SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] |
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 |
Commission File Number: 0-17442
MERITAGE HOSPITALITY GROUP INC.
(Exact Name of Registrant as Specified in Its Charter)
Michigan |
|
38-2730460 |
(616) 776-2600
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
As of July 8, 2002, there were 5,328,385 outstanding Common Shares, $.01 par value.
Certain statements contained in this report that are not historical facts constitute forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, and are intended to be covered by the safe harbors created by that Act. Reliance should not be placed on forward-looking statements because they involve known and unknown risks, uncertainties and other factors which may cause actual results, performance or achievements to differ materially from those expressed or implied. Any forward-looking statement speaks only as of the date made. The Company undertakes no obligation to update any forward-looking statements to reflect events or circumstances after the date on which they are made.
Statements concerning expected financial performance, on-going business strategies and actions which the Company intends to pursue to achieve strategic objectives constitute forward-looking information. Implementation of these strategies and the achievement of such financial performance are subject to numerous conditions, uncertainties and risk factors. Factors which could cause actual performance to differ materially from these forward looking statements include, without limitation, competition; changes in local and national economic conditions; changes in consumer tastes and views about quick-service food; severe weather; changes in travel patterns; increases in food, labor and energy costs; the availability and cost of suitable restaurant sites; the ability to finance expansion; fluctuating interest rates; fluctuating insurance rates; the availability of adequate employees; directives issued by the franchisor; the general reputation of Wendy’s restaurants; and the recurring need for renovation and capital improvements. Also, the Company is subject to extensive government regulations relating to, among other things, zoning, minimum wage, public health certification, and the operation of its restaurants. Because the Company’s operations are concentrated in smaller urban areas of Michigan, a marked decline in the Michigan economy could adversely affect its operations.
The following unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not contain all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting solely of normal recurring adjustments) considered necessary for a fair presentation of the financial position, results of operations, stockholders’ equity and cash flows of the Company have been included. For further information, please refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 2, 2001. The results of operations for the three and six month periods ended June 2, 2002 and May 31, 2001 are not necessarily indicative of the results to be expected for the full year.
Meritage Hospitality Group Inc. and Subsidiaries Consolidated Balance Sheets June 2, 2002 and December 2, 2001 ASSETS June 2, 2002 December 2, (Unaudited) 2001 ------------ ----------- Current Assets Cash and cash equivalents $ 1,138,593 $ 1,663,900 Receivables 75,663 129,162 Inventories 186,457 202,708 Income taxes receivable 5,000 -- Prepaid expenses and other current assets 89,992 201,885 ----------- ----------- Total current assets 1,495,705 2,197,655 Property, Plant and Equipment, net 32,026,441 28,780,582 Other Assets Note receivable 361,150 362,736 Assets held for sale and development 727,730 472,725 Goodwill, net of amortization of $789,110 and $698,345, respectively 4,520,614 4,611,378 Franchise costs, net of amortization of $110,514 and $93,917, respectively 914,486 881,083 Financing costs, net of amortization of $84,138 and $64,108, respectively 484,421 477,787 Deferred charges and other assets 105,929 96,889 ----------- ----------- Total other assets 7,114,330 6,902,598 ----------- ----------- Total assets $40,636,476 $37,880,835 =========== =========== See notes to unaudited financial statements. 