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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
|_| Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the fiscal year ended DECEMBER 28, 2003
|_| Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from ________ to ________
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
incorporation or organization) Identification No.)
401 BROADHOLLOW ROAD, MELVILLE, NEW YORK 11747
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (631) 715-4100
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirement for the past 90 days. Yes No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [ X ].
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
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The registrant's common stock is not publicly-held or publicly traded.
The number of shares of Common Stock of the registrant outstanding as
of March 19, 2004 was 7,064,328.
DOCUMENTS INCORPORATED BY REFERENCE
None
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SBARRO, INC.
UNLESS THE CONTEXT OTHERWISE REQUIRES, ALL REFERENCES TO "WE," "US," "OUR,"
"SBARRO" OR THE "COMPANY" INCLUDE SBARRO, INC. AND OUR SUBSIDIARIES.
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 this
time. These statements generally contain words such as "may," "should," "seeks,"
"believes," "in our opinion," "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, inflation, 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 effects that
military action and terrorism 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 our present, and any future, joint ventures and other
expansion opportunities;
o the availability of food (particularly cheese and tomatoes), beverage
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 new line of credit;
o our ability to comply with covenants contained in the indenture under
which the senior notes are issued, 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 in the
event we make certain asset sales or experience a change of control.
You are cautioned not to place undue reliance on forward looking
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
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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.
PART I
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ITEM 1. BUSINESS
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Sbarro, Inc., a New York corporation, was organized in 1977 and is the
successor to a number of family food and restaurant businesses developed and
operated by the Sbarro family. Today, we are a leading owner, operator and
franchisor of quick-service restaurants, serving a wide variety of Italian
specialty foods with 915 company-owned and franchised restaurants worldwide at
December 28, 2003. In addition, since 1995, we have created, primarily through
joint ventures, other restaurant concepts for the purpose of developing growth
opportunities in addition to the Sbarro restaurants. We presently operate 29
other concept restaurants through owned joint ventures in which we hold a
majority or minority position or through wholly owned subsidiaries. (See "Other
Concepts," below.)
GOING PRIVATE TRANSACTION
-------------------------
On September 28, 1999, members of the Sbarro family (who prior thereto
owned approximately 34.4% of our common stock) became the holders of 100% of our
issued and outstanding common stock as a result of a merger in which a company
owned by the members of the Sbarro family merged with and into us. The cost of
the merger, including fees and expenses, was funded through the use of
substantially all of our cash then on hand and the placement of $255.0 million
of 11.0% senior notes due September 15, 2009 sold at a price of 98.514% of par
to yield 11.25% per annum. In April 2000, we exchanged these senior notes for
new senior notes having the same terms, except that the new senior notes were
registered under the Securities Act of 1933. Throughout this report we are
referring to the new senior notes as the "senior notes." The old senior notes
and the new senior notes were issued under an indenture dated September 28,
1999, which, throughout this report, we are referring to as the "indenture." Our
payment obligations under the senior notes are jointly, severally,
unconditionally and irrevocably guaranteed by all of our current restricted
subsidiaries (as defined in the indenture) and are to be similarly guaranteed by
our future restricted subsidiaries. See "Selected Financial Data" included in
Item 6 of this report, "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included in Item 7 of this report,
"Financial Statements and Supplementary Data" included in Item 8 of this report
and "Security Ownership of Certain Beneficial Owners and Management" included in
Item 12 of this report.
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GENERAL
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We are a leading owner, operator and franchisor of quick service
restaurants, serving a wide variety of Italian specialty foods. Under the
"Sbarro" and "Sbarro The Italian Eatery" names, we developed one of the first
quick-service concepts that extended beyond offering one primary specialty item,
such as pizza or hamburgers. Our diverse menu offering includes pizza, pasta and
other hot and cold Italian entrees, salads, sandwiches, cheesecake and other
desserts and beverages. All of our entrees are prepared fresh daily in each
restaurant using special recipes developed by us. We focus on serving our
customers generous portions of high quality Italian-style food at attractive
prices. We believe that the Sbarro concept is unlike other quick-service Italian
restaurants due to its diverse menu selection and its fast, cafeteria-style
service.
Since our inception in 1959, we have focused on high customer traffic
venues due to the large number of captive customers who base their eating
decision primarily on impulse and convenience. We therefore do not have to incur
the significant advertising and promotional expenditures that certain of our
competitors incur to attract customers to their destination restaurants. These
factors, combined with adherence to strict cost controls, provide us with
reasonable operating margin percentages. Sbarro restaurants are primarily
located in shopping malls, downtown locations and other high customer traffic
venues, including toll roads, airports, sports arenas, hospitals, convention
centers, university campuses and casinos. We believe that there may be
opportunities to open similar Sbarro units in these and other venues.
As of December 28, 2003, we had 915 Sbarro quick service restaurants,
consisting of 528 company-owned and 387 franchised restaurants located in 46
States, the District of Columbia, the Commonwealth of Puerto Rico, certain
United States territories and 26 countries throughout the world.
In addition, since 1995, we have created and operated other casual and
fine dining concepts for the purpose of developing growth opportunities in
addition to our Sbarro restaurants. With our joint venture partners or in wholly
owned subsidiaries, we currently operate 29 casual and fine dining restaurants
featuring varying cuisines under other restaurant concepts.
RESTAURANT EXPANSION
--------------------
We grew from 103 Sbarro-owned or franchised quick service restaurants
at the time of our initial public offering in 1985 to 939 at the end of fiscal
2000. However, since the end of fiscal 2000, while we have added 84 more
franchised units than were closed, we have closed or sold to franchisees 108
more company-owned units than we opened, resulting in a net decrease of 24
Sbarro-owned or franchised quick service restaurants. As a result, the total
number of company-owned and franchised units at December 28, 2003 was 915.
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The following table summarizes the number of Sbarro-owned and
franchised quick service restaurants in operation during each of the years from
1999 through 2003:
FISCAL YEAR
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2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Company-owned Sbarro restaurants:
Opened during period (1) (2) 4 13 9 13 24
(Sold to) acquired from franchisees
during period (12) (6) - 1 (1)
Closed during period (2) (3) (22) (51) (43) (16) (9)
---- ---- ---- ---- ---
Open at end of period (2) (4) 528 558 602 636 638
Franchised Sbarro restaurants:
Opened during period (5) 39 42 42 36 49
Acquired from (sold to) Sbarro
during period 12 6 - (1) 1
Closed or terminated during period (17) (20) (20) (18) (32)
---- ---- ---- ---- ----
Open at end of period 387 353 325 303 286
All Sbarro restaurants:
Opened during period (1) 43 55 51 49 73
Closed or terminated during period (2) (3) (39) (71) (63) (34) (41)
---- ---- ---- ---- ----
Open at end of period (2) (4) 915 911 927 939 924
Kiosks (all franchised) open at end of year 3 3 4 5 4
(1) Excludes 1, 2, 4, 7 and 7 other concept units opened during fiscal
2003, 2002, 2001, 2000 and 1999, respectively.
(2) During fiscal 2004 through March 5, 2004, we have opened 1 and closed
12 and company-owned restaurants.
(3) See Note (5) to "Selected Financial Data" in Item 6 of this report for
information with respect to charges relating to the closing of
company-owned restaurants.
(4) Excludes 29, 32, 37, 33 and 26 other concept units at the end of fiscal
2003, 2002, 2001, 2000 and 1999, respectively. See Note (5) to
"Selected Financial Data" in Item 6 of this report for information with
respect to charges relating to the closing of other concept
restaurants.
(5) During fiscal 2004 through March 15, 2004, we have opened 5 and closed
4 franchised restaurants.
TRADITIONAL QUICK SERVICE CONCEPT AND MENU
------------------------------------------
Sbarro quick service restaurants are family oriented, offering quick,
efficient, cafeteria and buffet style service designed to minimize customer
waiting time and facilitate table turnover. The decor of a Sbarro restaurant
incorporates a contemporary motif that blends with the characteristics of the
surrounding area.
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As of December 28, 2003, there were 239 "in-line" Sbarro restaurants
and 669 "food court" Sbarro quick service restaurants. In addition, franchisees
operated 7 freestanding Sbarro restaurants. "In-line" restaurants, which are
self-contained restaurants, usually occupy between 1,500 and 3,000 square feet,
contain the space and furniture to seat approximately 60 to 120 people and
employ 10 to 40 persons, including part-time personnel. "Food court" restaurants
are primarily located in areas of shopping malls designated exclusively for
restaurant use and share a common dining area provided by the mall. These
restaurants generally occupy between 500 and 1,000 square feet and contain only
kitchen and service areas. They frequently have a more limited menu than an
"in-line" restaurant and employ 6 to 30 persons, including part-time personnel.
Sbarro restaurants are generally open seven days a week serving lunch,
dinner and, in a limited number of locations, breakfast, with hours conforming
to those of the major department stores or other large retailers in the mall or
trade area in which they are located. Typically, mall restaurants are open to
serve customers 10 to 12 hours a day, except on Sunday, when mall hours may be
more limited. For Sbarro-owned restaurants open a full year, average sales in
fiscal 2003 were $0.8 million for "in-line" restaurants and $0.5 million for
"food court" restaurants. Our business is subject to seasonal fluctuations, and
the effects of weather and economic conditions. Sales have been highest in our
fourth fiscal quarter due primarily to increased volume in shopping malls during
the holiday shopping season but fluctuate due to the length of the holiday
shopping period between Thanksgiving and New Year's Day, the number of weeks in
our fourth quarter and weather conditions. In recent years, our fourth quarter
sales have fluctuated significantly due to a number of other factors, including
the adverse effect of the general economic downturn.
Sbarro restaurants feature a menu of popular Italian food, including
pizza with a variety of toppings, a selection of pasta dishes and other hot and
cold Italian entrees, salads, sandwiches, cheesecake and other desserts. In
addition to soft drinks, a limited number of the larger restaurants serve beer
and wine.
All of our entrees are prepared fresh daily in each restaurant
according to special recipes developed by us. We place emphasis on serving
generous portions of quality Italian-style food at attractive prices. Entree
selections, excluding pizza, generally range in price from $2.79 to $7.99. We
believe that pizza, which is sold predominantly by the slice, accounts for
approximately 50% of Sbarro restaurant sales.
Substantially all of the food ingredients, beverages and related
restaurant supplies used by our quick-service restaurants are purchased from a
national independent wholesale food distributor which is required to adhere to
established product specifications for all food products sold to our
restaurants. Breads, pastries, produce, fresh dairy and certain meat products
are purchased locally for each restaurant. Soft drink mixes are purchased from
major beverage producers under national contracts and distributed by our
national independent distributor. In early fiscal 2003, we replaced our national
independent wholesale distributor, with which we did not have a contract, by
entering into a contract with another national independent wholesale distributor
due to the former distributor's bankruptcy. Our current contractual arrangement,
which expires in January 2008, requires us to purchase 95% of all of our food
ingredients that are not purchased locally and related restaurant supplies
through the new distributor. As the majority of the products used in our
restaurants are proprietary and we are involved with negotiating their cost to
the wholesaler, there has not been a material impact on our cost of food and
paper products from this new contractual arrangement. Should the need arise, we
believe that there are other distributors who would be able to
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service our needs and that satisfactory alternative sources of supply are
generally available for all items regularly used in our restaurants.
RESTAURANT MANAGEMENT
---------------------
Each Sbarro restaurant is managed by one general manager and one or two
co-managers or assistant managers, depending upon the size of the location.
Managers are required to participate in Sbarro training sessions in restaurant
management and operations prior to the assumption of their duties. In addition,
each restaurant manager is required to comply with an extensive operations
manual containing procedures for assuring uniformity of operations and
consistent high quality of products. We have a restaurant management bonus
program that provides the management teams of Sbarro-owned restaurants with the
opportunity to receive cash bonuses based on certain performance-related
criteria of their location.
We employ approximately 40 directors of operations, each of whom is
typically responsible for the operations of 10 to 15 Sbarro-owned restaurants in
a given area. Before each new restaurant opening, we assign an area or regional
director to coordinate opening procedures. Directors of operations recruit and
supervise the managerial staff of all Sbarro-owned restaurants and report to one
of the six vice presidents. The vice presidents coordinate the activities of the
directors of operations assigned to their areas of responsibility and report to
the President of our Quick Service Division.
FRANCHISE DEVELOPMENT
---------------------
Growth in franchise operations occurs through the establishment of new
Sbarro restaurants by new franchisees and existing franchisees that have
multi-unit franchise agreements. We rely principally upon our reputation and the
strength of our existing restaurants, as well as on participation in national
franchise conventions, to attract new franchisees.
As of December 28, 2003, we had 387 franchised Sbarro restaurants
operated by 101 franchisees in 39 states of the United States as well as its
territories and in 26 countries throughout the world. We are presently
considering additional franchise opportunities in the United States and other
countries. In certain instances, we have established franchise locations under
territorial agreements in which we have granted, for specified time periods,
exclusive rights to enter into franchise agreements for restaurant units in
certain geographic areas (primarily foreign countries) or venues (primarily
specified non-mall locations such as for certain toll roads or airports).
In order to obtain a franchise, we generally require payment of an
initial fee and continuing royalties at rates of 3.5% to 10.0% of gross
revenues. Franchise agreements entered into prior to 1988 generally had an
initial term of 15 years with the franchisee having a renewal option provided
that the agreement had not been previously terminated by either party for
specified reasons. Since 1988, we have required the franchise agreements to end
at the same time as the underlying lease, but generally in not less than ten nor
more than twenty years, including a renewal period of the underlying lease if
applicable. Since 1990, the renewal option has also been subject to conditions,
including a remodel or image enhancement requirement. Franchise agreements
granted under territorial agreements and those for non-traditional sites are at
negotiated fees, royalty rates and terms and conditions other than those
contained in our basic franchise agreement. The franchise and territorial
agreements provide us with the right to terminate a franchisee for a variety of
reasons, including insolvency or bankruptcy, failure to operate its restaurant
according to standards,
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understatement of gross receipts, failure to pay fees, or material
misrepresentation on an application for a franchise.
We presently employ ten management level individuals responsible for
overseeing the operations of franchise units and for developing new units. These
employees report to the President of our Franchising and Licensing Division.
OTHER CONCEPTS
--------------
Since 1995, we have developed and established new restaurant concepts
to provide growth opportunities that leverage our restaurant management and
financial expertise. These concepts are operated either by us alone or through
joint ventures with restauranteurs experienced in the particular food area. We
participate with our partners in overseeing the operations of each venture. Our
joint ventures and other wholly-owned concepts presently operate 29 restaurants.
We intend to continue to expand the Mama Sbarro concept and our steakhouse
concept, in the limited manner noted below, but do not intend to expand any of
our other joint venture operations.
The following is a summary of our internally operated and joint venture
operated concepts:
o Through a wholly-owned subsidiary, we operate eight moderately
priced quick casual dining restaurants serving Italian food,
under the name "Mama Sbarro." The restaurants provide both
quick-service and table service, with take-out service available,
and generally cater to families. In February 2003, we sold two
Mama Sbarro locations to an unaffiliated third party for an
aggregate of $0.8 million in cash and notes. We recorded a
provision for impairment of $0.2 million related to these two
locations in fiscal 2002. This provision approximated the
estimated loss from the sale. We did not open any Mama Sbarro
locations in fiscal 2003 but are planning to expand this concept
during fiscal 2004.
o We operate five quick service units in mall locations under the
name "Umberto of New Hyde Park" in which we own a 100% interest.
We closed one "Umberto of New Hyde Park" location during fiscal
2002, recording a closing cost of approximately $0.1 million.
o We have a 40% interest in a joint venture that presently operates
eight casual dining restaurants with a Rocky Mountain steakhouse
motif under the name "Boulder Creek Steaks & Saloon." This
venture also operates three fine dining steak restaurants, two of
which are operated under the name "Rothmann's Steak House" and
the other is operated under the name "Burton & Doyle." Currently,
there is Boulder Creek and one mid-scale steakhouse in the
planning stage, both of which are expected to be completed during
the fourth quarter of fiscal 2004. We do not have any further
expansion plans for this venture.
o We have a 70% interest in a joint venture that presently operates
one moderately priced, table service restaurant featuring an
Italian Mediterranean menu under the name "Salute" in New York
City. In early 2002, this joint venture closed one of its two
remaining locations.
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o At the beginning of fiscal 2002, we had a 50% interest with the
same joint venture partners in three moderately priced, table
service restaurants that also featured an Italian-Mediterranean
menu. All three locations were closed during fiscal 2002.
Additional losses of $0.3 million were recorded related to these
locations in fiscal 2002. We recorded a loss on of the closing of
the third restaurant in fiscal 2002 of approximately $4.1
million, for a total restaurant closing cost in fiscal 2002 of
approximately $4.4 million for this venture. See "Item 3. Legal
Proceedings" for information related to lawsuits to which we are
a party for one of the locations closed in fiscal 2002.
o We have a 50% interest in a joint venture which, in June 1999,
acquired two quick service Mexican style restaurants operating in
strip centers under the names "Baja Grill" and "Waves."
o We had a 25% interest in a joint venture formed in 1999 that
operated one seafood restaurant under the name "Vincent's Clam
Bar" which was sold in August 2003. Our share of the loss
recorded upon the sale of the assets of this restaurant was
approximately $0.2 million.
All of the other concept locations, except for three Umberto of New
Hyde Park mall units, are located in the New York City metropolitan area.
All of our other concept locations presently operate through
unrestricted subsidiaries which do not guarantee our senior notes. As such, we
have certain restrictions as to the financing we can provide to these new
concepts and these entities are not subject to the restrictions contained in the
indenture under which our senior notes are issued. Ventures in which we have a
50% or less interest are accounted for under the equity method of accounting.
As of December 28, 2003, we had an aggregate investment, net of
write-downs, impairment charges and losses on sales, in the form of advances to
and property and equipment costs of these other concepts, of approximately $10.8
million. The amount of our investment does not include guarantees of
indebtedness and reimbursement obligations in respect of letters of credit in
the aggregate amount of approximately $7.7 million (in addition to approximately
$0.1 million of remaining letters of credit for locations that have been sold
and are being used for security under leases that have been sublet to the new
owners) and guarantees of certain real property lease obligations of these
subsidiaries and other concepts in the approximate amount of $2.4 million. In
addition, our other concepts have potential obligations of $3.0 million for
subleased real property for locations that have been sold.
EMPLOYEES
---------
As of December 28, 2003, we employed approximately 5,600 persons,
excluding employees of other concepts, of whom approximately 3,150 were
full-time field and restaurant personnel, approximately 2,250 were part-time
restaurant personnel and 200 were corporate administrative personnel. None of
our employees are covered by collective bargaining agreements. We believe our
employee relations are satisfactory. In the first quarter of 2004, we
implemented a reduction in work force that reduced our corporate administrative
head count by approximately 35 persons. We will record severance and other
related costs of approximately $0.7 million in the first quarter of 2004 for the
reduction in work force. We estimate that the reduction in work force will
reduce our annual general and administrative costs by approximately $3.1
million.
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COMPETITION
-----------
The restaurant business is highly competitive. Many of our direct
competitors operate within the pizza restaurant segment. We believe we compete
on the basis of menu selection, price, service, location and food quality.
Factors that affect our and our franchisees' business operations include changes
in consumer tastes, national, regional and local economic conditions,
population, traffic patterns, changes in discretionary spending priorities,
demographic trends, military action, terrorism, and consumer confidence in food
wholesomeness, handling and safety, weather conditions, the type, number and
location of competing restaurants and other factors. There is also active
competition for management personnel and attractive commercial shopping mall,
center city and other locations suitable for restaurants. We compete in each
market in which we operate with locally-owned restaurants, as well as with
national and regional restaurant chains. Factors such as inflation and increased
food, beverage, labor, occupancy and other costs could also adversely affect us
and others in the restaurant industry.
Although we believe we are well positioned to compete in the
quick-service Italian specialty food business because of our leading market
position, focus, expertise and strong national brand name recognition, increased
competition from existing or new companies and loss of market share, could have
an adverse effect on our operations.
TRADEMARKS
----------
Our Sbarro restaurants operate principally under the "Sbarro" and
"Sbarro The Italian Eatery" trademarks. Our other concept locations operate
under separate trademarks, including "Mama Sbarro" and "Boulder Creek." The
trademarks are registered with the United States Patent and Trademark Office
with no expiration date but must be renewed every ten years. Such registered
service marks may continually be renewed for 10-year periods. We have also
registered or filed applications to register "Sbarro" and "Sbarro The Italian
Eatery" in several other countries. We believe that these marks continue to be
materially important to our business. The joint ventures to which we are a party
have also applied for United States trademarks covering trade names used by
them.
GOVERNMENTAL REGULATION
-----------------------
We are subject to various federal, state and local laws affecting our
businesses, as are our franchisees. Each of our restaurants and those owned by
our franchisees and joint ventures are subject to a variety of licensing and
governmental regulatory provisions relating to wholesomeness of food,
sanitation, health, safety and, in certain cases, licensing of the sale of
alcoholic beverages. Difficulties in obtaining, or the failure to obtain,
required licenses or approvals can delay or prevent the opening of a new
restaurant in any particular area. Our operations and those of our franchisees
and joint ventures are also subject to federal laws, such as minimum wage laws,
the Fair Labor Standards Act and the Immigration Reform and Control Act of 1986.
They are also subject to state laws governing such matters as wages, working
conditions, employment of minors, citizenship requirements and overtime. Some
states have set minimum wage requirements higher than the federal level.
We are also subject to Federal Trade Commission regulations and various
state laws regulating the offer and sale of franchises. The FTC and various
state laws require us to furnish to prospective franchisees a franchise offering
circular containing prescribed information. We are
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currently registered to offer and sell franchises, or are exempt from
registering, in all states in which we operate franchised restaurants that have
registration requirements. The states in which we are registered, and a number
of states in which we may franchise, require registration of a franchise
offering circular or a filing with state authorities. Substantive state laws
that regulate the franchisor-franchisee relationship presently exist in a
substantial number of states, and bills have been introduced in Congress from
time to time which provide for federal regulation of the franchisor-franchisee
relationship in certain respects. The state laws often limit, among other
things, the duration and scope of non-competition provisions and the ability of
a franchisor to terminate or refuse to renew a franchise.
Although alcoholic beverage sales are not emphasized in our Sbarro
quick service restaurants, our new concepts serve alcoholic beverages and some
of our larger restaurants serve beer and wine. Sales of beer and wine have
historically contributed less than 1% of total revenues of Sbarro quick service
restaurants.
We believe that we are in compliance in all material respects with the
laws to which we are subject.
AVAILABLE INFORMATION:
Although we are not required to file reports with the Securities and
Exchange Commission ("SEC") as a result of our going private transactions, we
voluntarily file with the SEC quarterly reports on Form 10-Q, annual reports on
Form 10-K and, if applicable, current reports on Form 8-K, and amendments to
these reports.
The public may read and copy any materials that we file with the SEC at
the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549.
The public can obtain information on the operation of the Public Reference Room
by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains an Internet
site, with an address of http://www.sec.gov that contains reports, proxy and
information statements and other information regarding our electronic filings
with the SEC.
The address of our Internet site is http://www.sbarro.com. Our Internet
site does not include reports we file with the SEC because our only traded
security is our senior notes which is not actively traded. However, we will
provide to the public, as soon as reasonably practical after we electronically
file them with the SEC, free of charge, a reasonable number of copies of our
periodic reports filed with the SEC, upon written request to our Chief Financial
Officer at our corporate headquarters, 401 Broadhollow Road, Melville, New York
11747.
ITEM 2. PROPERTIES
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All Sbarro restaurants are typically leased under ten-year leases that
often do not include an option to renew the lease. We have historically been
able to renew or extend leases on existing sites. As of December 28, 2003, we
leased 556 restaurants, of which 28 were subleased to franchisees under terms
which cover all of our obligations under the leases. The remaining franchisees
directly lease their restaurant spaces. Most of our restaurant leases provide
for the payment of base rents plus real estate taxes, utilities, insurance,
common area charges and certain other expenses. Some leases
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provide either exclusively, or in combination with base rent, for contingent
rents generally ranging from 8% to 10% of net restaurant sales, usually in
excess of stipulated amounts.
Leases to which we were a party at December 28, 2003 have initial terms expiring
as follows:
YEARS INITIAL LEASE NUMBER OF SBARRO- NUMBER OF FRANCHISED
TERMS EXPIRE OWNED RESTAURANTS RESTAURANTS
- ------------ ----------------- -----------
2004........................... 62 (1) 2
2005........................... 42 4
2006........................... 44 4
2007 .......................... 60 6
2008........................... 64 2
Thereafter..................... 256 10
(1) Includes 16 restaurants under month-to-month tenancies and 16
restaurants as to which we pay only contingent rent based on the level
of net restaurant sales, the leases for which are generally for one
year periods.
We own a four-story office building in Melville, New York having
approximately 100,000 square feet and a cafeteria style restaurant operated by
us. This building was purchased and renovated at a total cost of approximately
$21.5 million. Approximately 73% of the rentable square feet is currently under
lease to unaffiliated third parties. The remaining 27%, consisting primarily of
one floor of the building, is occupied by us as our principal executive offices.
On March 3, 2000, we obtained a ten-year, 8.4%, $16.0 million mortgage loan on
this property.
Until April 2004, we are also occupying a two-story 20,000 square foot
office building for administrative support functions located in Commack, New
York. We had leased the building since May 1986 from a partnership owned by some
of our shareholders at an annual base rental of $0.3 million. Our obligation for
the remainder of the lease term, which is scheduled to expire in 2011, will be
terminated upon the sale of the building by the partnership in April 2004. See
"Certain Relationships and Related Transactions" in Item 13 of this Report for a
description of the lease.
In addition, our other concepts own one restaurant and lease 28
restaurants.
ITEM 3. LEGAL PROCEEDINGS
- ------- -----------------
On December 20, 1999, Antonio Garcia and thirteen other current and
former general managers of Sbarro restaurants in California amended a complaint
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 motion was denied by the court. The court issued a
ruling in December 2003 which was unfavorable to us but did not set the amount
of damages. We are appealing the ruling due to errors that we believe were made
by the trial judge.
