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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
FOR THE QUARTER ENDED JULY 14, 2002 COMMISSION FILE NUMBER 333-90817
SBARRO, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW YORK 11-2501939
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER I.D. NO.)
INCORPORATION OR ORGANIZATION)
401 BROAD HOLLOW ROAD, MELVILLE, NEW YORK 11747
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (631) 715-4100
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934 DURING THE PRECEDING 12 MONTHS, AND (2) HAS BEEN SUBJECT TO SUCH FILING
REQUIREMENTS FOR THE PAST 90 DAYS.
YES X NO
------ ------
THE NUMBER OF SHARES OF COMMON STOCK OF THE REGISTRANT OUTSTANDING AS OF AUGUST
15, 2002 WAS 7,064,328.
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SBARRO, INC.
FORM 10-Q INDEX
---------------
PART I. FINANCIAL INFORMATION PAGES
--------------------- -----
Consolidated Financial Statements:
Balance Sheets - July 14, 2002 (unaudited) and December 30, 2001........3-4
Statements of Operations (unaudited) - Twenty-Eight Weeks and Twelve
Weeks ended July 14, 2002 and July 15, 2001.............................5-6
Statements of Cash Flows (unaudited) - Twenty-Eight Weeks ended
July 14, 2002 and July 15, 2001.........................................7-8
Notes to Unaudited Consolidated Financial Statements - July 14, 2002...9-26
Management's Discussion and Analysis of Financial Condition and
Results of Operations..............................................27-36
Qualitative and Quantitative Disclosures of Market Risk.......................36
PART II. OTHER INFORMATION.................................................37
-----------------
Pg. 2
Part 1 - Financial Information
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
(IN THOUSANDS EXCEPT SHARE DATA)
----------------------------------
JULY 14, 2002 DECEMBER 30, 2001
------------- -----------------
(UNAUDITED)
CURRENT ASSETS:
CASH AND CASH EQUIVALENTS $ 30,681 $ 36,952
RESTRICTED CASH FOR UNTENDERED SHARES 21 45
RECEIVABLES, NET OF ALLOWANCE FOR DOUBTFUL
ACCOUNTS OF $175 (NOTE 7):
FRANCHISEE 2,259 2,162
OTHER 1,797 2,797
-------- --------
4,056 4,959
INVENTORIES 2,890 3,537
LOANS RECEIVABLE FROM SHAREHOLDERS 3,232 --
PREPAID EXPENSES 8,207 1,242
-------- --------
TOTAL CURRENT ASSETS 49,087 46,735
PROPERTY AND EQUIPMENT, NET 123,543 132,303
INTANGIBLE ASSETS:
TRADEMARKS AND TRADENAMES, NET (NOTE 2) 195,916 195,916
GOODWILL, NET (NOTE 2) 9,204 9,204
DEFERRED FINANCING COSTS, NET 7,129 7,707
LOANS RECEIVABLE FROM SHAREHOLDERS 2,800 6,032
OTHER ASSETS 7,342 6,865
-------- --------
$395,021 $404,762
======== ========
(CONTINUED)
Pg. 3
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
LIABILITIES AND SHAREHOLDERS' EQUITY
(IN THOUSANDS EXCEPT SHARE DATA)
----------------------------------
JULY 14, 2002 DECEMBER 30, 2001
------------- -----------------
(UNAUDITED)
CURRENT LIABILITIES:
AMOUNTS DUE FOR UNTENDERED SHARES $ 21 $ 45
ACCOUNTS PAYABLE 11,722 9,107
ACCRUED EXPENSES 19,726 24,648
ACCRUED INTEREST PAYABLE 9,260 8,181
CURRENT PORTION OF MORTGAGE PAYABLE 149 140
-------- --------
TOTAL CURRENT LIABILITIES 40,878 42,121
DEFERRED RENT 8,750 8,479
LONG-TERM DEBT, NET OF ORIGINAL ISSUE
DISCOUNT (NOTE 5) 267,832 267,718
CONTINGENCIES (NOTE 8)
SHAREHOLDERS' EQUITY:
PREFERRED STOCK, $1 PAR VALUE; AUTHORIZED
1,000,000 SHARES; NONE ISSUED -- --
COMMON STOCK, $.01 PAR VALUE; AUTHORIZED
40,000,000 SHARES; ISSUED AND OUTSTANDING
7,064,328 SHARES AT JULY 14, 2002 AND
DECEMBER 30, 2001 71 71
ADDITIONAL PAID-IN CAPITAL 10 10
RETAINED EARNINGS 77,480 86,363
-------- --------
77,561 86,444
-------- --------
$395,021 $404,762
======== ========
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Pg. 4
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS)
---------------------------------
FOR THE TWENTY-EIGHT WEEKS ENDED:
---------------------------------
JULY 14, 2002 JULY 15, 2001
------------- -------------
REVENUES:
RESTAURANT SALES $ 176,448 $ 188,722
FRANCHISE RELATED INCOME 5,075 5,222
REAL ESTATE AND OTHER 3,015 3,269
---------- ----------
TOTAL REVENUES 184,538 197,213
---------- ----------
COSTS AND EXPENSES:
RESTAURANT OPERATING EXPENSES:
COST OF FOOD AND PAPER PRODUCTS 34,854 38,507
PAYROLL AND OTHER EMPLOYEE BENEFITS 50,056 52,631
OTHER OPERATING COSTS 62,377 63,552
DEPRECIATION AND AMORTIZATION (NOTE 2) 11,912 16,977
GENERAL AND ADMINISTRATIVE 12,699 16,319
PROVISION FOR RESTAURANT CLOSINGS (NOTE 4) 2,229 1,465
---------- ----------
TOTAL COSTS AND EXPENSES 174,127 189,451
---------- ----------
OPERATING INCOME BEFORE MINORITY INTEREST 10,411 7,762
MINORITY INTEREST (33) (2)
---------- ----------
OPERATING INCOME 10,378 7,760
---------- ----------
OTHER INCOME (EXPENSE):
INTEREST EXPENSE (16,740) (16,885)
INTEREST INCOME 260 493
EQUITY IN NET INCOME OF
UNCONSOLIDATED AFFILIATES 545 125
---------- ----------
NET OTHER EXPENSE (15,935) (16,267)
--------- ----------
LOSS BEFORE INCOME TAXES (5,557) (8,507)
INCOME TAXES (NOTE 6) 201 200
---------- ----------
NET LOSS $ (5,758) $ (8,707)
========== ==========
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Pg. 5
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS)
------------------------------
FOR THE TWELVE WEEKS ENDED:
------------------------------
JULY 14, 2002 JULY 15, 2001
REVENUES:
RESTAURANT SALES $ 75,679 $ 81,016
FRANCHISE RELATED INCOME 2,332 2,030
REAL ESTATE AND OTHER 1,321 1,421
-------- --------
TOTAL REVENUES 79,332 84,467
-------- --------
COSTS AND EXPENSES:
RESTAURANT OPERATING EXPENSES:
COST OF FOOD AND PAPER PRODUCTS 14,846 16,579
PAYROLL AND OTHER EMPLOYEE BENEFITS 21,567 22,320
OTHER OPERATING COSTS 26,660 27,432
DEPRECIATION AND AMORTIZATION (NOTE 2) 5,088 7,377
GENERAL AND ADMINISTRATIVE 5,544 6,735
PROVISION FOR RESTAURANT CLOSINGS (NOTE 4) 2,105 1,390
--------- ---------
TOTAL COSTS AND EXPENSES 75,810 81,833
--------- ---------
OPERATING INCOME BEFORE MINORITY INTEREST 3,522 2,634
MINORITY INTEREST (14) (10)
--------- ---------
OPERATING INCOME 3,508 2,624
--------- ---------
OTHER INCOME (EXPENSE):
INTEREST EXPENSE (7,166) (7,237)
INTEREST INCOME 106 101
EQUITY IN NET INCOME OF
UNCONSOLIDATED AFFILIATES 284 39
--------- ---------
NET OTHER EXPENSE (6,776) (7,097)
--------- ---------
LOSS BEFORE INCOME TAXES (3,268) (4,473)
INCOME TAXES (NOTE 6) 69 125
--------- ---------
NET LOSS $ (3,337) $ (4,598)
========= =========
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Pg. 6
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
---------------------------------
FOR THE TWENTY-EIGHT WEEKS ENDED:
---------------------------------
JULY 14, 2002 JULY 15, 2001
OPERATING ACTIVITIES:
NET LOSS $ (5,758) $ (8,707)
ADJUSTMENTS TO RECONCILE NET LOSS TO NET
CASH PROVIDED BY OPERATING ACTIVITIES:
DEPRECIATION AND AMORTIZATION 12,695 17,762
PROVISION FOR RESTAURANT CLOSINGS 1,729 1,310
INCREASE IN DEFERRED RENT, NET 354 221
MINORITY INTEREST 33 2
EQUITY IN NET INCOME OF
UNCONSOLIDATED AFFILIATE (545) (125)
DIVIDENDS RECEIVED FROM
UNCONSOLIDATED AFFILIATE 311 244
CHANGES IN OPERATING ASSETS AND LIABILITIES:
DECREASE (INCREASE) IN RECEIVABLES 903 (771)
DECREASE IN INVENTORIES 647 434
INCREASE IN PREPAID EXPENSES (6,965) (5,327)
DECREASE IN OTHER ASSETS (150) (892)
DECREASE IN ACCOUNTS PAYABLE
AND ACCRUED EXPENSES (3,345) (4,365)
INCREASE IN ACCRUED INTEREST PAYABLE 1,079 1,247
--------- ---------
NET CASH PROVIDED BY OPERATING ACTIVITIES 988 1,033
(CONTINUED)
Pg. 7
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
(IN THOUSANDS)
---------------------------------
FOR THE TWENTY-EIGHT WEEKS ENDED:
---------------------------------
JULY 14, 2002 JULY 15, 2001
------------- -------------
INVESTING ACTIVITIES:
PURCHASES OF PROPERTY AND EQUIPMENT $ (4,053) $(11,529)
--------- ---------
NET CASH USED IN INVESTING ACTIVITIES (4,053) (11,529)
--------- ---------
FINANCING ACTIVITIES:
MORTGAGE PRINCIPAL REPAYMENTS (81) (74)
PURCHASE OF MINORITY INTEREST IN JOINT VENTURE -- (1,000)
LOANS TO SHAREHOLDERS -- (3,932)
REPAYMENT OF SHAREHOLDER LOANS -- 700
TAX DISTRIBUTIONS RELATED TO THE PRIOR FISCAL YEAR (3,125) (7,564)
DIVIDENDS -- (5,000)
--------- ---------
NET CASH USED IN FINANCING ACTIVITIES (3,206) (16,870)
--------- ---------
DECREASE IN CASH AND CASH EQUIVALENTS (6,271) (27,366)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 36,952 42,319
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 30,681 $ 14,953
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
