with 1996
In 1997 the Company incurred a net loss of $25,770,108 as compared to a
net loss of $7,480,662 in 1996. The loss in 1997 was attributable to a number of
factors which the Company believes impacts the comparability of results. These
items are discussed below.
Revenues. Total revenues of the Company for the year ended December
31, 1997 were $39,571,587 as compared to total revenues of $35,502,701 for the
year ended December 31, 1996, a $4,068,886 or 11.5% increase over the prior
year. The increase is primarily attributable to a $4,619,564 increase in product
sales, resulting from the increase in the number of franchised stores operating
throughout 1997. (The average number of stores operating during 1997 was 324, as
compared to 231 in 1996. Because of store closings, revenues can be expected to
decline in future periods.) The balance of the change, a $550,678 decrease, is a
result of increases in royalties of $1,346,198 and area developer fees of
$173,019 which was more than offset by decreases in traditional and master
franchise fees of $2,069,895. The decrease in franchise fee revenue is the
result of a decrease in the number of franchises sold in 1997 compared with
1996. The increase in royalty revenue is the result of an increase in the number
of franchised stores operating throughout 1997 as compared to 1996. The
Company's revenues are primarily derived from (i) the sale of frozen raw bagel
dough and cheese spreads to franchisees and licensees, (ii) retail and wholesale
sale of products by the Company-owned stores, and (iii) royalties, franchise and
license fees, including master franchise fees, and area development fees. The
percentage of revenues derived from product sales to total sales for the year
ended December 31, 1997 was 84.0% as compared to 80.7% for the comparable 1996
period.
Costs of Goods Sold. Cost of goods sold for the year ended December 31,
1997 increased 21.0% to $24,497,346 as compared to $20,246,154 for the year
ended December 31, 1996. This increase is directly attributable to the increase
in product sales, increased distribution costs associated with territory
expansion, as well as, costs associated with the temporary transfer of bagel
production to the East Coast, for the West Coast stores, to assure product
quality. The latter factor also negatively impacted cost of goods sold as a
percentage of product sales which increased to 73.7% of product sales for the
year ended December 31, 1997 compared to 70.7% of product sales for the year
ended December 31, 1996. The Company resumed bagel production on the West Coast
in mid-year 1997 to lower these costs. Increased costs were incurred in the
distribution of the Company's product due to the expansion of the territory that
the Company services.
Selling, General and Administrative Expenses. Selling, general and
administrative expense for the year ended December 31, 1997 increased 18.5% to
$20,208,239 as compared to $17,050,521 for the year ended December 31, 1996. As
a percentage of total sales, selling, general and administrative expenses
increased to 51.1% for 1997 as compared to 48.0% in 1996. The increase was a
result of the growth of the Company, addition of personnel in the first three
quarters of 1997 to manage the growth and the addition of Company-owned stores.
In the fourth quarter 1997 the Company instituted a major reorganization plan
substantially reducing its administrative staff, realigning senior management
responsibilities and retaining a consultant, Sterling Management Group, L.L.C.,
to assist in its reorganization. In addition the Company closed two production
facilities, one in Canada and the Company's original production facility in
Eatontown, New Jersey. The closing of the facility in
20
<PAGE>
Canada was a result of Comac Food Group, Inc. making the decision to cease
operating stores in Canada.
Non-Recurring Charges And Write-Off of Investment. In 1997, the Company
recorded a total write-off of $20,004,000 which included a provision for the
potential write-off of notes, receivables and estimated amounts owed in
connection with loan guaranties of approximately $7,407,000. These items relate
to amounts advanced to franchisees where the probability of repayment is
extremely low due to the current financial condition of the franchisee.
Construction receivables of approximately $2,636,000 have been either
written-off or reserved due to the low probability of recovery due to the
closing of stores by franchisees and their inability to make payments.
The Company recorded a write-down of its investment in stores of
approximately $5,166,000 due to the closing of all but twelve Company stores and
five joint-ventures. Many Company-owned stores were experiencing operating and
cash losses with no prospect of turnaround or eventual sale to a franchisee. The
Company decided to close the stores and write-off its investment. The carrying
values of the remaining stores was written down to estimated fair market value.
The Company had been amortizing goodwill related to several acquisitions.
Based on the future cash flow projections for the entities, the Company
determined that a write-off of the $4,227,000 balance of the goodwill was
required.
Other charges amount to approximately $568,000 and relate to the closing
of the original Eatontown facility, the manufacturing facility in Canada and
severance costs.
Other Income. Other income for the year ended December 31, 1997 was
$555,878 compared to an expense of $52,088 for the year ended December 31, 1996.
The 1997 income was related to various miscellaneous items. The expense in 1996
was primarily due to the write-off of the Company's construction business.
Interest Income. Interest income for the year ended December 31, 1997 was
$957,422 compared to $1,009,814 for the year ended December 31, 1996. The
decrease of $52,392 was primarily due to the reduction in the investment in
marketable securities.
Interest Expense. Interest expense increased from $436,414 for the year
ended December 31, 1996 to $703,691 for the year ended December 31, 1997. The
$267,277 increase was primarily due to the increase in debt associated with the
Company's expansion and the funding of operating losses.
Reorganization Expense. Reorganization expenses of $1,441,719 were
incurred by the Company due to the filing of Chapter 11 in the last quarter of
1997.
Loss before income taxes. Loss before income taxes for the year ended
December 31, 1997 was $25,770,108 compared with a loss of $8,240,662 for the
year ended December 31, 1996. This increase is attributable to the factors
discussed above.
Income Tax. There is no provision for income taxes for the year ended
December 31, 1997 as compared to a tax benefit of $760,000 for the year ended
December 31, 1996. A benefit for income taxes has not been recorded for the year
ended December 31, 1997 as a full valuation allowance has been recorded against
the Company's net deferred tax assets.
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<PAGE>
Net Loss. The Company generated a net loss of $25,770,108 ($3.43 per
share) for the year ended December 31, 1997, as compared to a net loss of
$7,480,662 ($1.02 per share) for the year ended December 31, 1996.
1996 Compared with 1995
In 1996 the Company incurred a net loss of $7,480,662 as compared to net
income of $1,620,996 in 1995. The loss in 1996 was attributable to a number of
factors which the Company believes impacts the comparability of results. These
items are discussed below.
Revenues. Total revenues of the Company for the year ended December 31,
1996 were $35,502,701 as compared to total revenues of $21,364,904 for the year
ended December 31, 1995, a $14,137,797 or 66.2% increase over the prior year.
The increase is primarily attributable to the increased product sales resulting
from the increase in the number of franchised stores opened as well as an
increase in retail and wholesale sales by the Company-owned stores, increased
master franchise and area developer fees, and increased royalty and continuing
license fees. For the year ended December 31, 1996, master franchise and area
developer fees were $680,000 and $1,196,981 respectively. Master franchise fees
for 1996 are net of the repurchase of the master territory in New England
($250,000). For the year ended December 31, 1995 master franchise fees were
$841,360 and no area developer fees were recorded. Ongoing royalty and
continuing license fees increased from $1,626,968 to $2,743,090, a 68.6%
increase.
Cost of Goods Sold. Cost of goods sold for the year ended December 31,
1996 increased 80.2% to $20,246,154 as compared to $11,233,471 for the year
ended December 31, 1995. This increase in absolute dollars is directly
attributable to the increase in product sales. Cost of goods sold increased to
70.7% of product sales for the year ended December 31, 1996, compared to 67.1%
of product sales for the year ended December 31, 1995. This increase is due to a
combination of increased purchasing, operating and distribution costs, which
were partially offset by the addition of Company-owned stores which have a
positive impact on gross profit margins. The increase in production costs
relates to the Company's decision made during the third quarter of 1996, to stop
producing bagel dough at its California commissary to supply the Los Angeles
market, and to transfer production to Eatontown, for bagel dough supplied to
West Coast stores. In addition, there were increases in production costs
associated with the new plant and additional distribution costs associated with
the Company's expanding territory.
Selling, General and Administrative. Selling, general and administrative
expenses increased 129.0% to $17,050,521 for the year ended December 31, 1996,
compared with $7,444,328 for the year ended December 31, 1995. As a percentage
of total revenues, selling, general and administrative expenses increased to
48.0% for the year ended December 31, 1996 from 34.8% for the year ended
December 31, 1995. The increase in both absolute dollars and percentage of
revenues is attributable to the growth of the Company, addition of senior and
middle level personnel to manage the growth, and the addition of Company-owned
stores which have a negative impact on SG&A. In addition, the Company incurred
increased professional fees, including legal fees associated with the Company's
defense against shareholder lawsuits and legal settlements approximately
($435,000).
The Company also incurred a substantial increase in depreciation as a
result of the higher level of investment during the year in Company owned
stores.
Non-recurring charges and Write-off on Investment. Non-recurring charges
of $6,968,000 for the year ended December 31, 1996 were comprised of
professional fees associated with the investigation relating to the Company's
West Coast operations and financial
22
<PAGE>
reporting and the related class action lawsuits and related settlements of
certain consulting agreements totaling approximately $1,057,000. The Company
also decided to sell, franchise or close the San Francisco locations acquired in
January 1996, operating under the name Holey Bagel. As a result of these
decisions, the Company wrote-off $3,010,000 comprised of the goodwill
($1,711,000) fixed assets ($874,000) and other assets and accruals ($425,000)
acquired in the Bay Area Bagel acquisition and the Los Angeles commissary and
the sale or closure of the locations. In addition, unusual items recorded during
the fourth quarter of 1996 included: provisions associated with the termination
of the master franchisee for the Houston and Dallas markets approximately
($314,000), provisions for and write-offs of accounts and notes receivable
approximately ($915,000), increases in the reserves for franchisee loan
guarantees approximately ($1,105,000); settlements with lessors approximately
($430,000); and start up costs associated with the Company's Canadian
manufacturing facility approximately ($137,000).
Other Income. Other income for the year ended December 31, 1996 was an
expense of $52,088 compared to income of $189,917 for the year ended December
31, 1995. The decrease of $242,005 was primarily due to increased write-offs of
the Company's construction business.
Interest Income. Interest income for the year ended December 31, 1996 was
$1,009,814 compared to $203,588 for the year ended December 31, 1995. The
increase of $806,226 was due to the interest earned on proceeds of the November
23, 1995 public offering and proceeds received on April 9, 1996 from the
exercise of the over-allotment option in connection with an underwritten March
22, 1996 public offering by selling shareholders which were invested in
marketable securities. The majority of these securities are short-term tax-free
investments.
Interest Expense. Interest expense increased from $175,401 for the year
ended December 31, 1995 to $436,414 for the year ended December 31, 1996. The
$261,013 increase was primarily due to interest associated with the EDA loan for
the new Eatontown manufacturing facility which became operational in April,
1996.
Loss Before Provision for Income Taxes. Loss before provision for income
taxes for the year ended December 31, 1996 was $8,240,662 compared with income
of $2,905,209 for the year ended December 31, 1995. This decrease was attributed
to a non recurring charge of $6,968,000 (See Note 2, Notes to Consolidated
Financial Statements) and the increases in SG&A expenses discussed above.
Income Tax. Income tax benefit for the year ended December 31, 1996 was
$760,000 compared to an expense of $1,284,213 for the year ended December 31,
1995. The effective tax rate for the year ended December 31, 1996 was a benefit
of 9.4% which is due to a valuation allowance against the Company's deferred tax
assets, as well as, permanent differences relating to the write-off of goodwill.
Liquidity and Capital Resources
The Company has no liquidity and capital resources except for the cash
collateral being provided by its primary lender which has a security interest in
all assets of the Company. The Company is using cash collateral in accordance
with a budget approved by the primary lender and the Bankruptcy Court. The
Company has no liquidity through any other source and no other debtor-in-
possession financing.
The franchisee financing facilities that the Company had in place with
Atlantic Financial Services, Sun Trust Credit Corp. and Global Alliance Finance
Company, LLC have all been terminated. The Company's contingent liability at
December 31, 1997 amounted to $2,131,938
23
<PAGE>
and $1,649,916 under the terms of the Atlantic Financial Services and Sun Trust
Credit Corp. agreements respectively. The ultimate amount of such liability and
settlement thereof is subject to adjustment based on the finalization of a Plan
of Reorganization under the Chapter 11 proceedings.
Under Chapter 11, actions to enforce certain claims against the Company
are stayed if the claims arose, or are based on, events that occurred on or
before the petition date. The ultimate terms of settlement of these claims will
be determined in accordance with a plan of reorganization which requires the
approval of the impaired prepetition creditors and shareholders and confirmation
by the Bankruptcy Court. Other liabilities may arise or be subject to
compromise, as a result of rejection of executory contracts and unexpired
leases, or the Bankruptcy Court's resolution of claims for contingencies and
other disputed amounts. The ultimate resolution of such liabilities, all of
which are subject to compromise, will be part of a plan of reorganization.
