Item 1. Business
General
Avado Brands, Inc., including its wholly owned subsidiaries (the "Company" or "Avado Brands"), is a full service, casual dining restaurant company, which owns three decentralized restaurant brands. At December 29, 2002, the Company owned and operated restaurants in 29 states including 120 Don Pablo's Mexican Kitchen restaurants, 66 Hops Restaurant o Bar o Brewery restaurants and four Canyon Cafe restaurants, which were held for sale, effective December 30, 2001. For the 52-week period ended December 29, 2002, restaurant sales for continuing operations were $441.6 million compared to $589.4 million in 2001. Restaurant sales for discontinued operations were $19.3 million compared to 2001 sales of $28.8 million. Each of the brands functions on a decentralized basis with its own executive management, purchasing, recruiting, training, marketing and restaurant operations. This consumer-based operating philosophy allows the Company to gain competitive advantage by sharing best practices and centralizing non-brand critical processes such as human resources, finance, treasury, accounting and capital formation.
In 2002, the Company continued to focus on its stated strategies of reducing debt, improving liquidity and increasing profitability. These strategies resulted in the execution of various management initiatives including, (i) the completion of a $75.0 million credit facility, (ii) the closure of under-performing restaurants, (iii) the divestiture of the Company's Canyon Cafe brand, (iv) the repurchase of outstanding public debt and (v) the induced conversion of the Company's Convertible Preferred Securities. During the first quarter of 2002, the Company completed a $75.0 million credit facility to replace its existing credit agreement and provide additional liquidity. The agreement provides a $35.0 million revolving credit facility and a $40.0 million term loan facility. Nineteen under-performing Don Pablo's and Hops locations were closed during 2002 and 11 Canyon Cafe restaurants were either closed or divested. Asset revaluation and other special charges of $67.5 million, including $22.1 million related to discontinued operations, were recorded during 2002 primarily as a result of restaurant closures and a $35.0 million writedown of goodwill pursuant to the Company's annual test of impairment of goodwill required by Statement of Financial Accounting Standards ("SFAS") No. 142, which the Company adopted effective at the beginning of 2002. No new restaurants were opened during 2002 and only three restaurants were opened during 2001 enabling the Company to focus on the operations of its existing restaurants. The Company's debt reduction strategies included the repurchase of $52.4 million in face value of its outstanding 11.75% Senior Subordinated Notes during 2002. In addition the conversion of 1,307,591 shares of the Company's outstanding Convertible Preferred Securities into common stock during 2002, reduced the Company's outstanding obligation with respect to those securities by $65.4 million. The Company also received proceeds of $13.0 million (including $3.9 million from discontinued operations) from the sale of other non-core assets and closed restaurant locations during the year.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS 144, which was adopted by the Company in the first quarter of 2002, supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions", for the disposal of a "Segment" of a business as defined in that Opinion. As a result of the adoption of SFAS 144, the Company has classified the revenues, expenses and related assets and liabilities of 11 Don Pablo's restaurants and eight Hops restaurants which were closed in 2002, plus one additional Don Pablo's restaurant which was under contract and held for sale at December 29, 2002 and subsequently sold in February 2003, as discontinued operations for all periods presented in the accompanying consolidated financial statements. The revenues, expenses and related assets and liabilities of Canyon Cafe, which was substantially divested during 2002, including the revenues, expenses and related assets and liabilities for the four Canyon Cafe locations which continue to be held for sale at December 29, 2002, the McCormick & Schmick's brand, which was divested in August 2001, and eight Don Pablo's and two Hops restaurants which were closed in 2001, have not been classified as discontinued operations in the accompanying consolidated financial statements. As the decision to divest these operations was made prior to the implementation of SFAS 144 and they did not meet the criteria for classification as discontinued operations under the provisions of APB Opinion No. 30, they are required to be classified within continuing operations under the provisions of SFAS 121.
Avado Brands' Restaurant Concepts
Don Pablo's
The first Don Pablo's was opened in Lubbock, Texas in 1985. The restaurants feature traditional Mexican dishes served in a distinctive, festive dining atmosphere reminiscent of a Mexican village plaza. Each restaurant is staffed with a highly experienced management team that is visible in the dining area and interacts with both customers and staff to ensure attentive customer service and consistent food quality. Items are prepared fresh on-site using high-quality ingredients at relatively low prices. The diverse menu, generous portions and attractive price/value relationship appeal to a broad customer base. The Don Pablo's mission is to win every guest every day by delivering real guest satisfaction through real people.
Don Pablo's is led by the brand's President, Robert Andreotolla. Mr. Andreotolla has over twenty years of experience in the restaurant industry and has been with Avado Brands since 1987. In 2002, Don Pablo's continued to make strides to improve its niche-leading position, including the addition of new members to the management and operational teams. Other strides included the development and implementation of new menu items, implementation of an aggressive national advertising campaign, and an improved focus on operational synergies, including improved expense category management.
Menu. The menu offers a wide variety of entrees and combination plates, including enchiladas and tacos served with various sauces and homemade salsa plus mesquite-grilled items such as chicken and beef fajitas. The menu also includes tortilla soup, a selection of salads, Mexican-style appetizers such as quesadillas and unique desserts. During 2002, the price of a typical meal was $4.99 to $6.99 for lunch and $7.99 to $11.99 for dinner. In addition to its regular menu, Don Pablo's offers lunch specials priced from $4.99 each and a children's menu. Full bar service is also provided. Alcoholic beverages accounted for approximately 17.9% of sales in 2002.
Restaurant Layout. Distinctive Mexican architecture and interior decor provide a casual, fun, dining atmosphere. The restaurants have an open, spacious feel, created with the use of sky-lights and a Mexican village plaza design, and are enhanced by an indoor fountain and the use of stucco, brick and tile, as well as plants, signs and artwork. Homemade tortillas cooked in the dining area underscore the commitment to fresh, authentic Mexican food. Both one- and two-story building designs are utilized. The two-story design features a balcony, which provides seating for bar patrons and dining customers waiting to be seated. The one-story design incorporates a smaller bar adjacent to the dining area. Both designs use high ceiling architecture and have similar dining capacities. Restaurants range in size from 6,000 square feet to 9,900 square feet with the average restaurant containing approximately 8,000 square feet. The restaurants generally have dining room seating for approximately 230 customers and bar seating for approximately 70 additional customers.
Unit Economics. In 2002, average unit volumes for the 120 restaurants that were open for the full year were $2.1 million. In 2002, Don Pablo's did not open any new restaurants and 11 under-performing restaurants were closed. These restaurants were generally in single unit markets or markets which the Company no longer intends to develop and were not generating positive cash flow.
Field Management. Management is shared by 18 directors of operations who report to two regional vice presidents of operations. The strategy is to have each director responsible for a limited number of restaurants, thus facilitating a focus on guest satisfaction, operations and unit profitability. The management staff of a typical restaurant consists of one general manager, an assistant general manager and two to four assistant managers, depending on volume. The restaurant management staff is eligible to receive bonuses based on achieving budgeted PAC (profit after controllables) and sales as well as meeting several internal quality assurance goals.
Advertising and Marketing. Don Pablo's advertising and marketing strategy combines the use of television and radio and print advertising in core markets, along with a focus on local efforts and community involvement at all locations designed to increase traffic counts and appeal to consumer desires for new and exciting tastes. In 2002, advertising expense was 5.0% of sales.
Hops Restaurant-Bar-Brewery
The first Hops was opened in Clearwater, Florida in 1989. Each restaurant offers a diverse menu of popular foods, freshly prepared in a display kitchen with a strict commitment to quality and value. Additionally, each restaurant features an on-premises microbrewery. Hops is led by the brand's President, Ronald Magruder. Mr. Magruder joined Hops in 2000, bringing with him nearly 30 years of experience in the restaurant industry. He was formerly the Chairman of the Board of the National Restaurant Association, the Chief Operating Officer of CBRL Group's Cracker Barrel Old Country Store, and Vice Chairman of Darden Hospitality.
Menu. The restaurants feature an American-style menu that includes top choice steaks, smoked baby back ribs, fresh fish, chicken and pasta dishes, deluxe burgers and sandwiches, hand-tossed salads with homemade dressings, appetizers, soups and desserts. The menu offers separate selections for children. The price of a typical meal, including beverages, ranges from $6.00 to $10.00 per person for lunch and $13.00 to $18.00 per person for dinner. Each restaurant offers four distinctive lager-style beers and ales, plus a variety of blends of these beers as well as seasonal beers, that are brewed on-premises. An observation microbrewery at each restaurant allows customers to view the entire brewing process. Full bar service is also available at each restaurant. Alcoholic beverages accounted for approximately 16.8% of sales in 2002.
Restaurant Layout. Restaurants range in size from approximately 5,000 to 7,300 square feet. With booth seating throughout approximately 70% of each restaurant, guests enjoy the comfort of privacy and soft lighting amongst wood and brick surfaces in a somewhat rustic design. The ambiance and decor complements the on-premise copper and stainless steel brewing equipment which is visible from both the bar and dining room. Customers are invited to tour the brewery, which occupies from 450 to 750 square feet, with Hops' on premise Brewmaster.
Unit Economics. In 2002, average unit volumes for the 66 restaurants that were open for the full year were $2.5 million. In 2002, Hops did not open any new restaurants and eight under-performing restaurants were closed. These restaurants were generally in single unit markets and were not generating positive cash flow.
Field Management. Management is shared by four operating partners and six area supervisors who report to two regional vice presidents who report to the brand's Chief Executive Officer. Each operating partner or area supervisor is ultimately responsible for six to eight restaurants, thus facilitating a focus on quality of operations and unit profitability. The management staff of a typical restaurant consists of one managing partner and three assistant managers. Managing Partners are eligible to receive bonuses equal to a percentage of their restaurant's controllable income, subject to operating above a minimum-operating margin. Assistant managers are eligible to receive bonuses equal to a percentage of their budgeted controllable income achieved.
Advertising and Marketing. Hops' advertising and marketing strategy has historically focused primarily on grassroots efforts utilizing special promotions in local markets and special event equipment designed to increase customer awareness and name recognition. In recent years, advertising and marketing efforts were expanded to include television advertising in core markets as well as the continued use of radio advertising, outdoor boards and print media in regional editions of national publications. In 2002, Hops introduced an aggressive coupon campaign focused on offering value and driving guest count. These strategies are expected to continue into 2003 with the continued use of television and radio advertising, print media, limited outdoor advertising, as well as ongoing grassroots programs. Limited time coupon offers will also be a part of the 2003 marketing efforts. In 2002, advertising expense was 4.4% of sales.
Other Restaurant Operational Functions
Quality Control. All levels of management are responsible for ensuring that restaurants are operated in accordance with strict quality standards. Management structure allows restaurant general managers to spend a significant portion of their time in the dining area of the restaurant supervising staff and providing service to customers. Compliance with quality standards is monitored by periodic on-site visits and formal periodic inspections by multi-unit management as well as brand executive management.
Training. Each brand requires employees to participate in formal training programs. Management training programs generally last ten to 16 weeks and encompass three general areas, including (i) all service positions, (ii) management accounting, personnel management, and dining room and bar operations and (iii) kitchen management. Each new Don Pablo's and Hops manager also spends an additional week at the respective brand's headquarters to complete training on guest service, sales building, cost controls and employee development. Management positions at new restaurants are typically staffed with personnel who have had previous experience in a management position at another of the respective brands' restaurants. In addition, a highly experienced opening team assists in opening each restaurant. Prior to opening, all personnel undergo intensive training conducted by the restaurant opening team.
Purchasing. Avado Brands strives to take advantage of purchasing synergies in all operational areas. The Company coordinates its food and beverage purchasing efforts whenever possible in order to obtain consistent quality items at competitive prices from reliable sources for its brands. The Company continually researches and tests various products in an effort to maintain the highest quality products and to be responsive to changing customer tastes. Overall, purchasing is the responsibility of the brands, which use one primary distributor for food products other than locally purchased produce. All food and beverage products are available on short notice from alternative, qualified suppliers. The Company has not experienced any significant delays in receiving food and beverage inventories, restaurant supplies or equipment.