CASH PAID DURING THE PERIOD FOR INCOME TAXES $ 483 $ 677
========= =========
CASH PAID DURING THE PERIOD FOR INTEREST $ 14,892 $ 14,850
========= =========
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Pg. 8
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION:
The accompanying unaudited consolidated financial statements have been
prepared in accordance with the instructions for Form 10-Q and Regulation
S-X related to interim period financial statements and, therefore, do not
include all information and footnotes required by generally accepted
accounting principles. However, in the opinion of our management, all
adjustments (consisting of normal recurring adjustments and accruals)
considered necessary for a fair presentation of the consolidated financial
position of Sbarro and our subsidiaries at July 14, 2002 and our
consolidated results of operations for each of the twenty-eight and twelve
week periods ended July 14, 2002 and July 15, 2001 and cash flows for the
twenty-eight weeks in each of the respective years have been included. The
results of operations for interim periods are not necessarily indicative of
the results that may be expected for the entire year. Reference should be
made to the annual financial statements, including footnotes thereto,
included in our Annual Report on Form 10-K for the fiscal year ended
December 30, 2001.
Certain items in the financial statements presented have been reclassified
to conform to the fiscal 2002 presentation.
2. RECENT ACCOUNTING PRONOUNCEMENTS:
In July 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards ("SFAS") No. 141, "Business Combinations,"
and No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires
all business combinations initiated after June 30, 2001 to be accounted for
using the purchase method. SFAS No. 142 became effective with respect to
our Company with the beginning of fiscal 2002. SFAS No. 142 requires that
the amortization of goodwill (which was $2.9 million and $1.3 million in
the twenty-eight and twelve weeks ended July 15, 2001, respectively) cease
on December 31, 2001. Under SFAS No. 142, goodwill and intangible assets
with indefinite lives are no longer amortized but are reviewed annually for
impairment (or more frequently if impairment indicators arise). Separable
intangible assets that are not deemed to have indefinite lives continue to
be amortized over their useful lives. We have completed our initial
impairment test on goodwill and intangible assets (trademarks and
tradenames) with indefinite lives acquired prior to July 1, 2001 ($205.2
million, net of accumulated amortization of $19.3 million, at July 14,
2002) and concluded that there had been no impairment at January 1, 2002.
Pg. 9
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. RECENT ACCOUNTING PRONOUNCEMENTS:
The effect of the adoption of SFAS No. 142 on the reported net loss for the
prior period is as follows:
Twenty-Eight Weeks Ended Twelve Weeks Ended
----------------------------- -----------------------------
July 14, 2002 July 15, 2001 July 14, 2002 July 15, 2001
------------- ------------- ------------- -------------
(in thousands) (in thousands)
Reported net loss $(5,758) $(8,707) $(3,337) $(4,598)
Add back: Amortization of
goodwill and intangible assets
with indefinite lives -- 2,926 -- 1,255
-------- -------- -------- --------
Adjusted net loss $(5,758) $(5,781) $(3,337) $(3,343)
======== ======== ======== ========
In August 2001, the Financial Accounting Standards Board issued SFAS No.
143, "Accounting for Asset Retirement Obligations." This statement
addresses financial and reporting obligations associated with the
retirement of tangible long-lived assets and the associated asset
retirement costs. It applies to legal obligations associated with the
retirement of long-lived assets that result from acquisition, construction,
development and/or the normal operation of long-lived assets, except for
certain obligations of lessees. SFAS No. 143 became effective with respect
to us with the beginning of fiscal 2002 and has not had a material effect
on our operations.
In August 2001, the Financial Accounting Standards Board issued SFAS No.
144, "Accounting for the Impairment or Disposal of Long-lived Assets." This
statement supersedes SFAS No. 121, "Accounting for the Impairment of
Long-lived Assets and for Long-lived Assets to be Disposed Of," and
Accounting Principles Board Opinion No. 30, "Reporting Results of
Operations-Reporting the Effects of Disposal of a Segment of a Business and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions."
This Statement retains the fundamental provisions of SFAS No. 121 for
recognition and measurement of impairment, but amends the accounting and
reporting standards for segments of a business to be disposed of. SFAS No.
144 became effective with respect to us with the beginning of fiscal 2002.
The adoption of SFAS No. 144 has not had a material impact on our financial
position and operating results. We will continue to assess impairment of
the assets of our restaurants on a restaurant-by-restaurant basis.
In April 2002, the Financial Accounting Standards Board issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections." This statement eliminates the
current requirement that gains and losses on debt extinguishment must be
classified as extraordinary items in the income statement and contains
other nonsubstantive corrections to authoritative accounting literature in
SFAS No. 4, 44 and 64. The changes in SFAS 145 related to debt
extinguishment will be effective for us beginning with our 2003 fiscal year
and the other changes were effective for us beginning with transactions
after
Pg. 10
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED):
May 15, 2002. Adoption of this standard has not had, and we do not expect
that it will have, a material effect on our results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," which addresses accounting
for restructuring and similar costs. SFAS No. 146 supersedes previous
accounting guidance, principally Emerging Issues Task Force (EITF) Issue
No. 94-3. SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is
incurred. Under EITF No. 94-3, a liability for an exit cost was recognized
at the date of a company's commitment to an exit plan. SFAS No. 146 also
establishes that the liability should initially be measured and recorded at
fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing
future restructuring costs (including our future accounting for restaurant
closing costs) as well as the amount recognized. We will adopt the
provisions of SFAS No. 146 for restructuring activities initiated after
December 31, 2002.
3. EFFECT OF EVENTS OF SEPTEMBER 11, 2001:
As a result of the events of September 11, 2001, a Sbarro-owned location,
as well as a franchise location, that had operated in the World Trade
Center in New York City were destroyed. Although the Sbarro-owned location
generated high sales revenues and operating income, the effect on the
results for the second quarter and year to date of fiscal 2002 was not
material to consolidated results as a whole. The franchise location did not
generate significant royalty revenues. In addition, a number of airports
were closed due to the events of September 11 causing airport Sbarro-owned
and franchise units to close for periods of time and those airport
locations and a number of downtown locations have continued to experience a
period of reduced sales through the second quarter of fiscal 2002.
We reached an agreement in principal to settle our claim with our insurance
company in late July 2002 for the reimbursement of the cost of the assets
destroyed at the Sbarro-owned location, as well as for lost income under
our business interruption insurance coverage, in the aggregate total amount
of $9.65 million. The proceeds of the settlement, less the $1.5 million
advance received in May 2002, is expected to be received in the third
quarter of fiscal 2002. The estimated amount of the balance of the expected
recovery for the cost of the assets destroyed is included in accounts
receivable as of July 14, 2002. We will include the remainder,
approximately $7.0 million, net of related expenses, of such settlement in
our statement of operations upon its receipt which is expected to be the
third quarter of fiscal 2002. Our understanding is subject to entering into
a definitive settlement agreement. There can be no assurance that such
agreement will be finalized.