3 Meritage Hospitality Group Inc. and Subsidiaries Consolidated Balance Sheets - continued June 2, 2002 and December 2, 2001 LIABILITIES AND STOCKHOLDERS' EQUITY June 2, 2002 December 2, (Unaudited) 2001 -------------- -------------- Current Liabilities Current portion of long-term obligations $ 869,292 $ 748,444 Current portion of obligations under capital lease 323,657 306,305 Trade accounts payable 988,504 1,583,295 Income taxes payable -- 17,264 Accrued liabilities 1,950,700 1,575,278 ------------ ------------ Total current liabilities 4,132,153 4,230,586 Long-Term Obligations 25,341,608 22,701,377 Obligations Under Capital Lease 236,461 402,742 Deferred Revenue 3,933,215 4,209,108 Commitments and Contingencies -- -- Stockholders' Equity Preferred stock - $0.01 par value shares authorized: 5,000,000; 200,000 designated as Series A convertible cumulative preferred stock shares issued and outstanding: 29,520 (liquidation value - $295,200) 295 295 Common stock - $0.01 par value shares authorized: 30,000,000 shares issued: 5,881,949 and 5,878,413, respectively shares outstanding: 5,327,335 and 5,323,799, respectively 53,273 53,238 Additional paid in capital 13,551,267 13,534,302 Note receivable from the sale of shares -- (538,900) Accumulated deficit (6,611,796) (6,711,913) ------------ ------------ Total stockholders' equity 6,993,039 6,337,022 ------------ ------------ Total liabilities and stockholders' equity $ 40,636,476 $ 37,880,835 ============ ============ See notes to unaudited financial statements. 4 Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Operations For the Six Months Ended June 2, 2002 and May 31, 2001 (Unaudited) June 2, May 31, 2002 2001 ------------ ------------ Food and beverage revenue $ 22,131,764 $ 17,607,416 Costs and expenses Cost of food and beverages 5,722,950 4,867,010 Operating expenses 12,655,080 10,286,516 General and administrative expenses 1,506,014 1,261,592 Depreciation and amortization 1,176,569 904,100 Gain on sale of impaired assets -- (459,767) ------------ ------------ Total costs and expenses 21,060,613 16,859,451 ------------ ------------ Earnings from operations 1,071,151 747,965 Other income (expense) Interest expense (917,322) (762,140) Interest income 24,030 53,787 Other income 23,155 10,727 (Loss) gain on disposal of assets (104,613) 50,930 ------------ ------------ Total other expense (974,750) (646,696) ------------ ------------ Earnings before federal income tax 96,401 101,269 Federal income tax benefit 17,000 -- ------------ ------------ Net earnings 113,401 101,269 Dividends on preferred stock 13,284 13,284 ------------ ------------ Net earnings on common shares $ 100,117 $ 87,985 ============ ============ Net earnings per common share - basic and diluted $ 0.02 $ 0.02 ============ ============ Weighted average shares outstanding - basic 5,325,489 5,102,985 ============ ============ Weighted average shares outstanding - diluted 5,652,438 5,144,553 ============ ============ See notes to unaudited financial statements. 5 Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Operations For the Three Months Ended June 2, 2002 and May 31, 2001 (Unaudited) June 2, May 31, 2002 2001 ------------ ------------ Food and beverage revenue $ 11,694,052 $ 9,401,172 Costs and expenses Cost of food and beverages 2,972,859 2,630,087 Operating expenses 6,570,615 5,325,963 General and administrative expenses 775,228 675,053 Depreciation and amortization 591,974 465,217 Gain on sale of impaired assets -- (459,767) ------------ ------------ Total costs and expenses 10,910,676 8,636,553 ------------ ------------ Earnings from operations 783,376 764,619 Other income (expense) Interest expense (472,824) (366,455) Interest income 9,417 46,572 Other income 17,555 10,727 (Loss) gain on disposal of assets (103,184) 50,930 ------------ ------------ Total other expense (549,036) (258,226) ------------ ------------ Earnings before federal income tax benefit 234,340 506,393 Federal income tax benefit 17,000 -- ------------ ------------ Net earnings 251,340 506,393 Dividends on preferred stock 6,642 6,642 ------------ ------------ Net earnings on common shares $ 244,698 $ 499,751 ============ ============ Net earnings per common share - basic $ 0.05 $ 0.09 ============ ============ Net earnings per common share - diluted $ 0.04 $ 0.09 ============ ============ Weighted average shares outstanding - basic 5,327,180 5,411,743 ============ ============ Weighted average shares outstanding - diluted 5,691,364 5,462,028 ============ ============ See notes to unaudited financial statements. 