Inherent in a successful plan of reorganization is a capital structure
which permits the Company to generate sufficient cash flow after reorganization
to meet its restructured obligations and fund the current obligations of the
reorganized Company. Under the Bankruptcy Code, the rights of and ultimate
payment to prepetition creditors may be substantially altered and, as to some
classes, eliminated. At this time, the Company cannot predict the outcome of the
Chapter 11 filing, in general, or its effect on the future business of the
Company or on the ultimate interests of creditors or shareholders.
The Company's net increase in cash and cash equivalents during 1997
amounted to $1,182,902.
Net cash provided by operating activities amounted to $246,206
and primarily represents the net loss for 1997 less the non-cash expenses
relative to the write-offs and additional reserves for accounts and notes
receivable and loan guarantees, the write-down of the investment in stores, the
write-off of goodwill and the provision for depreciation and amortization, in
addition to the changes in operating assets and liabilities.
Net cash provided by investing activities amounted to $152,010 and
consisted primarily of cash receipts from the sale of marketable securities
offset by expenditures for the purchase of property and equipment and loans to
franchisees for the purchase and construction of stores.
Net cash provided by financing activities amounted to $784,686 and
consisted primarily of additional borrowings, net of repayments under the
Company's various loan agreements and the repayment of obligations incurred
under capital leases.
Until a plan of reorganization is confirmed by the Bankruptcy Court, only
such payments on prepetition obligations that are approved or required by the
Bankruptcy Court will be made. Except for payments for certain property and
equipment under lease, principal and interest payments on prepetition debt have
not been made since the filing date and will not be made without the Bankruptcy
Court's approval or until a plan of reorganization, defining the repayment
terms, has been confirmed by the Bankruptcy Court. There is no assurance at this
time that a plan of reorganization will be proposed by the Company or approved
and confirmed by the Bankruptcy Court.
Impact of Year 2000
The year 2000 issue is the result of computer programs having been written
using two digits rather than four to define the applicable year resulting in
time-sensitive software recognizing a date
24
<PAGE>
using "00" as the year 1900 rather than the year 2000. Such a programming
problem could result in miscalculations and the disruption of normal business
transactions and activities. The Company has contacted its licensors of software
and has received assurances that the software being used has been modified to
avoid the year 2000 issues. The Company has determined it has no material
exposure to the year 2000 issue.
Item 7A - Quantitative and Qualitative Disclosures About Market Risk
Not Applicable.
Item 8. Financial Statements.
The consolidated financial statements, notes thereto, and reports of
independent auditors appear on pages F-1 through F-30.
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.
None
25
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
DEBTOR-IN-POSSESSION
Index to Consolidated Financial Statements
<TABLE>
<S> <C>
Independent Auditors' Reports................................................................. F-2, F-3
Consolidated Balance Sheets as of December 31, 1996 and 1997.................................. F-4
Consolidated Statements of Operations for the Years Ended December 31, 1995, 1996 and 1997.... F-5
Consolidated Statements of Stockholders' Equity for the Years Ended December 31,
1995, 1996 and 1997........................................................................... F-6
Consolidated Statements of Cash Flows for the Years Ended December 31, 1995, 1996 and 1997.... F-7
Notes to Consolidated Financial Statements.................................................... F-8
Schedule II-Valuation and Qualifying Accounts for the Years Ended December 31, 1995,
1996 and 1997................................................................................. F-30
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Manhattan Bagel Company, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Manhattan Bagel
Company, Inc. and Subsidiaries (the Company and its principal operating
subsidiary are in reorganization under Chapter 11 of the United States
Bankruptcy Code since November 19, 1997, and December 31, 1997, respectively,
see Note 1 to the Consolidated Financial Statements) as of December 31, 1996 and
1997, and the related consolidated statements of operations, stockholders'
equity, and cash flows for the years then ended. Our audits also included the
financial statement schedule listed in the Index at Item 14(a). These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to in the first paragraph
above present fairly, in all material respects, the consolidated financial
position of Manhattan Bagel Company, Inc. and Subsidiaries at December 31, 1996
and 1997, and the consolidated results of their operations and their cash flows
for the years then ended, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.
We previously audited and reported on the consolidated balance sheet and the
related consolidated statements of operations, stockholders' equity and cash
flows of Manhattan Bagel Company, Inc. and Subsidiaries for the year ended
December 31, 1995, prior to their restatement for the 1996 pooling of interests
as described in Note 1. The contribution of Specialty Bakeries, Inc. to total
assets and revenues represented 1% and 14% of the respective restated totals.
Financial statements of the other pooled company included in the 1995 restated
consolidated statements were audited and reported on separately by other
auditors. We also have audited as to combination only, the accompanying
consolidated statements of operations, stockholders' equity, and cash flows for
the year ended December 31, 1995, after restatement for the 1996 pooling of
interests; in our opinion, such consolidated financial statements have been
properly combined on the basis described in Note 1 to the consolidated financial
statements.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates continuity of the Company's operations and realization
of its assets and payments of its liabilities in the ordinary course of
business. On November 19, 1997, Manhattan Bagel Company, Inc. and on December
31, 1997 its principal operating subsidiary filed voluntary petitions for relief
under Chapter 11 of the United States Bankruptcy Code and are currently
operating their businesses as a debtor-in-possession under the supervision of
the Bankruptcy Court. The Chapter 11 filings were the result of difficulties in
retaining bank financing, operating losses, and cash flow problems. As more
fully described in Note 1, the Company's ability to continue as a going concern
depends upon, among other things, approval of a plan of reorganization by the
Bankruptcy Court, a return by the Company to profitability, and its ability to
generate sufficient cash from operations and other financing sources to support
its business activities, all of which are uncertain. These conditions raise
substantial doubt about the Company's ability to continue as a going concern.
Management's plans to finance operating activities and further reorganize
operations are described in Note 1. The accompanying Consolidated Financial
Statements do not reflect further adjustments that may be required in connection
with reorganizing the Company under Chapter 11 of the United States Bankruptcy
Code.
/s/Ernst & Young, LLP
----------------------------
Princeton, New Jersey
March 27, 1998
F-2
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Stockholders
Specialty Bakeries, Inc.
Moorestown, New Jersey
We have audited the balance sheet of Specialty Bakeries, Inc. as of December 31,
1995, and the related statements of operations and retained (deficit), and cash
flows for the year then ended. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Specialty Bakeries, Inc. as of
December 31, 1995, and the results of its operations and its cash flows for the
year then ended in conformity with generally accepted accounting principles.
/s/ Rainer & Company
--------------------
February 2, 1996
Newton Square Pennsylvania
F-3
<PAGE>
MANHATTAN BAGEL COMPANY, INC.
AND SUBSIDIARIES
Debtor-in-Possession
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
1996 1997
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,619,494 $ 2,802,396
Marketable securities 6,926,921 --
Accounts receivable, net of allowance for doubtful accounts
of $292,685 and $2,359,454, respectively 2,795,478 1,602,346
Construction costs receivable, net of allowance for doubtful accounts
of $60,000 and $1,859,961, respectively 2,254,842 --
Franchise fee receivable area developers, net of allowance of $565,000
and $755,180, respectively 721,782 129,555
Inventories 1,381,648 995,007
Current maturities of notes receivable, net of reserve of $256,000 and $241,736, respectively 462,225 642,941
Current maturities of notes receivable - affiliates 250,000 1,275,000
Income taxes receivable 2,053,663 151,357
Prepaid expenses and other current assets 628,634 286,306
------------ ------------
Total current assets 19,094,687 7,884,908
------------ ------------
Property and equipment, net 12,000,338 12,892,070
------------ ------------
Other assets:
Accounts receivable, long term 480,539 470,374
Franchise fee receivable area developers, long term, net of allowance
of $633,019 and $633,019, respectively 200,000 200,000
Notes receivable, net of current maturities and a reserve of $4,538,465 in 1997 7,304,151 6,129,878
Notes receivable affiliates, net of current maturities 1,250,000 --
Goodwill,net of accumulated amortization of $214,201 in 1996 4,386,853 --
Security deposits 909,053 911,134
Investment in stores, net of reserve of $849,000 and $5,826,923, respectively 3,145,659 1,193,142
Other assets 819,910 409,082
------------ ------------
Total assets $ 49,591,190 $ 30,090,588
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities not subject to settlement:
Current liabilities:
Current maturities of long-term debt $ 2,098,408 --
Current maturities of capital lease obligations 164,812 14,618
Accounts payable and accrued expenses 6,354,511 5,476,961
Unearned franchise fee income 303,451 57,500
Franchise deposits 202,500 122,576
------------ ------------
Total current liabilities 9,123,682 5,671,655
------------ ------------
Other liabilities:
Long-term debt, net of current maturities 3,897,090 --
Capital lease obligations, net of current maturities 410,904 19,180
Security deposits 414,622 490,853
Other liabilities 79,636 79,636
------------ ------------
Total other liabilities 4,802,252 589,669
------------ ------------
Commitments and contingencies
Liabilities subject to settlement:
Long-term debt -- 6,753,218
Capital lease obligations -- 408,884
Accounts payable -- 6,375,724
------------ ------------
Total liabilities subject to settlement -- 13,537,826
------------ ------------
Stockholders' equity:
Preferred stock, 2,000,000 shares authorized,
no shares issued or outstanding -- --
Common stock, no par value, 25,000,000 shares
authorized, 7,454,822 and 7,535,572 shares issued and outstanding, respectively 40,721,233 41,104,828
Foreign currency translation (12,695) --
Accumulated deficit (5,043,282) (30,813,390)
------------ ------------
Total stockholders' equity 35,665,256 10,291,438
------------ ------------
Total liabilities and stockholders' equity $ 49,591,190 $ 30,090,588
============ ============
</TABLE>
See accompanying notes to consolidated financial statements
F-4
<PAGE>
MANHATTAN BAGEL COMPANY, INC.