Restaurant Reporting. Financial controls are maintained through a centralized accounting system at the corporate headquarters which includes payroll, accounts payable, general ledger, treasury services and taxes. Each brand maintains their own independent operational financial analysis and support. A point-of-sale reporting system is utilized in each restaurant. Restaurant management submits to corporate and brand headquarters various daily and weekly reports of cash, deposits, sales, labor costs, etc. Physical inventories of all food, beverage and supply items are taken at least monthly. Operating results compared to prior periods and budgets are closely monitored by both brand and corporate personnel.
Trademarks and Licenses
Avado Brands has registered the principal trademarks and service marks used by its restaurant brands with the United States Patent and Trademark Office. The Company believes that its trademarks and service marks are integral and important factors in establishing the identity and marketing of its restaurant brands. Although the Company is aware of certain marks used by other persons in certain geographical areas which may be similar in certain respects to the Company's marks, the Company believes that these other marks will not adversely affect the Company or its business.
Governmental Regulation
Alcoholic Beverage Regulation. Each restaurant is subject to licensing and regulation by a number of governmental authorities, which include alcoholic beverage control and health, safety and fire agencies in the state, county and municipality in which the restaurant is located. Difficulties or failures in obtaining the required licenses or approvals could delay or prevent the opening of a new restaurant in a particular area. Alcoholic beverage control regulations require restaurants to apply to a state authority and, in certain locations, county or municipal authorities for a license or permit to sell alcoholic beverages on the premises and to provide service for extended hours and on Sundays. Some counties prohibit the sale of alcoholic beverages on Sundays. Typically, licenses or permits must be renewed annually and may be revoked or suspended for cause at any time. Alcoholic beverage control regulations relate to numerous aspects of a restaurant's operations, including minimum age of patrons and employees, hours of operation, advertising, wholesale purchasing, inventory control and handling, storage and dispensing of alcoholic beverages.
The Company may be subject in certain states to "dram-shop" statutes which generally provide a person injured by an intoxicated patron the right to recover damages from an establishment that wrongfully served alcoholic beverages to the intoxicated person. The Company carries liquor liability coverage as part of its existing comprehensive general liability insurance coverage.
Brewpub Regulation. Hops is subject to additional regulations as a result of the on-premises microbrewery in each restaurant. Historically, the alcoholic beverage laws of most states prohibited the manufacture and retail sale of beer to consumers by a single person or entity or related persons or entities. At present, all 50 states allow for the limited manufacture and retail sale of microbrewed beer by restaurants and bars classified as "brewpubs" under state
law. The Hops restaurants are required to comply with such state brewpub laws in order to obtain necessary state licenses and permits. Additionally, many states impose restrictions on the operations of brewpubs, such as a prohibition on the bottling of beer, a prohibition on the sale of beer for consumption off of restaurant premises, and a limitation on the volume of beer that may be brewed at any location, as well as certain geographic limitations. In addition, certain states limit the number of brewpubs that may be owned by any person or entity or a related group of entities. The Company's ability to own and operate Hops restaurants in any state is and will continue to be dependent upon its ability to operate within the regulatory scheme of such states.
Other Regulation. The Company's restaurant operations are also subject to federal and state laws governing such matters as minimum wage, working conditions, overtime and tip credits.
Competition
The restaurant industry in the U.S. is highly competitive with respect to price, service, location, and food type and quality, and competition is expected to intensify. There are well-established competitors with greater financial and other resources than Avado Brands. Some of these competitors have been in existence for a substantially longer period than Avado Brands and may be better established in the markets where the Company's restaurants are or may be located. The restaurant business is often affected by changes in consumer tastes, national, regional or local economic conditions, demographic trends, traffic patterns, the availability and cost of suitable locations, and the type, number and location of competing restaurants. The Company also experiences competition in attracting and retaining qualified management level operating personnel. In addition, factors such as inflation, increased food, labor and benefits costs, and difficulty in attracting hourly employees may adversely affect the restaurant industry generally and Avado Brands' restaurants in particular.
Employees
As of December 29, 2002, Avado Brands employed approximately 12,500 persons. Of those employees, approximately 150 held non-restaurant management or administrative positions, 850 were involved in restaurant management, and the remainder were engaged in the operation of restaurants. Management believes that the Company's continued success will depend to a large degree on its ability to attract and retain quality management employees. While the Company will have to continually address a level of employee attrition normally expected in the food-service industry, Avado Brands has taken steps to attract and retain qualified management personnel through the implementation of a variety of employee benefit plans, including an Employee Stock Ownership Plan, a 401(k) Plan, and an incentive stock option plan for its key employees. None of the Company's employees is covered by a collective bargaining agreement. The Company considers its employee relations to be good.
Item 2.
Item 2. Properties
The Company owns a renovated historic building in Madison, Georgia, containing approximately 19,000 square feet of office space and an adjoining building containing approximately 41,000 square feet of office space. These office buildings serve as the Company's corporate headquarters as well as the headquarters of Don Pablo's. The headquarters for Hops is located in approximately 15,000 square feet of leased space in Tampa, Florida. The Company believes that its corporate and brand headquarters are sufficient for its present needs.
In selecting restaurant sites, the Company attempts to acquire prime locations in market areas to maximize both short- and long-term revenues. Site selection is made by the Company's development department, subject to executive officer approval and final approval by the Company's management committee. Within the target market areas, the Company evaluates major retail and office concentrations and major traffic arteries to determine focal points. Site specific factors include visibility, ease of ingress and egress, proximity to direct competition, accessibility to utilities, local zoning regulations, laws regulating the sale of alcoholic beverages, and various other factors.
As of February 10, 2003, the Company operated 119 Don Pablo's and 66 Hops restaurants. The Company leases the underlying real estate on which 110 of the restaurants are located and leases both the buildings and underlying real estate for an additional 31 restaurants. The remaining 44 restaurants and related real estate are owned by the Company. In addition, the Company continues to operate four Canyon Cafe restaurants, which are held for sale. The Company leases the underlying real estate on which these restaurants are located in the states of Texas and Washington.
The following table presents restaurant locations by brand for Don Pablo's and Hops:
Don Pablo's Hops Total ------------------------- --------------- ------------ -------------
Florida 16 31 47 Ohio 16 2 18 Texas 13 13 Indiana 11 11 Virginia 7 3 10 Minnesota 7 2 9 Pennsylvania 9 9 Michigan 8 8 Colorado 7 7 South Carolina 3 4 7 Maryland 5 1 6 Tennessee 4 2 6 Georgia 1 4 5 New York 5 5 North Carolina 1 4 5 Kentucky 4 4 Oklahoma 4 4 Connecticut 3 3 New Jersey 2 2 Delaware 1 1 Illinois 1 1 Iowa 1 1 Mississippi 1 1 Missouri 1 1 Rhode Island 1 1 ------------------------- --------------- ------------ ------------- Totals 119 66 185 ------------------------- --------------- ------------ -------------
Item 3.
Item 3. Legal Proceedings
In 1997, two lawsuits were filed by persons seeking to represent a class of shareholders of the Company who purchased shares of the Company's common stock between May 26, 1995 and September 24, 1996. Each plaintiff named the Company and certain of its officers and directors as defendants. The complaints alleged acts of fraudulent misrepresentation by the defendants which induced the plaintiffs to purchase the Company's common stock and alleged illegal insider trading by certain of the defendants, each of which allegedly resulted in losses to the plaintiffs and similarly situated shareholders of the Company. The complaints each sought damages and other relief. In 1998, one of these suits (Artel Foam Corporation Pension Trust, et al. v. Apple South, Inc., et al., Civil Action No. CV-97-6189) was dismissed. An amended complaint, styled John Bryant, et al. vs. Apple South, Inc., et al. consolidating previous actions was filed in January 1998. During 1999, the Company received a favorable ruling from the 11th Circuit Court of Appeals relating to the remaining suit. As a result of the ruling, the District Court again considered the motion to dismiss the case, and the defendants renewed their motion to dismiss in December 1999. In June 2000, the District Court dismissed with prejudice the remaining suit. The plaintiffs appealed the court's final decision. Upon hearing the appeal, a three-judge panel reversed the motion to dismiss and gave the plaintiffs the opportunity to amend their suit and state with more particularity their allegations. The plaintiffs have made a settlement offer of $2.5 million, which has been accepted by the Company's insurer. The Company believes that the members of the class will give final consent to the insurer's offer and, in the near future, the case will be dismissed as settled, at no additional cost to the Company.
In September 2002, the Company was named as the Defendant in an action filed in the U.S. District Court for the Middle District of Georgia. The Plaintiff, Bank of America Securities, LLC, alleges that it is owed a fee of approximately $1.0 million, relating to the Company's sale of the McCormick & Schmick's brand. The Company believes that the allegations in the complaint are without merit and plans to vigorously contest the complaint. This litigation is currently at a preliminary stage and no discovery has occurred. Thus, it is not possible for the Company to evaluate the likelihood of the plaintiff prevailing on its claims. Because this claim is a suit on a contract, the Company's existing insurance policies do not provide coverage. There can be no assurance that an adverse determination in this litigation would not have a material adverse effect on the Company's financial condition or results of operations.
The Company is involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's consolidated financial position or results of operations.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
The Company did not submit any matter to a vote of its security holders during the fourth quarter of the fiscal year ended December 29, 2002.
PART II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
Corporate Headquarters Independent Auditors Avado Brands, Inc. KPMG LLP Hancock at Washington 303 Peachtree Street, N.E. Madison, GA 30650 Suite 2000 Telephone: (706) 342-4552 Atlanta, GA 30308
Investor Relations Transfer Agent and Registrar Jillan Hatchett, Senior Investor Relations Analyst SunTrust Bank, Atlanta Hancock at Washington Corporate Trust Division Madison, GA 30650 P.O. Box 4625 Telephone: (706) 342-4552 Atlanta, GA 30302 Facsimile: (706) 343-2434 E-mail: jhatchet@corp.avado.com
Investor Information
The Company's common stock currently trades on the Over-The-Counter Bulletin Board, maintained by the National Association of Securities Dealers, under the symbol "AVDO". The Company's Convertible Preferred Securities are traded on the over the counter market under the symbol "AVDOP".
Shareholder Information
As of February 10, 2003, there were approximately 6,400 shareholders of record of the Company's common stock.
Stock Price Performance
A summary of the high and low sales prices per share for the Company's common stock is presented below:
High Low ------------------------ ---------------- --------------- First Quarter $ 0.45 $ 0.16 Second Quarter $ 0.54 $ 0.19 Third Quarter $ 0.34 $ 0.18 Fourth Quarter $ 0.39 $ 0.16
First Quarter $ 0.88 $ 0.38 Second Quarter $ 0.75 $ 0.35 Third Quarter $ 0.79 $ 0.25 Fourth Quarter $ 0.63 $ 0.08 ------------------------- ---------------- ---------------
Dividends
The Company has not paid any cash dividends on its common stock during the three year period ended December 29, 2002.
Item 12 of Part III contains information concerning securities authorized for issuance under the Company's equity compensation plans.
Item 6.
Item 6. Selected Financial Data
Consolidated Statement of Earnings Data and Per Share Data are presented for continuing operations with the exception of 1999 and 1998 which have not been restated for the 12 Don Pablo's and eight Hops restaurants which are included in discontinued operations pursuant to the Company's adoption of Statement of Financial Accounting Standards ("SFAS") No. 144 (See Note 1 - Basis of Presentation). The Company has also not restated 1999 and 1998 to reflect the adoption of EITF 01-9 "Accounting for Consideration Given by a Vendor to a Customer" as it was impractical to obtain the information.
See additional discussion of financial results at Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Item 8, "Financial Statements and Supplementary Data".
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
For an understanding of the significant factors that influenced the performance of Avado Brands, Inc. (the "Company") during the past three fiscal years, the following discussion should be read in conjunction with the consolidated financial statements appearing elsewhere in this Form 10-K. The Company's fiscal year is a 52- or 53-week year ending on the Sunday closest to December 31. Accordingly, the following discussion is for the 52 weeks ended December 29, 2002 ("2002"), the 52 weeks ended December 30, 2001 ("2001") and the 52 weeks ended December 31, 2000 ("2000").