On September 6, 2000, Manuel Jimenez and seven other current and former
general managers of Sbarro restaurants in California filed a complaint against
Sbarro in the Superior Court of California for Orange County alleging that the
plaintiffs were improperly classified as exempt
-12-
employees under 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 are represented by the
same counsel who is representing the plaintiffs in the case in the preceding
paragraph. We have separately settled with two of the managers for immaterial
amounts. The remaining parties to this case have agreed that it will be settled
upon the same terms and conditions that the court orders in connection with its
decision in the case discussed in the preceding paragraph.
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 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. The case is currently in the discovery phase.
In August 2002, a subcontractor and the general contractor, pursuant to
a construction contract entered into to build the joint venture location that we
closed in fiscal 2002 and is also the subject of the lawsuit discussed below,
filed a complaint against the limited liability joint venture company alleging
that they are owed approximately $800,000, plus interest. We are a defendant in
the suit by reason of the fact that we guaranteed the bonds under which
mechanics liens for the plaintiffs were bonded. It is anticipated that this
matter will go to trial during later in fiscal 2004. We believe that our maximum
liability, should an unfavorable verdict be returned in this case, would be
approximately $400,000.
We believe that we have substantial defenses to the claims in each of
the actions and are vigorously defending these actions.
In May 2002, the landlord of the joint venture described above filed a
complaint against Sbarro in the Supreme Court of the New York for Westchester
County alleging that we were obligated to it, pursuant to a Guaranty Agreement
we executed, based on an alleged breach of the lease by the tenant, a subsidiary
of the joint venture. We believed that our guarantee was limited in amount while
the landlord alleged that the guarantee covered all amounts that would become
due during the remaining lease term. The court issued a ruling in November 2003
which established our liability at $500,000. The landlord has advised us that it
intends to appeal this decision.
In addition to the above complaints, from time to time, we are a party
to certain claims and legal proceedings in the ordinary course of business. In
our opinion, the results of the complaints and other claims and legal
proceedings are not expected to have a material adverse effect on our
consolidated financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------- ---------------------------------------------------
Not applicable.
-13-
PART II
-------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
- ------- -------------------------------------
AND RELATED SHAREHOLDER MATTERS
-------------------------------
As a result of the going private transaction in September 1999, our
common stock is not publicly-held nor publicly traded. We currently have six
shareholders of record. (See Item 12 "Security Ownership of Certain Beneficial
Owners and Management.")
During 2003 and 2002, we declared the following dividends to our
shareholders. Tax distributions are determined under a formula contained in a
tax payment agreement with our shareholders designed to enable them to pay
income taxes imposed upon them, as a result of our election to be taxed, under
the provisions of Subchapter S of the Internal Revenue Code, on their pro-rata
share of our taxable income (See Item 13, "Certain Relationships and Related
Transactions - Tax Payment Agreement".)
AMOUNT
PER SHARE TOTAL TYPE
--------- ----- ----
FISCAL 2003
-----------
January 21, 2003 $0.16 $1,100,061 Tax Distribution
November 13, 2003 $0.10 $682,222 Tax Distribution
FISCAL 2002
-----------
January 15, 2002 $0.44 $3,125,000 Tax Distribution
The tax distributions declared in 2003 related to 2002 taxable earnings.
The indenture under which our senior notes are issued contains various covenants
that may limit our ability to make "restricted payments," including, among other
things, dividend payments (other than as distributions pursuant to the tax
payment agreement). Under the terms of the indenture, we currently are not
permitted to make "restricted payments" other than distributions pursuant to the
tax payment agreement. Our ability to make future dividend payments (other than
distributions pursuant to the tax payment agreement) and other restricted
payments will depend upon our future profitability and certain other factors. At
the time of declaration of the dividend, we must have a consolidated interest
ratio coverage (as defined in the indenture), after giving pro forma effect to
the restricted payments, for the four most recently ended fiscal quarters of at
least 2.0 to 1. For the four fiscal quarters ended December 28, 2003, our
consolidated interest coverage ratio was 1.26 to 1. In any event, restricted
payments are limited in dollar amount pursuant to a formula contained in the
indenture. We refer to the amount that is available for us to make dividends and
other restricted payments as the "restricted payment availability." We cannot
make restricted payments until we increase the restricted payment availability
subsequent to December 28, 2003 by approximately $14.8 million, and then only to
the extent of any excess over that amount.
-14-
ITEM 6. SELECTED FINANCIAL DATA
- ------- -----------------------
The following Selected Financial Data should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included in Item 7 of this report and our consolidated financial
statements and the related notes included in Item 8 of this report. Our fiscal
2003 and 2002 consolidated financial statements have been audited and reported
on by BDO Seidman, LLP, independent certified public accountants, and our
consolidated statements for years prior to fiscal 2002 were audited and reported
on by Arthur Andersen LLP, independent public accountants. The audit report
covering our financial statements as of and for the fiscal year ended December
30, 2001 and December 31, 2000 has not been reissued by Arthur Andersen LLP in
connection with this report.
FISCAL YEAR (1)
---------------
(DOLLARS IN THOUSANDS)
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
SYSTEM-WIDE SALES (UNAUDITED)(2) $536,216 $550,279 $570,609 $569,260 $543,219
======== ======== ======== ======== ========
INCOME STATEMENT DATA:
Revenues:
Restaurant sales $314,708 $345,206 $372,673 $382,365 $375,514
Franchise related income 10,868 10,070 10,286 11,231 8,688
Real estate and other (3) 6,748 5,104 5,756 5,812 5,495
----- -------- --------- --------- --------
Total revenues 332,324 360,380 388,715 399,408 389,697
------- ------- ------- ------- -------
Costs and expenses:
Restaurant operating expenses:
Costs of food and paper products 67,446 67,593 74,614 74,405 75,956
Payroll and other employee benefits 89,614 96,288 103,828 101,553 97,336
Other operating costs 110,453 114,892 116,581 114,122 108,599
Depreciation and amortization (4) 19,712 20,683 30,375 29,039 25,712
General and administrative costs 25,451 23,960 29,472 30,882 28,854
Asset impairment, restaurant
closings and other charges (5) 6,073 9,196 18,224 -- 1,013
-------- -------- -------- ---------- --------
Total costs and expenses 318,749 332,612 373,094 350,001 337,470
------- ------- ------- ------- -------
Operating income 13,575 27,768 15,621 49,407 52,227
------ ------ ------ ---------- ---------
Other (expense) income:
Interest expense (31,039) (30,959) (30,950) (30,243) (7,899)
Interest income (6) 694 528 756 949 3,828
Equity in net income of
unconsolidated affiliates 425 668 310 303 423
Insurance recovery, net (7) - 7,162 - - -
-------- -------- ------- ------- -------
Net other expense e (29,920) (22,601) (29,884) (28,991) (3,648)
(Loss) income before minority interest (16,345) 5,167 (14,263) 20,416 48,579
Minority interest (41) (52) (1) (46) 266
---------- ----------- ----------- ---- ----------
(Loss) income before income taxes (credit) (16,386) 5,115 (14,264) 20,370 48,845
Income taxes (credit) (8) 844 334 325 (5,075) 19,322
--------- -------- ------ ------- ------
Net (loss) income $(17,230) $4,781 $(14,589) $25,445 $ 29,523
========= ====== ========= ======= ========
-15-
FISCAL YEAR (1)
---------------
(DOLLARS IN THOUSANDS)
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
OTHER FINANCIAL AND RESTAURANT DATA:
Net cash provided by
operating activities (9) $11,034 $32,453 $34,812 $48,329 $62,282
Net cash used in
investing activities (9) (8,521) (10,988) (22,453) (31,158) (25,227)
Net cash used in
financing activities (9) (1,254) (3,267) (17,726) (8,606) (158,356)
EBITDA (10) $33,671 $56,229 $46,305 $78,703 $78,628
Capital expenditures (11) $8,521 $10,988 $22,528 $31,193 $25,282
Number of restaurants at end of period:
Company-owned (12) 528 558 602 636 638
Franchised 387 353 325 303 286
--- --- --- --- ---
Total number of restaurants 915 911 927 939 924
=== === === === ===
BALANCE SHEET DATA (AT END OF PERIOD):
Total assets $386,829 $404,773 $404,762 $428,555 $417,543
Working capital (deficiency) 27,784 27,095 4,614 10,293 (1,935)
Total long-term obligations 277,031 276,569 276,337 274,475 263,090
Shareholders' equity 69,088 88,100 86,444 113,597 110,280
____________________
(1) Our fiscal year ends on the Sunday nearest December 31. All fiscal
years presented contained 52 weeks.
(2) System-wide sales are the total of sales at Sbarro-owned quick service
restaurants and the sales of our franchisees at their units as reported
to us. We believe system-wide sales information is an industry-wide
statistic used by analysts and investors to compare restaurant
companies that operate franchise units and/or operate multiple concept
restaurants, as well as company-owned restaurant units. We use this
statistic to assist in our analysis of per location sales and per
location sales information by type of location and to compare sales at
franchise restaurants to sales at Company-owned restaurants to judge,
among other things, the relative operating success of the franchisee..
The following table reconciles our system-wide sales to our restaurant
sales which we believe is the most direct comparable generally accepted
accounting principles in the United States ("GAAP") financial measure
to system-wide sales for each of the periods presented (in thousands):
Fiscal Year
-----------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Restaurant sales $314,708 $345,206 $372,673 $382,365 $375,514
Franchise unit sales $221,508 $205,073 $197,936 $186,895 $167,705
System-wide sales $536,216 $550,279 $570,609 $569,260 $543,219
-16-
(3) Real estate and other revenues include approximately $0.7 million of
rebates received from a vendor that applied to fiscal 2002. However,
during 2003, we received new information regarding those rebates
and recorded such amount in the fourth quarter of fiscal 2003
(4) Includes amortization of the excess purchase price over the book value
of assets acquired as a result of our going private transaction on
September 28, 1999 of $5.4 million, $5.0 million and $2.0 million in
fiscal 2001, 2000 and 1999, respectively. In fiscal 2000, we finalized
our allocation of the purchase price from the going private transaction
based on an evaluation of our net assets at September 28, 1999,
resulting in lower annual amortization expense than originally
estimated. In July 2001, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards ("SFAS") No. 142,
"Goodwill and Other Intangible Assets," which became effective as to us
with the beginning of fiscal 2002. 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). Accordingly, we incurred no amortization of goodwill
or of intangible assets with indefinite lives in fiscal 2003 or 2002.
Separable intangible assets that are not deemed to have indefinite
lives will continue to be amortized over their useful lives. Our
goodwill and intangible assets with indefinite lives, which aggregated
$205.1 million, net of accumulated amortization, at December 28, 2003,
are tested annually for impairment. Our testing for impairment
concluded that there was no impairment of our goodwill or intangible
assets at the end of fiscal 2003 or 2002.
(5) Asset impairment, restaurant closings and other charges consists of the
following:
2003 2002 2001 2000 1999 (a)
---- ---- ---- ---- --------
Impairment of assets $4.1 $0.4 $5.5 - -
Restaurant closings 2.0 8.8 11.7 - -
Other charges - - 1.0 - $1.0
Total $6.1 $9.2 $18.2 - $1.0
(a) Fiscal 1999 amount represents a provision for a special allocation of
losses from the final disposition of two other concept unit closings
that was recorded in fiscal 1997.
(6) We used substantially all of our available cash on September 28, 1999
in order to fund the going private transaction. We will not realize the
level of interest income as we had prior thereto unless and until we
rebuild our cash position and interest rates rise to 1999 levels.
(7) Represents the portion, net of related expenses, of the settlement of
our insurance claim attributable to the reimbursement of lost income
under our business interruption insurance arising out of the events of
September 11, 2001.
(8) A credit of $5.6 million was recorded in 2000 to write-off deferred
income taxes as a result of electing 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 laws beginning in
fiscal 2000. For a discussion of the distributions that we are
permitted to make to our
-17-
shareholders to pay taxes on our income, see "Certain Relationships and
Related Transactions - Tax Payment Agreement" in Item 13 of this
report.
(9) For a more detailed presentation of our cash flow data, see our audited
consolidated financial statements and related notes included in Item 8
of this report. In 2000, net cash provided by operating activities
before a change in deferred taxes caused by the conversion to
Subchapter S status and a change in accrued interest payable was $53.3
million. In 1999, net cash provided by operating activities before the
change in accrued interest payable was $54.8 million.
(10) EBITDA represents earnings (losses) before cumulative effect of change
in accounting method, interest income, interest expense, taxes,
depreciation and amortization. EBITDA includes the effect of the
charges included in note 5 above and the insurance recovery described
in note 7 above. 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 GAAP or as a
measure of a company's profitability or liquidity. Rather, we believe
that EBITDA provides relevant and useful information for analysts and
investors in our senior notes in that EBITDA is one of the factors in
the calculation of our compliance with the ratios in the indenture
under which our senior notes are issued. We also internally use EBITDA
to determine whether to continue operating or close restaurant units
since it provides us with a measurement of whether we our receiving an
adequate cash return on our cash investment. 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. The following table reconciles EBITDA to our net
income (loss) which we believe is the most direct comparable GAAP
financial measure to EBITDA, for each of the periods presented (in
thousands):
FISCAL YEAR
-----------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
EBITDA $33,671 $56,229 $46,305 $78,703 $78,628
Interest expense (31,039) (30,959) (30,950) (30,243) (7,899)
Interest income 694 528 756 949 3,828
Income (taxes) credit (844) (334) (325) 5,075 (19,322)
Depreciation and amortization (19,712) (20,683) (30,375) (29,039) (25,712)
-------- -------- -------- -------- --------
Net (loss) income $(17,230) $ 4,781 ($14,589) $25,445 $29,523
========== ======= ========= ======= =======
(11) The following amounts related to the construction of the building in
which our headquarters are located, which opened in late 1998, are
included as capital expenditures: $0.4 million in fiscal 2000 and $1.6
million in fiscal 1999.
(12) Excludes 29, 32, 37, 33 and 26 for other concept units that were open
at the end of fiscal 2003, 2002, 2001, 2000 and 1999, respectively.
-18-
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
- ------- -------------------------------------------------
CONDITION AND RESULTS OF OPERATIONS
-----------------------------------
The following discussion and analysis of our financial condition and
results of operations should be read in conjunction with the consolidated
financial statements, the notes thereto and other data and information appearing
elsewhere in this report.
RESULTS OF OPERATIONS
EXECUTIVE OVERVIEW
We are a leading owner, operator and franchisor of quick-service
restaurants, serving a wide variety of Italian specialty foods with 915
locations as of December 28, 2003. We also operate, in certain cases with joint
venture partners, a number of other restaurant concepts with 29 locations as of
December 28, 2003.
During recent fiscal years, we have been faced with numerous pressures
that have affected our revenues and earnings. Comparable quick-service
restaurant sales and royalties earned from sales at comparable franchise
locations have been significantly affected by declining mall traffic as a result
of the events of September 11, 2001, the general economic downturn in the United
States and the events that culminated in the March 2003 military action in Iraq.
In addition, since the end of fiscal 2001, we have closed approximately 74 more
quick-service company-owned locations than we opened. Our franchise group has
opened approximately 62 more locations than were closed since the end of fiscal
2001. These openings have reduced the effects of the franchisees' comparable
sales declines. Earnings have also been affected by a decline in comparable
sales that affects our ability to operate as efficiently as possible, changes in
the price of cheese over the past few years, and higher payroll and other
operating expenses as a percentage of restaurant sales. Our operating results
have also been significantly affected by increases in rent and other occupancy
related expenses resulting principally from the renewal of existing leases at
the end of their terms. The number of store closings and the effect on revenues
and costs from declining comparable restaurant sales has resulted in significant
provisions for asset impairment and restaurant closings.
Our other restaurant concepts have also been affected by many of the
same factors that have affected the quick-service locations. In addition, the
closing of eight other consolidated concept locations has resulted in an
additional reduction in our revenues but, as the units were either unprofitable
or marginally profitable, a positive effect on earnings.
Since September 2003, we have restructured our corporate staff. In
September 2003, Michael O'Donnell was hired as our President and Chief Executive
Officer, while Mario Sbarro remained as Chairman of the Board of Directors. In
January 2004, Peter Beaudrault joined us as our Corporate Vice President and
President of our Quick Service Division, and Anthony J. Missano, formerly
President of our Quick Service Division, became our President of Business
Development, with responsibilities for real estate, construction, purchasing and
other business development matters. In February, 2004, Anthony J. Puglisi was
hired as our Chief Financial Officer, a position that had remained vacant since
June 2002. We have also eliminated five senior level corporate employees.
In order to become profitable during fiscal 2004, we believe that we
must re-energize our quick-service restaurant operations and, at the same time,
develop concepts that will operate outside
-19-
of our traditional mall, hospitality and airport venues while continuing to
provide a quality product coupled with quality service. We believe our strategy,
when properly executed, will result in future improvement of our operating
results, including higher sales and earnings.
SEASONALITY
Our business is subject to seasonal fluctuations, and the effects of
weather and economic conditions. Earnings have been highest in our fourth fiscal
quarter due primarily to increased volume in shopping malls during the holiday
shopping season. As a result, our annual earnings can fluctuate due to the
length of the holiday shopping period between Thanksgiving and New Year's Day
and the number of weeks in our fourth quarter. In recent years, our fourth
quarter income has fluctuated significantly due to a number of other factors,
including the adverse effect of the general economic downturn and significant
year end adjustments relating to asset impairment and store closing costs. An
example of how events beyond our control can impact earnings was a heavy
snowstorm in the eastern United States on Saturday and Sunday, December 6 and 7,
2003, which severely impacted sales during a peak weekend in the holiday season
and, therefore had an impact our fiscal 2003 revenues and earnings. Another
example is the events of September 11, 2001, which severely impacted mall and
transportation hub traffic, our primary venues, during the remainder of 2001,
including our peak fourth fiscal quarter, and, we believe, has continued to have
an impact on traffic in certain of these venues. Due to the seasonality of our
business, until after our fourth quarter is completed, we are not able to
perform the annual test for impairment on our goodwill and intangible assets
with indefinite lives acquired prior to July 1, 2001 as required by SFAS No.
142, "Goodwill and Other Intangible Assets," and fully evaluate the impairment
of long-lived assets as required by SFAS No. 144, "Accounting for the Impairment
and Disposal of Long-Lived Assets." Any required adjustments are recorded at
that time unless impairment factors are present earlier. Our annual test for
impairment of our goodwill and intangible assets with indefinite lives at the
end of fiscal 2003 concluded that there was no impairment of these assets.
However, during fiscal 2003, we recorded an impairment of our long-lived assets
of $4.1 million as a result of our evaluation of impairment indicators of the
property and equipment that is part of our long lived assets. See Note 14 of the
notes to consolidated financial statements in Item 8 of this report for further
information regarding our quarterly financial information.
ACCOUNTING PERIOD
Our fiscal year ends on the Sunday nearest to December 31. All reported
fiscal years contained 52 weeks. Fiscal 2003 will also contain 52 weeks. Our
2004 fiscal year will contain 53 weeks and end on January 2, 2005. As a result,
our 2004 fiscal year will benefit from one additional week of operations over
the other fiscal years and we will report upon it in our next annual report on
Form 10-K.
PRIMARY FACTORS CONSIDERED BY MANAGEMENT IN EVALUATING OPERATING PERFORMANCE
Our evaluation of the cash position and operating performance of Sbarro
focuses on a number of factors, all of which play a material role:
o Comparable Sbarro - owned quick service location sales;
o Franchise location sales and their relationship to our franchise
revenues;
o Decisions to continue to operate or close Sbarro-owned quick
service locations;
-20-
o The percentage relationship of the cost of food and paper
products and payroll and other benefit costs to our restaurant
sales;
o The level of other operating expenses and their relationship to
restaurant sales;
o General and administrative costs and its relationship to
revenues;
o The provision for asset impairment and restaurant closings; and
o EBITDA.
The following statistical information highlights the primary factors
covered by our management in evaluating our operating performance:
RELEVANT FINANCIAL INFORMATION
Fiscal Year
-----------
2003 2002 2001
---- ---- ----
(in millions except numbers of locations)
Comparable Sbarro - owned quick
service sales - (1) $287.7 $297.8 $301.9
Comparable Sbarro - owned quick
service sales - annual change(1) -3.4% -1.3% -1.0%
Number of Sbarro - owned quick
service locations closed and locations
sold to franchisees during year 34 57 43
Franchise location sales $221.5 $205.1 $197.9
Franchise revenues 10.5 10.1 10.1
Cost of food and paper products as a
percentage of restaurant sales 21.4% 19.6% 20.0%
Payroll and other benefits as a percentage
of restaurant sales 28.5% 27.9% 27.9%
Other operating expenses as a percentage
of restaurant sales 35.1% 33.3% 31.3%
General and administrative costs as a
percentage of revenues 7.7% 6.6% 7.6%
Provision for asset impairment and
restaurant closings $5.0 $9.2 $18.2
EBITDA 33.7 56.2 46.3
(1) Comparable Sbarro-owned quick service sales dollar and annual percentage
changes are based on locations that were comparable as of December 28, 2003 in
each of the years presented.
IMPACT OF INFLATION AND OTHER FACTORS
Food, labor, rent, construction and equipment costs are the items most
affected by inflation in the restaurant business. Although for the past several
years, inflation has not been a significant factor, there can be no assurance
that this trend will continue. In addition, food and paper product costs may be
temporarily or permanently affected by weather, economic and other factors
beyond our control that may reduce this availability and increase the cost of
these items. Historically, the price of cheese has fluctuated more than any of
our other food ingredients and related restaurant supplies.
-21-
FISCAL 2003 COMPARED TO FISCAL 2002
Restaurant sales by Sbarro-owned quick service units and consolidated
other concept units decreased 8.8% to $314.7 million for fiscal 2003 from $345.2
million for fiscal 2002. The decrease in sales for fiscal 2003 reflects $22.3
million (6.9%) of lower sales of Sbarro quick service units and $8.2 million
(35.6%) of lower sales of consolidated other concept units. Declines in
comparable location sales of $10.1 million (3.4% to $287.3 million) in fiscal
2003 from fiscal 2002 was the primary reason for the decline in quick service
restaurant sales. We believe that these declines were attributable to a
reduction in shopping mall traffic related to the general economic downturn in
the United States and, additionally with respect to the first fiscal quarter of
2003, the effects of the threatened and then actual military action in Iraq.
Comparable restaurant sales are made up of sales at locations that were open
during the entire current and prior fiscal years.
Since the beginning of fiscal 2002, we closed 74 (including 30 units
closed, net of openings during fiscal 2003) more units than we opened, causing
the remaining $12.3 million net reduction in Sbarro quick service unit sales in
fiscal 2003. The units closed since the beginning of fiscal 2002 were generally
low volume units that did not have a material impact on our results of
operations.
Of the decline in consolidated other concept unit sales, approximately
$0.7 million resulted from a 4.7% decrease in comparable unit sales to $14.7
million. We believe that these declines were attributable to the same factors
that affected Sbarro quick service locations. In addition, since the beginning
of fiscal 2002, eight (two in fiscal 2003) consolidated other concept units have
been closed, resulting in a net sales reduction of $7.5 million for fiscal 2003.
These units were either unprofitable or marginally profitable and were part of
ventures that we determined to discontinue.
Franchise related revenues rose by $0.8 million, or 7.9%, in fiscal
2003 over fiscal 2002. Excluding approximately $0.6 million of revenues in
fiscal 2003 related to area development agreements for the United Arab Emirates
and Korea that expired, franchise related income increased 2.0% to $10.3 million
in fiscal 2003 from $10.1 million in fiscal 2002. Initial royalties from
locations opened during fiscal 2003 and ongoing royalties earned from locations
opened in fiscal 2003 and during fiscal 2002 were offset, in part, by a 2.7%
reduction in comparable unit sales in fiscal 2003 from fiscal 2002 levels.
Approximately $0.7 million of the increase in real estate and other
revenues to $6.8 million in fiscal 2003 from $5.1 million in fiscal 2002 is for
rebates received from a vendor that applied to in fiscal 2002. However, during
2003, we received new information regarding those rebates and recorded such
amount in the fourth quarter of fiscal 2003. Increased usage of certain other
products that are subject to rebate accounts for the remainder of the 2003
increase from 2002 levels.
Cost of food and paper products as a percentage of restaurant sales
increased to 21.4% for fiscal 2003 from 19.6% for fiscal 2002. The cost of sales
percentage in fiscal 2003 was negatively impacted by the decrease in comparable
unit sales due to resulting operating inefficiencies In addition, without
changing the effect on the final product, we modified our pizza and pasta sauce
recipes to utilize ready made sauce instead of crushed tomatoes as the base raw
material to facilitate the consistency in product in each restaurant unit and
reduce labor needed to prepare our products. We estimate that this added
approximately 3/4 of 1 percentage point to our cost of food. The increase in
cheese prices that began at the end of the second quarter resulted in
significantly higher cheese costs in the third and fourth quarters of fiscal
2003 compared to the similar periods in fiscal 2002
-22-
causing a 7/10 of 1% increase in cost of sales for fiscal 2003. Cheese prices to
date in the first quarter of fiscal 2004 have increased substantially over
cheese prices during the early part of 2003 and are approximately $0.90 per
pound higher than the comparable time period in fiscal 2003. In early fiscal
2003, we replaced our then national independent wholesale distributor, which had
declared bankruptcy, with another national independent wholesale distributor.
There has not been a material impact on our cost of food and paper products
under this new distribution arrangement as the majority of the products used in
our restaurants are proprietary and we are involved in negotiating their cost to
the wholesaler. However, the cost of sales percentage was impacted by the cost
of purchases of product from third parties in the first quarter of fiscal 2003
until the new distribution contract was effective.
Payroll and other employee benefits decreased by $6.7 million but as a
percentage of restaurant sales, increased to 28.5% in fiscal 2003 from 27.9% of
restaurant sales in fiscal 2002. The dollar decrease was primarily due to fewer
units in operation while the percentage of sales increase was due to the
reduction in comparable unit sales and resulting operating inefficiencies.
