<PAGE> 1
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended June 28, 1998.
[ ] Transition report under Section 13 or 15(d) of the Exchange Act for the
transition period from to
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Commission file number 0-25926
Woodroast Systems, Inc.
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(Exact Name of Small Business Issuer as Specified in Its Charter)
Minnesota 41-1563961
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
10250 Valley View Road, Suite 145, Eden Prairie, Minnesota 55344
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(Address of Principal Executive Offices)
612.944.5113
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(Issuer's Telephone Number)
Check whether the issuer: (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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
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The number of shares Common Stock, $0.005 par value per share outstanding as
of August 7, 1998: 4,255,804.
<PAGE> 2
WOODROAST SYSTEMS, INC.
Form 10-QSB Index
June 28, 1998
Part I: Financial Information
Item 1. Financial Statements
Consolidated Condensed Balance Sheets -
June 28, 1998 and December 28, 1997 . . . . . . . . . 3
Consolidated Condensed Statements of Operations -
for the thirteen and twenty-six week periods ended
June 28, 1998 and June 29, 1997 . . . . . . . . . . . 4
Consolidated Condensed Statements of Cash Flows -
for the twenty-six week periods ended June 28, 1998
and June 29, 1997 . . . . . . . . . . . . . . . . . . 5
Notes to Consolidated Condensed Financial
Statements. . . . . . . . . . . . . . . . . . . . . . 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . . . 10
Part II: Other Information
Item 1: Legal Proceedings . . . . . . . . . . . . . . . . . . . 19
Item 2: Changes in Securities and Use of Proceeds . . . . . . . 19
Item 6: Exhibits and Reports on Form 8-K. . . . . . . . . . . . 19
Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
2
<PAGE> 3
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
June 28, December 28,
1998 1997
(Unaudited)
ASSETS
<S> <C> <C>
Current Assets:
Cash and cash equivalent $ 38,530 $ 67,240
Inventories 271,879 244,920
Prepaid expenses and other 108,005 112,167
----------- -----------
Total current assets 418,414 424,327
Property and equipment, net 4,609,899 6,044,911
Deposits 81,563 80,609
Patent and trademarks 68,550 40,677
----------- -----------
$ 5,178,426 $ 6,590,524
=========== ===========
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable - stockholder $ 775,000 $ 250,000
Current portion of senior secured promissory notes 57,622 27,916
Current portion of long-term debt 13,095 12,126
Current portion of capital leases 48,881 64,215
Accounts payable 912,418 892,922
Accounts payable - construction 0 632,013
Accrued expenses 256,482 230,902
----------- -----------
Total liabilities 2,063,498 2,110,094
Senior secured promissory notes, net of current 942,378 972,084
Less: unamortized discount senior secured promissory (228,414) (252,114)
Long-term debt, net of current 5,080 11,879
Capital lease obligations, net of current 15,459 35,358
Preferred stock dividends 33,479 0
----------- -----------
Total liabilities 2,831,480 2,877,301
----------- -----------
Commitments and contingencies
Stockholders' equity:
Capital stock, 33,000,000 shares authorized:
Common stock, $.005 par value, 4,242,397 shares
issued and outstanding 21,212 21,212
Class A 8% preferred stock, $10.00 stated and par
value, 117,500 shares issued and outstanding 1,175,000 0
Additional paid-in-capital 11,167,761 10,033,229
Unearned compensation (2,431) (4,861)
Accumulated deficit (10,014,596) (6,336,357)
----------- ------------
Total stockholders' equity 2,346,946 3,713,223
---------- ------------
$ 5,178,426 $ 6,590,524
=========== ===========
</TABLE>
See accompanying notes to consolidated condensed financial statements
3
<PAGE> 4
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Thirteen Weeks Ended Twenty-Six Weeks Ended
-------------------------- ---------------------------
June 28, June 29, June 28, June 29,
1998 1997 1998 1997
------------ ---------- ----------- ----------
<S> <C> <C> <C> <C>
Net sales $ 1,655,774 $ 1,489,951 $ 3,515,916 $ 3,082,231
Costs and expenses:
Food, beverage, supply & retail costs 544,712 483,488 1,148,486 985,893
Unit operating expenses 1,063,073 945,148 2,187,417 1,878,436
Depreciation and amortization 149,432 124,322 298,864 238,219
Pre-opening expenses 17,521 0 103,873 0
Loss on impairment of restaurant assets 1,200,000 0 1,200,000 0
General, administrative & development 314,269 479,542 741,166 1,000,828
----------- ----------- ----------- -----------
Total costs and expenses 3,289,007 2,032,500 5,679,806 4,103,376
----------- ----------- ----------- -----------
Loss from operations (1,633,233) (542,549) (2,163,890) (1,021,145)
----------- ----------- ----------- -----------
Other income (expense):
Interest income 378 26,201 610 60,446
Interest expense (408,571) (57,016) (469,352) (112,350)
Other income 0 184 0 14,592
----------- ----------- ----------- -----------
Total other income (expense) (408,193) (30,631) (468,742) (37,312)
----------- ----------- ----------- -----------
Loss before income tax expense (2,041,426) (573,180) (2,632,632) (1,058,457)
Income tax expense 0 0 0 0
----------- ----------- ----------- -----------
