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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20559
FORM 10-KSB
(Mark One)
(x) Annual Report Under Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the fiscal year ended December 31, 1998
or
( ) Transition Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
Commission file number 000-22845
CREATIVE HOST SERVICES, INC.
(Exact name of registrant as specified in its charter)
California 33-1069494
(State of Incorporation) (I.R.S. Employer Identification No.)
6335 FERRIS SQUARE, SUITES G-H, SAN DIEGO, CALIFORNIA 92126
(Address of principal executive offices) (Zip Code)
(619) 587-7300
Registrant's telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange On
Title of Each Class Which Registered
COMMON STOCK NASDAQ
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 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-KSB or any amendment to
this Form 10-KSB. / /
Revenues for fiscal year 1998 were $14,720,350
The aggregate market value of voting stock held by non-affiliates of the
registrant was $2,771,885 as of March 25, 1999 (computed by reference to the
last sale price of a share of the registrant's Common Stock on that date as
reported by NASDAQ).
There were 3,211,033 shares outstanding of the registrant's Common Stock as
of March 25, 1999.
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PART I
ITEM 1. BUSINESS
THE CONCESSION BUSINESS
The Company is primarily engaged in the business of acquiring and
operating food, beverage and other concessions at airports throughout the
United States. The Company currently has 35 operating concession facilities
at 18 airports, 34 of which are Company owned and one of which is franchised,
including concessions at Los Angeles International Airport, Denver
International Airport, Portland International Airport, and the airports in
Aspen, Colorado; Orange County and Ontario, California; Madison and Appleton,
Wisconsin; Lexington, Kentucky; Asheville and Greensborough (Piedmont Triad),
North Carolina; Allentown, Pennsylvania; Roanoke, Virginia; Columbia, South
Carolina; Sioux Falls, South Dakota; and Cedar Rapids and Des Moines, Iowa.
In addition, the Company has been awarded contracts for the construction of
three additional concession facilities; one location at John F. Kennedy
International Airport, in New York City; and two locations at Midland, Texas.
The Company expects to commence operations at each of these facilities in
1999. The airport contracts include concessions that range from a concession
to operate single and multiple food and beverage outlets to a master
concession to operate all food and beverage, as well as news and gift and
merchandise, locations at an airport. The Company's airport concession
business is complemented by inflight catering contracts awarded to it by
major airlines at certain airports. The Company currently utilizes its
existing facilities at airports to provide fresh meals to airlines. The
Company is currently seeking and evaluating additional concession
opportunities at several other airports in the United States.
Concessions to operate food and beverage and other retail operations at
domestic airports are generally granted by an airport authority pursuant to a
request for proposal process. Proposals generally contain schematic drawings
for the concession layout, a commitment to make capital improvements at the
concession location, and sample menus. Rent is paid to the airport
authority on the basis of a percentage of sales, with a minimum amount of
rent guaranteed by the concessionaire. For airport locations with a history
of operations, the Company evaluates information concerning historical
revenues for the location in determining the amount to bid for both
percentage and minimum rent. For locations which are newly constructed, the
Company evaluates projections for the number of passengers expected to use
the airport and amounts to be spent per person at airport concessions in
forming a projection for revenues. As a result of the requirement to make
capital improvements, the Company makes large capital outlays at the
beginning of a concession term, which it seeks to recover during the
remaining term. Concessions are usually awarded for a ten year period.
Generally concessions are resubmitted for proposals at the end of the term
and the Company would have to resubmit a bid to secure an additional ten year
term.
The Company has secured nearly all of its existing airport concessions
through the request for proposal process. The Company believes its success in
securing concessions through this process is attributable to tailoring its bids
to a specific airport's needs, offering a unique selection of quality food and
beverages, and a distinctive decor. In its proprietary menu items the Company
strives to provide foods which are healthy and higher quality than typical fast
food or cafeteria style products, while maintaining value pricing. The
Company's Bakery/Deli style restaurants feature a selection of croissant
sandwiches and a selection of vegetable, fruit and pasta salads. At locations
which are anticipated to have higher revenues, the Company's strategy is to
secure franchise relationships with nationally recognized food and beverage
companies as part of its proposals. The Company has entered into agreements
with several such companies, including Carl's Jr., Little Caesar's Pizza and
TCBY Yogurt. Under these arrangements, the Company owns the concession rights
from the airport authority and the Company's employees operate the location.
The Company then pays franchise fees under a franchise agreement. The Company's
strategy is to continue to develop relationships with a number of national and
regional food and beverage companies, which it expects will provide it the
flexibility to tailor product offerings to meet a particular airport's desires.
While the Company has seriously pursued the submission of proposals only
since 1995, it has been successful in a significant number of the proposals it
has submitted. Management attributes this success in winning airport proposals
principally to its efforts to customize each bid, striving to make creative
proposals that address local preferences and
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distinguish the Company from its competitors in its offering of decor as well
as food products. The following are examples of the Company's approaches to
the concession business:
MASTER CONCESSION: The Company will generally seek to become the master
concessionaire for all airport services, including food and beverage, lounge
and bar, specialty retail, news and gifts, and other services at airports
with at least 400,000 enplanements per year. The Company currently serves as
the master concessionaire at the Cedar Rapids, Iowa airport.
CAFE AND SPIRITS: If the opportunity for a master concession is not
available, then the Company submits bids utilizing specific food and beverage
concepts, or other service concepts depending on the nature of the concession.
One such concept is "cafe and spirits" featuring various branded and nonbranded
food and beverages, such as TCBY Yogurt and Creative Croissants, along with a
bar, lounge and mini library. The Company currently operates Cafe and Spirts
formats at all Creative Croissants locations serving liquor.
CREATIVE CROISSANTS-Registered Trademark- BAKERY DELI: Depending on the
preference of the airport authority and the available concession category, the
Company can submit proposals for the bakery/deli concept either on a stand alone
basis or in a food court. The Company currently operates Creative Croissants,
either stand alone or a part of a food court at every airport it currently
services, with the exception of the airport at Ontario, Canada.
"PANACHE COFFEES": For smaller areas on a more dispersed basis, the
Company has entered into an agreement with Panache Coffees to meet the growing
demand for coffee beverages at airports. The Company has presented this concept
in a kiosk format and as part of other food and beverage facilities. The
Company currently has Panache Coffee outlets at all locations.
"CREATIVE JUICES": Fresh fruit juices and fruit smoothies seem to be
growing in popularity, resulting in the demand for small areas with juice bars
at airports. The Company has successfully implemented its Creative Juice concept
at its airport facilities at Denver International Airport and plans to add
additional facilities at JFK Airport.
"HAUTE DOGMA": The Company has developed a concept for gourmet hot dogs
which can be implemented in a built-out concession, as part of a food court or
as a free-standing cart. The Company operates a built-out concession at the
Denver International Airport under the "Haute Dogma" concept.
ATTAINING FRANCHISE RIGHTS: For larger concessions, where the airport
desires branded food products, the Company will attempt to secure franchise
rights from a nationally or regionally recognized food and beverage company.
The Company has entered into Franchise Agreements with (i) TCBY Yogurt to
operate TCBY franchises at its Lexington, Roanoke, Columbia and Cedar Rapids
concession facilities; (ii) Carl's Jr./Green Burrito to operate franchises at
its two Ontario, California concession facilities which opened in October
1998; (iii) ICBY to operate ICBY franchises at its Greensboro, Des Moines,
Allentown, Asheville and Sioux Falls concession facilities; (iv) Taco Bell to
operate Taco Bell franchises at its Greensboro and Des Moines concession
facilities; and (v) Little Caesars to operate Little Caesars franchises at
all of its concession facilities except Aspen and Los Angeles. It may in the
future purchase and operate franchises from other major food or beverage
franchisors to include in its bid proposals.
ACQUISITION OF OTHER CONCESSIONAIRES: The Company has also sought to
expand its physical presence at airports by acquiring existing concessionaires
with one or more airport locations. Generally, the airport authority
overseeing the operations at the airport will have the right under the existing
concession agreement to approve of the change in control. The strengths the
Company demonstrates in the request for proposal process are used to secure the
consent of an airport authority to a transfer of concession rights in an
acquisition of an existing location. The Company has typically negotiated for
an extension of the concession term in exchange for additional capital
improvements or additional facilities or menu items to be offered at the
concession location as part of securing the airport authority's consent to the
transfer.
The Company's strategy is to expand its concession business to more
airports in the United States, and eventually to other public venues. The
Company also intends to seek to expand the types of concession services which it
provides, and
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to be awarded more multiple and master concession contracts such as the one
it has been awarded for the Cedar Rapids, Iowa airport. While the Company has
historically focused on the food and beverage segment, it intends to seek
concession awards to provide news stands, gift shops, specialty stores and
other services to augment the Company's food and beverage business at
airports and other venues.
Prior to the Company's initial public offering in July 1997, the Company
qualified as a Disadvantaged Business Enterprise ("DBE") based on Mr. Ali's
ownership of all of the Company's common stock. The Company's historical
success in securing concession locations may have been partially attributed to
its DBE status. The impact of the initial public offering on the Company's
status as a DBE and the impact of any such potential loss of DBE status on its
ability to secure new concession locations is unclear. To the extent that the
Company's historic rate of success in securing new airport concessions was
attributable to its status as a DBE, that growth rate may decline if the Company
is not recognized as a DBE or if DBE programs are eliminated or curtailed.
In analyzing a concession opportunity, particularly in the airport
industry, the Company evaluates the following factors, among others: (1) the
estimated rate of return on the investment in the facilities, (2) the historical
performance of the location, (3) the historical and estimated future number of
annual enplanements at the airport, (4) the competition in the vicinity of the
proposed facility, (5) the rent and common area maintenance charges for the
proposed facilities and (6) the length of the proposed concession term. In
customizing the design proposal and theme for a concession opportunity, the
Company analyzes the character of the community and the expected preferences of
the patrons (for example, whether they are primarily tourists or business
persons) to determine the most attractive facility. The scope of the contract
and the size and shape of the site are other elements considered in
the analysis.
As part of any proposal or acquisition, the Company receives information
concerning any historical operations conducted at the specific location.
Generally, an airport authority will provide three years of historical
information for a location with its request for proposal. Similarly, in an
acquisition transaction, the Company will review a target operator's historical
performance as part of its due diligence review. In either scenario, the
Company then evaluates the estimated impact on revenues and gross margins that
will result with any remodeling, capital improvements and menu changes. Where
the concession location is to be newly constructed, such as at the Ontario,
California, airport, the Company reviews estimates of passenger enplanements for
the new terminals and amounts typically spent per passenger at concessions.
Once the Company has been awarded a concession contract at an airport, it
is generally scheduled to assume the management of the existing facilities
within 90 to 120 days of the award, or to commence construction of an entirely
new facility within three to six months of the award. The Company is generally
required to place three types of bonds with an airport authority before it may
take over operations at a concession. In connection with its bid, it is
required to post a bond for the amount of capital improvements it is committed
to make at the airport. During commencement of construction for any specific
construction project, the Company is required to post a construction bond for
the specific facilities to be constructed. This bond terminates upon completion
of each specific project and the bond for all of the capital improvements
expires upon completion of all capital improvements for the airport. In
addition, the Company is required to post a performance bond to cover some
specified percentage of the Company's minimum rent obligations. This bond
remains in place during the term of the concession. To date the Company has not
experienced significant difficulty in securing bonds for its obligations to
various airport authorities. The Company's bonding capacity is limited by its
size, and has therefore limited the projects on which it could bid. If the
Company continues to grow, it anticipates increasing its bonding capacity and
the ability to bid for larger projects at the largest domestic airports.