Consolidated Overview of 2002
In 2002, the Company continued to focus on its stated strategies of reducing debt, improving liquidity and increasing profitability. These strategies resulted in the execution of various management initiatives including, (i) the completion of a $75.0 million credit facility, (ii) the closure of under-performing restaurants, (iii) the divestiture of the Company's Canyon Cafe brand, (iv) the repurchase of outstanding public debt and (v) the induced conversion of the Company's Convertible Preferred Securities. During the first quarter of 2002, the Company completed a $75.0 million credit facility to replace its existing credit agreement and provide additional liquidity. The agreement provides a $35.0 million revolving credit facility and a $40.0 million term loan facility. Nineteen under-performing Don Pablo's and Hops locations were closed during 2002 and 11 Canyon Cafe restaurants were either closed or divested. Asset revaluation and other special charges of $67.5 million, including $22.1 million related to discontinued operations, were recorded during 2002 primarily as a result of restaurant closures and a $35.0 million writedown of goodwill pursuant to the Company's annual test of impairment of goodwill required by Statement of Financial Accounting Standards ("SFAS") No. 142, which the Company adopted effective at the beginning of 2002. No new restaurants were opened during 2002 and only three restaurants were opened during 2001 enabling the Company to focus on the operations of its existing restaurants. The Company's debt reduction strategies included the repurchase of $52.4 million in face value of its outstanding 11.75% Senior Subordinated Notes during 2002. In addition the 2002 conversion of 1,307,591 shares of the Company's outstanding Convertible Preferred Securities into common stock during 2002, reduced the Company's outstanding obligation with respect to those securities by $65.4 million. The Company also received proceeds of $13.0 million (including $3.9 million from discontinued operations) from the sale of other non-core assets and closed restaurant locations during the year.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS 144, which was adopted by the Company in the first quarter of 2002, supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions", for the disposal of a "Segment" of a business as defined in that Opinion. As a result of the adoption of SFAS 144, the Company has classified the revenues and expenses of 11 Don Pablo's restaurants and eight Hops restaurants which were closed in 2002, plus one additional Don Pablo's restaurant which was under contract and held for sale at December 29, 2002 and subsequently sold in February 2003, as discontinued operations for all periods presented in the accompanying consolidated financial statements. The revenues, expenses and related assets and liabilities of Canyon Cafe, which was substantially divested during 2002, including the revenues, expenses and related assets and liabilities for the four Canyon Cafe locations which continue to be held for sale at December 29, 2002, the McCormick & Schmick's brand, which was divested in August 2001, and eight Don Pablo's and two Hops restaurants which were closed in 2001, have not been classified as discontinued operations in the accompanying consolidated financial statements. As the decision to divest these operations was made prior to the implementation of SFAS 144 and they did not meet the criteria for classification as discontinued operations under the provisions of APB Opinion No. 30, they are required to be classified within continuing operations under the provisions of SFAS 121.
Comparison of Historical Results - Fiscal Years 2002, 2001 and 2000
Restaurant Sales
Restaurant sales for 2002 decreased 25.1% to $441.6 million from $589.4 million in 2001. Declining revenues were primarily due to the divestitures of Canyon Cafe in 2002 and McCormick & Schmick's in 2001. For continuing operations
related to the Company's Don Pablo's and Hops brands, restaurant sales for 2002 were $414.6 million compared to $441.4 million in 2001. Declining revenues were primarily a result of a decrease in same-store sales at Don Pablo's and Hops and a decrease in operating capacity from the closure of eight Don Pablo's and two Hops in 2001. The revenues and expenses related to 11 Don Pablo's restaurants and eight Hops restaurants which were closed during 2002, plus one additional Don Pablo's restaurant which is held for sale at December 29, 2002, have been included in discontinued operations for all periods presented in the accompanying consolidated statements of earnings. Same-store sales for 2002 decreased by approximately 6% at Don Pablo's and 5% at Hops as compared to 2001 (same-store sales comparisons included all restaurants open for 18 months as of the beginning of 2002).
Restaurant sales for 2001 decreased 9.4% to $589.4 million from $650.3 million in 2000 reflecting decreased sales at Don Pablo's, Hops and Canyon Cafe coupled with a decline in revenue associated with the divestiture of the Company's McCormick & Schmick's brand. For continuing operations related to the Company's Don Pablo's and Hops brands, restaurant sales for 2001 were $441.4 million compared to $448.3 million in 2000. The decrease in 2001 sales for these brands, as well as Canyon Cafe sales, was attributable to a slight decrease in operating capacity as well as declining same-store-sales. The decrease in Don Pablo's and Hops' operating capacity was generated by the closure of 10 restaurants during the first quarter of 2001, which was partially offset by a full-year's sales from 12 restaurants opened in 2000 and a partial year's sales from 1 restaurant opened in the first quarter of 2001. Canyon Cafe's operating capacity decreased by 15% due to the closure of 3 restaurants during the first quarter of 2001, which was partially offset by a full-year's sales from 1 restaurant opened in 2000. Same-store-sales comparisons for 2001 (for restaurants open a full 18 months at the beginning of 2001) were approximately 2% lower at Don Pablo's and 1% lower at Hops. Sales were adversely impacted during the year by continued economic uncertainty as well as the terrorist attacks on the United States.
Operating Expenses
The following table sets forth the percentages which certain items of income and expense bear to total restaurant sales for the operations of the Company's restaurants for the years ended 2002, 2001 and 2000.
Fiscal 2002 2001 2000 - ------------------------------------------------------------------------------- Restaurant sales: Canyon Cafe 6.1 % 5.5 % 6.1 % Don Pablo's 56.8 45.5 43.0 Hops 37.1 29.4 25.9 McCormick & Schmick's - 19.6 25.0 - ------------------------------------------------------------------------------- Total restaurant sales 100.0 100.0 100.0 - ------------------------------------------------------------------------------- Operating expenses: Food and beverage 28.3 28.5 29.1 Payroll and benefits 33.8 32.4 31.8 Depreciation and amortization 3.4 3.3 3.6 Other operating expenses 26.8 26.6 25.0 General and administrative expenses 6.0 5.3 5.7 Loss (gain) on disposal of assets 0.1 (2.1) 3.5 Asset revaluation and other special charges 10.3 10.4 5.5 - ------------------------------------------------------------------------------- Total operating expenses 108.7 104.4 104.2 - ------------------------------------------------------------------------------- Operating loss (8.7)% (4.4) (4.2)% - -------------------------------------------------------------------------------
Food and Beverage Costs
Food and beverage costs, as a percent of sales, decreased 0.2% in 2002 due primarily to the divestiture of McCormick & Schmick's in the third quarter of 2001. Prior to divestiture, food and beverage costs, as a percent of sales, for the McCormick & Schmick's brand were higher than the overall Company average. For 2001, food and beverage costs as a percent of sales decreased by 0.6% as a result of continued efforts to maximize purchasing synergies at Don Pablo's and Hops.
Payroll and Benefit Costs
Payroll and benefit costs, as a percent of sales, increased 1.4% in 2002 predominately due to declining sales volumes at each of the Company's brands which generated an increase in the fixed component of payroll and benefits. For 2001, payroll and benefits costs, as a percent of sales, increased 0.6%. This increase was primarily a result of an increase in the number of management positions at Hops coupled with the restructuring of management bonus programs and an increase in hourly labor as a percent of sales resulting from a decline in sales volumes at Canyon Cafe, Don Pablo's and Hops.
Depreciation and Amortization
Depreciation and amortization, as a percent of sales, increased 0.1% in 2002 primarily due to declining sales volumes. These increases were somewhat offset by the discontinuation of depreciation expense on the fixed assets of 11 Don Pablo's and eight Hops restaurants which were closed during the year. In 2001, a 0.3% decrease in depreciation expense, as a percent of sales, was related to (i) the discontinuation of depreciation expense on the fixed assets of 13 under-performing restaurants which were closed in the first quarter of 2001, (ii) the discontinuation, beginning in June, of depreciation related to the McCormick & Schmick's assets which were sold during the third quarter of 2001, (iii) a reduction in depreciation related to the Canyon Cafe assets which were classified as held for sale at December 30, 2001 and (iv) the completion of a sale-leaseback transaction, during the fourth quarter of 2000, which reduced depreciation expense and increased rent expense.
Other Operating Expenses
Other operating expenses, as a percent of sales, increased 0.2% in 2002 primarily as a result of declining sales volumes which generated an increase in the fixed component of other operating expenses. These increases were somewhat offset by (i) decreases in utility costs as a result of unseasonably warm weather during the first quarter of 2002 and (ii) decreases in costs associated with new manager training at Don Pablo's and Hops due to improved management retention. In 2001, other operating expenses, as a percent of sales, increased 1.6%. This increase was a result of (i) increased advertising expenditures at Hops, (ii) an increase in rent expense, due in part to a sale-leaseback transaction completed in the fourth quarter of 2000 that reduced debt and related interest expense as well as depreciation expense, (iii) an increase in utility costs affecting substantially all of the Company's restaurants and (iv) an increase in training costs at Don Pablo's related to a focus on customer service initiatives and the timing of new-manager training. Increased operating expenses were somewhat offset by a decrease in preopening expenses resulting from only one new restaurant opened in 2001 compared to 12 restaurants opened during 2000.
General and Administrative Expenses
General and administrative expenses were 6.0% of sales in 2002 compared to 5.3% in 2001 and 5.7% in 2000. The increase in 2002 over 2001 was primarily due to a decline in sales volumes. The decrease in 2001 over 2000 was primarily attributable to synergies gained from the consolidation of the Don Pablo's and Canyon Cafe headquarters into the Madison, Georgia corporate office facility in the second quarter of 2000 and the elimination of certain management positions in the first quarter of 2001. As a result, decreasing sales volumes did not generate a corresponding increase in general and administrative expenses as a percent of sales.
Loss (Gain) on Disposal of Assets
Loss on disposal of assets of $0.6 million for 2002 reflects a $0.7 million loss related to the divestiture of Canyon Cafe and $0.5 million in losses on the sale of various restaurant properties. These losses were partially offset by a $0.6 million gain related to an adjustment to amounts receivable from the divestiture of McCormick & Schmick's.
A gain on disposal of assets of $12.4 million in 2001 reflects the sale of McCormick & Schmick's which was somewhat offset by the write off of deferred loan costs associated with the Company's revolving credit facility which was repaid with proceeds from the sales transaction, as well as the net result of the sale of an office facility in Bedford, Texas and the sale of various closed restaurant properties and miscellaneous assets. In addition, the Company
recorded a gain of $6.9 million generated by a 2001 amendment to its interest rate swap agreement. In 2000, the loss on disposal of assets of $22.8 million primarily reflects the sale of a 20-percent equity interest in United Kingdom-based Belgo Group PLC for $8.5 million and the commitment to exit unprofitable U.S. joint venture investments with Belgo Group PLC and PizzaExpress PLC. In 2000, the Company also recorded charges to adjust certain assets held for sale, including the office facility in Bedford, Texas, to estimated net realizable value. In addition, certain corporate assets, which were not expected to have a future value, were written off.