6 Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Stockholders' Equity For the Year Ended December 2, 2001 and the Six Months Ended June 2, 2002 (Unaudited) Series A Note Convertible Additional Receivable Preferred Common Paid-In Sale of Accumulated Stock Stock Capital Shares Deficit Total ----------- ------- ----------- ----------- ----------- ----------- Balance at December 1, 2000 $ 295 $44,548 $11,703,257 $ -- $(7,216,927) $4,531,173 Issuance of 978,211 shares of common stock -- 9,783 2,068,341 (538,900) -- 1,539,224 Preferred stock dividends paid -- -- -- -- (26,568) (26,568) Purchase of 109,296 shares of common stock -- (1,093) (237,296) -- -- (238,389) Net earnings -- -- -- -- 531,582 531,582 ------- -------- ----------- -------- ----------- ---------- Balance at December 2, 2001 295 53,238 13,534,302 (538,900) (6,711,913) 6,337,022 Issuance of 3,536 shares of common stock -- 35 16,965 -- -- 17,000 Payment received on note receivable -- -- -- 538,900 -- 538,900 Preferred stock dividends paid -- -- -- -- (13,284) (13,284) Net earnings -- -- -- -- 113,401 113,401 ------- -------- ----------- -------- ----------- ---------- Balance at June 2, 2002 $ 295 $ 53,273 $13,551,267 $ -- $(6,611,796) $6,993,039 ======= ======== =========== ======== =========== ========== See notes to unaudited financial statements. 7 Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Cash Flows For the Six Months Ended June 2, 2002 and May 31, 2001 (Unaudited) June 2, May 31, 2002 2001 ----------- ------------- Cash Flows from Operating Activities Net earnings $ 113,401 $ 101,269 Adjustments to reconcile net earnings to net cash provided by operating activities Depreciation and amortization 1,176,569 904,100 Compensation and fees paid by issuance of common stock 17,000 14,750 Loss (gain) on disposal of assets 104,613 (50,930) Gain on sale of impaired assets -- (459,767) (Decrease) increase in deferred revenue (275,893) 2,717,531 Decrease in current assets 178,229 57,640 Decrease in current liabilities (236,633) (168,003) ----------- ----------- Net cash provided by operating activities 1,077,286 3,116,590 Cash Flows from Investing Activities Purchase of property, plant and equipment (4,643,242) (2,994,636) Purchase of assets held for sale and development (5,005) (617,870) Payment for franchise agreements (50,000) (50,000) Proceeds from sale of assets -- 862,872 Increase in other assets (15,448) (51,000) ----------- ----------- Net cash used in investing activities (4,713,695) (2,850,634) Cash Flows from Financing Activities Proceeds from long-term obligations 3,860,308 793,885 Proceeds from borrowings on line of credit 271,071 1,050,000 Payment of financing costs (26,664) (24,906) Principal payments on long-term obligations (370,300) (525,258) Principal payments on line of credit (1,000,000) (1,367,500) Payments on obligations under capital lease (148,929) (177,925) Proceeds from issuance of common shares -- 1,504,745 Purchase of common stock -- (77,362) Proceeds from note receivable from sale of shares 538,900 -- Preferred dividends paid (13,284) (13,284) ----------- ----------- Net cash provided by financing activities 3,111,102 1,162,395 ----------- ----------- Net (decrease) increase in cash (525,307) 1,428,351 Cash and Cash Equivalents - Beginning of Period 1,663,900 787,747 ----------- ----------- Cash and Cash Equivalents - End of Period $ 1,138,593 $ 2,216,098 =========== =========== Supplemental Cash Flow Information - See Note A See notes to unaudited financial statements. 8 Meritage Hospitality Group Inc. and Subsidiaries Notes to Unaudited Financial Statements For the Six Months Ended June 2, 2002 and May 31, 2001
Note A - Supplemental Cash Flow Information
2002 2001
-------- --------
Cash paid for interest, net of
capitalized interest $903,137 $748,689
======== ========
Cash paid for income taxes $ 5,000 $ --
======== ========
Schedule of Non-Cash Investing
and Financing Activities
Issuance of 250,000 shares of
common stock in exchange for
an 8% short-term note receivable $ -- $538,900
======== ========
Basic earnings per share is computed by dividing earnings on common shares by the weighted average number of common shares outstanding during each period. Diluted earnings per share reflect per share amounts that would have resulted if dilutive potential common stock had been converted to common stock.