Typically the Company operates an existing facility for two to three months
before beginning the remodeling of the site according to the specifications in
its airport bid proposal. During the remodeling phase of an existing facility,
which usually takes 45 to 60 days, the facility will either be closed or will
serve at minimal levels. Once the remodeling is completed, the facility opens
for full service business, generally for most hours during which the airport is
actively operating.
Inflight catering has traditionally generated higher gross profit margins
than the Company's airport concession business. Consequently, management intends
to expand its inflight catering services. The Company currently has inflight
catering contracts with several major airlines at specific airports, including
Delta Airlines, U.S. Air, United Airlines and
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Northwest Airlines. The Company also provides inflight catering services for
charter flights. The potential for direct sales of bakery items from the
Company's food preparation center to the major airlines is also being
pursued. The Company intends to continue to bid on direct inflight catering
contracts with airlines as it expands into new airport locations. There can
be no assurance that the Company will be successful in this market.
CONCESSION LOCATIONS
WITH THE EXCEPTION OF HISTORICAL MATTERS, THE MATTERS DISCUSSED HEREIN
ARE FORWARD LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. FORWARD
LOOKING STATEMENTS INCLUDE, BUT ARE NOT LIMITED TO, STATEMENTS CONCERNING
ANTICIPATED TRENDS IN REVENUES. THE COMPANY'S ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THE RESULTS DISCUSSED IN SUCH FORWARD LOOKING STATEMENTS.
The following table identifies the Company's existing airport
concessions and those which have been awarded and are expected to be in
operations in 1999:
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EXISTING AND AWARDED CONCESSION LOCATIONS
<TABLE>
<CAPTION>
Date of
Completion or Expiration Year Ended
Date Commenced Expected Completion Date of December 31
Name/Location of Concession Description of Concession Operations of Remodeling Contract 1998 Revenue
- ---------------------------- ------------------------- -------------- -------------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Midland, Texas Food and Beverage (one January 1999 January 1999 September 2007 N.A.
location)
Ontario, California Food and Beverage (two September 1998 September 1998 July 2008 $334,398
locations)
John F. Kennedy Food and Beverage (one Not Yet Opened July 1999 May 2008(2) N.A.
International location)
Greensborough (Piedmont Food and Beverage (three December 1997 November 1998 May 2008 1,844,179
Triad) North Carolina locations)
Asheville, North Carolina Food and Beverage (one November 1997 November 1998 November 2007 387,190
location); News & Gift (one
location)
Sioux Falls, South Dakota Food and Beverage (two August 1997 March 1999 August 2007 847,305
locations); Inflight
Catering
Des Moines, Iowa Food and Beverage (four July 1997 November 1998 July 2007(3) 1,187,700
locations -- two existing
and two to be newly
constructed)
Allentown, Pennsylvania Food and Beverage (one July 1996 January 1998 July 2006 1,343,053
location); Inflight Catering
Columbia, South Carolina(1) Food and Beverage (two October 1996 October 1997 October 1,042,692
locations); Inflight 2006(4)
Catering
Cedar Rapids, Iowa(1) Master Concession, Food and November 1996 October 1997 March 2004(5) 1,291,303
Beverage (two locations),
News & Gifts (one location),
Specialty Stores (one
location); Inflight Catering
Lexington, Kentucky(1) Food and Beverage (two July 1996 February 1997 July 2006 774,229
locations); Inflight
Catering
Roanoke, Virginia(1) Food and Beverage (two June 1996 January 1997 June 2006 536,297
locations); Inflight
Catering
Appleton, Wisconsin(1) Food and Beverage (one January 1996 January 1996 July 2005 268,165
location)
Madison, Wisconsin(1) Food and Beverage (two January 1996 July 1996 January 2006 863,758
locations)
Portland International Food and Beverage (one October 1995 October 1995 June 2005 663,945
location)
Los Angeles International Food and Beverage (one June 1995 September 1995 June 2005(6) 1,134,634
location)
Aspen, Colorado(1) Food and Beverage (one May 1994 May 1994 September 1999 367,913
location)
</TABLE>
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<TABLE>
<CAPTION>
Date of
Completion or Expiration Year Ended
Date Commenced Expected Completion Date of December 31
Name/Location of Concession Description of Concession Operations of Remodeling Contract 1998 Revenue
- ---------------------------- ------------------------- -------------- -------------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Denver International Food and Beverage (three February 1995 Two completed June 2003 and 1,099,255
locations) February 1995; one November 2006
completed December
1997
Orange County Food and Beverage (one September 1990 Completed -- February N.A.
location) Renewed Franchisee Owned 2001(5)
February 1996
Shreveport, LA Food and Beverage (two May 1999 November 1999 November 2009 N.A.
locations) ----------------
TOTAL 13,986,016
</TABLE>
___________
(1) The Company is currently the sole food and beverage concessionaire at
this airport.
(2) Delta Airlines, the owner of the airport terminal, has reserved the right
under its concession agreement with the Company to recapture the premises
upon 30 days notice and payment for the Company's improvements.
(3) The airport retains the right under the concession to recapture the
premises upon payment for the Company's improvements.
(4) After the initial year of the term, the airport authority has the right to
terminate the concession upon payment to the Company of its "remaining
business interest" in the concession.
(5) Can be terminated by the airport on 90 days notice.
(6) After June 2001 can be terminated by the airport upon 90 days notice.
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FOOD PREPARATION CENTER
The Company operates a 4,635 square foot food preparation center located at
6335 Ferris Square, Suites G-H, San Diego, California which is adjacent to its
corporate headquarters. The center is currently operating at approximately
35% capacity. Using its proprietary recipes, the Company prepares several bakery
items sold at the Creative Host concessions and at franchise restaurants,
including regular croissants, croissants filled with meat, cheeses and
vegetables, pastries, muffins and other bakery foods. The bakery foods are
prepared, frozen in dough form and regularly shipped to concessions and
franchisees where they are baked and served on a daily basis.
In addition to supplying the airport concessions, inflight catering and
franchise restaurant business, the Company also sells finished bakery foods
produced at its food preparation center to restaurants and other food outlets in
the San Diego area. These outside customers include hotels, institutions and
mobile food carriers. The Company may establish and operate additional food
preparation centers in the future to the extent that it expands geographically
and increases the number of concessions. There is no assurance that the
Company's sales to outside customers will maintain their present levels or grow
in the future.
The Company has entered into an agreement with Sysco Food Services
Corporation ("Sysco"), to provide distribution services. Under the arrangement,
Sysco picks up the food items produced at the food preparation center and stores
them in Sysco's facilities. Sysco then distributes those food items as well as
certain other food and related supplies to each of the Company's airport
concession locations. All of the purchasing for the concession locations,
except for certain perishable items such as dairy and produce, is done through
Sysco resulting in uniform cost of goods and centralized costs controls.
FRANCHISE OPERATIONS
From 1986 through 1994, the Company was actively engaged in the business of
franchising restaurants under the "Creative Croissant" name. The Company's
restaurant franchise business was not successful, and, in 1990, the Company
began the transition to company-owned airport concessions that is the major
focus of its current business plan. See "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS." The Company continues to have
franchise relationships with 11 restaurant franchisees, excluding the Orange
County airport concession which is operated by a franchisee.
Creative Croissant franchise restaurants are generally located in regional
malls, specialty centers, high rise office buildings and other areas with heavy
pedestrian traffic. All of the Company's franchise operated restaurants are
located in California, in the following cities: Escondido, San Diego, Laguna
Niguel, Mission Viejo, Orange, Laguna Hills, Martinez, Ventura, Torrance, San
Francisco, and Walnut Creek. Although all franchisees remain current in their
purchase of food products, currently 8 of 9 franchises are in default on their
monthly royalty payment obligations to the Company. This default amounts to
approximately $3,500 per month in lost royalties.
The Company expects the revenues from franchising (approximately 0.5% of
total revenues for the twelve month period ended December 31, 1998) to remain
unchanged or decline over time as the Company concentrates on expanding its
concession business and establishing more Company owned facilities at airports
and other public venues. If the Company is able to establish a greater national
brand name presence, through its airport and other concession business, then it
may devote some resources to the development of the franchising segment of its
business. In the meantime, it may continue to sell franchises in special
situations when a franchise would be more advantageous to the Company than a
Company owned facility, when financing is not otherwise available, or generally
in situations that do not involve concession contracts.
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MARKETING AND SALES
The Company's marketing strategy involves two fundamental components:
(i) securing the concession and (ii) increasing sales once the concession has
been granted. The Company plans to continue to concentrate its marketing and
sales efforts on acquiring high volume concessions at airports and to evaluate
other public venues with high, captive pedestrian traffic such as sports
stadiums, public libraries, zoos and theme parks throughout the United States.
For the near future, the Company intends to focus on the approximately
123 airports in the United States with over 400,000 enplanements per year. In
those smaller regional airports, the Company, whenever possible, will seek to be
the master concessionaire for all concession operations conducted at such
airports.
The Company targets the airport concession business through its presence at
airport authority association meetings and trade shows, its network of existing
relationships in the airport business community, and its submission of bids in
response to requests for proposals ("RFPs") by airports. By continually
monitoring the availability of RFPs at airports throughout the nation, the
Company seeks to be involved in every RFP that is economically feasible for it.
In bidding for concessions, the Company focuses on those airports with locations
indicating that the concession will earn annual gross revenues of from $500,000
to $2,000,000. Once a concession has been targeted, the Company develops a
customized bid tailored to address a theme or culture specific to the concession
location. Management is currently working with airport managers to design
unique and exciting food court areas with a variety of food choices, comfortable
seating and self-serve options without the inconveniences of traditional
restaurants. The Company's proposals for airports include children's play
areas, reading areas, mini-libraries and computer services.
The Company has developed several marketing techniques for the Creative
Host concession locations to encourage sales at concessions and to provide
additional sources of revenues. To compete within an airport, the Creative Host
approach is to combine aroma and showmanship with high quality fresh and
nutritious foods at value prices to attract customers. The Company's food and
beverage facilities have traditionally been designed with a European flair for
fresh, healthy and nutritious gourmet and specialty foods, served quickly and at
value prices. The desired atmosphere has been one of a European sidewalk cafe
with carved wood display cases and the use of brass, wood, marble and glass.
Depending on their size, the facilities feature European style hot meal
croissants filled with meats, cheeses and vegetables, gourmet coffees, fresh
salads, nondairy fresh fruit shakes and other foods and beverages. Low fat, low
cholesterol ingredients are utilized whenever possible, consistent with
maximizing flavor. No artificial flavors or preservatives are used in any of the
baked goods. A large bakery oven and brass eagle domed espresso machine creates
an inviting, aromatic atmosphere. Several of the concession facilities have an
espresso bar, a variety of coffee selections or a juice bar. While maintaining
its philosophy of offering healthy foods, value pricing and quick service, the
Company is diversifying into agreements with renowned food and beverage
suppliers such as Carls Jr., Little Caesar's Pizza, Taco Bell and TCBY Yogurt.