Other operating expenses decreased by $4.4 million but increased to
35.1% of restaurant sales in fiscal 2003 from 33.3% in fiscal 2002. The lower
dollar level of other operating expenses resulted primarily from the fewer
number of units in operation. The increase as a percentage of restaurant sales
was primarily due to increases in 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 reduction in comparable unit sales In
addition, we are continuing to experience increases in our repair and
maintenance costs due to the number of years that the majority of our locations
have been operating and the effects of the long-term utilization on their
equipment.
Depreciation and amortization expense decreased by $1.0 million to
$19.7 million for fiscal 2003 from $20.7 million for fiscal 2002. The reduction
was due to fewer restaurants in operation in fiscal 2003 ($1.2 million), the
absence in 2003 of depreciation of $0.1 million related to locations that had
been included in the provision for asset impairment in fiscal 2002, as a result
of which, no depreciation was taken on these units in fiscal 2003, and for
depreciation of $0.3 million for locations that became fully depreciated during
fiscal 2002. These reductions were offset, in part, by depreciation of $0.2 for
our upgraded computer system and other capitalized hardware and software
expenditures made in 2003 and 2002 that were placed in service in fiscal 2003.
General and administrative expenses were $25.5 million, or 7.7% of
total revenues, for fiscal 2003, compared to $24.0 million, or 6.6% of total
revenues, for fiscal 2002. The principal factors contributing to the increase in
fiscal 2003 were $0.2 million of legal fees incurred in connection with a
lawsuit, a $0.2 million allowance for doubtful accounts receivable recorded with
respect to our franchisee in Spain that declared bankruptcy, a $0.2 million
allowance against the collectibility of amounts owed by our Israeli franchisee,
bonuses of $0.7 million that were granted to certain executive officers, $0.5
million of costs and expenses related to the hiring and employment of our new
President and Chief Executive Officer and higher quick-service field management
travel and related costs, offset by a reversal of approximately $0.3 million of
excess estimates for the ultimate cost of two lawsuits related to one of our
former joint venture locations. In early fiscal 2004, we implemented a reduction
in work force that we estimate will reduce our annual general and administrative
costs by approximately $3.1 million. In connection with the reduction in work
force, we will record severance and other related costs of approximately $0.7
million in the first quarter of fiscal 2004.
-23-
During fiscal 2003, we recorded a provision for asset impairment and
for restaurant closing charges of $6.1 million. Of the provision, $2.0 million
was for costs relating to restaurant closings, including $0.1 million relating
to our other concept locations, and $4.1 was for the impairment of property and
equipment, including $0.3 million relating to our other concept locations. The
charge for asset impairment resulted from our evaluation of impairment
indicators which determined that the carrying amount of certain store assets may
not be recoverable from the estimated undiscounted future cash flows resulting
from the use of those assets.
Under SFAS No. 142, commencing in fiscal 2002, we no longer amortize
goodwill and intangible assets with indefinite lives but instead review those
assets 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. The testing, as of the end of
fiscal 2003, of goodwill and intangible assets with indefinite lives
(trademarks) acquired prior to July 1, 2001 ($205.1 million, net of accumulated
amortization, at December 28, 2003) for impairment by an independent valuation
firm engaged to assist us in the determination of impairment, resulted in no
reduction to our carrying value of goodwill and intangible assets with
indefinite lives at December 28, 2003. The valuation firm used the
capitalization of earnings and the guideline company valuation methods in
determining the fair value of these assets.
Interest expense of $31.0 million for both fiscal 2003 and fiscal 2002
relates to the 11%, $255.0 million senior notes we issued to finance our going
private transaction in September 1999 ($28.1 million in both fiscal 2003 and
2002), the 8.4%, $16.0 million mortgage loan on our corporate headquarters in
2001 ($1.3 million in both periods) and fees for unused borrowing capacity under
our credit agreement terminated in the fourth quarter of fiscal 2003 ($0.1
million in both periods). In addition, $1.5 million in both fiscal 2003 and
fiscal 2002 represents 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, the terminated credit agreement (which included the $0.1
million balance of deferred financing costs related to this credit facility) and
the mortgage loan.
Interest income was approximately $0.7 million in fiscal 2003 and $0.5
million in fiscal 2002. Higher average cash available for investment in fiscal
2003 compared to fiscal 2002 was partially offset by the lower prevailing
interest rates in effect. The indenture under which our senior notes are issued
limits the types of investments which we may make.
Equity in the net income of unconsolidated affiliates represents our
proportionate share of earnings and losses in those other concepts in which we
have a 50% or less ownership interest. Our equity in the overall profits of
those concepts declined by $0.2 million in fiscal 2003 from fiscal 2002
resulting from our proportionate share ($0.5 million) of the losses from the
sale of our Vincent's Clam Bar location and one of the locations of our
steakhouse joint venture. These losses offset our equity in the operating net
income of unconsolidated affiliates of approximately $0.9 million in fiscal 2003
compared to $0.7 million for fiscal 2002. Currently, there are two steakhouse
joint venture locations that will open in the fourth quarter of fiscal 2004 but
we and our joint venture partners do not have any further expansion plans for
the venture, or the Baja Grill joint venture, at this time.
-24-
Minority interest represents the share of the minority holders'
interests in the earnings or loss of a 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 fiscal 2002.
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 beginning January 3, 2000. Under the provisions
of Subchapter S, substantially all taxes on our income are paid by our
shareholders rather than us. Our tax expense was $0.8 million and $0.3 million
for fiscal 2003 and fiscal 2002, respectively. The expense was for taxes owed by
us (rather than our shareholders) to jurisdictions that do not recognize S
corporation status or that tax entities based on factors other than income and
for taxes withheld at the source of payment on foreign franchise income related
payments.
FISCAL 2002 COMPARED TO FISCAL 2001:
Restaurant sales from Sbarro-owned quick service units and consolidated
other concept units decreased by $27.5 million, or 7.4%, to $345.2 million for
fiscal 2002 from $372.7 million in fiscal 2001. This was comprised of sales
decreases of $22.9 million in our quick service units and $4.6 million in
consolidated other concept units. Sales at both Sbarro quick service and our
consolidated other concept locations for fiscal 2002 have continued to be
adversely impacted by the reduction in shopping mall traffic related to the
general economic downturn in the United States and the continuing impact of the
events of September 11, 2001. During fiscal 2002, we closed or sold to
franchisees 44 more company-owned quick service units than we opened which
resulted in a net sales reduction of approximately $5.6 million. In addition,
quick service sales in fiscal 2002 compared to fiscal 2001 decreased by
approximately $3.2 million from the 34 locations that were closed during 2001
(including our high volume owned unit destroyed in the collapse of the World
Trade Center on September 11, 2001), net of locations opened. The units closed
since the beginning of fiscal 2001, with the exception of the World Trade Center
unit, were generally low volume units that did not have a material impact on our
profitability. Comparable Sbarro quick service unit sales decreased by $15.1
million, or 4.8%, to $299.5 million in fiscal 2002. The remainder of the sales
difference to 2001 is comprised of sales differences between 2002 and 2001 at
locations that were not open for a full year in either 2002 or 2001 due to their
being remodeled or relocated. In late March 2001 and mid June 2001, we
implemented price increases of 0.7% and 3.3%, respectively. Comparable
consolidated other concept sales decreased $1.2 million, or 8%, to $14.1 million
in fiscal 2002. In addition, during fiscal 2002, we closed 7 consolidated other
concept units that resulted in a reduction in sales of approximately $3.4
million from fiscal 2001.
Franchise related income was relatively unchanged for the fiscal year
ended December 29, 2002, excluding approximately $0.3 million related to the
termination of an area development agreement in Egypt recognized during fiscal
2001. Continuing royalty revenues from new locations opened in fiscal 2002 and
fiscal 2001 partially offset a reduction in royalty revenues from pre-existing
units caused by a reduction in comparable unit sales at both domestic and
international locations. This increase was offset, however, by a reduction in
income recognized from existing area development agreements in fiscal 2002
compared to fiscal 2001.
Real estate and other revenues decreased $0.6 million for the fiscal
year ended December 29, 2002 from fiscal 2001 primarily due to decreases in
certain vendor rebates resulting principally from
-25-
decreases in reported purchasing volumes caused by decreased sales.
Cost of food and paper products as a percentage of restaurant sales
decreased to 19.6% for fiscal 2002 from 20.0% in the 2001 fiscal year. The
improvement was primarily due to both 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 a $1.7 million
benefit in fiscal 2002 from lower average cheese prices that prevailed in fiscal
2001
Payroll and other benefits decreased approximately $7.5 million in
fiscal 2002 but remained at 27.9% of restaurant sales in both fiscal 2002 and
fiscal 2001. The dollar decrease was primarily due to the effect of steps taken
to reduce payroll costs beginning in late fiscal 2001 and the closing of
locations in fiscal 2002 and 2001. The decrease in the dollar amount of
expenditures for payroll and other benefits did not produce a change in these
costs as a percentage of sales due to the reduced level of sales in fiscal 2002.
Other operating expenses decreased by approximately $1.7 million but
increased to 33.3% of restaurant sales for fiscal 2002 from 31.3% for fiscal
2001. The dollar decline was due to fewer Sbarro and consolidated other concept
locations in operation during fiscal 2002. The percentage increase in fiscal
2002 was due to lower sales volume and the effects of higher rent and other
occupancy related expenses resulting from the renewal of existing leases at the
end of their terms at higher rental rates. 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, which, as discussed below in " -- Liquidity and Capital
Resources," has been a factor in reducing the amount of our capital
expenditures. In addition, as the average age of our locations increase, overall
repair and maintenance costs have been increasing. These aspects were offsetting
factors against dollar savings effected from the closing of low volume units.
Depreciation and amortization expense decreased by $9.7 million for
fiscal 2002 from fiscal 2001. As a result of the adoption of SFAS No. 142,
"Goodwill and Other Intangible Assets," in fiscal 2002, we no longer amortized
goodwill and intangible assets with indefinite lives. In fiscal 2001, our
earnings were charged $5.4 million for amortization of goodwill and intangible
assets with indefinite lives. In addition, there was a reduction of $2.3 million
in depreciation and amortization related to locations that closed in fiscal 2001
and fiscal 2002. The balance of the change in depreciation and amortization
expense in fiscal 2002 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 or 2001.
General and administrative expenses were $24.0 million, or 6.6% of
total revenues, for fiscal 2002 compared to $29.5 million, or 7.6% of total
revenues, for fiscal 2001. General and administrative costs for 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 fiscal 2002, we recorded a provision for asset impairment,
restaurant closings and other charges of $9.2 million. Of the provision, $8.7
million was for restaurant closings, including
-26-
$4.7 million for the closing or sale of 7 of our other concept restaurants, and
$0.5 million was for the impairment of property and equipment.
Interest expense of $31.0 million in both fiscal 2002 and 2001 relate
to the 11%, $255.0 million senior notes issued to finance our going private
transaction ($28.1 million), the 8.4%, $16.0 million mortgage loan on our
corporate headquarters ($1.3 million) and fees for the unused borrowing capacity
under our credit agreement ($0.1 million). In addition, interest expense
includes $1.5 million in each of 2002 and 2001, which represents 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, our then
credit agreement and the mortgage loan.
Interest income was approximately $0.5 million in fiscal 2002 and $0.8
million in fiscal 2001. Higher cash available for investment in fiscal 2002 than
in fiscal 2001 was offset by the lower prevailing interest rates in effect.
Equity in the net income of unconsolidated affiliates represents our
proportionate share of earnings and losses in those other concepts in which we
have a 50% or less ownership interest. The increase in our share of the equity
in the net income of unconsolidated affiliates of $0.4 million in fiscal 2002
over fiscal 2001 was primarily as a result of the improved performance of our
steakhouse joint venture.
Minority interest represents the share of the minority holders'
interests in the earnings or loss of a joint venture in which we have a majority
interest. In early fiscal 2002, we closed one of the two locations operated by
this joint venture. We recorded an insignificant charge to earnings in fiscal
2001 related to this closing.
In September 2002, we reached an agreement to settle, for $9.65
million, our claim against our insurance company for the reimbursement of the
depreciated cost of the assets destroyed at the Sbarro-owned World Trade Center
location, as well as for lost income under our business interruption insurance
coverage, resulting from the events of September 11, 2001. In September 2002, we
received the amount of the settlement, less an advance of $1.5 million that was
received in May 2002 against our claim for property damage at our World Trade
Center location. Approximately $7.2 million, net of related expenses, from the
settlement relates to reimbursement of lost income under our business
interruption insurance coverage and is included in our results of operations
fiscal 2002.
Our tax expense of $0.3 million for both fiscal 2002 and 2001
represents taxes owed to jurisdictions that do not recognize S corporation
status or that tax entities based on factors other than income and for taxes
withheld at the source of payment on foreign franchise related payments.
-27-
LIQUIDITY AND CAPITAL RESOURCES
CASH REQUIREMENTS
Our liquidity requirements relate to debt service, capital
expenditures, working capital, investments in other ventures, distributions to
shareholders when permitted under the indenture for the senior notes and to
repay any borrowings we may make under our new line of agreement and general
corporate purposes. We incur annual cash interest expense of approximately $29.5
million under the senior notes and mortgage loan and may incur additional
interest expense for borrowings under our new line of credit. We are not
required to make principal payments, absent the occurrence of certain events, on
our senior notes until they mature in September 2009. We believe that aggregate
restaurant capital expenditures and our investments in joint ventures during the
next twelve months will approximate the fiscal 2003 level of $8.5 million.
Unpaid capital expenditure commitments aggregated approximately $0.7 million at
December 28, 2003.
We expect our primary sources of liquidity to meet these needs will be
cash flow from operations. We do not presently expect to borrow under our new
line of credit in fiscal 2004.
CONTRACTUAL OBLIGATIONS
- -----------------------
Our contractual obligations with respect to both our and the other
concepts (both those in which we have a majority or minority interest) were as
follows as of December 28, 2003:
PAYMENTS DUE BY PERIOD
----------------------
LESS THAN MORE THAN 5
TOTAL 1 YEAR 1 - 3 YEARS 4 - 5 YEARS YEARS
----- ------ ----------- ----------- -----
(IN MILLIONS)
Long-Term Debt Obligations:
Senior notes (1) $255.0 $ - $ - $ - $255.0
Mortgage loan (2) 15.5 0.2 0.3 0.3 14.7
Credit line (3) - - - - -
Standby letters of credit (4) 2.7 - 0.1 0.1 2.5
Capitalized lease obligations - - - - -
Operating leases (5) 315.5 51.9 96.5 76.7 90.4
Purchase obligations (6) 1.9 1.9 - - -
------- ------- ------ ------ ------
Total $590.6 $ 54.0 $ 96.9 $ 77.1 $362.6
====== ======= ====== ====== ======
(1) There are no principal repayment obligations under the senior notes
until September 2009, when the entire principal balance becomes
payable.
(2) Payable in monthly installments of principal and interest of $0.1
million. Table includes only the principal portion of the installment
payments.
(3) Our new line of credit enables us to borrow, subject to bank approval,
up to $3.0 million, less outstanding letters of credit through May 31,
2005. There are currently no amounts outstanding under the new line of
credit. However, of the $2.7 million of letters of credit reflected in
the table above, $1.7 million reduces our availability under the line
of credit.
(4) Represents our maximum reimbursement obligations to the issuer of the
letter of credit in the event the letter of credit is drawn upon. The
letters of credit generally are issued instead of cash security
deposits under operating leases or to guarantee construction costs for
Sbarro or
-28-
other concept locations. Of the outstanding standby letters of credit,
approximately $0.1 million are for locations that have been subleased
to the buyers of two of our other concept locations. All the standby
letters of credit supporting leases are annually renewable through the
expiration of the related lease terms. If not renewed, the beneficiary
may draw upon the letter of credit as long as the underlying obligation
remains outstanding.
(5) Represents base rent under operating leases including those which we
either sublease to, or guarantee the obligations of, franchisees or
certain of our other concepts. Excludes real estate taxes, utilities,
insurance, common area charges and other expenses that are not fixed
and contingent rent obligations which vary with the level of net
restaurant sales. Also excludes leases that are under month-to-month
tenancies.
(6) Represents commitments for capital expenditures, including for the
construction of restaurants and the cost to provide email connectivity
to our restaurants, for which we are contractually committed. Excludes
potential purchases under our contractual arrangement with our national
independent wholesale distributor that commenced in February 2003 and
that requires us, for the next five years, subject to various causes
for termination, to purchase 95% of most all our food ingredients and
related restaurant supplies from them. The agreement does not, however,
require us to purchase any specific fixed or minimum quantities. Among
the factors that will effect the dollar amount of purchases we make
under the agreement are:
o Number of Sbarro locations open during the term of the contract;
o Level of sales made at Sbarro locations;
o Market price of mozzarella cheese and other commodity items;
o Price of diesel fuel; and
o Mix of products sold by Sbarro locations.
Historically, we have not purchased or entered into interest rate swaps
of future, forward, option or other instruments designed to hedge against
changes in interest rates, the price of commodities we purchase or the value of
foreign currencies.
SOURCES AND USES OF CASH
OPERATIONS
The following table summarizes our cash and cash equivalents and
working capital as at the end of our two latest fiscal years and the sources and
uses of our cash flows during those two fiscal years:
Fiscal Year Ended
-----------------
December 28, 2003 December 29, 2002
----------------- -----------------
(in millions)
------------
Liquidity
- ---------
Cash and cash equivalents $56.4 $55.2
Working capital 27.8 27.1
-29-
Fiscal Year Ended
-----------------
December 28, 2003 December 29, 2002
----------------- -----------------
Net cash flows
- --------------
Provided by operating activities 11.0 32.5
Used in investing activities (8.5) (11.0)
Used in financing activities (1.2) (3.3)
Net increase in cash 1.3 18.2
We have not historically required significant working capital to fund
our existing operations and have financed our capital expenditures and
investments in joint ventures through cash generated from operations.
Net cash provided by operating activities was $11.0 million for the
2003 fiscal year compared to $32.5 million for the 2002 fiscal year. This $21.5
million reduction was primarily due to the effect of the loss from operations,
as adjusted for non - cash items, in fiscal 2003 compared to the income from
operations, as similarly adjusted, in fiscal 2002 of approximately $24.5 million
and a lower, by $1.1 million, reduction in accounts receivable balances in
fiscal 2003 from fiscal 2002, offset by an increase in accounts payable and
accrued expenses of $3.0 million in fiscal 2003 that resulted from a significant
surge in operations toward the end of the fourth quarter.
Net cash used in investing activities has historically been primarily
for capital expenditures, including those made by our consolidated other
concepts. Net cash used in investing activities declined to $8.5 million in
fiscal 2003 from $11.0 million in fiscal 2002. Capital expenditures were
utilized for quick service new unit openings and renovation activity and for
expenditures for consolidated other concept locations. Investing activities also
include $1.0 million and $1.9 million in fiscal 2003 and 2002, respectively,
relating to an upgrade of our computer systems and other hardware and software.
Net cash used in financing activities was $1.3 million in the fiscal
year ended December 28, 2003 compared to $3.3 million for the fiscal year ended
December 29, 2002. Cash used in financing activities in both years resulted
primarily from tax distributions to shareholders. In March 2000, we 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 beginning January 3, 2000. Under the provisions of Subchapter S,
substantially all taxes on our income are paid by our shareholders. The
indenture for the senior notes permits us to make distributions to shareholders
under a formula that is designed to approximate the income taxes, including
estimated taxes, that would be payable by our shareholders if their only income
were their pro-rata share of our taxable income and such income were taxed at
the highest applicable federal and New York State marginal income tax rates.
There are differences in the book and tax treatments of the provision for asset
impairment, tax credits and in book and tax depreciation. The 46% tax rate is
higher than our historical effective tax rate prior to 2000 due to (a)
differences in tax rates between individual and corporate taxpayers, (b) the
timing differences previously accounted for as deferred taxes in our financial
statements (deferred taxes were eliminated upon our conversion to S corporation
status) and (c) the effect of double taxation (once on us for our taxable income
and once on our shareholders for dividends received from us) in those state and
local jurisdictions that do not recognize S corporation status. Tax
distributions with respect to our taxable income for fiscal 2002, 2001 and 2000
were
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$1.8 million, $3.1 million and $7.6 million, respectively. There was an
additional $0.7 million tax distribution with respect to our taxable income for
fiscal 2002 that was declared in November 2003. We do not expect to make tax
distributions in 2004 related to the 2003 results of operation.
FINANCING
As part of the going private transaction, we sold $255.0 million of 11%
senior notes (at a price of 98.514% of par to yield 11.25% per annum), the net
proceeds of which, together with substantially all of our then existing cash,
was used to finance the transaction, and entered into a $30.0 million credit
agreement that we terminated in the fourth quarter of 2003. Despite the
termination of the credit agreement, the bank agreed to temporarily continue the
standby letters of credit in effect at the time that we terminated such
agreement. In March 2004, we obtained a new line of credit through another bank
under which we currently have the ability, subject to bank approval, to borrow
up to $3 million, less outstanding letters of credit. The bank that granted the
new line of credit has replaced the $1.7 million letters of credit that were
outstanding under the prior credit agreement.
At March 5, 2004, we had $1.3 million of undrawn availability, subject
to bank approval, under the new line of credit. The new line of credit contains
no financial covenants or unused line fees. Interest applicable to the loans
under the new line of credit is at the bank's prime rate at the time of any
borrowings. The line expires in May 2005.
Under the indenture under which our senior notes are issued, 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 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 in the Indenture), 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. As of December 28, 2003, that ratio
was 1.26 to 1. As a result, we are not presently able to borrow funds except for
the specifically permitted indebtedness, such as up to $75.0 million of
revolving credit loans. In order to make restricted payments, that ratio must be
at least 2.0 to 1, after giving pro forma effect to the restricted payment and,
in any event, is limited in dollar amount pursuant to a formula contained in the
indenture and credit agreement. We refer to the amount that is available for us
to make dividends and other restricted payments as the "restricted payment
availability." We cannot make restricted payments (other than distributions
pursuant to the tax payment agreement) until we increase the restricted payment
availability by approximately $14.8 million, and then only to the extent of any
excess over that amount.
In March 2000, one of our restricted subsidiaries, as defined in the
indenture under which the senior notes are issued, obtained a $16.0 million,
8.4% loan due in 2010, secured by a mortgage on our corporate headquarters
building. The loan is payable in monthly installments of principal and interest
of $0.1 million. The outstanding principal balance of the loan as of December
28, 2003 was $15.5 million. The mortgage agreement contains various covenants,
including a requirement that the subsidiary maintain a minimum ratio of EBITDA
to annual debt service of at least 1.2 to 1.0.
-31-
We were in compliance with all covenants in the indenture for the
senior notes and our mortgage as of December 28, 2003.
OFF-BALANCE SHEET ARRANGEMENTS
We and our unconsolidated subsidiaries (those that are included in our
statement of operations under the caption "Equity in net income of
unconsolidated affiliates)" have contractual obligations that contingently
require payments under a line of credit, standby letters of credit and a
mortgage loan of our steakhouse joint venture and a bank loan of our quick
service Mexican-style restaurant joint venture. In addition, we have a
contractual obligation for the remainder of the original term of the operating
lease for the Vincent's Clam Bar location which was sold.
Our obligations under the guarantees for the line of credit, standby
letter and a mortgage loan of our steakhouse joint venture (our 40% interest in
the joint venture's results of operations is included in our equity in the net
income of unconsolidated affiliates in our statement of operations) are several
and, as a result, cover only 40% of those obligations, except for a $0.6 million
letter of credit that we guarantee in full. Our guarantees are used to
facilitate the continuing borrowing by the steakhouse joint venture and are in
place should the venture be unable to repay the amounts owed under the line of
credit and mortgage loan or should the standby letters of credit be drawn upon
and the venture not have funds available in the event of a drawing under a
letter of credit. For fiscal 2003, we included $0.6 million of our share of this
venture's net income, after our share of a loss of $0.3 million due to the
closing and sale of an unprofitable location, in our statement of operations and
received $0.1 million of distributions during the year. As of December 28, 2003,
the amount of our guarantees for this joint venture was approximately $5.6
million. Our guarantees, should the line of credit be fully utilized, would
increase to $8.2 million.
Our obligation under the bank loan to our quick service Mexican-style
restaurant joint venture (our 50% interest in the joint venture's results of
operations is included in our equity in the net income of unconsolidated
affiliates in our statement of operations) is joint and several with our
partner's guarantee and is therefore up to 100% the outstanding amount of the
loan. Our guarantee was established at the inception of the borrowing by the
venture to facilitate its borrowing and is required to be in place until the
loan is repaid. For fiscal 2003, this venture had a minimal loss, 50% of which
was included in our statement of operations. There were no distributions from
this joint venture during fiscal 2003. As of December 28, 2003, the amount
subject to our loan guarantee for this joint venture was $1.7 million.
In August 2003, we closed, sold the assets and transferred the lease,
subject to our remaining $0.2 million guarantee for the remainder of the
original lease term, of the Vincent's Clam Bar location. Our guarantee of the
lease would become operable if and when the buyer defaults under the lease for
the location. Our share of the loss on sales was included in the $0.2 million
loss that represents our 25% share of the results of the joint venture and is
included in our equity of unconsolidated affiliates in our statement of
operations.
-32-
RELATED PARTY TRANSACTIONS
- --------------------------
We have been the sole tenant of an administrative office building,
which is leased from Sbarro Enterprises, L.P. The rent paid by us for this
facility in fiscal 2003 was $0.3 million. We were advised by a real estate
broker at the time we renewed the lease for this facility that our rent is
comparable to the rent that would be charged by an unaffiliated third party. The
limited partners of Sbarro Enterprises, L.P. are Mario, Joseph, Anthony and
Carmela Sbarro. Our obligation for the remainder of the lease term, which is
scheduled to expire in 2011, will be terminated upon the sale of the building by
the partnership in April 2004.
On April 5, 2001, we loaned $3.23 million to certain of our
shareholders, including: Mario Sbarro, $1.08 million, Joseph Sbarro, $1.24
million and Anthony Sbarro, $0.87 million. The due dates of the related notes
were extended on April 6, 2003 to April 6, 2005, and bear interest at the rate
of 4.63%, payable annually. After a loan repayment in March 2004, the current
balance of these loans is $2.95 million.