Pg. 11
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. PROVISION FOR RESTAURANT CLOSINGS:
During the twenty-eight and twelve weeks ended July 14, 2002, we recorded a
provision for restaurant closings of $2.2 million and $2.1 million,
respectively. Of the provision, approximately $1.6 million was recorded in
the twelve weeks ended July 14, 2002 for the net book value of the property
and equipment and anticipated closing costs of approximately thirty low
volume, unprofitable Sbarro quick service locations that we are planning to
close in the third and fourth quarter of fiscal 2002 (seventeen of those
units have been closed to date in the third quarter). The net book value of
approximately one-half of the units to be closed was included in the
provision for asset impairment recorded in fiscal 2001. The balance of the
provision in both periods of fiscal 2002 relate to costs that either were
not included in the provision for asset impairment recorded in the fourth
quarter of fiscal 2001 or which were not absorbed by amounts received from
landlords in connection with such closings.
5. LONG-TERM DEBT:
We were in compliance with the various covenants in the Indenture for our
Senior Notes, our Bank Credit Agreement and our Mortgage as of July 14,
2002.
Under the Indenture under which our Senior Notes are issued and our Bank
Credit Agreement, there are various covenants that limit our ability to
borrow funds in addition to lending arrangements that existed immediately
after the date of the going private transaction in September 1999 and
replacements of those arrangements, to make "restricted payments"
including, among other things, dividend payments (other than as
distributions pursuant to the Tax Payment Agreement), and to make
investments in, among other things, unrestricted subsidiaries. Among other
covenants, the Indenture requires that, in order for us to borrow (except
under specifically permitted arrangements, such as up to $75.0 million of
revolving credit loans), our consolidated interest ratio coverage (as
defined), after giving pro forma effect to the interest on the new
borrowing, for the four most recently ended fiscal quarters must be at
least 2.5 to 1. In order to make restricted payments, our ratio must be at
least 2.0 to 1, after giving pro forma effect to the restricted payment. As
of July 14, 2002, that ratio was 1.94 to 1. As a result, we are not
presently able to borrow funds (other than specifically permitted
indebtedness, including up to $75.0 million of revolving credit loans) or
make restricted payments.
6. INCOME TAXES:
During the twenty-eight weeks ended July 14, 2002, we made tax
distributions, based on our tax basis income for fiscal 2001, of $3.1
million compared to $7.6 million of tax distributions, based on our tax
basis income for fiscal 2000, during the twenty-eight weeks ended July 15,
2001. There were no tax distributions during the second quarters of fiscal
2002 or fiscal 2001.
Pg. 12
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. RELATED PARTY AND OTHER TRANSACTIONS:
As of July 14, 2002, we sold the assets of a Sbarro-owned location that we
intended to close to a corporation whose shareholder is the brother-in-law
of Mario Sbarro for $88,900. The sales price resulted in a loss of
approximately $64,000 that is included in the provision for restaurant
closings in the statement of operations. At the same time, that corporation
entered into a franchise agreement with us with an initial franchise fee, a
continuing royalty percentage and other terms and conditions that are
similar to most of our other franchisees. We received promissory notes for
each of the purchase price and initial franchise fee that are payable over
seven years and bears interest on the unpaid principal balance at 7%
interest per annum.
As of March 28, 2002, we sold, for nominal consideration, the assets of a
Mama Sbarro location to an unrelated third party. The purchaser also
entered into a joint venture agreement with Sbarro that provides for the
quarterly distribution of a 50% profit participation, as defined, if any.
Losses incurred in any year only offset income of the year of the loss. The
location was closed for renovation for the majority of the second quarter
and, as such, did not generate significant distributable net income. A
second unit was sold to the same unrelated third party under similar terms
and conditions, including the profit participation agreement, as of July
31, 2002. In addition, we are to lend up to $50,000 to the purchaser for
the remodeling of the second location sold. Any loan is to be repaid
monthly from the cash flow of the restaurant, together with interest at the
Citibank prime rate (4.75% at July 14, 2002) plus 2%. In no event is the
loan due later than August 2007. No amounts have been loaned to date. The
net book value of both of these locations had been included in the
provision for restaurant impairment recorded in fiscal 2001.
8. CONTINGENCIES:
On December 20, 1999, twelve current and former general managers of Sbarro
restaurants in California amended a complaint against us filed in the
Superior Court of California for Orange County. The complaint alleges that
the plaintiffs were improperly classified as exempt employees under the
California wage and hour law. The plaintiffs are seeking actual damages,
punitive damages and costs of the lawsuit, including reasonable attorney's
fees, each in unspecified amounts. Plaintiffs filed a motion to certify the
lawsuit as a class action, but the court denied the motion. We believe that
we have substantial defenses to the claims and are vigorously defending
this action.
On September 6, 2000, eight other current and former general managers of
Sbarro restaurants in California filed a complaint against us in the
Superior Court of California for Orange County alleging that the plaintiffs
were improperly classified as exempt employees under California wage
Pg. 13
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. CONTINGENCIES (CONTINUED):
and hour law. The plaintiffs are seeking actual damages, punitive damages
and costs of the lawsuit, including reasonable attorney's fees, each in
unspecified amounts. Plaintiffs are represented by the same counsel who is
representing the plaintiffs in the case discussed in the preceding
paragraph. We believe that we have substantial defenses to the claims and
are vigorously defending this action.
On March 22, 2002, five former general managers of Sbarro restaurants in
California filed a complaint against us in the Superior Court of California
for Los Angeles County. The complaint alleges that the plaintiffs were
required to perform labor services without proper premium overtime
compensation from at least May of 1999. The plaintiffs are seeking actual
damages, punitive damages and attorney's fees and costs, each in
unspecified amounts. In addition, plaintiffs have requested class action
status for all managerial employees who worked overtime and/or were not
otherwise paid regular wages due and owing from May 1999 to present. We
believe that we have substantial defenses to the claims and are vigorously
defending this action.
From time to time, we are a party to certain claims and legal proceedings
in the ordinary course of business, none of which, in our opinion, would
have a material adverse effect on our financial position or results of
operations.
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS:
Certain subsidiaries have guaranteed amounts outstanding under the Senior
Notes and Credit Agreement. Each of the guaranteeing subsidiaries is our
direct or indirect wholly owned subsidiary and each has fully and
unconditionally guaranteed the Senior Notes and the Credit Agreement on a
joint and several basis.
The following condensed consolidating financial information presents:
(1) Condensed consolidating balance sheets as of July 14, 2002 (unaudited)
and December 30, 2001 and statements of income for the twenty-eight
and twelve weeks ended July 14, 2002 (unaudited) and July 15, 2001
(unaudited) and cash flows for the twenty-eight weeks ended July 14,
2002 (unaudited) and July 15, 2001 (unaudited) of (a) Sbarro, Inc.,
the parent, (b) the guarantor subsidiaries as a group, (c) the
nonguarantor subsidiaries as a group and (d) the Company on a
consolidated basis, and
(2) Elimination entries necessary to consolidate Sbarro, Inc., the parent,
with the guarantor and nonguarantor subsidiaries.
The principal elimination entries eliminate intercompany balances and
transactions. Investments in subsidiaries are accounted for by the parent
on the cost method.