The food and beverage concessions sell gourmet coffee beans as gift packages,
colorful sports bottles and thermal coffee mugs featuring the "Creative
Croissants-Registered Trademark-" logo and key menu items, custom gift baskets
and other promotional merchandise.
COMPETITION
The concession industry is extremely competitive and there are numerous
competitors with greater resources and more experience than the Company. The
dominant competitors in the airport concession market are Host Marriott Services
Corporation and CA One Services, Inc., which have been serving the airport
concession market for decades. Host Marriott and CA One Services have
established a marketing strategy of offering comprehensive concession services
to airport authorities in which they submit a bid on an entire airport or
terminal complex, and often provide a well known franchise such as McDonalds or
Burger King as part of their package. They generally operate large airport
master concessions with annual sales in excess of $2.2 million.
Other formidable competitors in the concession business, especially food
and beverage, are Service America Corporation, Anton Food, Concession
International, Air Host, Inc., ARA Services, Canteen Corporation, Morrison's
Hospitality Group, Gardner Merchant Food Services, Seiler Corporation, Service
Master Food Management Services and others. Other competitors such as Fine Host,
Inc., Paradies and W.H. Smith compete in the market for providing retail
concession services to airports. Dobbs International and Sky Chefs, LSG dominate
the inflight catering business.
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The Company is focusing initially on the smaller airport concessions where
competition from large competitors is less intense. However, there are a
limited number of concession opportunities domestically. If the Company
achieves greater penetration in the regional airports, it will be required to
enter into larger domestic airports, or other venues to sustain its growth.
Entry into larger domestic airports will necessarily involve direct competition
with Host Marriott and CA One Services.
The Company differentiates itself in all markets in the design and product
mix it offers to a particular airport. The Company designs its concession bids
and facilities around unique themes or concepts that it develops for each
location. In this manner, the Company seeks to appeal to airport authorities
that are seeking individual bidders with interesting and creative food concepts,
both to boost the airport's income from percentage rents and to enhance the look
and reputation of the airport and the cities it serves. The Company also offers
a variety of food concepts with an emphasis on fresh foods and high quality,
while maintaining a value-oriented price.
GOVERNMENT REGULATION
The airport concession business is subject to the review and approval of
government or quasi government agencies with respect to awarding concession
contracts. In addition, food and beverage concessions are subject to the same
rigorous health, safety and labor regulations that apply to all restaurants and
food manufacturing facilities. Concession businesses are also subject to labor
and safety regulations at the local, state and federal level. Concessions
granted by airport authorities and other public agencies may also be subject to
the special rules and regulations of that agency, including rules relating to
architecture, design, signage, operating hours, staffing and other matters.
Failure to comply with any of these regulations could result in fines or the
loss of a concession agreement.
The Federal Aviation Administration requires airports receiving federal
funds to award contracts for concession facilities producing at least 10% of
total airport concession revenue to certain designated categories of entities
that qualify as Disadvantaged Business Enterprises ("DBE"). The federal
requirements do not specify the nature or manner in which the DBE must
participate. Historically, companies in the industry have relied on hiring DBE
employees, purchasing provisions from DBE suppliers, contracting for services
from DBEs or subcontracting a portion of the concession to a DBE in order to
meet this requirement. When the Company entered the airport concession
business, its Common Stock was owned entirely by Mr. Sayed Ali, a native of
Pakistan. As a result, the Company qualified as a DBE. The Company's status as
a DBE assisted it in securing concession awards with several airports, and some
of the Company's concession agreements specify that it will retain its DBE
status. As a result of the Company's recent initial public offering, Mr. Ali's
ownership in the Company decreased to approximately 30%. It is unclear what
impact this will have on the Company's status as a DBE. The Company has
succeeded in securing airport concession contracts at 8 additional locations
since its initial public offering, although the Company is not aware of the
extent to which the Company's DBE status, or lack thereof, was a factor in the
airport authorities' decisions to award such contracts to the Company. The
federal rules do not specify a required percentage ownership for DBE status, so
the Company will have to address the issue on an airport by airport basis. If
necessary, the Company will comply with a particular airport's request for
additional DBE participation through the industry practice of hiring or
contracting with other DBEs. The Company believes that it will retain its
existing locations and can continue to secure new concessions on the basis of
the products and services it offers and its industry reputation. To the extent
the Company's historic rate of success in securing airport concessions is
attributable to its clear status as a DBE, its growth rate may decline.
The restaurant industry and food manufacturing businesses are highly
regulated by federal, state and local governmental agencies. Restaurants must
comply with health and sanitation regulations, and are periodically inspected
for compliance. Labor laws apply to the employment of restaurant workers,
including such matters as minimum wage requirements, overtime and working
conditions. The Americans With Disabilities Act applies to the Company's
facilities prohibiting discrimination on the basis of disability with respect to
accommodations and employment. Food preparation facilities must comply with the
regulations of the United States Department of Agriculture, as well as state and
local health standards.
10
<PAGE>
Franchising is regulated by the Federal Trade Commission and by certain
state agencies, including the California Department of Corporations. In
addition, the California Franchising Law contains specific restrictions and
limitations on the relationship between franchisors and franchisees. Franchisors
such as the Company must file an annual Franchise Offering Circular with the
Federal Trade Commission and certain states (many states do not regulate the
offer and sale of franchises) every year. The Company believes that its
franchise agreement is consistent with California law. The Company is currently
registered as a franchisor in California, Arizona and Colorado, and sells in
certain other states such as Nevada which do not require franchise registration.
YEAR 2000 COMPLIANCE
Historically, most computer databases, as well as embedded microprocessors
in computer systems and industrial equipment, were designed with date data
fields which used only two digits of the year. Most computer programs,
computers, and embedded microprocessors controlling equipment were programmed to
assume that all two digit dates were preceded by "19", causing "00" to be
interpreted as the year 1900. This formerly common practice now could result in
a computer system or embedded microprocessor which fails to recognize properly a
year that begins with "20", rather than "19". This in turn could result in
computer system miscalculations or failures, as well as failures of equipment
controlled by date-sensitive microprocessors, and is generally referred to as
the "Year 2000 problem." The Company has performed an assessment of its
information technology systems and expects that all necessary modifications
and/or replacement will be completed prior to December 1999. Additionally, the
Company is currently considering the purchase of a financial accounting software
program, which consideration includes the Year 2000 Compliance status of the
software program. Based on current expenditures and estimates, the costs of
addressing this issue are not expected to have a material adverse effect on the
Company's financial position, results of operations or liquidity. The potential
impact of the Year 2000 issue in regards to significant vendors and suppliers
cannot be reasonably estimated at this time. However, the Company may be
adversely impacted if its suppliers and franchises do not ensure Year 2000
compliance in their own systems in a timely manner.
Additionally, the Company may be affected by the impact of the Year 2000
problem on air travel. In particular, air traffic control systems at airports
throughout the country are being updated and reviewed for compliance with Year
2000 standards. Moreover, modern aircraft are complex and may contain imbedded
logic within their computerized systems. Computerized reservation systems are
interconnected and may experience problems if participant systems are not Year
2000 compliant. While extensive efforts are being undertaken by the Federal
Aviation Administration and the airline companies to bring all computer systems
into Year 2000 compliance, no assurances can be made that those efforts will be
successful. Moreover, it is probable that different airports or airlines will
have varying degrees of success in remedying their systems depending upon the
amount of time and resources devoted to the repair, and the age or complexity of
their computer systems. To the extent that airports and airlines are unable to
adequately review and remedy any Year 2000 problems they may have, air travel
may be significantly impaired. Any significant decline in air travel at the
airports where the Company conducts business will have a material adverse impact
on the Company's business and finances. Moreover, even if the airports and
airlines adequately prepare for the Year 2000, public perception of the risks
associated with air travel at that time may cause a decline in enplanements,
with a corresponding decline in the Company's business.
EMPLOYEES
The Company has over 546 employees, including 15 in food preparation, 12
in administration and 519 in operations. As the Company expands and opens
more concessions, the Company anticipates hiring additional personnel
including administrative personnel commensurate with growth. The Company does
not have a collective bargaining agreement with its employees and is not
aware of any material labor disputes.
SEASONALITY
The Company's concession operations are expected to experience moderate
seasonality during the course of each year, corresponding with traditional air
travel patterns which generally increase from the first quarter through the
fourth quarter.
11
<PAGE>
TRADEMARKS
The Company has one registered trademark with the United States Patent and
Trademark Office on the Principal Register, registered as "Creative
Croissants-Registered Trademark-." In addition, the Company is in the process
of filing trademark applications to register the names "Creative Host
Services, Inc." and "Haute Dogma," and as its business develops, the Company
plans to continue to develop merchandising of trademark products, such as
clothing, drinking bottles, mugs and other similar products, utilizing its
service marks and trademarks in order to generate additional revenues. The
Company's policy is to pursue registrations of its marks wherever possible. The
Company is not aware of any infringing uses that could materially affect its
business or any prior claim to the trademarks that would prevent the Company
from using such trademarks in its business.
ITEM 2. PROPERTIES
The Company's executive offices and food preparation center are located in
a 8,334 square foot facility at 6335 Ferris Square, Suites G-H, San Diego,
California. The combined facility is covered by a five-year lease terminating
April 15, 2002 with monthly payments of $5,044 plus common area maintenance
charges. The Company has one option to extend the term for an additional
five-year period. The Company believes its new facilities will be adequate to
accommodate production of two to three times its current levels.
The Company also leases space as part of its airports concession
operations. In addition, the Company occasionally leases restaurant space which
it assigns to operators in connection with franchise operations.
ITEM 3. LEGAL PROCEEDINGS
There were no material legal proceedings to which the Company or any of its
subsidiaries was a party in the fiscal year ended December 31, 1998.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of securityholders during the
fourth quarter of Fiscal 1998.
12
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS
The Company's Common Stock trades on the NASDAQ Market under the symbol
CHST. The Company completed its initial public offering on July 22, 1997 and
its stock began trading on the Exchange at that time. The number of
recordholders of the Common Stock was 129 on March 25, 1999. The Company
believes that there are a significant number of beneficial owners of its Common
Stock whose shares are held in "street name." The closing sales price of the
Common Stock on March 25, 1999 was $1.25 per share. The following chart sets
forth, for the fiscal period indicated, the high and low closing sales prices
for the Company's Common Stock.
<TABLE>
<CAPTION>
Low High
------- -------
<S> <C> <C>
Fiscal 1997
July 22, 1997 to September 30, 1997 3 13/16 4 7/16
Fourth Quarter 1 7/8 4 3/16
Fiscal 1998
First Quarter 2 1/32 2 3/4
Second Quarter 1 3/4 3
Third Quarter 1 3/8 2 3/16
Fourth Quarter 13/16 2
</TABLE>
Pursuant to a Private Placement Memorandum dated December 21, 1998, the
Company sold 12% Secured Convertible Promissory Notes, together with Warrants to
purchase 240,000 shares of Common Stock, for an aggregate amount of $3,000,000
in cash. The principal underwriter in this offering was EBI Securities
Corporation. The Notes and Warrants sold in this offering were offered only to
"accredited investors" as defined in the Securities Act of 1933, as amended.