Net loss (2,041,426) (573,180) (2,632,632) (1,058,457)
Preferred stock dividends and accretion 23,435 0 1,045,607 0
----------- ----------- ----------- -----------
Loss attributable to common shareholders $(2,064,861) $ (573,180) $(3,678,239) $(1,058,457)
=========== =========== =========== ===========
Basic and diluted net loss per common
share $ (0.48) $ (0.14) $ (.62) $ (0.25)
=========== =========== =========== ===========
Basic and diluted net loss attributable to
common shareholders per common share $ (0.49) $ (0.14) $ (.87) $ (0.25)
=========== =========== =========== ===========
Shares used in computing basic and diluted
net loss per common share 4,242,397 4,242,397 4,242,397 4,242,397
=========== =========== =========== ===========
</TABLE>
See accompanying notes to consolidated condensed financial statements
4
<PAGE> 5
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Twenty-Six Weeks Ended
-----------------------------
June 28, June 29,
1998 1997
<S> <C> <C>
Cash flows from operating activities:
Net loss $(2,632,632) $(1,058,457)
Adjustments to reconcile net loss to
cash flows from operating activities -
Depreciation and amortization 373,791 238,219
Amortization of original issue discount 345,356 0
Loss on impairment of restaurant related assets 1,200,000 0
Amortization of senior secured promissory notes 23,700 23,700
Amortization of unearned compensation 2,430 1,621
Changes in operating assets and liabilities (609,734) (81,326)
----------- -----------
Cash flows from operating activities (1,297,089) (876,243)
----------- -----------
Cash flows from investing activities:
Proceeds from sale of available-for-sale securities 0 2,015,000
Purchases of property and equipment (137,245) (1,385,073)
Construction in progress 0 (23,168)
Purchases of patents and trademarks (29,407) (14,854)
Deposits advanced (954) 121,992
----------- -----------
Cash flows from investing activities (167,606) 713,897
----------- -----------
Cash flows from financing activities:
Proceeds from stockholder notes 925,000 0
Proceeds from preferred stock sale, net 952,048 0
Payments on stockholder notes (400,000) 0
Payments on notes payable (5,830) 0
Payments on capital leases (35,233) (42,077)
----------- -----------
Cash flows from financing activities 1,435,985 (42,077)
----------- -----------
Decrease in cash and cash equivalents (28,710) (204,423)
Cash and cash equivalents, beginning 67,240 1,673,663
Cash and cash equivalents, ending $ 38,530 $ 1,469,240
=========== ===========
</TABLE>
See accompanying notes to consolidated condensed financial statements
5
<PAGE> 6
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
JUNE 28, 1998
(UNAUDITED)
(1) Basis of Financial Statement Presentation
The accompanying unaudited consolidated condensed financial statements have been
prepared by the Company pursuant to the rules and regulations of the Securities
and Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. Although management believes that the disclosures are adequate to
make the information presented not misleading, it is suggested that these
interim consolidated condensed financial statements be read in conjunction with
the Company's most recent audited consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-KSB for the fiscal
year ended December 28, 1997. In the opinion of management, all adjustments
(which include only normal recurring adjustments) necessary for a fair
presentation of the financial position, results of operations and cash flows for
the interim periods presented have been made. Operating results for the periods
ended June 28, 1998 are not necessarily indicative of the results that may be
expected for the fiscal year ending December 27, 1998.
(2) Net Loss Per Common Share
Basic and diluted loss per common share are determined by dividing net loss by
the weighted average number of common shares outstanding during each period.
Basic and diluted loss per share are the same.
(3) Construction in Progress
The Company maintains separate Construction in Progress and Construction in
Progress Payable accounts to reconcile all contractual agreements relating to
new site development.
(4) Long-term Debt
In November 1995, the Company completed a private placement of $1,000,000 in
principal amount of Secured Promissory Notes (the Notes) (including $700,000 to
Company stockholders) and received net proceeds of $943,252. The Notes are
secured by substantially all Company assets and bear interest at 15%, payable
quarterly. In addition, the holders of the Notes received warrants to purchase
an aggregate of 200,016 shares of the Company's common stock at $.0033 per
share, of which 170,008 were exercised in 1996. The remaining warrants are
exercisable through May 31, 2000. On the date of issuance, the Warrants had a
total value of $299,333 based on the then market price of the Company's common
stock. The discount created by the issuance costs and warrants is being
amortized over the life of the Notes using the interest method. The approximate
effective annual interest rate of the Notes is 20%. The Notes require repayment
of principal over an eight-year period beginning August 1998. Current maturities
of the Notes are $27,916 in fiscal year 1998, $74,518 in fiscal year 1999,
$86,497 in fiscal year 2000, $100,401 in fiscal year 2001, $116,541 in fiscal
year 2002 and $594,127 thereafter.