The following table reconciles the numerators and denominators used to calculate basic and diluted earnings per share for the three and six months ended June 2, 2002 and May 31, 2001:
Three months ended Six months ended
----------------------- -----------------------
June 2, May 31, June 2, May 31,
2002 2001 2002 2001
---------- ---------- ---------- ----------
Numerators
Net earnings from
operations $ 251,340 $ 506,393 $ 113,401 $ 101,269
Less preferred stock
dividends 6,642 6,642 13,284 13,284
---------- ---------- ---------- ----------
Net earnings on common
shares - basic and
diluted $ 244,698 $ 499,751 $ 100,117 $ 87,985
========== ========== ========== ==========
Denominators
Weighted average common
shares outstanding -
basic 5,327,180 5,411,743 5,325,489 5,102,985
Effect of dilutive
securities:
Stock options 364,184 50,285 326,949 41,568
---------- ---------- ---------- ----------
Weighted average common
shares outstanding -
diluted 5,691,364 5,462,028 5,652,438 5,144,553
========== ========== ========== ==========
For the three and six months ended June 2, 2002 and May 31, 2001, convertible preferred stock was not included in the computation of diluted earnings per share because the effect of conversion of preferred stock would be antidilutive.
Meritage Hospitality Group Inc. and Subsidiaries
Notes to Unaudited Financial Statements
For the Six Months Ended June 2, 2002 and May 31, 2001
On July 20, 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting (“SFAS”) No. 141, “Business Combinations”, and SFAS No. 142, “Goodwill and Intangible Assets”. SFAS 141 is effective for all business combinations completed after June 30, 2001. SFAS 142 is effective for fiscal years beginning after December 15, 2001; however, certain provisions of this Statement apply to goodwill and other intangible assets acquired between July 1, 2001, and the effective date of SFAS 142. Major provisions of these Statements and their effective dates relating to Meritage are as follows:
| - | All business combinations initiated after June 30, 2001, must use the purchase method of accounting. The pooling of interest method of accounting is prohibited except for transactions initiated before July 1, 2001. |
| - | Intangible assets acquired in a business combination must be recorded separately from goodwill if they arise from contractual or other legal rights, or are separable from the acquired entity and can be sold, transferred, licensed, rented or exchanged, either individually or as part of a related contract, asset or liability. |
| - | Goodwill, as well as intangible assets with indefinite lives, acquired after June 30, 2001, will not be amortized. Beginning in fiscal year 2003, all previously recognized goodwill and intangible assets with indefinite lives will no longer be subject to amortization. |
| - | Beginning in fiscal year 2003, goodwill and intangible assets with indefinite lives will be tested for impairment annually and whenever there is an impairment indicator. |
| - | All acquired goodwill must be assigned to reporting units for purposes of impairment testing and segment reporting. |
Meritage is in the process of determining the impact of these pronouncements on its financial statements.
In December 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations”, which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. The standard is effective for fiscal years beginning after June 15, 2002. Meritage does not expect this pronouncement to have an impact on its financial statements.
In October 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While SFAS 144 supersedes SFAS 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of,” it retains many of the fundamental provisions of that statement. The standard is effective for fiscal years beginning after December 15, 2001.
