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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 26, 1999
OR
/ / 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 0-20792
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FRESH CHOICE, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 77-0130849
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2901 TASMAN DRIVE--SUITE 109, 95054-1169
SANTA CLARA, CA (Zip Code)
(Address of principal executive
offices)
Registrant's telephone number, including area code: (408) 986-8661
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $0.001 PAR VALUE
(Title of Class)
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definite proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K / /
Approximate aggregate market value of the registrant's Common Stock held by
nonaffiliates of the registrant (based on the closing sales price of such stock
as reported in the Nasdaq National Market) on February 29, 2000 was $8,935,000.
Excludes shares of Common Stock held by directors, officers and each person who
holds 5% or more of the outstanding Common Stock at February 29, 2000 because
such persons may be deemed to be affiliates. This exclusion is not a conclusive
determination of such status for other purposes.
Number of shares of Common Stock, $0.001 par value, outstanding as of
February 29, 2000 was 5,762,444.
DOCUMENTS INCORPORATED BY REFERENCE
DOCUMENTS FORM 10-K REFERENCE
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(1) Proxy Statement for the Annual Meeting of Stockholders
scheduled for May 18, 2000 Part III
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FRESH CHOICE, INC.
ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
PAGE
NO.
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PART I................................................................... 3
Item 1. BUSINESS.................................................... 3
Item 2. PROPERTIES.................................................. 14
Item 3. LEGAL PROCEEDINGS........................................... 15
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS......... 15
PART II.................................................................. 15
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS......................................... 15
Item 6. SELECTED FINANCIAL DATA..................................... 16
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS................................... 16
Item 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK........................................................ 26
Item 8 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................. 26
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE.................................... 26
PART III................................................................. 26
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.......... 26
Item 11. EXECUTIVE COMPENSATION...................................... 27
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT.................................................. 27
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............. 27
PART IV.................................................................. 27
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM
8-K......................................................... 27
SIGNATURES............................................................... 47
INDEX TO FORM 10-K EXHIBITS.............................................. 48
FORM 10-K EXHIBITS
2
PART I
Certain statements set forth in or incorporated by reference into this
Annual Report on Form 10-K, including anticipated store openings, planned
capital expenditures, settlement of lease obligations and trends in or
expectations regarding the Company's operations, constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Such statements are based on currently available operating, financial
and competitive information and are subject to various risks and uncertainties.
Actual future results and trends may differ materially depending on a variety of
factors as set forth under the heading "Business--Business Risks". In
particular, the Company's plans to open new restaurants could be affected by the
Company's ability to locate suitable restaurant sites, construct new restaurants
in a timely manner and obtain additional financing.
ITEM 1. BUSINESS.
As of February 29, 2000, the Company operated 49 restaurants, 48 restaurants
operate under the "Fresh Choice" and "Zoopa" brand names and one operates under
the "Fresh Choice Express" brand name. The Company operates 38 restaurants in
California, 4 restaurants in the state of Washington and 7 restaurants in Texas,
including the one Fresh Choice Express. In addition, the Company has a second
Texas Fresh Choice Express location under construction. Fresh Choice and Zoopa
restaurants feature an extensive selection of healthy, high-quality,
freshly-made specialty and traditional salads, hot pasta, pizza, hot baked
potatoes, soups, fresh breads and muffins, frozen yogurt and other desserts,
offered in a limited-service format. The Company's goal is to create a
distinctive dining experience that combines the selection, quality and ambiance
of full-service, casual restaurants with the convenience and value appeal of
traditional buffet restaurants.
The Fresh Choice and Zoopa restaurants use only fresh produce and
high-quality ingredients in its menu offerings. Fresh produce is delivered a
minimum of four days per week to each restaurant, and all menu items are
prepared on-site. To reinforce the Company's commitment to freshness, many of
the Company's food offerings are prepared in exhibition-style cooking areas
throughout the day. Guests make their selections from salads, soups, baked
potatoes, hot pasta, pizza, muffins, breads, bakery goods, fresh fruit, frozen
yogurt and specialty desserts.
The Company believes that it provides its guests an excellent price/value
relationship by offering unlimited servings for a current single price of $6.29
at weekday lunch, $6.99 for Saturday and Sunday lunch and $7.79 at dinner, in
most locations, plus the cost of a beverage. The Company's wide variety of
high-quality food and attractive prices are designed to appeal to a broad range
of guests, including families, business professionals, students and senior
citizens. In addition, the Company believes the concept appeals to
health-conscious diners who are focused on the nutritional content of their
meals.
The Company views its commitment to its employees or crewmembers as critical
to its long-term success. The Company depends on a high rate of repeat business,
and views the quality of its crewmember interaction with guests as an important
element of its strategy. By providing extensive training and competitive
compensation, the Company seeks to foster a strong corporate culture and
encourage a sense of personal commitment from crewmembers at all levels. The
Company believes that its strong culture helps it attract and retain
highly-motivated crewmembers who provide its guests with a level of service
superior to that traditionally associated with limited-service restaurants.
The Company acquired the Zoopa trade name and three Zoopa restaurants in
fiscal 1997 and currently operates its four (4) Washington restaurants and one
(1) restaurant in San Antonio, Texas under the Zoopa name. The Company did not
open any new Fresh Choice or Zoopa restaurants in fiscal 1999, however, the
Company did open one new test Fresh Choice Express in Texas. The Company has
generally attempted to cluster its restaurants in each market area to benefit
from operating and advertising efficiencies, enhance brand-name recognition, and
discourage competition.
3
In December 1992, the Company completed an underwritten initial public
offering of 1,112,500 shares of its Common Stock, with net offering proceeds of
$12,719,000. Stockholders of the Company sold 612,500 shares in this offering.
In July 1993, the Company sold 850,000 shares of its Common Stock in an
underwritten public offering, with net proceeds to the Company of $19,609,000.
Stockholders of the Company sold 525,000 shares in the same offering.
In December 1995, after an analysis of the sales potential and operating
economics of every restaurant in the chain, the Company announced a
$23.9 million restructuring plan. The plan called for closing as many as ten of
the Company's restaurants and for a partial write-down of assets to estimated
fair value in other restaurants. The Company closed or sold 11 restaurants under
this plan, including three restaurants in 1995 and an additional eight in 1996.
As of December 27, 1998, the Company had completed this restructuring plan.
In December 1998, the Company recorded a $3.7 million restructuring charge
for the closure of four previously impaired under-performing restaurants and for
the closure of two additional restaurants where it decided not to renew the
leases. The charge also included the impairment of two additional restaurants in
accordance with Statement of Financial Accounting Standards No. 121, "Accounting
for the Impairment of Long-lived Assets to be Disposed Of." ("SFAS No. 121") The
Company closed three of these restaurants in 1998 and another at the beginning
of 2000. After significant improvement in operating performance, management
reversed its decision to not renew the lease on one location and is evaluating
its options on the remaining restaurant.
In accordance with the Company's continuing strategy to dispose of
under-performing restaurants, the Company closed a previously impaired
restaurant in the third quarter of 1999 and recorded a restructuring and asset
impairment charge of $443,000, primarily for the estimated lease settlement and
other closure costs. In addition, during the fourth quarter the Company wrote
down the assets of another restaurant, as its lease expires in 2000, recording a
non-cash charge of $172,000 which was offset by the reversal of $157,000 of
excess accruals resulting from the settlement of the 1998 restaurant closures
for less than the previously estimated costs.
In September, 1996 the Company sold 1,187,906 shares of its Series B
Non-Voting Convertible Preferred Stock to Crescent Real Estate Equities Limited
Partnership ("Crescent") for $4.63 per share receiving net proceeds of
approximately $5,175,000 in a private offering. Crescent and/or its assignees
also had an option to purchase up to 593,953 shares of Series C Non-Voting
Convertible Preferred Stock at a price of $6.00 per share during a period of
three years which expired during 1999.
The Company was incorporated in California on October 20, 1986 under the
name Gourmet California, Inc. In August 1988, the Company was recapitalized as a
result of a merger with Moffett Partners, Inc., and the survivor of the merger
was re-named Fresh Choice, Inc. Effective December 4, 1992, the Company was
reincorporated in Delaware. Unless the context otherwise requires, all
references to the "Company" or "Fresh Choice" mean Fresh Choice, Inc. and its
predecessors.
STRATEGY
The Company's objective is to create a distinctive dining experience that
combines the selection, quality and ambiance of full-service, casual dining
restaurants with the convenience and value appeal of traditional buffet
restaurants. Each element of the Company's strategy is designed to exceed
guests' expectations, encourage repeat business, and establish a significant
presence in each of its targeted markets. The key elements of the Company's
strategy include the following:
FRESH, HEALTHY, HIGH-QUALITY FOOD. The Company is committed to using only
fresh produce and high-quality ingredients in its menu offerings. Fresh produce
is delivered a minimum of four days per week to each restaurant, and all menu
items are prepared on-site. To reinforce the Company's commitment to
4
freshness, many of the Company's food offerings are prepared in separate
exhibition-style cooking areas throughout the day. The Company maintains
stringent quality standards in identifying, purchasing and preparing fresh food
and ingredients.
EXTENSIVE FOOD SELECTION. The restaurant's broad selection of food
offerings is designed to appeal to a wide range of guests. Each restaurant
features a selection of specialty salads daily, prepared from recipes developed
by the Company, as well as salad ingredients and a variety of dressings that
allow guests to create their own salads. Each restaurant also offers a selection
of delicious freshly-prepared soups, hot pasta with a variety of signature
sauces, pizza, hot breads, muffins and other bakery goods, baked potatoes,
fruits, frozen yogurt and other desserts.
EXCELLENT PRICE/VALUE RELATIONSHIP. The Company believes its pricing
strategy, for offering unlimited servings, is an excellent price/value
alternative to other casual dining restaurants. Discounts are provided for young
children and senior citizens through the Company's Masters Club-TM-.
COMMITMENT TO GUEST SERVICE. The Company is committed to providing its
guests with a level of service superior to that traditionally associated with
limited-service restaurants. Fresh Choice depends upon a high rate of repeat
business, and views the quality of its crewmember interaction with guests as
critical to its long-term success. By providing extensive training and
competitive compensation, the Company believes it fosters a strong corporate
culture and encourages a sense of personal commitment from crewmembers at all
levels.
The Company devotes substantial attention and resources to maintaining the
cleanliness and consistent high-quality presentation of the salad bar and other
exhibition cooking areas in order to enhance the visual appeal of the Company's
offerings.
DISTINCTIVE DESIGN AND CASUAL ATMOSPHERE. The Company devotes significant
resources to the design and decor of its restaurants. The restaurants have a
flexible design which can accommodate a variety of available sites. The
Company's new restaurant design and decor incorporated into its new restaurants
and the current Fresh Choice restaurants remodel plan, uses an interior design
that is in the style of an open-air international marketplace, like a farmer's
market. The food is displayed in colorful arcades with fun and distinctive
signage segregating each arcade section.
RESTAURANT LOCATIONS. The Company's site selection strategy is generally to
cluster its restaurants in each of its target markets in order to realize
operating and marketing efficiencies, enhance brand-name recognition, and
discourage competition.