AND SUBSIDIARIES
Debtor-in-Possession
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For The Years Ended December 31,
--------------------------------------------
1995 1996 1997
------------ ------------ ------------
<S> <C> <C> <C>
Revenues
Product sales $ 16,747,070 $ 28,637,190 $ 33,256,754
Franchise & license related revenue 4,617,834 6,865,511 6,314,833
------------ ------------ ------------
Total revenue 21,364,904 35,502,701 39,571,587
------------ ------------ ------------
Expenses
Cost of goods sold 11,233,471 20,246,154 24,497,346
Selling, general & administrative expenses 7,444,328 17,050,521 20,208,239
Non-recurring charges and write-off of investment -- 6,968,000 20,004,000
Other income (189,917) 52,088 (555,878)
Interest income (203,588) (1,009,814) (957,422)
Interest expense 175,401 436,414 703,691
------------ ------------ ------------
Total expenses 18,459,695 43,743,363 63,899,976
------------ ------------ ------------
Income (loss) before reorganization expenses and income taxes (benefit) 2,905,209 (8,240,662) (24,328,389)
Reorganization expenses
Provision for legal settlements -- -- 206,719
Provision for rejected executory contracts -- -- 793,000
Professional fees -- -- 442,000
------------ ------------ ------------
Total reorganization expenses -- -- 1,441,719
Income (loss) before income taxes (benefit) 2,905,209 (8,240,662) (25,770,108)
Income taxes (benefit) 1,284,213 (760,000) --
------------ ------------ ------------
Net income (loss) $ 1,620,996 ($ 7,480,662) ($25,770,108)
============ ============ ============
Basic net income (loss) per share $0.30 ($1.02) ($3.43)
============ ============ ============
Diluted net income (loss) per share $0.29 ($1.02) ($3.43)
============ ============ ============
Weighted average common shares outstanding - basic 5,410,260 7,358,721 7,504,172
============ ============ ============
Weighted average common shares outstanding - diluted 5,634,806 7,358,721 7,504,172
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements
F-5
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
Debtor-in-Possession
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Years Ended December 31,1995, 1996 and 1997
<TABLE>
<CAPTION>
Retained
Common Stock Foreign Earnings Total
--------------------------- Currency (Accumulated Stockholders'
Shares Amount Translation Deficit) Equity
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance - January 1,1995 5,351,975 $ 4,840,011 $ -- $ 855,453 $ 5,695,464
Adjustment to conform fiscal year-end of
DAB Industries, Inc. -- -- -- (39,069) (39,069)
Issuance of common stock through a secondary offering,
net of expenses 1,618,000 29,260,949 -- -- 29,260,949
Exercise of stock options and warrants 113,267 753,335 -- -- 753,335
Issuance of common stock for trademark suit settlement 2,500 49,688 -- -- 49,688
Tax benefit from exercise of employee stock options -- 76,539 -- -- 76,539
Net income -- -- -- 1,620,996 1,620,996
------------ ------------ ------------ ------------ ------------
Balance - December 31,1995 7,085,742 34,980,522 -- 2,437,380 37,417,902
Issuance of common stock through an over allotment
from a secondary offerings, net of expenses 90,000 1,911,150 -- -- 1,911,150
Issuance of common stock for purchase acquisitions 115,500 1,740,313 -- -- 1,740,313
Exercise of stock options 163,580 1,745,001 -- -- 1,745,001
Tax benefit from exercise of employee stock options -- 344,247 -- -- 344,247
Foreign currency translation -- -- ($ 12,695) -- (12,695)
Net loss -- -- -- (7,480,662) (7,480,662)
------------ ------------ ------------ ------------ ------------
Balance - December 31,1996 7,454,822 40,721,233 (12,695) (5,043,282) 35,665,256
Exercise of stock options 47,000 160,000 -- -- 160,000
Issuance of common stock for legal settlement 33,750 223,595 -- -- 223,595
Foreign currency translation -- -- 12,695 -- 12,695
Net loss -- -- -- (25,770,108) (25,770,108)
------------ ------------ ------------ ------------ ------------
Balance - December 31,1997 7,535,572 $ 41,104,828 $ -- ($30,813,390) $ 10,291,438
============ ============ ============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements
F-6
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
Debtor-in-Possession
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the Years Ended December 31,
--------------------------------------------
1995 1996 1997
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) $ 1,620,996 ($ 7,480,662) ($25,770,108)
------------ ------------ ------------
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Adjustment to conform fiscal year-end (39,069) -- --
Write-off of plant property and equipment and other assets -- 1,299,000 568,000
Write-off of notes receiveable and loan guarantees -- -- 7,407,000
Write-off of investment in stores -- -- 5,166,000
Write-off of construction receivable -- -- 2,636,000
Write-off of legal fees and cost of I&J Bagel investment -- 1,057,000 --
Write-off of goodwill -- 1,711,000 4,227,000
Loss on disposal of fixed assets -- 723,645 --
Noncash expenses and other 71,675 (12,695) 236,290
Depreciation 576,255 1,102,792 1,948,736
Amortization 60,417 520,764 159,853
Reorganization expense -- -- 1,441,719
Reorganization payments -- -- (243,300)
Changes in operating assets and liabilities, net of acquisitions
Accounts receivable (2,873,844) (1,994,637) 1,259,499
Inventory (520,109) (547,768) 386,641
Prepaid expenses and other current assets (600,500) 475,240 211,994
Security deposits (168,970) (378,414) (2,081)
Investment in stores (270,486) (1,861,392) (3,213,483)
Other assets (108,080) (1,114,655) 379,029
Accounts payable and accrued expenses 2,124,991 1,217,830 1,794,755
Unearned franchise fee income 283,667 (28,549) (245,951)
Franchise deposits 96,667 (209,167) (79,924)
Other current liabilities (108,187) (61,189) --
Other current liabilities 120,784 65,575 76,231
Income taxes receivable 823,797 (2,888,785) 1,902,306
------------ ------------ ------------
Total adjustments (530,992) (924,405) 26,016,314
------------ ------------ ------------
Net cash provided by (used in) operating activities 1,090,004 (8,405,067) 246,206
------------ ------------ ------------
Cash flows from investing activities:
Decrease (increase) in notes receivable 38,262 (9,285,000) (3,459,443)
Principal payments from notes receivable -- 424,126 --
Decrease (increase) in notes receivable - related parties 8,200 111,400 --
Payments for the purchase of property and equipment (6,663,784) (4,529,663) (3,315,468)
Purchase of marketable securities (22,625,000) (2,010,379) --
Proceeds from sale of marketable securities -- 17,708,458 6,926,921
Purchase of business, net of cash acquired -- (4,569,866) --
(Increase) decrease in due from officer/stockholder (185,164) 296,164 --
------------ ------------ ------------
Net cash (used in) provided by investing activities (29,427,486) (1,854,760) 152,010
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from long-term debt 4,773,742 1,777,806 3,112,358
Principal payments on long-term debt (435,612) (1,576,902) (2,354,638)
Principal payments on capital lease obligations (124,894) (147,500) (133,034)
Proceeds from notes receivable franchisees 52,715 -- --
Decrease in loan payable officer / stockholder -- (189,000) --
Proceeds from options exercised 540,000 2,089,248 160,000
Proceeds from issuance of common stock 29,474,284 1,911,150 --
------------ ------------ ------------
Net cash provided by financing activities 34,280,235 3,864,802 784,686
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents 5,942,753 (6,395,025) 1,182,902
Cash and cash equivalents-beginning of year 2,071,766 8,014,519 1,619,494
------------ ------------ ------------
Cash and cash equivalents-end of year $ 8,014,519 $ 1,619,494 $ 2,802,396
============ ============ ============
Supplemental disclosure of cash paid
Interest $ 248,395 $ 434,348 $ 610,964
============ ============ ============
Income taxes $ 365,552 $ 1,486,304 $ --
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements
F-7
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include the accounts of Manhattan
Bagel Company, Inc. and its wholly-owned subsidiaries Manhattan Bagel
Construction Corp., Manhattan Bagel Calgary Ltd., Specialty Bakeries, Inc. and
DAB Industries, Inc., including DAB's subsidiary I & J Bagel, Inc., collectively
known as the "Company," after elimination of all significant intercompany
balances and transactions.
The Company manufactures bagel dough and blends a wide variety of cheese
spreads that are distributed to its franchised, licensed and Company-owned
stores throughout the United States under the names Manhattan Bagel Company and
I & J Bagels.
Chapter 11 Proceedings
On November 19, 1997, Manhattan Bagel Company, Inc. and on December 31,
1997, I & J Bagel, Inc. filed voluntary petitions in the United States
Bankruptcy Court for the district of New Jersey (the "Bankruptcy Court") seeking
to reorganize under Chapter 11 of the U.S. Bankruptcy Code. Under Chapter 11,
certain claims against the Company in existence prior to the filing of the
petition for relief under federal bankruptcy law are stayed while the Company
continues business operations as debtor-in-possession. These claims are
reflected in the accompanying consolidated balance sheet as "liabilities subject
to settlement." In addition, the filing of a voluntary petition under Chapter 11
was an event of default under all of the Company's loan agreements (See Note 5).
Several subsidiaries with total assets at December 31, 1997 of $793,000 and loss
before provision for income taxes for the year ended December 31, 1997 of
$3,389,000 were not included in the Chapter 11 filings.
The accompanying Consolidated Financial Statements have been prepared in
accordance with generally accepted accounting principles applicable to a company
on a "going concern" basis, which, except as otherwise noted, contemplates the
realization of assets and the liquidation of liabilities in the ordinary course
of business; however, as a result of the Chapter 11 proceedings, and
circumstances relating to this event, including the Company's debt structure,
its operating losses, and current economic conditions, such realization of
assets and liquidation of liabilities are subject to significant uncertainties.
As reflected in the Consolidated Financial Statements, the Company experienced
significant net losses in 1996 and 1997. During the Chapter 11 proceedings, the
Company has incurred and will continue to incur substantial reorganization
costs. The Company's ability to continue as a going concern is dependent upon
the confirmation of a plan of reorganization by the Bankruptcy Court, the
ability to secure adequate exit financing, combined with the achievement of
profitable operations. These conditions raise substantial doubt about the
Company's ability to continue as a going concern.
A plan of reorganization, as finally approved by the Bankruptcy Court,
could materially change the currently recorded amounts of assets and
liabilities. These financial statements do not reflect further adjustments to
the carrying value of assets and the amounts and classifications of liabilities
or shareholders' equity that might be
F-8
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
necessary as a consequence of the bankruptcy proceedings. Events completed in
relation to the Company's ongoing operational restructuring include the closing
of under performing Company stores, exiting the store construction business, and
reductions in corporate administrative expenses. Additional components of the
operational restructuring include ongoing evaluation of operations and a
refocusing of the Company's marketing strategies.
Since the commencement of the Chapter 11 filing, the Company has had the
exclusive right to file a plan of reorganization. The period of exclusivity
granted to the Company has been extended and is now scheduled to expire July 29,
1998. Any further extension is within the discretion of the Bankruptcy Court.
Under the Bankruptcy Code, the Company may elect to assume or reject real
estate leases, employment contracts, personal property leases, service contracts
and other unexpired executory pre-petition contracts, subject to Bankruptcy
Court approval. Certain leases and contracts have been rejected in connection
with the Chapter 11 proceedings. Obligations related to these rejected items
have been included in liabilities subject to settlement in amounts pursuant to
the Bankruptcy Code. The ultimate amount of such claims is subject to adjustment
based on the finalization of a reorganization plan. Accordingly, the Company
cannot presently determine the ultimate liability which may result from the
filing of claims for any contracts which have been or may subsequently be
rejected in the Chapter 11 proceedings.
The Bankruptcy Court entered an order on April 8, 1998 and established the
"Bar Date" of June 15, 1998 as the deadline for filing proofs of claim in the
Chapter 11 proceedings.
The principal categories of claims classified as liabilities subject to
settlement are identified below. All amounts below may be subject to further
adjustment depending on Bankruptcy Court action, further developments with
respect to disputed claims, determination as to the value of any collateral
securing claims, or other events. Additional claims may arise resulting from
rejection of additional executory contracts or unexpired leases by the Company.
December 31,
1997
-----------
Revolving credit facility $ 2,124,849
New Jersey Economic
Development Authority 2,888,101
Other debt 1,740,268
Accounts payable 6,375,724
Capital Lease Obligations 408,884
-----------
Total liabilities subject to
settlement $13,537,826
===========
F-9
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Financial Reporting for Bankruptcy Proceedings
The American Institute of Certified Public Accountants Statement of
Position 90-7, "Financial Reporting by Entities in Reorganization Under the
Bankruptcy code" ("SOP 90-7"), provides guidance for financial reporting by
entities that have filed petitions with the Bankruptcy Court and expect to
reorganize under Chapter 11 of the Bankruptcy Code.
Under SOP 90-7, the financial statements of an entity in a Chapter 11
reorganization proceeding should distinguish transactions and events that are
directly associated with the reorganization from those of the operations of the
ongoing business as it evolves. Accordingly, SOP 90-7 requires the following
financial reporting/accounting treatments in respect of each of the financial
statements.
Consolidated Balance Sheet
The balance sheet separately classifies pre-petition and post-petition
liabilities. A further distinction is made between pre-petition liabilities
subject to settlement (generally unsecured and undersecured claims) and those
not subject to settlement (fully secured claims). Pre-petition liabilities are
reported on the basis of the expected amount of such allowed claims, as opposed
to the amounts for which those allowed claims may be settled. Under an approved
final plan of reorganization, those claims may be settled at amounts
substantially less than their allowed amounts.
When a liability subject to settlement becomes an allowed claim and that
claim differs from the net carrying amount of the liability, the net carrying
amount is adjusted to the amount of the allowed claim. The resulting gain or
loss is classified as a reorganization item in the Consolidated Statement of
Operations.
Consolidated Statements of Operations
Pursuant to SOP 90-7, revenues and expenses, realized gains and losses,
and provisions for losses resulting from the reorganization of the business are
reported in the Consolidated Statement of Operations separately as
reorganization items. Professional fees are expensed as incurred. Interest
expense is reported only to the extent that it will be paid during the
proceeding or that it is probable that it will be an allowed claim.
Consolidated Statements of Cash Flows
Reorganization items are reported separately within the operating,
investing and financing categories of the Consolidated Statement of Cash Flows.
F-10
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Acquisitions
Under a definitive Agreement and Plan of Merger ("Agreement") signed on
May 10, 1995, Manhattan Bagel Company, Inc. acquired I & J Bagel, Inc. ("I &
J"). I & J was a private company which owned and licensed a total of 17 bagel
bakery stores in the Los Angeles area operating under the name I & Joy Bagels.
Manhattan Bagel Company, Inc. completed the acquisition contemplated under the
Agreement on June 29, 1995, through the merger of a newly created, wholly-owned
subsidiary of Manhattan Bagel Company, Inc. with and into DAB Industries, Inc.,
a California corporation ("DAB") whose assets consisted primarily of all of the
stock of I & J, in exchange for 1.5 million shares of Common Stock of Manhattan
Bagel Company, Inc.
The financial statements for the periods prior to the merger have been
restated to reflect the acquisition of DAB, which was accounted for as a pooling
of interests. Prior to the merger, DAB's fiscal year ended on January 31. DAB's
fiscal year has been changed to December 31 to conform to the Company's year
end. DAB's results of operations for the one month ended January 31, 1995 is
summarized as follows:
One Month
Ended
January 31, 1995
----------------
(in thousands)
Net revenues................................................. $289
Net income................................................... $ 39
On January 9, 1996, the Company completed the acquisition of Bay Area
Bagels, Inc., a private company which owned eight bagel bakery stores in the San
Francisco Area. The purchase price was 65,500 shares of Common Stock of the
Company and $85,000. The transaction was treated as a purchase for accounting
purposes.