Pg. 14
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING BALANCE SHEET
AS OF JULY 14, 2002
(IN THOUSANDS EXCEPT SHARE DATA)
(UNAUDITED)
ASSETS
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Current assets:
Cash and cash equivalents $ 25,272 $ 4,483 $ 926 $ 30,681
Restricted cash for untendered shares 21 -- -- 21
Receivables less allowance for
doubtful accounts of $175:
Franchise 2,259 -- -- 2,259
Other 675 962 160 1,797
--------- --------- ---------- ---------
2,934 962 160 4,056
Inventories 1,135 1,370 385 2,890
Loans receivable from shareholders 3,232 -- -- 3,232
Prepaid expenses 6,753 1,336 118 8,207
--------- --------- ---------- ---------
Total current assets 39,347 8,151 1,589 49,087
Intercompany receivables 12,850 294,361 -- $(307,211) --
Investment in subsidiaries 65,469 -- -- (65,469) --
Property and equipment, net 45,290 66,720 11,533 -- 123,543
Intercompany receivables - long term 3,608 -- -- (3,608) --
Intangible assets:
Trademarks and tradenames, net 195,916 -- -- -- 195,916
Goodwill, net 9,324 -- -- (120) 9,204
Deferred financing costs, net 6,841 288 -- -- 7,129
Loans receivable from shareholders 2,800 -- -- -- 2,800
Other assets 8,634 1,677 (612) (2,357) 7,342
--------- --------- ---------- ---------- ---------
$ 390,079 $ 371,197 $ 12,510 $(378,765) $ 395,021
========= ========= ========== ========== =========
Pg. 15
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING BALANCE SHEET
AS OF JULY 14, 2002
(IN THOUSANDS EXCEPT SHARE DATA)
(UNAUDITED)
LIABILITIES AND SHAREHOLDERS EQUITY
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Current liabilities:
Amounts due for untendered shares $ 21 $ 21
Accounts payable 10,672 $ 209 $ 841 11,722
Accrued expenses 18,223 (754) 2,257 19,726
Accrued interest payable 9,260 -- -- 9,260
Current portion of mortgage payable -- 149 -- 149
---------- ---------- ---------- ---------
Total current liabilities 38,176 (396) 3,098 40,878
Intercompany payables 294,361 -- 12,850 $(307,211) --
Deferred rent 8,053 -- 697 -- 8,750
Long-term debt, net of
original issue discount 252,274 15,558 -- -- 267,832
Intercompany payables - long term -- 3,608 -- (3,608) --
Shareholders' equity (deficit):
Preferred stock, $1 par value;
authorized 1,000,000 shares; none
issued -- -- -- -- --
Common stock, $.01 par value:
authorized 40,000,000 shares;
issued and outstanding 7,064,328
shares 71 -- -- -- 71
Additional paid-in capital 10 65,469 2,477 (67,946) 10
Retained earnings (deficit) (202,866) 286,958 (6,612) -- 77,480
---------- ---------- ---------- ---------- ---------
(202,785) 352,427 (4,135) (67,946) 77,561
---------- ---------- ---------- ---------- ---------
$ 390,079 $ 371,197 $ 12,510 $(378,765) $ 395,021
========== ========== ========== ========== =========
Pg. 16
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 30, 2001
(IN THOUSANDS EXCEPT SHARE DATA)
ASSETS
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Current assets:
Cash and cash equivalents $ 29,673 $ 5,437 $ 1,842 $ 36,952
Restricted cash for untendered 45 -- -- 45
shares
Receivables less allowance for
doubtful accounts of $175:
Franchise 2,162 -- -- 2,162
Other 2,069 613 115 2,797
--------- --------- --------- --------
4,231 613 115 4,959
Inventories 1,413 1,771 353 3,537
Prepaid expenses 1,916 (530) (144) 1,242
--------- --------- --------- --------
Total current assets 37,278 7,291 2,166 46,735
Intercompany receivables 12,079 281,438 -- $(293,517) --
Investment in subsidiaries 65,469 -- -- (65,469) --
Property and equipment, net 46,554 73,659 12,090 -- 132,303
Intercompany receivables - long term 3,900 -- -- (3,900) --
Intangible assets:
Trademarks and tradenames, net 195,916 -- -- -- 195,916
Goodwill, net 9,204 -- -- -- 9,204
Deferred financing costs, net 7,398 309 -- -- 7,707
Loans receivable from shareholders 6,032 -- -- -- 6,032
Other assets 8,065 1,852 (576) (2,476) 6,865
--------- ---------- ---------- ---------- ---------
$ 391,895 $ 364,549 $ 13,680 $(365,362) $ 404,762
========= ========== ========== ========== =========
Pg. 17
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 30, 2001
(IN THOUSANDS EXCEPT SHARE DATA)
LIABILITIES AND SHAREHOLDERS EQUITY
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Current liabilities:
Amounts due for untendered shares $ 45 $ 45
Accounts payable 8,014 $ 164 $ 929 9,107
Accrued expenses 19,392 1,824 3,432 24,648
Accrued interest payable 8,181 -- -- 8,181
Current portion of mortgage payable -- 140 -- 140
--------- -------- --------- ---------
Total current liabilities 35,632 2,128 4,361 42,121
Intercompany payables 281,438 -- 12,078 $(293,516) --
Deferred rent 7,512 -- 967 -- 8,479
Long-term debt, net of
original issue discount 252,070 15,648 -- -- 267,718
Intercompany payables - long term -- 3,900 -- (3,900) --
Shareholders' equity (deficit):
Preferred stock, $1 par value;
authorized 1,000,000 shares; none
issued -- -- -- -- --
Common stock, $.01 par value:
authorized 40,000,000 shares;
issued and outstanding 7,064,328
shares 71 -- -- -- 71
Additional paid-in capital 10 65,469 2,477 (67,946) 10
Retained earnings (deficit) (184,838) 277,404 (6,203) -- 86,363
---------- --------- ---------- ---------- ---------
(184,757) 342,873 (3,726) (67,946) 86,444
---------- --------- ---------- ---------- ---------
$ 391,895 $ 364,549 $ 13,680 $(365,362) $ 404,762
========== ========= ========== ========== =========
Pg. 18
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 14, 2002
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Revenues:
Restaurant sales $ 72,797 $ 90,905 $ 12,746 $ 176,448
Franchise related income 5,075 -- -- 5,075
Real estate and other 1,464 2,035 -- $ (484) 3,015
Intercompany charges -- 7,440 -- (7,440) --
---------- ---------- --------- ---------- ----------
Total revenues 79,336 100,380 12,746 (7,924) 184,538
---------- ---------- --------- ---------- ----------
Cost and expenses:
Restaurant operating expenses:
Cost of food and paper products 12,828 18,686 3,340 -- 34,854
Payroll and other employee
benefits 20,091 25,315 4,650 -- 50,056
Other operating costs 24,996 33,232 4,149 -- 62,377
Depreciation and amortization 5,117 6,157 638 -- 11,912
General and administrative 6,697 6,285 201 (484) 12,699
Provision for restaurant closings 2,070 -- 159 -- 2,229
Intercompany charges 7,440 -- -- (7,440) --
---------- ---------- ---------- ---------- ----------
Total costs and expenses 79,239 89,675 13,137 (7,924) 174,127
---------- ---------- ---------- ---------- ----------
Operating income (loss) before minority
interest 97 10,705 (391) -- 10,411
Minority interest -- -- (33) -- (33)
---------- ---------- ---------- ---------- ----------
Operating income (loss) 97 10,705 (424) -- 10,378
---------- ---------- ---------- ---------- ----------
Other (expense) income:
Interest expense (15,948) (792) -- -- (16,740)
Interest income 260 -- -- -- 260
Equity in net income of
unconsolidated affiliates 545 -- -- -- 545
---------- ---------- ---------- ---------- ----------
Net other expense (15,143) (792) -- -- (15,935)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes (15,046) 9,913 (424) -- (5,557)
Income taxes (benefit) (143) 359 (15) -- 201
---------- ---------- ---------- ---------- ----------
Net income (loss) $ (14,903) $ 9,554 $ (409) $ -- $ (5,758)
========== ========== ========== ========== ==========
Pg. 19
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 15, 2001
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Revenues:
Restaurant sales $ 79,250 $ 95,409 14,063 $ 188,722
Franchise related income 5,222 -- -- 5,222
Real estate and other 1,591 1,678 -- 3,269
Intercompany charges
-- 6,345 -- $ (6,345) --
---------- ---------- ---------- ---------- ----------
Total revenues 86,063 103,432 14,063 (6,345) 197,213
---------- ---------- ---------- ---------- ----------
Cost and expenses:
Restaurant operating expenses:
Cost of food and paper products 14,612 20,054 3,841 -- 38,507
Payroll and other employee
benefits 20,492 27,427 4,712 -- 52,631
Other operating costs 26,968 31,461 5,123 -- 63,552
Depreciation and amortization 8,881 7,337 759 -- 16,977
General and administrative 6,671 9,214 434 -- 16,319
Provision for restaurant closings 1,215 -- 250 -- 1,465
Intercompany charges 6,345 -- -- (6,345) --
---------- ---------- ---------- ---------- ----------
Total costs and expenses 85,184 95,493 15,119 (6,345) 189,451
---------- ---------- ---------- ---------- ----------
Operating income (loss) before minority
interest 879 7,939 (1,056) -- 7,762
Minority interest -- -- (2) -- (2)
---------- ---------- ---------- ---------- ----------
Operating income (loss) 879 7,939 (1,058) -- 7,760
---------- ---------- ---------- ---------- ----------
Other (expense) income:
Interest expense (16,085) (800) (865) 865 (16,885)
Interest income 1,358 -- -- (865) 493
Equity in net income of
unconsolidated affiliates 125 -- -- -- 125
---------- ---------- ---------- ---------- ----------
Net other expense (14,602) (800) (865) -- (16,267)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes (13,723) 7,139 (1,923) -- (8,507)
Income taxes (benefit) 38 206 (44) -- 200
---------- ---------- ---------- ---------- ----------
Net income (loss) $ (13,761) $ 6,933 $ (1,879) $ -- $ (8,707)
========== ========== ========== ========== ==========
Pg. 20
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE TWELVE WEEKS ENDED JULY 14, 2002
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Revenues:
Restaurant sales $ 31,384 $ 38,702 $ 5,593 $ 75,679
Franchise related income 2,332 -- -- 2,332
Real estate and other 655 874 -- $ (208) 1,321
Intercompany charges -- 3,390 -- (3,390) --
--------- --------- --------- --------- ---------
Total revenues 34,371 42,966 5,593 (3,598) 79,332
--------- --------- --------- --------- ---------
Cost and expenses:
Restaurant operating expenses:
Cost of food and paper products 5,450 7,932 1,464 -- 14,846
Payroll and other employee
benefits 9,369 10,145 2,053 -- 21,567
Other operating costs 10,215 14,815 1,630 -- 26,660
Depreciation and amortization 2,190 2,625 273 -- 5,088
General and administrative 3,097 2,557 98 (208) 5,544