RESTAURANT ECONOMICS
For the 52 weeks ended December 26, 1999, the 49 Fresh Choice and Zoopa
restaurants open throughout the entire period generated average net sales of
approximately $1,485,000 and average cash flow, after occupancy expenses, of
approximately $200,500 or 13.5% of net sales. During fiscal 1999 the Company did
not open any new Fresh Choice or Zoopa restaurants. During fiscal 1998, the
Company opened two new restaurants in Texas at an average cash cost of
$1,140,000, not including pre-opening expenses.
CONCEPT AND MENU
Each Fresh Choice and Zoopa restaurant features a salad bar offering
signature specialty tossed and prepared salads with an extensive choice of salad
ingredients and dressings. All specialty tossed salads and specialty prepared
salads are clearly marked, and low-fat and fat-free items are prominently
identified. Throughout the day several crewmembers maintain the salad bar and
replenish individual salads and ingredients from the opposite side of the salad
bar, minimizing interference with guests. Separate exhibition-style arcades
offer fresh soups, hot pasta dishes, pizza, baked potatoes, hot breads, muffins
and
5
other bakery goods, fresh fruits, frozen yogurt and other desserts. During peak
hours, each guest is escorted to his or her table. Each guest may obtain
unlimited refills of all food dishes, soft drinks, lemonade, coffee and tea. The
Company is also actively improving the aesthetic appeal of its restaurants by
enhancing the merchandising of many of the fresh products used daily in the
arcades to create a more inviting, warm, and visually abundant atmosphere.
The Company has developed proprietary recipes for a broad assortment of
specialty salads, soups, pasta sauces, and muffins. In each product category,
the restaurants offer several standard dishes daily, and rotates additional
offerings to provide variety for the Company's many repeat guests. Each category
also contains daily offerings that are particularly low in fat. Because the
restaurants utilize a broad variety of produce and other ingredients in its
dishes and is not overly dependent on any individual recipe, it is able to
substitute dishes and ingredients in the event that weather conditions or supply
factors lead to high prices or shortages of particular produce items or other
ingredients. The Company believes that the flexibility of its menu allows it to
accommodate regional tastes.
SALADS. The restaurants offer signature specialty tossed salads and
specialty prepared salads, each of which is made from recipes created by the
Company, and salads made by the guest from a broad assortment of salad
ingredients. The salad bar in each restaurant features specialty tossed salads
that are prepared exhibition-style and are rotated frequently.
Each day the salad bar features a selection of specialty prepared salads
from among the Company's more than 50 recipes. The Company's salad bar also
offers more than 40 salad ingredients and toppings, allowing guests to create
their own salad. The ingredients include various types of lettuce and a broad
assortment of vegetables, cheeses, and other toppings. The Company offers 10
dressings and a selection of gourmet oils and vinegars.
SOUPS. The restaurants offer a variety of soups selected daily from among
its more than 50 soup recipes. All soups are prepared on-site utilizing fresh
produce and other high-quality ingredients, and include low-fat and non-fat
selections.
PASTA. The restaurants offer high quality pasta with a selection of two or
three freshly prepared signature sauces.
PIZZA. The restaurants offer tasty three-cheese pizza fresh from the oven
all day long. In addition, low fat vegetarian, pepperoni or other topped pizzas
may be offered.
MUFFINS AND BREADS. The restaurants offer a variety of muffins daily,
including a low-fat muffin, selected from among its more than 70 muffin recipes.
All muffins are baked in the exhibition bakery area and are replenished
frequently to ensure warmth and freshness. The restaurants also offer a variety
of freshly-baked breads, including sourdough french bread, harvest bread and
herbed bread sticks.
DESSERTS. The restaurants offer an assortment of desserts, including fresh
fruits, tapioca, chocolate pudding, frozen yogurt, tasty cakes, and a triple
chocolate decadence brownie.
BEVERAGES. The restaurants offer an assortment of fruit juices, fresh
lemonades and flavored iced teas. Fresh Choice also offers sodas and sparkling
waters, and in most restaurants, beer and wine. Refills of juices, lemonade,
soft drinks, coffee and tea are provided at no extra cost.
GUEST SERVICE
The Company is committed to providing a superior level of service in order
to distinguish itself from traditional limited-service restaurants. During peak
hours, guests are escorted from the salad bar to a table. Crewmembers are in the
dining area during meal hours to ensure each guest leaves the restaurant with
the intent to return. Guest servers provide follow up beverage service, clean
and bus tables, and attend to other guest needs.
6
The Company devotes substantial attention and resources to maintaining the
cleanliness and consistent high-quality presentation of the salad bar and other
exhibition cooking areas in order to enhance the visual appeal of the Company's
food offerings. The restaurant's crewmembers are present behind the salad bar
and in the exhibition cooking areas to replenish and replace food offerings, to
answer guest questions, and to assist guests in serving themselves. All
crewmembers in each restaurant are required to maintain a high standard of dress
and grooming.
The Company actively solicits guest input through the use of comment cards
prominently displayed in several areas in each restaurant, and attempts to
respond in writing to all guest comments and suggestions.
RESTAURANT DESIGN
The Company's restaurants utilize a 60-foot salad bar, with the cash
registers placed at the end of the salad bar in most of the restaurants before
the guest has access to the other food service areas. A few of the Company's
restaurants, including its new restaurants, have been designed so that the cash
registers are positioned toward the front of the restaurant to provide guests
with direct access to the various food service areas. The Company opened two new
restaurants in Texas in 1998. These restaurants incorporate an open, colorful,
fun, brighter, more inviting decor package and a more efficient layout. The new
decor has been incorporated into the Company's ongoing remodel plans.
The Company's restaurants range from 5,140 to 10,000 square feet, seating
from 160 to 290 guests. The Company's average Fresh Choice restaurant is
approximately 6,850 square feet and seats approximately 214 guests. Many of the
Company's restaurants provide limited outdoor seating. The flexible design of
the restaurants enables the Company to take advantage of a broad range of
available sites.
REMODELING
Remodeling is an integral part of the Company's strategic plan. Restaurants
typically require remodeling every five to seven years. The Company has
incorporated many of the design elements of its Zoopa restaurants into its
remodeling plans. Five restaurant remodels were completed and the new upgraded
salad bar top installed on three previously remodeled restaurants in 1999. The
Company invested approximately $736,000 on the remodeling of restaurants in
1999. Twenty-two (22) restaurants are scheduled to be remodeled and three
previously remodeled restaurants are scheduled to receive the new salad bar top
in 2000. The Company plans to invest approximately $1,700,000 to $1,900,000 in
these remodels in 2000. The remodeling of these restaurants would complete its
current remodel plans.
SITE SELECTION
To date, the Company has located its restaurants in regional malls, strip
centers and freestanding locations. The Company considers the location of each
restaurant to be critical to its long-term success, and management devotes
significant effort to the investigation and evaluation of potential sites. The
site selection process focuses on market area demographics including targets for
population, household income and education, as well as site specific
characteristics including daytime traffic volumes and patterns, visibility,
accessibility and availability of adequate parking. The Company also reviews
potential competition and guest activity at other restaurants operating in the
area. The Company believes that its flexibility in utilizing its different
restaurant layouts gives it a competitive advantage in selecting sites. The
Company requires approximately six to twelve months after identifying a site to
complete negotiation of a lease and construct and open a new restaurant. While
the Company currently leases most of its restaurant sites and expects to lease
virtually all of its sites in the future, it may purchase one or more sites for
construction of new restaurants if available on acceptable financial terms.
Currently, the Company owns land and buildings at two of its restaurant sites
and owns buildings on leased land at six others.
7
EXPANSION STRATEGY
The Company did not open any new Fresh Choice or Zoopa restaurants in 1999
and currently plans to open one additional Fresh Choice restaurant in 2000. In
1999, the Company opened one test Fresh Choice Express unit in Texas and
currently has another under construction in Texas. The Company is seeking a
third test location in its core Northern California market. The Fresh Choice
Express is designed for office buildings and other high traffic captive
locations utilizing our local restaurants for much of the prep work, thus
keeping capital and operating costs down. Further expansion of the Fresh Choice
Express concept will be based upon an evaluation of the results in these test
locations. In addition, the Company frequently reviews the operating performance
and profitability of its restaurants, and, to the extent they do not meet
expectations for operating performance, restaurants will be evaluated for
possible closure.
By clustering restaurants, the Company seeks to benefit from advertising and
operating efficiencies. In addition, clustering allows the Company to capture
more of the available guest base and to discourage competition. To the extent
that the Company elects to open new restaurants in clusters outside of its
existing Northern California markets, the Company expects that these restaurants
may benefit from certain volume purchasing discounts and operating efficiencies
generally applicable to its Northern California restaurants.
The Company currently operates all of its existing restaurants, and has no
current plans to offer franchises or to begin purchasing rather than leasing its
restaurant sites on a regular basis.
There can be no assurance that the restaurants will be successful outside
the Company's existing Northern California markets, in locations where the
Company has limited operating experience, where the weather is more seasonal, or
where regional tastes and restaurant preferences may be different. In addition,
the Company's ability to resume an expansion strategy will depend upon a variety
of factors, including the selection and availability of suitable restaurant
locations, the construction of new restaurants in a timely manner, the
availability of capital to finance expansion, equipment costs and other factors,
many of which are beyond the Company's control. As the Company resumes
expansion, there can be no assurance that the Company will be successful in
opening the number of restaurants anticipated, that those restaurants will be
opened in a timely manner, or that, if opened, those restaurants will be
operated profitably.
MARKETING AND PROMOTION
The Company's marketing strategy in its existing markets is to increase
unaided brand awareness toward building top-of-mind recall of the Fresh Choice
or Zoopa brand resulting in increased usage among targeted consumers.
The Company intends to maximize exposure within its target market with a
consistent program of high impact, four color, broad reaching mediums such as
free standing inserts in key newspapers. In addition, the Company intends to
continue to use targeted direct mail throughout the year in selected markets.
These tactics are designed to leverage both the high level of brand awareness
and build a positive identifiable perception of Fresh Choice and Zoopa in the
mind of the consumer. Additionally, by consistently providing a positive dining
experience, the Company believes it benefits from significant word-of-mouth
advertising.
In new markets, the marketing strategy is to build brand name awareness
where no or very low awareness exists. The Company intends to accomplish this
through the use of appropriate local advertising mediums and creative messages.
Prior to opening each new restaurant, the Company typically sponsors
fund-raisers and pre-opening parties in the restaurant with local charities or
schools to build community relationships and attract customers to the
restaurant.
8
RESTAURANT OPERATIONS AND MANAGEMENT
MANAGEMENT AND CREWMEMBERS. The Company has endeavored to establish a
strong corporate identity and culture and to maintain quality and consistency in
its restaurants through the careful training of personnel and the establishment
of rigorous standards relating to food purchasing and preparation and
maintenance of the serving areas and facilities. Responsibility for managing the
Company's restaurant operations is currently shared by seven regional managers,
who report to the Senior Vice President of Operations who reports to the
President and Chief Executive Officer. Regional managers are generally
responsible for four to ten restaurants.