On December 28, 2001, we loaned $2.8 million to our shareholders,
including: Mario Sbarro, $0.60 million, Joseph Sbarro, $0.70 million and,
Anthony Sbarro, $0.49 million, and the Trust of Carmela Sbarro, $0.99 million.
The related notes are payable on December 28, 2004, and bear interest at the
rate of 2.48%, payable annually. After a loan repayment in March 2004, the
current balance of these loans is $2.58 million.
In March 2004, we extended a loan of $40,000 to Gennaro A. Sbarro,
Corporate Vice President and President of our Franchising and Licensing
Division, to March 28, 2010. The note is repayable at approximately $5,000 per
year, including interest at 2.69% per annum, with a balloon payment due at the
maturity date.
Anthony Missano, Corporate Vice President and President of Business
Development , entered into a note dated June 15, 2003 in our favor in the amount
of $89,687, The note is repayable at approximately $10,000 per year, including
interest at 2.96% per annum, with a balloon payment due on June 30, 2010. The
note is for the payment of royalties due us for 2001 and 2000 from a former
franchisee that was owned by Mr. Missano's wife, the daughter of Joseph Sbarro.
The current balance owed on the notes is $84,687.
The interest rates charged on all the related party loans included
above approximate the Applicable Federal Rate (AFR) published by the Internal
Revenue Service at the time of the loan.
Companies owned by a son of Anthony Sbarro paid royalties to us under
franchise agreements containing terms similar to those in agreements entered
into by us with unrelated franchisees. Royalties paid under these agreements in
fiscal 2003 were $89,496. The related franchise agreement contains terms similar
to those in agreements entered into by us with unrelated franchisees.
A corporation whose shareholder is the brother-in-law of our Chairman
of the entered into a franchise agreement with us at the time of the acquisition
from us of the assets of a Sbarro owned restaurant in fiscal 2002 that contains
terms similar to those in agreements entered into by us with unrelated
franchisees. We received promissory notes for each of the purchase price and
initial franchise fee that are payable over seven years and bear interest on the
unpaid principal balances at
-33-
7% interest per annum. The current amount owed under the promissory notes of
$119,209 has been fully reserved as of December 28, 2003. In addition, we
subleased this location to that franchisee. Payments under the sublease are
being made directly to the landlord by the franchisee. Interest Payments
received relating to the promissory notes was $4,067 in fiscal 2003. Royalties
paid under this arrangement in fiscal 2003 were $3,303 but royalties of
approximately $17,700 were not included in the statement of operations as they
were not collected during the fiscal year. The royalties and interest Payments
noted above were collected in the beginning of fiscal 2003.
On March 3, 2003, a company in which Gennaro J. Sbarro, then our
Corporate Vice President and President of our Casual and Fine Dining Division
and the son of Joseph Sbarro, has a 50% interest (the other 50% is owned by an
unaffiliated third party) entered into a franchise agreement and a sublease with
us for a new location. The lease for the location had been entered into in
September 2002 by one of our subsidiaries. Subsequent to that date, we
determined that the economics of the location would be better suited for a
franchise operator and, as such, we entered into the franchise agreement and
subleased the premises to this franchisee. Payments under the sublease will be
made directly to the landlord by the franchisee. The franchise agreement is on
terms and conditions similar to those in other franchise arrangements we have
entered into in similar situations with unrelated third parties. The franchise
agreement provides for the payment of 5% of the location's sales as a continuing
royalty but does not provide for any initial franchise fee. Future minimum
rental payments under the lease for this location over the term of the lease,
which expires in 2018, aggregate approximately $2.4 million. Mr. Sbarro issued a
note in our favor for $54,538, that is repayable in eighteen equal monthly
installments of $3,030 which commenced in November 2002 with no interest, to
reimburse Sbarro for costs advanced by Sbarro in connection with the franchise
location. The balance on the note as of December 28, 2003 is $48,478. The
location is expected to open in the first quarter of fiscal 2004. As of October
31, 2003, Gennaro J. Sbarro resigned from his positions as Corporate Vice -
President and President of our Casual and Fine Dining division. A corporation
owned by Mr. Sbarro entered into an eighteen month agreement with us to provide
consulting services to our quick service and casual dining division for $22,500
per month and the reimbursement for customary and usual expenses that may be
incurred.
In October 2003, we sold the assets of three Sbarro-owned locations
separately to entities owned separately by each of three other of Anthony
Sbarro's sons. Two of the locations, which had no remaining book value, were
transferred for no consideration while the third was sold for $0.3 million, that
was paid in full, and resulted in a gain to Sbarro of approximately $0.1
million. Two of the locations were marginally profitable in fiscal 2002 while
the third had a small loss during that period. In connection with the sale of
the locations, the employment of the individuals with Sbarro was terminated and
we have included a charge for their total severance pay of approximately $60,000
in our results of operations for fiscal 2003. The franchise agreements are on
terms and conditions similar to those other franchise arrangements we have
entered into in similar situation with unrelated third parties. The agreements
provide for the payment of 5% of the location's sales as a continuing royalty
but does not provide for any initial franchise fee. Royalties of approximately
$16,400 have been included in the fiscal 2003 results of operations are unpaid
to date and fully reserved in the financial statements. In addition, we
subleased two of the locations to two of the franchisees. The third location is
on a month-to-month basis and any new lease entered into by the franchisee will
not be guaranteed or subleased by Sbarro. Payments under the subleases are being
made directly to the landlord by the franchisees. Future minimum rental payments
over the terms of the leases under the leases for the two locations being
subleased which expire in 2006 and 2016, aggregate approximately $2.0 million.
-34-
In January 2004, one of Mario Sbarro's daughters, resigned from her
position as Manager of Administration - Construction. A corporation owned by her
entered into a one year agreement to provide consulting services related to
construction matters to us for a series of monthly payments totaling $100,000.
We, our subsidiaries and our other concepts, in which we have an
interest, have purchased printing services from a corporation owned by a
son-in-law of Mario Sbarro for which they paid, in the aggregate, $340,269
during fiscal 2003. Based on our experience with non-affiliated printers that
provide similar services to us, we believe the services have been provided on
terms comparable to those available from unrelated third parties.
Bernard Zimmerman & Company, Inc., of which Bernard Zimmerman is
President and a majority shareholder, renders financial and consulting
assistance to us, for which it received fees of $315,200 for services during our
2003 fiscal year. Mr. Zimmerman is a member of Board of Directors. We have been
advised by Mr. Zimmerman that these fees were charged on a basis similar to
those that Bernard Zimmerman & Company, Inc. charges to unrelated clients.
In addition to the compensation of Mario, Anthony, Joseph, Gennaro A.
Sbarro and Anthony J. Missano:
o Carmela Sbarro, the mother of Mario, Anthony and Joseph Sbarro,
who was a co-founder of Sbarro and serves as Vice President and a
director, received $100,000 from us for services rendered during
fiscal 2003; and
o Carmela N. Merendino, a daughter of Mario Sbarro, who serves as
Vice President - Administration, earned $206,129 during fiscal
2003.
o Other members of the immediate families of Mario, Anthony, Joseph
and Carmela Sbarro who are our employees, earned an aggregate of
$621,751 during fiscal 2003.
RECENT ACCOUNTING PRONOUNCEMENTS
- --------------------------------
FIN 46, "Consolidation of Variable Interest Entities," was effective
immediately upon its issuance during fiscal 2003 for all enterprises with
variable interests in variable interest entities created after January 31, 2003.
In December 2003, the staff issued FIN No. 46(R) which changes the effective
date for interests in variable interest entities created before February 1, 2003
beginning with the first interim reporting period after March 15, 2004. If an
entity is determined to be a variable interest entity, it must be consolidated
by the enterprise that absorbs the majority of the entity's expected losses if
they occur, receives a majority of the entity's expected residual returns if
they occur, or both. Where it is reasonably possible that the enterprise will
consolidate or disclose information about a variable interest entity, the
enterprise must disclose the nature, purpose, size and activity of the variable
interest entity and the enterprise's maximum exposure to loss as a result of its
involvement with the variable interest entity in all financial statements issued
after January 31, 2003. The FASB has specifically exempted traditional franchise
arrangements from the evaluations required under FIN No. 46. We have also
reviewed our corporate relationships for possible coverage under FIN No. 46. The
application of FIN No. 46 did not have a material effect on our disclosures and
our financial position or results of operations. The required disclosures for
any variable interest entity have been included in our Form 10-K for the 2003
fiscal year.
-35-
CRITICAL ACCOUNTING POLICIES AND JUDGMENTS
- ------------------------------------------
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. Accounting policies often require us to make estimates and assumptions
that affect the amounts of assets, liabilities, revenues and expenses reported
in our financial statements. Due to their nature, estimates involve judgments
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. Accounting policies whose application may
have the most significant effect on our reported results of operations and
financial position and that require judgments, estimates and assumptions by
management that can affect their application and our results of operations and
financial position, are:
o SFAS No. 5, "Accounting for Contingencies." Pursuant to SFAS No. 5,
in the past we have made, and we intend in the future to make, decisions
regarding the accounting for legal matters based on the status of the matter and
our best estimate of the outcome (we expense defense costs as incurred). This
requires management to make judgments regarding the probability and estimated
amount of possible future contingent liabilities, especially, in our case, legal
matters. However, especially if a matter goes to a jury trial, our estimate
could be off since our estimates are based, in large part, on our experience in
settling matters. In our judgment, we believe that the estimate of approximately
$1.6 million for outstanding legal actions is adequate.
o SFAS No. 142, "Goodwill and Other Intangible Assets," requires us to
test annually and periodically assess whether there has been an impairment of
goodwill and intangible asset acquired prior to July 1, 2001 ($205.1 million,
net of accumulated amortization, at December 28, 2003). As discussed under " --
Results of Operations" above, the independent firm we engaged to assist us in
the determination of impairment, used the capitalization of earnings and the
guideline company valuation methods in determining the fair value of our
goodwill and intangible assets with indefinite lives concluded that there was no
impairment in the carrying value of these assets as of December 28, 2003.
However, future estimates could change and cause us to take an impairment charge
with respect to those assets. Further, after taking such a charge, should future
estimates determine that the fair value has risen, SFAS No. 142 does not allow
us to increase the then current value.
o SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets." SFAS No. 144 requires judgments regarding future operating
or disposition plans for marginally performing assets. The application of this
policy has affected the amount and timing of charges to operating results that
have been significant in recent years ($4.1 million, $0.4 million and $5.5
million in fiscal 2003, 2002 and 2001, respectively). We evaluate our long-lived
assets for impairment at the individual restaurant level on an annual basis, or
whenever events and circumstances indicate that the carrying amount of a
restaurant may not be recoverable, including our business judgment of when to
close underperforming units. These impairment evaluations require an estimation
of cash flows over the remaining life of the related restaurant lease, which is
generally up to 10 years. Our estimates are based on average cash flows from
recent operations of the restaurants and, unless specific circumstances about
the location warrant, do not include unsupportable sales growth and margin
improvement assumptions. Should the carrying amount not be deemed to be
-36-
recoverable, we write the assets down to their fair value. After the impairment
has been identified and the related asset written down, in accordance with SFAS
No. 144, the effect cannot be reversed. As a result, the result of evaluation is
not subject to future review and change
o SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities," which addresses accounting for restructuring and similar costs,
supersedes previous accounting guidance, principally EITF 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
changes the expense recognition for certain costs we incur while closing
restaurants or undertaking other exit or disposal activities. However, the
timing difference is not typically of significant length. We estimate that the
liability that will be recorded in the first quarter of fiscal 2004 related to
the total cost of the reduction in work force that has occurred during that
period of time is $0.7 million; however, the estimate is subject to review
throughout the payment of the costs recorded under SFAS No. 146.
o FIN No. 45, "Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others," elaborates
on the disclosures to be made by a guarantor in its financial statements
concerning its obligations under certain guarantees that it has issued. It also
clarifies (for guarantees issued after January 1, 2003), that a guarantor is
required to recognize, at the inception of a guarantee, a liability for the fair
value of the obligations undertaken in issuing the guarantee. We have guarantees
that would require recognition upon issuance or modification under the
provisions of FIN No. 45. The nature of our business will likely result in the
issuance of certain guarantees in the future and, as such, we will be required
to evaluate the fair value of the obligation at the inception of such guarantee.
We recognized a liability under FIN No. 45 of approximately $38,000 in fiscal
2003. The amount we may be required to recognize in future years may be higher
than this amount depending on the number and magnitude of guarantees we issue.
o FIN 46, "Consolidation of Variable Interest Entities," which
addresses interests in variable interest entities created before February 1,
2003 requires that, if an entity is determined to be a variable interest entity,
it must be consolidated by the enterprise that absorbs the majority of the
entity's expected losses if they occur, receives a majority of the entity's
expected residual returns if they occur, or both. Where it is reasonably
possible that the enterprise will consolidate or disclose information about a
variable interest entity, the enterprise must disclose the nature, purpose, size
and activity of the variable interest entity and the enterprise's maximum
exposure to loss as a result of its involvement with the variable interest
entity in all financial statements issued after January 31, 2003. FIN No. 46(R),
which changes the effective dates for the recording of variable interest
entities created before February 1, 2003, also specifically exempted traditional
franchise locations from the evaluations required under FIN No. 46An evaluation
of our business ventures, other than franchise arrangements, has been and must
continue to be undertaken for all new business ventures in order to evaluate
whether they are variable interest entities. To date, there have no been no
changes in our determinations relating to potential variable interest entities
and their effect on our financial condition and results of operations.
-37-
ITEM 7-A. 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 new 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 million 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 in the changes of the values of foreign currencies. As a result, we have
not purchased future contracts, options or other instruments to hedge against
changes in values of foreign currencies.
-38-
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ------- -------------------------------------------
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
--------------------------------------------------
Board of Directors
Sbarro, Inc.
Melville, New York
We have audited the accompanying consolidated balance sheets of Sbarro, Inc. and
subsidiaries as of December 28, 2003 and December 29, 2002, and the related
consolidated statements of operations, shareholders' equity and cash flows for
each of the years then ended. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audit. The Company's consolidated
financial statements for the year ended December 30, 2001, prior to the
adjustment discussed in Note 1, were audited by auditors who have ceased
operations. Those auditors expressed an unqualified opinion of those financial
statements in their report dated March 21, 2002.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provides a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Sbarro, Inc. and
subsidiaries as of December 28, 2003 and December 29, 2002 and the results of
their operations and their cash flows for the years then ended, in conformity
with accounting principles generally accepted in the United States.
As discussed in Note 1 to the consolidated financial statements, the Company
changed its method of accounting for goodwill and intangible assets upon the
adoption of SFAS No. 142 "Goodwill and Other Intangible Assets" in 2002.
As discussed above, the consolidated financial statements of Sbarro, Inc. and
subsidiaries for the year ended Decmeber 30, 2001, were audited by other
auditors who have ceased operations. As described in Note 1, these financial
statements have been revised to include the transitional disclosures required by
SFAS No. 142. We performed the following audit procedures with respect to the
disclosures in Note 1 with respect to 2001. We agreed the net loss as previously
-39-
reported and the adjustment to reported net loss representing amortization
expense recognized in that period related to goodwill and intangible assets that
are no longer being amortized, as a result of initially applying SFAS No. 142,
to the Company's underlying records obtained from management, and (ii) tested
the mathematical accuracy of the reconciliation of adjusted net loss to reported
net loss. In our opinion, the disclosures for 2001 in Note 1 are appropriate.
However, we were not engaged to audit, review, or apply any procedures to the
2001 financial statements of the Company other than with respect to such
disclosures and, accordingly, we do not express an opinion or any other form of
assurance on the 2001 consolidated financial statements taken as a whole.
/s/ BDO Seidman, LLP
New York, New York
March 5, 2004
-40-
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
The following report is a copy of a report previously issued by Arthur Andersen
LLP and has not been reissued by Arthur Andersen LLP. As discussed in the
Summary of Significant Accounting Policies note, the Company has reflected the
impact of adopting SFAS No. 142 on the 2001 consolidated financial statements
including the transitional disclosures required. The Arthur Andersen LLP report
does not extend to this change to the 2001 consolidated financial statements.
The adjustment to the 2001 consolidated financial statements were reported on by
BDO Seidman, LLP as stated in their report appearing herein.
To Sbarro, Inc.:
We have audited the accompanying consolidated balance sheets of Sbarro, Inc. (a
New York corporation) and subsidiaries as of December 30, 2001* and December 31,
2000*, and the related consolidated statements of operations, shareholders'
equity and cash flows for each of the three years in the period ended December
30, 2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Sbarro, Inc. and subsidiaries
as of December 30, 2001* and December 31, 2000*, and the results of their
operations and their cash flows for each of the three years in the period ended
December 30, 2001, in conformity with accounting principles generally accepted
in the United States.
/s/ Arthur Andersen LLP
New York, New York
March 21, 2002
This is a copy of the audit report previously issued by Arthur Andersen LLP in
connection with our filing on Form 10-K for the fiscal year ended December 30,
2001. This audit report has not been reissued by Arthur Andersen LLP in
connection with this filing on Form 10-K.
* The 2001 and 2000 consolidated balance sheets and the 2000 and 1999
consolidated statements of operations, shareholders' equity and cash flows are
not required to be presented in the 2003 annual report.
-41-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
DECEMBER 28, 2003 DECEMBER 29, 2002
----------------- -----------------
(IN THOUSANDS)
Current assets:
Cash and cash equivalents $56,409 $55,150
Restricted cash for untendered shares 21 21
Receivables, net of allowance for doubtful accounts of $488
in 2003 and $491 in 2002:
Franchise 1,700 2,059
Other 1,171 1,244
----- -----
2,871 3,303
Inventories 2,707 3,285
Prepaid expenses 3,844 2,362
Current portion of loans receivable from officers 2,810 3,232
----- -----
Total current assets 68,662 67,353
Property and equipment, net 96,604 115,081
Intangible assets:
Trademarks 195,916 195,916
Goodwill 9,204 9,204
Deferred financing costs and other, net 5,482 6,632
Loans receivable from officers, less current portion 3,347 2,800
Other assets 7,614 7,787
-------- --------
$386,829 $404,773
======== ========
See notes to consolidated financial statements.
-42-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
LIABILITIES AND SHAREHOLDERS' EQUITY
DECEMBER 28, 2003 DECEMBER 29, 2002
----------------- -----------------
(IN THOUSANDS EXCEPT SHARE DATA)
Current liabilities:
Amounts due for untendered shares $ 21 $ 21
Accounts payable 13,734 10,279
Accrued expenses 18,774 21,623
Accrued interest payable 8,181 8,181
Current portion of mortgage payable 168 154
-------- --------
Total current liabilities 40,878 40,258
-------- --------
Deferred rent 8,711 8,474
-------- --------
Long-term debt, net of original issue discount 268,152 267,941
-------- --------
Commitments and contingencies
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 December 28,
2003 and December 29, 2002 71 71
Additional paid-in capital 10 10
Retained earnings 69,007 88,019
-------- ---------
69,088 88,100
-------- --------
$386,829 $404,773
======== ========
See notes to consolidated financial statements.
-43-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE FISCAL YEARS ENDED
-------------------------------------------------------
DEC. 28, 2003 DEC. 29, 2002 DEC. 30, 2001
------------- ------------- -------------
(IN THOUSANDS)
Revenues:
Restaurant sales $314,708 $345,206 $372,673
Franchise related income 10,868 10,070 10,286
Real estate and other 6,748 5,104 5,756
--------- ---------- --------
Total revenues 332,324 360,380 388,715
--------- ---------- --------
Costs and expenses:
Restaurant operating expenses:
Cost of food and paper products 67,446 67,593 74,614
Payroll and other employee benefits 89,614 96,288 103,828
Other operating costs 110,453 114,892 116,581
Depreciation and amortization 19,712 20,683 30,375
General and administrative 25,451 23,960 29,472
Asset impairment, restaurant closings and other charges 6,073 9,196 18,224
--------- ---------- --------
Total costs and expenses 318,749 332,612 373,094
--------- ---------- --------
Operating income 13,575 27,768 15,621
--------- ---------- --------
Other (expense) income:
Interest expense (31,039) (30,959) (30,950)
Interest income 694 528 756
Equity in net income of
unconsolidated affiliates 425 668 310
Insurance recovery, net - 7,162 -
--------- ---------- --------
Net other expense (29,920) (22,601) (29,884)
--------- ---------- --------
(Loss) income before minority interest (16,345) 5,167 (14,263)
Minority interest (41) (52) (1)
--------- ---------- --------
(Loss) income before income taxes (16,386) 5,115 (14,264)
Income taxes 844 334 325
--------- ---------- --------
Net (loss) income $(17,230) $4,781 $(14,589)
========= ====== =========
See notes to consolidated financial statements.
-44-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
NUMBER OF SHARES ADDITIONAL RETAINED
OF COMMON STOCK AMOUNT PAID-IN CAPITAL EARNINGS TOTAL
---------------- ------ --------------- -------- -----
(IN THOUSANDS, EXCEPT SHARE DATA)
Balance at
January 1, 2001 7,064,328 $7l $10 $113,516 $113,597
Net loss - - - (14,589) (14,589)
Distributions to
shareholders - - - (12,564) (12,564)
--------- --------- --------- -------- --------
Balance at
December 30, 2001 7,064,328 71 10 86,363 86,444
Net income - - - 4,781 4,781
Distribution to
shareholders - - - (3,125) (3,125)
--------- --------- --------- -------- --------
Balance at
December 29, 2002 7,064,328 71 10 88,019 88,100
Net loss - - - (17,230) (17,230)
Distributions to
shareholders - - - (1,782) (1,782)
--------- --------- --------- -------- --------
Balance at
December 28, 2003 7,064,328 $71 $10 $69,007 $69,088
========= ========= ========= ======= ========
See notes to consolidated financial statements.
-45-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE FISCAL YEARS ENDED
----------------------------------------------------------
DECEMBER 28, DECEMBER 29, DECEMBER 30,
------------ ------------ ------------
2003 2002 2001
---- ---- ----
(IN THOUSANDS)
OPERATING ACTIVITIES:
Net (loss) income $(17,230) $4,781 $(14,589)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 21,249 22,137 31,830
Allowance for doubtful accounts receivable 435 350 61
Increase in deferred rent, net 242 212 969
Loss on sale of other concept units, net 50 - -
Asset impairment, restaurant closings and other
charges 6,073 7,922 17,352
Minority interest 41 52 1
Equity in net income of unconsolidated affiliates (425) (668) (310)
Dividends received from unconsolidated affiliates 119 311 244
Changes in operating assets and liabilities:
Decrease (increase) in receivables 191 1,308 (614)
Decrease (increase) in inventories 578 252 (36)
Increase in prepaid expenses (253) (1,121) (424)
Increase in other assets (366) (429) (1,135)
Increase (decrease) in accounts payable and accrued
expenses 330 (2,654) 1,463
-------- ------- -------
Net cash provided by operating activities 11,034 32,453 34,812
======== ------ ------
(continued)
-46-
SBARRO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
FOR THE FISCAL YEARS ENDED
DECEMBER 28, DECEMBER 29, DECEMBER 30,
------------ ------------ ------------
2003 2002 2001
---- ---- ----
(IN THOUSANDS)
INVESTING ACTIVITIES:
Purchases of property and equipment (8,521) (10,988) (22,528)
Proceeds from disposition of property and equipment
- - 75
------- -------- -------
Net cash used in investing activities (8,521) (10,988) (22,453)
------- -------- -------
FINANCING ACTIVITIES:
Mortgage principal repayments (154) (142) (130)
Purchase of minority interest in subsidiary - - (1,000)
Loans to shareholders - - (6,732)
Repayment of shareholder loans - - 2,700
Tax distributions (1,100) (3,125) (7,564)
Dividends - - (5,000)
------- -------- -------
Net cash used in financing activities (1,254) (3,267) (17,726)
------- ------- ---------
Increase (decrease) in cash and cash equivalents
1,259 18,198 (5,367)
Cash and cash equivalents at 55,150 36,952 42,319
------- -------- -------
beginning of year
Cash and cash equivalents at end of year $56,409 $55,150 $36,952
======= ======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for:
Income taxes $388 $796 $1,197
======= ======= =======
Interest $29,400 $29,498 $29,491
======= ======= =======
See notes to consolidated financial statements.
-47-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF FINANCIAL STATEMENT PRESENTATION:
The consolidated financial statements include the accounts of Sbarro,
Inc., its wholly owned subsidiaries and the accounts of its
majority-owned joint ventures (together, "we," "our," "us," or
"Sbarro"). All significant intercompany accounts and transactions have
been eliminated. Minority interest includes the interests held by our
partners in certain of our majority-owned joint ventures. The minority
interests at the end of fiscal 2003 and 2002 were not material.
ESTIMATES:
The preparation of our financial statements in conformity with
generally accepted accounting principles requires us to make estimates
and assumptions that may affect the amounts reported in the financial
statements and accompanying notes. Our actual results could differ from
those estimates.
CASH EQUIVALENTS:
All highly liquid debt instruments with a maturity of three months or
less at the time of purchase are considered to be cash equivalents.
INVENTORIES:
Inventories, consisting primarily of food, beverages and paper
supplies, are stated at cost, which is determined by the first-in,
first-out method.
PROPERTY AND EQUIPMENT:
Property and equipment are stated at cost. Depreciation is provided
using the straight-line method over the following estimated useful
lives: leasehold improvements - the lesser of the useful lives of the
assets or lease terms, including option periods, if expected to be
utilized, and furniture, fixtures and equipment - three to ten years.
INTANGIBLE ASSETS:
Intangible assets consist of our trademarks, goodwill and deferred
financing costs. Trademark values, as well as goodwill, were determined
based on a fair value allocation of the purchase price from our going
private transaction (see Note 2).
-48-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Deferred financing costs were incurred as a result of the going private
transaction (see Note 2) and the mortgage on the corporate headquarters
building (see Note 9) and are being amortized as additional interest
expense over the respective remaining lives of the related debt
instruments which range from 1 1/2 years to 6 years.