On January 17, 1996, the Company completed the acquisition of three stores
in the Los Angeles market, which were licensed locations of I & J. Such stores
are being operated as company owned locations. The purchase price was $1,500,000
and was treated as a purchase for accounting purposes.
On May 22, 1996, the Company completed the acquisition of Specialty
Bakeries, Inc. ("SBI") a private company which owned and franchised a total of
23 bagel bakery stores in the Southern New Jersey and Philadelphia areas
operating under the name Bagel Builders. The Company completed the acquisition
through the merging of a newly created, wholly-owned subsidiary of the Company
with and into SBI and 132,500 shares of common stock of the Company were issued
to the shareholders of SBI. This transaction was accounted for as a pooling of
interests. Net revenues and net income included in the Company's Consolidated
Statements of Operations are as follows:
F-11
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Year Ended
December 31,
--------------------
1995 1996
--------------------
(in thousands)
Net Revenues:
Manhattan Bagel Company, Inc. $ 18,352 $ 32,628
Specialty Bakeries, Inc. 3,013 2,875
-------- --------
$ 21,365 $ 35,503
======== ========
Net Income (Loss):
Manhattan Bagel Company, Inc. $ 2,048 $ (7,540)
Specialty Bakeries, Inc. (427) 59
-------- --------
$ 1,621 $ (7,481)
======== ========
On June 28, 1996, the Company completed a transaction under which it added
23 Bagel Brothers stores (including two under development) to its franchise
network. Under terms of the agreement, the Company purchased the Bagel Brothers
bagel dough factories in Cleveland and Buffalo for $2,000,000 and 50,000 shares
of the Company's common stock. This transaction was treated as a purchase for
accounting purposes. Additionally, the Company provided Bagel Brothers with
$6,000,000 in financing, which among other things, provided funds to retire
existing loans, to pay franchise fees, and to remodel the 21 operating stores to
the Manhattan Bagel format. These stores are the subject of litigation. See Note
14.
Concentrations of Credit Risk
The Company grants credit to substantially all of its franchisees. The
Company generally does not require collateral, however, by virtue of the
franchise agreements, the Company believes it maintains security interests in
the franchises and the amount of credit risk is minimal.
Use of Estimates
The preparation of the consolidated financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the consolidated
financial statements and accompanying notes. Actual results could differ from
those estimates.
Cash Equivalents
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
Marketable Securities
Marketable securities consist of fixed income investments (preferred stock
and short-term commercial paper) which can be readily purchased or sold using
established markets. Management determines the appropriate classification of
debt securities at the time of purchase and reevaluates such designation as of
each balance sheet date. Such securities are classified as available-for-sale
and accordingly, are carried at fair value which approximated cost at December
31, 1996.
F-12
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Product Sales
Product sales of bagels, cheese spreads and other items to franchisees are
recognized by the Company when shipped.
Single Unit Franchise Agreements
Single unit franchise agreements provide for payment of a franchise fee, a
weekly royalty on gross sales, and a monthly cooperative advertising fund
contribution. The Company's material obligations under the terms of all single
unit franchise agreements are assisting in the site selection and training of
the franchisee. Initial franchise fees from these agreements are recognized as
revenue when all material obligations have been provided.
Master Franchise Agreements
Master franchise agreements, although no longer being offered, provide for
a payment by the master franchisee which is based on the population of the
territory covered by such master franchise. Franchise fees from master franchise
agreements were recognized as revenue by the Company when all material
obligations required of the Company were performed.
The master franchisee is responsible for collecting the initial franchise
fee and royalty payment from each franchisee in its territory, as well as,
training the franchisee and providing all ongoing support. As part of the master
franchise agreement, the Company receives one-third (33%) of fees collected by
the master franchisee. The Company's portion of the single unit franchise fee
sold by the master franchisee is recognized as revenue when a location has been
found for the franchise, and the Company has no further obligations.
Area Developer Franchise Agreements
Area developer franchise agreements, although no longer being offered, are
exclusive territories sold to multi-unit retail operators, preferably with food
service experience. Area developers, are believed to have the financial and
organizational resources to rapidly develop and operate Manhattan Bagel stores
in a given geographic area. Franchise fees from area developer franchise
agreements are recognized as revenue by the Company upon signing of the
agreement as the amounts are non-refundable. In situations where a portion of
the fee is payable over time via a promissory note, the Company evaluates the
financial strength of the area developer to determine the recognition of the fee
related to the note receivable.
Area developers are granted limited exclusivity to develop and operate
stores within a predetermined geographic area. Limits to exclusivity include
supermarket distribution and non-traditional retail opportunities. To maintain
development rights, developers must open units in accordance with a
predetermined schedule, meet all financial obligations to the Company and
operate stores within established operating standards.
F-13
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
License Agreements
License agreements provide for the Company to receive a payment of an
initial license fee and thereafter continuing license fees. The granting of a
license gives the licensee the right to use the name Manhattan Bagel for a
specific number of stores. Initial license fees are recognized at the time the
license agreement is entered into since there are no continuing obligations of
the Company.
Royalty Revenue
Franchise royalty revenues for the Company are recognized when earned.
Inventory
Inventory is stated at the lower of cost (first-in, first-out basis) or
market.
Construction Operations
The Company exited the construction business in 1997 and no longer
constructs stores either for franchisees or for operation by the Company. See
Note 2.
Property and Equipment
Property and equipment is stated at cost, less accumulated depreciation.
Depreciation is provided on a straight-line basis over the estimated useful
lives of the assets as follows:
Asset Category Estimated Useful Life
-------------- ---------------------
Factory equipment........................................ 5-10 years
Office furniture and equipment........................... 5-7 years
Leasehold improvements................................... Shorter of useful life
or Term of Lease
Transportation equipment................................. 5 years
F-14
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Intangible Assets and Goodwill
Intangible assets, net of accumulated amortization of $69,154 and $86,228
at December 31, 1996 and 1997, respectively are included in other long-term
assets and consist of trademark costs and covenants not to compete. Trademark
costs are being amortized on a straight-line basis over twenty years. Covenants
not to compete are being amortized on a straight-line basis over 36 months or
the life of the covenant. Goodwill, which consisted primarily of the excess
purchase price over assets acquired, has been completely written off at December
31, 1997 in conjunction with the write-off of related assets.
Long-Lived Assets
The Company records impairment losses on long-lived assets used in
operations, including goodwill and intangible assets, when events and
circumstances indicate that the assets might be impaired and the undiscounted
cash flows estimated to be generated by those assets are less than the carrying
amounts of those assets.
Investment in Stores and Stores Held for Resale
The Company has an equity interest in five franchises ("joint-ventured
stores"). These investments are accounted for under the equity method. The
carrying amount of these investments reflects the Company's share of the
underlying equity in net assets.
In addition, the Company, from time to time, repurchases stores from
franchisees with the intent of upgrading and remodeling and then reselling the
stores to new franchisees. Repurchased stores are recorded on the balance sheet
at the lower of cost or net realizable value and results of operations of these
stores are included in the Company's consolidated statement of operations from
acquisition to disposition.
At December 31, 1997 there are 12 Company-owned stores held for resale.
Advertising
Consistent with applicable law, the Company and its franchisees advertise
products in newspapers, and through direct mailing. Advertising is primarily
funded out of the required contribution to the Company's National Advertising
Fund by franchisees, which range from 0.5% to 4.0% of gross sales (the current
contribution maximum is 2.5%) depending on when the franchise was sold. The
Company also advertises and plans to continue advertising its franchises in
current stores, franchise trade shows, newspapers and business opportunity
magazines. Advertising costs are expensed as incurred and were approximately
$496,000, $1,442,000 and $2,559,000 for the years ended December 31, 1995, 1996
and 1997, respectively.
F-15
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Net Income (Loss) per Share
In 1997, The Financial Accounting Standards Board (FASB) issued Statement
No. 128, Earnings per Share. Statement No. 128 replaced the calculation of
primary and fully diluted earnings per share with basic and diluted earnings per
share. Unlike primary earnings per share, basic earnings per share excludes any
dilutive effects of options, warrants and convertible securities. 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 No. 128
requirements.
Income Taxes
Deferred income taxes reflect temporary differences in reporting assets
and liabilities for income tax and financial accounting purposes. These
temporary differences arise principally from the use of different methods of
franchise fee revenue recognition and depreciation and amortization for income
tax and financial accounting purposes.
Stock Based Compensation
As permitted by FASB Statement No. 123 "Accounting for Stock-Based
Compensation" (FASB 123), the Company has elected to follow Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB
25) and related interpretations in accounting for employee stock option plans.
Under APB 25, no compensation expense is recognized at the time of option grant
because the exercise price of the Company's employee stock option equals the
fair market value of the underlying common stock on the date of grant.
Impact of Recently Issued Accounting Standards
In June 1997, the FASB issued Statement No. 130, Reporting Comprehensive
Income. Statement No. 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements and applies to all enterprises. Statement No. 130 is
effective for financial statements for fiscal years beginning after December 15,
1997. The adoption of Statement No. 130 will have no impact on the Company's
consolidated results of operations, financial position or cash flows but will
affect the disclosure of stockholder equity changes such as foreign currency
translation.
In June 1997, the FASB issued Statement No. 131, Disclosures about
Segments of an Enterprise and Related Information, which is effective for years
beginning after December 15, 1997. Statement No. 131 establishes standards for
the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about products
and services, geographic areas and major customers. The Company will adopt the
new requirements retroactively in 1998. Management is currently evaluating
Statement No. 131 and does not anticipate that the adoption of this statement
will have significant effect on the Company's financial reporting.
Reclassifications
Certain prior period balances have been reclassified to conform with 1997
presentation.
NOTE 2 - NON-RECURRING CHARGES AND WRITE OFF OF INVESTMENT
The following is a summary of non-recurring charges and write-offs:
<TABLE>
<CAPTION>
1996 1997
---- ----
<S> <C> <C>
Notes, receivables and loan guarantees $ 2,020,000 $ 7,407,000
Construction Co. accounts receivable -- 2,636,000
Investment in Stores 430,000 5,166,000
Goodwill 1,711,000 4,227,000
PP&E and other 1,750,000 568,000
Professional Fees and expenses related to I&J investigation 1,057,000 --
----------- -----------
$ 6,968,000 $20,004,000
=========== ===========
</TABLE>
F-16
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In 1997, the Company recorded a provision for the potential write-off of
notes, receivables and estimated amounts owed in connection with loan guaranties
of approximately $7,407,000. These items relate to amounts advanced to
franchisees where the probability of repayment is extremely low or non-existent
due to the current financial condition of the franchisee.
Construction receivables of approximately $2,636,000 have been either
written-off or reserved due to the low probability of recovery due to the
closing of stores by franchisees and their inability to make payments.
The Company recorded a write-down of its investment in stores of
approximately $5,166,000 due to the closing of all but twelve Company stores and
five joint-ventures. Many Company owned stores were experiencing operating and
cash losses with no prospect of turnaround or eventual sale to a franchisee. The
Company decided to close the stores and write-off its investment. The carrying
values of the remaining stores were written down to estimated fair market value.
The Company had been amortizing goodwill related to several acquisitions.
Based on the future cash flow projections for the entities, the Company
determined that a write-off of the $4,227,000 balance of the goodwill was
required.
PP&E and Other relates to the closing of the original Eatontown facility,
the manufacturing facility in Canada and severance costs amounting to
approximately $568,000.
In 1996, the Company recorded professional fees associated with the
special investigation of I&J, the class action lawsuits and settlements of
certain consulting agreements totaling approximately $1,057,000. The Company
also decided to sell, franchise or close the San Francisco locations acquired in
January 1996, operating under the name Holey Bagel. As a result of these
decisions, the Company wrote-off $3,010,000 comprised of the goodwill
($1,711,000) fixed assets ($874,000) and other assets and accruals ($425,000)
acquired in the Bay Area Bagel acquisition and the Los Angeles commissary and
the sale or closure of the locations. In addition, unusual items recorded during
the fourth quarter of 1996 included: provisions associated with the termination
of the master franchisee for the Houston and Dallas markets approximately
($314,000), provisions for and write-offs of accounts and notes receivable
approximately ($915,000), increases in the reserves for franchisee loan
guarantees approximately ($1,105,000); settlements with lessors approximately
($430,000); and start up costs associated with the Company's Canadian
manufacturing facility approximately ($137,000).