The management staff of a typical Fresh Choice restaurant consists of one
general manager, two or three restaurant managers and a shift manager. The
Company externally recruits most of its restaurant managers, virtually all of
whom have prior restaurant management experience. Most of the Company's current
general managers have been promoted from restaurant managers. All newly hired
managers participate in the Company's training course. Each restaurant also
employs approximately 40 hourly crewmembers, many of whom work part-time. The
general manager of each restaurant is responsible for the day-to-day operation
and profitability of the restaurant. To enhance quality, service, cleanliness,
maintenance and safety, the Company has developed detailed systems, procedures
and controls with respect to labor and food cost standards, food preparation,
planning and scheduling. The Company's culture emphasizes a sense of ownership
and entrepreneurship. The Company maintains a variety of programs to reward
excellent service and performance by each crewmember at the restaurant level. In
addition to a competitive base salary, the Company has incentive plans that
rewards restaurant managers based upon achieving sales and profit targets,
controlling costs, quality of operations and tenure with the Company.
FOOD PURCHASING. The Company has designed systems for determining order
quantities and has developed preparation methods that together ensure freshness,
maximize usage and minimize waste. Most food items are purchased on a
centralized basis to ensure uniform quality and adequate supplies, and to obtain
competitive prices. To the extent possible, the Company purchases food items
pursuant to fixed-price, long-term contracts that are not subject to minimum
quantity requirements. All produce is purchased from sources that have been
pre-qualified to meet the Company's specifications. Produce is delivered
directly to individual restaurants. At each restaurant, the management team is
responsible for assuring that all deliveries meet the Company's guidelines
regarding freshness and quality. The Company believes alternate sources are
available for all products.
RECIPE DEVELOPMENT. The Company's food development efforts focus on
introducing compelling and innovative new recipes, as well as upgrading the
flavor profiles and presentation standards of existing recipe favorites.
The Company works with outside consultants on food and beverage market
research and consumer trends. Seasonal and upscale produce items are rotated
into the salad bar product mix to continue to have "the best salad bar in the
business".
TRAINING AND SUPPORT. The Company believes that its training programs have
been successful in developing commitment to the Company, a consistent level of
execution, and high-quality guest service. Upon joining Fresh Choice, each
restaurant manager participates in a training course that covers all aspects of
restaurant operations and develops management skills. All crewmembers are
instructed through a combination of written materials and hands-on training
prior to their performance being validated by a certified trainer and restaurant
management. In addition, the Company creates and facilitates management and
hourly crewmember workshops that apply to and support the Company's current
goals and objectives.
9
INFORMATION SYSTEMS. Each restaurant is equipped with a computer containing
programs to perform crewmember timekeeping and daily cash and sales reporting.
The automation of these important administrative responsibilities reduces the
time spent by restaurant managers preparing daily reports of cash, deposits,
sales, sales mix and guest counts, labor costs, and food waste. Reports are run
and distributed automatically to regional managers each morning as well as
compiled for executive management review. Payroll information is processed every
two weeks at the restaurants and transmitted electronically to the corporate
office, where the information is interfaced with the Company's outside payroll
service.
Financial controls are maintained centrally through a computerized
accounting system at the Company's corporate office. Sales are posted
electronically to the general ledger from the central cash and sales database.
Profit and loss statements are compiled every four weeks by the accounting
department and provided to the general managers and regional managers for
analysis and comparison to the Company's budgets.
HOURS OF RESTAURANT OPERATION. Most of the Company's restaurants are open
seven days a week, typically from 11:00 a.m. to 9:00 p.m. Sunday through
Thursday, and from 11:00 a.m. to 10:00 p.m. on Fridays and Saturdays.
COMPETITION
The Company's restaurants compete with the rapidly growing mid-price,
full-service casual dining segment; with traditional limited-service buffet,
soup, and salad restaurants; and, increasingly, with quick-service outlets. The
Company's competitors include national and regional chains, as well as local
owner-operated restaurants. Key competitive factors in the industry are the
quality and value of the food products offered, quality and speed of service,
price, dining experience, restaurant location and the ambiance of facilities.
The Company believes that it competes favorably with respect to these factors,
although many of the Company's competitors have been in existence longer than
the Company, have a more established market presence, and have substantially
greater financial, marketing and other resources than the Company, which may
give them certain competitive advantages. The Company believes that its ability
to compete effectively will continue to depend in large measure upon its ability
to offer a diverse selection of high-quality, fresh food products with an
attractive price/value relationship.
GOVERNMENT REGULATION
Each of the Company's restaurants is subject to various federal, state and
local laws, regulations and administrative practices affecting its business, and
must comply with provisions regulating health and sanitation standards, equal
employment, minimum wages and licensing for the sale of food and alcoholic
beverages. Difficulties or failures in obtaining or maintaining required beer
and wine licenses or other required licenses or approvals could delay or prevent
the opening of new restaurants or adversely affect the operations of existing
restaurants. The Company has no reason to believe that any of such future
license applications would not be approved.
TRADEMARKS AND SERVICE MARKS
"Fresh Choice", "Zoopa", "The Ultimate Soup & Salad Bar", "Fresh Choice
Masters Club" and "Fresh Choice Express" are registered marks of the Company.
The Company is also pursuing federal registration of its logo. The Company's
policy is to strenuously police the use of its marks and to oppose infringement
of its marks.
EMPLOYEES
As of February 29, 2000, the Company had approximately 1,975 crewmembers.
These included approximately 1,778 hourly restaurant crewmembers, of whom
approximately 1,330 were part-time crewmembers, approximately 158 full-time
restaurant managers and trainees and approximately 39
10
full-time corporate management and staff. None of the Company's crewmembers is
represented by a labor union. The Company believes that its employee relations
are excellent.
EXECUTIVE OFFICERS OF THE REGISTRANT
The executive officers of the Company as of February 29, 2000 are as
follows:
NAME AGE POSITION
- ---- -------- ------------------------------------------
Everett F. Jefferson...................... 61 President, Chief Executive Officer and
Director
David E. Pertl............................ 47 Senior Vice President and Chief Financial
Officer
Tim G. O'Shea............................. 52 Senior Vice President, Marketing
Joan M. Miller............................ 48 Senior Vice President, Human Resources
Tina E. Freedman.......................... 39 Senior Vice President, Product Development
and Purchasing
Steven A. Adkins.......................... 34 Senior Vice President, Operations
Mr. Jefferson was elected President and Chief Executive Officer and as a
director of the Company in February 1997. Mr. Jefferson has an extensive
background in restaurant operations. From June 1996 to February 1997
Mr. Jefferson was an independent consultant. From June 1993 to June 1996
Mr. Jefferson was President and Chief Executive Officer of Cucina
Holding, Inc., the operator of Java City coffee and bakery. From March 1990 to
June 1993 he was an independent consultant and independent restaurant operator.
From May 1987 to March 1990 he was President and Chief Executive Officer of
Skipper's, Inc. From May 1986 to April 1987 he was President of Kings
Table, Inc. Earlier in his career Mr. Jefferson was with Pizza Hut, Inc. for
five years including three years as Senior Vice President of operations and was
with Saga Corporation for ten years including two years as Regional Director of
the Southeast and Caribbean.
Mr. Pertl joined Fresh Choice in January 1997 as Vice President and Chief
Financial Officer and was named a Senior Vice President in December 1998.
Mr. Pertl was Vice President and Chief Financial Officer of Summit Family
Restaurants, Inc., a publicly-held family style restaurant company, from
September 1989 until July 1996, when Summit was acquired. From September 1977 to
September 1989 he held various financial positions with Ponderosa, Inc.,
including Senior Vice President and Chief Financial Officer from January 1987 to
September 1989.
Mr. O'Shea joined Fresh Choice in March 1996 as Vice President, Marketing
and was named a Senior Vice President in December 1998. From July 1991 to
March 1996 he was Vice President, Marketing for retail and foodservice products
for W.R. Grace and Co., a food processor. Mr. O'Shea has over 25 years of
experience in restaurant management and marketing including positions as Vice
President of Foodservice Marketing for Culinary Brands, Inc. from January 1987
to June 1991 and Vice President and General Manager of the hotel foodservices
division of Saga Corporation from October 1975 to January 1987.
Ms. Miller joined Fresh Choice in June, 1995 as Vice President, Human
Resources and was named a Senior Vice President in December 1998. From
March 1992 to March 1995 she was Vice President, Human Resources for Medallion
Mortgage Co., a mortgage banking company. From March 1990 to March 1992 she was
an attorney with Littler Mendelson Fastiff Tichy & Mathiason, specializing in
labor law. From 1981 to 1990 Ms. Miller was Senior Vice President, Human
Resources for Pacific Western Bank.
Ms. Freedman joined Fresh Choice in May 1992 as a restaurant manager and was
named Vice President, Product Development and Purchasing in August 1996, was
elected as an executive officer in March 1997 and was named a Senior Vice
President in December 1998. Ms. Freedman has held various positions at Fresh
Choice, including Director of Product Development from April 1995 to
August 1996, Director of Training from December 1994 to April 1995, Regional
Manager from October 1993 to December 1994, and General Manager from
September 1992 to October 1993. From September 1982 to May 1992 she was Director
of Food Services for Macy's, California, a retail/restaurant company.
11
Mr. Adkins joined Fresh Choice in September 1991 as a restaurant manger, was
named Vice President, Operations in December 1998 and was named a Senior Vice
President and elected as an executive officer in March 2000. Mr. Adkins has held
various positions at Fresh Choice, including Director of Operations from
May 1998 to December 1998, Regional Manager from January 1995 to May 1998, and
General Manager from November 1992 to January 1995.
BUSINESS RISKS
Certain characteristics and dynamics of the Company's business and of
financial markets in general create risks to the Company's long-term success and
to predictable financial results. These risks include:
OPERATING LOSSES AND HISTORICAL DECLINES IN COMPARABLE STORE SALES. The
Company's profitability began to decline in the second half of 1994. In the
fourth quarter of 1994, the Company reported its first operating loss, and
reported operating losses in both 1995 and 1996. The Company reported a modest
profit in 1997 but incurred an operating loss in 1998. For 1999 the Company
reported a modest profit.
Beginning late in the third quarter of fiscal 1994, the Company began
reporting comparable store sales declines. Comparable store sales continued to
decline in each quarter through the end of 1998. The Company reported comparable
store sales declines of 4.6%, 15.3%, 5.9%, 2.7% and 4.8% for fiscal years 1994,
1995, 1996, 1997 and 1998 respectively. During 1999 the Company reported
positive comparable store sales in each quarter and reported a comparable store
sales increase of 3.5% for fiscal year 1999. There can be no assurance that
comparable store sales will continue to improve or that the Company will
maintain profitability over the long-term.
EXPANSION. The Company experienced substantial growth prior to mid-1995,
having opened 14 restaurants in 1993, 15 restaurants in 1994, and seven in 1995.
In 1995, the Company suspended its expansion plans after opening seven
restaurants, reviewed the operating performance of all of its restaurants, and
identified certain restaurants which did not meet its expectations for operating
performance. As a result, in December 1995 the Company announced a restructuring
plan to close as many as ten restaurants. The Company closed or sold eleven
restaurants under this program, including three at the end of 1995, and eight in
1996. The Company opened one Fresh Choice restaurant in 1996. In 1997, the
Company acquired the Zoopa trade name and three Zoopa restaurants and also
opened two new Zoopa restaurants. In 1998 two additional restaurants were
opened. In September 1998, the Company announced a plan to close four additional
previously impaired underperforming restaurants and for the closure of two
additional restaurants where it decided not to renew the leases. To date, four
of these restaurants have been closed, the Company reversed its decision to not
renew the lease on one restaurant after a significant improvement in operating
performance and is evaluating its options on the remaining restaurant. In
addition, the Company closed a restaurant and sold another restaurant during the
third quarter of 1999. No new Fresh Choice or Zoopa restaurants opened in 1999.