Asset Revaluation and Other Special Charges
Asset revaluation and other special charges totaled $45.4 million in 2002. These charges, which were predominately non-cash, included a $7.0 million asset impairment charge related primarily to underperforming restaurants and costs associated with sites that are no longer expected to be developed, a $3.2 million reduction to the carrying value of the Company's assets held for sale related primarily to Canyon Cafe and a $35.0 million write off of goodwill related to the Hops brand. The goodwill impairment charge was recorded as a result of the Company's annual test of impairment as required by SFAS No. 142, "Goodwill and Other Intangible Assets", which was adopted effective at the beginning of 2002. Under SFAS 142, the Company is required to evaluate goodwill for impairment by comparing the fair value of the related reporting unit to the reporting unit's carrying value. Beginning in fiscal 2002, the Company determined that Hops meets the requirements of a separate reporting unit and assessed goodwill for possible transition impairment and concluded that there was no impairment of goodwill. At the beginning of the fourth quarter of 2002, the Company determined the fair value of the Hops brand based on an internal valuation of its historical and projected operating performance and restaurant development plans. Based on the Company's estimated fair value, it was determined that the fair value of Hops exceeded its carrying value indicating potential goodwill impairment. Under SFAS 142, the indication of goodwill impairment requires the completion of an additional evaluation whereby an "implied" fair value of goodwill is identified. This implied value is determined by allocating the fair value of the reporting unit to all of the assets and liabilities of the reporting unit in a manner similar to a purchase price allocation. Any residual fair value after this allocation is the implied fair value of the reporting unit goodwill. Using this methodology, the Company determined that the implied fair value of the Hops goodwill was $0. Accordingly, an impairment charge was recorded to write off the full balance of Hops goodwill as of December 29, 2002. The decrease in Hops' fair value and corresponding goodwill impairment charge was a result of a decline in the brand's 2002 sales and operating performance which prompted the Company to close eight underperforming locations and to halt new restaurant development in the near term. In addition, the fair value of the brand was impacted by overall economic uncertainty which has negatively impacted the Company's restaurants.
In 2001, asset revaluation and other special charges totaled $61.5 million. These charges, which were predominately non-cash, included a $45.0 million non-cash asset impairment charge at Canyon Cafe. A continued deterioration of sales and corresponding lack of operating performance improvement resulted in a carrying amount of assets which exceeded the sum of expected future cash flows associated with such assets. As a result, an impairment loss was recorded, under the provisions of SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", based on the difference between the estimated fair value and the carrying amount of the Canyon Cafe assets. During the fourth quarter of 2001, the Company finalized its decision to divest the Canyon Cafe brand. At December 29, 2002 and December 30, 2001, the assets and liabilities of Canyon Cafe have been classified as assets held for sale. The Company also recorded an asset impairment charge of $3.6 million related primarily to under-performing Don Pablo's and Hops restaurants along with an $11.1 million allowance against the ultimate realization of notes receivable from Tom E. DuPree, Jr., the Company's Chairman and Chief Executive Officer. The allowance on Mr. DuPree's notes was established based on the estimated fair value of the underlying collateral which secured the notes. The remaining $1.8 million in asset revaluation and other special charges was attributable primarily to employee severance and other payroll related costs.
In 2000, asset revaluation and other special charges totaled $35.7 million. These charges, which were predominately noncash, reflect the fourth quarter decision to close 13 underperforming restaurants including four Don Pablo's, three Canyon Cafes and two Hops restaurants which were closed in early January 2001 and four additional Don Pablo's which were closed in March 2001. The Company recorded a $22.3 million charge related to these closings which included adjusting the underlying fixed assets to estimated net realizable value as well as accruals for lease terminations and other related closing costs. The Company also recorded an asset revaluation charge of $8.6 million generated primarily by the lack of significant new restaurant development planned for the next several years including the write off of costs associated with sites that are no longer
expected to be developed in addition to other related development costs which are not anticipated to be fully recoverable. In addition, in connection with the consolidation of the Don Pablo's and Canyon Cafe office facilities and the conclusion of the strategic alternatives evaluation, the Company recorded charges in the second and third quarters of $3.2 million related to employee severance and other costs associated with the office consolidations and $1.6 million associated with the completion of the strategic alternatives evaluation.
Interest and Other Expenses
Net interest expense for 2002 was $31.1 million compared to $35.3 million in 2001. Decreased interest expense for 2002 was primarily due to the divestiture of McCormick & Schmick's, the proceeds of which were used to repay $95.8 million outstanding under the Company's revolving credit facility during the third quarter of 2001, and the Company's $52.4 million repurchase, during 2002, of its 11.75% Senior Subordinated Notes due 2009, which resulted in a $3.1 million reduction in interest expense during 2002. Decreases in interest expense were somewhat offset by unfavorable mark-to-market adjustments recorded during the first quarter of 2002 under a fixed-to-floating interest rate swap agreement, which was terminated on March 25, 2002, and by increased interest charges incurred primarily during the first quarter of 2002 related to past due sales and use, property and other taxes.
In 2001, interest expense decreased to $35.3 million from $38.3 million in 2000. The decrease was predominately attributable to (i) the divestiture of McCormick & Schmick's, the proceeds of which were used to repay $95.8 million outstanding under the Company's revolving credit facility on August 22, 2001 and (ii) favorable mark-to-market adjustments under a fixed-to-floating interest rate swap agreement. Decreases in interest expense were somewhat offset by increased interest charges on extended payment terms related to accounts payable.
Distribution expense on preferred securities relates to the Company's $3.50 term convertible securities with a liquidation preference of $50 per security and convertible into 3.3801 shares of Avado Brands common stock for each security (the "TECONS"). Expenses related to these securities have decreased as a result of the conversion of 86,128 of the securities into 291,115 shares of common stock during 2001, coupled with 1,307,591 additional conversions in 2002 into 4,419,789 shares of common stock all of which were issued from treasury stock. The Company has the right to defer quarterly distribution payments on the Convertible Preferred Securities for up to 20 consecutive quarters and has deferred all such payments beginning with the December 1, 2000 payment until December 1, 2005. The Company may pay all or any part of the interest accrued during the extension period at any time.
In June 2002, the Company made a one-time distribution payment of accrued interest, totaling $5.4 million or $4.25 per share, to holders of its TECONS. Of the 1,307,591 shares converted during 2002, 1,200,391 were converted in conjunction with this distribution payment. As a result of these conversions, annual distribution expense on the remaining TECONS outstanding will be approximately $0.2 million.
During 2002, other income related primarily to the abatement of previously recorded sales, use and property tax penalties. In 2001 and 2000, other expense included amortization of goodwill. As a result of the Company's first quarter 2002 adoption of SFAS 142, "Goodwill and Other Intangible Assets", no goodwill amortization was recorded in 2002.
Other expenses during 2001 relate primarily to amortization of goodwill and the incurrence of various tax penalties in addition to other miscellaneous non-operating and typically non-recurring income and expenses. These expenses increased in 2001 compared to 2000 primarily due to the incurrence of tax penalties.
Income Tax Expense
Although the Company incurred a loss from continuing and discontinued operations before income taxes of $63.1 million for 2002, the Company recorded an income tax expense for the year of $0.4 million. This was principally due to the write-down of the Hops goodwill of $35.0 million, including $20.8 million that was not deductible for tax purposes. As a result of this permanent book-tax basis difference, income tax benefit for 2002 was $15.0 million, before the additional tax expense of $15.4 million for the increase in the valuation allowance for deferred tax assets.
In 2001, the Company incurred a loss from continuing and discontinued
operations before income taxes of $84.1 million, however, the Company recorded an income tax expense for the year of $11.2 million. This was partly due to the sale of McCormick & Schmick's being treated as an asset sale for tax purposes. For financial statement purposes, goodwill of approximately $49.6 million relating to the assets sold reduced the reported gain on sale, but was not deductible for tax purposes. In addition, the $45.0 million write down of Canyon Cafe assets included approximately $33.5 million of goodwill that is non-deductible for tax purposes. Primarily as a result of these significant permanent book-tax basis differences, income tax expense for 2001 was $0.4 million, before the additional tax expense of $10.8 million for the increase in the valuation allowance for deferred tax assets.
The Company's 1998 Federal income tax returns are currently being audited by the Internal Revenue Service. The Company believes its recorded liability for income taxes of $35.0 million as of December 29, 2002 is adequate to cover its exposure that may result from the ultimate resolution of the audit. Although the ultimate outcome of the audit cannot be determined at this time, the Company does not have sufficient liquidity to pay any significant portion of its recorded liability if resolution results in such amount being currently due and payable. Management does not currently expect that this will be the result, or that any resolution with respect to audit issues will be reached in the near future. Because the audit is in process, and any amount that ultimately may be payable has not been determined by the IRS, no amounts are shown in the Contractual Cash Obligations table.
Discontinued Operations
As discussed in Note 1 - Basis of Presentation, discontinued operations includes the revenues, expenses and related assets and liabilities of 11 Don Pablo's and eight Hops restaurants which were closed during 2002, plus one additional Don Pablo's restaurant which was under contract and held for sale at December 29, 2002 and subsequently sold in February 2003. The decision to dispose of these 20 locations reflects the Company's ongoing process of evaluating the performance and cash flows of its various restaurant locations and its desire to use the proceeds from the sale of under performing restaurants to reduce debt. The Company expects to complete the divestiture of these locations in 2003.
Net loss from discontinued operations for 2002, for which no taxes have been allocated, of $25.1 million primarily reflects non-cash asset impairment charges of $22.1 million, primarily to reduce the carrying value of the restaurant assets, which are held for sale, to estimated fair value. Operating losses were $25.1 million for 2002, on total restaurant sales from discontinued operations of $19.3 million.
Net loss from discontinued operations for 2001, for which no taxes have been allocated, of $8.9 million primarily reflects non-cash asset impairment charges of $4.8 million, primarily to reduce the carrying value of the restaurant assets to estimated fair value. Operating losses were $8.9 million for 2001, on total restaurant sales from discontinued operations of $28.8 million.
Net loss from discontinued operations for 2000 of $3.2 million (net of income tax benefit of $2.1 million) primarily reflects non-cash asset impairment charges of $2.5 million, primarily to reduce the carrying value of the restaurant assets to estimated fair value. Operating losses were $5.2 million for 2000, on total restaurant sales from discontinued operations of $30.3 million.
Liquidity and Capital Resources
Generally, the Company operates with negative working capital since substantially all restaurant sales are for cash while payment terms on accounts payable typically range from 0 to 45 days. Fluctuations in accounts receivable, inventories, prepaid expenses and other current assets, accounts payable and accrued liabilities typically occur as a result of restaurant openings and closings and the timing of settlement of liabilities. Decreases in accounts payable during 2002 occurred as a result of a planned reduction in various outstanding obligations with borrowings from the Company's $75.0 million refinanced credit facility. Decreases in accrued liabilities occurred as a result of (i) a reduction in accrued interest due to the retirement of $52.4 million in outstanding debt related to the Company's 11.75% Senior Subordinated Notes, (ii) a reduction in accrued interest due to the payment of accrued interest and conversion of 1,307,591 shares, or $65.4 million, of the Company's Convertible Preferred Securities and (iii) the payment of previously deferred payments related to sales, use, property and other taxes.
On March 25, 2002, the Company completed a $75.0 million credit facility (the "Credit Facility") to replace its existing credit agreement. The Credit Facility limits total borrowing capacity at any given time to an amount equal to two and one quarter times the Company's trailing 12 months earnings before interest, income taxes and depreciation and amortization as determined for the most recently completed four quarters ("Borrowing Base EBITDA"). The calculation of Borrowing Base EBITDA excludes the 2001 operations of McCormick & Schmick's, gains and losses on the disposal of assets, asset revaluation and other special charges, non-cash rent expense and preopening costs. The agreement provides a $35.0 million revolving credit facility, which may be used for working capital and general corporate purposes, and a $40.0 million term loan facility, which is limited to certain defined purposes, excluding working capital and capital expenditures. In certain circumstances, borrowings under the term loan facility are required to be repaid to the lender and any such repayments are not available to be re-borrowed by the Company. Events generating a required repayment include, among other things, proceeds from asset dispositions, casualty events, tax refunds and excess cash flow, each as defined in the Credit Facility. In addition, the lender has the right to impose certain reserves against the Company's total borrowing availability under the facility, which may limit the Company's availability on both the revolving and term loans. The loan is secured by substantially all of the Company's assets.