TRADEMARKS AND GOODWILL:
Effective July 1, 2001, we adopted certain provisions of Financial
Accounting Standards Board ("FASB") Statement of Financial Accounting
Standards ("SFAS") No. 141, "Business Combinations," and effective
January 1, 2002, we adopted the full provisions of SFAS No. 141 and
SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141
requires business combinations initiated after June 30, 2001 to be
accounted for using the purchase method of accounting and broadens the
criteria for recording intangible assets apart from goodwill. SFAS No
142 requires that purchased goodwill and certain indefinite-lived
intangibles no longer be amortized, but instead be tested for
impairment at least annually. As a result of adopting SFAS No. 142, we
ceased the amortization of trademarks and goodwill beginning January 1,
2002. Prior to the adoption of SFAS No. 142, we amortized our
trademarks and goodwill on a straight-line basis over 40 years.
Supplemental comparative disclosure, as if the change had been
retroactively applied, is as follows:
Dec. 28, 2003 Dec. 29, 2002 Dec. 30, 2001
------------- ------------- -------------
(in thousands)
Reported net (loss) income $(17,230) $4,781 $(14,589)
Add back: Amortization of
goodwill and intangible assets
with indefinite lives - - 5,433
--------- ------ --------
Adjusted net (loss) income $(17,230) $4,781 $(9,156)
========= ====== ========
There were no changes in the carrying amount of the trademarks or
goodwill for the years ended December 28, 2003 and December 29, 2002
and December 30, 2001. SFAS No. 142 prescribes a two-step process for
impairment testing of goodwill. The first step of this test, used to
identify impairment, compares the fair value of a reporting unit,
including goodwill, with its carrying amount. The second step (if
necessary) measures the amount of the impairment. Using the guidance in
SFAS No. 142, we have determined that Sbarro as a whole is the
reporting unit for purposes of evaluating goodwill for impairment. Our
annual impairment test indicated that the fair value of the reporting
unit exceeded the reporting unit's carrying amount. Accordingly, the
second step of the goodwill impairment test was not necessary. We
performed a separate impairment test on our trademarks based on the
discounted cash flows method. The fair value of the trademarks exceeded
the carrying value.
-49-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
LONG-LIVED ASSETS:
In August 2001, the FASB 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." SFAS No.
144 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
and has not had a material impact on our financial position or
operating results. Long-lived assets are evaluated for impairment when
events or changes in circumstances indicate that the carrying amount of
the assets may not be recoverable through the estimated undiscounted
future cash flows resulting from the use of these assets. When any such
impairment exists, the related assets will be written down to their
fair value.
EXIT OR DISPOSAL ACTIVITIES:
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, "Liability for Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring)". 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 for an exit plan. SFAS No. 146 also establishes that the
liability should initially be measured and recorded at fair value. SFAS
No. 146 changes the timing of expense recognition for certain costs we
incur while closing restaurants or undertaking other exit or disposal
activities. However, the timing difference is not typically of
significant length. The adoption of the
-50-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
provisions of SFAS No. 146 for restructuring activities initiated after
December 29, 2002 did not have a material impact on our financial
position or operating results for fiscal 2003.
GUARANTOR'S ACCOUNTING AND DISCLOSURE REQUIREMENTS FOR GUARANTEES:
In November 2002, the FASB issued FASB Interpretation ("FIN") FIN No.
45, "Guarantor's Accounting and Disclosure Requirements for Guarantees
including Indirect Guarantees of Indebtedness of Others" which
addresses the accounting for and disclosure by guarantors regarding
obligations relating to the issuance of certain guarantees. FIN No. 45
requires that, at the inception of a guarantee for all guarantees
issued or modified after December 31, 2002, a liability for the fair
value of the obligation undertaken be recorded. No revision of, or
restatement of accounting for guarantees issued or modified prior to
December 31, 2002 is allowed. The disclosure requirements of FIN No. 45
are effective with our 2002 financial statements. As described in Note
10, we provide certain guarantees that would require recognition upon
modification under the provisions of FIN No. 45. There are certain
arangements that were entered into during 2003 with respect to
guarantees for franchised locations. In accordance with FIN No. 45, the
fair value of these guarantees of $38,000 has been recorded during
fiscal 2003 While the nature of our business will likely result in the
issuance of certain guarantees in the future, we do not anticipate that
FIN No. 45 will have a material impact on our financial position or
operating results.
VARIABLE INTEREST ENTITIES:
FIN No. 46, "Consolidation of Variable Interest Entities," was
effective immediately upon its issuance during fiscal 2003 for all
enterprises with interests in variable interest entities created after
January 31, 2003. In December 2003, FASB issued FIN No. 46 (R) which
changes the effective dates for the recording of interests in variable
interest entities created before February 1, 2003 beginning with the
first interim reporting period ending after March 15, 2004. If an
entity is determined to be a variable interest entity, it must be
consolidated by the enterprise that absorbs the majority of the
entity's expected losses if they occur, or receives a majority of the
entity's expected residual returns if they occur, or both. Where it is
reasonably possible that the enterprise will consolidate or disclose
information about a variable interest entity, the enterprise must
disclose the nature, purpose, size and activity of the variable
interest entity and the enterprise's maximum exposure to loss as a
result of its involvement with the variable interest entity in all
financial statements issued after January 31, 2003. The FASB has
specifically exempted traditional franchise arrangements from the
evaluations required under FIN No. 46. We have also reviewed our
corporate relationships for possible coverage under FIN No. 46. The
application of FIN No. 46 did not have a material effect on our
disclosures and our financial position or operating results. We have
several variable entities, which require certain disclosure. However,
we are not the primary beneficiary and therefore do not need to
consolidate these entities.
-51-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
ACCOUNTING FOR VENDOR REBATES:
In November 2002, the EITF reached a consensus on Issue No. 02-16
"Accounting by a Customer (Including a Reseller) for Certain
Consideration Received from a Vendor," addressing the accounting for
cash consideration received by a customer from a vendor including
vendor rebates and refunds. The consensus reached states that
consideration received should be presumed to be a reduction of the
prices of the vendor's products or services and should therefore be
shown as a reduction of cost of sales in the statement of operations of
the customer. The presumption could be overcome if the vendor receives
an identifiable benefit in exchange for the consideration or the
consideration represents a reimbursement of a specific incremental
identifiable cost incurred by the customer in selling the vendor's
product or service. If one of those conditions is met, the cash
consideration should be characterized as revenues or a reduction of
such costs as applicable, in the statement of operations of the
customer. The consensus reached also concludes that rebates or refunds
based on the customer achieving a specified level of purchases should
be recognized as a reduction of cost of sales based on a systematic and
rational allocation of the consideration to be received relative to the
transactions that mark the progress of the customer toward earning the
rebate or refund provided the amounts are probable and reasonably
estimable. This standard is effective for arrangements entered into
after December 31, 2002.
Our current accounting policy, which conforms to the provisions of EITF
No. 02-16, is to account for vendor rebates related to the usage of the
products for which rebates are received in company-owned Sbarro
locations as a reduction of the cost of food and paper products. The
rebates are recognized as earned based on our usage of the related
products. We also receive consideration from manufacturers for the
usage of the same raw materials by our franchisees. Those rebate
amounts are included in "real estate and other" in our statements of
operations.
EQUITY INVESTMENTS:
We account for our investments in 50% or less owned joint ventures
under the equity method of accounting. The equity in the net income
(loss) of these unconsolidated affiliates are included in "equity in
net income of unconsolidated affiliates" in our statements of
operations and the related assets are included in "other assets" in the
accompanying balance sheets.
-52-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FRANCHISE RELATED INCOME AND ALLOWANCE FOR DOUBTFUL ACCOUNTS:
Initial franchise fees are recorded as income as restaurants are opened
by the franchisee and we have performed substantially all required
services. Development fees are recognized over the number of restaurant
openings covered under each development agreement, with any remaining
balance recognized at the end of the term of the agreement. Royalty and
other fees from franchisees are accrued as earned.
We monitor the financial condition of our franchisees and record
provisions for estimated losses on receivables when we believe that our
franchisees are unable to make their required payments. While we use
the best information available in making our determination, the
ultimate recovery of recorded receivables is also dependent upon future
economic events and other conditions that may be beyond our control.
Included in general and administrative expenses are provisions for
uncollectible franchise receivables of $0.4 million, $0.3 million and
$0.1 million in 2003, 2002 and 2001, respectively.
DEFERRED RENT:
The majority of our lease agreements provide for scheduled rent
increases during the lease term. Provision has been made for the excess
of operating lease rental expense over cash rentals paid, computed on a
straight-line basis over the lease terms.
INCOME TAXES:
We are taxed under the provisions of Subchapter S of the Internal
Revenue Code of 1986, and, where applicable and permitted, under
similar state and local income tax provisions. Therefore, we do not pay
federal or, with certain limited exceptions, state and local income
taxes for periods for which we are treated as an S corporation. Rather,
our shareholders include their pro-rata share of our taxable income on
their individual income tax returns and thus are required to pay taxes
on their respective share of our taxable income, whether or not it is
distributed to them. We file a consolidated federal income tax return
for informational purposes.
Minority interest includes no provision or liability for income taxes
as any tax liability related to their interest is the responsibility of
the minority partners.
ACCOUNTING PERIOD:
Our fiscal year ends on the Sunday nearest to December 31. All reported
fiscal years contained 52 weeks.
-53-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS:
The carrying amounts of cash, receivables, accounts payable and accrued
liabilities approximate fair value because of the short-term nature of
these items. The estimated fair value of our senior notes at December
28, 2003 was approximately $202.7 million. The carrying amount of the
mortgage loan approximates fair value because the interest rate this
instrument bears is reasonably equivalent to the current rates offered
for debt of a similar nature and maturity.
DEFINED CONTRIBUTION PLAN:
We have a 401(k) Plan ("Plan") for all qualified employees. The Plan
provides for a 25% matching employer contribution of up to 4% of the
employees' deferred savings (maximum contribution of 1% of an
employee's deferred savings). The employer contributions vest over five
years. The employee's deferred savings cannot exceed 15% of an
individual participant's compensation in any calendar year. Our
contribution to the Plan was $105,000, $36,000 and $137,000 in fiscal
2003, 2002 and 2001, respectively. The contribution was lower in fiscal
2002 as our matching contribution was suspended for the first half of
the year.
RECLASSIFICATIONS:
Certain items in the financial statements presented have been
reclassified to conform to the fiscal 2003 presentation.
2. GOING PRIVATE TRANSACTION:
On September 28, 1999, members of the Sbarro family (who prior thereto
owned approximately 34.4% of our common stock) became the holders of
100% of our issued and outstanding common stock as a result of a "going
private" merger. (Note 9)
During the second quarter of fiscal 2001, the funds remaining for
untendered shares that had been held by a third party paying agent were
returned to us. We will hold such funds until the related shares are
tendered or escheated to the appropriate jurisdiction. At December 28,
2003, there was $21,000 being held by us for such untendered shares
that is shown as restricted cash and amounts due for untendered shares
in the consolidated balance sheet.
In accordance with EITF Issue No. 88-16, "Basis in Leveraged Buyout
Transactions," the acquisition of all the outstanding shares of common
stock not owned by the Sbarro family and all outstanding stock options
was accounted for under the purchase method of accounting. As a result,
the remaining shares of common stock owned by the Sbarro family are
presented in shareholders' equity at their original basis in the
accompanying consolidated balance sheet.
-54-
During fiscal 2000, we finalized an allocation of the purchase price
from the going private transaction based on an evaluation of Sbarro at
September 29, 1999 which increased property and equipment and
intangible assets by $7.0 million and $216.0 million, respectively. In
accordance with SFAS No. 142, we have not, since fiscal 2001, amortized
any of the intangible assets with indefinite lives.
3. DESCRIPTION OF BUSINESS:
We and our franchisees develop and operate family oriented
cafeteria-style Italian restaurants principally under the "Sbarro" and
"Sbarro The Italian Eatery" names. The restaurants are located
throughout the world, principally in shopping malls and other high
traffic locations.
Since 1995, we have developed and established other restaurant concepts
in seeking to provide growth opportunities that leverage our restaurant
management and financial expertise.
We operate all of these restaurants as one segment.
The following sets forth the number of Sbarro restaurants in operation
as of:
DECEMBER 28, DECEMBER 29, DECEMBER 30,
2003 2002 2001
---- ---- ----
Sbarro-owned (a) 528 558 602
Franchised 387 353 325
--- --- ---
915 911 927
=== === ===
(a) Excludes 29, 32 and 37 other concept units as of the end of
the respective fiscal years.
4. 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 substantial sales revenues and
operating income, the effect on our consolidated results for fiscal
2001 was not material to our consolidated results as a whole. The
franchise location did not generate significant royalty revenues. In
addition, a number of airports were temporarily closed due to the
events of September 11 causing airport Sbarro-owned and franchise units
to close for periods of time. Due to the continuing effect of the
events of September 11 compounded by the effect of the economic
slowdown in the United States, those airport locations and a number of
downtown locations continued to experience a period of reduced sales
throughout fiscal 2003.
-55-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In September 2002, we reached an agreement to settle, for $9.65
million, our claim with our insurance company for the reimbursement of
the depreciated cost of the assets destroyed at the Sbarro-owned
location, as well as for lost income under our business interruption
insurance coverage. The proceeds of the settlement were received in
September 2002. Approximately $7.2 million, net of related expenses, of
the settlement relates to reimbursement of lost income under our
business interruption insurance coverage and is included in our results
of operations for fiscal 2002.
5. PROPERTY AND EQUIPMENT, NET:
DECEMBER 28, DECEMBER 29,
2003 (a) 2002 (b)
-------- --------
(IN THOUSANDS)
Land $3,781 $ 3,781
Leasehold improvements 141,538 155,359
Furniture, fixtures and equipment 65,594 71,757
------- -------
210,913 230,897
Less accumulated depreciation and 114,309 115,816
------- -------
amortization (c)
$96,604 $115,081
======= ========
(a) During 2003, we recorded a charge of $4.1 million, of which
$0.4 million was for our other concepts, relating to
impairment losses on property and equipment. In addition, we
recorded a provision for restaurant closings of approximately
$2.0 million in connection with the closing of 35 Sbarro
locations ($1.9 million) and 2 other concept locations ($0.1
million) during fiscal 2003.
(b) During 2002, we recorded a charge of $0.5 million relating to
impairment losses on property and equipment, of which $0.2
million was for other concept locations. In addition, we
recorded a provision for restaurant closings of approximately
$8.7 million in connection with the closing of 57 Sbarro
locations ($4.0 million) and 7 other concept locations ($4.7
million) during fiscal 2002.
(c) Depreciation and amortization of property and equipment was
$19.7 million, $20.7 million and $24.9 million in fiscal 2003,
2002 and 2001, respectively.
-56-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. ACQUIRED INTANGIBLE ASSETS AND GOODWILL:
DECEMBER 28, DECEMBER 29,
2003 2002
---- ----
(IN THOUSANDS)
Trademarks $195,916 $195,916
======== ========
Goodwill 9,204 9,204
======== ========
Deferred financing costs 9,573 10,129
Less accumulated amortization 4,091 3,497
------- -------
$ 5,482 $ 6,632
======== ========
Amortization expense of the acquired intangible assets for each of the
2003, 2002 and 2001 fiscal years was as follows:
FOR THE FISCAL YEARS ENDED
--------------------------------------------------------------
DECEMBER 28, DECEMBER 29, DECEMBER 30,
2003 2002 2001
---- ---- ----
(IN THOUSANDS)
Trademarks (a) $ - $ - $5,189
Goodwill (a) - - 244
Deferred financing costs (b) 1,148 1,074 1,074
----- ----- -----
$1,148 $1,074 $6,507
====== ====== ======
(a) Under SFAS No. 142, as of December 31, 2001, trademarks and goodwill
are no longer amortized.
(b) Amortization of deferred financing costs includes $0.1 million for the
write-off of the remaining unamortized deferred financing costs of the
related to our former bank credit agreement upon the termination of the
credit agreement.
(c) Amortization of deferred financing costs for the next five years will
be as follows:
FISCAL YEARS ENDING (IN THOUSANDS):
-----------------------------------
January 2, 2005 $962
January 1, 2006 962
December 31, 2006 962
December 30, 2007 962
December 28, 2008 962
Later year 672
------
$5,482
======
-57-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. ACCRUED EXPENSES:
DECEMBER 28, DECEMBER 29,
2003 2002
---- ----
(IN THOUSANDS)
Compensation $5,112 $5,502
Payroll and sales taxes 2,695 3,047
Rent and related cost 1,725 1,896
Provision for restaurant closings
(Notes 5 and 12) 987 1,452
Other 8,255 9,726
----- -----
$18,774 $21,623
======= =======
8. INCOME TAXES:
We are 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. Therefore, we do not pay federal or,
with certain limited exceptions, state and local income taxes for
periods for which we are treated as an S corporation. Rather, our
shareholders include their pro-rata share of our taxable income on
their individual income tax returns and thus are required to pay taxes
on their respective share of our taxable income, whether or not it is
distributed to them.
In connection with the going private transaction and the related
financing, we entered into a tax payment agreement with our
shareholders. The tax payment agreement permits us to make periodic tax
distributions to our shareholders in amounts determined under a formula
designed to approximate the income taxes, including estimated taxes,
that would be payable by our shareholders 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. We may only make the tax distributions with respect to periods
in which we are treated as an S corporation for income tax purposes. We
made distributions to our shareholders, in accordance with the tax
payment agreement, of $1.8 million with respect to our fiscal 2002 and
$3.1 million with respect to our fiscal 2001 earnings. Our shareholders
are expected to have a tax loss that is significantly lower than our
book loss in fiscal 2003 and had taxable income that was significantly
higher than our book income in fiscal 2002 resulting from differences
in the book and tax treatments of the provision for asset impairment
and significant differences in book and tax depreciation. We estimate
that no distributions will be made in 2004 related to our fiscal 2003
results of operations.
-58-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The provision for income taxes is comprised of taxes payable directly
by us to jurisdictions that do not recognize S corporation status or
that tax entities based on factors other than income and for taxes
withheld at the source of payment on foreign franchise income related
payments as follows:
FOR THE FISCAL YEARS ENDED
DECEMBER 28, DECEMBER 29, DECEMBER 30,
2003 2002 2001
---- ---- ----
(IN THOUSANDS)
Federal:
Current $ - $ - $ -
Deferred - - -
- - -
---- ---- ----
- - -
---- ---- ----
State and local:
Current 500 17 90
Deferred - - -
---- ---- ----
500 17 90
Foreign 344 317 235
---- ---- ----
$844 $334 $325
==== ==== ====
9. LONG-TERM DEBT:
INDENTURE:
The going private transaction (Note 2) was partially funded by the
placement of $255.0 million of 11.0% senior notes due September 15,
2009.
Interest on the senior notes is payable semi-annually on March 15 and
September 15 of each year. Our payment obligations under the senior
notes are jointly, severally, unconditionally and irrevocably
guaranteed by all of Sbarro's current Restricted Subsidiaries (as
defined in the indenture) and is to be similarly guaranteed by our
future Restricted Subsidiaries. The senior notes and the subsidiary
guarantees are senior unsecured obligations of Sbarro and the
guaranteeing subsidiaries, respectively, ranking pari passu in right of
payment to all of our and their respective present and future senior
debt, including amounts outstanding under the bank line of credit
agreement discussed below. The indenture permits redemption of the
senior notes at our option at varying redemption prices and requires us
to offer to purchase senior notes in the event of a Change of Control
and in connection with certain Asset Sales (each as defined). The
indenture contains various covenants, including, but not limited to,
restrictions on the payment of dividends, stock repurchases, certain
investments and other restricted payments, the incurrence of
indebtedness and liens on our assets, affiliate transactions, asset
sales and mergers by us and the guaranteeing subsidiaries. We were in
compliance with the various covenants contained in the indenture as of
December 28, 2003.
-59-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The discount at which the senior notes were issued, an aggregate of
approximately $3.8 million, is being accreted to the senior notes on a
straight-line basis over the original ten year life of the senior
notes. Accretion of the discount was $0.3 million in each of fiscal
2003, 2002 and 2001.
CREDIT AGREEMENT:
During March 2004, we entered into a new line of credit arrangement
that enables us to borrow, subject to bank approval, $3.0 million
through May 2005, subject to reduction for standby letters of credit
issued by the bank ($1.7 million at March 5, 2004). Interest applicable
to loans under the new line of credit are to be at the bank's prime
rate at the time of any borrowings. There are no unused line fees to be
paid or covenants to be met under the new line of credit. Each of our
current guaranteeing subsidiaries (the same entities as the Restricted
Subsidiaries under the Indenture) have agreed to, and the future
guaranteeing subsidiaries are to, unconditionally and irrevocably
guarantee our obligations under the new line of credit on a joint and
several basis.
During 2003 we terminated our bank credit agreement (the "credit
agreement") which provided us with an unsecured senior revolving credit
facility that enabled us to borrow, on a revolving basis from time to
time during its five-year term, up to $30.0 million, including a $10.0
million sublimit for standby letters of credit. No amounts had been
borrowed under the credit facility although there were $1.7 million of
letters of credit outstanding under the credit agreement as of December
28, 2003. The bank continued the letters of credit until they were
replaced by the bank with which we have our new line of credit.
MORTGAGE:
In March 2000, one of our Restricted Subsidiaries obtained a $16.0
million, 8.4% loan due in 2010, secured by a mortgage on our corporate
headquarters building. The loan is payable in monthly installments of
principal and interest of $0.1 million. The outstanding principal
balance as of December 28, 2003 was $15.5 million. The mortgage
agreement contains various covenants, including a requirement that the
subsidiary maintain a minimum ratio of EBITDA to annual and quarterly
debt service of at least 1.2 to 1.0. The subsidiary was in compliance
with the various covenants contained in the mortgage agreement as of
December 28, 2003.
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MATURITIES OF LONG-TERM DEBT:
Scheduled maturities of long-term debt are as follows (in thousands):
FISCAL YEAR ENDING:
-------------------
January 2, 2005 $168
January 1, 2006 182
December 31, 2006 197
December 30, 2007 215
December 28, 2008 235
Later years 269,495
-------
270,492
Less:
Current maturities (168)
Unaccreted original issue discount (2,172)
-------
$268,152
10. COMMITMENTS AND CONTINGENCIES:
EMPLOYMENT AGREEMENT:
On September 8, 2003, we entered into an employment agreement with
Michael O'Donnell, our current President and Chief Executive Officer,
for a term ending on December 31, 2006, subject to earlier termination
by us or Mr. O'Donnell following specified notice. The agreement
provides, among other things, for an annual salary of $450,000; subject
to increase at the discretion of our board of directors, an annual
performance bonus beginning in 2004 to be based upon the achievement of
increases in EBITDA as defined and other objectives to be set forth in
business plans and budgets approved from time to time by our board,
which bonus, for the year ending December 31, 2004, will not be less
than $112,500; $1,000,000 of life insurance; the reimbursement of Mr.
O'Donnell for certain relocation, travel and housing expenses incurred;
and a special incentive award. The special incentive award is designed
to reward Mr. O'Donnell for improvements in our adjusted EBITDA, cash
position and long term debt position over the term of the agreement,
vests upon termination of Mr. O'Donnell's employment, is reduced in the
event of early termination of employment and, when earned, is payable,
with interest, in twelve equal quarterly installments. Alternatively,
in the event of a public offering of our common stock, a change in
control of Sbarro, including by merger, sale of stock or sale of
assets, or a liquidation or dissolution of Sbarro, the special
incentive award will be based on the per share proceeds received by our
shareholders in excess of a threshold amount. The agreement also
provides for severance pay in the event of early termination by us
without "cause" (as defined) or by Mr. O'Donnell for "good reason" (as
defined). Since the ultimate amount of the special incentive award is
not known until termination of the agreement, the special incentive
award is subject to variable plan accounting. There will be no charge
to our earnings until our EBITDA, cash position and/or
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
long-term debt position improves or a special event occurs. No
compensation expense relating to the special incentive award was
recorded in fiscal 2003.
LEASES:
All of our restaurants are in leased facilities. Most of our restaurant
leases provide for the payment of base rents plus real estate taxes,
utilities, insurance, common area charges and certain other expenses,
as well as contingent rents generally ranging from 8% to 10% of net
restaurant sales in excess of stipulated amounts.
Rental expense under operating leases, including common area charges,
other expenses and additional amounts based on sales, were as follows:
FOR THE FISCAL YEARS ENDED
-------------------------------------------------------
DECEMBER 28, DECEMBER 29, DECEMBER 30,
2003 2002 2001
---- ---- ----
(IN THOUSANDS)
Minimum rentals $51,089 $51,975 $52,856
Common area charges 14,702 15,246 15,827
Contingent rentals 4,112 3,760 4,511
------- ------- -------
$69,903 $70,981 $73,194
======= ======= =======
Future minimum rental and other payments required under non-cancelable
operating leases for our Sbarro restaurants and our other concept
locations and our existing leased administrative and support function
office (Note 11) are as follows (in thousands):
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $71,374
January 1, 2006 69,209
December 31, 2006 66,910
December 30, 2007 61,920
December 28, 2008 56,001
Later years 149,718
--------
$475,132
========
We are the principal lessee under certain operating leases for four
other concept locations that have been sold and sublet to unaffiliated
third parties. Future minimum rental payments required under these
non-cancelable operating leases as of December 28, 2003 are as follows
(in thousands):
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $308
January 1, 2006 320
December 31, 2006 329
December 30, 2007 330
December 28, 2008 278
Later years 3,075
------
$4,640
======
We are the principal lessee under operating leases for certain
franchised restaurants which are subleased to franchisees. Franchisees
pay rent and related expenses directly to the landlord. Future minimum
rental payments required under these non-cancelable operating leases
for franchised restaurants that were open as of December 28, 2003 are
as follows (in thousands):
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $2,061
January 1, 2006 1,781
December 31, 2006 1,719
December 30, 2007 1,281
December 28, 2008 785
Later years 1,385
------
$9,012
======
We are the principal lessee under operating leases for three franchised
restaurants that were sold and franchised to related parties (see Note
11) and are subleased by us to the franchisees. The franchisees pay
rent and related expenses directly to the landlord. Future minimum
rental payments required under these non-cancelable operating leases
are as follows (in thousands):
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $305
January 1, 2006 288
December 31, 2006 168
December 30, 2007 156
December 28, 2008 156
Later years 645
---
$1,718
======
Future minimum rental payments required under non-cancelable operating
leases for restaurants that had not as yet opened as of December 28,
2003 are as follows (in thousands):
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $163
January 1, 2006 207
December 31, 2006 211
December 30, 2007 228
December 28, 2008 230
Later years 1,206
-----
$2,245
======
Future minimum rental payments required under a non-cancelable
operating lease for a restaurant that has been franchised to a related
party (see Note 11) and which had not as yet opened as of December 28,
2003, under which lease we are the principal lessee is as follows (in
thousands):
FISCAL YEARS ENDING:
--------------------
January 2, 2005 $159
January 1, 2006 160
December 31, 2006 160
December 30, 2007 160
December 28, 2008 166
Later years 1,631
-----
$2,436
======
In accordance with FIN No. 45, we have recorded a liability of
approximately $38,000 which represents the fair value of the guarantees
related to the leasing of franchised locations during fiscal 2003.