Provision for restaurant closings 1,970 -- 135 -- 2,105
Intercompany charges 3,390 -- -- (3,390) --
--------- --------- --------- --------- ---------
Total costs and expenses 35,681 38,074 5,653 (3,578) 75,810
--------- --------- --------- --------- ---------
Operating income (loss) before minority
interest (1,310) 4,892 (60) -- 3,522
Minority interest -- -- (14) -- (14)
--------- --------- --------- --------- ---------
Operating income (loss) (1,310) 4,892 (74) -- 3,508
--------- --------- --------- --------- ---------
Other (expense) income:
Interest expense (6,827) (339) -- -- (7,166)
Interest income 106 -- -- -- 106
Equity in net income of
unconsolidated affiliates 284 -- -- -- 284
--------- --------- --------- --------- ---------
Net other expense (6,437) (339) -- -- (6,776)
--------- --------- --------- --------- ---------
Income (loss) before income taxes (7,747) 4,553 (74) -- (3,268)
Income taxes (benefit) 15 50 4 -- 69
--------- --------- --------- --------- ---------
Net income (loss) $ (7,762) $ 4,503 $ (78) $ -- $ (3,337)
========= ========= ========= ========= =========
Pg. 21
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE TWELVE WEEKS ENDED JULY 15, 2001
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Revenues:
Restaurant sales $ 34,388 $ 40,822 $ 5,806 $ 81,016
Franchise related income 2,030 -- -- 2,030
Real estate and other 790 631 -- 1,421
Intercompany charges -- 2,538 -- $ (2,538) --
--------- --------- --------- --------- ---------
Total revenues 37,208 43,991 5,806 (2,538) 84,467
--------- --------- --------- --------- ---------
Cost and expenses:
Restaurant operating expenses:
Cost of food and paper products 6,375 8,615 1,589 -- 16,579
Payroll and other employee
benefits 8,607 11,811 1,902 -- 22,320
Other operating costs 11,921 13,321 2,190 -- 27,432
Depreciation and amortization 3,900 3,166 311 -- 7,377
General and administrative 2,169 4,436 130 -- 6,735
Provision for restaurant closings 1,140 -- 250 -- 1,390
Intercompany charges 2,538 -- -- (2,538) --
--------- --------- --------- --------- ---------
Total costs and expenses 36,650 41,349 6,372 (2,538) 81,833
--------- --------- --------- --------- ---------
Operating income (loss) before minority
Interest 558 2,642 (566) -- 2,634
Minority interest -- -- (10) -- (10)
--------- --------- --------- --------- ---------
Operating income (loss) 558 2,642 (576) -- 2,624
--------- --------- --------- --------- ---------
Other (expense) income:
Interest expense (6,894) (343) (394) 394 (7,237)
Interest income 495 -- -- (394) 101
Equity in net income of
unconsolidated affiliates 39 -- -- -- 39
--------- --------- --------- --------- ---------
Net other expense (6,360) (343) (394) -- (7,097)
--------- --------- --------- --------- ---------
Income (loss) before income taxes (5,802) 2,299 (970) -- (4,473)
Income taxes (benefit) 87 52 (14) -- 125
--------- --------- --------- --------- ---------
Net income (loss) $ (5,889) $ 2,247 $ (956) $ -- $ (4,598)
========= ========= ========= ========= =========
Pg. 22
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 14, 2002
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
OPERATING ACTIVITIES PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
- -------------------- ------ ------------ ------------ ------------ ------------
Net (loss) income $(14,903) $ 9,554 $ (409) $ (5,758)
Adjustments to reconcile net (loss)
income to net cash (used in)
provided by operating activities:
Depreciation and amortization 5,879 6,178 638 12,695
Provision for restaurant closings 1,729 -- -- 1,729
Increase in deferred rent, net 372 (88) 70 354
Minority interest -- -- 33 33
Equity in income of
unconsolidated affiliates (545) -- -- (545)
Dividends received from
unconsolidated affiliates 311 -- -- 311
Changes in operating assets
and liabilities:
Decrease (increase) in receivables 1,298 (349) (46) 903
Decrease (increase) in inventories 278 401 (32) 647
Increase in prepaid assets (4,837) (1,866) (262) (6,965)
(Increase) decrease in other
assets (327) 262 35 $ (120) (150)
(Decrease) increase in accounts
payable and accrued expenses (148) (1,722) (1,595) 120 (3,345)
Increase in accrued interest
payable
--------
1,079 -- -- -- 1,079
--------- --------- --------- --------- ---------
Net cash (used in) provided by
operating activities (9,814) 12,370 (1,568) -- 988
Investing activities:
Purchases of property and equipment (3,939) (33) (81) -- (4,053)
--------- --------- --------- --------- ---------
Net cash (used in) provided by
investing activities (3,939) (33) (81) -- (4,053)
Pg. 23
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 14, 2002
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Financing activities:
- ---------------------
Mortgage principal repayments -- (81) -- -- (81)
Distributions to shareholders (3,125) -- -- -- (3,125)
Intercompany balances 12,477 (13,210) 733 -- --
--------- --------- --------- ----------- ---------
Net cash (used in) provided
by financing activities 9,352 (13,291) 733 -- (3,206)
--------- --------- --------- ----------- ---------
Decrease in cash and
cash equivalents (4,401) (954) (916) -- (6,271)
Cash and cash equivalents at
beginning of period 29,673 5,437 1,842 -- 36,952
--------- --------- --------- ----------- ---------
Cash and cash equivalents at
end of period $ 25,272 $ 4,483 $ 926 $ -- $ 30,681
========= ========= ========= =========== =========
Supplemental disclosure of cash flow
information:
Cash paid during the period for
income taxes $ 293 $ 190 $ -- $ -- $ 483
========= ========= ========= =========== =========
Cash paid during the period for
interest $ 14,120 $ 772 $ -- $ -- $ 14,892
========= ========= ========= =========== =========
Pg. 24
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 15, 2001
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
OPERATING ACTIVITIES: PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
- --------------------- ------ ------------ ------------ ------------ ------------
Net (loss) income $(13,761) $ 6,933 $ (1,879) $ (8,707)
Adjustments to reconcile net (loss)
income to net cash (used in)
provided by operating activities:
Depreciation and amortization 9,647 7,359 756 17,762
Provision for unit closing 1,061 249 1,310
Increase in deferred rent, net 390 (169) -- 221
Minority interest -- -- 2 2
Equity in income of unconsolidated
affiliates (125) -- -- (125)
Dividends received from
unconsolidated affiliates 244 -- -- 244
Changes in operating assets and
liabilities:
(Increase) decrease in receivables (690) (94) 13 (771)
Decrease in inventories 188 245 1 434
(Increase) decrease in prepaid
expenses (4,113) (1,309) 95 (5,327)
Decrease (increase) in other assets 3,060 (4,076) 124 (892)
(Decrease) increase in accounts
payable and accrued expenses (8,032) 3,479 188 (4,365)
Increase in accrued interest
payable 1,247 -- -- 1,247
--------- --------- --------- ---------
Net cash (used in) provided by
operating activities (10,884) 12,368 (451) 1,033
Investing activities:
Purchase of property and equipment (3,787) (4,807) (2,935) (11,529)
--------- --------- --------- ---------
Net cash used in investing activities (3,787) (4,807) (2,935) (11,529)
Pg. 25
SBARRO, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS (CONTINUED):
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE TWENTY-EIGHT WEEKS ENDED JULY 15, 2001
(IN THOUSANDS)
(UNAUDITED)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ ------------
Financing activities:
- ---------------------
Mortgage principal repayments $ (74) $ (74)
Purchase of minority interest in
joint venture $ (1,000) -- (1,000)
Loan to shareholders (3,932) -- (3,932)
Repayment to shareholder loans 700 -- 700
Distributions to shareholders (12,564) -- (12,564)
Intercompany balances 4,475 (7,898) $ 3,423 --
--------- --------- -------- ---------
Net cash (used in) provided
by financing activities (12,321) (7,972) 3,423 (16,870)
--------- --------- -------- ---------
(Decrease) increase in cash and
cash equivalents (26,990) (411) 37 (27,366)
Cash and cash equivalents at
Beginning of period 36,963 4,232 1,124 42,319
--------- --------- -------- ---------
Cash and cash equivalents at
end of period $ 9,973 $ 3,819 $ 1,161 $ 14,953
========= ========= ========= =========
Supplemental disclosure of cash flow
information:
Cash paid during the period for
income taxes $ 223 $ 447 $ 7 $ 677
========= ========= ========= =========
Cash paid during the period for
Interest $ 14,050 $ 800 $ -- $ 14,850
========= ========= ========= =========
Pg. 26
ITEM2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
- ---------------------
The following table provides information concerning the number of Company-owned
and franchised restaurants in operation during each indicated period:
28 WEEKS ENDED 12 WEEKS ENDED FISCAL YEAR
7/14/02 7/15/01 7/14/02 7/15/01 2001 2000
------- ------- ------- ------- ---- ----
Company-owned restaurants:
Opened during period 3 3 1 2 9 13
Acquired from (sold to) franchisees during
period-net (1) -- (1) -- -- 1
Closed during period (1) (19) (29) (8) (15) (43) (16)
----- ----- ----- ----- ----- -----
Open at end of period (2) 585 610 585 610 602 636
Franchised restaurants:
Opened during period 15 13 8 5 42 36
Purchased from (sold to) Company during
period-net 1 -- 1 -- -- (1)
Closed or terminated during period (13) (5) (5) (3) (20) (18)
----- ----- ----- ----- ----- -----
Open at end of period 328 311 328 311 325 303
All restaurants:
Opened during period 18 16 9 7 51 49
Closed or terminated during period (1) (31) (34) (13) (18) (63) (34)
----- ----- ----- ----- ----- -----
Open at end of period (2) 913 921 913 921 927 939
Kiosks (all franchised) open at end of
period 5 5 5 5 4 5
- ----------
(1) In addition, we are planning to close approximately 30 low volume,
unprofitable Sbarro locations in the third and fourth quarters of fiscal
2002 (seventeen of those units have been closed to date in the third
quarter). See Note 4 of the "Notes to the Unaudited Consolidated Financial
Statements" for information on the effect of the planned closings on our
consolidated financial statements.