In June 2002, the Company obtained an amendment to the Credit Facility which allowed the use of proceeds from the term loan facility to make the one-time payment of accrued interest related to the Company's $3.50 term convertible securities, due 2027. In the third quarter, the Company completed a second amendment to the Credit Facility which amended certain definitions relating to the payment of delinquent taxes and made other technical corrections to the agreement. During the fourth quarter, the Company completed a third amendment, dated November 11, 2002, and fourth amendment, dated December 27, 2002, to the Credit Facility. The third amendment made additional technical corrections to the agreement. Under the fourth amendment, the Credit Facility lenders agreed to forbear from exercising their remedies until May 31, 2003 with respect to certain events of default related to the Company's failure to meet its September 29, 2002 EBITDA target. The amendment increased the interest rate to 15.75% for revolving and term borrowings and to 7.5% for letter of credit accommodations. The fourth amendment also revised certain financial covenants and added a new covenant which requires the Company to reduce its obligations (including cash borrowings and letter of credit commitments) under the facility to $0 by May 25, 2003 in accordance with the following schedule.
Date Maximum Obligations ------------------ ------------------- January 26, 2003 $50,000,000 February 23, 2003 $41,000,000 March 30, 2003 $31,000,000 April 27, 2003 $15,000,000 May 25, 2003 $0
In connection with the fourth amendment, the Company incurred an amendment and waiver fee of $8.5 million. The fee was paid-in-kind by being added to the principal balance of the Company's outstanding term borrowings. Under the terms of the fourth amendment, $6.5 million of the waiver fee will be refunded by the lender by reducing the principal balance of the outstanding term loans by $6.5 million if (i) by April 27, 2003 the Company has reduced all cash borrowings (excluding the refundable $6.5 million fee) to $0, (ii) by April 27, 2003 the Company has collateralized its letter of credit commitments either with cash collateral of 105% or through back-up letters of credit and (iii) by May 25, 2003 all letters of credit secured by the Credit Facility have been returned to the issuer without being drawn. Subsequent to December 29, 2002, the Company successfully reduced its obligations to comply with the maximum obligations requirement for the periods ended January 26, 2003 and February 23, 3003.
Due to the Company's requirement to reduce the outstanding balance of the Credit Facility to $0 by May 25, 2003, the balance of the facility at December 29, 2002 has been classified as a current liability in the accompanying consolidated balance sheet. At December 29, 2002, $11.6 million of cash borrowings were outstanding under the revolving portion of the Credit Facility and $19.2 million was outstanding under the term portion of the facility, including the $6.5 million refundable portion of the amendment and waiver fee. In addition to the $11.6 million of cash borrowings outstanding under the revolving facility, an additional $15.3 million of the facility was utilized to secure letters of credit. Lender imposed reserves against the Company's total borrowing availability, as of December 29, 2002, were $5.8 million. At December 29, 2002, $7.8 million of the total facility remained unused and available.
During the fourth quarter of 2002, Borrowing Base EBITDA resulted in a maximum borrowing capacity of $53.3 million. At December 29, 2002, the Company's trailing 12 months EBITDA will result in the Company's maximum borrowing capacity being adjusted from $53.3 million to $49.3 million in conjunction with the Company's filing of its required reports with the lender on or about February 27, 2003. As a result of the upcoming reduction in the Company's borrowing base, total availability on the facility will be reduced by $4.0 million on or about February 27, 2003, however the availability cannot exceed the maximum borrowing obligations, as amended, noted in the table above at the respective dates. Subsequent to December 29, 2002, the Company used revolving loan advances to make the interest payments under its 9.75% Senior Notes due 2006 ("Senior Notes") and 11.75% Senior Subordinated Notes due 2009 ("Subordinated Notes") of $5.7 million and $2.8 million, respectively. In addition to its currently outstanding borrowings, the Company will be required to pay an anniversary fee of $1.1 million on March 25, 2003 and will be required to pay a termination fee of $1.7 million if the Credit Facility is terminated prior to March 25, 2003. This fee escalates to $3.6 million if the Credit Facility termination occurs subsequent to March 25, 2003.
The Company has suffered from recurring losses from operations, has an accumulated deficit and has a secured credit facility which is due May 25, 2003 that raise substantial doubt about the Company's ability to continue as a going concern. Sufficient liquidity to make the scheduled debt reductions under the amended Credit Facility and other required debt service and lease payments is dependent primarily on the realization of proceeds from the sale of assets, cash flow from operations and obtaining alternative financing sources. There can be no assurance that these initiatives will be successful.
In the event the Company is not able to meet its debt reduction obligations or other financial covenant targets under the Credit Facility, an event of default would occur. During the continuance of an event of default, the Company would be subject to a post-default interest rate under the Credit Facility which increases the otherwise effective interest rates by three percentage points. As a result, the Company's per annum interest rate on revolving and term loans would be 18.75% and the rate on letter of credit accommodations would be 10.50%. In addition to the right to declare all obligations immediately due and payable, the Credit Facility lender also has additional rights during the continuance of an event of default including, among other things, the right to (i) make and collect certain payments on the Company's behalf, (ii) require cash collateral to secure letters of credit, (iii) make certain investigations into the Company's activities, (iv) receive reimbursement for certain expenses incurred and (v) sell any of the collateral securing the obligations or settle, on the Company's behalf, any legal proceedings related to the collateral. In addition, in the event the amounts due under the Credit Facility are accelerated, cross-default provisions contained in the indentures to the Company's Senior Notes and Subordinated Notes would be triggered, creating an event of default under those agreements as well. At December 29, 2002, the outstanding balances of the Senior and Subordinated Notes were $116.5 million and $47.6 million respectively. An event of default under the Credit Facility would result in a cross-default under the master equipment lease but would not result in a cross-default under the sale-leaseback agreement. In the event some or all of the obligations under the Company's credit agreements become immediately due and payable, the Company does not currently have sufficient liquidity to satisfy these obligations and it is likely that the Company would be forced to seek protection from its creditors.
The terms of the amended Credit Facility, the Company's Senior Notes and Subordinated Notes, master equipment lease and Hops sale-leaseback transaction collectively include various provisions which, among other things, require the Company to (i) achieve certain EBITDA targets, (ii) maintain defined net worth and coverage ratios, (iii) maintain defined leverage ratios, (iv) limit the incurrence of certain liens or encumbrances in excess of defined amounts and (v) limit certain payments. In conjunction with the closing of the Credit Facility, the Company terminated its interest rate swap agreement thereby eliminating any aforementioned restrictions contained in that agreement. In addition, in March 2002 the master equipment lease agreement was amended to substantially conform the covenants to the Credit Facility. At December 29, 2002, the Company was in compliance with the requirements contained in the Credit Facility, as amended. The Company was also in compliance with the terms of the Senior Notes and Subordinated Notes. The Company was not in compliance with a net worth requirement contained in its sale-leaseback agreement. The lessor, however, has waived this requirement until March 31, 2004 at which time the minimum net worth requirement will be $150.0 million. The Company is also not in compliance with certain financial covenants contained in the master equipment lease. Under the master equipment lease, the failure to meet the financial covenants represents an event of default whereby the creditor has the right to, among other things, declare all obligations under the agreement immediately due and payable and to repossess the leased equipment, which is located primarily in the Company's restaurants. Although the lessor has not notified the Company of its intent to do so, acceleration of the obligations would have a material adverse effect on the Company. At December 29, 2002, remaining obligations under the master
equipment lease totaled $7.6 million. The continuing event of default under the master equipment lease does not result in cross-defaults under the Company's Senior Notes, Subordinated Notes or sale-leaseback agreement and the cross default under the Credit Agreement has been waived. Although the lessor has not notified the Company of any intent to accelerate its obligations, there can be no assurances that the lessor will not exercise such remedies.
The following table summarizes the Company's future contractual cash obligations:
The preceding schedule summarizes the Company's contractual payment obligations as they existed at December 29, 2002. Actual payments may differ from these amounts due primarily to interest and principal payments on the Credit Facility and additional operating lease payments for new development as well as the extension of existing lease agreements. Further, the Company's minimum lease payment obligations under its sale-leaseback agreement, included above, totaled $69.5 million at December 29, 2002. On March 31, 2004, the covenants of such agreement will require that the Company have a minimum net worth, as defined, of $150.0 million. The approximate amount of minimum lease payments due at that date are $65.2 million.
Interest payments on the Company's Senior Notes and Subordinated Notes are due semi-annually in each June and December. Prior to the Company's repurchase of $52.4 million in face value of its outstanding Subordinated Notes in the second and third quarters of 2002, the Company's semi-annual interest payments totaled approximately $11.6 million. Subsequent to the repurchase, the Company's semi-annual interest payments will total approximately $8.5 million. Under the terms of the related note indentures, the Company has an additional 30-day period from the scheduled interest payment dates before an event of default is incurred, due to late payment of interest, and the Company utilized these provisions with respect to its June and December 2002 interest payments as well as its June and December 2001 interest payments. The Company's ability to make its June 2003 interest payments is dependent on the outcome of its initiatives to sell assets and obtain alternative lending sources.
Principal financing sources in 2002 consisted of (i) term loan proceeds of $19.2 million including $8.5 million borrowed to pay the Credit Facility fourth amendment fee, (ii) a $10.0 million refund of payments to collateralize letters of credit for the Company's self-insurance programs, (iii) proceeds of $9.1 million from disposition of assets related primarily to the McCormick & Schmick's and Canyon Cafe divestitures, and (iv) revolving loan proceeds of $3.1 million, net of financing costs of $8.5 million, The primary uses of funds consisted of (i) net cash used in operations of $26.0 million which included interest payments of $29.4 million primarily related to the Senior Notes, Subordinated Notes and the one-time TECON payment, a credit facility amendment and waiver fee of $8.5 million, and operating lease payments of $24.6 million, (ii) $8.5 million, net of accrued interest of $2.2 million, for the repurchase of $52.4 million in face value of the Company's outstanding Subordinated Notes, (iii) capital expenditures of $5.4 million, and (v) settlement of the Company's interest rate swap agreement for $1.7 million.
The Company incurs various capital expenditures related to existing restaurants and restaurant equipment in addition to capital requirements for developing new restaurants. The Company does not have any contractual obligations to open any new restaurants during 2003. Capital expenditures for existing restaurants are expected to be approximately $4.5 million in 2003. Capital expenditures of $5.4 million for 2002 relate primarily to capital spending for existing restaurants. Capital expenditures for during 2001 were $17.6 million and provided for the opening of three new restaurants, as well as capital for existing restaurants.
The Company is also exposed to certain contingent payments. In connection with the Applebee's, Harrigan's and Canyon Cafe divestiture transactions completed during 2002, 1999 and 1998, the Company remains contingently liable for lease obligations relating to 86 Applebee's restaurants eight Harrigan's restaurants and eight Canyon Cafe restaurants. Assuming that each respective purchaser became insolvent, an event management believes to be remote, the Company could be liable for lease payments extending through 2017 with minimum lease payments totaling $34.7 million. Under the Company's insurance programs, coverage is obtained for significant exposures as well as those risks required to be insured by law or contract. It is the Company's preference to retain a significant portion of certain expected losses related primarily to workers' compensation, physical loss to property, and comprehensive general liability. The Company has increased the amounts of its deductibles for workers' compensation and general liability to $500,000 per claim in 2002 compared to $250,000 per claim in 2001. Losses in excess of these risk retention levels are covered by insurance which management considers as adequate. Provision for losses expected under these programs are recorded based upon estimates of the liability for claims incurred. Such estimates are based on management's evaluation of the nature and severity of claims and future development based on the Company's historical experience, information provided by the Company's third party administrators and certain actuarial assumptions used by the insurance industry. For 2002, claims paid under the Company's self-insurance programs totaled $4.9 million. In addition, at December 29, 2002, the Company was contingently liable for letters of credit aggregating approximately $15.3 million, relating primarily to its insurance programs. Management believes that the ultimate disposition of these contingent liabilities will not have a material adverse effect on the Company's consolidated financial position or results of operations
The Company's 1998 Federal income tax returns are currently being audited by the Internal Revenue Service. The Company believes its recorded liability for income taxes of $35.0 million as of December 29, 2002 is adequate to cover its exposure that may result from the ultimate resolution of the audit. Although the ultimate outcome of the audit cannot be determined at this time, the Company does not have sufficient liquidity to pay any significant portion of its recorded liability if resolution of the audit results in such amount being currently due and payable. Management does not currently expect that this will be the result, or that any resolution with respect to audit issues will be reached in the near future. Because the audit is in process, and any amount that ultimately may be payable has not been determined by the IRS, no amounts are shown in the Contractual Cash Obligations table above.