CONSTRUCTION CONTRACTS AND OTHER:
We are a party to contracts aggregating $1.8 million with respect to
the construction of restaurants. Payments of approximately $0.4 million
have been made on those contracts as of December 28, 2003. We have also
entered into a contract for $0.5 million to provide email connectivity
to our restaurants.
PRODUCT PURCHASE DISTRIBUTION ARRANGEMENT:
We have a contractual arrangement with a national independent wholesale
distributor that commenced in February 2003 and that requires us, until
February 2008, subject to early termination for certain specified
causes to purchase 95% of most of our food ingredients and related
restaurant supplies from them. The agreement does not, however, require
us to purchase any specific fixed quantities. Among the factors that
will effect the dollar amount of purchases we make under the contract
are:
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
o Number of Sbarro locations open during the term of the
contract;
o Level of sales made at Sbarro locations;
o Market price of mozzarella cheese and other commodity items;
o Price of diesel fuel; and o Mix of products sold by Sbarro
locations.
LETTERS OF CREDIT:
There are $1.7 million of bank letters of credit issued under our line
of credit to support potential obligations we, and, in one case, for
the benefit of one of our consolidated other concepts. The letters of
credit have been issued instead of cash security deposits under
operating leases. Of the outstanding standby letters of credit,
approximately $0.1 million are for locations that have been subleased
to the buyers of two of our other concept locations (one of which was
sold in 2003).
GUARANTEE ARRANGEMENTS PERTAINING TO THE OTHER CONCEPTS:
We are a party to various financial guarantees to a bank for two of our
other concepts. We are jointly liable, along with our partner, for a
loan owed by one of the other concepts. Our liabilities under the line
of credit, mortgage loan and $0.1 million of letters of credit to the
second concept are limited to our minority ownership percentage. The
remaining letter of credit for the second concept of $0.6 million is
jointly and severally guaranteed by each of the partners in the
concept. To varying degrees, these guarantees involve elements of
performance and credit risk. The possibility of our having to honor our
contingencies is largely dependent upon future operations of the other
concepts. We would record a liability if events occurred that make
payment under the guarantees probable. Under FIN No. 45, we are
required to record a liability for the fair value of any obligation
undertaken or modified after December 31, 2002. No such obligation was
undertaken or modified in fiscal 2003.
The details of our guarantees as of December 28, 2003 and their terms
are as follows:
TYPE OF GUARANTEED OBLIGATION AMOUNT (1) TERM
----------------------------- ---------- ----
Loan $1.7 million November 1, 2007
Mortgage loan 0.3 million June 30, 2008
Letters of credit 1.0 million Varying through May 2021
Line of credit 4.6 million December 31, 2010
(1) Represents our current maximum exposure under existing borrowings
and letters of credit. Our exposure under the line of credit could
increase to $7.1 million if the full amount of the line of credit is
utilized. During 2003, the exposure from borrowings available under
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
the line of credit increased by approximately $2.0 million due to an
increase in the joint venture's total line of credit. In addition, the
loan expiration date for all new term loans was extended from December
31, 2008 to December 31, 2010. The form of the guarantee was not
modified during fiscal 2003.
LITIGATION:
On December 20, 1999, fourteen 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 attorneys' fees, each in unspecified amounts.
Plaintiffs filed a motion to certify the lawsuit as a class action, but
the motion was denied by the court. The court issued a ruling in
December 2003 which was unfavorable to us but did not set the amount of
damages. We are appealing the ruling due to errors that we believe were
made by the trial judge.
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 and hour law. The plaintiffs are seeking actual
damages, punitive damages and costs of the lawsuit, including
reasonable attorneys' 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 have separately
settled with two of the managers for immaterial amounts. The parties to
this case have agreed that it will be settled upon the same terms and
conditions that the court orders in connection with its decision in the
case discussed in the preceding paragraph.
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 1999. The plaintiffs
are seeking actual damages, punitive damages and attorneys' 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 March 2002. The case is currently in the discovery
phase.
In August 2002, a subcontractor and the general contractor, pursuant to
a construction contract entered into to build the joint venture
location that was closed during fiscal 2002 and is also the subject of
the lawsuit discussed below, filed a complaint against the limited
liability joint venture company alleging that they are owed
approximately $800,000, plus interest. We are a defendant in the suit
by reason of the fact that we guaranteed the bonds under which
mechanics liens for the plaintiffs were bonded. It is anticipated that
this matter
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
will go to trial during later in fiscal 2004. We believe that our
maximum liability, should an unfavorable verdict be returned in this
case, would be approximately $400,000.
We believe that we have substantial defenses in each of the actions and
are vigorously defending these actions.
In May 2002, the landlord of the joint venture described above filed a
complaint against Sbarro in the Supreme Court of the New York for
Westchester County alleging that we were obligated to it, pursuant to a
Guaranty Agreement we executed, based on a alleged breach of the lease
by the tenant, a subsidiary of the joint venture. We believed that our
guarantee was limited in amount while the landlord alleged that the
guarantee covered all amounts that would become due during the
remaining lease term. The court issued a ruling in November 2003 which
established our liability at $500,000. The landlord has advised us that
it intends to appeal this decision but we have accrued this amount.
In addition to the above complaints, from time to time, we are a party
to claims and legal proceedings in the ordinary course of business. In
our opinion, the results of such claims and legal proceedings are not
expected to have a material adverse effect on our consolidated
financial position or results of operations.
11. TRANSACTIONS WITH RELATED PARTIES:
We have been the sole tenant of an administrative office building in
Commack, New York which was leased from a partnership owned by certain
of our shareholders. For each of the 2003, 2002 and 2001 fiscal years,
the annual rent paid pursuant to the sublease was $0.3 million. We were
advised by a real estate broker that, at the time we renewed the lease
for the facility, our rent is comparable to the rent that would be
charged by an unaffiliated third party. Our obligation for the
remainder of the lease term, which would have expired in 2011, will be
terminated upon the sale of the building by the partnership in April
2004.
On April 5, 2001, we loaned $3.23 million to certain of our
shareholders, including: Mario Sbarro, $1.08 million, Joseph Sbarro,
$1.24 million and Anthony Sbarro, $0.87 million. The due dates of the
related notes were extended on April 6, 2003 to April 6, 2005, and bear
interest at the rate of 4.63%, payable annually.
On December 28, 2001, we loaned $2.8 million to our shareholders,
including: Mario Sbarro, $0.60 million, Joseph Sbarro, $0.70 million,
Anthony Sbarro, $0.49 million, and the Trust of Carmela Sbarro, $0.99
million. The related notes are payable on December 28, 2004, and bear
interest at the rate of 2.48%, payable annually.
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In March 2004, we extended a loan of $40,000 to Gennaro A. Sbarro,
Corporate Vice President and President of our Franchising and Licensing
Division, to March 28, 2010. The note is repayable at approximately
$5,000 per year, including interest at 2.69% per annum, with a balloon
payment due at the maturity date.
Anthony Missano, Corporate Vice President and President of Business
Development , entered into a note dated June 15, 2003 in our favor in
the amount of $89,687, The note is repayable at approximately $10,000
per year, including interest at 2.96% per annum, with a balloon payment
due on June 30, 2010. The note is for the payment of royalties due us
for 2001 and 2000 from a former franchisee that was owned by Mr.
Missano's wife, the daughter of Joseph Sbarro. The current balance owed
on the notes is $84,687.
The interest rates charged on all the related party loans included
above approximate the Applicable Federal Rate (AFR) published by the
Internal Revenue Service at the time of the loan. Interest income from
related parties was $222,577, $220,666 and $270,382 in the 2003, 2002
and 2001 fiscal years, respectively.
A member of our Board of Directors acts as a consultant to us for which
he received $0.3 million in each of the 2003, 2002, and 2001 fiscal
years.
A member of our Board of Directors assisted one of our other concepts
in the preparation of its initial Uniform Franchise Offering Circular
in fiscal 2002 for which the fee was $20,000.
We and our other concepts have purchased printing services from a
corporation owned by a son-in-law of Mario Sbarro for which we and our
other concepts paid, in the aggregate, $340,000, $422,000 and $487,000
in fiscal 2003, 2002 and 2001, respectively.
Companies owned by a son of Anthony Sbarro are parties to franchise
agreements with us containing terms similar to those in agreements
entered into by us with unrelated franchises. Royalties under these
agreements in fiscal 2003, 2002 and 2001 were $89,946, $91,551 and
$88,008, respectively.
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 our Chairman of the Board and President 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 containing terms similar to those in agreements entered into
by us with unrelated franchisees. We received promissory notes for each
of the purchase price and initial franchise fee that are payable over
seven years and bear interest on the unpaid principal balances at 7%
per annum. The current amount owed under the promissory notes of
$119,209 has been fully reserved as of December 28, 2003. In addition,
in 2002 we subleased the lease for this location to that franchisee.
Payments under the sublease are being made directly to the landlord by
the franchisee. Interest payments received relating to the promissory
notes was $4,067 in fiscal 2003 and $-0- in fiscal 2002. Royalties
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
paid under this arrangement in fiscal 2003 were $3,303 and $6,723 in
fiscal 2002 but royalties of approximately $17,700 were not included in
the fiscal 2003 statement of operations as they were not collected
during the fiscal year. The royalties and interest payments noted above
were collected in the beginning of fiscal 2003.
On March 3, 2003, a company in which Gennaro J. Sbarro, then our
Corporate Vice President and President of our Casual and Fine Dining
Division and the son of Joseph Sbarro, has a 50% interest (the other
50% is owned by an unaffiliated third party) entered into a franchise
agreement and a sublease with us for a new location. The lease for the
location had been entered into in September 2002 by one of our
subsidiaries. Subsequent to that date, we determined that the economics
of the location would be better suited for a franchise operator and, as
such, we entered into the franchise agreement and subleased the
premises to this franchisee. Payments under the sublease will be made
directly to the landlord by the franchisee. The franchise agreement is
on terms and conditions similar to those in other franchise
arrangements we have entered into in similar situations with unrelated
third parties. The franchise agreement provides for the payment of 5%
of the location's sales as a continuing royalty but does not provide
for any initial franchise fee. Future minimum rental payments under the
lease for this location over the term of the lease, which expires in
2018, aggregate approximately $2.4 million. Mr. Sbarro issued a note in
our favor for $54,538, that is repayable in eighteen equal monthly
installments of $3,030 which commenced in November 2002 with no
interest, to reimburse Sbarro for costs advanced by Sbarro in
connection with the franchise location. The balance on the note as of
December 28, 2003 is $48,478. The location is expected to open in the
first quarter of fiscal 2004. As of October 31, 2003, Gennaro J. Sbarro
resigned from his positions as Corporate Vice - President and President
of our Casual and Fine Dining division. A corporation owned by Mr.
Sbarro entered into an eighteen month agreement with us to provide
consulting services to our quick service and casual dining division for
$22,500 per month and the reimbursement for customary and usual
expenses that may be incurred.
In October 2003, we sold the assets of three Sbarro-owned locations
separately to entities owned separately by each of three other of
Anthony Sbarro's sons. Two of the locations, which had no remaining
book value, were transferred for no consideration while the third was
sold for $0.3 million, that was paid in full, and resulted in a gain to
Sbarro of approximately $0.1 million. Two of the locations were
marginally profitable in fiscal 2002 while the third had a small loss
during that period. In connection with the sale of the locations, the
employment of these individuals with Sbarro was terminated and we have
included a charge for their total severance pay of approximately
$60,000 in our results of operations for fiscal 2003. The franchise
agreements are on terms and conditions similar to those other franchise
arrangements we have entered into in similar situation with unrelated
third parties. The agreements provide for the payment of 5% of the
location's sales as a continuing royalty but does not provide for any
initial franchise fee. Royalties of approximately $16,400 have been
included in the fiscal 2003 results of operations but are
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
unpaid to date. In addition, we subleased two of the locations to two
of the franchisees. The third location is on a month-to-month basis and
any new lease entered into by the franchisee will not be guaranteed or
subleased by Sbarro. Payments under the subleases are being made
directly to the landlord by the franchisees. Future minimum rental
payments over the terms of the leases under the leases for the two
locations being subleased, which expire in 2006 and 2016, aggregate
approximately $2.0 million.
In January 2004, one of Mario Sbarro's daughters, resigned from her
position as Manager of Administration - Construction. A corporation
owned by her entered into a one year agreement to provide consulting
services related to construction matters to us for a series of monthly
payments totaling $100,000.
In addition to the compensation of Mario, Anthony, Joseph, Gennaro A.
Sbarro and Anthony J. Missano:
o Carmela Sbarro, the mother of Mario, Anthony and Joseph Sbarro,
who was a co-founder of Sbarro and serves as Vice President and a
director, received $100,000 from us for services rendered during
fiscal 2003; and
o Carmela N. Merendino, a daughter of Mario Sbarro, who serves as
Vice President - Administration, earned $206,129 during fiscal
2003.
o Other members of the immediate families of Mario, Anthony, Joseph
and Carmela Sbarro who are our employees, earned an aggregate of
$621,751 during fiscal 2003.
12. PROVISION FOR ASSET IMPAIRMENT, RESTAURANT CLOSINGS AND OTHER CHARGES:
The provisions for asset impairment, restaurant closings and other
charges consists of the following:
2003 2002 2001
---- ---- ----
Impairment of assets (see Note 5) $4.1 $0.4 $5.5
Restaurant closings 2.0 8.8 11.7
Other charges - - 1.0
---- ---- -----
Total $6.1 $9.2 $18.2
==== ==== =====
The year-end accrual for the provison for restaurant closings and other
charges wre $1.0 million, $1.5 million and $1.5 million as of December
28, 2003, December 29, 2002 and December 30, 2001, respectively.
13. DIVIDENDS:
We declared distributions to our shareholders pursuant to the tax
payment agreement described in Note 8 as follows:
o $1.8 million with respect to our taxable income for fiscal
2002, of which $1.1 million was paid in 2003 and $0.7 million
was paid in February 2004;
o $3.1 million with respect to our taxable income for fiscal
2001 that was paid in 2002; and
o $7.6 million with respect to our taxable income for fiscal
2000 that was paid in 2001.
In addition, there was a $5.0 million dividend paid to our shareholders
in fiscal 2001.
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
14. QUARTERLY FINANCIAL INFORMATION (UNAUDITED):
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
(IN THOUSANDS)
FISCAL YEAR 2003
----------------
Revenues (a) $93,115 $72,043 $75,778 $91,388(a)
Gross profit (b) 69,205 54,002 56,408 67,647
Net (loss) income (a)(c) (10,490) (5,212) (7,954) 6,426
FISCAL YEAR 2002
----------------
Revenues $105,206 $79,332 $81,886 $93,956
Gross profit (b) 80,761 60,833 62,996 73,023
Net (loss) income (c) (2,421) (3,337) 8,646 1,893
(a) Revenues and net income for the fourth quarter of 2003 include
approximately $0.7 million and $0.4 million of vendor rebates
that should have been recorded during fiscal 2002 and in the
first two quarters of fiscal 2003, respectively. However,
during 2003 we received new infomrlaiton regarding those
rebates and, as a result, were able to apply better judgment
in their recording.
(b) Gross profit represents the difference between restaurant
sales and the cost of food and paper products.
(c) See Note 12 for information regarding the provision for asset
impairment of property and equipment, restaurant closings and
other charges in 2003 and 2002. We recorded impairments of
approximately $3.0 million and $1.1 million in the third and
fourth quarter of fiscal 2003, respectively. See Note 4 for
information regarding an insurance recovery in the third
quarter of fiscal 2002.
16. GUARANTOR AND NON-GUARANTOR FINANCIAL STATEMENTS:
Certain subsidiaries have guaranteed amounts outstanding under our
senior notes and new line of credit. Each of the guaranteeing
subsidiaries is our direct or indirect wholly owned subsidiary and each
has fully and unconditionally guaranteed the senior notes on a joint
and several basis.
The following condensed consolidating financial information presents:
(1) Condensed consolidating balance sheets as of December 28, 2003
and December 29, 2002 and related statements of operations and
cash flows for the fiscal years ended December 28, 2003,
December 29, 2002 and December 30, 2001 of (a) Sbarro, Inc.,
the parent, (b) the guarantor subsidiaries as a group, (c) the
nonguarantor subsidiaries as a group and (d) Sbarro on a
consolidated basis.
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SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(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.
-72-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 28, 2003
(IN THOUSANDS)
ASSETS
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Current assets:
Cash and cash equivalents $49,515 $5,595 $1,299 $56,409
Restricted cash for untendered shares 21 - - 21
Receivables less allowance for
doubtful accounts of $488:
Franchise 1,700 - - 1,700
Other (191) 966 396 1,171
----- --- --- -----
1,509 966 396 2,871
Inventories 1,177 1,387 143 2,707
Prepaid expenses 4,018 (227) 53 3,844
Current portion of loans receivable
from officers 2,810 - - 2,810
----- -------- -------- -----
Total current assets 59,050 7,721 1,891 68,662
Intercompany receivables 6,697 317,237 - $(323,934) -
Investment in subsidiaries 65,469 - - (65,469) -
Property and equipment, net 36,189 55,706 4,709 96,604
Intercompany receivables - long term
Intangible assets:
Trademarks, net 195,916 - - - 195,916
Goodwill, net 9,204 - - - 9,204
Deferred financing costs and other, 5,369 233 - (120) 5,482
net
Loans receivable from officers less
current portion 3,347 - - - 3,347
Other assets 7,034 1,822 (212) (1,030) 7,614
----- ----- ----- ------- -----
$388,275 $382,719 $6,388 $(390,553) $386,829
======== ======== ====== ========== ========
-73-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 28, 2003
(IN THOUSANDS)
LIABILITIES AND SHAREHOLDERS' EQUITY
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Current liabilities:
Amounts due for untendered shares $21 $21
Accounts payable 11,859 129 419 1,327 13,734
Accrued expenses 15,521 1,447 1,806 18,774
Accrued interest payable 8,181 - - - 8,181
Current portion of mortgage payable - 168 - - 168
------- ------ ------- --------- -------
Total current liabilities 35,582 1,744 2,225 1,327 40,878
------ ----- ----- ----- ------
Intercompany payables 317,236 2,958 3,740 (323,934) -
------- ------ ------- --------- -------
Deferred rent 8,009 - 702 - 8,711
------- ------ ------- --------- -------
Long-term debt, net of
original issue discount 252,827 15,325 - - 268,152
------- ------ ------- --------- -------
Intercompany payables - long term
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) (225,460) 297,223 (2,756) - 69,007
--------- ------- ------- -------- ------
(225,379) 362,692 (279) (67,946) 69,088
--------- ------- ------- -------- ------
$388,275 $382,719 $6,388 $(390,553) $386,829
======== ======== ====== ========== ========
-74-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 29, 2002
(IN THOUSANDS)
ASSETS
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Current assets:
Cash and cash equivalents $47,636 $6,539 $975 $55,150
Restricted cash for untendered
shares 21 - - 21
Receivables less allowance for
doubtful accounts of $491:
Franchise 2,059 - 2,059
Other 69 1,088 87 1,244
------- ------- ------ --------
2,128 1,088 87 3,303
Inventories 1,417 1,725 143 3,285
Prepaid expenses 2,677 (342) 27 2,362
Current portion of loans receivable
from officers 3,232 - - 3,232
------- ------- ------- ---------
Total current assets 57,111 9,010 1,232 67,353
Intercompany receivables 5,197 313,877 - $(319,074) -
Investment in subsidiaries 65,469 - - (65,469) -
Property and equipment, net 42,762 65,726 6,593 - 115,081
Intercompany receivables - long term 3,308 - - (3,308) -
Intangible assets:
Trademarks, net 195,916 - - - 195,916
Goodwill, net 9,324 - - (120) 9,204
Deferred financing costs and other,
net 6,361 271 - - 6,632
Loans receivable from officers,
less current portion 2,800 - - - 2,800
Other assets 8,742 1,705 (303) (2,357) 7,787
-------- -------- ------- ------- --------
$396,990 $390,589 $7,522 $(390,328) $404,773
======== ======== ====== ========== ========
-75-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 29, 2002
(IN THOUSANDS)
LIABILITIES AND SHAREHOLDERS' EQUITY
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Current liabilities:
Amounts due for untendered shares $21 $21
Accounts payable 9,503 $212 $564 10,279
Accrued expenses 17,887 1,560 2,176 21,623
Accrued interest payable 8,181 - - 8,181
Current portion of
mortgage payable - 154 - 154
------- --------- ----- ---------- --------
Total current liabilities 35,592 1,926 2,740 40,258
------ ----- ----- ------
Intercompany payables 313,877 - 5,197 $(319,074) -
------- --------- ----- ---------- --------
Deferred rent 7,793 - 681 - 8,474
------- --------- ----- ---------- --------
Long-term debt, net of original issue
discount 252,449 15,492 - - 267,941
------- --------- ----- ---------- --------
Intercompany payables - long term - 3,308 - (3,308) -
------- --------- ----- ---------- --------
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) (212,802) 304,394 (3,573) - 88,019
----------- --------- ---------- ------------ ---------
(212,721) 369,863 (1,096) (67,946) 88,100
----------- --------- ------------ --------- --------
$396,990 $390,589 $7,522 $(390,328) $404,773
======== ======== ====== ========== ========
-76-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE FISCAL YEAR ENDED DECEMBER 28, 2003
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Revenues:
Restaurant sales $135,295 $164,535 $14,878 $314,708
Franchise related income 10,868 - - 10,868
Real estate and other 4,077 2,586 85 6,748
Intercompany charges 10,728 - - (10,728) -
------ ----------- ----------- -------- -----------
Total revenues 160,968 167,121 14,963 (10,728) 332,324
------- ------- ------ -------- -------
Costs and expenses:
Restaurant operating expenses:
Cost of food and paper products 27,402 36,116 3,928 - 67,446
Payroll and other employee
benefits 36,474 48,155 4,985 - 89,614
Other operating costs 49,196 57,282 3,975 - 110,453
Depreciation and amortization 8,801 9,899 1,012 - 19,712
General and administrative 15,212 10,418 (179) - 25,451
Asset impairment, restaurant
closings and other charges 5,647 - 426 - 6,073
Intercompany charges - 10,728 - (10,728) -
------- ------- ------ -------- -------
Total costs and expenses 142,732 172,598 14,147 (10,728) 318,749
------- ------- ------ -------- -------
Operating income (loss) 18,236 (5,477) 816 - 13,575
------ ------- --- - ------
Other (expense) income:
Interest expense (29,693) (1,346) - - (31,039)
Interest income 694 - - - 694
Equity in net income of
unconsolidated affiliates 425 - - - 425
------- ------- ------ -------- -------
Net other expense (28,574) (1,346) - - (29,920)
------- ------- ------ -------- -------
(Loss) income before minority interest (10,338) (6,823) 816 - (16,345)
Minority interest - - (41) - (41)
------- ------- ------ -------- -------
(Loss) income before income taxes
(credit) (10,338) (6,823) 775 - (16,386)
Income taxes (credit) 536 348 (40) - 844
------- ------- ------ -------- -------
Net (loss) income $(10,874) $(7,171) $815 $ - $(17,230)
========= ======== ==== ======= =========
-77-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE FISCAL YEAR ENDED DECEMBER 29, 2002
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Revenues:
Restaurant sales $144,394 $177,728 $23,084 $345,206
Franchise related income 10,070 - - 10,070
Real estate and other 1,605 3,499 - 5,104
Intercompany charges - 15,275 - $(15,275) -
-------- -------- -------- ---------- -------
Total revenues 156,069 196,502 23,084 (15,275) 360,380
-------- -------- -------- ---------- -------
Costs and expenses:
Restaurant operating expenses:
Cost of food and paper products 26,596 34,592 6,405 - 67,593
Payroll and other employee
benefits 37,996 50,005 8,287 - 96,288
Other operating costs 48,242 59,207 7,443 - 114,892
Depreciation and amortization 9,133 10,290 1,260 - 20,683
General and administrative 11,203 12,286 471 - 23,960
Provision for asset impairment,
restaurant closings and other
charges (1) 12,850 - (3,654) - 9,196
Intercompany charges 15,275 - - (15,275) -
-------- -------- -------- --------- -------
Total costs and expenses 161,295 166,380 20,212 (15,275) 332,612
-------- -------- -------- --------- -------
Operating (loss) income (5,226) 30,122 2,872 - 27,768
-------- -------- -------- --------- -------
Other (expense) income:
Interest expense (29,600) (1,359) - - (30,959)
Interest income 528 - - - 528
Equity in net income of
unconsolidated affiliates 668 - - - 668
Insurance recovery, net 7,162 - - - 7,162
-------- -------- -------- --------- -------
Net other expense (21,242) (1,359) - - (22,601)
--------- -------- -------- --------- -------
(Loss) income before minority interest (26,468) 28,763 2,872 - 5,167
Minority interest - - (52) - (52)
-------- -------- -------- --------- -------
(Loss) income before income taxes
(credit) (26,468) 28,763 2,820 5,115
Income taxes (credit) (1,629) 1,773 190 - 334
--------- -------- -------- --------- -------
Net (loss) income $(24,839) $26,990 $2,630 $ - $4,781
========= ======= ====== ========= ======
(1) Income included in Nonguarantor Subsidiaries for the provision for asset
impairment, restaurant closings and other charges represents uncollectibility of
amounts due to the Parent of $8.2 million, which is eliminated in consolidation.