(2) Excludes 34, 35, 37 and 33 other concept units as of July 14, 2002, July
15, 2001, the end of fiscal 2001 and the end of fiscal 2000, respectively,
one of which was closed in late July 2002 (see Note 7 of the "Notes to the
Unaudited Consolidated Financial Statements").
Pg. 27
Our business is subject to seasonal fluctuations, the effect of weather and
economic conditions and consumer confidence in shopping safety. Earnings have
been highest in our fourth fiscal quarter due primarily to increased volume in
shopping malls during the holiday shopping season. Historically, the fourth
fiscal quarter has accounted for approximately 40% of annual operating net
income before amortization of intangible assets and any provision for restaurant
closings or asset impairment. This percentage fluctuates due to the length of
the holiday shopping period between Thanksgiving and New Year's Day, the number
of weeks in our fourth quarter, weather and economic conditions and our results
of operations in earlier quarters.
Our consolidated EBITDA for the twenty-eight weeks ended July 14, 2002 was $22.8
million and our EBITDA margin was 12.4%, compared to $24.9 million and 12.6%,
respectively for the twenty-eight weeks ended July 15, 2001. Our consolidated
EBITDA for the twelve weeks ended July 14, 2002 was $8.9 million and our EBITDA
margin was 11.2%, compared to $10.0 million and 11.9%, respectively, for the
twelve weeks ended July 15, 2001. EBITDA represents earnings before interest
income, interest expense, taxes, depreciation and amortization. EBITDA margin
represents EBITDA divided by total revenues. EBITDA should not be considered in
isolation from, or as a substitute for, net income, cash flow from operations or
other cash flow statement data prepared in accordance with generally accepted
accounting principles ("GAAP") or as a measure of a company's profitability or
liquidity. Rather, EBITDA is presented because it is a widely accepted
supplemental financial measure, and we believe that it provides relevant and
useful information. Our calculation of EBITDA may not be comparable to a
similarly titled measure reported by other companies, since all companies do not
calculate this non-GAAP measure in the same manner. Our EBITDA calculations are
not intended to represent cash provided by (used in) operating activities since
they do not include interest and taxes and changes in operating assets and
liabilities, nor are they intended to represent a net increase in cash since
they do not include cash provided by (used in) investing and financing
activities.
Restaurant sales from Sbarro-owned quick service units and consolidated other
concept units decreased 6.5% to $176.4 million for the twenty-eight weeks ended
July 14, 2002 from $188.7 million for the twenty-eight weeks ended July 15, 2001
and decreased 6.6% to $75.7 million for the twelve weeks ended July 14, 2002
from $81.0 million in the twelve weeks ended July 15, 2001. The decrease in
sales for the twenty-eight weeks ended July 14, 2002 resulted from $11.1 million
lower sales of Sbarro quick service units and $1.2 million lower sales of
consolidated other concept units. Of the decline in Sbarro quick service unit
restaurant sales for the twenty-eight weeks, approximately $7.3 million resulted
from a 4.5% decrease in comparable unit sales to $156.0 million. The decrease in
sales for the twelve weeks ended July 14, 2002 reflects $5.2 million lower sales
of Sbarro quick service units and $0.1 million lower sales of consolidated other
concept units. Of the decline in Sbarro quick service unit restaurant sales for
the twelve weeks, approximately $3.5 million resulted from a 4.9% decrease in
comparable unit sales to $67.0 million. We believe this decline was attributable
to a reduction in shopping mall traffic related to the general economic downturn
in the United States and the further impact of the events of September 11, 2001
offset, in part, by price increases of 0.7% and 3.3% implemented in late March
2001 and mid-June 2001, respectively. Comparable restaurant sales are made up of
sales at locations that were open during the entire current and prior fiscal
years. Since the end of the first quarter of fiscal 2001, we closed 38 more
units than we opened, causing the remaining $3.8 million and $1.7 million net
reduction in Sbarro quick service
Pg. 28
unit sales for the twenty-eight weeks and twelve weeks, respectively, ended July
14, 2002. The units closed since the beginning of fiscal 2001, with the
exception of our high volume owned unit destroyed in the collapse of the World
Trade Center on September 11, 2001, were generally low volume, unprofitable,
units that did not have a material impact on our results of operations. In
addition, during the first quarter of fiscal 2002, we closed three consolidated
other concept units, which resulted in a net sales reduction of $1.8 million and
$0.8 million from sales at those locations for the twenty-eight and twelve
weeks, respectively, of fiscal 2002.
Excluding approximately $0.3 million related to the termination of an area
development agreement for Egypt during the first quarter of fiscal 2001,
franchise related income increased 3.5% to $5.1 million from $4.9 million for
the twenty eight weeks ended July 14, 2002 and increased 14.9% to $2.3 million
for the twelve weeks ended July 14, 2002 from $2.0 million in the twelve week
period ended July 15, 2001. The increases for both the twenty-eight and twelve
weeks periods ended July 14, 2002 as compared to the same periods in fiscal 2001
were due to increases in both royalty and non-royalty revenues. The increase in
non-royalty revenues was due to a slight increase in the number of unit openings
in fiscal 2002, an increase in the average fee per unit and franchise transfer
fees recorded in the second fiscal quarter of 2002, partially offset by a
reduction in income recognized from existing area development agreements in both
the twenty-eight and twelve week periods of fiscal 2002 than in both of the same
periods of fiscal 2001. Royalty revenues from locations opened in fiscal 2002
and fiscal 2001 offset the reduction in royalty revenues from pre-existing units
caused by to a reduction in comparable unit sales at both domestic and
international locations.
Real estate and other revenues decreased 7.8% and 7.0% in the twenty-eight and
twelve weeks of 2002, respectively, from the same periods in fiscal 2001 due to
decreases in certain vendor rebates.
Cost of food and paper products as a percentage of restaurant sales improved to
19.8% for the twenty eight weeks ended July 14, 2002 from 20.4% for the
comparable 2001 period and improved to 19.6% for the twelve weeks ended July 14,
2002 from 20.5% for the comparable 2001 fiscal period. The improvements were
primarily due to the benefit derived from closing locations in fiscal 2002 and
2001 that were not able to function as efficiently as our other quick service
locations due to their low sales volume and to the effect of lower average
cheese prices in fiscal 2002. Cheese prices, which were, on average, slightly
higher in first quarter of 2002, were significantly lower in the second quarter
of 2002 than in the same period in 2001. The benefit from the decrease in cheese
prices was $0.5 million and $0.6 million for the twenty-eight and twelve weeks
of fiscal 2002 from the same periods in fiscal 2001. Cheese prices to date in
the third quarter of fiscal 2002 continue to be significantly lower than in the
comparable period in fiscal 2001.
Payroll and other employee benefits decreased by $2.6 million but increased to
28.4% from 27.9% as a percentage of restaurant sales for the twenty-eight weeks
ended July 14, 2002 compared to the same period in fiscal 2001. For the twelve
week period ended July 14, 2002,
Pg. 29
these costs decreased by $0.8 million but increased to 28.5% from 27.6% as a
percentage of restaurant sales as compared to the comparable twelve week period
in fiscal 2001. The dollar decreases were primarily due to the effect of steps
taken to reduce payroll costs beginning in late fiscal 2001 and the closing the
locations in fiscal 2002 and 2001. The percentage increases were due to the
reduced level of sales in each of the 2002 periods reported.
Other operating expenses decreased by $1.2 million, but increased to 35.4% of
restaurant sales, in the twenty-eight weeks ended July 14, 2002 from 33.7% in
the twenty-eight weeks ended July 15, 2001. These expenses decreased by $0.8
million, but increased to 35.2% of restaurant sales, in the twelve weeks ended
July 14, 2002 from 33.9% in the twelve weeks ended July 15, 2001. The dollar
decreases resulted from the fewer Sbarro-owned units operating in our system.