The underwriter received (i) 3% of the proceeds of sales of the securities to
non-institutional investors purchasing less than $1,500,000 of Notes, (ii) 2% of
the proceeds of sales of securities to institutional investors purchasing
$1,500,000 or more of the securities, and (iii) 40,000 warrants to purchase
Common Stock on the same terms as the warrants sold in this offering. These
securities were sold pursuant to Rule 506 of Regulation D under the Securites
Act of 1933, as amended. The Notes are convertible at the option of the holder
thereof, in whole or in part, at any time on or after March 21, 1999, at $2.625
per share of Common Stock. The Warrants are exercisable until December 21, 2003
at an exercise price equal to the 30-calendar day trailing average of the
closing bid price of the Common Stock as of December 21, 1998, not to exceed
$2.00.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
WITH THE EXCEPTION OF HISTORICAL MATTERS, THE MATTERS DISCUSSED IN THIS
COMMENTARY ARE FORWARD LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES.
FORWARD LOOKING STATEMENTS INCLUDE, BUT ARE NOT LIMITED TO, STATEMENTS
CONCERNING ANTICIPATED TRENDS IN REVENUES, THE FUTURE MIX OF COMPANY REVENUES,
THE ABILITY OF THE COMPANY TO REDUCE CERTAIN OPERATING EXPENSES AS A PERCENTAGE
OF TOTAL REVENUES, THE ABILITY OF THE COMPANY TO REDUCE GENERAL AND
ADMINISTRATIVE EXPENSES AS A PERCENTAGE OF TOTAL SALES, AND THE POTENTIAL
INCREASE IN NET INCOME AND CASH FLOW THE COMPANY'S ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THE RESULTS DISCUSSED IN SUCH FORWARD LOOKING STATEMENTS.
FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH DIFFERENCES INCLUDE THE INABILITY
TO OBTAIN THE SUBSTANTIAL ADDITIONAL CAPITAL NECESSARY TO COMPLETE CONSTRUCTION
OF CAPITAL IMPROVEMENTS AWARDED UNDER EXISTING CONCESSION AGREEMENTS, POSSIBLE
EARLY TERMINATION OF EXISTING CONCESSION CONTRACTS, POSSIBLE DELAY IN THE
COMMENCEMENT OF CONCESSION OPERATIONS AT NEWLY AWARDED CONCESSION FACILITIES,
THE NEED AND ABILITY TO ATTRACT AND RETAIN QUALIFIED MANAGEMENT TO MANAGE
OPERATIONS, THE NEED TO OBTAIN CONTINUING APPROVALS FROM GOVERNMENT
13
<PAGE>
REGULATORY AUTHORITIES, THE TERM AND CONDITIONS OF ANY POTENTIAL MERGER OR
ACQUISITION OF EXISTING AIRPORT CONCESSION OPERATIONS.
OVERVIEW
The Company commenced business in 1987 as an owner, operator and franchisor
of French style cafes featuring hot meal croissants, fresh roasted gourmet
coffee, fresh salads and pastas, fruit filled pastries, muffins and other bakery
products. The Company currently has 9 restaurant franchises which operate
independently from its airport concession business. The restaurant franchise
business has never been profitable for the Company. Although the Company
maintains a current offering circular on file with the FTC and various state
authorities, the Company has not sold a new franchise since 1994.
In 1990, the Company entered the airport food and beverage concession
market when it was awarded a concession to operate a food and beverage location
for John Wayne Airport in Orange County, California, which is currently operated
by a franchisee. In 1994, the Company was awarded its first multiple concession
contract for the Denver International Airport, where it was awarded a second
concession in 1994 and two subsequent concessions in 1996. The success of the
franchisees operating the Orange County and Denver International Airport
concessions prompted the Company to enter into the airport concession business.
Since 1994, the Company has opened 33 concession locations at 15 airports. In
1996, the Company was awarded its first master concession contract for the
airport in Cedar Rapids, Iowa, where it has the right to install and manage all
food, beverage, news, gift and other services.
As a result of this transition in its business, the Company's historical
revenues have been derived from three principal sources: airport concession
revenues, restaurant franchise royalties and wholesale sales from its food
preparation center. These revenue categories comprise a fluctuating percentage
of total revenues from year to year. Over the past three years, revenues from
concession operations have grown from 59% of total revenues in 1995 to 95% of
total revenues in 1998.
As of December 31, 1997, the Company had working capital of $178,285. As
of December 31, 1998, the Company had working capital of $(1,034,572). Capital
improvement costs incurred to meet the requirements of new airport concession
contracts have placed substantial demands on the Company's working capital. In
February 1997, the Company completed a private placement of Convertible
Preferred Stock and private warrants, which raised proceeds of approximately
$2,031,000. In July 1997, the Company completed an initial public offering of
its Common Stock, raising gross proceeds of approximately $5.2 million. Nearly
all of these proceeds were used to redeem the convertable Preferred Stock and to
complete capital improvements at awarded concession locations. In December
1998, the Company completed a private placement of 12% Secured Convertible
Promissory Notes and warrants to purchase Common Stock, which raised gross
proceeds of $3,000,000. Nearly all of these proceeds were used to complete
capital improvements at awarded concession locations.
The Company expects to continue to have significant capital requirements in
1999 to finance the construction of new airport concessions, restaurants and
other concession related businesses such as news & gifts, specialty, inflight
catering and other services, including the ones already awarded in New York.
Furthermore, the Company will have additional capital requirements to the extent
that it wins additional contracts from its current and future airport concession
bids.
RESULTS OF OPERATIONS
The following table sets forth for the period indicated selected items of
the Company's statement of operations as a percentage of its total revenues.
<TABLE>
<CAPTION>
FISCAL YEAR ENDED DECEMBER 31,
-----------------------------
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Revenues:
Concessions 85% 92% 95%
14
<PAGE>
Food Preparation Center Sales 13 7 4
Franchise Royalties 2 1 1
--- --- ---
Total Revenues 100% 100% 100%
Cost of Goods Sold 31 32 30
--- --- ---
Gross Profit 69 68 70
Operating Costs and Expenses:
Payroll and Employee Benefits 31 36 34
Occupancy 19 18 19
General and Administrative 12 11 12
Interest Expense 2 2 1
Provision for Income Taxes 0 0 0
Other (Income) Loss 0 0 0
--- --- ---
Net Income (Loss) 5% 1% 4%
--- --- ---
--- --- ---
</TABLE>
FISCAL YEAR ENDED DECEMBER 31, 1998 COMPARED TO FISCAL YEAR ENDED DECEMBER
31, 1997
REVENUES. The Company's gross revenues for the fiscal year ended December 31,
1998 were $14,720,350, compared to $9,802,529, for the fiscal year ended
December 31, 1997. Revenues from concession activities increased $4,950,209
($13,986,016 compared to $9,035,807) and food preparation center sales increased
$17,792 (from $659,008 to $676,800) while franchise royalties declined $50,180
(from $107,714 to $57,534). Substantially all of the increase in concession
activities is attributable to full year operations for the concession locations
opened during fiscal 1997 and partial year operations for an additional 2
concession locations which opened during fiscal 1998.
COST OF GOODS SOLD. The cost of goods sold for the fiscal year ending
December 31, 1998 was $4,446,203 compared to $3,126,711 for the fiscal year
ending December 31, 1997. As a percentage of total revenues, the cost of goods
sold was 32% in 1997 and 30% 1998. Costs of goods sold is typically high for a
newly opened concession facility as the Company gathers information concerning
requirements for the specific location. Since the product is perishable,
adjustments to production level effects both sales and costs of sales. As the
Company improves accuracy of production and reduces the waste problem created by
training, cost of sales will improve. As a result, the Company expects costs of
goods sold to decline slightly as a percentage of sales as newly added stores
obtain operating data.
OPERATING COSTS AND EXPENSES. Operating costs and expenses for the fiscal
year ended December 31, 1998 were $9,692,476, compared to $6,438,863 for the
fiscal year ended December 31, 1997. Payroll expenses increased from
$3,524,001 in 1997 to $5,054,800 in 1998. As a percentage of total revenues,
payroll expense was 36% in 1997 and decreased to 34% in 1998. Management
believes that increased start-up costs and other inefficiencies as a result
of the opening of a number of new concession locations contributed to the
higher payroll costs, the Company expects payroll expenses to increase in
total dollar amounts with the addition of new concession facilities, but to
decrease modestly as a percent of revenues as newly opened facilities operate
more efficiently and the Company reaps the benefits of recently implemented
cost control measures. General and administrative expenses increased from
$1,124,556 in 1997 to $1,826,168 in 1998, and increased as a percentage of
total revenues from 11% in 1997 to 12% in 1998. The increase was attributable
primarily to increases in administrative salaries. The Company will continue
to add additional administrative staff commensurate with its growth but
expected general and administrative expenses to continue to decline as a
percentage of total revenues.
INTEREST EXPENSE. Interest expense for the fiscal year ended December 31,
1997 was $205,965 compared to $84,839 for the fiscal year ended December 31,
1998. As a percentage of total revenues, interest expense was 2% in 1997 and
decreased to 1% in 1998 due to capitalization of interest related to
concession improvements.
NET INCOME (LOSS). Net income for the fiscal year ended December 31, 1998 was
$480,532 compared to $37,631 for the fiscal year ended December 31, 1997.
Operating income increased from $236,955 in 1997 to $581,671 in 1998.
Management attributes the increase in net income to the increase in the number
of operating facilities.
15
<PAGE>
SAME STORE SALES. The Company operated ten locations during both the full
fiscal years ended December 31, 1997 and December 31, 1998. Sales for those
locations were $7,651,314 for the fiscal year ended December 31, 1997 and
$8,286,842 for the fiscal year ended December 31, 1998, representing an increase
of $635,528, or 8.3%.
FISCAL YEAR ENDED DECEMBER 31, 1997 COMPARED TO FISCAL YEAR ENDED DECEMBER
31, 1996
REVENUES. The Company's gross revenues for the fiscal year ended December 31,
1997 were $9,802,529, compared to $5,691,645, for the fiscal year ended
December 31, 1996. Revenues from concession activities increased $4,212,003
($9,035,807 compared to $4,822,804) and food preparation center sales decreased
$83,426 (from $742,434 to $659,008) while franchise royalties declined $18,693
(from $126,407 to $107,714). Substantially all of the increase in concession
activities is attributable to full year operations for the concession locations
opened during fiscal 1996 and partial year operations for an additional 7
concession locations which opened during fiscal 1997.
COST OF GOODS SOLD. The cost of goods sold for the fiscal year ending
December 31, 1997 was $3,126,711 compared to $1,752,541 for the fiscal year
ending December 31, 1996. As a percentage of total revenues, the cost of goods
sold was 31% in 1996 and 32% 1997. Costs of goods sold is typically high for a
newly opened concession facility as the Company gathers information concerning
requirements for the specific location. Since the product is perishable,
adjustments to production level effects both sales and costs of sales. As the
Company improves accuracy of production and reduces the waste problem created by
training, cost of sales will improve. As a result, the Company expects costs of
goods sold to decline slightly as a percentage of sales as newly added stores
obtain operating data.