The Company opened its first Fresh Choice Express, on a test basis, in Fort
Worth, Texas in the third quarter of 1999, has another test location currently
under construction in Texas and is seeking a third test location in its core
Northern California market. The Company believes its growth depends to a
significant degree on its ability to open new restaurants and to operate such
restaurants profitably. While the Company intends to resume its expansion,
assuming its financial performance continues to improve, there can be no
assurance that the Company will be able to continue expansion. The Company's
ability to implement successfully an expansion strategy will depend on a variety
of factors, including the selection and availability of affordable sites, the
selection and availability of capital to finance restaurant expansion and
equipment costs, the ability to hire and train qualified management and
personnel, the ability to control food and other operating costs, and other
factors, many of which are beyond the Company's control.
While on a long-term basis the Company intends to expand its operations in
markets outside of California, assuming its financial performance continues to
improve, there can be no assurance as to when or whether the Company will resume
its expansion. The Company's expansion plans may include entering
12
new geographic regions in which the Company has no previous operating
experience. There can be no assurance that the concept will be successful in
regions outside of California, where tastes and restaurant preferences may be
different. As of February 29, 2000, the Company had opened or purchased ten
restaurants in Texas, including its test Fresh Choice Express, six restaurants
in the state of Washington and three restaurants in the Washington, D.C.
metropolitan area. Of the eighteen restaurants closed or sold, three were in
Texas, two were in the state of Washington, ten were in California, and three
were in the Washington, D.C. metropolitan area (where the Company no longer
operates).
GEOGRAPHIC CONCENTRATION. As of February 29, 2000, 38 of the Company's 49
restaurants are located in California, primarily in Northern California.
Accordingly, the Company is susceptible to fluctuations in its business caused
by adverse economic conditions in this region. In addition, net sales at certain
of the Company's restaurants have been adversely affected when a new Company
restaurant has been opened in relatively close geographic proximity, and such
pressure may continue to depress annual comparable store sales. There can be no
assurance that expansion within existing or future geographic markets will not
adversely affect the individual financial performance of Company restaurants in
such markets or the Company's overall results of operations. In addition, given
the Company's present geographic concentration in Northern California, adverse
weather conditions in the region or negative publicity relating to an individual
Company restaurant could have a more pronounced adverse affect on net sales than
if the Company's restaurants were more broadly dispersed.
VOLATILITY OF STOCK PRICE. The market price of the Company's Common Stock
has fluctuated substantially since the initial public offering of the Common
Stock in December 1992. Changes in general conditions in the economy, the
financial markets or the restaurant industry, natural disasters or other
developments affecting the Company or its competitors could cause the market
price of the Company's Common Stock to fluctuate substantially. In addition, in
recent years the stock market has experienced extreme price and volume
fluctuations. This volatility has had significant effect on the market prices of
securities issued by many companies, including the Company, for reasons
sometimes unrelated to the operating performance of these companies. Any
shortfall in the Company's net sales or earnings from levels expected by
securities analysts could have an immediate and significant adverse effect on
the trading price of the Company's Common Stock in any given period.
Additionally, such shortfalls may not become apparent until late in the fiscal
quarter, which could result in an even more immediate and significant adverse
effect on the trading price of the Company's Common Stock.
SEASONALITY AND QUARTERLY FLUCTUATIONS. The Company's restaurants have
typically experienced seasonal fluctuations, as a disproportionate amount of net
sales and net income are generally realized in the second and third fiscal
quarters. In addition, the Company's quarterly results of operations have been,
and may continue to be, materially impacted by the timing of new restaurant
openings and restaurant closings. The fourth quarter normally includes 16 weeks
of operations as compared with 12 weeks for each of the three prior quarters.
The fourth quarter of 2000 will include 17 weeks. As a result of these factors,
net sales and net income in the fourth quarter are not comparable to results in
each of the first three fiscal quarters, and net sales and net income can be
expected to decline in the first quarter of each fiscal year in comparison to
the fourth quarter of the prior fiscal year. Comparable store sales, which had
been negative for four consecutive years through fiscal year 1998, may again
turn negative.
DEPENDENCE ON KEY PERSONNEL. The success of the Company depends on the
efforts of key management personnel. The Company's success will depend on its
ability to motivate and retain its key crewmembers and to attract qualified
personnel, particularly general managers, for its restaurants. The Company faces
significant competition in the recruitment of qualified crewmembers.
RESTAURANT INDUSTRY. The restaurant industry is affected by changes in
consumer tastes, as well as national, regional and local economic conditions and
demographic trends. The performance of individual restaurants, including the
Company's restaurants, may be affected by factors such as traffic patterns,
demographic considerations, and the type, number and location of competing
restaurants. In addition,
13
factors such as inflation, increased food, labor and crewmember benefit costs,
and the availability of experienced management and hourly crewmembers may also
adversely affect the restaurant industry in general and the Company's
restaurants in particular. Restaurant operating costs are affected by increases
in the minimum hourly wage, unemployment tax rates, and various federal, state
and local governmental regulations, including those relating to the sale of food
and alcoholic beverages. There can be no assurance that the restaurant industry
in general, and the Company in particular, will be successful.
COMPETITION. The Company's restaurants compete with the rapidly growing
mid-price, full-service casual dining segment; with traditional limited-service
buffet, soup, and salad restaurants; and, increasingly, with quick-service
outlets. The Company's competitors include national and regional chains, as well
as local owner-operated restaurants. Key competitive factors in the industry are
the quality and value of the food products offered, quality and speed of
service, price, dining experience, restaurant location and the ambiance of
facilities. Many of the Company's competitors have been in existence longer than
the Company, have a more established market presence, and have substantially
greater financial, marketing and other resources than the Company, which may
give them certain competitive advantages. The Company believes that its ability
to compete effectively will continue to depend in large measure upon its ability
to offer a diverse selection of high-quality, fresh food products with an
attractive price/value relationship.
ABILITY TO OBTAIN ADDITIONAL FINANCING. The Company intends to resume
restaurant expansion, assuming its financial performance continues to improve.
The Company's ability to implement an expansion strategy will depend upon a
variety of factors, including the success of its restructuring plan in restoring
profitability and its ability to obtain funds. The Company believes its
near-term capital requirements can be met through its existing cash balances,
cash provided by operations and its available line of credit. However, the
Company may seek additional financing to provide greater flexibility toward
improving its operating performance. There can be no assurance that the Company
will be able to obtain additional financing when needed on acceptable terms or
at all.
CONTROL BY MAJOR SHAREHOLDER. Crescent Real Estate Equities Limited
Partnership holds 1,187,906 shares of Series B non-voting convertible preferred
stock, which is convertible into Series A voting convertible preferred stock at
any time at the option of the holder. Upon conversion, holders of Series A
preferred stock would be entitled to vote with common stockholders and would
have a separate right to approve certain corporate actions, such as amending the
Company's Certificate of Incorporation or Bylaws, effecting a merger or sale of
the Company, or making a fundamental change in the Company's business activity.
In addition, because the Company did not achieve an earnings target (before
interest, taxes, depreciation and amortization) of $5,500,000 in 1998, the
holders of Series A preferred stock would have the right to elect a majority of
the Company's Board of Directors. These factors could have the effect of
delaying, deferring or preventing a change in control of the Company and, as a
result, could discourage acquisition bids for the Company and limit the price
that investors are willing to pay for shares of common stock.
ITEM 2. PROPERTIES.
The Company currently owns both the land and buildings at two of its
restaurant locations, and owns restaurant buildings on leased land at six other
locations. The Company leases all of its other restaurant locations, but may
purchase future restaurant locations where it believes it is cost-effective to
do so. The Company's restaurants are located in regional malls, strip centers,
and freestanding locations.
The Company's restaurants range from 5,140 to 10,000 square feet seating
from 160 to 290 guests. Many of the Company's restaurants provide limited
outdoor seating.
Restaurant locations leased by the Company are typically leased under
"triple net" leases that require the Company to pay real estate taxes,
maintenance costs and insurance premiums and, in many cases, to
14
pay contingent rentals based on sales in excess of specified amounts. Generally,
the leases have initial terms of ten to twenty years, with options to renew for
additional periods which range from five to fifteen years. Of the Company's
current leases all, except four, have remaining terms or renewal options
extending more than five years following the date of this report.
The Company currently leases a separate facility for its executive
headquarters pursuant to a lease which expires December 31, 2000. The Company
believes that such facility is adequate for its office space requirements
through fiscal 2000. If additional space is required in the future, the Company
further believes that suitable facilities can be leased on commercially
reasonable terms.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, the Company may be involved in litigation relating to
claims arising out of its operations. As of the date of this Annual Report on
Form 10-K, the Company is not engaged in any legal proceedings that are
expected, individually or in the aggregate, to have a material adverse effect on
the Company's business, financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
STOCK INFORMATION. Fresh Choice, Inc.'s common stock trades on The Nasdaq
Stock Market-Registered Trademark- under the Symbol: SALD. At February 29, 2000,
5,762,444 shares were owned by 349 stockholders of record. The following are the
Company's common stock high and low closing sales prices for the fiscal years
1998 and 1999:
1998 HIGH LOW
- ---- ---------- -----------
First Quarter............................................... 3 5/8 2 3/4
Second Quarter.............................................. 4 2 13/16
Third Quarter............................................... 3 9/16 2
Fourth Quarter.............................................. 2 1/8 1 1/8
1999 HIGH LOW
- ---- --------- -----------
First Quarter............................................... 2 3/4 1 34/64
Second Quarter.............................................. 2 7/8 2
Third Quarter............................................... 2 3/4 1 7/8
Fourth Quarter.............................................. 2 1/4 1 5/8
Fresh Choice, Inc. had its initial public offering on December 9, 1992 at a
price of $13.00. Fresh Choice, Inc. had a follow-on public offering on July 15,
1993 at a price of $25.00.
The Company has not paid cash dividends on its common stock, and presently
intends to continue this policy in order to retain its earnings for the
development of the Company's business. In addition, the Company's current line
of credit prohibits the payment of dividends.
On September 13, 1996, the Company sold to Crescent Real Estate
Equities Ltd. ("Crescent") 1,187,906 shares of Series B Non-Voting Convertible
Participating Preferred Stock ("Series B Preferred Stock"), and granted Crescent
an option to purchase 593,953 shares of Series C Non-Voting Convertible
Participating Preferred Stock, which expired in 1999, ("Series C Preferred
Stock") (collectively, the "Stock") for an aggregate purchase price of
approximately $5.5 million, or $4.63 per share of Series B
15
Preferred Stock pursuant to a Preferred Stock Purchase Agreement dated
April 26, 1996. The Series B Preferred Stock is convertible into Series A Voting
Convertible Participating Preferred Stock ("Series A Preferred Stock") at any
time at the option of the holder, and the Series A, Series B and Series C
Preferred Stock is convertible into Common Stock at any time at the option of
the holder. The Company offered and sold the Stock to Crescent, a sophisticated
investor who purchased such shares for investment purposes, as transactions not
involving a public offering pursuant to the exemption from registration
provisions of Section 4(2) of the Securities Act of 1933, as amended.