The percentage increases in both periods of fiscal 2002 compared to the fiscal
2001 periods were due to higher rent and other occupancy related expenses
resulting from the renewal of existing leases at the end of their terms at
higher rental rates compounded by the reduced level of sales. In addition, we
are experiencing increases in repair and maintenance costs compared to fiscal
2001, a portion of which relates to the cost of a number of nationwide
maintenance contracts entered into in late fiscal 2001 or early fiscal 2002 for
the repair of our property and equipment. Also, as the average age of our
locations increase, overall repair and maintenance costs have been increasing.
Depreciation and amortization expense decreased by $5.1 million and $2.3 million
for the twenty-eight and twelve weeks, respectively, of fiscal 2002 from the
same periods in fiscal 2001. For the twenty-eight weeks of this fiscal year, the
reduction was due primarily to a $2.9 million reduction in amortization expense
resulting from SFAS No. 142, "Goodwill and Other Intangible Assets" becoming
applicable to us as of the beginning of fiscal 2002, as well as a $1.2 million
reduction in depreciation and amortization related to locations that closed
since the end of the first quarter of fiscal 2001. For the twelve week period
ended July 14, 2002, the reduction of amortization due to the applicability to
us of SFAS 142 was $1.3 million and the reduction in depreciation and
amortization related to closed locations was $0.4 million. The balance of the
change in depreciation and amortization expense in each of the fiscal 2002
reported periods relates to locations that had been included in the provision
for asset impairment in fiscal 2001 for which no depreciation was taken in
fiscal 2002 and to decreases in depreciation and amortization for locations that
became fully depreciated during either fiscal 2002 and 2001. Under SFAS No. 142,
we no longer amortize goodwill and intangible assets with indefinite lives, but
rather review those assets annually for impairment (or more frequently if
impairment indicators arise). Separate intangible assets that are not deemed to
have indefinite lives continue to be amortized over their useful lives. We have
completed our evaluation of goodwill and intangible assets (trademarks and
tradenames) with indefinite lives acquired prior to July 1, 2001 ($205.2
million, net of accumulated amortization at July 14, 2002). The evaluation did
not have an impact on our financial position and results of operations.
General and administrative expenses were $12.7 million, or 6.9% of total
revenues, for the twenty eight weeks ended July 14, 2002, compared to $16.3
million, or 8.3% of total revenues, for the twenty-eight weeks ended July 15,
2001. Those costs were $5.5 million, or 7.0% of total revenues,
Pg. 30
for the twelve weeks ended July 14, 2002, compared to $6.7 million, or 8.0% of
total revenues, for the twelve weeks ended July 15, 2001. General and
administrative costs for both periods of fiscal 2002 reflect decreases in field
management costs and a reduction in corporate staff costs due to a cost
containment program which we implemented beginning in the fourth quarter of
fiscal 2001.
During the twenty-eight weeks ended July 14, 2002, we recorded a provision for
restaurant closings of $2.2 million. For the same twenty-eight weeks that ended
on July 15 in fiscal 2001, we recorded a provision of $1.5 million. The
provisions for the twelve weeks ended July 14, 2002 and July 15, 2001 were $2.1
million and $1.4 million, respectively. Of the provisions recorded in fiscal
2002, approximately $1.6 million was recorded in the twelve weeks ended July 14,
2002 for the net book value of the property and equipment and anticipated
closing costs of approximately thirty low volume, unprofitable Sbarro quick
service locations that we are planning to close in the third and fourth quarter
of fiscal 2002 (seventeen of those units have been closed to date in the third
quarter). The net book value of approximately one-half of the units to be closed
was included in the provision for asset impairment recorded in fiscal 2001. The
balance of the provisions recorded in both periods of 2002 relate to costs that
either were not included in the provision for asset impairment recorded in the
fourth quarter of fiscal 2001 or which were not absorbed by amounts received
from landlords in connection with such closings. The $1.4 million provision
recorded in the second quarter of fiscal 2001 related to certain quick service
store closings and for the cost of converting our Umberto and Tony & Bruno
locations to our Mama Sbarro concept. Due to the seasonal nature of the Sbarro
quick service locations, we generally measure asset impairment of our store
locations after our full fiscal year results, unless impairment indications
arise earlier.
Minority interest represents the share of the minority holders' interests in the
combined operations or loss in the first fiscal quarter of each fiscal year
reported of the joint venture in which we have a majority interest. In early
fiscal 2002, we closed one of the two locations owned by this joint venture. The
closed unit had a nominal operating loss in the first quarter of fiscal 2002.
The provision for the closing of this unit, which was not material, was made in
the fourth quarter of fiscal 2001.
Interest expense of $16.7 million and $16.9 million for the twenty-eight weeks
ended July 14, 2002 and July 15, 2001, respectively, and of $7.2 million for
each of the second fiscal quarters of 2002 and 2001, relate to the 11%, $255.0
million Senior Notes issued to finance our going private transaction in
September 1999, the 8.4%, $16.0 million mortgage loan on our corporate
headquarters in 2001 (the principal of which is being repaid at the rate of $0.1
million per quarter), and fees for unused borrowing capacity under our Credit
Agreement. Of these amounts, $0.7 million and $0.4 million in each of the
twenty-eight weeks and twelve weeks ended July 14, 2002 and July 15, 2001,
respectively, represented non-cash charges for the accretion of the original
issue discount on our Senior Notes and the amortization of deferred financing
costs on the Senior Notes, Credit Agreement and the Mortgage loan.
Interest income for the twenty-eight week period ended July 14, 2002 and July
15, 2001 was approximately $0.3 million and $0.5 million, respectively. Interest
income was approximately $0.1 million for the second quarter of both the 2002
and 2001 fiscal years. The reduction in
Pg. 31
interest income reflects the reduced availability of cash for investment and
lower interest rates in effect during the first fiscal quarter of 2002 over 2001
Equity in the net income of unconsolidated affiliates represents our share of
earnings and losses in those new concepts in which we have a 50% or less
ownership interest. The increase of $0.4 million and $0.2 million during the
twenty-eight and twelve weeks ended July 14, 2002 as compared to the same
periods in fiscal 2001, was primarily a result of improved performance of our
steakhouse joint venture. We have determined that we will continue to develop
and expand the steakhouse joint venture locations but are evaluating the
disposition of the other concepts in which we have a 50% or less ownership
interest.
We have elected to be taxed under the provisions of Subchapter S of the Internal
Revenue Code and, where applicable and permitted, under similar state and local
income tax provisions. Under the provisions of Subchapter S, substantially all
taxes on our income is paid by our shareholders rather than us. Our tax expense
$0.2 million for both the twenty-eight week periods ended July 14, 2002 and July
15, 2001 and $0.1 million for both twelve week periods then ended was for taxes
owed to jurisdictions that do not recognize S corporation status or that tax
entities based on factors other than income.
We reached an agreement in principal to settle our claim with our insurance
company in late July 2002 for the reimbursement of the cost of the assets
destroyed at the Sbarro-owned World Trade Center location, arising out of the
events of September 11, 2001, as well as for lost income under our business
interruption insurance coverage. During the third quarter of fiscal 2002, we
anticipate receiving the remaining tentative settlement of these insurance
claims. As a result, upon receipt, we anticipate recognizing income, net of
expenses, of approximately $7.0 million. Our understanding is subject to
entering into a definitive settlement agreement. There can be no assurance that
such agreement will be finalized.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
We have historically not required significant working capital to fund our
existing operations and have financed our capital expenditures and investments
in our joint ventures through cash generated from operations. At July 14, 2002,
we had unrestricted cash and cash equivalents of $30.7 million and working
capital of $8.2 million compared to unrestricted cash and cash equivalents of
$15.0 and a working capital deficit of $7.7 million at July 15, 2001.
Net cash provided by operating activities was $1.0 million for both the
twenty-eight weeks ended July 14, 2002 and the twenty-eight weeks ended July 15,
2001. The $2.1 million decrease in EBITDA and an increase in prepaid expenses of
$1.6 million was offset by the $1.7 difference in the change in accounts
receivable (primarily due to the receipt of $1.5 million advance for our
insurance claim, that had been recognized as a receivable at the end of fiscal
2001, arising out of the events at the World Trade Center on September 11,
2001), a lower decrease in other assets of $0.7 million and a lower decrease of
$1.0 million in the amount of accounts payable and accrued expenses. Accounts
payable and accrued expenses are traditionally highest at the end of each of the
Company's fiscal years which occurs at the end of the peak holiday season.
Pg. 32
Net cash used in investing activities has historically been primarily for
capital expenditures, including investments made by our consolidated other
concepts. Net cash used in investing activities declined from $11.5 million for
the twenty-eight weeks ended July 15, 2001 to $4.1 million for the twenty-eight
weeks ended July 14, 2002 primarily due to a decline in quick service new unit
openings and renovation activity and a reduction in expenditures for
consolidated other concept locations. Investing activities in the twenty-eight
and twelve weeks ended July 14, 2002 include $0.8 million paid as part of
previously committed costs of $2.3 million relating to an upgrade of our
computer systems.