6
<PAGE> 7
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (cont.)
JUNE 28, 1998
(UNAUDITED)
(5) Line of Credit
On April 29, 1998, the Company entered into a $2,000,000 discretionary line of
credit with a stockholder. The line of credit is unsecured, due on demand and
bears interest at 10%. The line of credit requires the Company to issue up to an
aggregate of 600,000 common stock warrants based on issuing 2,000 warrants per
each $10,000 advanced under the agreement plus 200,000 warrants were issued upon
the execution of the agreement. The warrants issued are exercisable until April
30, 1999 at an exercise price of $.01 per share. Warrants issued based on
advances outstanding of $775,000 at June 28, 1998 were 355,000. The relative
fair value of the warrants at the time of each advance aggregated $345,356 and
was recognized as interest expense immediately as the line of credit is due on
demand and as additional paid-in capital.
(6) Income Taxes
The Company has adopted Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes", under which deferred income tax assets and
liabilities are recognized for the differences between financial and income tax
reporting basis of assets and liabilities based on currently enacted rates and
laws. The Company has incurred cumulative net operating losses for both
financial reporting and income tax purposes. As of June 28, 1998, the Company
had net operating loss carryforwards of approximately $7,950,000, which, if not
used, will begin to expire in 2010. Future changes in the ownership of the
Company may place limitations on the use of these net operating loss
carryforwards. The Company has recorded a full valuation allowance against the
net deferred tax asset due to the uncertainty of realizing the related benefits.
(7) Stock Options
Stock option plan - The Company has a Stock Option Plan (the "Plan"), pursuant
to which options and other awards to acquire an aggregate of 750,000 shares of
the Company's common stock may be granted. Stock options, stock appreciation
rights, restricted stock, other stock and cash awards may be granted under the
Plan. The Plan is administered by a stock option committee which has the
discretion to determine the number and purchase price of the shares subject to
stock options, which may be below the fair market value of the common stock on
the date thereof, the term of each option, and time or times during its term
when the option becomes exercisable. At June 28, 1998, 670,000 options had been
granted at exercise prices of $0.75 to $5.50 per share, none of which had been
exercised.
(8) Class A 8% Preferred Stock
In February 1998, the Company completed a private placement of 117,500 shares of
Class A 8% convertible preferred stock with a par and stated value of $10.00 per
share (the preferred stock) and received net proceeds of approximately $953,000.
The Preferred Stock is convertible into shares of the Company's $.005 par value
common stock based on dividing the aggregate
7
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WOODROAST SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (cont.)
JUNE 28, 1998
(UNAUDITED)
stated value of the Preferred Stock and the accrued dividends by the lesser of
$1.125 or 80% (the conversion rate) of the average closing bid price for common
stock five days prior to the conversion. In addition, the conversion rate is
subject to reduction to 70% upon the passage of specific time periods and the
nonoccurrence of certain events as defined in the Certificate of Designation for
the Preferred Stock. The Preferred Stock is convertible from February 1998 to
February 2001.
In connection with this transaction, the Company recorded a non-cash deemed
dividend of $1.0 million. The non-cash deemed dividend represents the
approximate discount to market calculated at the date the preferred stock was
issued. The deemed dividend was recorded as a discount to preferred stock with a
corresponding credit to additional paid-in-capital. The discount is recognized
during the periods in which the preferred shares are convertible in common
stock. The accretion of the preferred stock was reflected in the statement of
operations as an adjustment to net loss during the first quarter ended March 29,
1998 as the preferred stock was immediately convertible into common stock of the
Company. The accretion of the discount had no effect on total stockholders'
equity.
The Company may redeem the preferred stock in whole upon 20 days notice at a
price of 120% of the total stated value of the preferred stock plus any accrued
dividends. Additionally, the Company issued a warrant to the agent to purchase
175,000 shares of the Company's common stock at $1.125 per share in connection
with the offering. The warrant is exercisable for four years.
(9) Commitments and Contingencies
Litigation - The Company is involved in legal actions in the ordinary course of
its business. While no reasonable estimates of potential liability can be
determined, management believes such legal actions will be resolved without a
material effect on the Company's financial position or results of operations.
(10) Recent Accounting Pronouncements
In 1998, the Accounting Standards Executive Committee of the American Institute
of Certified Public Accountants (AICPA) issued Statement of Position 98-5 ("SOP
98-5") entitled "Reporting on the Costs of Start-Up Activities." This accounting
standard requires entities to expense as incurred all start-up and pre-opening
costs that are not otherwise capitalizable as long-lived assets. This new
accounting standard is effective for fiscal years beginning after December 15,
1998 with early adoption encouraged. The Company elected to adopt SOP 98-5 in
fiscal 1998. Since the Company's previous policy was consistent with SOP 98-5,
the early adoption had no effect on the consolidated financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
130"). SFAS 130 establishes standards for the reporting of comprehensive income
and its components in a full set of general-purpose
8
<PAGE> 9
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (cont.)