-78-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE FISCAL YEAR ENDED DECEMBER 30, 2001
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Revenues:
Restaurant sales $155,310 $189,731 $27,632 $372,673
Franchise related income 10,286 - - 10,286
Real estate and other 3,078 3,548 - $ (870) 5,756
Intercompany charges - 13,020 - (13,020) -
-------- ------ --------- --------- ---------
Total revenues 168,674 206,299 27,632 (13,890) 388,715
-------- ------- --------- --------- ---------
Costs and expenses:
Restaurant operating expenses:
Cost of food and paper products 27,900 39,173 7,541 - 74,614
Payroll and other employee
benefits 41,287 53,185 9,356 - 103,828
Other operating costs 46,619 60,197 9,765 - 116,581
Depreciation and amortization 16,025 12,844 1,506 - 30,375
General and administrative 14,161 15,618 563 (870) 29,472
Provision for asset impairment,
restaurant closings and other
charges (1) 21,310 (3,086) - 18,224
Intercompany charges 13,020 - - (13,020) -
-------- ------ --------- --------- ---------
Total costs and expenses 180,322 181,017 25,645 (13,890) 373,094
-------- ------ --------- --------- ---------
Operating (loss) income (11,648) 25,282 1,987 - 15,621
-------- ------ --------- --------- ---------
Other (expense) income:
Interest expense (29,581) (1,369) (1,903) 1,903 (30,950)
Interest income 2,659 - - (1,903) 756
Equity in net income of
unconsolidated affiliates 310 - - - 310
-------- ------ --------- --------- ---------
Net other expense (26,612) (1,369) (1,903) - (29,884)
-------- ------ --------- --------- ---------
(Loss) income before minority
interest (38,260) 23,913 84 - (14,263)
Minority interest - - (1) - (1)
-------- ------ --------- --------- ---------
(Loss) income before income taxes
(credit) (38,260) 23,913 83 (14,264)
--------- ------ -------- --------
Income taxes (credit) (288) 586 27 - (325)
--------- ------ -------- --------- -----
Net (loss) income $(37,972) $23,327 $56 $ - $ (14,589)
========= ======= === ========= ===========
(1) Income included in Nonguarantor Subsidiaries for the provision for asset
impairment, restaurant closings and other charges represents uncollectibility of
amounts due to the Parent of $13.7 million, which is eliminated in
consolidation.
-79-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 28, 2003
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
Operating activities: PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
- --------------------- ------ ------------ ------------ ------------ -----
Net (loss) income $(10,874) $(7,171) $815 $(17,230)
Adjustments to reconcile net (loss)
income to net cash (used in) provided
by operating activities:
Depreciation and amortization 10,211 10,029 1,009 21,249
Allowance for doubtful accounts
receivable 435 - - 435
Asset impairment, restaurant
closings and other charges 4,199 1,452 422 6,073
Increase in deferred rent, net 200 - 42 242
Loss on sale of other concept, net
asset impairment costs - - 50 50
Minority interest - - 41 41
Equity in net income of
unconsolidated affiliates (425) - - (425)
Dividends received from
unconsolidated affiliates 119 - - 119
Changes in operating assets and
liabilities:
Decrease in receivables 15 121 55 191
Decrease in inventories 239 339 - 578
Increase in prepaid expenses (185) (41) (27) (253)
Decrease (increase) in other
assets 816 (49) 194 $(1,327) (366)
Increase (decrease) in accounts
payable and accrued expenses 764 (1,108) (653) 1,327 330
--- ------- ----- ----- ---
Net cash provided by operating
activities 5,514 3,572 1,948 - 11,034
----- ----- ----- - ------
Investing activities:
- ---------------------
Purchases of property and equipment (5,849) (2,485) (187) - (8,521)
------- ------- ----- ----- -------
Net cash used in investing activities (5,849) (2,485) (187) - (8,521)
------- ------- ----- ----- -------
-80-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 28, 2003
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Financing activities:
- ---------------------
Mortgage principal repayments - (154) - - (154)
Tax distributions (1,100) - - - (1,100)
Intercompany balances 3,314 (1,876) (1,438) - -
----- ------- ------- ----------- -----------
Net cash (used in) provided by
financing activities 2,214 (2,030) (1,438) - (1,254)
----- ------- ------- - -------
Increase (decrease) in cash and cash
equivalents 1,879 (943) 323 - 1,259
Cash and cash equivalents at beginning
of year 47,636 6,539 975 - 55,150
------ ----- --- ----------- ------
Cash and cash equivalents at end of
year $49,515 $5,596 $1,298 - $56,409
======= ====== ====== =========== =======
Supplemental disclosure of cash flow
information:
Cash paid during the period for income
taxes $290 $85 $13 $ - $388
==== === === ===== ====
Cash paid during the period for
interest $28,192 $1,308 $ - $ - $29,400
======= ====== ===== ===== =======
-81-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 29, 2002
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
Operating activities: PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
- --------------------- ------ ------------ ------------ ------------ -----
Net (loss) income $(24,839) $26,990 $2,630 $4,781
Adjustments to reconcile net (loss)
income to net cash (used in)
provided by operating activities:
Depreciation and amortization 12,551 8,325 1,261 22,137
Allowance for doubtful accounts
receivable 350 - - - 350
Increase (decrease) in deferred
rent, net 421 (135) (74) 212
Asset impairment, restaurant
closings and other charges 3,453 - 4,469 7,922
Minority interest - - 52 52
Equity in net income of
unconsolidated affiliates (668) - - (668)
Dividends received from
unconsolidated affiliates 311 - - 311
Changes in operating assets and
liabilities:
Decrease (increase) in receivables 1,755 (475) 28 1,308
(Increase) decrease in
inventories (4) 46 210 252
(Increase) decrease in prepaid
expenses (763) (187) (171) (1,121)
(Increase) decrease in other
assets (438) 282 (273) (429)
(Decrease) increase in accounts
payable and accrued expenses (2,475) 1,827 (1,886) $(120) (2,654)
------- ----- ------- ------ -------
Net cash (used in) provided by
operating activities (10,346) 36,673 6,246 (120) 32,453
-------- ------ ----- -------- ------
Investing activities:
- ---------------------
Purchases of property and equipment (8,357) (2,398) (233) (10,988)
------- ------- ----- --------
Net cash used in investing activities (8,357) (2,398) (233) - (10,988)
-------- ------ ----- -------- --------
-82-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 29, 2002
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Financing activities:
- ---------------------
Mortgage principal repayments - (142) - - (142)
Tax distribution (3,125) - - - (3,125)
Intercompany balances 39,791 (33,031) (6,880) 120 -
-------- --------- --------- -------- ----------
Net cash provided by (used in)
financing activities 36,666 (33,173) (6,880) 120 (3,267)
-------- --------- --------- -------- -------
(Decrease) increase in cash and cash
equivalents 17,963 1,102 (867) - 18,198
Cash and cash equivalents at beginning
of year 29,673 5,437 1,842 - 36,952
-------- ------- ------- ---------- -------
Cash and cash equivalents at end of
period $47,636 $6,539 $975 $ - $55,150
======= ======= ==== ========= =======
Supplemental disclosure of cash flow
information:
Cash paid during the period for income
taxes $533 $262 $1 $ - $796
==== ==== == === ====
Cash paid during the period for
interest $28,171 $1,327 $ - $ - $29,498
======= ====== === === =======
-83-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 30, 2001
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Operating activities:
- ---------------------
Net (loss) income $ (37,972) $23,327 $ 56 $ - $ (14,589)
Adjustments to reconcile net (loss)
income to net cash (used in)
provided by operating activities
Depreciation and amortization 12,492 17,827 1,511 - 31,830
Allowance for doubtful accounts
receivable 61 - - - 61
Increase in deferred rent, net 720 (258) 507 - 969
Asset impairment, restaurant
closings and other charges 20,914 - (3,562) - 17,352
Minority interest - - 1 - 1
Equity in net income of
unconsolidated affiliates (310) - - - (310)
Dividends received from
unconsolidated affiliates 244 - - - 244
Changes in operating assets and
liabilities:
Increase in receivables (359) (243) (12) - (614)
Decrease (increase) in
inventories 16 (7) (45) - (36)
(Increase) decrease in
prepaid expenses (1,202) 666 112 - (424)
(Increase) decrease in
other assets 340 (1,518) 43 - (1,135)
(Decrease) increase in accounts
payable and accrued expenses (2,438) 3,438 463 - 1,463
------ ------- ------- -------- --------
Net cash (used in) provided by
operating activities (7,494) 43,232 (926) - 34,812
------ ------- ------- -------- --------
Investing activities:
- ---------------------
Purchases of property and equipment (9,651) (7,947) (4,930) - (22,528)
Proceeds from disposition of
Property and equipment 75 - - - 75
------ ------- ------- -------- --------
Net cash used in investing activities (9,576) (7,947) (4,930) - (22,453)
------- ------- ------- -------- --------
-84-
SBARRO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE FISCAL YEAR ENDED DECEMBER 30, 2001
(IN THOUSANDS)
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
------ ------------ ------------ ------------ -----
Financing activities:
- ---------------------
Mortgage principal repayments - (130) - - (130)
Purchase of minority interest (1,000) - - - (1,000)
Loans to shareholders (6,732) - - - (6,732)
Repayment of shareholder loans 2,700 - - - 2,700
Tax distributions (7,564) - - - (7,564)
Dividends (5,000) - - - (5,000)
Intercompany balances 27,377 (33,951) 6,574 - -
-------- -------- ------- ----------- ----------
Net cash provided by (used in)
financing activities 9,781 (34,081) 6,574 - (17,726)
-------- -------- ------- ----------- --------
(Decrease) increase in cash and cash
equivalents (7,289) 1,204 718 - (5,367)
Cash and cash equivalents at beginning
of period 36,963 4,232 1,124 - 42,319
-------- ------- ------ ---------- --------
Cash and cash equivalents at end of
period $29,674 $5,436 $1,842 $ - $36,952
======= ======== ====== ========== =======
Supplemental disclosure of cash flow
information:
Cash paid during the period for income
taxes $ 562 $628 $ 7 $ - $1,197
====== ==== ======== ========= ======
Cash paid during the period for
interest $28,159 $1,332 $ - $ - $29,491
======= ====== ========= ========= =======
-85-
ITEM 9. CHANGES IN AND DISAGREEMENTS ON ACCOUNTING AND
- ------- ----------------------------------------------
FINANCIAL DISCLOSURE
--------------------
None
ITEM 9A. CONTROLS AND PROCEDURES
- ------- -----------------------
Disclosure Controls and Procedures. The Company's management, with the
participation of the Company's Chief Executive Officer and Chief Financial
Officer, has evaluated the effectiveness of the Company's disclosure controls
and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under
the Securities Exchange Act of l934, as amended (the "Exchange Act")) as of the
end of the period covered by this report. Based on such evaluation, the
Company's Chief Executive Officer and Chief Financial Officer have concluded
that, as of the end of the period, the Company's disclosure controls and
procedures are effective. Notwithstanding the foregoing, a control system, no
matter how well designed and operated, can provide only reasonable, not
absolute, assurance that it will detect or uncover failures within the Company
to disclose material information otherwise required to be set forth in the
Company's periodic reports.
Internal Control Over Financial Reporting. There have not been any
changes in the Company's internal control over financial reporting (as such term
is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the
fourth quarter of 2003 that have materially affected, or are reasonable likely
to materially affect, the Company's internal control over financial reporting.
-86-
PART III
--------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -------- --------------------------------------------------
Our directors and executive officers and their ages at March 5, 2004
are:
NAME AGE POSITION
---- --- --------
Mario Sbarro 62 Chairman of the Board and Director
Anthony Sbarro 57 Vice Chairman of the Board, Treasurer
and Director
Joseph Sbarro 63 Senior Executive Vice President,
Secretary and Director
Carmela Sbarro 82 Vice President and Director
Michael O'Donnell 47 President, Chief Executive Officer
and Director
Peter Beaudrault 49 President - Quick Service Division
and Corporate Vice President
Anthony J. Missano 45 President - Business Development and
Corporate Vice President
Gennaro A. Sbarro 37 President - Franchising and Licensing
Division and Corporate Vice
President
Carmela N. Merendino 39 Vice President - Administration
Anthony J. Puglisi 54 Vice President and Chief Financial
Officer
Steven B. Graham 50 Vice President and Controller
Ashraf Kilada 40 Vice President - Risk Management and
Benefits
Harold L. Kestenbaum 54 Director
Richard A. Mandell 61 Director
Terry Vince 75 Director
Bernard Zimmerman 71 Director
MARIO SBARRO has been an officer, a director and a principal
shareholder of Sbarro since its organization in 1977, serving as Chairman of our
board of directors, and until September 2003, as our President and Chief
Executive Officer, for more than the past five years.
ANTHONY SBARRO has been an officer, a director and a principal
shareholder of Sbarro since its organization in 1977, serving as Vice Chairman
of our board of directors and Treasurer for more than the past five years.
JOSEPH SBARRO has been an officer, a director and a principal
shareholder of Sbarro since its organization in 1977, serving as Senior
Executive Vice President and Secretary for more than the past five years.
CARMELA SBARRO has been a Vice President for more than the past five
years. Mrs. Sbarro was a founder of Sbarro, together with her late husband,
Gennaro Sbarro. Mrs. Sbarro devotes a substantial portion of her time to recipe
and product development. Mrs. Sbarro has been a director since January 1998.
Mrs. Sbarro also served as a director from March 1985 until December 1988,
following which she was elected director emeritus until her reelection to our
board of directors.
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MICHAEL O'DONNELL joined us as President, Chief Executive Officer and
was elected to our Board of Directors in September, 2003. Prior to his joining
Sbarro, Mr. O'Donnell was an industry consultant from January 2003 and for more
than five years prior to that was the President and Chief Executive Officer of
New Concepts at Outback Steakhouse Inc., a restaurant chain. Mr. O'Donnell is a
director of Champps Entertainment and Boston Inner City Schools
PETER BEAUDRAULT was elected Corporate Vice President and President of
our Quick Service Division in March 2004. Prior to joining Sbarro, Mr.
Beaudrault was an industry consultant from January 2003 and for more than five
years prior to that was the President and Chief Executive Officer of the Hard
Rock Cafe International, a restaurant chain.
ANTHONY J. MISSANO was elected President of Business Development in
March 2004. He has been a Corporate Vice President for more than the past five
years and served as President of our Quick Service Division from January 2000
until March 2004..
GENNARO A. SBARRO has been a Corporate Vice President for more than the
past five years and was elected President of our Franchising and Licensing
Division in January 2000.
CARMELA N. MERENDINO has been Vice President - Administration for more
than the past five years.
ANTHONY J. PUGLISI joined us as Vice President-Chief Financial Officer
in February 2004. Prior to joining Sbarro, Mr. Puglisi was the Vice President
and Chief Financial Officer of Langer, Inc., a provider of products used to
treat muscle - skeletal disorders, from April 2002 to February 2004. Mr. Puglisi
was Senior Vice President and Chief Financial Officer of Netrex Corporation,
from September 2000 to October 2001 and Executive Vice President and Chief
Financial Officer of Olsten Corporation, a provider of staffing and home health
care services, from 1993 to March 2000. Mr. Puglisi has been a certified public
accountant in New York for over twenty-five years.
ASHRAF KILADA was elected Vice President - Risk Management and Benefits
in January 2002. Mr. Kilada served as our director of Risk Management and
Benefits for more than the past five years.
STEVEN B. GRAHAM was elected Vice President in January 2000 and has
served as our Controller for more than the past five years. Mr. Graham has been
a certified public accountant in New York for over twenty-five years.
HAROLD L. KESTENBAUM has been a practicing attorney in New York for
more than the past five years. He became a director of Sbarro in March 1985. Mr.
Kestenbaum is also a director of Rezconnect Technologies, Inc. and UFSI, Inc.
RICHARD A. MANDELL has been a private investor and financial consultant
since April 1998. Prior to that date, he was Vice President - Private
Investments of Clariden Asset Management (NY) Inc., a subsidiary of Clariden
Bank, a private Swiss bank, from January 1996 until February 1998. From 1982
until June 1995, Mr. Mandell served as a Managing Director of Prudential
Securities Incorporated, an investment banking firm. He became a director of
Sbarro in March 1986. Mr. Mandell is also a director of Encore Capital Group,
Inc. and Smith & Wollensky Restaurant
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Group, Inc. Mr. Mandell has been a certified public accountant in New York for
more than the past thirty years.
TERRY VINCE has been Chairman of the Board and President of Sovereign
Hotels, Inc., a company that owns and manages hotels, and Chairman of the Board
of Fame Corp., a food service management company, for more than the past five
years. Mr. Vince became a director of Sbarro in December 1988.
BERNARD ZIMMERMAN has been President of Bernard Zimmerman & Co., Inc. a
financial and management consulting firm, for more than the past five years. In
addition, since July 2003, Mr. Zimmerman has been the President and Chief
Executive Officer and a director of FCCC, Inc., a company engaged in seeking
business combinations, mergers and/or acquisitions. Mr. Zimmerman has been a
certified public accountant in New York for more than the past thirty-five
years. He became a director of Sbarro in March 1985.
Our by-laws provide that the minimum number of directors that can
constitute our board is six and the maximum number of directors that can
constitute our board is twelve.
Our officers are elected annually by the board of directors and hold
their respective offices until their successors are duly elected and qualified.
Officers may be removed at any time by the board.
Mario, Anthony and Joseph Sbarro are the sons of Carmela Sbarro.
Carmela N. Merendino is the daughter, and Gennaro A. Sbarro is the son, of Mario
Sbarro. Anthony J. Missano is the son-in-law of Joseph Sbarro.
Our board of directors has determined that Richard A. Mandell, Chairman
of our Audit Committee, is the audit committee financial expert and is
independent.
During fiscal 2003, our officers, directors and shareholders were not
required to file reports under Section 16(a) of the Securities Exchange Act of
1934.
We have adopted a Code of Ethics that applies to, among others, our
principal executive officer, principal financial officer, principal accounting
officer, controller and other persons performing similar functions. A copy of
our Code of Ethics is filed as exhibit 14 to this report.
We undertake to provide to any person, without charge, upon request, a
copy of our Code of Ethics. If you wish a copy of our Code of Ethics, please
write to our chief financial officer, Sbarro, Inc., 401 Broadhollow Road,
Melville, New York 11747.
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ITEM 11. EXECUTIVE COMPENSATION
- -------- ----------------------
SUMMARY COMPENSATION TABLE
The following table sets forth information concerning the compensation
of our chief executive officer and other five most highly compensated persons
who were serving as executive officers at the end of our 2003 fiscal year for
services in all capacities to us and our subsidiaries during our 2003, 2002 and
2001 fiscal years:
ANNUAL
COMPENSATION
NAME AND ------------
PRINCIPAL POSITION YEAR SALARY BONUS
- ------------------ ---- ------ -----
Michael O'Donnell.............................. 2003 $133,816 --
President, Chief Executive Officer (1)
Mario Sbarro................................... 2003 $700,000 $220,000
Chairman of the Board, President and 2002 700,000 --
Chief Executive Officer 2001 700,000 --
Anthony Sbarro................................. 2003 400,000 220,000
Vice Chairman of the Board and Treasurer 2002 325,000 --
2001 300,000 --
Joseph Sbarro.................................. 2003 400,000 250,000
Senior Executive Vice President and 2002 325,000 --
Secretary 2001 300,000 --
Anthony J. Missano............................. 2003 220,000 --
Corporate Vice President and President - Quick 2002 220,000 150,000
Service Division 2001 200,000 150,000
(1) Mr. O'Donnell joined us on September 8, 2003. See "Employment Agreements"
below.
There was no other annual compensation, long-term compensation or other
compensation awarded to, earned by or paid to any of the foregoing persons
during any of the reported periods.
OPTIONS/SAR GRANTS IN LAST FISCAL YEAR.
We did not grant any options to purchase our securities or any stock
appreciation rights during fiscal 2003.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND YEAR END VALUES
No options were exercised during fiscal 2003 and no options were
outstanding at the end of fiscal 2003.
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COMPENSATION OF DIRECTORS
Each of our non-employee directors currently receive a retainer at the
rate of $16,000 per annum, $1,000 for each meeting of the Board attended and
$500 for each meeting attended of a committee of the board on which the member
serves if the meeting is not held on the same day as a meeting of the board.
Members of the board also are reimbursed for reasonable travel expenses incurred
in attending board and committee meetings.
EMPLOYMENT AGREEMENT
On September 8, 2003, we entered into an employment agreement with
Michael O'Donnell, our current President and Chief Executive Officer, for a term
ending on December 31, 2006, subject to earlier termination by us or Mr.
O'Donnell following specified notice. The agreement provides, among other
things, for an annual salary of $450,000; subject to increase at the discretion
of our board of directors, an annual performance bonus beginning in 2004 to be
based upon the achievement of increases in EBITDA, as defined, and other
objectives to be set forth in business plans and budgets approved from time to
time by our board, which bonus, for the year ending December 31, 2004, will not
be less than $112,500; $1,000,000 of life insurance; the reimbursement of Mr.
O'Donnell for certain relocation, travel and housing expenses incurred; and a
special incentive award. The special incentive award is designed to reward Mr.
O'Donnell for improvements in our adjusted EBITDA, cash position and long term
debt position over the term of the agreement, vests upon termination of Mr.
O'Donnell's employment, is reduced in the event of early termination of
employment and, when earned, is payable, with interest, in twelve equal
quarterly installments. Alternatively, in the event of a public offering of our
common stock, a change in control of Sbarro, including by merger, sale of stock
or sale of assets, or a liquidation or dissolution of Sbarro, the special
incentive award will be based on the per share proceeds received by our
shareholders in excess of a threshold amount. The agreement also provides for
severance pay in the event of early termination by us without "cause" (as
defined) or by Mr. O'Donnell for "good reason" (as defined).
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION IN COMPENSATION
DECISIONS
Our board of directors does not presently have a Compensation
Committee. Decisions regarding the compensation of executive officers are being
made by the Board of Directors. Accordingly, Mario Sbarro, Anthony Sbarro and
Joseph Sbarro, executive officers, directors and employees, may participate in
deliberations of our board concerning executive officer compensation.
Bernard Zimmerman & Company, Inc., of which Bernard Zimmerman, a
director of Sbarro, is President and a majority shareholder, renders financial
and consulting assistance to us, for which it received fees of $315,200 for
services rendered during our 2003 fiscal year.
See Item 13, "Certain Relationships and Related Transactions" in this
report, for information concerning related party transactions.
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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
- -------- ---------------------------------------------------
MANAGEMENT
----------
The following table sets forth certain information regarding the
ownership of shares of our common stock as of March 5, 2004 by (1) holders known
to us to beneficially own more than five percent of our outstanding common
stock, (2) each of our directors, (3) the persons named in the summary
compensation tables in Item 11 of the report and (4) all of our directors and
executive officers as a group. We understand that, except as noted below, each
beneficial owner has sole voting and investment power with respect to all shares
attributable to such owner.
SHARES BENEFICIALLY OWNED
BENEFICIAL OWNER NUMBER PERCENT
- ---------------- ------ -------
Mario Sbarro (1)....................................................... 1,524,730 (2) 21.5%
Anthony Sbarro (1)..................................................... 1,233,800 17.5%
Joseph Sbarro (1)...................................................... 1,756,022 (3) 24.8%
Trust of Carmela Sbarro (1)............................................ 2,497,884 (4) 35.4%
Harold L. Kestenbaum................................................... -- --
Richard A. Mandell..................................................... -- --
Michael O'Donnell...................................................... -- --
Terry Vince............................................................ -- --
Bernard Zimmerman...................................................... -- --
Anthony J. Missano..................................................... 25,946(5) 0.4%
All directors and executive officers as a group
(16 persons) (6) .................................................. 7,038,382 99.6%
_____________________
(1) The business address of these stockholders is 401 Broadhollow Road,
Melville, New York 11747.
(2) Excludes the 2,497,884 shares held by the Trust of Carmela Sbarro, of
which trust Mario Sbarro serves as a co-trustee and as to which shares
Mr. Sbarro may be deemed a beneficial owner with shared voting and
dispositive power.
(3) Excludes 25,946 shares beneficially owned by each of Mr. Sbarro's son,
Gennaro J. Sbarro, and daughter who is the wife of Anthony J. Missano.
(4) The trust was created by Carmela Sbarro for her benefit and for the
benefit of her descendants, including Mario, Joseph and Anthony Sbarro.
The trustees of the trust are Franklin Montgomery, whose business
address is 1270 Avenue of the Americas, New York, New York 10020, and
Mario, Anthony and Joseph Sbarro. Each trustee may be deemed to be the
beneficial owner of all these shares with shared voting and dispositive
power.
(5) Includes 25,946 shares owned by Mr. Missano's wife. Mr. Missano
disclaims beneficial ownership of these shares.
We do not have any equity compensation plans, contracts or arrangements
for employees or non-employees.
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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------- ----------------------------------------------
We have been the sole tenant of an administrative office building,
which is leased from Sbarro Enterprises, L.P. The rent paid by us for this
facility in fiscal 2003 was $0.3 million. We were advised by a real estate
broker at the time we renewed the lease for this facility that our rent is
comparable to the rent that would be charged by an unaffiliated third party. The
limited partners of Sbarro Enterprises, L.P. are Mario, Joseph, Anthony and
Carmela Sbarro. Our obligation for the remainder of the lease term, which is
scheduled to expire in 2011, will be terminated upon the sale of the building by
the partnership in April 2004.