NOTE 3 - INVENTORY December 31
-----------
1996 1997
---- ----
Raw materials ................................. $ 788,977 $ 389,207
Finished goods ................................ 592,671 605,800
---------- ----------
$1,381,648 $ 995,007
========== ==========
F-17
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - PROPERTY AND EQUIPMENT
December 31
-----------
1996 1997
---- ----
Land ......................................... $ 62,178 $ 62,178
Factory equipment............................. 8,971,786 10,478,350
Office furniture and equipment ............... 848,344 1,032,396
Leasehold improvements ....................... 2,918,872 3,494,692
Transportation equipment ..................... 711,648 757,947
Construction in progress ..................... 474,652 838,971
------------ ------------
13,987,480 16,664,534
Accumulated depreciation and amortization .... (1,987,142) (3,772,464)
------------ ------------
Property and equipment - net ................. $ 12,000,338 $ 12,892,070
============ ============
Property and equipment includes assets recorded under capital leases of
$843,303 and $865,066 as of December 31, 1996 and 1997, respectively.
Accumulated depreciation and amortization includes accumulated amortization of
assets recorded under capital leases of $265,283 and $240,803 as of December 31,
1996 and 1997, respectively. Assets recorded under capital leases consist
primarily of factory equipment.
NOTE 5 - LONG TERM DEBT
<TABLE>
<CAPTION>
Lines of Credit DECEMBER 31,
1996 1997
---- ----
<S> <C> <C>
Payable to New Jersey Economic Development Authority,
bearing interest at an adjustable rate determined by
the remarketing agent payable in monthly interest only
installments, with maturity of October 1, 2005. The
line is collateralized by a blanket security interest
in all of the assets of the company not previously
pledged elsewhere .............................................. $ 3,134,931 (1)
Payable to a bank bearing interest at 0.25% under the
bank's Prime Rate, 8.25% at December 31, 1996 and
payable in monthly interest only installments with a
maturity of August 1, 1999. The line is collateralized
by the Company's assets ........................................ 1,160,000 (1)
Mortgage payable on South Carolina facility, bearing
interest at prime plus 1.25%, payable in monthly install-
ments of $3,889 through March 2010 ............................. 312,963 (1)
Note payable - Bank - Term loan in the amount of $330,000
payable in equal installments of $6,600 including interest
at 9.25%. The note is collateralized by substantially all the
assets of Specialty Bakeries, Inc. ............................. 256,285 (1)
Payable to a bank bearing interest at 1% over the bank's
Prime Rate, currently 8.25% and payable on demand.
This line is secured by substantially all the assets of
Specialty Bakeries, Inc. ....................................... 125,000 (1)
</TABLE>
F-18
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C> <C>
Various notes payable to credit companies and others,
collateralized by equipment, maturing at various dates
through 2000 ................................................... 565,623 (1)
Various notes payable to a bank at rates ranging from
9.75% to 10.9% maturing at various dates through 1999. ......... 353,734 (1)
Note payable to an individual due in monthly install-
ments of $2,500 including interest at 10% ...................... 84,735 (1)
Other .......................................................... 2,227 --
----------- -----------
Total .......................................................... 5,995,498 --
Less current maturities ........................................ (2,098,408) --
----------- -----------
Long-term debt, net of current maturities ...................... $ 3,897,090 --
=========== ===========
</TABLE>
(1) Currently in default as a result of Chapter 11 proceedings, amounts included
in Liabilities subject to settlement. See Note 1.
The filing of a voluntary Chapter 11 petition was an event of default
under certain of the Company's loan agreements and accordingly, all debt
outstanding at December 31, 1997 has been classified as Liabilities Subject to
Settlement. No principal or interest payments on prepetition debt will be made
without Bankruptcy Court approval or until a reorganization plan defining the
repayment terms has been confirmed. A description of the debt subject to
settlement follows:
In August 1996, First Union National Bank (First Union) and the Company
entered a Revolving Credit Agreement with a maximum principal amount of $7.5
million evidenced by a Revolving Credit Note which was secured by certain
collateral. On April 15, 1997, First Union and the Company entered into the
First Amendment to the Revolving Credit Agreement wherein certain defaults that
existed under the Agreement were waived and additional collateral and control of
the company was given to First Union. On November 10, 1997, First Union declared
an event of default under the Amendment and accelerated the Revolving Credit
Note causing the Company to file for Chapter 11 protection. The amount
outstanding on the note at December 31, 1997 was approximately $2.1 million and
has been reduced by the payment received from Ranch 1 in March 1998. See Note
18.
In October 1995, the New Jersey Economic Development Authority (the "EDA")
and the Company entered into a Bond Agreement pursuant to which the EDA agreed
to issue bonds in the aggregate principal amount of $3.5 million. The proceeds
of those bonds were used to make a loan to the Company to finance certain
equipment acquisitions and leasehold improvements. The Bond Agreement required
the Company to cause a Letter of Credit to be issued by First Union as security
for payment of the bonds. The Letter of Credit was issued in favor of The Bank
of New York (N.J.) ("BNY") as Trustee under the Indenture of Trust between BNY
and the EDA, in which the EDA assigned its rights to BNY. The amount outstanding
on the EDA loan at December 31, 1997 was approximately $2.9 million.
F-19
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company has a mortgage payable on its South Carolina facility with
Carolina First with an outstanding balance of approximately $300,000 and various
notes payable to credit companies and others collateralized by equipment of
approximately $900,000 at December 31, 1997.
The Company has classified the loans from First Union, the EDA, Carolina
First, and the various other notes as Liabilities Subject to Settlement in the
accompanying consolidated Balance Sheets. The Company's loan agreements prohibit
the payment of cash dividends without prior consent of the lenders.
NOTE 6 - CAPITAL LEASE OBLIGATIONS
The Company has capital leases for equipment, expiring at various dates
through December 2000.
The following is a schedule by years of future minimum lease payments
under capital leases together with the present value of the net minimum lease
payments at December 31, 1996 and 1997:
For the Year Ending
December 31
-----------
1996 1997
---- ----
1997 ............................................. $ 225,494 $ --
1998 ............................................. 222,221 17,457
1999 ............................................. 199,073 17,457
2000 ............................................. 45,519 4,364
Thereafter ....................................... -- --
--------- ---------
Total minimum lease payments ..................... 692,307 39,278
Less: amount representing interest ............... (116,591) (5,480)
--------- ---------
Present value of net minimum lease payments ...... 575,716 33,798
Less: current maturities ......................... (164,812) (14,618)
--------- ---------
Long-term maturities ............................. $ 410,904 $ 19,180
========= =========
The present values of minimum future obligations shown above are
calculated based on fixed interest rates determined at the inception of the
respective leases, ranging from 10% to 20%.
F-20
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - COMMON STOCK
On November 14, 1995, the Company completed a public offering of 1,500,000
shares of the Company's common stock at a price of $19.625 per share yielding
net proceeds of $27,084,440. In December 1995, the Company sold an additional
118,000 shares on the same terms upon exercise of the underwriter's
over-allotment option, yielding net proceeds of $2,176,509.
In April 1996, the Company received net proceeds of $1,911,150 from the
sale of 90,000 shares of common stock pursuant to the exercise of an
over-allotment option in connection with an underwritten public offering of
selling shareholders.
NOTE 8 - INCOME (LOSS) PER SHARE
The following table sets forth the computation of basic and diluted
earnings (loss) per share for the years ended December 31,
1995 1996 1997
Numerator:
Net income(loss) ............. $1,620,996 $(7,480,662) $(25,770,108)
Denominator:
Denominator for basic
earnings per share--
weighted-average shares ...... 5,410,260 7,358,721 7,504,172
Effect of dilutive securities-
Employee stock options .... 224,546 -- --
---------- ----------- ------------
Denominator for diluted
earnings per share -
adjusted weighted-average
shares and assumed con-
versions ..................... 5,634,806 7,358,721 7,504,172
========== =========== ============
Basic income (loss) per share ..... $ 0.30 $ (1.02) $ (3.43)
========== =========== ============
Diluted income (loss) per share ... $ 0.29 $ (1.02) $ (3.43)
========== =========== ============
NOTE 9 - OPERATING LEASES
The Company has agreements to lease equipment, office facilities and
factory space. The leases expire at various dates through January 2008. Rent
expense on these leases for the years ended December 31, 1995, 1996 and 1997 was
approximately $1,161,065, $2,386,316 and $3,010,532, respectively.
The following is a schedule by years of approximate future minimum rental
payments required under operating leases that have initial or remaining
non-cancelable lease terms in excess of one year at December 31, 1997:
F-21
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ending
December 31,
------------
1998 ..................................................... $ 1,645,791
1999 ..................................................... 1,619,252
2000 ..................................................... 1,550,819
2001 ..................................................... 1,331,009
2002 ..................................................... 1,266,850
Thereafter ............................................... 5,382,531
-----------
Total minimum payments required .......................... $12,796,252
===========
The Company had also entered into agreements to lease locations for its
franchisees under various lease terms expiring through December 2009. The
Company is required to pay a share of property taxes and operating costs
relating to some of the leased facilities. The Company subleases these locations
to its franchisees. The Company no longer signs leases as lessee; Franchisees
now generally sign directly as lessee. The Company is in the process of either
rejecting or assigning leases under the Chapter 11 Bankruptcy Proceeding.
The following is a schedule by years of the approximate future minimum
lease payments and sublease income under franchisee operating leases that have
initial or remaining non-cancelable lease terms in excess of one year at
December 31, 1997:
For the Years Ending Sublease Lease
December 31, Income Payments
------------ ------ --------
1998 $5,151,168 $5,151,168
1999 4,917,147 4,917,147
2000 4,893,010 4,893,010
2001 4,357,201 4,357,201
2002 3,948,486 3,948,486
Thereafter 9,593,056 9,593,056
Under the Chapter 11 Bankruptcy Proceeding, it is the Company's intention
to assign these leases.
NOTE 10 - RELATED PARTY TRANSACTIONS
The Company recognizes product sales and royalty income from
joint-ventured stores and other related parties under the same terms as all
other franchised stores. Royalties from related parties totaled approximately
$119,800, $146,600 and $130,149 for the years ended December 31, 1995, 1996 and
1997, respectively. Product sales to related parties totaled approximately
$138,000, $409,500 and $535,648 for the years ended December 31, 1995, 1996 and
1997, respectively.
F-22
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 1996, the Company loaned an affiliated company $1,500,000 for the
expansion of facilities and for the purchase of bagel baking equipment. Under
the terms of the loan agreement, interest accrues daily on the outstanding
principal balance at a rate of Prime plus 2%. This agreement was settled
subsequent to December 31, 1997. See Note 17-Subsequent Event.
NOTE 11 - FRANCHISE AND LICENSE RELATED REVENUE
Years Ended
December 31,
------------
1995 1996 1997
---------- ---------- ----------
Franchise and license fee ............... $2,149,506 $2,245,440 $ 885,545
Master franchise fees ................... 841,360 680,000 --
Area Developer fees ..................... -- 1,196,981 1,370,000
Royalties and continuing license fees ... 1,626,968 2,743,090 4,089,288
---------- ---------- ----------
$4,617,834 $6,865,511 $6,344,833
========== ========== ==========
NOTE 12 - INCOME TAXES
The Company provides for the recognition of deferred tax assets and
liabilities for the tax effects of differences between the financial accounting
and tax basis of the Company's assets and liabilities. The Company also provides
for the recognition of a valuation allowance against deferred tax assets, where
the realization of such assets is not considered to be more likely than not.
The provision for income taxes consists of the following:
Year Ended
December 31,
------------
1995 1996 1997
----------- ----------- ----------
Current tax expense (benefit) $ 1,197,000 $ (560,000) $ --
Deferred tax expense (benefit) 87,000 (200,000) --
----------- ----------- ----------
$ 1,284,000 (760,000) $ --
=========== ======== ==========
A reconciliation of the provision recorded by the Company to a provision
computed utilizing the enacted Federal statutory rate is as follows:
<TABLE>
<CAPTION>
Year Ended
December 31,
------------
1995 1996 1997
---- ---- ----
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Computed tax at Federal statutory rate .... $ 1,131 34.0% $(2,750) (34.0)% $(8,012) (34.0)%
State income taxes, net of federal benefit 199 5.9% 5 0.1% 26 0.0%
Goodwill amortization/writedown ........... -- -- 634 7.8% 933 4.0%
Valuation allowance ....................... -- -- 1,383 17.1% 6,926 29.4%
Other ..................................... (46) (1.4)% (32) (0.4)% 127 0.6%
------- ----- ------- ----- ------- -----
$ 1,284 38.5% $ (760) (9.4)% $ -- $ --
======= ===== ======= ===== ======= =====
</TABLE>
F-23
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The components of the Company's recorded deferred income tax assets and
liabilities are as follows:
<TABLE>
<CAPTION>
December 31,
------------
Current: 1996 1997
---- ----
<S> <C> <C>
Deferred tax assets-other .................................. $ 1,202,000 $ 5,637,000
Deferred tax liabilities-other reserves .................... (6,000) (11,000)
Valuation allowance ........................................ (1,196,000) (5,626,000)
Long-term:
Deferred tax assets-other .................................. 214,000 --
Deferred tax liabilities book over tax basis in fixed assets (78,000) 14,000
Net operating loss carry forward ........................... 491,000 4,104,000
Tax credit carry forward ................................... 100,000 48,000
Valuation allowance ........................................ (727,000) (4,166,000)
----------- -----------
-- --
----------- -----------
Net deferred tax liabilities ............................... $ -- $ --
=========== ===========
</TABLE>
The Company's recorded valuation allowance for the year ended December 31, 1996
and 1997, consists of the following:
1996 1997
---- ----
Federal ......................................... $ 1,383,000 $ 8,309,000
State ........................................... 540,000 1,483,000
----------- -----------
$ 1,923,000 $ 9,792,000
=========== ===========
At December 31, 1997 the Company has available Federal net operating loss
carryforwards of $10,100,000 expiring in the years 2011-2012. A tax benefit of
approximately $344,000 associated with employee stock option exercises has been
credited to stockholders' equity in 1996.