OPERATING COSTS AND EXPENSES. Operating costs and expenses for the fiscal
year ended December 31, 1997 were $6,438,863, compared to $3,556,410 for the
fiscal year ended December 31, 1996. Payroll expenses increased from
$1,771,720 in 1996 to $3,524,001 in 1997. As a percentage of total revenues,
payroll expense was 31% in 1996 and increased to 36% in 1997. Management
believes that increased training costs and other inefficiencies as a result
of the opening of a number of new concession locations contributed to the
higher payroll costs, the Company expects payroll expenses to increase in
total dollar amounts with the addition of new concession facilities, but to
decrease modestly as a percent of revenues as newly opened facilities operate
more efficiently and the Company reaps the benefits of recently implemented
cost control measures. General and administrative expenses increased from
$683,097 in 1996 to $1,124,556 in 1997, but decreased as a percentage of
total revenues from 12% in 1996 to 11% in 1997. The increase was attributable
primarily to increases in administrative salaries. The Company will continue
to add additional administrative staff commensurate with its growth but
expected general and administrative expenses to continue to decline as a
percentage of total revenues.
INTEREST EXPENSE. Interest expense for the fiscal year ended December 31, 1996
was $195,120 compared to $205,965 for the fiscal year ended December 31, 1997.
As a percentage of total revenues, interest expenses remained the same at 2%.
NET INCOME (LOSS). Net income for the fiscal year ended December 31, 1997 was
$37,631 compared to $187,574 for the fiscal year ended December 31, 1996.
Operating income decreased from $382,694 in 1996 to $236,955 in 1997.
Management attributes the decline in net income to the increase in operating
expenses attributable to opening seven new concessions locations during fiscal
1997.
SAME STORE SALES. The Company operated three locations during both the full
fiscal years ended December 31, 1996 and December 31, 1997. Sales for those
locations were $2,098,015 for the fiscal year ended December 31, 1996 and
$2,232,972 for the fiscal year ended December 31, 1997, for an increase of
$134,957 or 6%.
LIQUIDITY AND CAPITAL RESOURCES
Since its inception, the Company's capital needs have primarily been met
from the proceeds of (i) capital contributions of $1,300,000 made by Sayed Ali,
the principal shareholder, Chairman and Chief Executive Officer of the Company,
(ii) a Small Business Administration loan obtained by the Company in September
1992 in the original principal amount of $220,000, guaranteed by Mr. Ali and
secured by certain of his personal assets and a key man life insurance policy,
(iii) a private placement of 9% Convertible Redeemable Preferred Stock made by
the Company in 1994 which raised
16
<PAGE>
gross proceeds of approximately $722,000, (iv) equipment lease financing on
specific airport facilities which are guaranteed by Mr. Ali, (v) certain
short term borrowings, (vi) a private placement of 8% Convertible Preferred
Stock which raised net proceeds of approximately $2.0 million in February
1997, (vii) an initial public offering of Common Stock which raised net
proceeds of approximately $5.2 million in July 1997, and (viii) a private
placement of 12% Secured Convertible Notes, together with Warrants to
purchase Common Stock, which raised gross proceeds of $3.0 million in
December 1998.
The leases guaranteed by Mr. Ali are the equipment leases for the Company's
food and beverage facilities at Los Angeles International Airport (approximately
$200,000), Portland International Airport (approximately $180,000), the airport
at Lexington, Kentucky (approximately $150,000), and the airports in Madison and
Appleton, Wisconsin (approximately $300,000). The equipment leases each have a
term of 60 months, are payable in equal monthly installments and have an
interest rate of approximately 17.5%. Upon payment of the last installment on
each lease, the Company will own the equipment.
When the Company is awarded a new concession facility, it is generally
committed to expend a negotiated amount for capital improvements to the
facility. In addition, the Company is responsible for acquiring equipment
necessary to conduct its operations. As a result, the Company incurs
substantial expenses for capital improvements at the commencement of a
concession term. Generally, however, the term of the concession grant will be
for a period of 10 years, providing the Company an opportunity to recover its
capital expenditures. Substantially all of the Company's concession locations
have been obtained in the past 3 years, which has resulted in significant
capital needs. As a result, the Company has been required to seek capital, and
to apply capital from operations, for the construction of capital improvements
at newly awarded concession locations. The Company intends to continue to bid
for concession locations, including bidding on larger proposals. Anticipated
cash flows from operations will not be sufficient to finance new acquisitions at
the level of growth that the Company has experienced over the past 2 years.
Accordingly, to the extent the Company is successful in securing new concession
contracts, the Company will continue to need additional capital, in addition to
cash flow from operations, in order to finance the construction of capital
improvements.
As of December 31, 1998, the Company had working capital of
$(1,034,572). The Company expects to continue to have significant capital
requirements in 1999 and 2000 to finance the construction of new airport food
and beverage concessions and other concessions related businesses (i.e., news
& gifts, inflight catering and other services). The Company anticipates
capital requirements of approximately $3.5 million in Fiscal 1999 to complete
the construction of improvements at concession facilities which it has
already been awarded in Iowa, New York, Texas and Louisiana. The Company has
an immediate need for additional capital to fund the construction of capital
improvements at several of those airports. The Company is actively
evaluating potential financing arrangements with a number of leasing
companies in order to meet its capital needs. The Company estimates that
existing capital and cash flow will be sufficient to continue construction
scheduled for the next four to six weeks. Management believes, based on the
status of discussions with various leasing companies, that it has several
financing alternatives available to it. If the Company fails to secure
additional funding it will have to delay construction and may lose airport
concessions previously awarded to it.
The Company will have additional capital requirements during 1999 and 2000
if the Company wins additional bids or acquires additional airport concession
facilities. The Company is continually evaluating other airport concession
opportunities, including submitting bid proposals and acquiring existing
concession owners and operators. The level of its capital requirements will
depend upon the number of airport concession facilities which are subject to
bid, as well as the number and size of any potential acquisition candidates
which arise. There is no assurance that the Company will have sufficient
capital to finance its growth and business operations or that such capital will
be available on terms that are favorable to the Company or at all.
ITEM 7. FINANCIAL STATEMENTS
17
<PAGE>
CREATIVE HOST SERVICES, INC.
(FORMERLY KNOWN AS
ST. CLAIR DEVELOPMENT CORPORATION)
FINANCIAL STATEMENTS
YEAR ENDED DECEMBER 31, 1998
CONTENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
INDEPENDENT AUDITORS' REPORT F-1
FINANCIAL STATEMENTS:
Balance Sheet F-2
Statements of Income and Operations F-3
Statement of Shareholders' Equity F-4
Statements of Cash Flows F-5
Notes to Financial Statements F6-F14
</TABLE>
<PAGE>
INDEPENDENT AUDITORS' REPORT
Board of Directors
Creative Host Services, Inc.
San Diego, California
We have audited the accompanying balance sheet of Creative Host Services, Inc.
as of December 31, 1998, and the related statements of income and operations,
shareholders' equity and cash flows for each of the years ended December 31,
1997 and 1998. 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 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 above present fairly, in
all material respects, the financial position of Creative Host Services, Inc. at
December 31, 1998, and the results of its operations and cash flows for the
years ended December 31, 1997 and 1998, in conformity with generally accepted
accounting principles.
/s/ STONEFIELD JOSEPHSON, INC.
CERTIFIED PUBLIC ACCOUNTANTS
Santa Monica, California
March 9, 1999
F-1
<PAGE>
CREATIVE HOST SERVICES, INC.
BALANCE SHEET - DECEMBER 31, 1998
ASSETS
<TABLE>
<S> <C> <C>
CURRENT ASSETS:
Cash $ 139,743
Receivables, net of allowance of $8,807 491,356
Inventory 439,422
Prepaid expenses and other current assets 81,066
---------------
Total current assets $ 1,151,587
PROPERTY AND EQUIPMENT, net of accumulated
depreciation and amortization 9,582,688
DEPOSITS AND OTHER ASSETS 205,203
OTHER ASSETS, principally debt issue costs, net of
accumulated amortization of $226,629 331,878
---------------
$ 11,271,356
---------------
---------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 1,353,970
Income taxes payable 11,758
Current maturities of notes payable 12,485
Current maturities of leases payable 807,946
---------------
Total current liabilities $ 2,186,159
NOTES PAYABLE, less current maturities 2,952,803
LEASES PAYABLE, less current maturities 930,652
SHAREHOLDERS' EQUITY:
Common stock; no par value,
20,000,000 shares authorized, 3,211,033 shares
issued and outstanding 5,971,764
Additional paid-in capital 937,662
Accumulated deficit (1,707,684)
---------------
Total shareholders' equity 5,201,742
---------------
$ 11,271,356
---------------
---------------
</TABLE>
See accompanying independent auditors' report and notes to financial
statements.
F-2
<PAGE>
CREATIVE HOST SERVICES, INC.
STATEMENTS OF INCOME AND OPERATIONS
<TABLE>
<CAPTION>
Year ended Year ended
December 31, 1997 December 31, 1998
----------------- ----------------
<S> <C> <C>
REVENUES:
Concessions $ 9,035,807 $ 13,986,016
Food preparation center sales 659,008 676,800
Franchise royalties 107,714 57,534
---------------- ---------------
Total revenues 9,802,529 14,720,350
COST OF GOODS SOLD 3,126,711 4,446,203
---------------- ---------------
GROSS PROFIT 6,675,818 10,274,147
---------------- ---------------
OPERATING COSTS AND EXPENSES:
Payroll and other employee benefits 3,524,001 5,054,800
Occupancy 1,790,306 2,811,508
General, administrative and selling expenses 1,124,556 1,826,168
---------------- ---------------
Total operating costs and expenses 6,438,863 9,692,476
---------------- ---------------
INCOME FROM OPERATIONS 236,955 581,671
---------------- ---------------
INTEREST EXPENSE (205,965) (84,839)
OTHER INCOME 6,641 -
---------------- ---------------
(199,324) (84,839)
---------------- ---------------
INCOME BEFORE INCOME TAXES 37,631 496,832
PROVISION FOR INCOME TAXES, all current - 16,300
---------------- ---------------
NET INCOME $ 37,631 $ 480,532
---------------- ---------------
---------------- ---------------
NET (LOSS) INCOME APPLICABLE TO COMMON STOCK $ (41,869) $ 480,532
---------------- ---------------
---------------- ---------------
NET (LOSS) INCOME PER SHARE BASIC AND DILUTED $ (.02) $ 0.15
---------------- ---------------
---------------- ---------------
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING:
Basic 2,004,596 3,114,477
---------------- ---------------
---------------- ---------------
Diluted 3,135,166
---------------
---------------
</TABLE>
See accompanying independent auditors' report and notes to financial
statements.
F-3
<PAGE>
CREATIVE HOST SERVICES, INC.