JUNE 28, 1998
(UNAUDITED)
financial statements. The Company adopted SFAS 130 in fiscal 1998. Such adoption
had no material effect on the consolidated financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures About Segments of An
Enterprise and Related Information" ("SFAS 131"). SFAS 131 revises information
regarding the reporting of operating segments. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. The Company will adopt SFAS 131 for annual 1998 financial reporting
and has not yet evaluated the impact of such adoption on the notes to its annual
consolidated financial statements.
9
<PAGE> 10
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Woodroast Systems, Inc. (the "Company") is a hospitality development
company which was incorporated in 1987 as a Minnesota corporation. The Company
owns and operates two free-standing full service restaurants (one with an
attached tavern) and two taverns built on the theme of the turn-of-the-century
London divans.
The Shelly's Woodroast restaurants are located in St. Louis Park,
Minnesota, a suburb of Minneapolis (the "St. Louis Park Restaurant"), and
Rockville, Maryland, a suburb of Washington D.C. (the "Rockville Restaurant")
(together with the St. Louis Park Restaurant, the "Restaurants"). The Company
has operated the St. Louis Park Restaurant since 1989 and the Rockville
Restaurant since November 1995. The Company announced earlier that its
Restaurants were for sale. As of July 31, 1998, the Company has entered into an
agreement for the sale of its Rockville Restaurant only. Further discussion of
Rockville to follow below.
The Company's initial focus was on building the large superstore
restaurants. This has been replaced with a concept to develop units named
"Shelly's Back Room, The American Tavern", which is designed to capitalize on
the popular cigar smoking trend in an upscale tavern atmosphere featuring
exceptional food and drink. The original Shelly's Back Room prototype tavern is
attached to the Rockville Restaurant, and as such, is considered part of the
Restaurants. In June of 1997, the first single concept of Shelly's Back Room
(the "Back Room")(together with the Restaurants, the "Units"), opened in
Washington, D.C. (the "D.C. Back Room"). On January 22, 1998, the second
stand-alone Back Room was opened in the Gold Coast Area of Chicago, Illinois
(the "Chicago Back Room"), adjacent to the Magnificent Mile and Oak Street
shopping areas. This concept brings a touch of the traditional divan to America.
Divans were turn-of-the-century gathering places in London, synonymous with
comfort and service, an exclusive place where the elite could meet, enjoy good
food and sip a little cognac. The Company hopes to redefine the American tavern
as a place much like the historic divan, yet accessible to all.
The Company believes this concept is not a departure from the main core
of the its business, which is to provide customers with a quality food and
beverage experience in a relaxed atmosphere. Instead, this shift of focus allows
the Company to pursue other avenues to generate revenue, primarily because of
the simpler structure to operate a Back Room and lower capital investment, which
would allow franchising of the Back Room concept. The successful operation of
the Restaurants and future expansion of the Back Room by the Company will depend
on various factors, including market acceptance of the Shelly's Woodroast and
the Shelly's Back Room concepts, obtaining additional capital resources and
general economic conditions. The Company also faces all of the risks, expenses
and difficulties frequently encountered in connection with the operation,
development and franchising of a new and expanding business. Furthermore, to the
extent that the Company's expansion strategy is successful, the Company must
manage the transition to multiple site operations (both Company-owned and
franchise operations),
10
<PAGE> 11
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
higher volume operations, the control of overhead expenses and the addition of
necessary personnel. The Company had losses (before preferred stock dividends
and accretion) of $2,041,426 and $2,632,632 for the thirteen and twenty-six week
periods ended June 28, 1998 and expects losses to continue for the near future.
The Company uses a 52/53 week fiscal year ending on the last Sunday of
December. Fiscal year 1998 will be a 52 week year.
RESULTS OF OPERATIONS FOR THE THIRTEEN WEEKS AND TWENTY-SIX WEEKS ENDED
JUNE 28, 1998 AND JUNE 29, 1997
NET SALES
The St. Louis Park Restaurant had net sales for the thirteen weeks
ended June 28, 1998 and June 29, 1997 of $531,643 and $609,429, respectively, or
a 12.8% decrease of $77,786. Net sales from the St. Louis Park operation for the
twenty-six weeks ended June 28, 1998 and June 29, 1997 were $1,160,265 and
$1,274,729, respectively, or a 9.0% decrease of $114,464. The St. Louis Park
Restaurant continues to have guest counts at or near seating capacity on a daily
basis. Over the years, the St. Louis Park Restaurant has become a favorite
dining experience for many Twin City patrons. The product mix sold is very
repetitive, with all menu items being good sellers. Since the opening of the St.
Louis Park Restaurant, no menu changes have occurred, and as such, the Company
believes this fact has affected sales levels. Therefore, the Company will be
implementing some new menu items. Also, due to seating limitations, sales for
this unit are not anticipated to increase, if at all, over last years levels.