NOTE 13 - NONCASH INVESTING AND FINANCING ACTIVITIES
During 1995, the Company issued 2,500 shares of common stock as part of a
trademark lawsuit settlement.
During the years ended December 31, 1995 and 1996, capital lease
obligations of $505,000 and $9,468, respectively were incurred when the Company
entered into leases for new equipment.
During 1995, the Company financed a note receivable from a franchisee for
the purchase of equipment in the amount of $60,500. During the year the Company
refinanced long-term debt into a term loan of $330,000.
F-24
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 1996, the Company issued a total of 115,500 shares of common stock
in connection with certain acquisitions (Note 1). The value of the shares issued
totaled approximately $1,740,000.
During 1997, the Company issued a total of 33,750 shares of common stock
in connection with a law suit settlement.
NOTE 14 - COMMITMENTS AND CONTINGENCIES
On June 20, 1996, the Company announced that following the installation of
new management at its I&J West Coast subsidiary, the Company had uncovered
certain improper bookkeeping and accounting practices at the Los Angeles
subsidiary, that it would be restating its first quarter 1996 Statement of
Operations to account for these improper practices. On the day following the
announcement the stock price of the Company's common stock declined from a
closing price of $21.25 on June 20, 1996 to a closing price of $13.75 on June
21, 1996. As a result, certain class action law suits have been filed. These
lawsuits from New Jersey and California have been consolidated into one class
action lawsuit in the Federal District Court in New Jersey. The plaintiffs seek
unspecified money damages. Although the court has denied the defendant's request
to dismiss the complaint, the court required the class plaintiffs to replead
their claims brought under Section 11 of the Securities Act of 1933 and Section
10(b) of the Securities Exchange Act of 1934 by April 8, 1998. On January 26,
1998, Jack Grumet and Leonard Johnson moved for reconsideration of that portion
of the Order denying their motion to dismiss the claims asserted against them
under Sections 25400 and 25500 of the California Corporations Code. That motion
has been fully briefed. The District Court has indicated that it will not take
oral argument on the motion. Although the Company believes it has acted properly
and has adequate defenses to such actions, no assessment of the amount or range
of any loss that might be incurred by, or the effects thereof on, the Company
should it be found to have violated any law, can be made at this time.
Accordingly, no provisions for these contingencies have been made. Certain costs
of the defense of these actions have been included in the non-recurring charge
(see Note 2).
The Company is also involved in various other pending legal proceedings
arising out of the normal course of the Company's business. The adverse outcome
of any of these legal proceedings is not expected to have a material adverse
effect on the financial condition of the Company. It is the Company's
expectation that each of these claims will be disposed of as part of the plan of
reorganization to be filed in the Company's Chapter 11 case.
The Company has executed a $25.0 million franchisee financing agreement
with Atlantic Financial Services, Inc. Under the terms of this agreement, the
Company has agreed to guarantee certain portions of loans in exchange for more
favorable terms and rates for the Company's franchisees. The liability of the
Company under this agreement is the greater of (i) $1,500,000 or (ii) 20% of the
first $10,000,000 of loans to franchisees and 10% of the remaining $15,000,000
of loans to franchisees. At December 31, 1996 and 1997 the Company's contingent
liability was $2,139,418 and $2,131,938, respectively for outstanding loans. As
a result of the Chapter 11 proceeding, no further loans are being made under
this agreement.
F-25
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company also has executed a $10.0 million franchisee financing
agreement with Stephens Franchise Finance which was purchased by SunTrust Credit
Corp. Under the terms of this agreement, the Company has agreed to guarantee
certain portions of loans in exchange for more favorable terms and rates for the
Company's franchisees. The liability of the Company under this agreement is the
greater of (i) $1,000,000 or (ii) 30% of the aggregate principal amount of loans
to franchisees. At December 31, 1996 and 1997 the Company's contingent liability
was $1,695,026 and $1,649,916, respectively for outstanding loans. As of June
13, 1996, the Company ceased using SunTrust Credit Corp. for franchisee
financing.
The Company entered into various employment agreements effective January
1, 1994 through December 31, 1998, with officers and key employees, three of
whom are major stockholders. Each agreement provides for an annual base
compensation equal to $125,000 with annual increases based on increases in the
Consumer Price Index, capped at 10%. The agreements provide for aggregate
bonuses equal to 10% of the Company's consolidated earnings before taxes. As of
July 1, 1997 upon the approval of the board of Directors, Mr. Grumet's annual
salary was increased to $185,000.
In February 1998, the Company commenced legal actions for the turnover of
pledged stock, judgment on $6 million of promissory notes and guarantees and
related relief against Bagel Brothers Bakery and Deli, Inc. and related
entities. The complaint results from the failure by Bagel Brothers to pay
amounts due to the Company for interest on the promissory notes and royalty
fees. As a part of the transaction described in Note 1, shares representing 75%
of the stock of Bagel Brothers Company stock are in escrow. In response to the
Company's suit, certain of the Bagel Brothers entities filed for protection
under Chapter 11 of the U.S. Bankruptcy Code in March 1998. In March 1998,
through the Bagel Brothers entities bankruptcy proceedings, the Company was
given the opportunity to operate the Ohio franchises and to evaluate the related
assets. In the opinion of the Company's management, the ultimate outcome of
these legal actions will not have a material adverse effect on the Company's
financial position.
NOTE 15 - STOCK OPTIONS
In 1994, the Company adopted a stock option plan (the "1994 Plan") under
which stock options to purchase up to 300,000 shares of the Company's common
stock may be granted to employees of and consultants to the Company. Options
granted under this plan must be at an exercise price not less than the fair
market value per share of common stock on the date the option is granted.
Generally, an option will become fully exercisable three years from the date of
grant. Options will be exercisable for a term not greater than ten years from
the date of grant.
In 1996, the Company adopted a stock option plan (the "1996 Plan") under
which stock options to purchase up to 750,000 shares of the Company's common
stock may be granted to employees of and consultants to the Company. Options
granted under this plan must be at an exercise price not less than the fair
market value per share of common stock on the date the option is granted.
Options granted shall become exercisable equally over three years upon each
anniversary of the date of grant.
F-26
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Generally, an option will become fully exercisable three years from the date of
grant. Options will be exercisable for a term not greater than ten years from
the date of grant.
FASB 123 requires pro forma information regarding net income (loss) and
earnings per share as if the Company has accounted for its employee stock
options and warrants granted subsequent to December 31, 1994, under the fair
value method of FASB 123. The fair value of these equity awards was estimated at
the date of grant using a Black-Scholes option pricing model with the following
weighted average assumptions for 1995, 1996 and 1997, respectively: risk-free
interest rates of 5.76%, 6.18% and 6.25%; expected volatility of 0.73 and 1.056,
expected option life of one year from vesting and an expected dividend yield of
0.0%.
1995 1996 1997
---- ---- ----
Pro forma basic net income (loss) $ 1,282,127 $ (9,486,621) $ (25,743,235)
============ ============ =============
Pro forma basic net income (loss)
per share of common stock $0.24 $(1.29) $(3.43)
===== ====== ======
Pro forma diluted net income(loss)
per share of common stock $0.23 $(1.29) $(3.43)
===== ====== ======
A summary of the Company's stock option activity, and related information
for the years ended December 31, 1995, 1996 and 1997 follows:
<TABLE>
<CAPTION>
1995 1996 1997
---- ---- ----
Common Weighted Common Weighted Common Weighted
Stock Avg. Stock Avg. Stock Avg.
Options Exercise Options Exercise Options Exercise
Price Price Price
------------------ ------------------ -----------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of year 263,600 $ 4.96 444,144 $ 8.90 681,370 $15.94
Granted 312,360 10.90 549,163 19.53 333,830 6.16
Canceled (18,549) 5.51 (148,357) 13.77 (469,662) 10.36
Exercised (113,267) 5.79 (163,580) 10.85 (47,000) 3.09
-------- -------- -------
Outstanding at end of year 444,144 8.90 681,370 15.94 498,538 11.61
======== ======== =======
Exercisable at end of year 200,111 $10.60 101,250 $ 5.95 154,859 $12.47
======== ======== =======
Weighted average fair value of
options granted during the year $ 7.03 $12.92 $ 4.91
</TABLE>
Stock options outstanding at December 31, 1997 are summarized as follows:
Outstanding Weighted Average
Range of Exercise Options at Remaining Weighted Average
Prices December 31, 1997 Contractual Life Exercise Price
------ ----------------- ---------------- --------------
$5.00 to $7.00 335,288 8.23 $ 6.03
$12.00 to $13.50 33,250 7.66 $12.74
$16.25 10,000 8.08 $16.25
$26.50 120,000 8.40 $26.50
-------
$5.00 to $26.50 498,538 8.23 $11.61
=======
F-27
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 1995, the Company granted immediately exercisable options to
purchase 101,250 shares of common stock at $13.50 per share, in exchange for
consulting services. During 1997 none of the options were exercised and the
remaining 16,500 options remain exercisable at December 31, 1997.
In August 1995, the Company granted options to a key employee to purchase
90,000 shares of common stock at $12.00 per share which represented the fair
market value at the date of grant. The options are exercisable in equal annual
amounts over a three year period beginning December 31, 1995.
During 1996 30,000 options were exercised and the remaining 60,000 options were
canceled.
In May 1996, the Company granted options to three key employees of
Specialty Bakeries, Inc. to purchase 180,000 shares of common stock at $26.50
per share which represented the fair market value at the date of grant. In 1997
one of the employees left the Company and his options were canceled leaving
120,000 options still open under this grant. The options are exercisable in
equal annual amounts over a three year period which began May 1, 1997.
In May 1997, the Company granted options to a key employee to purchase
100,000 shares of common stock at $5.75 per share which represented the fair
market value at the date of grant. The options are exercisable in equal annual
amounts over a three year period beginning May 31, 1998.
In April 1997 certain options originally granted in January 1996 at an
exercise price of $18.00 were canceled and reissued at the then market price of
$5.50. Employees were given the opportunity to retain the old options or
exchange them for the new options. The new options were exercisable in equal
annual amounts over a three year period which began April 1, 1997.
In May 1997 a certain non-employee director was granted options to
purchase an aggregate of 30,000 shares of common stock at $5.00 which
represented the fair market value at the date of grant. The options are
exercisable in equal annual amounts over a three-year period beginning May 16,
1997.
F-28
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16 - FRANCHISE AND LICENSE TRANSACTIONS
Total franchise and license locations opened during the years ended
December 31, 1996 and 1997, were 108 and 69, respectively.
Franchise locations in operation are as follows: December 31,
------------
1996 1997
---- ----
Company-owned locations ................................ 35 12
Franchisee and joint venture locations ................. 258 307
--- ---
Total .................................................. 293 319
=== ===
During 1997, the Company sold or closed all but twelve Company stores and
recorded a write-down of their value. See Note 2 - Non-Recurring Charge and
Write-Off of Investment.
During 1996, the Company repurchased 20 locations, 7 were operated as
company stores, while 13 were sold. Gains and/or losses from these sales were
not material.
NOTE 17 - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of the following:
DECEMBER 31
1996 1997
------------ ------------
Trade payables $ 2,003,187 $ 2,325,556
Accrued payroll & bonuses 333,692 233,566
Accrued purchases 1,296,768 56,024
Accrued company store expenses 669,404 150,258
Accrued general and administrative expenses 607,431 1,196,557
Reserve for write downs 1,444,029 1,294,000
Accrued reorganization expenses 221,000
------------ ------------
$ 6,354,511 $ 5,476,961
============ ============
NOTE 18 - SUBSEQUENT EVENTS
In March 1998, pursuant to an agreement to satisfy and discharge credit
documents and terminate area development rights with Ranch 1 Group, Inc. ("Ranch
1"), the Company received a payment in the amount of $1,275,000 plus all accrued
and unpaid interest due while retaining its interest in Ranch 1 originally equal
to 5%. The monies were paid to the Company's fully secured primary lender in
partial settlement of amounts owed by the Company under the Revolving Credit
Note.