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
8% convertible Total
Common stock Additional preferred stock shareholders'
-------------------- paid-in ------------------------ Accumulated equity
Shares Amount capital Shares Amount deficit (deficit)
------ ------ ---------- ------ ------ ------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1997 1,200,000 $ 621,875 $ 857,537 $ (2,146,347) $ (666,935)
Net income for the year
ended December 31, 1997 37,631 37,631
Dividends payable to
preferred shareholders (79,500) (79,500)
Net proceeds from issuance of
8% redeemable convertible
preferred stock 800,000 2,030,762 2,030,762
Redemption of preferred stock (800,000) (2,030,762) (2,030,762)
Net proceeds from issuance of
common stock and effect of
redemption of 9% preferred
stock and conversion of 8%
convertible preferred stock 1,901,033 5,198,639 5,198,639
--------- ---------- ---------- --------- ------------- ------------ -----------
Balance at December 31, 1997 3,101,033 5,820,514 857,537 - - (2,188,216) 4,489,835
Net income for the year
ended December 31, 1998 480,532 480,532
Common stock issued as partial
consideration for rights to food
concessions at Denver Airport 100,000 137,500 137,500
Common stock issued for
settlement of dispute 10,000 13,750 13,750
Issuance of warrants in connection
with financing 80,125 80,125
--------- ---------- ---------- --------- ------------- ------------ -----------
3,211,033 $5,971,764 $ 937,662 - $ - $ (1,707,684) $ 5,201,742
--------- ---------- ---------- --------- ------------- ------------ -----------
--------- ---------- ---------- --------- ------------- ------------ -----------
</TABLE>
See accompanying independent auditors' report and notes to financial
statements.
F-4
<PAGE>
CREATIVE HOST SERVICES, INC.
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
Year ended Year ended
December 31, 1997 December 31, 1998
----------------- -----------------
<S> <C> <C>
CASH FLOWS PROVIDED BY (USED FOR) OPERATING ACTIVITIES:
Net income $ 37,631 $ 480,532
-------------- --------------
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH
PROVIDED BY OPERATING ACTIVITIES:
Depreciation and amortization 291,723 617,129
Provision for doubtful accounts 6,000 -
CHANGES IN ASSETS AND LIABILITIES:
(INCREASE) DECREASE IN ASSETS:
Accounts receivable (60,136) (67,179)
Inventory (113,117) (112,018)
Prepaid expenses and other current assets (11,247) (42,376)
INCREASE (DECREASE) IN LIABILITIES:
Accounts payable and accrued expenses 622,352 73,916
Deferred income (17,500) -
Income taxes payable - 11,758
-------------- --------------
Total adjustments 718,075 481,230
-------------- --------------
Net cash provided by operating activities 755,706 961,762
-------------- --------------
CASH FLOWS PROVIDED BY (USED FOR) INVESTING ACTIVITIES:
Property and equipment (3,343,709) (5,053,508)
Deposits and other assets 57,642 (67,851)
Loan costs - (391,029)
Other assets - (5,008)
-------------- --------------
Net cash used for investing activities (3,286,067) (5,517,396)
-------------- --------------
CASH FLOWS PROVIDED BY (USED FOR) FINANCING ACTIVITIES:
Net proceeds from leases payable 90,687 999,021
Proceeds from notes payable 27,133 2,932,847
Issuance of capital stock 5,198,639 151,250
Proceeds from redemption of preferred stock (724,933) 80,125
Repayment of notes payable (417,004) (172,566)
Repayment of leases payable (319,436) (404,529)
Cash dividends on preferred stock (216,496) -
-------------- --------------
Net cash provided by financing activities 3,638,590 3,586,148
-------------- --------------
NET INCREASE (DECREASE) IN CASH 1,108,229 (969,486)
CASH, beginning of year 1,000 1,109,229
-------------- --------------
CASH, end of year $ 1,109,229 $ 139,743
-------------- --------------
-------------- --------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid $ 247,922 $ 218,588
-------------- --------------
-------------- --------------
Income taxes paid $ - $ 4,542
-------------- --------------
-------------- --------------
</TABLE>
See accompanying independent auditors' report and notes to financial
statements.
F-5
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
YEAR ENDED DECEMBER 31, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
ORGANIZATION AND BASIS OF PRESENTATION:
Creative Host Services, Inc. (formerly known as St. Clair
Development Corporation) was formed in 1986 to acquire the operating
assets of Creative Croissants, Inc., which consisted of a food
preparation center in San Diego and two French-style cafes featuring
hot meal croissants, muffins, pastas and salads. The cafes were
acquired in May 1987 and the food preparation center was acquired in
April 1988 in transactions accounted for using the purchase method
of accounting. In 1989, the Company commenced franchising
operations, licensing its trademarks to third parties, who agreed to
purchase baked goods from the Company's food preparation center
under franchise arrangements with the Company, and earned an initial
franchise fee, a royalty based upon sales, and in some cases
advertising and marketing fees as a percentage of gross sales. In
1995, the Company began operating company owned food and beverage
concessions at airports and commenced certain in flight catering
sales. The Company also sells baked goods from its food preparation
center, directly to restaurants, hospitals and other institutional
clients in the San Diego area. The accompanying financial statements
include the operations of Company-owned concessions (mainly at
various airports across the United States), revenues earned from
franchisees, and operations from its wholesale food preparation
activities.
REVENUE RECOGNITION:
Concession revenues are recorded as the sales are made; sales from
the food preparation center are recorded upon shipment and revenues
from in-flight catering are recorded upon delivery. Revenues from
the initial sale of individual franchises are recognized, net of an
allowance for uncollectible amounts and any commissions to outside
brokers, when substantially all significant services to be provided
by the Company have been performed.
USE OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results
could differ from those estimates.
FAIR VALUE:
Unless otherwise indicated, the fair values of all reported assets
and liabilities which represent financial instruments (none of which
are held for trading purposes) approximate the carrying values of
such amounts.
INVENTORY:
Inventory, consisting principally of foodstuffs and supplies, is
valued at the lower of cost (first-in, first-out) or market.
See accompanying independent auditors' report.
F-6
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
PROPERTY AND EQUIPMENT:
Property and equipment are recorded at cost, including interest on
funds to finance the construction of concession locations. Such
interest amounted to approximately $144,000 during 1998 (none in
1997). For financial statement purposes, depreciation is computed
primarily by the straight-line method over the estimated useful
lives of the assets, as follows:
<TABLE>
<S> <C>
Office equipment 10 years
Restaurant concession and commissary equipment 10 years
Excess of cost over fair value assigned to net assets 5 years
Marketing rights 5 years
</TABLE>
Leasehold improvements are amortized over the useful lives of the
improvements, or terms of the leases, whichever is shorter.
DEBT WITH STOCK PURCHASE WARRANTS:
The proceeds received from debt issued with stock purchase warrants
is allocated between the debt and the warrants, based upon the
relative fair values of the two securities and the balance of the
proceeds is accounted for as additional paid in capital. The
resulting debt discount is amortized to expense over the term of the
debt instrument, using the interest method. In the event of
settlement of such debt in advance of the maturity date, an expense
is recognized based upon the difference between the then carrying
amount (i.e., face amount less unamortized discount) and amount of
payment.
DEBT ISSUE COSTS:
Legal and accounting fees and other expenses associated with the
issuance of the 12% convertible notes payable (Note 5) are being
amortized using the straight-line method over the term of the notes.
INCOME TAXES:
Deferred income taxes arise from temporary differences in the basis
of assets and liabilities reported for financial statement and
income tax purposes.
See accompanying independent auditors' report.
F-7
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
EARNINGS PER SHARE:
Earnings per share is computed based upon the weighted average
number of shares of common stock outstanding during each period,
adjusted to reflect an approximate 1.7 to 1 stock split in 1996.
Diluted earnings per share reflect per share amounts that would have
resulted if diluted potential common stock had been converted to
common stock. The following reconciles amounts reported in the
financial statements:
<TABLE>
<CAPTION>
Per share
Income Shares Amount
------------ ---------- ----------
<S> <C> <C>
Net income applicable to common
stockholders - basic earnings per share $ 463,152 3,114,477 $ .015
-----------
-----------
Effect of dilutive securities
Warrants - 20,689
------------ ------------
Income available to common
stockholders - diluted earnings per share $ 463,152 3,135,166 $ 0.15
------------ ------------ -----------
------------ ------------ -----------
</TABLE>
In February 1997, the Company sold 800,000 units of 8% preferred
shares and common stock purchase warrants in a private placement. In
August 1997, the Company sold 1,150,000 shares of common stock from
an initial public offering, raising net proceeds of approximately
$5,200,000. 246,461 shares of preferred stock were redeemed and the
remaining 553,539 shares were converted into 553,539 shares of
common stock.
CASH EQUIVALENTS:
For purposes of the statement of cash flows, cash equivalents
include all highly liquid debt instruments with original maturities
of three months or less which are not securing any corporate
obligations.
CONCENTRATION OF CREDIT RISK:
The Company sells its bakery products to food distributors,
retailers, franchisees and various airlines throughout the United
States primarily through its own concession operations and does not
require collateral. Over 90% of the Company's sales are on a cash
basis. One location accounts for more than 10% of the Company's
revenues. Allowances have been provided for uncollectible amounts,
which have historically been within management's expectations.
See accompanying independent auditors' report.
F-8
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
NEW ACCOUNTING PRONOUNCEMENTS:
The Company has adopted Statements of Financial Accounting Standards
No. 130 "Reporting Comprehensive Income" and 131 "Disclosures About
Segments of an Enterprise and Related Information". Adoption of
these pronouncements did not materially affect the financial
statements.
(2) PROPERTY AND EQUIPMENT:
A summary at December 31, 1998 is as follows:
<TABLE>
<S> <C>
Food and beverage concession equipment $ 10,381,889
Food preparation equipment 352,932
Leasehold improvements 133,198
Office equipment 35,180
----------------
10,903,199
Less accumulated depreciation and amortization 1,320,511
----------------
$ 9,582,688
----------------
----------------
</TABLE>
Depreciation and amortization expense totaled $617,129 and $291,723
for the years ended December 31, 1998 and 1997, respectively.
(3) INTANGIBLE ASSETS:
A summary at December 31, 1998 is as follows:
<TABLE>
<S> <C>
Loan fees $ 391,029
Marketing rights 77,174
Franchise costs 90,304
----------------
558,507
Less accumulated amortization 226,629
----------------
$ 331,878
----------------
----------------
</TABLE>
(4) ACCOUNTS PAYABLE AND ACCRUED EXPENSES:
Purchases from one supplier amounted to approximately $2,049,000 for
the year ended December 31, 1998. Approximately $164,000 of the
accounts payable was due to this supplier at December 31, 1998.
See accompanying independent auditors' report.
F-9
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(5) NOTES PAYABLE:
A summary is as follows:
<TABLE>
<S> <C>
Note payable, at an effective interest rate of 13.3%, due in
monthly installments of $30,000 through January 2001. Principal
and interest of $43,041 due thereafter through December 2010,
secured by assets of the Company and shares owned by the
president and major stockholder of the Company $ 2,932,847
Note payable to landlord of former franchisee, interest
at the greater of 10% or bank prime rate plus 1%,
due in monthly installments of $1,264 through 2001 32,441
----------------
2,965,288
Less current maturities 12,485
----------------
$ 2,952,803
----------------
----------------
</TABLE>
The following is a summary of the principal amounts payable over the
next five years and thereafter:
<TABLE>
<S> <C>
1999 $ 12,485
2000 13,792
2001 171,561
2002 186,372
2003 210,009
Thereafter 2,371,069
----------------
$ 2,965,288
----------------
----------------
</TABLE>
In December 1998, the Company conducted a private placement
offering. The Company sold 3,000 units. Each unit consisted of a
$1,000 note payable with interest of 12% per annum and 80 common
stock purchase warrants. Each warrant entitles the holder to buy one
share of common stock at an exercise prince of $1.48. The warrants
expire on December 31, 2003. Interest is payable monthly commencing
January 1999 until January 2001, at which time principal and
interest of $43,041 are due monthly until December 2010. The notes
are collateralized by substantially all assets of the Company and
shares owned by the president and major stockholder of the Company.