Net cash used in financing activities was $3.2 million for the twenty-eight
weeks ended July 14, 2002 compared to net cash used of $16.9 million in the
comparable 2001 period. The reduced amount of cash used in financing activities
in the twenty-eight weeks of fiscal 2002 compared to the twenty-eight weeks of
fiscal 2001 was due to a $4.4 million reduction in tax distributions made under
a tax payment agreement, the absence in fiscal 2002 of $3.2 million of loans
(net of $0.7 million of loan repayments) and $5.0 million of dividends (made
outside of the Tax Payment Agreement) made to our shareholders in the fiscal
2001 period and the absence of the $1.0 million purchase price paid by us as
part of the settlement of litigation in the fiscal 2001 period for the 20%
interest in the Umberto of New Hyde Park concept that we did not own.
We incur annual cash interest expense of approximately $29.7 million under our
Senior Notes and mortgage loan and may incur additional interest expense for
borrowings under our Credit Agreement. In addition to debt service, we expect
that our other liquidity needs will relate to capital expenditures, working
capital, investments in other ventures, distributions to shareholders to the
extent permitted under the Indenture for the Senior Notes and the Bank Credit
Agreement and general corporate purposes. We believe that aggregate restaurant
capital expenditures and our investments in joint ventures during the next
twelve months will be significantly lower than levels in fiscal 2001.
We expect our primary sources of liquidity to meet these needs will be cash flow
from operations. The planned closing of approximately 30 Sbarro quick - service
locations in the third and fourth quarter of fiscal 2002 is expected, after
termination payments to landlords, to increase liquidity as these units were low
volume, under performing units that had negative EBITDA. Also, at August 15,
2002, we had $28.1 million of undrawn availability under our Credit Agreement,
net of outstanding letters of credit and guarantees of reimbursement obligations
aggregating approximately $1.9 million.
Under the Indenture under which our Senior Notes are issued and the Bank Credit
Agreement, there are various covenants that limit our ability to borrow funds in
addition to lending arrangements that existed at the date of the going private
transaction in September 1999 and replacements of those arrangements, to make
"restricted payments" including, among other things, dividend payments (other
than as distributions pursuant to the Tax Payment Agreement), and to make
investments in, among other things, unrestricted subsidiaries. Among other
covenants, the Indenture requires that, in order for us to borrow (except under
specifically permitted arrangements, such as up to $75.0 million of revolving
credit loans), our consolidated interest ratio coverage (as defined), after
giving pro forma effect to the interest on the new
Pg. 33
borrowing, for the four most recently ended fiscal quarters must be at least 2.5
to 1. In order to make restricted payments, our ratio must be at least 2.0 to 1,
after giving pro forma effect to the restricted payment. As of July 14, 2002,
that ratio was 1.94 to 1. As a result, we are not presently able to borrow funds
(other than specifically permitted indebtedness, including up to $75.0 million
of revolving credit loans) or make restricted payments.
The Tax Payment Agreement was entered into in light of our election that our
shareholders, rather than us, be taxed on our taxable income pursuant to
Subchapter S of the Internal Revenue Code and, where applicable and permitted,
under similar state and local tax provisions. The tax payment agreement permits
us to make periodic tax distributions to our shareholders in amounts intended to
approximate the income taxes, including estimated taxes, that would be payable
by them if their only income were their pro rata share of our taxable income and
that income was taxed at the highest applicable Federal and New York state
marginal income tax rates.
Our contractual obligations and other commercial commitments with respect to
both our Sbarro quick service and the other concepts (both those in which we
have a majority or minority interest) do not differ materially from the
information disclosed in the Form 10-K for the 2001 fiscal year. Our Bank Credit
Agreement had been amended in March 2002 to (a) increase the required maximum
ratio of Consolidated Senior Debt (as defined) at the end of a fiscal quarter to
Consolidated EBITDA (as defined) for the four fiscal quarters then ended that we
may have, such ratios ranging from 7.25 to 1 through the third quarter of fiscal
2002 to 4.50 to 1 after the third quarter of fiscal 2003, and (b) to decrease
the required minimum ratio of Consolidated EBITDA (as defined) for the four
quarters ended on the measurement date to Consolidated Interest Expense (as
defined) for the four quarters ended on the measurement date that we may have,
such ratios ranging from 1.25 to 1 through the third quarter of fiscal 2002 to
2.00 to 1 after the third quarter of fiscal 2003.
CRITICAL ACCOUNTING POLICIES
- ----------------------------
Accounting policies are an integral part of the preparation of our financial
statements in accordance with accounting principles generally accepted in the
United States of America. Understanding these policies, therefore, is a key
factor in understanding our reported results of operations and financial
position. Certain critical accounting policies require us to make estimates and
assumptions that affect the amounts of assets, liabilities, revenues and
expenses reported in the financial statements. Due to their nature, estimates
involve judgment based upon available information. Therefore, actual results or
amounts could differ from estimates and the difference could have a material
impact on our consolidated financial statements. During the twenty-eight weeks
ended July 14, 2002, there were no material changes to the matters discussed
under the heading "Critical Accounting Policies" in Part II, Item 7 of our
Annual Report on Form 10-K for the fiscal year ended December 30, 2001.
Pg. 34
FORWARD LOOKING STATEMENTS
- --------------------------
This report contains certain forward-looking statements about our financial
condition, results of operations, future prospects and business. These
statements appear in a number of places in the report and include statements
regarding our intent, belief, expectation, strategies or projections at that
time. These statements generally contain words such as "may," "should," "seeks,"
"believes," "expects," "intends," "plans," "estimates," "projects," "strategy"
and similar expressions or the negative of those words.
Forward-looking statements are subject to a number of known and unknown risks
and uncertainties that could cause actual results to differ materially from
those projected, expressed or implied in the forward-looking statements. These
risks and uncertainties, many of which are not within our control, include but
are not limited to:
o general economic, weather and business conditions;
o the availability of suitable restaurant sites in appropriate regional
shopping malls and other locations on reasonable rental terms;
o changes in consumer tastes;
o changes in population and traffic patterns, including the effect that
terrorist or other events may have on the willingness of consumers to
frequent malls, airports or downtown areas which are the predominant areas
in which our restaurants are located;
o our ability to continue to attract franchisees;
o the success of the our present, and any future, joint ventures and other
expansion opportunities;
o the availability of food (particularly cheese and tomatoes) and paper
products at current prices;
o our ability to pass along cost increases to our customers;
o no material increase occurring in the Federal minimum wage;
o the continuity of services of members of our senior management team;
o our ability to attract and retain competent restaurant and executive
managerial personnel;
o competition;
o the level of, and our ability to comply with, government regulations;
o our ability to generate sufficient cash flow to make interest payments and
principal under our senior notes and credit agreement;
o our ability to comply with covenants contained in the indenture under which
the senior notes are issued and in our bank credit agreement, and the
effects which the restrictions imposed by those covenants may have on our
ability to operate our business; and
o our ability to repurchase senior notes to the extent required and make
repayments under our credit agreement to the extent required in the event
we make certain asset sales or experience a change of control.
Pg. 35
You are cautioned not to place undue reliance on these statements, which speak
only as of the date of the report. We do not undertake any responsibility to
release publicly any revisions to these forward-looking statements to take into
account events or circumstances that occur after the date of this report.
Additionally, we do not undertake any responsibility to update you on the
occurrence of any unanticipated events which may cause actual results to differ
from those expressed or implied by the forward-looking statements contained in
this report.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES OF MARKET RISK
We have historically invested our cash on hand in short term, fixed rate, highly
rated and highly liquid instruments which are reinvested when they mature
throughout the year. The Indenture under which our Senior Notes are issued
limits us to similar investments. Although our existing investments are not
considered at risk with respect to changes in interest rates or markets for
these instruments, our rate of return on short-term investments could be
affected at the time of reinvestment as a result of intervening events.
Future borrowings under our credit facility (none are currently outstanding)
will be at rates that float with the market and, therefore, will be subject to
fluctuations in interest rates. Our $255.0 Senior Notes bear a fixed interest
rate of 11.0%. We are not a party to, and do not expect to enter into, any
interest rate swaps or other instruments to hedge interest rates.
We have not, and do not expect to, purchase future, forward, option or other
instruments to hedge against fluctuations in the prices of the commodities we
purchase. As a result, our future commodities purchases are subject to changes
in the prices of such commodities.
All of our transactions with foreign franchisees have been denominated in, and
all payments have been made in, United States dollars, reducing the risks
attendant in changes in the values of foreign currencies. As a result, we have
not, and do not expect to, purchase future contracts, options or other
instruments to hedge against changes in values of foreign currencies.
Pg. 36
PART II. OTHER INFORMATION
--------------------------
Not applicable
Pg. 37
SIGNATURE
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.
SBARRO, INC.
--------------------------------------
Registrant
Date: August 23, 2002 By: /s/ MARIO SBARRO
--------------- --------------------------------------
Mario Sbarro
Chairman of the Board and President
(Principal Executive Officer)
Date: August 23, 2002 By: /s/ STEVEN B. GRAHAM
--------------- --------------------------------------
Steven B. Graham
Vice President and Controller
(Principal Accounting Officer)
Pg. 38