Management has taken steps to improve cash flow from operations, including changing the Company's marketing strategy to be less reliant on expensive broadcast media, reducing overhead through consolidation of functions and personnel reductions and adjusting supervisory management level personnel in its restaurant operations. There is no assurance these efforts will be successful in improving cash flow from operations sufficiently to enable the Company to continue to meet its obligations, including scheduled interest and other required payments under its debt and lease agreements and capital expenditures necessary to maintain its existing restaurants. During 2002, the Company realized $13.0 million from the sale of assets (including $3.9 from discontinued operations), which supplemented its cash provided by financing activities and enabled the Company to meet its obligations. For the near term, cash flow from operations will need to be supplemented by asset sales and other liquidity improvement initiatives including obtaining new financing sources. There is no assurance the Company will be able to generate proceeds from these efforts in sufficient amounts to supplement cash flow from operations, thereby enabling the Company to meet its debt and lease obligations. In addition, there is no assurance the Company will be able to comply with the financial covenants of its debt and lease agreements.
Critical Accounting Policies
Management's Discussion and Analysis discusses the results of operations and financial condition as reflected in the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. As discussed in Note 1 to the Company's Consolidated Financial Statements, the preparation of financial statements in conformity with accounting principles generally accepted in the United States 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 reported amounts of revenues and expenses during the reporting period. On an ongoing basis,
management evaluates its estimates and judgments, including those related to depreciation, amortization and recoverability of long-lived assets, including intangible assets, capitalization of development costs, self-insurance reserves, and income taxes. Management bases its estimates and judgments on its substantial historical experience and other relevant factors, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. While the Company believes that the historical experience and other factors considered provide a meaningful basis for the accounting policies applied in the preparation of the consolidated financial statements, the Company cannot guarantee that its estimates and assumptions will be accurate, which could require the Company to make adjustments to these estimates in future periods.
Premises and Equipment. The Company records premises and equipment at historical cost and depreciates these assets on a straight-line basis over their estimated useful lives. Costs capitalized by the Company also include certain direct costs associated with acquiring land and leaseholds and developing new restaurant sites. In most instances, the Company estimates the useful lives of buildings to be 30 years and equipment to be 7 years. Leasehold improvements are depreciated using the straight-line method over the shorter of the lease term, including renewal periods, or the estimated useful life of the asset. Impairment of assets is recorded in accordance with Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets", which supersedes SFAS No. 121 "Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of". SFAS 144 requires the Company to review the carrying value of long-lived assets for impairment when events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The Company can be impacted by changes in the estimated useful lives of its assets or impairment resulting from assets being carried in excess of fair value.
Discontinued Operations. Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets", which was adopted by the Company in the first quarter of 2002, supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions", for the disposal of a "Segment" of a business as defined in that Opinion. As a result of the adoption of SFAS 144, the Company has classified the revenues, expenses and related assets and liabilities of 11 Don Pablo's restaurants and eight Hops restaurants which were closed in 2002, plus one additional Don Pablo's restaurant which was under contract and held for sale at December 29, 2002 and subsequently sold in February 2003, as discontinued operations for all periods presented in the accompanying consolidated financial statements. The revenues, expenses and related assets and liabilities of Canyon Cafe which is also held for sale, the McCormick & Schmick's brand, which was divested in August 2001, and eight Don Pablo's and two Hops restaurants which were closed in 2001, have not been classified as discontinued operations in the accompanying consolidated financial statements. As the decision to divest these operations was made prior to the implementation of SFAS 144 and they did not meet the criteria for classification as discontinued operations under the provisions of APB Opinion No. 30, they will continue to be classified within continuing operations under the provisions of SFAS 121.
Intangible Assets. The 1997 acquisitions of Canyon Cafe, Hops and McCormick & Schmick's generated significant goodwill balances (representing the excess of purchase price over fair value of net assets acquired). Goodwill was amortized over the expected period to be benefited, typically 40 years, using the straight-line method. In 2001, in accordance with the provisions of SFAS No. 121, the Company recorded a $38.1 million impairment charge at Canyon Cafe which reflected the impairment of the goodwill associated with that acquisition. In addition, the 2001 divestiture of McCormick & Schmick's resulted in the elimination of the goodwill generated by that acquisition. At December 30, 2001 and during 2002 the Company's recorded goodwill balance related solely to Hops. Beginning in fiscal 2002, the Company adopted SFAS No. 142, "Goodwill and Other Intangible Assets", and ceased amortizing goodwill. Under SFAS 142, the Company is required to annually evaluate goodwill for impairment by comparing the fair value of the related reporting unit to the reporting unit's carrying value. Beginning in fiscal 2002, the Company determined that Hops meets the requirements of a separate reporting unit and assessed goodwill for possible transition impairment and concluded that there was no impairment of goodwill. At the beginning of the fourth quarter of 2002, the Company determined the fair value of the Hops brand based on an internal valuation of its historical and projected operating performance and restaurant development plans. Based on the Company's estimated fair value, it was determined that the fair value of Hops exceeded its carrying value indicating potential goodwill impairment. Under SFAS 142, the indication of goodwill impairment requires the completion of an additional evaluation whereby an "implied" fair value of goodwill is identified.
This implied value is determined by allocating the fair value of the reporting unit to all of the assets and liabilities of the reporting unit in a manner similar to a purchase price allocation. Any residual fair value after this allocation is the implied fair value of the reporting unit goodwill. Using this methodology, the Company determined that the implied fair value of the Hops goodwill was $0. Accordingly, an impairment charge was recorded to write off the full balance of Hops goodwill as of December 29, 2002. The decrease in Hops' fair value and corresponding goodwill impairment charge was a result of a decline in the brand's 2002 sales and operating performance which prompted the Company to close eight underperforming locations and to halt new restaurant development in the near term. In addition, the fair value of the brand was impacted by overall economic uncertainty which has negatively impacted the Company's restaurants.
Insurance Programs. Under the Company's insurance programs, coverage is obtained for significant exposures as well as those risks required to be insured by law or contract. It is the Company's preference to retain a significant portion of certain losses related primarily to workers' compensation, physical loss to property, and comprehensive general liability. The Company has increased the amounts of its deductibles for workers' compensation and general liability to $500,000 per claim in 2002 compared to $250,000 per claim in 2001. Losses in excess of these risk retention levels are covered by insurance which management considers as adequate. Provision for losses expected under these programs are recorded based upon estimates of the liability for claims incurred. Such estimates are based on management's evaluation of the nature and severity of claims and future development based on the Company's historical experience, information provided by the Company's third party administrators and certain actuarial assumptions used by the insurance industry. Management continually evaluates the potential for changes in loss estimates and the potential for future adverse loss developments in these areas is highly uncertain.
Income Taxes. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon these factors, management believes it is more likely than not the Company will realize the benefits of the deductible differences for which no valuation allowance is provided.
Effect of Inflation
Management believes that inflation has not had a material effect on earnings during the past several years. Inflationary increases in the cost of labor, food and other operating costs could adversely affect the Company's restaurant operating margins.
Various federal and state laws increasing minimum wage rates have been enacted over the past several years. Such legislation, however, has typically frozen the wages of tipped employees at $2.13 per hour if the difference is earned in tip income. Although the Company has experienced slight increases in hourly labor costs in recent years, the effect of increases in minimum wage have been significantly diluted due to the fact that the majority of the Company's hourly employees are tipped and the Company's non-tipped employees have historically earned wages greater than federal and state minimums. As such, the Company's increases in hourly labor costs have not been proportionate to increases in minimum wage rates.
Forward-Looking Information
Certain information contained in this annual report, particularly information regarding the future economic performance and finances, restaurant development plans, capital requirements and objectives of management, is forward looking. In some cases, information regarding certain important factors that could cause actual results to differ materially from any such forward-looking
statement appear together with such statement. In addition, the following factors, in addition to other possible factors not listed, could affect the Company's actual results and cause such results to differ materially from those expressed in forward-looking statements. These factors include the outcome of the Company's discussion with its creditors concerning events of default; future compliance with debt covenants; the ability to meet principal and interest payments as well as pay fees due in 2003; the outcome of the IRS audit of the Company's 1998 Federal income tax returns, competition within the casual dining restaurant industry, which remains intense; changes in economic conditions such as inflation or a recession; consumer perceptions of food safety; weather conditions; changes in consumer tastes; labor and benefit costs; legal claims; the continued ability of the Company to obtain suitable locations and financing for new restaurant development; government monetary and fiscal policies; laws and regulations; and governmental initiatives such as minimum wage rates and taxes. Other factors that may cause actual results to differ from the forward-looking statements contained in this release and that may affect the Company's prospects in general are described in Exhibit 99.1 to the Company's Form 10-Q for the fiscal quarter ended April 2, 2000, and the Company's other filings with the Securities and Exchange Commission.
Recent Accounting Pronouncements
In June 2001, the FASB issued Statement of Financial Accounting Standard ("SFAS") No. 142, "Goodwill and Other Intangible Assets", which requires nonamortization of goodwill and intangible assets that have indefinite useful lives and annual tests of impairments of those assets. The statement also provides specific guidance about how to determine and measure goodwill and intangible asset impairments (see Note 2), and requires additional disclosure of information about goodwill and other intangible assets. The provisions of the statement are required to be applied starting with fiscal years beginning after December 15, 2001 and applied to all goodwill and other intangible assets recognized in financial statements at that date. The Company adopted SFAS 142 effective at the beginning of its fiscal 2002 year.
The following table discloses the Company's consolidated losses, assuming it excluded goodwill amortization for the periods ended:
In July 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations", which requires entities to recognize the fair value of a liability for an asset retirement obligation in the period in which it is incurred. The statement is effective for fiscal years beginning after June 15, 2002. The Company will adopt SFAS 143 in the first quarter of fiscal 2003 and does not expect the adoption of this standard to have a material impact on its results of operations or financial position.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS 144, which was adopted by the Company in the first quarter of 2002, supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions", for the disposal of a "Segment" of a business as defined in that Opinion. As a result of the adoption of SFAS 144, the Company has classified the revenues and expenses of 11 Don Pablo's restaurants and eight Hops restaurants which were closed in 2002, plus one additional Don Pablo's restaurant which was held for sale at December 29, 2002, as discontinued operations for all periods presented in the accompanying consolidated financial statements. The revenues and expenses of Canyon Cafe which is also held for sale, the McCormick & Schmick's brand, which was divested in August 2001, and eight Don Pablo's and two Hops restaurants which were closed in 2001, have not been classified as discontinued operations in the accompanying consolidated financial statements. As the decision to divest these operations was made prior to the implementation of SFAS 144 and they did not meet the criteria for classification as discontinued operations under the provisions of APB Opinion No. 30, they are required to be classified within continuing operations under the provisions of SFAS 121.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections", which eliminates the requirement to report gains and losses related to extinguishments of debt as extraordinary items. The statement also included other amendments and technical corrections, which will not have a material impact on the Company. The provisions of the statement related to the treatment of debt extinguishments are required to be applied in fiscal years beginning after May 15, 2002. The Company elected to adopt SFAS 145 in the second quarter of 2002. As a result of the application of the statement, for fiscal 2002, the Company's $41.4 million gain, related to the repurchase of $52.4 million of its Subordinated Notes is not presented as an extraordinary item in the accompanying Consolidated Statements of Loss. The Company has not reported any extraordinary items in prior periods and, accordingly, no prior period reclassifications were required.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities". SFAS 146 supersedes Emerging Issues Task Force ("EITF") Issue 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)". SFAS 146 eliminates the provisions of EITF 94-3 that required a liability to be recognized for certain exit or disposal activities at the date an entity committed to an exit plan. SFAS 146 requires a liability for costs associated with an exit or disposal activity to be recognized when the liability is incurred. SFAS 146 is effective for exit or disposal activities that are initiated after December 31, 2002. Although the Company does not expect the adoption of this statement to have a material adverse impact on its results of operations or financial position, it may impact the timing of expense recognition as the Company continues to execute its strategy of reducing debt with proceeds from the sale of assets.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure". SFAS 148 amends SFAS 123, "Accounting for Stock-Based Compensation," to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, the statement amends the disclosure requirements of SFAS 123 to require prominent disclosure in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The provisions of the statement are effective for financial statements for fiscal years ending after December 15, 2002. As the Company accounts for stock-based compensation using the intrinsic value method prescribed in APB No. 25, "Accounting for Stock Issued to Employee's", the adoption of SFAS 148 has no impact on the Company's financial condition or results of operations.