ITEM 6. SELECTED FINANCIAL DATA.
A five-year summary of selected financial data follows:
DECEMBER 26, DECEMBER 27, DECEMBER 28, DECEMBER 29, DECEMBER 31,
1999 1998 1997 1996 1995
------------ ------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Net sales....................... $74,071 $73,887 $72,978 $76,691 $84,280
Operating income (loss)......... 679 (6,199) 219 (1,818) (30,321)
Net income (loss)............... 185 (6,443) 333 (2,001) (27,796)
Basic net income (loss) per
share......................... 0.03 (1.13) 0.06 (0.36) (5.05)
Diluted net income (loss) per
share......................... 0.03 (1.13) 0.05 (0.36) (5.05)
Total assets.................... 31,857 33,205 35,608 37,166 37,306
Working capital (deficiency).... (3,822) (7,201) (3,830) (2,726) (8,912)
Long-term debt and capital lease
obligations, including current
portion....................... 3,242 1,647 118 208 615
Stockholders' equity............ $20,212 $19,946 $26,318 $25,916 $22,291
Number of restaurants open at
end of year................... 50* 51 53 48 55
- ------------------------
* Includes one Fresh Choice Express
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT PURSUANT TO THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
Certain statements set forth in this discussion and analysis of financial
condition and results of operations including anticipated store openings,
planned capital expenditures and trends in or expectations regarding the
Company's operations constitute "forward-looking statements" within the meaning
of the Private Securities Litigation Reform Act of 1995. Such statements are
based on currently available operating, financial and competitive information
and are subject to various risks and uncertainties. Actual future results and
trends may differ materially depending on a variety of factors as set forth
under the heading "Business--Business Risks."
RESULTS OF OPERATIONS
Fresh Choice, Inc. operates limited-service restaurants offering high
quality, freshly made specialty and traditional salads, hot pasta, pizza, hot
baked potatoes, soups, fresh breads and muffins, frozen yogurt and other
desserts. The Company operated 50 restaurants at December 26, 1999, 51
restaurants at December 27, 1998, and 53 restaurants at December 28, 1997. The
Company's fiscal year ends on the last Sunday in December. Fiscal years 1999,
1998 and 1997 each contained 52 weeks.
16
During 1998, the Company completed a restructuring plan previously announced
at the end of 1995. In connection with its 1995 restructuring plan, the Company
closed or sold eleven restaurants, three in 1995 and eight in 1996 and curtailed
restaurant expansion. The Company returned to profitability in 1997, reporting
net income of $333,000, after incurring operating losses of $2,001,000 in 1996
and $27,796,000 in 1995 (including a $23,932,000 restructuring and asset
impairment charge). The Company also resumed restaurant expansion in 1997,
purchasing three restaurants in Washington and building two restaurants in
Texas. The Company reported an operating loss of $6,443,000, including a
$3,710,000 restructuring and asset impairment charge, in 1998 and discontinued
its restaurant expansion to focus on its core restaurant operations after
opening two additional restaurants in Texas. The Company was again profitable in
1999, reporting net income of $185,000 and developed and opened its first Fresh
Choice Express.
After opening its first restaurant in 1986, Fresh Choice expanded steadily,
its early growth driven by the strong unit economics of its restaurants. The
Company operated 22 restaurants at the time of its initial public offering in
December 1992. With $12,719,000 in net proceeds from its initial offering and an
additional $19,609,000 in net proceeds from a secondary offering in July 1993,
the Company accelerated its growth, opening 14 new restaurants in 1993
(including its first two restaurants outside of California), 15 new restaurants
in 1994 (including seven restaurants outside of California), seven restaurants
in 1995 (of which two are located outside of California) and one restaurant in
1996. The Company opened a number of locations which have not reached
anticipated sales levels and opened a greater percentage of restaurants in
freestanding buildings. The increase in freestanding units and other refinements
and the expansion of the Company's restaurant configuration and decor resulted
in an increase in the Company's initial cash investment in new units. At the
same time, the Company experienced unanticipated declines in sales at its
restaurants, resulting in part from increased competition in the casual/family
dining sector and greater than expected cannibalization of its existing
restaurants. The Company's profitability began to decline in the second half of
1994, and the Company reported its first operating loss in the fourth quarter of
1994. The Company reported additional operating losses for each quarter of 1995.
In 1995, after an analysis of the sales potential and operating economics of
every Fresh Choice restaurant, the Company finalized and announced a
restructuring plan to help restore profitability. The plan included closing as
many as ten of the Company's restaurants, of which seven restaurants were
included in a reserve for closures, and a partial write-down of assets to
estimated fair value for thirteen other restaurants. The Company recorded a
$23.9 million restructuring charge in 1995 in connection with the plan. At year
end 1995, the Company closed three restaurants.
The Company continued to incur an operating loss for 1996. As of year end
1996, the Company had closed or sold eleven restaurants, including the sale of
two restaurants and the closure of a third restaurant in the Washington, D.C.
market.
During 1997, the Company successfully introduced a number of cost control
programs which resulted in the Company reporting a profit of $333,000 in 1997.
The Company closed no additional restaurants in 1997 but identified one
restaurant for closure at the end of its lease term in 1998. The restaurant
closed in 1998 with no material financial impact.
In the fourth quarter of 1998, the Company announced a plan which provided
for the closure of four previously-impaired restaurants, the closure of two
additional restaurants at the end of their lease terms in 1999, and a write-down
of restaurant assets to fair market value for two other restaurants. The Company
recorded a $3,710,000 restructuring and asset impairment charge in connection
with the plan which was implemented in response to the continued poor operating
performance of the four previously-impaired restaurants, the cannibalization of
sales resulting from over-building in the Company's core Northern California
market and lower-than-anticipated sales at certain new restaurants. The Company
closed three of these restaurants in 1998 and another at the beginning of 2000.
After significant improvement in operating performance, management reversed its
decision to not renew the lease on one location and is evaluating its options on
the remaining restaurant.
17
During 1999, the Company reported four consecutive quarters of comparable
store sales growth. This sales growth, along with the continued management of
costs, resulted in the Company reporting a profit of $185,000 in 1999. The
Company closed two restaurants in 1999. In accordance with the Company's
strategy to dispose of under-performing restaurants, the Company closed a
previously impaired restaurant in the third quarter of 1999 and recorded a
restructuring and asset impairment charge of $443,000, primarily for the
estimated lease settlement and other closure costs. In accordance with the
Company's continuing strategy to close restaurants that compete with other Fresh
Choice restaurants, the Company sold the property and equipment of another
restaurant, received cash proceeds of $692,000 and recorded a gain of $452,000.
In addition, during the fourth quarter, the Company wrote down the assets of
another restaurant whose lease expires in 2000, recording a non-cash charge of
$172,000 which was offset by the reversal of $157,000 of excess accruals
resulting from the settlement of the 1998 restaurant closures for less than
previously estimated costs.
The following table presents the components of average operating income on a
per restaurant basis, based on the average number of Fresh Choice restaurants
open during the year (the Company's Fresh Choice Express is excluded):
1999 1998 1997
------------------- ------------------- -------------------
(DOLLARS IN THOUSANDS)
NET SALES...................................... $1,468 100.0% $1,393 100.0% $1,456 100.0%
------ ----- ------ ----- ------ -----
COSTS AND EXPENSES:
Cost of sales................................ 359 24.5 364 26.2 389 26.7
Restaurant operating expenses:
Labor...................................... 476 32.4 459 32.9 450 30.9
Occupancy and other........................ 441 30.1 443 31.8 440 30.2
Depreciation and amortization................ 71 4.8 71 5.1 62 4.3
------ ----- ------ ----- ------ -----
Total costs and expenses................... 1,347 91.8 1,337 96.0 1,341 92.1
------ ----- ------ ----- ------ -----
RESTAURANT OPERATING INCOME.................... $ 121 8.2% $ 56 4.0% $ 115 7.9%
====== ===== ====== ===== ====== =====
Average Fresh Choice restaurants open.......... 50.3 53.0 50.1
------ ------ ------
18
The following table sets forth items in the Company's statements of
operations as a percentage of sales:
1999 1998 1997
------------------- ------------------- -------------------
(DOLLARS IN THOUSANDS)
NET SALES................................. $74,071 100.0% $73,887 100.0% $72,978 100.0%
------- ----- ------- ----- ------- -----
COSTS AND EXPENSES:
Cost of sales........................... 18,131 24.5 19,322 26.2 19,480 26.7
Restaurant operating expenses:
Labor................................. 24,051 32.5 24,345 32.9 22,566 30.9
Occupancy and other................... 22,220 30.0 23,503 31.8 22,041 30.2
Depreciation and amortization........... 3,539 4.8 3,739 5.1 3,082 4.2
General and administrative expenses..... 5,445 7.3 5,467 7.4 5,590 7.7
Gain on sale of property & equipment.... (452) (0.6) - - - -
Restructuring and asset impairment
expenses.............................. 458 0.6 3,710 5.0 - -
------- ----- ------- ----- ------- -----
Total costs and expenses.............. 73,392 99.1 80,086 108.4 72,759 99.7
------- ----- ------- ----- ------- -----
OPERATING INCOME (LOSS)................... 679 0.9 (6,199) (8.4) 219 0.3
Interest income......................... 82 0.1 12 - 166 0.2
Interest expense........................ (506) (0.7) (256) (0.3) (52) -
------- ----- ------- ----- ------- -----
Interest income (expense), net.......... (424) (0.6) (244) (0.3) 114 0.2
------- ----- ------- ----- ------- -----
INCOME (LOSS) BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE.......... 255 0.3 (6,443) (8.7) 333 0.5
Cumulative effect of change in
accounting principle--adoption of SOP
98-5, "Reporting on the Costs of
Start-Up Activities".................. (70) (0.1) - - - -
------- ----- ------- ----- ------- -----
NET INCOME (LOSS)......................... $ 185 0.2% $(6,443) (8.7)% $ 333 0.5%
======= ===== ======= ===== ======= =====
NET SALES. In 1999, net sales increased $0.2 million, or 0.1%, to
$74.1 million. Sales increased $2.1 million at the Company's 48 restaurants open
in both 1999 and 1998. The six restaurants closed in 1998 and 1999 accounted for
a $2.7 million decline in sales. One new restaurant opened in 1998 and the Fresh
Choice Express opened in 1999 contributed $0.8 million to net sales.
In 1998, net sales increased $0.9 million, or 1.2%, to $73.9 million. Two
restaurants opened in 1998 and five restaurants acquired or opened in 1997
contributed $4.9 million to sales offset by a $3.2 million sales decline in the
Company's 44 comparable restaurants. Four restaurants closed in 1998 accounted
for a $0.8 million decline in sales.
The Company utilizes an 18-month basis for reporting comparable store sales
which management believes represents a more realistic indication of the base
business trends. On this basis, comparable store sales increased 3.5% in 1999
following decreases of 4.8% in 1998, and 2.7% in 1997. Comparable store guest
counts decreased 1.9% in 1999 following declines of 6.1% in 1998, and 6.8% in
1997.
The comparable store average check increased 5.5%, 1.4% and 4.0% in 1999,
1998 and 1997, respectively, primarily reflecting price increases in response to
federal and state-mandated increases in the minimum wage and other cost
increases.