The Rockville Restaurant had net sales for the thirteen weeks ended
June 28, 1998 and June 29, 1997 of $645,800 and $839,384, respectively, or a
23.1% decrease of $193,584. Net sales from the Rockville operation for the
twenty-six weeks ended June 28, 1998 and June 29, 1997 were $1,437,929 and
$1,766,364, respectively, or a 18.6% decrease of $328,435. The Company believes
that the menu items that are so well cherished in the Midwest may be too heavy
for the tastes of the seacoast patrons. The restaurant offerings along Rockville
Pike are vast and together with our menu selection, sales continue to be less
than anticipated. With the expected sale of the Rockville Restaurant, the
Company will direct all of its efforts toward completing this transaction.
However, no assurance can be given that these efforts will achieve desired
results by year end, if at all.
The first stand-alone Back Room which opened on June 10, 1997 in
Washington D.C. had net sales for the thirteen weeks ended June 28, 1998 and the
two and one-half weeks ended June 29, 1997 of $245,351 and $41,138,
respectively. Net sales for the twenty-six weeks ended June 28, 1998 were
$520,194. This unit is performing near expected sales levels. However, no
assurance can be given that this unit will continue to perform at these or
greater levels. The Company has relied mostly on free local media write-ups and
broadcasts, plus the word-of-mouth of customers who've visited this Back
11
<PAGE> 12
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
Room to advertise and promote the location. The Company will implement a plan
(developed at the Chicago Back Room) to market the D.C. Back Room to its local
business community, utilizing low cost printing and distribution methods to
create greater awareness of this unit. However, no assurance can be given that
these efforts will achieve desired results by year end, if at all. The Company
believes that before more meaningful information can be addressed, at least
fifteen months of history will be necessary, due to the newness of this concept,
that the locations are out of its home market, and that enthusiastic sales
generated during the grand opening weeks will skew comparisons.
The second stand-alone Back Room opened on January 22, 1998 in Chicago,
Illinois and had net sales for the thirteen weeks and the twenty-two weeks ended
June 28, 1998 of $232,980 and $397,528, respectively. The month of January
represented only a four day sales period. Also, this unit did not receive its
liquor license until January 30, 1998, one week after opening. The Company
anticipates a `ramp-up' effect of sales at all new locations. The Chicago Back
Room had not achieved its anticipated sales levels by the end of the twenty-two
week period. Again, only free local media write-ups and broadcasts, plus the
word-of-mouth of customers who've visited this Back Room have been utilized to
advertise and promote this unit. The Company has developed and implemented a
marketing program to promote this Back Room to its local business community,
utilizing low cost printing and distribution methods to create greater awareness
of the unit. There was an immediate increase in traffic realized by these
efforts, and though sales should continue to increase, the same increases in
profits should not be expected due to the giveaways associated with this
marketing program. In conjunction with the review of the St. Louis Park
Restaurant menu, the Back Room menu will also be modified. However, no assurance
can be given that these efforts will achieve desired results by year end, if at
all.
COSTS AND EXPENSES
The food, beverage, supply, retail costs and other unit operating
expenses related to the operation of the St. Louis Park Restaurant for the
thirteen weeks ended June 28, 1998 and June 29, 1997 were $492,225 and $537,374,
respectively, or a 8.4% decrease of $45,149. The food, beverage, supply, retail
costs and other unit operating expenses related to the operation of the St.
Louis Park Restaurant for the twenty-six weeks ended June 28, 1998 and June 29,
1997 were $1,035,889 and $1,103,178, respectively, or a 6.1% decrease of
$67,289. The Restaurants utilize "Original Woodroast Cooking(R)", a signature
style cuisine featuring slow-roasted meat, fish, and fowl prepared in patented,
computer-controlled wood-burning ovens. Therefore, the costs and expenses
necessary to produce these high quality fresh foods tends to be more fixed than
variable. Regardless of the actual sales occurring, certain preparations occur
daily. As the Company will be addressing modifications to the menu, certain menu
items will be re-priced. However, no assurance can be given that these efforts
will achieve desired results by year end, if at all.
12
<PAGE> 13
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
The food, beverage, supply, retail costs and other unit operating
expenses related to the operation of the Rockville Restaurant for the thirteen
weeks ended June 28, 1998 and June 29, 1997 were $635,383 and $830,075,
respectively, or a 23.5% decrease of $194,692. The food, beverage, supply,
retail costs and other unit operating expenses related to the operation of the
Rockville Restaurant for the twenty-six weeks ended June 28, 1998 and June 29,
1997 were $1,376,462 and $1,699,964, respectively, or a 19.0% decrease of
$323,502. With the expected sale of the Rockville Restaurant, the Company will
direct all of its efforts toward completing this transaction. However, no
assurance can be given that these efforts will achieve desired results by year
end, if at all.
The food, beverage, supply, retail costs and other unit operating
expenses related to the operation of the D.C. Back Room for the thirteen weeks
ended June 28, 1998 and the two and one-half weeks ended June 29, 1997 of
$235,322 and $61,187, respectively. The food, beverage, supply, retail costs and
other unit operating expenses related to the operation of the D.C. Back Room for
the twenty-six weeks ended June 28, 1998 were $469,952. This is slightly above
anticipated levels. Although the Company has not yet isolated the trends for
this location, retail cost-of-goods has not been within anticipated percentages.