In November 2001, the EITF reached a consensus on Issue 01-9, "Accounting for Consideration Given by a Vendor to a Customer". EITF 01-9 addresses the recognition, measurement and income statement classification for sales incentives offered to customers. Sales incentives include discounts, coupons, free products and generally any other offers that entitle a customer to receive a reduction in the price of a product. Under EITF 01-9, the reduction in the selling price of the product resulting from any sales incentives should be classified as a reduction of revenue. The Company adopted EITF 01-9 in fiscal 2002. Prior to adopting this pronouncement, the Company recognized sales incentives as restaurant operating expenses. As a result of adopting EITF 01-9, sales incentives were reclassified as a reduction of sales for all periods presented. Amounts reclassified were $7.1 million, $5.4 million and $5.2 million in 2002, 2001 and 2000, respectively.
In November 2002, the FASB issued FASB Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others". FIN 45 expands the disclosure requirements to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. The Interpretation also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. Certain guarantees, including (i) an original lessee's guarantee of the lease payments when that lessee remains secondarily liable in conjunction with being relieved from being the primary obligor and (ii) a parent's guarantee of a subsidiary's debt to a third party, and a subsidiary's guarantee of debt owed to a third party by either its parent or another subsidiary of that parent, are excluded from the provisions related to liability recognition. These guarantees, however, are subject to the disclosure requirements of the Interpretation. The liability recognition provisions of FIN 45 are applicable to guarantee's issued after December 31, 2002. The disclosure requirements of the Interpretation are effective for financial statements of interim and annual periods ending after December 15, 2002. Historically, the only guarantees issued by the Company relate to lease guarantees where the Company is no longer the primary obligor and guarantees between Avado Brands, Inc. and its wholly-owned subsidiaries related to debt owed to third parties. Currently under such guarantees, the Company could be liable for lease payments extending through 2017 with minimum lease payments totaling $34.7 million. The Company does not anticipate issuing any guarantee's which would be required to be recognized as a liability under the provisions of FIN 45 and thus does not expect the adoption of this Interpretation to have a material impact on its results of operations or financial position. The Company has adopted the disclosure requirements of FIN 45 effective for fiscal year ended December 29, 2002.
Item 7A.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Part III
Item 10.
Item 10. Directors and Executive Officers of the Registrant
Information in response to this item is incorporated by reference to the information contained under the headings "Nominees for Director", "Executive Officers", and "Section 16(a) Beneficial Ownership Reporting Compliance" in the Company's definitive Proxy Statement for use in connection with the 2003 Annual Meeting of Shareholders.
Item 11.
Item 11. Executive Compensation
Information in response to this item is incorporated by reference to the information contained under the heading "Compensation of Executive Officers" in the Company's definitive Proxy Statement for use in connection with the 2003 Annual Meeting of Shareholders to be filed with the Securities and Exchange Commission. In no event shall the information contained in the Proxy Statement under the heading "Comparison of Five-Year Cumulative Shareholder Return" be deemed incorporated herein by such reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information in response to this item is incorporated by reference to the information contained under the headings "Voting Securities and Principal Holders Thereof" and "Equity Compensation Plans" in the Company's definitive Proxy Statement for use in connection with the 2003 Annual Meeting of Shareholders.
Item 13.
Item 13. Certain Relationships and Related Transactions
At December 31, 2000, the Company held several notes receivable, one of which was secured by real estate, from Tom E. DuPree, Jr., Chairman of the Board and Chief Executive Officer of the Company (the "Chairman Notes" and the "Chairman"). At December 30, 2001, the due date of the Chairman Notes was June 30, 2002 with an interest rate of 11.5% payable at maturity.
At December 30, 2001, total amounts owed to the Company under the Chairman Notes were $10.9 million in principal and $3.0 million in accrued interest. At that time, the Company recorded an allowance against the ultimate realization of amounts due totaling $11.1 million, yielding a net balance of $2.8 million, the fair value of the real estate collateral held by the Company.
In March 2002, The Board of Directors approved a series of transactions whereby the Chairman sold the real estate collateral securing one of the Chairman Notes and, with the $2.8 million in proceeds, purchased $14.0 million in face value of the Company's 11.75% Senior Subordinated Notes, due June 2009 (the "Subordinated Notes"). The Subordinated Notes were pledged as collateral by the Chairman to secure amounts owed by him to the Company under the Chairman Notes.
On March 6, 2002 the principal and interest due on the several Chairman Notes were consolidated into one note with a principal balance of $14.1 million (the "New Chairman Note"), and the interest payment terms, interest rate and due date of the note were changed to match the terms and due date of the Subordinated Notes. All amounts of interest and principal paid by the Company on the Subordinated Notes owned by the Chairman and pledged as collateral to the Company, will be used to make simultaneous payments to the Company on amounts due to the Company under the New Chairman Note.
In conjunction with the Company's July 10, 2002 payment of semi-annual interest due to holders of its Subordinated Notes, the Chairman made a simultaneous payment of principal and interest under the New Chairman Note in the amount of $0.8 million. As a result, the principal balance of the New Chairman Note was reduced to $13.7 million at year-end. The balance of the New Chairman Note at December 29, 2002 was $2.7 million, net of the valuation allowance established in 2001. Subsequent to year-end, in conjunction with the Company's January 9, 2003 payment of semi-annual interest to holders of its Subordinated Notes, the Chairman made a simultaneous payment of interest in the amount of $0.8 million.
Item 14.
Item 14. Controls and Procedures
Within the 90-day period prior to the filing of this report, an evaluation was carried out under the supervision and with the participation of the Company's management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures are effective in ensuring that information required to be disclosed in Company reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. However, the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.
There have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls subsequent to the date of the evaluation. 67
Part IV
Item 15.
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) The following documents are filed as part of this Report:
1. Financial Statements
Consolidated Statements of Loss for the years ended December 29, 2002, December 30, 2001 and December 31, 2000
Consolidated Balance Sheets as of December 29, 2002 and December 30, 2001
Consolidated Statements of Shareholders' Equity (Deficit) and Comprehensive Loss for the years ended December 29, 2002, December 30, 2001 and December 31, 2000
Consolidated Statements of Cash Flows for the years ended December 29, 2002, December 30, 2001 and December 31, 2000
Notes to Consolidated Financial Statements
Report of Management
Independent Auditors' Report
2. Financial Statement Schedules
None
3. Exhibits
2.1 Asset Purchase Agreement dated June 7, 2001 by and among Avado Brands, Inc., McCormick & Schmick Holding Corp., each of the McCormick & Schmick Holding Corp. subsidiaries and McCormick & Schmick Acquisition Corp. (18)
3.1 Amended and Restated Articles of Incorporation of the Company, as amended October 13, 1998. (3)
3.2 By-laws of the Company. (1)
4.1 See Exhibits 3.1 and 3.2 for provisions in the Company's Amended and Restated Articles of Incorporation and by-laws defining the rights of holders of the Company's Common Stock. (1) (3)
4.2 Trust Agreement of Apple South Financing I, dated as of February 18, 1997, among Apple South, Inc., First Union National Bank of Georgia and First Union Bank of Delaware. (5)
4.3 Amended and Restated Declaration of Trust of Apple South Financing I, dated as of March 11, 1997, among Apple South, Inc., as Sponsor, First Union National Bank of Georgia, as Institutional Trustee, First Union Bank of Delaware, as Delaware Trustee, and the Regular Trustees named therein. (5)
4.4 Indenture for the 7% Convertible Subordinated Debentures, dated as of March 6, 1997, between Apple South, Inc. and First Union National Bank of Georgia, as Trustee. (5)
4.5 Form of $3.50 Term Convertible Security, Series A (included in Exhibit 4.3).
4.6 Form of 7% Convertible Subordinated Debenture (included in Exhibit 4.4).
4.7 Preferred Securities Guarantee Agreement, dated as of March 11, 1997, between Apple South, Inc., as Guarantor, and First Union National Bank of Georgia, as Preferred Guarantee Trustee. (5)
4.8 Registration Rights Agreement, dated as of March 11, 1997 among Apple South, Inc., Apple South Financing I, J.P. Morgan Securities, Inc., and Smith Barney, Inc. (5)
4.9 Solicitation of Consents to Proposed Amendments to 9.75% Senior Notes due 2006 of Apple South, Inc. (8)
4.10 Indenture, dated as of June 22, 1999, among the Company, certain guaranteeing subsidiaries and SunTrust Bank, Atlanta, as Trustee (including the form of Note). (9)
4.11 Registration Rights Agreement, dated as of June 22, 1999, among the Company, certain guaranteeing subsidiaries and the initial purchasers of the Notes. (9)
4.12 The Hops Grill & Bar, Inc. MP Equity Investment Plan (14)
10.1 Apple South, Inc. 1988 Stock Option Plan. (1)
10.2 Form of Stock Option Agreement under the Apple South, Inc. 1988 Stock Option Plan. (1) (4)
10.3 Form of Apple South, Inc. Director's Indemnification Agreement executed by and between the Company and each member of its Board of Directors. (1)
10.4 Form of Apple South, Inc. Officer's Indemnification Agreement executed between the Company and each of its executive officers. (1)
10.5 Apple South, Inc. Employee Stock Ownership Plan and Trust. (1) (4)
10.6 Apple South, Inc. Profit Sharing Plan and Trust. (1) (4)
10.7 Amendment No. 2 to the Apple South, Inc. Employee Stock Ownership Plan and Trust, dated November 22, 1993. (2)
10.8 Apple South, Inc. [Restated] Profit Sharing Plan and Trust dated October 26, 1993. (2)
10.9 Amended form of Stock Option Agreement under the Apple South, Inc. 1988 Stock Option Plan. (2)
10.10 Apple South, Inc. 1993 Stock Incentive Plan. (2)
10.11 Form of Stock Option Agreement under the Apple South, Inc. 1993 Stock Incentive Plan. (2)
10.12 Avado Brands, Inc. Employee Stock Purchase Plan. (19)
10.13 Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (6)
10.14 First amendment, dated as of March 27, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (7)
10.15 Second amendment, dated as of August 14, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.16 Third amendment, dated as of November 13, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.17 Fourth amendment, dated as of February 22, 1999, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.18 Fifth amendment, dated as of August 24, 1999, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (16)
10.19 Sixth amendment, dated as of December 20, 2000, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (16)
10.20 Seventh amendment, dated as of April 2, 2001, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Avado Brands, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (17)
10.21 $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (10)
10.22 First amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.23 Second amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.24 Third amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.25 Fourth amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (13)
10.26 Amended and Restated Credit Agreement Dated as of April 2, 2001 among Avado Brands, Inc. as borrower, Wachovia Bank, National Association and Fleet National Bank. (17)
10.27 Master lease agreement, dated as of October 19, 2000, by and between Pubs Property, LLC and Hops Grill & Bar, Inc. (16)
10.28 Sale-leaseback agreement, dated as of October 19, 2000, by and among Pubs Property, LLC, Avado Brands, Inc. and Hops Grill & Bar, Inc. (16)
10.29 Second Amended and Restated Credit Agreement dates as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory hereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (20)
10.30 First amendment, dated as of June 4, 2002, to Second Amended and Restated Credit Agreement, dated as of March, 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (21)
10.31 Eighth amendment, dated as of March 25, 2002, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Avado Brands, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (21)
10.32 Second amendment, dated as of September 23, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (22)
10.33 Third amendment, dated as of November 11, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (22)
10.34 Fourth amendment, dated as of December 27, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (23)
21.1 Subsidiaries of the Registrant.
23.1 Consent of KPMG LLP.
99.1 Safe harbor under the Private Securities Litigation Reform Act of 1995. (12)
99.2 Certification of Corporate Officers pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(1) Incorporated by reference to the corresponding exhibit number filed with the registrant's Registration Statement on Form S-1, File No. 33-42662.