Results of operations for the three and six months ended June 2, 2002 and May 31, 2001 are summarized in the following tables:
Statements of Operations
---------------------------------------------------------------------------------
2nd quarter ended Year-to-date ended
----------------------------------------- -------------------------------------
$ (000's) % of Revenue $ (000's) % of Revenue
------------------- ----------------- ------------------ -----------------
6/02/02 5/31/01 6/02/02 5/31/01 6/02/02 5/31/01 6/02/02 5/31/01
------- ------- ------- ------- ------- ------- ------- -------
Food and beverage revenue $ 11,694 $ 9,401 100.0% 100.0% $22,132 $ 17,607 100.0% 100.0%
Costs and expenses
Cost of food and beverages 2,973 2,630 25.4 28.0 5,723 4,867 25.9 27.7
Operating expenses 6,571 5,326 56.2 56.7 12,655 10,287 57.2 58.4
General and administrative
Restaurant operations 332 277 2.8 2.9 681 544 3.1 3.1
Corporate level expenses 374 324 3.2 3.4 695 593 3.1 3.4
Michigan single business
tax 69 74 0.6 0.8 130 124 0.6 0.7
Depreciation and
amortization 547 420 4.7 4.5 1,086 813 4.9 4.6
Goodwill amortization 45 45 0.4 0.5 91 91 0.4 0.5
Gain on sale of impaired
assets -- (460) -- (4.9) -- (460) -- (2.6)
------ ----- ---- ---- ------ ------ ---- ----
Total costs and expenses 10,911 8,636 93.3 91.9 21,061 16,859 95.2 95.8
------ ----- ---- ---- ------ ------ ---- ----
Earnings from operations 783 765 6.7 8.1 1,071 748 4.8 4.2
Other income (expense)
Interest expense (473) (366) (4.0) (3.9) (917) (762) (4.1) (4.3)
Interest income 9 46 0.1 0.5 24 54 0.1 0.3
Other income 18 10 0.1 0.1 23 10 0.1 0.1
Gain (loss) on disposal
of assets (103) 51 (0.9) 0.6 (105) 51 (0.5) 0.3
------ ----- ---- ---- ------ ------ ---- ----
Total other expense (549) (259) (4.7) (2.7) (975) (647) (4.4) (3.6)
------ ----- ---- ---- ------ ------ ---- ----
Earnings before federal
Income tax benefit $ 234 $ 506 2.0% 5.4% $ 96 $ 101 0.4% 0.6%
====== ======= ==== === ======= ====== ==== ====
Food and beverage revenue increased 24.4% and 25.7%, respectively, for the second quarter and six months ended June 2, 2002, compared to the similar periods last year. These increases were primarily due to (i) sales from new restaurants opened for less than one year which contributed $2,252,000 and $4,073,000 for the respective periods, (ii) strong customer demand for Wendy’s new “Garden Sensations” salads which were introduced in January 2002, and (iii) improved same store sales as illustrated on the following page. Revenue was negatively impacted by closing an outdated store in February 2001 that generated $162,000 in revenue in the first quarter of 2001, and major road construction at one of the Company’s highest revenue producing stores during the second quarter of 2002 (sales at this restaurant were down $194,000 (52%) during the second quarter of 2002 compared to the same period last year).
Average food and beverage revenue for stores in full operation during the first two quarters of 2002 (“same store sales”) increased as set forth below:
2002 2001 Increase Increase
-------- -------- --------- --------
Second Quarter - sales per unit $295,328 $287,763 $ 7,565 2.6%
First Quarter - sales per unit 273,234 255,885 17,349 6.8%
-------- -------- --------
Year-To-Date - sales per unit $568,562 $543,648 $ 24,914 4.6%
======== ======== ========
The increase in same store sales compared to the similar periods in 2001 was primarily attributable to increased menu prices, improved customer service times and improved training. Customer traffic decreased slightly (approximately 1%) during the second quarter due to unseasonably cold weather in March and April of 2002. For the six months ended June 2, 2002, customer traffic increased approximately 2% compared to the same period last year.