In addition to cigars, the other retail items include a selection of premium
logo merchandise of ashtrays, lighters, selected clothing items, pocket knives,
cutters and glassware.
The food, beverage, supply, retail costs and other unit operating
expenses related to the operation of the Chicago Back Room for the thirteen
weeks ended June 28, 1998 and the twenty-two weeks ended June 28, 1998 were
$244,855 and $453,600, respectively. During the twenty-two week period, labor
expense and customer goodwill were the largest components in generating this
loss. During the initial quarters after opening, labor expenses usually run
higher than normal as does giveaways and promotions.
The following Unit operating incomes and losses are exhibited as earnings before
interest, taxes, depreciation and amortization (EBITDA):
The St. Louis Park Restaurant generated net revenues of $531,643 and
operating income of $39,419 or 7.4% of net revenues for the thirteen weeks ended
June 28, 1998, as compared to the thirteen weeks ended June 29, 1997 of net
revenues of $609,429 and operating income of $72,055 or 11.8% of net revenues.
For the twenty-six weeks ended June 28, 1998, the St. Louis Park Restaurant
generated net revenues of $1,160,265 and operating income of $124,376 or 10.7%
of net revenues as compared to the twenty-six weeks ended June 29, 1997 of net
revenues of $1,274,729 and operating income of $171,550 or 13.5% of net
revenues. The decrease in operating income at the St. Louis Park restaurant is
primarily due to a very stable management staff and wages have increased at
this location. Also, the cost-of-goods, especially in the meats, fish and fowl,
have increased and no menu price increases have been implemented.
The Rockville Restaurant generated net revenues of $645,800 and
operating income of $10,417 or 1.6% of net revenues for the thirteen weeks ended
June 28, 1998, as compared to the thirteen weeks ended June 29, 1997
13
<PAGE> 14
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
of net revenues of $839,384 and operating income of $9,309 or 1.1% of net
revenues. For the twenty-six weeks ended June 28, 1998, the Rockville Restaurant
generated net revenues of $1,437,929 and operating income of $61,468 or 4.3% of
net revenues as compared to the twenty-six weeks ended June 29, 1997 of net
revenues of $1,766,364 and operating income of $66,401 or 3.8% of net revenues.
The DC Back Room generated net revenues of $245,351 and operating
income of $10,029 or 4.1% of net revenues for the thirteen weeks ended June 28,
1998, and generated net revenues of $520,194 and operating income of $50,242 or
9.7% of net revenues for the twenty-six weeks ended June 28, 1998.
The Chicago Back Room generated net revenues of $232,980 and had
operating losses of $11,876 or 5.1% for the thirteen weeks ended June 28, 1998
and had generated net revenues of $397,528 and operating losses of $56,072 or
14.1% of net revenues for the twenty-two weeks ended June 28, 1998.
Pre-opening and start-up costs were $103,873 for the twenty-six weeks
ended June 28, 1998. These were for the opening of the Chicago Back Room and
expenses associated with possible site locations in Boston, Massachusetts. It is
the Company's policy to expense all pre-opening and start-up costs associated
with new unit development that are not otherwise capitalized as property and
equipment when incurred. See "Recent Accounting Pronouncements."
The Company's executive and administrative office located in Eden
Prairie, Minnesota had general, administrative and development expenses for the
thirteen weeks ended June 28, 1998 and June 29, 1997 were $314,269 and $479,542,
respectively, or a 34.5% decrease of $165,273. This decrease reflects the
results of the Company's efforts to reduce its general, administrative and
development expense line items for the 1998 fiscal year. The general,
administrative and development expenses for the twenty-six weeks ended June 28,
1998 and June 29, 1997 were $741,166 and $1,000,828, respectively, or a 25.9%
decrease of $259,662. Interest expense was $408,571 for the thirteen weeks ended
June 28, 1998, compared to $57,016 for the thirteen weeks ended June 29, 1997.
There was an original issue discount ("IOD") recorded as an interest expense of
$345,356 during the second quarter of 1998, which relates to the Company's line
of credit note (discussed below). Without the OID, interest expense increased
$6,199 for the thirteen weeks ended June 28, 1998 over the prior year's
comparable period.
With the change in focus of the Company towards the Back Room concept,
the Company has to address the numerous executive and administrative staffing
requirements, the requirements needed to manage remote sites, shareowner
relationships, etc. and the development costs associated with the site location
and franchising. Until more Back Rooms are in operation, the general,
administrative and development expenses will continue to provide the greatest
impact on the net operating profit or loss of the Company for the foreseeable
future. The Company will continue to gather information about potential future
senior management personnel as well as support staff,
14
<PAGE> 15
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
which, if and when hired, will have an associated impact on future earnings. The
Company expects to continue to incur operating losses during 1998 and into 1999.
In July, 1998, the Company announced the resignation of Ralph J.