COST OF SALES. Cost of sales (food and beverage costs) were 24.5%, 26.2%,
and 26.7% of net sales in 1999, 1998, and 1997, respectively. Food and beverage
costs declined as a percentage of sales each year due
19
to the combined effect of controlling food cost per guest and increases in the
average check. In addition, food costs benefited from the Company's food program
which manages cost through an efficient product rotation while maintaining a
quality menu offering to the guest. Cost efficiencies experienced with new
products and production methods also contributed to lower food costs.
RESTAURANT OPERATING EXPENSES. Restaurant operating expenses (labor,
occupancy and other) were 62.5%, 64.7%, and 61.1% of net sales in 1999, 1998 and
1997, respectively. In 1999, the fixed cost portion of labor became lower as a
percentage of sales, despite average wage increases, due to a higher average
check. In addition, labor costs benefited from labor savings resulting from
improved production methods. As a result, labor costs were 1.4% of sales lower
than in 1998. In addition, occupancy and other costs were 1.8% of sales lower
primarily due to the impact of the higher average check and lower food promotion
costs. In 1998, the fixed cost portion of labor became higher as a percentage of
sales as comparable store sales declined and the average wage increased due to
minimum wage increases and a highly competitive labor market. As a result, labor
costs were 2.0% of sales higher than in 1997. In addition, occupancy and other
costs were 1.6% of sales higher primarily due to the impact of the comparable
store sales decline on these mostly fixed costs and to CPI-related rent
increases offset by lower advertising costs. The Company invested 3.0% of sales
in advertising in 1998 compared to 3.6% of sales in 1997.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expenses were
4.9%, 5.1%, and 4.2% of sales in 1999, 1998 and 1997, respectively. The 1999
decrease is primarily the result of a decline in amortization of start-up costs
and higher average store sales. The 1998 increase was primarily the result of
lower average sales per restaurant, the Company's investment in new and
remodeled restaurants and increased amortization of start-up costs related to
four new restaurants.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
were 7.4%, 7.4%, and 7.7% of sales in 1999, 1998 and 1997, respectively.
Continued controls over spending and staffing contributed to a $23,000 decline
in general and administrative expenses in 1999 and a $123,000 decline in 1998.
GAIN ON SALE OF PROPERTY AND EQUIPMENT. In accordance with the Company's
continuing strategy to close restaurants that compete with other Fresh Choice
restaurants, the Company sold the property and equipment of one restaurant in
the third quarter. The Company received cash proceeds of $692,000 and recorded a
gain of $452,000.
RESTRUCTURING AND ASSET IMPAIRMENT EXPENSES. In 1999, the Company recorded
a restructuring and asset impairment charge for the closure of one restaurant
and the expected closure of another restaurant at the end of its lease term in
2000.
In the fourth quarter of 1998, the Company recorded a restructuring and
asset impairment charge for the closure of four restaurants, the closure of two
additional restaurants at the end of their lease terms in 1999, and a write-down
of restaurant assets to fair market value for two other restaurants. In 1998,
the Company also completed a restructuring plan previously announced at the end
of 1995. The plan called for closing as many as ten of the Company's
restaurants, of which seven restaurants were included in a reserve for closures,
and a write-down of assets to estimated fair market value for thirteen other
restaurants. Management developed the 1995 restructuring plan to help restore
profitability after an analysis of the sales potential and operating economies
of every Fresh Choice restaurant. The Company had reported its first operating
loss in the fourth quarter of 1994 and additional operating losses for each
quarter of 1995. The Company based its impairment analysis on SFAS No. 121.
20
In 1995, the Company recorded a $23,932,000 restructuring and asset
impairment charge in connection with the restructuring plan which consisted of
(1) an $18,671,000 non-cash impairment charge of which $8,318,000 related to the
write-down of assets to fair market value at the seven restaurants identified
for closure and $10,353,000 related to a write-down to fair market value at the
thirteen other restaurants, (2) a $4,655,000 charge for estimated cash costs
associated with the restaurant closures and settlement of the related lease
obligations, and (3) a $606,000 charge for other costs, both cash and non-cash,
primarily for consulting and other professional services rendered in connection
with the Company's restructuring. Fair value for the write-down of assets at
restaurants was estimated based on the present value of expected future cash
flows.
The Company closed six of the seven restaurants identified for closure:
three restaurants were closed at the end of 1995 and three were closed in 1996.
The Company decided not to close the seventh restaurant based on its improved
operating performance and reversed $451,000 in 1996 of the previously-recorded
restructuring expense related primarily to anticipated cash payments to close
the restaurant and settle the lease obligation. The Company negotiated cash
payments to landlords to settle the lease obligations for five of the closed
restaurants and assumed a contingent liability in connection with a sublease
agreement for the sixth closed restaurant. The Company settled the lease
obligations at five of the six closed restaurants in 1996 and reversed an
additional $1,618,000 of the previously-recorded restructuring expense due
primarily to lower-than-estimated cash payments to settle the lease obligations.
During 1997, the Company reversed an additional $732,000 of the
previously-recorded restructuring expense based on updated estimates of the
costs to resolve the final lease obligation. The final lease obligation was
settled in 1998, and the Company reversed approximately $32,000 of excess
reserve to other restaurant operating expenses. The Company attributed the
lower-than-estimated cash payments to settle the six lease obligations to
better-than-expected real estate markets which enabled landlords to locate new
tenants for the closed locations.
During 1996, the Company identified and closed or sold five additional
restaurants for a total of eleven closed restaurants. The Company recorded a
$1,618,000 restructuring charge for two of the restaurants which consisted of a
(1) $650,000 non-cash charge for the write-down of assets to fair market value
at one restaurant that was not previously impaired and (2) a $968,000 charge for
estimated cash costs associated with restaurant closures and settlement of lease
obligations for both restaurants. The Company closed both restaurants during
1996 and reached a settlement with the landlord for the lease obligation for one
restaurant in 1996 and for the other restaurant in 1997. In 1997, the Company
reversed $282,000 of the previously-recorded restructuring expense due primarily
to lower-than-estimated cash payments to close the restaurant and settle the
lease obligations. The Company closed a third restaurant in 1996 which did not
require a settlement with the landlord for the lease obligation. The Company had
partially impaired the restaurant's assets in connection with its 1995
restructuring charge and charged its remaining net assets to operations at the
time the restaurant closed. In addition, the Company sold two restaurants in
1996 in the Washington, D.C. market for $750,000 and recorded a gain of
$446,000. The Company had previously recorded a partial write-down of assets for
both of the restaurants in connection with its restructuring reserve recorded at
the end of 1995. The Company is contingently liable under the assigned lease
agreements on the two restaurants.
The Company closed no restaurants in 1997, but identified one other
restaurant, which was previously impaired in connection with the Company's
restructuring plan, for closure in 1998 at the expiration of its lease term. The
restaurant closed in 1998 with no material impact on the Company's financial
position, results of operations or cash flows. In 1997, the Company recorded a
$1,014,000 impairment charge for the write-down of assets to fair market value
at one other restaurant in accordance with SFAS No. 121. The Company estimated
fair value for the restaurant's assets based on the present value of expected
future cash flows at the restaurant.
In the fourth quarter of 1998, the Company recorded a restructuring and
asset impairment charge for the closure of four restaurants, the closure of two
additional restaurants at the end of their lease terms in
21
1999, and a write-down of restaurant assets to fair market value for two other
restaurants. In 1998, the Company recorded a $3,710,000 restructuring and asset
impairment charge which consisted of (1) a $2,415,000 non-cash charge for the
write-down of restaurant assets to fair market value of which $725,000 related
to the six restaurants identified for closure and $1,690,000 related to the
write-down of restaurant assets to fair market value for two other restaurants
and (2) a $1,295,000 charge for the estimated cash costs associated with
restaurant closures and settlement of lease obligations. Fair value for the
write-down of assets at restaurants was estimated based on the present value of
expected future cash flows.
In 1998, the Company closed three restaurants identified for closure and
negotiated cash payments to settle the lease obligations. The Company closed
another restaurant, whose lease expired, at the beginning of 2000. After
significant improvement in operating performance, management reversed its
decision to not renew the lease on one location and is evaluating its options on
the remaining restaurant.
In 1999, in accordance with the Company's strategy to dispose of
underperforming restaurants, the Company closed a previously impaired restaurant
in the third quarter and recorded a $443,000 restructuring and asset impairment
charge which consisted of a $27,000 non-cash charge for the write down of assets
to fair value and a $416,000 charge for the estimated cash costs associated with
the restaurant closure and settlement of lease obligations. In addition, during
the fourth quarter, the Company wrote down the assets on another restaurant
whose lease expires in 2000 recording a non-cash charge of $172,000 which was
offset by the reversal of $157,000 of excess accruals resulting from the
settlement of the 1998 restaurant closures for less than the previously
estimated costs. The impairment charge for the restaurant expected to be closed
at the end of its lease in 2000 was determined based on the expected cash flows
over the remaining lease term, as compared to the net book value of the
restaurant assets at the time the Company determined this lease would not be
renewed.
The Company reviews the cash flow of each restaurant throughout any given
reporting period, and performs an impairment review of its investment in
property and equipment at any given restaurant during a reporting period if
deemed necessary based on the restaurant's cash flow performance. At least
annually, the Company conducts an impairment review of its investment in
property and equipment for all of its restaurants.
Of the seventeen restaurants closed by the Company, eight restaurants were
outside the Company's core California market. Three closed restaurants,
including two restaurants which were sold, were in the Washington, D.C. market.
Three closed restaurants were in Texas, two in Dallas and one in Houston. Two
closed restaurants were in the greater Seattle, Washington market area. The
Company had opened one of the closed restaurants in 1998, three in 1995, nine in
1994, one in 1993, two in 1992 and one in 1988.
INTEREST INCOME. Interest income was $82,000 in 1999, $12,000 in 1998, and
$166,000 in 1997. In 1999, the Company received increased interest income from
higher cash balances in its bank accounts. In 1997, the Company invested the
excess proceeds from its September 1996 sale of series B preferred stock to
Crescent Real Estate Equities Limited Partnership in money market funds. The
Company invested the excess proceeds pending their designated use to build or
purchase new restaurants, remodel existing restaurants, upgrade information
systems or increase working capital. The proceeds were subsequently used in 1998
to construct or purchase new restaurants and remodel existing restaurants which
accounted for the decline in interest income in 1998.
INTEREST EXPENSE. Interest expense was $506,000 in 1999, $256,000 in 1998,
and $52,000 in 1997. Interest expense consisted primarily of fees and interest
related to the Company's long-term borrowings in 1999 and capital lease
obligations for equipment leases. Interest expense increased in 1999 primarily
due to long-term borrowings under the Company's new loan and security agreement
and additional capital lease obligations. Interest expense increased in 1998 due
primarily to short-term borrowings in the current year versus no borrowings in
1997 and to equipment leases at the Company's four new restaurants.
22
PROVISION FOR INCOME TAXES. The Company recorded no tax provision for its
operating income in 1999 or 1997 due to the availability of net operating loss
carryforwards to offset taxable income. The Company recorded no tax benefit from
its operating losses in 1998 due to valuation allowances against its net
deferred tax assets.