The decreases in the cost of food and beverages as a percentage of revenue resulted from improved inventory control measures including the implementation of a new food cost software program in December 2001, along with an increase in menu prices and a reduction in beef and chicken costs. Beef and chicken purchases accounted for 31% of all food and beverage purchases in 2002. Over the past year the Company has improved its cost of food and beverage percentage. Meritage’s costs are below guidelines established by Wendy’s International and the costs reported by other Wendy’s franchisees.
The following table illustrates operating expense categories with significant year-to-year fluctuations:
Second quarter ended: Six months ended:
------------------------- -------------------------
Increase Increase
6/2/02 5/31/01 (Decrease) 6/2/02 5/31/01 (Decrease)
------ ------- ---------- ------ ------- ----------
As a percentage of revenue:
Labor and related costs 32.5 33.2 (0.7) 33.3 34.4 (1.1)
Occupancy expenses 8.6 8.7 (0.1) 9.0 9.6 (0.6)
Other operating expenses 3.6 3.4 0.2 3.7 3.3 0.4
The decreases in labor and related costs as a percentage of revenue were primarily the result of reductions in hourly labor achieved by improved labor controls due to improved training and development of store management teams. Meritage’s average hourly rate has declined slightly (less than 1%) for both the three and six months ended June 2, 2002 compared to the same periods of 2001. The decrease in hourly labor was slightly offset by salary increases for store management labor.
As a percentage of revenue, the decrease in occupancy expense for the six months ended June 2, 2002 was due to lower rent expense as the percentage of total restaurants owned has increased (28 of 41 stores are now owned). Nine of the last ten stores opened are owned. Reduced utility costs also contributed to the reduction in occupancy expense.
The increase in other operating expenses was primarily due to monthly fees for a new food cost software program implemented at the beginning of fiscal 2002.
The decrease in general and administrative expenses as a percentage of revenue was due to the increase in revenue for both the three and six months ended June 2, 2002 compared to the same periods of 2001. During the first half of 2001, the Company added several new positions to facilitate Meritage’s aggressive restaurant development plan, and is realizing the financial benefit as these costs are spread over higher sales volumes.
The increase in depreciation and amortization expense was primarily due to the depreciation of buildings and equipment associated with new restaurants. Meritage has opened ten new restaurants since the beginning of fiscal 2001. Meritage owns the buildings and equipment associated with nine of these restaurants. Also contributing to the increase were capital expenditures for remodeling four existing restaurants.
The gain on sale of impaired assets in 2001 resulted from the sale of a closed restaurant in March 2001. An impairment loss had been recognized in 2000.
The increase in interest expense was primarily related to additional long-term indebtedness incurred to construct new restaurants. This was partially offset by a decrease in interest expense on capital leases that are nearing maturity, and the early retirement of certain equipment loans in March 2001. Nearly all of the Company’s long-term obligations are first mortgages secured by restaurant real estate at fixed interest rates. As a percentage of revenue, there has been no significant change in interest expense.
The gain on disposal of assets in 2001 resulted from the sale of excess land at two restaurant sites. In 2002, the loss on disposal of assets resulted primarily from the write-off of assets located at a leased restaurant that the Company purchased on May 31, 2002. Meritage has demolished this restaurant and is building a new restaurant on the same site which will open in August 2002.
Cash and cash equivalents (“cash”) decreased $525,000, to $1,139,000 as of June 2, 2002 as set forth below:
Net cash provided by operating activities $ 1,077,000
Net cash used in investing activities (4,713,000)
Net cash provided by financing activities 3,111,000
-----------
Net decrease in cash $ (525,000)
============
13
Net cash provided by operating activities decreased $2,039,000 primarily as a result of the receipt of $3,000,000 in marketing funds from the Company’s primary beverage supplier in March 2001. Since then, Meritage has not received any additional marketing funds of this type. Offsetting this source of funds in 2001 was a $900,000 improvement in 2002 in net earnings before depreciation and amortization, and gains/losses on the sale of assets (non-cash adjustments to net earnings).