Guarino, as its President, Chief Operating Officer and a Company Director. The
resignation became effective on August 2, 1998. Mr. Guarino served as the
Company's President and COO since November of 1996. Mr. Guarino had a five (5)
year initial employment agreement with the Company, that also became void
effective August 2, 1998. The Company's Founder, Chairman and Chief Executive
Officer, Sheldon F. Jacobs will assume the responsibilities for Company
operations. The Company will not replace this position until capital funding has
been secured.
LIQUIDITY AND CAPITAL RESOURCES
The Company had a working capital deficit of $1,645,084 at June 28,
1998, compared to a working capital deficit of $1,685,767 at December 28, 1997.
Cash and cash equivalents were $38,530 at June 28, 1998, representing an
decrease of $28,710 from $67,240 at December 28, 1997.
During the past three fiscal years, the Company's capital requirements
have been met principally through the public and private sale of debt and equity
securities. In June 1994, the Company completed an Initial Public Offering of
750,000 units consisting of 750,000 shares of Common Stock, and 750,000
Redeemable Class A Warrants at an offering price of $5.50 per unit and received
net proceeds of approximately $3,360,000 after approximately $765,000 in
offering costs and underwriting discounts. Such net proceeds had been fully
utilized by December 31, 1995, for the development and opening of the Rockville
Restaurant, and for the reduction of debt and trade payables.
In November 1995, the Company completed a private placement of Units
consisting of $1,000,000 in principal amount of 15% Secured Promissory Notes
(the "Notes")(including $700,000 to Company stockholders) and Warrants (the
"Warrants") to purchase an aggregate 200,016 shares of Common Stock. The private
placement of Units resulted in net proceeds of approximately $940,000 which were
used to fund construction expenses and other costs related to the opening of the
Rockville Restaurant. The Notes are secured by a senior interest in
substantially all assets owned by the Company and its subsidiary. Property
leased by the Company and its subsidiary, including real estate and certain
equipment, is not included in the security interest. The Warrants have an
exercise price of $.0033 per share, of which 170,008 were exercised in 1996. The
remaining Warrants are exercisable through May 31, 2000. On the date of
issuance, the Warrants had a total value of $299,333 based on the then market
price of the Company's common stock. The discount created by the issuance costs
and the Warrants is being amortized over the life of the Notes using the
interest method. Holders of Warrants or Warrant shares have certain piggyback
registration rights through May 31, 2002. The Notes bear interest of 15%,
payable monthly. The approximate effective annual interest rate, after
considering the value of the Warrants,
15
<PAGE> 16
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
is approximately 20%. The Notes require repayment of principal over an
eight-year period beginning in August 1998. Current maturities of the Notes are
$29,916 in fiscal year 1998, $74,518 in fiscal year 1999, $86,497 in fiscal year
2000, $100,401 in fiscal year 2001, $116,541 in fiscal year 2002 and $594,127
thereafter.
In March 1996, the Company sold 625,000 shares of its Common Stock in a
private placement for $2.25 per share, and received and used the net proceeds of
approximately $1,315,000. Holders of such shares have certain piggyback
registration rights.
In December 1997, the Company entered into a promissory note with the
majority stockholder for $250,000. The note was unsecured and bore interest at
prime plus 2% annually. The note was repaid in full February 1998.
In January 1998, the Company entered into a promissory note with the
majority stockholder for $150,000. The note was unsecured and bore interest at
prime plus 2% annually. The note was repaid in full February 1998.
In February 1998, the Company completed a private placement of 117,500
shares of Class A 8% convertible preferred stock with a par and stated value of
$10.00 per share (the "Preferred Stock") and received net proceeds of
approximately $953,000. The Preferred Stock is convertible into shares of the
Company's $.005 par value common stock based on dividing the aggregate stated
value of the Preferred Stock and the accrued dividends by the lesser of $1.125
or 80% (the conversion rate) of the average closing bid price for common stock
five days prior to the conversion. In addition, the conversion rate is subject
to reduction to 70% upon the passage of specific time periods and the
nonoccurrence of certain events as defined in the Certificate of Designation for
the Preferred Stock. The Preferred Stock is convertible from February 1998 to
February 2001. The Preferred Stock not converted by February 2001 is
automatically converted into shares of the Company's $.005 par value common
stock. The Company may redeem the Preferred Stock in whole upon 20 days notice
at a price of 120% of the total stated value of the Preferred Stock plus any
accrued dividends. Additionally, the Company issued a warrant to the agent to
purchase 175,000 shares of the Company's common stock at $1.125 per share in
connection with the offering. The warrant is exercisable for four years.
On April 29, 1998, the Company entered into a $2,000,000 discretionary
line of credit with a stockholder. The line of credit is unsecured, due on
demand and bears interest at 10%. The line of credit requires the Company to
issue up to an aggregate of 600,000 common stock warrants based on issuing 2,000
warrants per each $10,000 advanced under the agreement plus 200,000 warrants
were issued upon the execution of the agreement. The warrants issued are
exercisable until April 30, 1999 at an exercise price of $.01 per share.