CUMULATIVE EFFECT OF ACCOUNTING CHANGE. In April 1998, the American
Institute of Certified Public Accountants issued Statement of Position 98-5
("SOP 98-5"), "Reporting on the Cost of Start-Up Activities," which requires
companies to expense the costs of start-up activities and organization costs as
incurred. The Company adopted SOP 98-5 effective for at the beginning of its
fiscal year ending December 26, 1999 and expensed $70,000 of unamortized
pre-opening costs at the time of adoption.
QUARTERLY INFORMATION
The following table sets forth certain quarterly results of operations for
1999 and 1998:
YEAR ENDED DECEMBER 26, 1999 YEAR ENDED DECEMBER 27, 1998
------------------------------------------ ------------------------------------------
FIRST 12 SECOND 12 THIRD 12 LAST 16 FIRST 12 SECOND 12 THIRD 12 LAST 16
WEEKS WEEKS WEEKS WEEKS WEEKS WEEKS WEEKS WEEKS
-------- --------- -------- -------- -------- --------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS AND RESTAURANT DATA)
Net sales.................... $16,791 $17,141 $18,446 $21,693 $16,192 $17,366 $18,644 $21,685
Operating income (loss)...... (258) 236 895 (194) (618) (424) 88 (5,245)
Net income (loss)............ (423) 136 802 (330) (647) (467) 29 (5,358)
Net income (loss) per share:
Basic*..................... $ (0.06) $ 0.02 $ 0.14 $ (0.06) $ (0.11) $ (0.08) $ 0.01 $ (0.94)
Diluted*................... $ (0.06) $ 0.02 $ 0.12 $ (0.06) $ (0.11) $ (0.08) $ 0.00 $ (0.94)
Shares used in computing per
share amounts:
Basic...................... 5,719 5,723 5,742 5,747 5,682 5,686 5,695 5,701
Diluted.................... 5,719 6,930 6,944 5,747 5,682 5,686 6,885 5,701
Number of restaurants open
open at end of quarter..... 51 51 51 50 53 53 53 51
- ------------------------
* The sum of the quarterly net income (loss) per share amounts will not
necessarily equal the net income (loss) per share for the total fiscal year
The Company's restaurants experience seasonal fluctuations, as a
disproportionate amount of net sales and restaurant operating income are
generally realized in the second and third fiscal quarters. In addition, the
Company's quarterly results of operations have been, and may continue to be,
materially impacted by the timing of new restaurant openings and by restaurant
closings. The fourth quarter normally includes 16 weeks of operations as
compared with 12 weeks for each of the three prior quarters. The fourth quarter
of 2000 will include 17 weeks. As a result of these factors, net sales and net
income in the fourth quarter are not comparable to results in each of the first
three fiscal quarters, and net sales and income can be expected to decline in
the first quarter of each fiscal year in comparison to the fourth quarter of the
prior fiscal year. Because of prior year operating losses, restaurant closures,
the seasonality of the Company's business and the impact of new restaurant
openings, results for any quarter cannot be relied upon as indicative of the
results that may be achieved for a full fiscal year.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary capital requirements have been for the expansion of
its restaurant operations and remodeling of its restaurants. The Company has
traditionally financed these requirements with funds from equity offerings, cash
flow from operations, landlord allowances, capital equipment leases and
23
short-term bank debt. The Company does not have significant receivables or
inventory and receives trade credit based upon negotiated terms in purchasing
food and supplies.
During fiscal 1999, the Company entered into a $4,000,000 loan and security
agreement (the "Agreement") with a finance company. The Agreement expires on
December 29, 2001 and provides for one-year renewals thereafter. Under the terms
of the Agreement, the Company may borrow up to $2,330,000 against the value of
certain Company-owned real estate secured by deeds of trust and up to an
additional $1,670,000 against the value of any of the Company's restaurant
equipment in which the lender has established a first priority perfected
security interest, subject to a maximum available borrowing against each
restaurant. Borrowings under the Agreement initially bear interest at the prime
rate (8.5% at December 26, 1999) plus 1.25% and, once repaid, can be re-borrowed
unless converted to a term loan. Outstanding borrowings on the first and second
anniversaries of the Agreement convert into term loans which become payable at
1/60(th) of the converted balance each month plus interest at 1.75% above the
prime rate. All borrowings, including any term loans, are fully payable on
December 29, 2001. Aggregate borrowings in excess of $2,500,000 bear an
additional 0.5% interest. The Agreement also provides for a monthly collateral
monitoring fee and a 0.5% unused line fee.
At December 26, 1999, the Company had $1,500,000 of debt outstanding which
converted, under the terms of the Agreement, to a term loan as described above.
Accordingly, at December 26, 1999, $1,200,000 of the term loan was included in
long-term debt and $300,000 was included in the current portion of long-term
obligations. As of December 26, 1999, the Company had an additional $1,450,000
available for borrowing under the Agreement.
The Agreement requires the Company to maintain a minimum net worth and debt
service coverage ratio and to not exceed maximum interest and debt to cash flow
ratios and limits its aggregate indebtedness. The Agreement also requires
approval before paying dividends and limits the Company's fixed asset
acquisitions based on its operating cash flows. The Company was in compliance
with the covenants under the Agreement at December 26, 1999.
Long-term debt at December 26, 1999 also included a $116,000 note for site
construction costs and $1,625,000 of capital lease obligations, of which
$500,000 was included in the current portion of long term obligations.
Operating activities for 1999 provided $1,748,000 of cash flow which was net
of $646,000 of restructuring reserve payments. The restructuring reserve
payments were primarily in accordance with the terms of negotiated lease
settlements for closed restaurants.
The Company's restructuring reserve of $570,000 at December 26, 1999
consisted of the remaining cash payments to be made on an agreement to settle
the lease obligation for the restaurant closed in the third quarter of 1999, the
estimated cash payments to be made on an agreement to settle the lease
obligation on one other restaurant identified for closure, and the estimated
cash costs to close one additional restaurant which closed in the first quarter
of 2000.
For the year ended December 26, 1999, the Company invested $2,195,000 in
property and equipment, including restaurant point of sale systems in connection
with its strategic information systems plan. The Company resumed its remodeling
program in the fourth quarter of 1999, completing the remodeling of five
restaurants and installing the new, upgraded salad bar top on three previously
remodeled restaurants. The Company invested $736,000 on remodeling in 1999. In
addition, the Company opened its first Fresh Choice Express, on a test basis, in
Fort Worth, Texas in the third quarter of 1999. In accordance with the Company's
continuing strategy to close restaurants that compete with other Fresh Choice
restaurants, the Company sold the property and equipment of one restaurant in
the third quarter receiving cash proceeds of $692,000.
The Company's outstanding Series B non-voting convertible preferred stock is
currently held by one entity and is convertible, at the holders' option, into
Series A voting convertible preferred stock on a
24
one-for-one basis. Although no Series A preferred stock is currently
outstanding, holders of Series A preferred stock, if any, would be entitled to
vote with common stockholders on all matters submitted to a vote of
stockholders. When and if issued, the holders of a majority of the outstanding
Series A preferred stock will have a separate right to approve certain corporate
actions.
In fiscal 1998, the Company failed to achieve a specified earnings target
(before interest, taxes, depreciation and amortization) of at least $5,500,000
which constituted an event of default of the terms of the preferred stock
agreement and which triggered the right of the Series A preferred stockholders
to elect a majority of the Company's Board of Directors. The holder of the
Series B preferred stock has not initiated any action to convert such shares
into shares of Series A preferred stock nor has it exercised its right to elect
a majority of the Board of Directors. Such holder has notified the Company that
it has no present intention of exercising such right; however, it has not waived
any of its rights under the agreement.
The Company's continued growth depends to a significant degree on its
ability to open new restaurants and to operate such restaurants profitably. The
Company currently plans to open one new Fresh Choice restaurant in 2000. In
addition, the Company intends to expand the testing of the Fresh Choice Express
concept with an additional two locations planned for 2000. The Company's ability
to implement an expansion strategy will depend upon a variety of factors,
including the continued success of efforts to restore annual profitability and
the Company's ability to obtain financing. See "Business Risks" included herein.
The Company believes its operating cash requirements and fiscal 2000 capital
requirements can be met through existing cash balances, cash provided by
operations and its borrowing arrangements. The Company may continue to seek
additional debt or equity financing to provide greater flexibility toward
improving its operating performance and resuming restaurant expansion.
INFLATION
Many of the Company's employees are paid hourly rates related to the federal
and state minimum wage laws. Accordingly, increases in the minimum wage could
materially increase the Company's labor costs. In addition, the cost of food
commodities utilized by the Company are subject to market supply and demand
pressures. Shifts in these costs may have a significant impact on the Company's
food costs. The Company anticipates that increases in these costs may be offset
through pricing and other cost control efforts; however, there is no assurance
that the Company would be able to pass such costs on to its guests or that even
if it were able to do so, it could do so in a short period of time.
YEAR 2000 SOFTWARE REQUIREMENTS
The Company has completed a review of all its restaurant and corporate
computer systems for compliance with the year 2000.
The Company has migrated its critical processing and information
requirements to outsourced processing companies whose software is represented to
be year 2000 compliant. In accordance with its strategic information plan, the
Company replaced certain restaurant systems, primarily its restaurant point of
sale system, used for capturing and transmitting data to the outsourced systems,
with year 2000 compliant systems. At December 26, 1999 the Company had new point
of sale systems in 38 of its 50 locations. The Company expects to complete point
of sale installations by the second quarter of 2000. In addition, the Company
completed the installation of the year 2000 upgrade for its labor management
software. The $500,000 cost for year 2000 compliance upgrades was capitalized in
accordance with normal policy and was funded either through operating cash flow,
equipment lease financing or borrowings under the Company's loan and security
agreement.
The Company has completed surveying all of its vendors and has received
confirmation that all programs and systems used by vendors are, or were expected
to be, year 2000 compliant by year-end.
25
The Company believes it has an effective plan in place to anticipate and
resolve any potential year 2000 issues, which have not yet occurred, in a timely
manner. The Company transitioned to the year 2000 with no material disruption to
its business.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative Instruments and Hedging Activities." This
statement requires companies to record derivatives on the balance sheet as
assets or liabilities measured at fair value. As amended by SFAS No. 137, SFAS
No. 133 is effective for all fiscal quarters of fiscal years beginning after
June 15, 2000. The Company will adopt this statement for its fiscal year
beginning January 1, 2001. The Company does not expect that adoption of this
statement will impact the Company's consolidated financial position, results of
operations or cash flows.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to interest rate risk primarily through its borrowing
activities. The Company has not used derivative financial instruments to hedge
such risks. There is inherent roll-over risk for borrowings as they mature and
are renewed at current market rates. The extent of this risk is not quantifiable
or predictable because of the variability of future interest rates and business
financing requirements. If market rates were to increase immediately by
10 percent from levels at December 26, 1999, the fair value of the Company's
borrowings would not be materially affected as borrowings are primarily subject
to variable interest rates.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Company's financial statements as of December 26, 1999 and December 27,
1998 and for each of the three fiscal years in the period ended December 26,
1999, and the Independent Auditors' Report, are included in the report as listed
on Page 27 of this Report, Item 14(a).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
PART III
Certain information required by Part III is omitted from this Report. The
Company plans to file its Proxy Statement (the "Proxy Statement") pursuant to
Regulation 14A not later than 120 days after the end of the fiscal year covered
by this Report, and certain information included therein is incorporated herein
by reference.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
There is incorporated by reference the information relating to the directors
of the Company set forth under the caption "Election of Directors" in the Proxy
Statement. Information relating to the executive officers of the Company is set
forth in Part I of this Report under the caption "Executive Officers of the
Registrant."