Commencing March 1999, each note may be converted, at the option of
the holder, to shares of the Company's common stock at the price per
share of $2.625 of the outstanding balance of principal and interest
due. The fair value of the notes and the carrying amount and fair
value of the associated warrants were determined. The value of the
warrants amount to $24,240 and is included in paid-in capital. Net
proceeds raised from the notes in the amount of approximately
$2,600,000 were used to pay for certain improvements to concessions
operated by the Company.
See accompanying independent auditors' report.
F-10
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(5) NOTES PAYABLE, CONTINUED:
Interest paid for all corporate borrowings (including leases) totaled
approximately $220,000 and $206,000 for 1998 and 1997, respectively.
Interest costs of $144,669 incurred in 1998 were capitalized in
connection with concession improvements. Additional interest costs of
$19,822 were incurred during 1998 relating to the discount on notes
issued during the year.
(6) LEASES PAYABLE:
A summary is as follows:
<TABLE>
<S> <C>
Equipment leases payable, finance company, approximate average interest
at 17.5%, due in monthly installments through the
year 2001, secured by food and beverage concession equipment $ 1,738,598
Less current maturities 807,946
----------------
$ 903,652
----------------
----------------
</TABLE>
The following is a summary of the principal amounts payable over the
next four years:
<TABLE>
<S> <C>
1999 $ 807,946
2000 475,522
2001 291,341
2002 163,789
----------------
$ 1,738,598
----------------
----------------
</TABLE>
(7) INCOME TAXES:
For federal income tax return purposes, the Company has available net
operating loss carryforwards of approximately $1,477,000, which expire
through 2011 and are available to offset future income tax liabilities.
Due to the completion of an initial public offering, there are
significant limitations on the Company's ability to utilize this
operating loss carryforward.
Net operating losses of approximately $496,000 were utilized during 1998
in determining the Company's provision for income taxes.
Temporary differences which give rise to deferred tax assets and
liabilities at December 31, 1998 are as follows:
<TABLE>
<CAPTION>
<S> <C>
Net operating loss carryforwards $ 590,800
Valuation allowance (590,800)
----------------
Net deferred taxes $ -
----------------
----------------
</TABLE>
See accompanying independent auditors' report.
F-11
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(8) COMMITMENTS AND CONTINGENCIES:
The Company leases its office facility, food preparation center and
concession locations under various lease agreements expiring through
2006. Rental expense under operating leases totaled $2,269,023 and
$1,501,057 for 1998 and 1997, respectively. As of December 31, 1998,
future minimum rental payments required under operating leases,
exclusive of additional rental payments based on concession sales and
numbers of enplanements, are as follows:
<TABLE>
<S> <C>
Year ending December 31,
1999 $ 2,059,972
2000 2,025,472
2001 2,025,472
2002 1,980,967
2003 1,966,132
Thereafter 5,901,775
----------------
$ 15,959,790
----------------
----------------
</TABLE>
In connection with its franchising operations, the Company has
guaranteed the lease obligations of two franchisees. Based upon
historical operations of the franchisees and the remaining terms of the
lease guarantees, management does not believe that any lease assumptions
will result therefrom.
In connection with the concessionaire agreements with various airport
authorities, the Company has obtained surety bond coverage for the
guarantee of lease payments in the event of non-performance under the
agreements, in the aggregate amount of approximately $425,000. The
insurer may seek indemnification from the Company for any amounts paid
under these bonds.
The Company leases an automobile for one of its employees under an
operating lease agreement which expires March 2001. At December 31,
1998, minimum lease payments under the operating lease is as follows:
<TABLE>
<S> <C>
Year ending December 31,
1999 $ 2,633
2000 2,633
2001 658
----------------
$ 5,924
----------------
----------------
</TABLE>
See accompanying independent auditors' report.
F-12
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(9) COMMON STOCK:
In February 1997, the Company sold 800,000 units of 8% preferred shares
and common stock purchase warrants in a private placement. In August
1997, the Company sold 1,150,000 shares of common stock from an initial
public offering, raising net proceeds of approximately $5,200,000. All
of the Company's 9% convertible preferred stock and 246,461 shares of
the 8% preferred stock were redeemed. The remaining 553,539 8% preferred
shares were converted into 553,539 shares of common stock.
In November 1998, the Company issued 100,000 common shares under the
provisions of a purchase agreement for the purchase of a franchise
operations in an airport.
In November 1998, the Company issued 10,000 common shares as a
settlement of a dispute.
(10) STOCK OPTIONS:
The Company has adopted the 1997 Stock Option Plan (the "1997 Plan").
The 1997 Plan authorizes the issuance of an additional 280,000 shares of
the Company's common stock pursuant to the exercise of options granted
thereunder. The Compensation Committee of the Board of Directors
administers the Plan, selects recipients to whom options are granted and
determines the number of shares to be awarded. Options granted under the
1997 Plan are exercisable at a price determined by the Compensation
Committee at the time of grant, but in no event less than fair market
value.
The number and weighted average exercise prices of options both granted
during 1996 and were granted under the 1997 plan, for the years ended
December 31, 1997 and 1998 are as follows:
<TABLE>
<CAPTION>
1997 1998
------------------------------- ---------------------------
Average Average
Exercise Exercise
Number Price Number Price
-------- ---------- -------- -----------
<S> <C> <C> <C> <C>
Outstanding at beginning of the year 35,000 $ 1.00 161,500 $ 4.05
Outstanding at end of the year 161,500 4.05 171,500 3.94
Exercisable at end of the year 119,000 3.89 - -
Granted during the year 161,500 4.05 10,000 2.13
Exercised during the year 35,000 1.00 - -
</TABLE>
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 its employee stock options because the
alternative fair value accounting provided for under FASB Statement No.
123, "Accounting for Stock-Based Compensation," requires use of option
valuation models that were not developed for use in valuing employee
stock options. Under APB 25, because the exercise price of the Company's
employee stock options equals the market price of the underlying stock
on the date of grant, no compensation expense is recognized.
Proforma information regarding net income and earnings per share under
the fair value method has not been presented as the amounts are
immaterial.
See accompanying independent auditors' report.
F-13
<PAGE>
CREATIVE HOST SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
(11) WARRANTS:
At December 31, 1998, the Company had warrants outstanding that allow
the holders to purchase up to 1,228,093 shares of common stock at
exercise prices ranging from $1.48 to $4.50. The warrants may be
exercised any time prior to December 31, 2003.
The number and weighted average exercise prices of the warrants for the
years ended December 31, 1997 and 1998 are as follows:
<TABLE>
<CAPTION>
1997 1998
------------------------------- ---------------------------
Average Average
Exercise Exercise
Number Price Number Price
------- --------- ---------- -----------
<S> <C> <C> <C> <C>
Outstanding at beginning of the year 462,500 $ 4.50 462,500 $ 4.50
Outstanding at end of the year 462,500 4.50 1,228,093 3.62
Exercisable at end of the year 462,500 4.50 988,093 2.92
Granted during the year - - 765,593 1.54
Exercised during the year - - - -
</TABLE>
See accompanying independent auditors' report.
F-14
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
18
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF EXCHANGE ACT
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- ---------
<S> <C> <C>
Sayed Ali 50 Chairman of the Board of Directors,
President and Chief Financial Officer
Booker T. Graves(1) 59 Director
John P. Donohue, Jr.(1)(2) 67 Director
Paul A. Karas(2) 45 Director
</TABLE>
- -----------
(1) Member of Compensation Committee
(2) Member of Audit Committee
SAYED ALI is the founder, Chairman of the Board of Directors, President
and Chief Financial Officer of the Company. Mr. Ali has served as Chairman of
the Board of Directors and President since 1986. Mr. Ali served as Chief
Financial Officer from December 1986 to February 1997, and since August 1997.
Mr. Ali served as the Secretary of the Company from 1986 to December 1996. Prior
to founding the Company, Mr. Ali was the Director of Operations of Steffa
Control Systems, a manufacturer of energy management systems from May 1985 to
September 1987, which had annual sales of $30 to $35 million. From March 1980
until May 1985, Mr. Ali was the Director of Operations for Oak Industries, Inc.,
a telecommunications equipment manufacturer.
BOOKER T. GRAVES has been a director of the Company since March 1997. Since
1993, Mr. Graves has been president of Graves Airport Concession Consultants, a
consulting company located in Denver, Colorado, which provides consulting
services to airports and other businesses. From 1993 to 1996, Mr. Graves was the
principal food and beverage consultant to the Denver International Airport. From
1990 through 1993, Mr. Graves was General Manager of CA One Services, Inc.
(formerly Sky Chefs) at Denver Stapleton International Airport. From 1980 until
1990, Mr. Graves was the General Manager of CA One Services, Inc. of Phoenix Sky
Harbor Airport.
JOHN P. DONOHUE, JR. has been a director of the Company since March 1997.
From 1990 to the present, Mr. Donohue has been a private investor. Prior to that
time for 25 years, Mr. Donohue was employed by Oak Industries, Inc., a NYSE
listed company, in various capacities. From 1985 to 1990, Mr. Donohue served as
President of Oak Communications, Inc., a division of Oak Industries, Inc. which
manufactured communications equipment for the cable television industry. From
1982 to 1985, he served as Vice President of Manufacturing overseeing up to
6,000 manufacturing employees. From 1977 to 1982, Mr. Donohue served as Vice
President of Operations for the Oak Switch division of Oak Industries, Inc.
PAUL A. KARAS has been a director of the Company since March 1997. From
1993 to the present, Mr. Karas has been President and Founder of Grove
Management Company, an infrastructure management consulting firm. He has
consulted on the $6 billion airport in Hong Kong, and the $375 million
renovation and expansion of the Cleveland Public Power Electric Distribution
System among other projects. From 1991 to 1993, Mr. Karas was Senior Vice
President and Director of Public Works Sector for Morse-Diesel/Amec whose
business activities included consulting for a proposed third airport for
Chicago, program management for the British Airways terminal at the JFK Airport,
and program management for the United Airlines Terminal at La Guardia Airport.
From 1988 to 1991, Mr. Karas worked for the Port Authority of New York and New
Jersey and was director of the John F. Kennedy International Airport
Redevelopment Program responsible for program management, design and
construction of the $3.2 billion renovation of the JFK Airport. From 1985 to
1988, Mr. Karas was Commissioner of Public Works for the City of Chicago with
responsibilities for the design and construction of major public projects
including projects affecting O'Hare, Midway and Meigs Airport. From 1980 to
1985, Mr. Karas
19
<PAGE>
was Corporate Development Projects Manager for Santa Fe Southern Pacific
Corporation, a $7 billion enterprise engaged in the transportation, national
resources, real estate, construction and financial service businesses.