Warrants issued based on advances outstanding of $775,000 at June 28, 1998 were
355,000. The relative fair market value of the warrants at the time of each
advance aggregated $345,356 and was recognized as interest expense immediately
as the line of credit is due on demand and as additional paid-in capital.
In July 1998, a loan was made under the line of credit of $100,000.
16
<PAGE> 17
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
In August, 1998, the Company announced that it has entered into an
agreement for the sale of its Rockville Restaurant. The purchaser is a private
company that owns and operates other casual dining restaurants in the Maryland
market. The purchaser has made a $50,000 escrow deposit and it is anticipated
that the deal will close about the 15th of September, 1998. The purchaser has
qualified for lease re-assignment from the landlord. Additionally, the Company
must provide a thirty (30) day period of liquor license use. The Company
believes that it has fulfilled all requirements to complete the sale, however,
there can be no assurance that the transaction will be completed. Under the
terms of the agreement, the Company will receive $1,000,000 in cash for the
assets of the restaurant, which consists of equipment, leasehold improvements,
furniture and fixtures. Based on the sales price, the Company has recognized an
impairment of assets of $1,200,000 against the Rockville Restaurant as of June
28, 1998. The proceeds from the transaction will be used to pay off the November
1995 15% Secured Promissory Notes discussed above.
The Company will require additional financing to implement its
expansion plans. Also, the Company is pursuing additional financing through one
or more additional offerings of equity securities or debt financing in order to
finance operations and develop and open additional Back Rooms. However, there
can be no assurance that additional financing will be available, or if
available, will be on terms acceptable to the Company or its shareholders.
RECENT ACCOUNTING PRONOUNCEMENTS
In 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants (AICPA) issued Statement of Position
98-5 ("SOP 98-5") entitled "Reporting on the Costs of Start-Up Activities." This
accounting standard requires entities to expense as incurred all start-up and
pre-opening costs that are not otherwise capitalizable as long-lived assets.
This new accounting standard is effective for fiscal years beginning after
December 15, 1998 with early adoption encouraged. The Company elected to adopt
SOP 98-5 in fiscal year 1998. Since the Company's previous policy has been
consistent with SOP-98-5, the early adoption had no effect on the consolidated
financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
("SFAS 130"). SFAS 130 establishes standards for the reporting of comprehensive
income and its components in a full set of general-purpose financial statements.
The Company adopted SFAS 130 in fiscal 1998. Such adoption had no material
effect on the consolidated financial statements.
In June 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 131, "Disclosures About Segments
of An Enterprise and Related Information" (SFAS "131"). SFAS 131 revises
information regarding the reporting of operating segments. It also
17
<PAGE> 18
WOODROAST SYSTEMS, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (cont.)
establishes standards for related disclosures about products and services,
geographic areas and major customers. The Company will adopt SFAS 131 for the
annual 1998 financial reporting and has yet evaluated the impact of such
adoption on the notes to its annual consolidated financial statements
FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides a safe
harbor for forward-looking statements. This Form 10-QSB and other materials
filed or to be filed by the Company with the Securities and Exchange Commission,
as well as other written materials or oral statements that the Company may make
or publish from time to time, contain forward-looking statements relating to
such matters as plans for future expansion, other business development
activities, anticipated financial performance, business prospects, and similar
matters. Such forward-looking statements by their nature involve substantial
risks and uncertainties, and actual results may differ materially from the
anticipated results or other expectations expressed in the forward-looking
statements. These risks and uncertainties include, but are not limited to, those
relating to the operation and development of a new and expanding business,
dependence on current management and need for additional management personnel,
and the risks and uncertainties described in "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in this Form 10-QSB.
18
<PAGE> 19
PART II: OTHER INFORMATION
Item 1. Legal Proceedings
The Company is currently involved in legal proceedings arising in the
ordinary course of its business. The Company does not believe any such
legal proceedings will have a material adverse impact on the Company.
Item 2. Changes in Securities and Use of Proceeds
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits required by Item 601 of Regulation S-K: None
(b) Reports on Form 8-K: No reports on Form 8-K were filed
during the quarterly period ended June 28, 1998.
Exhibit 27 - Financial Data Schedule - which is only submitted
electronically to the Securities and Exchange Commission for EDGAR
information purposes.
19
<PAGE> 20
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Woodroast Systems, Inc.
(Registrant)
/s/ Sheldon F. Jacobs
-----------------------------
by Sheldon F. Jacobs
Chairman of the Board,
Chief Executive Officer,
Chief Financial Officer,
(Principal Executive, Financial
and Accounting Officer)
Date: August 10, 1998
20
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<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-27-1998
<PERIOD-START> DEC-29-1997
<PERIOD-END> JUN-28-1998
<CASH> 38,530
<SECURITIES> 0
<RECEIVABLES> 0
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<INVENTORY> 271,879
<CURRENT-ASSETS> 418,414
<PP&E> 8,368,289
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<COMMON> 21,212
<OTHER-SE> 1,150,734
<TOTAL-LIABILITY-AND-EQUITY> 5,178,426
<SALES> 3,515,916
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