The Company has received notification from the Securities and Exchange
Commission that the SEC Staff is considering recommending that the SEC institute
a civil enforcement action against the Company (but not including any present
officer or director of the Company) relating to the filing by the Company of
what the Staff believes are inaccurate financial statements for certain prior
periods. The Staff and the Company have had discussions regarding the Company's
different views on these matters. No action has been commenced by the SEC, nor
is the Company able to predict when such an action might be commenced.
F-29
<PAGE>
MANHATTAN BAGEL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Schedule II 1997
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
Manhattan Bagel Company
Valuation and Qualifying Accounts
(Thousands $)
- ---------------------------------------------------------------------------------------------------------------
Additions
Balance at Charged to Balance at
Beginning of Costs and End of
Description Period Expenses Deductions Period
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Year Ended December 31, 1995
- ---------------------------------------------------------------------------------------------------------------
Deducted from asset account:
- ---------------------------------------------------------------------------------------------------------------
Allowance for doubtful accounts $ $ 10 $ $ 10
- ---------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------
Year Ended December 31, 1996
- ---------------------------------------------------------------------------------------------------------------
Deducted from asset account:
- ---------------------------------------------------------------------------------------------------------------
Allowance for doubtful accounts 10 283 293
- ---------------------------------------------------------------------------------------------------------------
Reserve for Construction Cost Receivable 0 60 60
- ---------------------------------------------------------------------------------------------------------------
Reserve for Franchise Fees 0 565 565
- ---------------------------------------------------------------------------------------------------------------
Reserve for Area Developer Fees 0 633 633
- ---------------------------------------------------------------------------------------------------------------
Reserve for Notes Receivable 0 256 256
- ---------------------------------------------------------------------------------------------------------------
Reserve for Investment in Stores 0 849 849
- ---------------------------------------------------------------------------------------------------------------
Valuation allowance for deferred taxes 0 1,923 1,923
- ---------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------
Year Ended December 31, 1997
- ---------------------------------------------------------------------------------------------------------------
Deducted from asset account:
- ---------------------------------------------------------------------------------------------------------------
Allowance for doubtful accounts 293 2,066 2,359
- ---------------------------------------------------------------------------------------------------------------
Reserve for Construction Cost Receivable 60 1,800 1,860
- ---------------------------------------------------------------------------------------------------------------
Reserve for Franchise Fees 565 190 755
- ---------------------------------------------------------------------------------------------------------------
Reserve for Area Developer Fees 633 633
- ---------------------------------------------------------------------------------------------------------------
Reserve for Notes Receivable 256 4,524 4,780
- ---------------------------------------------------------------------------------------------------------------
Reserve for Investment in Stores 849 5,054 76 5,827
- ---------------------------------------------------------------------------------------------------------------
Valuation allowance for deferred taxes 1,923 7,869 9,792
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
F-30
<PAGE>
PART III
Item 10. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act.
The following table sets forth certain information regarding the Company's
directors and executive officers.
Name Age Position
- ------------------------ --- -------------------------------------------------
Directors and Officers
Jack Grumet........... 61 Chairman of the Board and Chief Executive Officer
Jason Gennusa......... 39 President, Chief Operating Officer and Director
Andrew Gennusa........ 32 Executive Vice President and Director
David Goldsmith....... 58 Vice Chairman
Jack Levy............. 46 Director
Julia S. Heckman...... 48 Director
James J. O'Connor..... 53 Chief Financial Officer
The business experience, principal occupations and employment of each of
the directors and executive officers and key employees of the Company during at
least the past five years, together with their periods of service as directors,
executive officers and key employees of the Company, are set forth below.
Directors and Officers
Jack Grumet became Chairman of the Board and Chief Executive Officer of the
Company in April 1991. He was Chairman and Chief Financial Officer of Banner
Financial Services, a wholesale mortgage broker, from April 1989 until April
1991. From 1984 to 1989, Mr. Grumet was involved as an executive officer in a
variety of business enterprises. Prior to 1984 he was the founder and Chief
Executive Officer of Jo-Ann's Nut House and Chez Chocolat, the nation's second
largest retail franchise chain of nut and candy stores at such time. The chain
operated 149 locations in nineteen states with five branch warehouses.
The company was sold in 1983 to Carrols Corp.
Jason Gennusa has been President, Chief Operating Officer and director
since he co-founded the Company in 1987. From 1981 until 1991, Mr. Gennusa was
Vice President and a principal owner/operator of five Chicken Holiday
restaurants located throughout New Jersey.
Andrew Gennusa has been Executive Vice President since June 1996 and a
director (and Vice President) since 1987, and is the other co-founder of the
Company. From 1981 until 1991, Mr. Gennusa was President and a principal
owner/operator of five Chicken Holiday restaurants throughout New Jersey.
26
<PAGE>
David Goldsmith became a director and Vice Chairman of the Board of the
Company in April 1996, after serving as a consultant to the Company since
December 1995. Mr. Goldsmith's employment with the Company ceased in December
1997. Since that time he has been a business consultant. Prior to joining the
Company, from 1973 to 1996, Mr. Goldsmith was President and Chief Executive
Officer of Ventec Inc., a food manufacturing and distribution concern.
Jack Levy became a director in October 1995. Mr. Levy has been engaged in
the private practice of law in New York City since 1976. Since April 1996, Mr.
Levy has been a partner with the law firm of Morrison Cohen Singer & Weinstein,
LLP, counsel to the Company. From April 1995 to April 1996, he was a partner at
the law firm of Wise & Shepard, LLP and from April 1993 to April 1995, he was a
partner at the law firm of Lane & Mittendorf. From 1978 to April 1993, he was an
attorney at Summit Solomon & Feldesman, first as an associate and from 1984 to
1993 as a partner.
Julia S. Heckman became a director of the Company in November 1995. Ms.
Heckman was a Managing Director with Rodman & Renshaw, Inc.'s Investment Banking
Group from April 1995 until March 1998 and had been a Managing Director with
Mabon Securities Corp.'s Investment Banking Group since 1991. Prior to joining
Mabon Securities Corp., Ms. Heckman was a Managing Director with Paine Webber
Group Inc.'s Corporate Finance Group. Ms. Heckman serves as a Director of ATC
Environmental Inc., an environmental consulting and engineering firm.
James J. O'Connor became Chief Financial Officer in March 1997. Mr.
O'Connor has 30 years experience in finance and accounting having spent the last
eighteen years with RJR Nabisco Holdings and its predecessor companies, most
recently as assistant corporate controller of Nabisco, Inc.
All directors hold office until the next annual meeting of shareholders or
until their successors are elected and qualify. Officers are elected annually
by, and serve at the discretion of, the Board of Directors. There are no
familial relationships between or among any officers or directors of the
Company, except that Jason Gennusa and Andrew Gennusa are brothers.
27
<PAGE>
Item 11. Executive Compensation.
The following table sets forth information concerning the annual compensation
paid by the Company for the fiscal years ended December 31, 1995, 1996 and 1997,
respectively, to the Chief Executive Officer and executive officers of the
Company whose compensation exceeded $100,000 in 1997.
Summary Compensation Table
Annual Compensation
Name and Annual
Principal Position Year Salary Other(1)
- --------------------------------------------------- ---- ------ --------
Jack Grumet ....................................... 1997 $157,837 --
Chairman of the Board and Chief Executive Officer 1996 $131,506 --
1995 $121,880 --
Jason Gennusa ..................................... 1997 $132,096 --
President and Chief Operating Officer ........... 1996 $131,506 --
1995 $120,358 --
Andrew Gennusa .................................... 1997 $132,096 --
Executive Vice President ........................ 1996 $131,506 --
1995 $122,084 --
David Goldsmith ................................... 1997 $144,231 --
Vice Chairman of the Board ...................... 1996 $101,614 --
(1) Excludes perquisites and other personal benefits, securities and properties
not otherwise categorized as salary or bonuses which in the aggregate as for
each of the named persons did not exceed the lesser of either $50,000 or ten
percent of the total of annual salary reported for such person.
The Company entered into five year employment agreements with each of
Messrs. Jack Grumet, Jason Gennusa and Andrew Gennusa extending through December
31, 1998. Each such agreement provides for base annual compensation equal to
$125,000, plus in the second, third, fourth and fifth years, increases based on
increases in the consumer price index capped at ten percent per annum. In
addition, each agreement provides for bonus compensation equal to two percent of
the Company's net income before taxes. Each of Messrs. Grumet, J. Gennusa and A.
Gennusa waived such bonus compensation for 1995. The agreements contain
customary provisions regarding benefits and restrictions on competition. As of
July 1, 1997 upon the approval of the Board of Directors, Mr. Grumet's annual
salary was raised to $185,000.
Mr. Goldsmith was employed under an arrangement which became effective
April 23, 1996 and extended until December 31, 1998 under which he received
compensation at the rate of $132,000 during 1996 and $150,000 in 1997 and 1998,
plus in each year increases based on increases in the consumer price index
capped at 10% per annum. In addition, Mr. Goldsmith was entitled to bonus
compensation equal to 2% of the Company's net income before taxes, provided the
net income of Manhattan Bagel meets stated amounts. Under the terms of the
arrangement, if Mr. Goldsmith's employment was terminated by Manhattan Bagel
without cause, he would be entitled to receive six month's base salary and
thereafter, during the balance of the term of the agreement, one year's salary.
In addition, if Mr. Goldsmith's employment was terminated after a change of
28
<PAGE>
control of the Company, Mr. Goldsmith would be entitled to receive eighteen
month's base salary, plus the bonus earned to date of termination. Mr. Goldsmith
received customary benefits and is restricted in competing with the Company
after his employment is terminated. Mr. Goldsmith also has been granted ten year
options expiring January 29, 2006 to purchase 130,000 shares of Common Stock at
an exercise price of $5.50 per share. Of such options, 30,000 shares were vested
on issuance, and the balance vests in three equal annual installments, on
January 29, 1997, 1998, and 1999, and subject to the next sentence, unvested
amounts will terminate in the event Mr. Goldsmith's employment is terminated. If
Mr. Goldsmith is terminated without cause after three months, all unvested
options will vest immediately. Such options were granted while Mr. Goldsmith was
engaged as a consultant to the Company. Mr. Goldsmith's employment with this
Company ceased in December 1997.
Jack Levy holds an option issued under the Company's 1994 Stock Option Plan
to purchase 9,000 shares of Common Stock at an exercise price of $7.00 per
share. The right to exercise such option vested in three equal annual
installments, commencing January 3, 1996. Jack Levy also holds an option issued
under the Company's 1996 Stock Option Plan to purchase 10,000 shares of Common
Stock at an exercise price of $16.25 per share. The right to exercise such
option vests in three equal annual installments, commencing January 29, 1997.
Julia S. Heckman holds an option granted to her to purchase 30,000 shares
of Common Stock at an exercise price of $5.00 per share. The option vests in
three equal annual installments, commencing May 16, 1997.
Compliance with Section 16(a) of the Securities Exchange Act of 1934
The Company's executive officers and directors are required under the
Securities Exchange Act of 1934 to file reports of ownership and changes in
beneficial ownership of the Company's Common Stock. Based solely on a review of
the copies of reports furnished to the Company and written representations that
no Forms 5 were required, the Company believes that during 1996 all filing
requirements applicable to executive officers and directors were complied with.
29
<PAGE>
Item 12. Security Ownership of Certain Beneficial Owners and
Management.
The following table sets forth certain information as of, regarding the
beneficial ownership of the Company's Common Stock by (i) all persons known by
the Company to beneficially own more than five percent of the Company's Common
Stock, (ii) each director and officer of the Company, and (iii) all directors
and officers as a group.
Percent of Outstanding
Stock Owned
Amount and
Nature of
Beneficial Percentage
Ownership of Class
Name and Address of Beneficial Owners (1)
- ----------------------------------------------------- ---------- ----------
Jack Grumet (2)(3)(4) ............................... 595,900 7.9%
Jason Gennusa (2)(5) ................................ 700,000 9.3%
Andrew Gennusa (2)(6) ............................... 700,000 9.3%
David Goldsmith (2)(7) .............................. 96,666 *
James J. O'Connor (2) ............................... -- --
Julia S. Heckman(2) ................................. -- --
Jack Levy (8) ....................................... 15,767 *
750 Lexington Avenue,
8th Floor
New York, New York 10022
Grumet Partners, L.P. (3) ........................... 465,668 6.2%
19 Seven Oaks Drive
Holmdel, New Jersey 07733
All executive officers and directors as a group
(7 persons) ........................................ 2,108,333 28.0%
- ----------
* less than 1%
(1) Unless otherwise noted, the Company believes that all persons named in the
table have sole voting and sole investment power with respect to all shares of
Common Stock beneficially owned by such person.
(2) The address of each of Jack Grumet, David Goldsmith, Jason Gennusa, Andrew
Gennusa, James J. O'Connor, and Julia S. Heckman is c/o Manhattan Bagel Company,
Inc., 246 Industrial Way West, Eatontown, New Jersey 07724.