ITEM 10. EXECUTIVE COMPENSATION
DIRECTOR COMPENSATION
Directors receive no cash compensation for their services to the Company as
directors, but are reimbursed for expenses actually incurred in connection with
attending meetings of the Board of Directors. In addition, each outside director
is entitled to receive options as approved by the Board of Directors under the
Company's 1997 Stock Option Plan. No new options were issued to outside
directors during Fiscal 1998. During Fiscal 1997, each outside director was
issued an aggregate of 15,000 options, of which 10,000 are now vested and the
balance of 5,000 will vest in January 2000, provided the director remains a
director of the Company.
EXECUTIVE OFFICER COMPENSATION
The compensation and benefits program of the Company is designed to
attract, retain and motivate employees to operate and manage the Company for the
best interests of its constituents. Executive compensation is designed to
provide incentives for those senior members of management who bear
responsibility for the Company's goals and achievements. The compensation
philosophy is based on a base salary, with opportunity for significant bonuses
to reward outstanding performance, and a stock option program. The Compensation
Committee is responsible for setting base compensation, awarding bonuses and
setting the number and terms of options for the executive officers. None of the
current Committee members are employees of the Company. The Committee currently
consists of Messrs. Donohue and Graves.
The following table and notes set forth the annual cash compensation paid
to Sayed Ali, Chairman of the Board and President of the Company. No other
person's compensation exceeded $100,000 per annum during the Company's fiscal
year ended December 31, 1998.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION LONG TERM COMPENSATION
------------------------------------ -----------------------------------------
AWARDS PAYOUTS
---------------------------- --------
SECURITIES
OTHER RESTRICTED UNDERLYING ALL OTHER
ANNUAL STOCK OPTIONS/ LTIP COMPEN-
NAME/TITLE SALARY BONUS COMP. AWARDS SARS PAYOUTS SATION
YEAR $ $ $ $ #(1) $ $
- ---------------- -------- --------- --------- ---------- -------------- -------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Sayed Ali
President
1998 108,000 -- -- -- -- -- --
1997 96,000 -- -- -- 75,000 -- --
1996 71,000 -- -- -- -- -- --
</TABLE>
- -----------
(1) Consists of options granted under the Company's 1997 Stock Option Plan.
20
<PAGE>
The following table sets forth the options granted to Mr. Ali during the
Company's fiscal year ended December 31, 1998.
OPTION/SAR GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
--------------------------------------------------------------------
PERCENT OF POTENTIAL REALIZABLE
TOTAL VALUE AT ASSUMED
NUMBER OF OPTIONS/SARS ANNUAL RATES OF STOCK
SECURITIES GRANTED TO EXERCISE OR PRICE APPRECIATION FOR
UNDERLYING EMPLOYEES IN BASE OPTION TERM
OPTIONS/SARS FISCAL PRICE EXPIRATION -----------------------------
NAME GRANTED (#) YEAR(%) ($/SH) DATE 5% ($) 10% ($)
- --------------------- ------------- --------------- ----------- ------------ -------------- -----------
<S> <C> <C> <C> <C> <C> <C>
Sayed Ali -- -- -- -- -- --
</TABLE>
The following table summarizes the number and value of all unexercised
options granted to and held by Mr. Ali at the end of 1998. No options were
exercised by Mr. Ali during 1998.
FISCAL YEAR-END OPTION VALUES
<TABLE>
<CAPTION>
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money Options
Option at FY-End (#) at FY-End ($)(1)
------------------------------ ----------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
- ----------------- ------------ ------------- ------------ -------------
<S> <C> <C> <C> <C>
Sayed Ali 30,000 45,000 0 0
</TABLE>
- ------------
(1) Based on the closing bid price for the Company's Common Stock at the close
of market on December 31, 1998 as reported by NASDAQ
EMPLOYMENT AGREEMENT
The Company has entered into a five year employment agreement with Sayed
Ali, the Company's President. The term of the agreement commenced January 1,
1997 and provides for annual base compensation of $96,000 and $108,000 over each
of the calendar years 1997 and 1998 and $120,000 thereafter. The agreement also
calls for Mr. Ali to receive 60,000 options to purchase Common Stock under the
Company's 1996 Stock Option Plan, exercisable at $3.30 per share, which vest
20,000 per year over the first three anniversaries of the date of grant. In
addition, Mr. Ali is eligible to receive annual cash bonuses as well as
additional option grants at the discretion of the Board of Directors. Finally,
the agreement provides that upon a termination of employment, Mr. Ali will be
entitled to a severance payment equal to his annual base compensation.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
The following table sets forth certain information known to the Company
with respect to the beneficial ownership of the Company's Common Stock as of
March 25, 1999 by (i) each person who is known by the Company to own
21
<PAGE>
beneficially more than 5% of the Company's Common Stock, (ii) each of the
Company's directors and executive officers, and (iii) all officers and
directors of the Company as a group. Except as otherwise listed below, the
address of each person is c/o Creative Host Services, Inc. 6335 Ferris
Square, Suites G-H, San Diego, California 92126.
<TABLE>
<CAPTION>
Name and Address of Owner Shares Beneficially Owned(1)
- -------------------------------------- --------------------------------
Number Percent(2)
--------------- --------------
<S> <C> <C>
Sayed Ali 985,000(3) 29.6%
David H. Sugerman 155,000 4.7%
17408 Superior Avenue
Northridge, CA 91325
Booker T. Graves 11,025(4) *
John P. Donahue, Jr. 10,000(4) *
Paul A. Karas 10,000(4) *
Tasneem Vakharia 35,000(5) 1.0%
All officers and directors as a group 1,051,025(6) 31.6%
(5 persons)
</TABLE>
- --------------------
* Less than one percent.
(1) Beneficial Ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or
investment power with respect to securities. Shares of Common Stock
subject to options warrants currently exercisable or convertible, or
exercisable or convertible within 60 days of March 25, 1999, are deemed
outstanding for computing the percentage of the person holding such option
or warrant but are not deemed outstanding for computing the percentage of
any other person. Except as pursuant to applicable community property
laws, the persons named in the table having sole voting and investment
power with respect to all shares of Common Stock beneficially owned.
(2) Does not include 1,228,093 shares of Common Stock issuable upon exercise of
outstanding warrants or 1,142,857 shares of Common Stock issuable upon
conversion of long term debt.
(3) Includes 50,000 shares issuable upon the exercise of options outstanding
under the Company's 1997 Stock Option Plan. Does not include 25,000 shares
issuable upon exercise of invested options which vest in January 2000.
(4) Includes 10,000 shares issuable upon the exercise of options outstanding
under the Company's 1997 Stock Option Plan. Does not include 5,000 shares
issuable upon exercise of invested options which vest in January 2000.
(5) Consists solely of shares issuable upon the exercise of options outstanding
under the Company's 1997 Stock Option Plan.
(6) Includes 115,000 shares issuable upon the exercise of options outstanding
under the Company's 1997 Stock Option Plan. Does not include 40,000 shares
issuable upon exercise of unvested stock options which vest over the one
year period subsequent to January 15, 1999.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
22
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Description Page No.
- ------------ ----------- --------
<C> <S> <S>
3.1 Amended and Restated Articles of Incorporation*
3.2 Bylaws*
4.1 Specimen Certificate for Common Stock*
4.3 Warrant Agreement (including form of Warrant
Certificate)*
10.1 1997 Stock Option Plan*
10.2 Employment Agreement between the Company and Sayed
Ali*
10.3 Lease Space In The Cedar Rapids Municipal Airport
Terminal For The Purpose of Operating Food/Beverage,
News/Gift, And Airline Catering Concessions dated as
of September 16, 1996 between the Company and Cedar
Rapids Airport Commission.*
10.4 Food And Beverage Concession Agreement And Lease dated
as of October 4, 1996 between the Company and Richland
-Lexington Airport District.*
10.5 Agreement between the Company and Delta Airlines.*
10.6 Concession And Lease Agreement dated as of May 24,
1996 between the Company and Lehigh-Northhampton
Airport Authority.*
10.7 Food And Beverage Concession Agreement And Lease
Bluegrass Airport between the Company and Lexington-
Fayette Urban County Airport Board.*
10.8 Food And Beverage Concession Agreement dated as of
July 26, 1995 between the Company and Outagamie
County.*
10.9 Food And Beverage Lease And Concession Agreement dated
as of May 17, 1996 between the Company and Roanoke
Regional Airport Commission.*
10.10 Food And Beverage Concession Agreement dated as of
October 24, 1995 between the Company and the County of
Dane.*
10.11 Food And Beverage Concession Lease Agreement dated as
of June 10, 1994 between the Company and the Port of
Portland.*
10.12 Concession Agreement dated as of March 25, 1995
between the Company and City of Los Angeles.*
10.13 License And Use Agreement Food/Beverage Service
Aspen/Pitkin County Airport 1994 Through 1999 dated as
of April 1994 between the Company and Board of County
Commissions of Pitkin County Colorado.*
10.14 Food Court Agreement dated as of November 14, 1996
between the Company and City and County of Denver.*
10.15 Agreement between the Company and the City and County
of Denver as of November 19, 1996.*
10.16 Agreement dated as of February 8, 1996 between the
Company and the County of Orange.*
10.17 Concession Agreement for Food and Beverage Operations
at the Des Moines International Airport between the
Company and the City of Des Moines, Iowa dated as of
June 2, 1997.**
10.18 Concession Agreement between the City of Los Angles
Department of Airports and the Companing Covering the
Operation and Management of the Food and Beverage
Package #3 Concession at Ontario International
Airport.**
10.19 Concession Agreement and Lease between the Piedmont
Triad Airport Authority and the Company.**
10.20 Form of Franchise Agreement.*
10.21 TCBY Franchise Agreement dated October 29, 1996
between TCBY Systems, Inc., and St. Clair Development
Corporation.*
10.22 Industrial Real Estate Lease between the Company and
WHPX-S Real Estate Limited Partnership.*
23.2 Consent of Stonefield Josephson, independent
accountants
</TABLE>
23
<PAGE>
- ---------
* Incorporated by reference from the exhibits included with the Company's
Registration Statement (No. 333-6722) on Form SB-2 filed with the SEC on
April 3, 1997.
**Incorporated by reference from the exhibits included with the Company's Annual
Report (No. 000-22845) on Form 10-KSB filed with the SEC on March 31, 1998.
(b) The following is a list of Current Reports on Form 8-K filed by the
Company during or subsequent to the last quarter of the fiscal year ended
December 31, 1998.
None.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 31, 1999 CREATIVE HOST SERVICES, INC.
By: /s/ Sayed Ali
------------------------
Sayed Ali, President
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
/s/ Sayed Ali Chairman of the Board and March 31, 1999
- ---------------------- President
Sayed Ali
/s/ Booker T. Graves Director March 31, 1999
- ----------------------
Booker T. Graves
/s/ John P. Donohue, Jr. Director March 31, 1999
- ----------------------
John P. Donohue, Jr.
/s/ Paul A. Karas Director March 31, 1999
- ----------------------
Paul A. Karas
24
<PAGE>
CREATIVE HOST SERVICES, INC.
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NO. EXHIBIT NUMBERED PAGE
- ----------- -------- -------------
<C> <S> <C>
</TABLE>
25