Net cash used in investing activities increased $1,863,000 and included (i) $2,856,000 used to develop new restaurants, (ii) $867,000 used to purchase and develop new restaurants that were previously leased (two previously leased sites were purchased on May 31, 2002), and (iii) $920,000 used to upgrade and remodel existing restaurants. This compares to $3,663,000 invested in 2001 in connection with (i) the development of new restaurants ($1,825,000), (ii) the purchase of two restaurants that were previously leased ($800,000), (iii) improvements to existing restaurants and offices ($420,000), and (iv) the purchase of surplus land held for sale or development ($618,000). In 2001, these investments in assets were offset by proceeds from the sale of surplus land for $863,000.
Net cash provided by financing activities increased $1,949,000 due to (i) a $2,655,000 increase in net loan proceeds (after reductions to the Company’s line of credit) used to finance new store development, (ii) proceeds of $539,000 from a note receivable in February 2002, and (iii) a decrease in principal payments on long-term obligations including capital leases of $183,000. These increases were offset by a decrease in cash provided by financing activities of $1,505,000 from a private placement of common stock in February 2001.
As of June 2, 2002, Meritage’s current liabilities exceeded its current assets by $2,636,000 compared to December 2, 2001, when current liabilities exceeded current assets by $2,033,000. Excluding the current portion of occupancy related long-term obligations and capital leases, current liabilities exceeded current assets by $1,443,000 at June 2, 2002, and by $978,000 at December 2, 2001. At these dates, the ratios of current assets to current liabilities were 0.36:1 and 0.52:1, respectively. The primary reason for the decrease in working capital was the pay off of $1,000,000 on the Company’s line of credit in the first quarter of 2002. The above discussion of cash flows provides additional details of the decrease in cash as well as the most significant reasons for the decrease in working capital.
Cash flow from existing operations has increased over the past year due to various factors. In the past three years, Meritage has increased the number of restaurants it operates by over 50%, from 25 to 41 restaurants. Meritage, recognizing the need to implement a number of operational changes in order to effectively manage this growth, undertook a number of initiatives beginning in the first quarter of fiscal 2001. These initiatives, along with other operational changes currently underway, have had (and should continue to have) a favorable impact on cash flow from existing operations. Management believes that at current operating levels, Meritage can meet its obligations from existing operations for the foreseeable future. However, because of Meritage’s aggressive development plans, certain liquidity issues still exist including (i) negative cash flow experienced by new stores during the pre-opening and start-up phase of operations, (ii) the decision to de-leverage by making equity investments of 20% - 25% in its newly opened stores, and (iii) plans to remodel certain restaurants.
Capital investment into existing restaurants is estimated at $1,200,000 over the twelve months. It is anticipated that the capital resources for the investment in existing restaurants will be a combination of internally generated cash from existing operations and proceeds generated from the sale of surplus real estate. Meritage plans to open eight to ten additional new stores over the next twelve months.
14
All of the planned new restaurants require an investment in real estate and equipment. Newly owned restaurants generally require an investment of approximately $1.25 million per restaurant, of which Meritage intends to invest $250,000 to $300,000 of equity per restaurant. Any remaining investment will be funded through long-term financing. In fiscal 2001, Meritage received an $8,000,000 forward commitment for debt financing for eight new restaurants which will be fully utilized in 2002. Meritage has entered into finance proposals with two financing sources to provide funding for up to ten additional restaurants over the next twelve months. Borrowings under these proposals would be secured with mortgages maturing in ten years with monthly payments based on a 20-year amortization schedule. The proposals would allow Meritage to select either a fixed or variable interest rate. It is Meritage’s present intention to use the variable interest rate which would result in an interest rate of approximately 4.4%. These loans would contain covenants similar to the covenants contained in Meritage’s existing loan agreements described below.
Meritage’s various loan and franchise agreements contain covenants requiring the maintenance of certain financial ratios including:
At June 2, 2002, Meritage was in compliance with these covenants.
Meritage may use any of the following sources to meet its current obligations over the next twelve months:
There can be no assurances, however, that Meritage will be able to complete the above activities or that completion would yield the results expected.