(2) Incorporated by reference to the registrant's Annual Report on Form 10-K for its fiscal year ended December 31, 1993.
(3) Incorporated by reference to the registrant's Current Report on Form 8-K dated October 13, 1998.
(4) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1995.
(5) Incorporated by reference to the registrant's registration statement on Form S-3, File No. 333-25205.
(6) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 28, 1997.
(7) Incorporated by reference to the registrant's Quarterly Report on Form 10-Q for its fiscal quarter ended March 29, 1998.
(8) Incorporated by reference to the registrant's Quarterly Report on Form 10-Q for its fiscal quarter ended June 28, 1998.
(9) Incorporated by reference to the Company's Registration Statement on Form S-4, File No. 333-82345, filed on July 6, 1999.
(10) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended July 4, 1999.
(11) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended January 3, 1999.
(12) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended April 2, 2000.
(13) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended October 1, 2000.
(14) Incorporated by reference to the Company's Registration Statement on Form S-8, File No. 333-56138, filed on February 23, 2001.
(15) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended January 2, 2000.
(16) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2000.
(17) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended April 1, 2001.
(18) Incorporated by reference to the registrant's Current Report on Form 8-K dated June 7, 2001.
(19) Incorporated by reference to the Company's Registration Statement on Form S-8, File No. 333-74422, filed on December 3, 2001.
(20) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2002, as amended on Form 10-Q/A dated December 10, 2002.
(21) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2002, as amended on Form 10-Q/A dated December 10, 2002.
(22) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 29, 2002.
(23) Incorporated by reference to the registrant's Current Report on Form 8-K dated December 27, 2002.
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K, dated August 6, 2002, which disclosed, pursuant to Item 5, the Company's adoption of a shareholders rights plan pursuant to a Rights Agreement.
The Company filed a Current Report on Form 8-K, dated December 27, 2002, which disclosed, pursuant to Item 5, the Company's execution of a fourth amendment, dated December 27, 2002, to its Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent.
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.
AVADO BRANDS, INC.
By: /s/ Louis J. Profumo ----------------------- Louis J. Profumo Chief Financial Officer and Treasurer
February 28, 2003 Atlanta, Georgia
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.
Signature Title Date
/s/ Tom E. DuPree, Jr. Chairman of the Board of Directors February 28, 2003 - ------------------------ and Chief Executive Officer Tom E. DuPree, Jr. (principal executive officer)
/s/ Louis J. Profumo Chief Financial Officer and February 28, 2003 - ------------------------ Treasurer (principal financial Louis J. Profumo officer)
/s/ Margaret E. Waldrep Director and Chief Administrative February 28, 2003 - ------------------------ Officer Margaret E. Waldrep
/s/ Percy V. Williams Secretary February 28, 2003 - ------------------------ Percy V. Williams
/s/ Emilio Alvarez-Recio Director February 28, 2003 - ------------------------ Emilio Alvarez-Recio
/s/ Jerome A. Atkinson Director February 28, 2003 - ------------------------ Jerome A. Atkinson
/s/ William V. Lapham Director February 28, 2003 - ------------------------ William V. Lapham
/s/ Robert Sroka Director February 28, 2003 - ------------------------ Robert Sroka
CERTIFICATIONS
I, Tom E. DuPree, Jr., certify that:
1. I have reviewed this annual report on Form 10-K of Avado Brands, Inc.,
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared.
b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
c. presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors:
a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officer and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: February 28, 2003 /s/ Tom E. DuPree, Jr. ------------------------- Tom E. DuPree, Jr. Chairman of the Board and Chief Executive Officer
CERTIFICATIONS
I, Louis J. Profumo, certify that:
1. I have reviewed this annual report on Form 10-K of Avado Brands, Inc.,
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared.
b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
c. presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors:
a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officer and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: February 28, 2003 /s/ Louis J. Profumo --------------------------- Louis J. Profumo Chief Financial Officer and Treasurer
EXHIBIT INDEX
2.1 Asset Purchase Agreement dated June 7, 2001 by and among Avado Brands, Inc., McCormick & Schmick Holding Corp., each of the McCormick & Schmick Holding Corp. subsidiaries and McCormick & Schmick Acquisition Corp. (18)
3.1 Amended and Restated Articles of Incorporation of the Company, as amended October 13, 1998. (3)
3.2 By-laws of the Company. (1)
4.1 See Exhibits 3.1 and 3.2 for provisions in the Company's Amended and Restated Articles of Incorporation and by-laws defining the rights of holders of the Company's Common Stock. (1) (3)
4.2 Trust Agreement of Apple South Financing I, dated as of February 18, 1997, among Apple South, Inc., First Union National Bank of Georgia and First Union Bank of Delaware. (5)
4.3 Amended and Restated Declaration of Trust of Apple South Financing I, dated as of March 11, 1997, among Apple South, Inc., as Sponsor, First Union National Bank of Georgia, as Institutional Trustee, First Union Bank of Delaware, as Delaware Trustee, and the Regular Trustees named therein. (5)
4.4 Indenture for the 7% Convertible Subordinated Debentures, dated as of March 6, 1997, between Apple South, Inc. and First Union National Bank of Georgia, as Trustee. (5)
4.5 Form of $3.50 Term Convertible Security, Series A (included in Exhibit 4.3).
4.6 Form of 7% Convertible Subordinated Debenture (included in Exhibit 4.4).
4.7 Preferred Securities Guarantee Agreement, dated as of March 11, 1997, between Apple South, Inc., as Guarantor, and First Union National Bank of Georgia, as Preferred Guarantee Trustee. (5)
4.8 Registration Rights Agreement, dated as of March 11, 1997 among Apple South, Inc., Apple South Financing I, J.P. Morgan Securities, Inc., and Smith Barney, Inc. (5)
4.9 Solicitation of Consents to Proposed Amendments to 9.75% Senior Notes due 2006 of Apple South, Inc. (8)
4.10 Indenture, dated as of June 22, 1999, among the Company, certain guaranteeing subsidiaries and SunTrust Bank, Atlanta, as Trustee (including the form of Note). (9)
4.11 Registration Rights Agreement, dated as of June 22, 1999, among the Company, certain guaranteeing subsidiaries and the initial purchasers of the Notes. (9)
4.12 The Hops Grill & Bar, Inc. MP Equity Investment Plan (14)
10.1 Apple South, Inc. 1988 Stock Option Plan. (1)
10.2 Form of Stock Option Agreement under the Apple South, Inc. 1988 Stock Option Plan. (1) (4)
10.3 Form of Apple South, Inc. Director's Indemnification Agreement executed by and between the Company and each member of its Board of Directors. (1)
10.4 Form of Apple South, Inc. Officer's Indemnification Agreement executed between the Company and each of its executive officers. (1)
10.5 Apple South, Inc. Employee Stock Ownership Plan and Trust. (1) (4)
10.6 Apple South, Inc. Profit Sharing Plan and Trust. (1) (4)
10.7 Amendment No. 2 to the Apple South, Inc. Employee Stock Ownership Plan and Trust, dated November 22, 1993. (2)
10.8 Apple South, Inc. [Restated] Profit Sharing Plan and Trust dated October 26, 1993. (2)
10.9 Amended form of Stock Option Agreement under the Apple South, Inc. 1988 Stock Option Plan. (2)
10.10 Apple South, Inc. 1993 Stock Incentive Plan. (2)
10.11 Form of Stock Option Agreement under the Apple South, Inc. 1993 Stock Incentive Plan. (2)
10.12 Avado Brands, Inc. Employee Stock Purchase Plan. (19)
10.13 Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (6)
10.14 First amendment, dated as of March 27, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (7)
10.15 Second amendment, dated as of August 14, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.16 Third amendment, dated as of November 13, 1998, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.17 Fourth amendment, dated as of February 22, 1999, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (11)
10.18 Fifth amendment, dated as of August 24, 1999, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (16)
10.19 Sixth amendment, dated as of December 20, 2000, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Apple South, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (16)
10.20 Seventh amendment, dated as of April 2, 2001, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Avado Brands, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (17)
10.21 $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (10)
10.22 First amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.23 Second amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.24 Third amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (15)
10.25 Fourth amendment to $125 million Credit Agreement, dated as of June 22, 1999, among Avado Brands, Inc. as borrower and Wachovia Bank, National Association and BankBoston, N.A. (13)
10.26 Amended and Restated Credit Agreement Dated as of April 2, 2001 among Avado Brands, Inc. as borrower, Wachovia Bank, National Association and Fleet National Bank. (17)
10.27 Master lease agreement, dated as of October 19, 2000, by and between Pubs Property, LLC and Hops Grill & Bar, Inc. (16)
10.28 Sale-leaseback agreement, dated as of October 19, 2000, by and among Pubs Property, LLC, Avado Brands, Inc. and Hops Grill & Bar, Inc. (16)
10.29 Second Amended and Restated Credit Agreement dates as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory hereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (20)
10.30 First amendment, dated as of June 4, 2002, to Second Amended and Restated Credit Agreement, dated as of March, 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (21)
10.31 Eighth amendment, dated as of March 25, 2002, to Participation Agreement (Apple South Trust No. 97-1), dated September 24, 1997, among Avado Brands, Inc., as lessee, First Security Bank, National Association, as lessor, SunTrust Bank, Atlanta, as administrative agent, and the holders and lenders signatory thereto. (21)
10.32 Second amendment, dated as of September 23, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (22)
10.33 Third amendment, dated as of November 11, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (22)
10.34 Fourth amendment, dated as of December 27, 2002, to Second Amended and Restated Credit Agreement dated as of March 20, 2002 by and among Avado Brands, Inc., as Borrower, the lenders signatory thereto, Foothill Capital Corporation, as Administrative Agent, and Ableco Finance LLC, as Collateral Agent. (23)
21.1 Subsidiaries of the Registrant.
23.1 Consent of KPMG LLP.
99.1 Safe harbor under the Private Securities Litigation Reform Act of 1995. (12)
99.2 Certification of Corporate Officers pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(1) Incorporated by reference to the corresponding exhibit number filed with the registrant's Registration Statement on Form S-1, File No. 33-42662.
(2) Incorporated by reference to the registrant's Annual Report on Form 10-K for its fiscal year ended December 31, 1993.
(3) Incorporated by reference to the registrant's Current Report on Form 8-K dated October 13, 1998.
(4) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1995.
(5) Incorporated by reference to the registrant's registration statement on Form S-3, File No. 333-25205.
(6) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 28, 1997.
(7) Incorporated by reference to the registrant's Quarterly Report on Form 10-Q for its fiscal quarter ended March 29, 1998.
(8) Incorporated by reference to the registrant's Quarterly Report on Form 10-Q for its fiscal quarter ended June 28, 1998.
(9) Incorporated by reference to the Company's Registration Statement on Form S-4, File No. 333-82345, filed on July 6, 1999.
(10) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended July 4, 1999.
(11) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended January 3, 1999.
(12) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended April 2, 2000.
(13) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended October 1, 2000.
(14) Incorporated by reference to the Company's Registration Statement on Form S-8, File No. 333-56138, filed on February 23, 2001.
(15) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended January 2, 2000.
(16) Incorporated by reference to the registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2000.
(17) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended April 1, 2001.
(18) Incorporated by reference to the registrant's Current Report on Form 8-K dated June 7, 2001.
(19) Incorporated by reference to the Company's Registration Statement on Form S-8, File No. 333-74422, filed on December 3, 2001.
(20) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2002, as amended on Form 10-Q/A dated December 10, 2002.
(21) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2002, as amended on Form 10-Q/A dated December 10, 2002.
(22) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 29, 2002.
(23) Incorporated by reference to the registrant's Current Report on Form 8-K dated December 27, 2002.