On April 5, 2001, we loaned $3.23 million to certain of our
shareholders, including: Mario Sbarro, $1.08 million, Joseph Sbarro, $1.24
million and Anthony Sbarro, $0.87 million. The due date of the related notes
were extended on April 6, 2003 to April 6, 2005, and bear interest at the rate
of 4.63%, payable annually. After a loan repayment in March 2004, the current
balance of these loans is $2.95 million.
On December 28, 2001, we loaned $2.8 million to our shareholders,
including: Mario Sbarro, $0.60 million, Joseph Sbarro, $0.70 million, Anthony
Sbarro, $0.49 million, and the Trust of Carmela Sbarro, $0.99 million. The
related notes are payable on December 28, 2004, and bear interest at the rate of
2.48%, payable annually. After a loan repayment in March 2004, the current
balance of these loans is $2.58 million.
In March 2004, we extended a loan of $40,000 to Gennaro A. Sbarro,
Corporate Vice President and President of our Franchising and Licensing
Division, to March 28, 2010. The note is repayable at approximately $5,000 per
year, including interest at 2.69% per annum, with a balloon payment due at the
maturity date.
Anthony Missano, Corporate Vice President and President of Business
Development , entered into a note dated June 15, 2003 in our favor in the amount
of $89,687, The note is repayable at approximately $10,000 per year, including
interest at 2.96% per annum, with a balloon payment due on June 30, 2010. The
note is for the payment of royalties due us for 2001 and 2000 from a former
franchisee that was owned by Mr. Missano's wife, the daughter of Joseph Sbarro.
The current balance owed on the notes is $84,687.
The interest rates charged on all the related party loans included
above approximate the Applicable Federal Rate (AFR) published by the Internal
Revenue Service at the time of the loan. Interest income from related parties
was $222,577, $220,666 and $270,382 in the 2003, 2002 and 2001 fiscal years,
respectively.
Companies owned by a son of Anthony Sbarro paid royalties to us under
franchise agreements containing terms similar to those in agreements entered
into by us with unrelated franchisees. Royalties paid under these agreements in
fiscal 2003 were $89,496. The related franchise agreement contains terms similar
to those in agreements entered into by us with unrelated franchisees.
A corporation whose shareholder is the brother-in-law of our Chairman
of the entered into a franchise agreement with us at the time of the acquisition
from us of the assets of a Sbarro owned restaurant in fiscal 2002 that contains
terms similar to those in agreements entered into by us with unrelated
franchisees. We received promissory notes for each of the purchase price and
initial franchise fee that are payable over seven years and bear interest on the
unpaid principal balances at
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7% interest per annum. The current amount owed under the promissory notes of
$119,209 has been fully reserved as of December 28, 2003. In addition, we
subleased this location to that franchisee. Payments under the sublease are
being made directly to the landlord by the franchisee. Interest payments
received relating to the promissory notes was $4,067 in fiscal 2003. Royalties
paid under this arrangement in fiscal 2003 were $3,303 but royalties of
approximately $17,700 were not included in the statement of operations as they
were not collected during the fiscal year. The royalties and interest payments
noted above were collected in the beginning of fiscal 2003.
On March 3, 2003, a company in which Gennaro J. Sbarro, then our
Corporate Vice President and President of our Casual and Fine Dining Division
and the son of Joseph Sbarro, has a 50% interest (the other 50% is owned by an
unaffiliated third party) entered into a franchise agreement and a sublease with
us for a new location. The lease for the location had been entered into in
September 2002 by one of our subsidiaries. Subsequent to that date, we
determined that the economics of the location would be better suited for a
franchise operator and, as such, we entered into the franchise agreement and
subleased the premises to this franchisee. Payments under the sublease will be
made directly to the landlord by the franchisee. The franchise agreement is on
terms and conditions similar to those in other franchise arrangements we have
entered into in similar situations with unrelated third parties. The franchise
agreement provides for the payment of 5% of the location's sales as a continuing
royalty but does not provide for any initial franchise fee. Future minimum
rental payments under the lease for this location over the term of the lease,
which expires in 2018, aggregate approximately $2.4 million. Mr. Sbarro issued a
note in our favor for $54,538, that is repayable in eighteen equal monthly
installments of $3,030 which commenced in November 2002 with no interest, to
reimburse Sbarro for costs advanced by Sbarro in connection with the franchise
location. The balance on the note as of December 28, 2003 is $48,478. The
location is expected to open in the first quarter of fiscal 2004. As of October
31, 2003, Gennaro J. Sbarro resigned from his positions as Corporate Vice -
President and President of our Casual and Fine Dining division. A corporation
owned by Mr. Sbarro entered into an eighteen month agreement with us to provide
consulting services to our quick service and casual dining division for $22,500
per month and the reimbursement for customary and usual expenses that may be
incurred.
In October 2003, we sold the assets of three Sbarro-owned locations
separately to entities owned separately by each of three other of Anthony
Sbarro's sons. Two of the locations, which had no remaining book value, were
transferred for no consideration while the third was sold for $0.3 million, that
was paid in full, and resulted in a gain to Sbarro of approximately $0.1
million. Two of the locations were marginally profitable in fiscal 2002 while
the third had a small loss during that period. In connection with the sale of
the locations, the employment of the individuals with Sbarro was terminated and
we have included a charge for their total severance pay of approximately $60,000
in our results of operations for fiscal 2003. The franchise agreements are on
terms and conditions similar to those other franchise arrangements we have
entered into in similar situation with unrelated third parties. The agreements
provide for the payment of 5% of the location's sales as a continuing royalty
but does not provide for any initial franchise fee. Royalties of approximately
$16,400 have been included in the fiscal 2003 results of operations are unpaid
to date and fully reserved in the financial statements. In addition, we
subleased two of the locations to two of the franchisees. The third location is
on a month-to-month basis and any new lease entered into by the franchisee will
not be guaranteed or subleased by Sbarro. Payments under the subleases are being
made directly to the landlord by the franchisees. Future minimum rental payments
over the terms of the leases under the
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leases for the two locations being subleased which expire in 2006 and 2016,
aggregate approximately $2.0 million.
In January 2004, one of Mario Sbarro's daughters, resigned from her
position as Manager of Administration - Construction. A corporation owned by her
entered into a one year agreement to provide consulting services related to
construction matters to us for a series of monthly payments totaling $100,000.
We, our subsidiaries and our other concepts, in which we have an
interest, have purchased printing services from a corporation owned by a
son-in-law of Mario Sbarro for which they paid, in the aggregate, $340,269
during fiscal 2003. Based on our experience with non-affiliated printers that
provide similar services to us, we believe the services have been provided on
terms comparable to those available from unrelated third parties.
Bernard Zimmerman & Company, Inc., of which Bernard Zimmerman is
President and a majority shareholder, renders financial and consulting
assistance to us, for which it received fees of $315,200 for services during our
2003 fiscal year. Mr. Zimmerman is a member of Board of Directors. We have been
advised by Mr. Zimmerman that these fees were charged on a basis similar to
those that Bernard Zimmerman & Company, Inc. charges to unrelated clients.
In addition to the compensation of Mario, Anthony, Joseph, Gennaro A.
and Gennaro J. Sbarro and Anthony J. Missano:
o Carmela Sbarro, the mother of Mario, Anthony and Joseph
Sbarro, who was a co-founder of Sbarro and serves as Vice
President and a director, received $100,000 from us for
services rendered during fiscal 2003; and
o Carmela N. Merendino, a daughter of Mario Sbarro, who serves
as Vice President - Administration, earned $206,129 during
fiscal 2003.
o Other members of the immediate families of Mario, Anthony,
Joseph and Carmela Sbarro who are our employees, earned an
aggregate of $621,751 during fiscal 2003.
TAX PAYMENT AGREEMENT
We are 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, beginning in fiscal 2000. Therefore, we do not pay
federal and state and local income taxes for periods for which we are treated as
an S corporation. Rather, our shareholders include their pro-rata share of our
taxable income on their individual income tax returns and thus are required to
pay taxes with respect to their respective shares of our taxable income, whether
or not it is distributed to them.
We have entered into a tax payment agreement with our shareholders. The
tax payment agreement permits us to make periodic tax distributions to our
shareholders determined under a formula designed in amounts to approximate the
income taxes, including estimated taxes, that would be payable by our
shareholders if their only income was 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. We may only make the tax distributions with respect
to periods in which we are
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treated as an S corporation. We declared distributions to our shareholders, in
accordance with the tax payment agreement of $1.8 million in 2003 with respect
to fiscal 2002 earnings.
The tax payment agreement provides for adjustments of the amount of tax
distributions previously paid in respect of a year upon the filing of our
federal income tax return for that year, upon the filing of an amended federal
income tax return or as a result of an audit. In these circumstances, if it is
determined that the amount of tax distributions previously made for the year was
less than the amount computed based upon our federal income tax return, our
amended federal return or as adjusted based on the results of the audit, we may
make additional tax distributions which might include amounts to cover any
interest or penalties. Conversely, if it is determined in these circumstances
that the amount of tax distributions previously made for a year exceeded the
amount computed based on our federal income tax return, our amended federal
return or the results of an audit, as the case may be, our shareholders will be
required to repay the excess, with, in certain circumstances, interest. In
addition, our shareholders will be required to return, with interest, any tax
distributions previously distributed with respect to any taxable year for which
it is subsequently determined that we were not an S corporation.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
- -------- --------------------------------------
Our principal accountants for each of the past two years has been BDO Seidman,
LLP
AUDIT FEES:
The aggregate audit fees billed for each of the last two fiscal years for
professional services rendered by our principal accountants for the audit of our
annual financial statements included in our report on Form 10-K and review of
our quarterly financial statements included in our Reports on Form 10-Q were
$116,000 and $93,000 in fiscal 2003 and 2002, respectively.
AUDIT - RELATED FEES:
The aggregate fees billed in each of our last two fiscal years for assurance and
related services by our principal accountants that are reasonably related to the
performance of the audit or review of our financial statements not included in
Audit Fees were $19,400 in fiscal 2003. The services included consultation on
various new accounting pronouncements and their impact on us. We incurred no
audit-related fees in fiscal 2002.
TAX FEES:
The aggregate fees billed in each of the last two fiscal years for professional
services rendered by our principal accountants for tax compliance, tax advice
and tax planning were $64,550 and $54,300 in fiscal 2003 and 2002, respectively.
These services included, in each fiscal year reported, a review of our corporate
income and franchise tax returns, tax planning advice related to our tax returns
and tax advice relating to contemplated corporate transactions.
ALL OTHER FEES:
Other than the fees described above, we have not incurred any fees for any
services rendered by our principal accounting firm.
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PRE - APPROVAL POLICIES AND PROCEDURES:
It is our policy that, before we engage our principal accountants for any audit
or non - audit services, the engagement is approved by our audit committee. Our
audit committee has delegated to Richard A. Mandell, its Chairman and an
independent director, the authority to grant such pre-approvals during periods
when the audit committee is not in session and a meeting cannot be readily
convened. A decision by Mr. Mandell to pre-approve an audit or non-audit service
must be presented to the full audit committee at its next scheduled meeting. All
fees paid to and or billed by our principal accountants were approved in
accordance with the policy described above beginning May 6, 2003.
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PART IV
-------
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
- -------- ----------------------------------------------------
ON FORM 8-K
-----------
(a) (1) Consolidated Financial Statements
The following consolidated financial statements of Sbarro, Inc. and the
Report of Independent Auditors thereon are included in Item 8 above:
Page
----
Report of Independent Certified Public Accountants 38 - 40
Copy of Report of Independent Public Accountants (Arthur
Andersen LLP) 41
Consolidated Balance Sheets at December 28, 2003 and December
29, 2002 42 - 43
Consolidated Statements of Operations for each of the fiscal
years in the three-year period ended December 28, 2003 44
Consolidated Statements of Shareholders' Equity for each
of the fiscal years in the three-year period ended
December 28, 2003 45
Consolidated Statements of Cash Flows for each of the
fiscal years in the three-year period ended December 28, 2003 46 - 47
Notes to Consolidated Financial Statements 48 - 85
(a) (2) Financial Statement Schedules
The following financial statement schedule is filed as a part of this
Report on Page S-3: Schedule II - Valuation and Qualifying Accounts for the
three fiscal years ended December 28, 2003 is filed on page S-3 of this report.
All other schedules called for by Form 10-K are omitted because they are
inapplicable or the required information is shown in the financial statements,
or notes thereto, included herein.
(a) (3) Exhibits
Exhibits:
- ---------
*2.01 Agreement and Plan of Merger dated as of January 19, 1999
among Sbarro, Inc., Sbarro Merger LLC, a New York limited
liability company, Mario Sbarro, Joseph Sbarro, Joseph
Sbarro (1994) Family Limited Partnership, Anthony Sbarro,
and Mario Sbarro and Franklin Montgomery, not individually
but as trustees under that certain Trust Agreement dated
April
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28, 1984 for the benefit of Carmela Sbarro and her
descendants. (Exhibit 2 to our Current Report on Form 8-K
dated (date of earliest event reported) January 19, 1999,
File No. 1-8881)
*3.01(a) Restated Certificate of Incorporation of Sbarro, Inc. as
filed with the Department of State of the State of New York
on March 29, 1985. (Exhibit 3.01 to our Registration
Statement on Form S-1, File No. 2-96807)
*3.01(b) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the
State of New York on April 3, 1989. (Exhibit 3.01(b) to our
Annual Report on Form 10-K for the year ended January 1,
1989, File No. 1-8881)
*3.01(c) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the
State of New York on May 31, 1989. (Exhibit 4.01 to our
Quarterly Report on Form 10-Q for the quarter ended April
23, 1989, File No. 1-8881)
*3.01(d) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the
State of New York on June 1, 1990. (Exhibit 4.01 to our
Quarterly Report on Form 10-Q for the quarter ended April
22, 1990, File No. 1-8881)
*3.02 By-Laws of Sbarro, Inc., as amended. (Exhibit 3.1 to our
Registration Statement on Form S-4, File No. 333-90817)
*4.01 Indenture dated as of September, 28, 1999 among Sbarro,
Inc., our Restricted Subsidiaries named therein, as
guarantors, and Firstar Bank, N.A., including the form of
11% Senior Notes of Sbarro, Inc. to be issued upon
consummation of the Exchange Offer and the form of Senior
Guarantees of the Guarantors. (Exhibit 4.1 to our Current
Report on Form 8-K dated (date of earliest event reported)
September 23, 1999, File No. 1-8881)
*10.01(a) Building Lease between Sbarro Enterprises, L.P. and Sbarro,
Inc. (Exhibit 10.04 to our Registration Statement on Form
S-1, File No. 2-96807)
*10.01(b) Amendment dated May 4, 2000 to Building Lease between Sbarro
Enterprises, L.P. and Sbarro, Inc., (Exhibit 10.01(b) to our
Annual Report on Form 10-K for the year ended December 30,
2001, File No. 333-90817)
*+10.02 Form of Indemnification Agreement between Sbarro, Inc. and
each of its directors and officers. (Exhibit 10.04 to our
Annual Report on Form 10-K for the year ended December 31,
1989, File No. 1-8881)
*10.04 Tax Payment Agreement dated as of September 28, 1999 among
Sbarro, Inc., Mario Sbarro, Joseph Sbarro, Joseph Sbarro
(1994) Family Limited Partnership, Anthony Sbarro, and Mario
Sbarro and Franklin Montgomery, not individually but as
Trustees under that certain Trust Agreement dated April 28,
1984 for the benefit of Carmela Sbarro and her descendants
-99-
(Exhibit 10.6 to our Registration Statement on Form S-4,
File No. 333-90817)
*10.05(a) Distribution Agreement dated January 1, 2003 between Sbarro,
Inc. and Vistar Corporation (confidential treatment has been
granted with respect to certain portions of this
agreement).(Exhibit 10.05 of our Annual Report on Form 10-K
for the years ended December 29, 2002 File No. 333-90817).
10.05(b) Letter Agreement dated January 1, 2003 between Sbarro, Inc.
and Vistar Corporation (confidential treatment has been
requested with respect to certain portions of this letter
agreement).
*+10.06 Employment agreement, dated as of September 8, 2003 between
Sbarro, Inc. and Michael O'Donnell. (Exhibit 99.01 to our
Current Report on Form 8-K dated (date of earliest event
reported) September 8, 2003, File No. 333-90817)
12.01 Statement of computation of earnings to fixed charges
14.01 Code of Ethics - For Executive Officers and Directors of
Sbarro, Inc.
*21.01 List of subsidiaries. (Exhibit 21.01 to our Annual Report on
Form 10-K for the year ended January 2, 2000, File No.
333-90817)
31.01 Certification of Principal Executive pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.02 Certification of Vice President, Chief Financial Officer and
Principal Accounting Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.01 Certification of Principal Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.02 Certification of Vice President, Chief Financial Officer and
Principal Accounting Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
- ---------------------------
* Incorporated by reference to the document indicated.
+ Management contract or compensatory plan.
(b) Reports on Form 8-K
No Reports on Form 8-K were filed by us during the fourth quarter of
our fiscal year ended December 28, 2003.
-100-
UNDERTAKING
We hereby undertake to furnish to the Securities and Exchange
Commission, upon request, all constituent instruments defining the rights of
holders of long-term debt of our us and our consolidated subsidiaries not filed
with this Report. Those instruments have not been filed since none are, nor are
being, registered under Section 12 of the Securities Exchange Act of 1934 and
the total amount of securities authorized under any of those instruments does
not exceed 10% of the total assets of us and our subsidiaries on a consolidated
basis.
-101-
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) 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 on March
29, 2004.
SBARRO, INC.
By: /s/ MARIO SBARRO
-----------------------------------
Mario Sbarro, Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- --------- ----- ----
/s/ MICHAEL O'DONNELL President and Chief
- --------------------- Executive Officer March 29, 2004
Michael O'Donnell
/s/ ANTHONY J. PUGLISI Vice President, March 29, 2004
- ---------------------- Chief Financial Officer
Anthony Puglisi And Principal Accounting
Officer
/s/ MARIO SBARRO Director March 29, 2004
- ----------------
Mario Sbarro
/s/ JOSEPH SBARRO Director March 29, 2004
- -----------------
Joseph Sbarro
/s/ ANTHONY SBARRO Director March 29, 2004
- ------------------
Anthony Sbarro
/s/ HAROLD L. KESTENBAUM Director March 29, 2004
- ------------------------
Harold L. Kestenbaum
/s/ RICHARD A. MANDELL Director March 29, 2004
- -----------------------
Richard A. Mandell
/s/ CARMELA SBARRO Director March 29, 2004
- ------------------
Carmela Sbarro
/s/ TERRY VINCE Director March 29, 2004
- ---------------
Terry Vince
/s/ BERNARD ZIMMERMAN Director March 29, 2004
- ---------------------
Bernard Zimmerman
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
--------------------------------------------------
Board of Directors
Sbarro, Inc.
Melville, New York
The audits referred to in our report dated March 5, 2004 relating to the
consolidated financial statements of Sbarro, Inc. and subsidiaries, which is
contained in Item 8 of this Form 10-K included the audits of the accompanying
financial statement schedule for the years ended December 28, 2003 and December
29, 2002. This financial statement schedule is the responsibility of the
Company's management. Our responsibility is to express an opinion on this
financial statement schedule based upon our audits.
In our opinion, such financial statement schedule presents fairly, in all
material respects, the information set forth thereinfor the years ended Decmeber
28, 2003 and December 29, 2002.
/s/ BDO Seidman, LLP
New York, New York
March 5, 2004
S-1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE
----------------------------------------------------
To Sbarro, Inc.:
We have audited, in accordance with auditing standards generally accepted in the
United States, the consolidated financial statements of Sbarro, Inc. and
subsidiaries included in this filing and have issued our report thereon dated
March 21, 2002. Our audits were made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The accompanying schedule is
the responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
/s/ Arthur Andersen LLP
New York, New York
March 21, 2002
This is a copy of the report on the accompanying schedule previously issued by
Arthur Andersen LLP in connection with the schedule included in our filing on
Form 10-K for the fiscal year ended December 30, 2001. This audit report has not
been reissued by Arthur Andersen LLP in connection with this filing on Form
10-K.
S-2
SCHEDULE II
SBARRO, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
FOR THE THREE YEARS ENDED
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- -------- -------- -------- -------- --------
ADDITIONS
---------
Balance Charged
at to Charged to Balance at
Beginning Costs and Other End of
Description of Period Expenses Accounts Deductions Period
- ----------- --------- -------- -------- ---------- ------
December 28, 2003
- -----------------
Allowance for doubtful
accounts receivable $491 $435 $(438) (1) $488
==== ==== ====== ====
Provision for store closings $1,452 $2,030 $787 (2) $ 987
====== ====== ==== ======
$2,474 (3)
$(177) (4)
====
$(877) (5)
======
$(288)
======
December 29, 2002
- -----------------
Allowance for doubtful
accounts receivable $175 $350 $34 (1) $ 491
==== ==== === =====
Provision for store closings $1,467 $8,689 $1,333 (2) $1,452
====== ====== ====== ======
$7,413 (3)
$(42) (4)
December 30, 2001
- -----------------
Allowance for doubtful
accounts receivable $211 $ 61 $97 (1) $175
==== ======= === ====
Provision for store closings $50 $1,881 $464 (2) $1,467
=== ====== ==== ======
(1) Write off of uncollectible accounts.
(2) Payments to landlords and others for closed locations.
(3) Write off of property and equipment.
(4) Transfer of miscellaneous balances.
(5) Proceeds upon sale.
(6) Reversal of excess accrual.
S-3
EXHIBIT INDEX
-------------
EXHIBIT NUMBER DESCRIPTION
- -------------- -----------
*2.01 Agreement and Plan of Merger dated as of January 19, 1999 among
Sbarro, Inc., Sbarro Merger LLC, a New York limited liability
company, Mario Sbarro, Joseph Sbarro, Joseph Sbarro (1994) Family
Limited Partnership, Anthony Sbarro, and Mario Sbarro and Franklin
Montgomery, not individually but as trustees under that certain
Trust Agreement dated April 28, 1984 for the benefit of Carmela
Sbarro and her descendants. (Exhibit 2 to our Current Report on Form
8-K dated (date of earliest event reported) January 19, 1999, File
No. 1-8881)
*3.01(a) Restated Certificate of Incorporation of Sbarro, Inc. as filed with
the Department of State of the State of New York on March 29, 1985.
(Exhibit 3.01 to our Registration Statement on Form S-1, File No.
2-96807)
*3.01(b) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the State of
New York on April 3, 1989. (Exhibit 3.01(b) to our Annual Report on
Form 10-K for the year ended January 1, 1989, File No. 1-8881)
*3.01(c) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the State of
New York on May 31, 1989. (Exhibit 4.01 to our Quarterly Report on
Form 10-Q for the quarter ended April 23, 1989, File No. 1-8881)
*3.01(d) Certificate of Amendment to our Restated Certificate of
Incorporation as filed with the Department of State of the State of
New York on June 1, 1990. (Exhibit 4.01 to our Quarterly Report on
Form 10-Q for the quarter ended April 22, 1990, File No. 1-8881)
*3.02 By-Laws of Sbarro, Inc., as amended. (Exhibit 3.1 to our
Registration Statement on Form S-4, File No. 333-90817)
*4.01 Indenture dated as of September, 28, 1999 among Sbarro, Inc., our
Restricted Subsidiaries named therein, as guarantors, and Firstar
Bank, N.A., including the form of 11% Senior Notes of Sbarro, Inc.
to be issued upon consummation of the Exchange Offer and the form of
Senior Guarantees of the Guarantors. (Exhibit 4.1 to our Current
Report on Form 8-K dated (date of earliest event reported) September
23, 1999, File No. 1-8881)
*10.01(a) Building Lease between Sbarro Enterprises, L.P. and Sbarro, Inc.
(Exhibit 10.04 to our Registration Statement on Form S-1, File No.
2-96807)
*10.01(b) Amendment dated May 4, 2000 to Building Lease between Sbarro
Enterprises, L.P. and Sbarro, Inc., (Exhibit 10.01(b) to our Annual
Report on Form 10-K for the year ended December 30, 2001, File No.
333-90817)
*+10.02 Form of Indemnification Agreement between Sbarro, Inc. and each of
its directors and officers. (Exhibit 10.04 to our Annual Report on
Form 10-K for the year ended December 31, 1989, File No. 1-8881)
*10.04 Tax Payment Agreement dated as of September 28, 1999 among Sbarro,
Inc., Mario Sbarro, Joseph Sbarro, Joseph Sbarro (1994) Family
Limited Partnership, Anthony Sbarro, and Mario Sbarro and Franklin
Montgomery, not individually but as Trustees under that certain
Trust Agreement dated April 28, 1984 for the benefit of Carmela
Sbarro and her descendants (Exhibit 10.6 to our Registration
Statement on Form S-4, File No. 333-90817)
*10.05(a) Distribution Agreement dated January 1, 2003 between Sbarro, Inc.
and Vistar Corporation (confidential treatment has been granted with
respect to certain portions of this agreement).(Exhibit 10.05 of our
Annual Report on Form 10-K for the years ended December 29, 2002
File No. 333-90817).
10.05(b) Letter Agreement dated January 1, 2003 between Sbarro, Inc. and
Vistar Corporation (confidential treatment has been requested with
respect to certain portions of this letter agreement).
*+10.06 Employment agreement, dated as of September 8, 2003 between Sbarro,
Inc. and Michael O'Donnell. (Exhibit 99.01 to our Current Report on
Form 8-K dated (date of earliest event reported) September 8, 2003,
File No. 333-90817)
12.02 Statement of computation of earnings to fixed charges
14.01 Code of Ethics - For Executive Officers and Directors of Sbarro,
Inc.
*21.01 List of subsidiaries. (Exhibit 21.01 to our Annual Report on Form
10-K for the year ended January 2, 2000, File No. 333-90817)
31.01 Certification of Principal Executive pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.02 Certification of Vice President, Chief Financial Officer and
Principal Accounting Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.01 Certification of Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.02 Certification of Vice President, Chief Financial Officer and
Principal Accounting Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
- --------------------------
* Incorporated by reference to the document indicated.
+ Management contract or compensatory plan.