15
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Because all of Meritage’s operations are in the United States, currency exposure is eliminated. All of Meritage’s debt is in U.S. dollars and substantially all present debt is at fixed interest rates which limits financial instrument risk. Accordingly, Meritage does not utilize any derivatives to alter interest rate risk. In the normal course of business, Meritage purchases certain products (primarily food items) which can be affected by fluctuating commodity prices. Most of these products are purchased under agreements negotiated by Wendy’s International that are outside Meritage’s control. It is the Company’s understanding that Wendy’s utilizes various purchasing and pricing techniques in an effort to minimize volatility. As a result, Meritage does not make use of financial instruments to hedge commodity prices. While fluctuating commodity prices may impact the Company’s cost of food, Meritage retains some ability to increase its menu pricing to offset these increases.
16
Item 4. Submission of Matters to a Vote of Security Holders.
The 2002 Annual Meeting of Shareholders was held at Meritage’s offices in Grand Rapids, Michigan, at 9:00 a.m. on Tuesday, May 21, 2002. The Company solicited proxies for the matters brought before the shareholders pursuant to a definitive proxy statement that was filed with the Securities and Exchange Commission on April 9, 2002. 4,690,577 common shares were present in person or by proxy at the meeting, representing 88% of the total shares outstanding.
The shareholders elected the following seven members to the Company's Board of Directors to serve until the 2003 Annual Meeting: James P. Bishop (4,664,141 shares in favor), Christopher P. Hendy (4,664,141 shares in favor), Joseph L. Maggini (4,659,241 shares in favor), Robert E. Riley (4,601,207 shares in favor), Jerry L. Ruyan (4,667,218 shares in favor), Robert E. Schermer, Sr. (4,596,307 shares in favor) and Robert E. Schermer, Jr. (4,667,218 shares in favor). Each director received no less than 98% of the total shares voted.
The shareholders also adopted the 2002 Management Equity Incentive Plan. The following are the results of the shares that voted: In Favor: 2,504,693 (65.3%); Opposed: 1,328,757; Abstentions: 66,499; Broker Non-Votes: 790,628.
The shareholders also ratified the appointment of Grant Thornton LLP as the Company's independent certified public accountants for the fiscal year ending December 1, 2002. The following are the results of the vote: In Favor: 4,657,485; Opposed: 5,712; Abstentions: 27,380.
On May 21, 2002, the Board of Directors appointed the following officers of Meritage: Robert E. Schermer, Jr. - Chief Executive Officer; Robert E. Riley - President, Stephen A. Rose - Vice President, Treasurer and Chief Financial Officer; Robert H. Potts - Vice President of Real Estate; and James R. Saalfeld - - Vice President, General Counsel and Secretary. Robert E. Schermer, Sr. was reappointed Chairman of the Board of Directors. The Board also reestablished the Executive, Audit, and Compensation Committees as standing committees of the Board of Directors. On June 28, 2002, the Board of Directors appointed Mr. Saalfeld as the Company's Treasurer, replacing Mr. Rose who resigned to rejoin his former employer.
On July 10, 2002, the Board for Directors approved an amendment to the Company's Bylaws so that Chapter 7B of the Michigan Business Corporation Act (being §§790 through 799 of the Act) shall not apply to any “control share acquisition” (as that term is defined is §791 of the Act) of the Company's common shares occurring after this amendment.
The Company opened its 41st Wendy’s restaurant during the second fiscal quarter. The restaurant is located on the Gull Road corridor in Kalamazoo, Michigan. The Company also purchased two existing Wendy’s restaurants that were previously leased.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibit List.
Exhibit No. |
Description of Document
|
Exhibit filed herewith.
(b) |
Reports on Form 8-K. |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: July 11, 2002 |
MERITAGE HOSPITALITY GROUP INC. |
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EXHIBIT INDEX
Exhibit No. |
Description of Document
|
Exhibit filed herewith.
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