(3) Includes 465,668 shares held by Grumet Partners, L.P., a limited partnership
of which Mr. Grumet and his sister, Linda Philips, are the general partners, and
of which trusts for the benefit of Mr. Grumet's children are the limited
partners. Linda Philips' address is 621 Terra Peralta Hills, Anaheim, California
92807.
(4) Includes 100,000 shares owned by the estate of Mr. Grumet's wife.
30
<PAGE>
(5) Includes 33,000 shares held in trust for the benefit of members of Mr.
Gennusa's family.
(6) Includes 21,000 shares held in trust for the benefit of members of Mr.
Gennusa's family.
(7) Includes 96,333 shares of Common Stock issuable upon exercise of currently
exercisable options. Does not include 33,334 shares of Common Stock issuable
upon the exercise of options vesting on January 29, 1999.
(8) Includes 9,334 shares of Common Stock issuable upon exercise of currently
exercisable options and 100 shares owned under the Uniform Gift to Minors Act
for the benefit of Mr. Levy's daughter. Does not include 3,000 shares issuable
upon exercise of options vesting on January 3, 1998, and 6,666 shares of Common
Stock issuable upon the exercise of options vesting in equal annual installments
on January 29, 1998 and 1999, respectively.
Item 13. Certain Relationships and Related Transactions.
Two of the Company's franchises are owned by Joseph Grumet, who is the son
of Jack Grumet. The terms of the franchises are the same as in other franchised
stores.
The Company was founded in October 1987 by Messrs. Jason Gennusa and
Andrew Gennusa, each of whom acquired 50% of the then outstanding shares for
nominal consideration. Mr. Jack Grumet joined the Company in April 1991 and
acquired his portion of the outstanding shares for nominal consideration.
Pursuant to an agreement with First Montauk Securities Corp., the underwriters
of the Company's initial public offering, immediately prior to the effectiveness
of the registration statement relating to the Company's June 1994 public
offering, each of Messrs. Jack Grumet, Jason Gennusa and Andrew Gennusa
contributed, for no consideration, 150,000 shares of Common Stock, leaving each
with 850,000 shares of Common Stock at that time.
Julia S. Heckman, a director of the Company, is a Managing Director with
Rodman & Renshaw, Inc.'s Investment Banking Group. Rodman & Renshaw, Inc. acted
as co-managing underwriter of Manhattan Bagel's November 1995 public offering in
which the Company sold 1,618,000 shares, including shares sold pursuant to the
underwriters overallotment option. The underwriting discounts on such shares
aggregated $1,909,240. Ms. Heckman was elected to the board in November 1995
pursuant to the underwriting agreement under which Rodman & Renshaw, Inc. had
the right to appoint a member to the Board of Directors to serve until the 1996
Annual Meeting. Rodman & Renshaw, Inc. also acted as one of the underwriters of
an underwritten public offering of shares owned by a selling shareholder
pursuant to which Manhattan Bagel sold 90,000 shares upon exercise of the
underwriters' overallotment option. The aggregate underwriting discount relating
to these overallotment shares was $113,850.
Law firms of which Jack Levy, a director of Manhattan Bagel since October
1995, has acted as counsel for Manhattan Bagel since 1993.
31
<PAGE>
Item 14. Exhibits, Financial Statements, Financial Statement Schedules and
Reports on Form 8-k.
(a)(1)Consolidated Financial Statements
The following consolidated financial statements of
Manhattan Bagel Company, Inc. and Subsidiaries are
included:
Consolidated Balance Sheets as of December 31, 1996 and
1997
Consolidated Statements of Operations for the Years
Ended December 31, 1995, 1996 and 1997
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1995, 1996 and 1997
Consolidated Statements of Cash Flows for the Years
Ended December 31, 1995, 1996 and 1997
Notes to Consolidated Financial Statements
(a)(2)Financial Statement Schedules
The following consolidated financial statement schedule
of Manhattan Bagel Company, Inc. and subsidiaries is
included in Item 14(a):
Schedule II Valuation and qualifying accounts
All other schedules for which provision is made in the
applicable accounting regulation of the Securities and
Exchange Commission are not required under the related
instructions or are inapplicable and therefore have been
omitted.
(a)(3)The following exhibits are filed as part of this report.
Reference to: No. Exhibits
- ------------- --- --------
Exhibit 3.1[1] 3.1 Restated Certificate of Incorporation of the Registrant
Exhibit 3.2[5] 3.2 Amendment to Restated Certificate of Incorporation of
the Registrant
Exhibit 3.21 3.21 Amendment to Restated Certificate of Incorporation of
the Registrant
Exhibit 3.3[8] 3.3 By-Laws of the Registrant
Exhibit 10.1[1] 10.1 Employment Agreement dated as of January 1, 1994 between
the Registrant and Jack Grumet**
Exhibit 10.2[1] 10.2 Employment Agreement dated as of January 1, 1994 between
the Registrant and Jason Gennusa**
Exhibit 10.3[1] 10.3 Employment Agreement dated as of January 1, 1994 between
the Registrant and Andrew Gennusa**
Exhibit 10.6[1] 10.4 Form of Registrant's Master Franchise Agreement
Exhibit 10.7[1] 10.5 Master Lease Agreement No. 00000562 dated as of August
27, 1992, between the Registrant and Society Equipment
Leasing Company.
Exhibit 10.8[1] 10.6 Lease Agreement dated as of September 30, 1992 between
Hecon Properties, Inc. and the Registrant for executive
offices of the Registrant.
Exhibit 10.9[1] 10.7 Form of Sublease Agreement between the Registrant and
individual franchisees
Exhibit 10.10[1] 10.8 1994 Stock Option Plan**
Exhibit 10.14[2] 10.9 Employment Agreement dated as of December 29, 1994
between the Registrant and Fred Austin**
Exhibit 10.15[2] 10.10 Office lease dated January 12, 1995 between the
Registrant and MBL Life Assurance Corporation for
executive office and manufacturing facility of the
Registrant, and Amendment thereto dated March 6, 1995.
Exhibit 10.15.1 Second Amendment to Office Lease, dated May 6, 1996,
between the Registrant and MBC Life Assurance
Corporation (for the lease of an additional 30,600
square feet of space).*
Exhibit 10.15.2 Third Amendment to Office Lease, dated March 4, 1997,
between the Registrant and Townsend Property Trust
Limited Partnership (as successor-in-interest to MBL
Life Assurance Corporation).*
32
<PAGE>
Exhibit 10.15.3 Fourth Amendment to Office Lease, dated March 5, 1997,
between the Registrant and Townsend Property Trust
Limited Partnership (as successor- in interest to MBL
Life Assurance Corporation).*
Exhibit 10.16[3] 10.11 Agreement and Plan of Merger dated as of May 10, 1995
and Amendments No. 1 and thereto dated as of June 29,
1995 by and among the Registrant, DAB Acquisition Corp.,
DAB Industries, Inc. and Allan Boren.**
Exhibit 10.17[4] 10.12 Bond Agreement between New Jersey Economic Development
Authority and the Registrant dated as of October 1, 1995
Exhibit 10.18[4] 10.13 Letter of Credit and Reimbursement Agreement between
First Fidelity Bank, N.A. and the Registrant.
Exhibit 10.19[5] 10.14 Agreement and Plan of Merger dated as of November 21,
1995 by and among the Registrant, BAB Acquisition Corp.,
Bay Area Bagel, Inc., Gary Goldstein and Scott
Kronenberg.
Exhibit 10.20[6] 10.15 Agreement dated as of January 17, 1996 by and among BMR
Bagel Co., Inc., Another Bagel Co., Inc., ETR Bagel Co.,
Inc., Jeff M. Refold and Jay Refold, and I. & J. Bagel
Co., Inc.
Exhibit 10.21[7] 10.16 Agreement and Plan of Merger, dated as of May 22, 1996,
by and among SBI Acquisition Corp., Specialty Bakeries,
Inc., Rocco Fiorentino, John Gerber, and Frank
Guglielmo.
Exhibit 10.22[8] 10.17 Settlement Agreement dated as of February 26, 1996
between the Registrant and Allan Boren.
Exhibit 10.23[9] 10.18 1996 Stock Option Plan **
Exhibit 21 Subsidiaries of the Registrant.*
Exhibit 23.1 Consent of Ernst & Young LLP.*
Exhibit 23.2 Consent of Rainer & Company.*
Exhibit 27 Financial Data Schedule.*
* Filed herewith
** Management Contract or Compensatory Plan.
[1] Registrant's Registration Statement on Form SB-2, File No. 33-77058-NY.
[2] Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the year ended December 31, 1994.
[3] Incorporated by reference to Registrant's Current Report on Form 8-K dated
June 29, 1995.
[4] Incorporated by reference to Registrant's Amendment No. 1 to Registration
Statement on Form SB-2, File No. 97658.
33
<PAGE>
[5] Incorporated by reference to Exhibit 10.22 to Registrant's Current Report
on Form 8-K dated January 9, 1996.
[6] Incorporated by reference to Exhibit 10.22 to Registrant's Current Report
on Form 8-K dated January 17, 1996.
[7] Incorporated by reference to Exhibit 10.22 to Registrant's Current Report
on Form 8-K dated May 23, 1996.
[8] Incorporated by reference to Registrant's Registration Statement on Form
SB-2, File No. 333-1966.
[9] Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the year ended December 31, 1995.
(b) There were no reports on Form 8-K filed during the quarter ended December
31, 1997.
34
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Date: Manhattan Bagel Company, Inc.
(Registrant)
By: /s/ Jack Grumet
---------------------------
Jack Grumet
Chairman of the Board
and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capabilities and
the dates indicated.
Signature and Title Date
- ------------------- ----
S/N Jack Grumet May 19, 1998
- ----------------------------------
Jack Grumet
Chairman of the Board
and Chief Executive Officer
S/N Jason Gennusa May 19, 1998
- ----------------------------------
Jason Gennusa
President and Chief Operating
Officer and Director
S/N Andrew Gennusa May 19, 1998
- ----------------------------------
Andrew Gennusa
Vice President and Director
S/N James J. O'Connor May 19, 1998
- ----------------------------------
James J. O'Connor
Chief Financial Officer
S/N Walter R. Cruickshank May 19, 1998
- ----------------------------------
Walter R. Cruickshank
Chief Accounting Officer
S/N Jack Levy May 19, 1998
- ----------------------------------
Jack Levy
Director
- ----------------------------------
David Goldsmith
Vice Chairman and Director
- ----------------------------------
Julia S. Heckman
Director
35
Exhibit 23.1
Consent of Independent Auditors
-------------------------------
We consent to the incorporation by reference in the Registration Statement (Form
S-3 No. 33-97054) of Manhattan Bagel Company, Inc. and in the related
Prospectus, in the Registration Statement (Form S-3 No. 333-15587) of Manhattan
Bagel Company, Inc. and in the related Prospectus, in the Registration Statement
(Form S-8 No. 33-93764) pertaining to the 1994 Stock Option Plan of Manhattan
Bagel Company, Inc., in the Registration Statement (Form S-8 No. 333-15393)
pertaining to Amendment No. 1 to the Stock Option Agreement made as of April 1,
1996 between Manhattan Bagel Company, Inc. and CRC, Inc., as amended and in the
Registration Statement (Form S-8 No. 333-15577) pertaining to the 1996 Stock
Option Plan of Manhattan Bagel Company, Inc. of our report dated April 24, 1998,
with respect to the consolidated financial statements of Manhattan Bagel
Company, Inc. and subsidiaries included in this Annual Report (Form 10-K) for
the year ended December 31, 1997.
/s/ Ernst & Young, LLP
----------------------------------
Princeton, New Jersey
April __, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FORM 10-K
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 2,802,396
<SECURITIES> 0
<RECEIVABLES> 8,624,437
<ALLOWANCES> (5,299,595)
<INVENTORY> 995,007
<CURRENT-ASSETS> 7,884,908
<PP&E> 16,664,534
<DEPRECIATION> (3,772,464)
<TOTAL-ASSETS> 30,090,588
<CURRENT-LIABILITIES> 5,671,655
<BONDS> 0
0
0
<COMMON> 41,104,828
<OTHER-SE> (30,813,390)
<TOTAL-LIABILITY-AND-EQUITY> 30,090,588
<SALES> 33,256,754
<TOTAL-REVENUES> 39,571,587
<CGS> 24,497,346
<TOTAL-COSTS> 20,208,239
<OTHER-EXPENSES> (555,878)
<LOSS-PROVISION> 6,615,111
<INTEREST-EXPENSE> (253,731)
<INCOME-PRETAX> (24,328,389)
<INCOME-TAX> 0
<INCOME-CONTINUING> (25,770,108)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (25,770,108)
<EPS-PRIMARY> (3.43)
<EPS-DILUTED> (3.43)
</TABLE>