26
ITEM 11. EXECUTIVE COMPENSATION
There is incorporated by reference the information relating to executive
compensation set forth under the caption "Executive Compensation and Other
Matters" in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
There is incorporated by reference the information relating to ownership of
equity securities of the Company by certain beneficial owners and management set
forth under the caption "General Information--Stock Ownership of Certain
Beneficial Owners and Management" in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
There is incorporated by reference the information relating to certain
relationships and related transactions set forth under the caption "Compensation
Committee Interlocks and Insider Participation" in the Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
The following documents are filed as part of this Report:
(a) 1. FINANCIAL STATEMENTS.
PAGE NOS.
---------
Consolidated Balance Sheets at December 26, 1999 and
December 27, 1998......................................... F-1
Consolidated Statements of Operations for the Fiscal Years
Ended December 26, 1999, December 27, 1998 and December
28, 1997.................................................. F-2
Consolidated Statements of Stockholders' Equity for the
Fiscal Years Ended December 26, 1999, December 27, 1998
and December 28, 1997..................................... F-3
Consolidated Statements of Cash Flows for the Fiscal Years
Ended December 26, 1999, December 27, 1998 and December
28, 1997.................................................. F-4
Notes to the Consolidated Financial Statements.............. F-5
Independent Auditors' Report................................ F-19
2. FINANCIAL STATEMENT SCHEDULES. All schedules have been omitted because
the information required to be set forth therein is not applicable or is
shown in the consolidated financial statements or notes thereto.
3. EXHIBITS. The Exhibits listed in the accompanying Exhibit Index are
filed or incorporated by reference as part of this Report. Exhibit Nos.
10.2, 10.3, 10.20, 10.21, 10.22, 10.23, 10.24, 10.25, 10.26, 10.27,
10.28, 10.30, 10.34, 10.37, 10.38, 10.39 and 10.40 are management
contracts or compensatory plans covering executive officers and directors
of Fresh Choice, Inc.
(b) REPORTS ON FORM 8-K. The registrant did not file any reports on
Form 8-K during the fourth quarter of fiscal 1999.
27
FRESH CHOICE, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 26, DECEMBER 27,
1999 1998
------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 2,458 $ 1,830
Receivables............................................... 186 126
Inventories............................................... 555 571
Pre-opening costs, net.................................... - 70
Prepaid expenses and other current assets................. 479 503
-------- --------
Total current assets...................................... 3,678 3,100
PROPERTY AND EQUIPMENT, net................................. 27,231 29,168
LEASE ACQUISITION COSTS, net................................ 332 406
DEPOSITS AND OTHER ASSETS................................... 616 531
-------- --------
TOTAL ASSETS................................................ $ 31,857 $ 33,205
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable.......................................... $ 2,317 $ 3,324
Accrued salaries and wages................................ 1,459 1,335
Sales tax payable......................................... 510 876
Other accrued expenses.................................... 1,844 1,995
Restructuring reserve..................................... 570 1,257
Line of credit borrowings................................. - 1,155
Current portion of long-term obligations.................. 800 359
-------- --------
Total current liabilities................................. 7,500 10,301
CAPITAL LEASE OBLIGATIONS................................... 1,126 1,171
LONG-TERM DEBT.............................................. 1,316 117
OTHER LONG-TERM LIABILITIES................................. 1,703 1,670
-------- --------
Total liabilities......................................... 11,645 13,259
-------- --------
COMMITMENTS AND CONTINGENCIES (Notes 2 and 7)
STOCKHOLDERS' EQUITY
Convertible preferred stock, $.001 par value; 3.5 million
shares authorized; shares outstanding: 1999 and 1998
-1,187,906.............................................. 5,175 5,175
Common stock, $.001 par value; 15 million shares
authorized; shares outstanding: 1999-5,762,444;
1998-5,718,847.......................................... 42,291 42,210
Accumulated deficit....................................... (27,254) (27,439)
-------- --------
Total stockholders' equity................................ 20,212 19,946
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................. $ 31,857 $ 33,205
======== ========
See accompanying notes to consolidated financial statements
F-1
FRESH CHOICE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
ENDED FISCAL YEAR
------------------------------------------
DECEMBER 26, DECEMBER 27, DECEMBER 28,
1999 1998 1997
------------ ------------ ------------
NET SALES............................................... $74,071 $73,887 $72,978
COSTS AND EXPENSES:
Cost of sales......................................... 18,131 19,322 19,480
Restaurant operating expenses:
Labor............................................... 24,051 24,345 22,566
Occupancy and other................................. 22,220 23,503 22,041
Depreciation and amortization......................... 3,539 3,739 3,082
General and administrative expenses................... 5,445 5,467 5,590
Gain on sale of property & equipment.................. (452) - -
Restructuring and asset impairment expenses........... 458 3,710 -
------- ------- -------
Total costs and expenses............................ 73,392 80,086 72,759
------- ------- -------
OPERATING INCOME (LOSS)................................. 679 (6,199) 219
Interest income....................................... 82 12 166
------- ------- -------
Interest expense........................................ (506) (256) (52)
------- ------- -------
Interest income (expense), net.......................... (424) (244) 114
INCOME (LOSS) BEFORE CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE.................................. 255 (6,443) 333
Cumulative effect of change in accounting
principle--adoption of SOP 98-5, "Reporting on the
Costs of Start-Up Activities"......................... (70) - -
------- ------- -------
NET INCOME (LOSS)....................................... $ 185 $(6,443) $ 333
======= ======= =======
Basic net income (loss) per common share before
cumulative effect of change in accounting principle... $ 0.04 $ (1.13) $ 0.06
Cumulative effect of change in accounting principle..... (0.01) - -
------- ------- -------
Basic net income (loss) per common share................ $ 0.03 $ (1.13) $ 0.06
======= ======= =======
Shares used in computing basic per share amounts........ 5,734 5,692 5,667
======= ======= =======
Diluted net income (loss) per common share before
cumulative effect of change in accounting principle... $ 0.04 $ (1.13) $ 0.05
Cumulative effect of change in accounting principle..... (0.01) - -
------- ------- -------
Diluted net income (loss) per common share.............. $ 0.03 $ (1.13) $ 0.05
======= ======= =======
Shares used in computing diluted per share amounts...... 6,937 5,692 6,859
======= ======= =======
See accompanying notes to consolidated financial statements
F-2
FRESH CHOICE, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
(DOLLARS IN THOUSANDS)
CONVERTIBLE
PREFERRED STOCK COMMON STOCK RETAINED TOTAL
-------------------- -------------------- EARNINGS STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT (DEFICIT) EQUITY
--------- -------- --------- -------- --------- -------------
BALANCES--December 30, 1996........... 1,187,906 $ 5,175 5,660,826 $ 42,070 $(21,329) $ 25,916
Exercise of stock options........... - - 602 1 - 1
Sales of common stock under employee
stock purchase plan............... - - 20,765 68 - 68
Net income.......................... - - - - 333 333
--------- ------- --------- -------- -------- --------
BALANCES--December 28, 1997........... 1,187,906 5,175 5,682,193 42,139 (20,996) 26,318
Exercise of stock options........... - - 3,654 1 - 1
Sales of common stock under employee
stock purchase plan............... - - 33,000 64 - 64
Issuance of stock options for
consulting services............... - - - 6 - 6
Net loss............................ - - - - (6,443) (6,443)
--------- ------- --------- -------- -------- --------
BALANCES--December 27, 1998........... 1,187,906 5,175 5,718,847 42,210 (27,439) 19,946
Exercise of stock options........... - - 734 1 - 1
Sales of common stock under employee
stock purchase plan............... - - 42,863 56 - 56
Issuance of stock options for
consulting services............... - - - 24 - 24
Net income.......................... - - - - 185 185
--------- ------- --------- -------- -------- --------
BALANCES--December 26, 1999........... 1,187,906 $ 5,175 5,762,444 $ 42,291 $(27,254) $ 20,212
========= ======= ========= ======== ======== ========
See accompanying notes to consolidated financial statements
F-3
FRESH CHOICE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
FISCAL YEAR ENDED
------------------------------------------
DECEMBER 26, DECEMBER 27, DECEMBER 28,
1999 1998 1997
------------ ------------ ------------
OPERATING ACTIVITIES:
Net income (loss)........................................... $ 185 $(6,443) $ 333
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization............................. 3,830 3,945 3,319
Cumulative effect of change in accounting
principle--adoption of SOP 98-5......................... 70 - -
Restructuring and asset impairment expense................ 158 3,672 -
Issuance of common stock for consulting services.......... 24 6 -
Loss (gain) on disposal of property....................... (412) 216 120
Deferred rent............................................. 61 139 114
Change in operating assets and liabilities:
Receivables............................................. (60) (2) 94
Inventories............................................. (87) (110) (29)
Pre-opening costs....................................... - (108) (137)
Prepaid expenses and other current assets............... 23 28 (31)
Accounts payable........................................ (1,006) 1,053 194
Accrued salaries and wages.............................. 124 49 (159)
Other accrued expenses.................................. (516) (355) (626)
Restructuring reserve................................... (646) (721) (961)
------- ------- -------
Net cash provided by operating activities................... 1,748 1,369 2,231
------- ------- -------
INVESTING ACTIVITIES:
Capital expenditures...................................... (2,195) (4,732) (5,081)
Proceeds from sale of property & equipment................ 692 - -
Deposits and other assets................................. (114) 29 (361)
------- ------- -------
Net cash used in investing activities..................... (1,617) (4,703) (5,442)
------- ------- -------
FINANCING ACTIVITIES:
Common stock sales........................................ 57 65 69
Long-term debt--borrowings................................ 1,500 - -
Line of credit--borrowings (repayments), net.............. (1,155) 1,155 -
Other note payable--repayments............................ (1) (1) (1)
Capital lease obligations--borrowings..................... 514 1,770 -
Capital lease obligations--repayments..................... (418) (240) (89)
------- ------- -------
Net cash provided by (used in) financing activities....... 497 2,749 (21)
------- ------- -------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............ 628 (585) (3,232)
CASH AND CASH EQUIVALENTS:
Beginning of year......................................... 1,830 2,415 5,647
------- ------- -------
End of year............................................... $ 2,458 $ 1,830 $ 2,415
======= ======= =======
Supplemental Disclosure of Cash Flow Information:
Cash paid during the year for interest.................... $ 431 $ 178 $ 22
======= ======= =======
Supplemental Disclosure of Noncash Investing and Financing
Activities:
Acquisition payable related to purchase of restaurants.... $ - $ - $ 600
======= ======= =======
See accompanying notes to consolidated financial statements
F-4
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS. Fresh Choice, Inc. (the "Company") is incorporated
in Delaware and operates in one segment consisting of limited-service
restaurants, under the names Fresh Choice, Fresh Choice Express and Zoopa,
offering freshly-made specialty and traditional salads, hot pasta, pizza, hot
baked potatoes, soups, fresh bread and muffins, frozen yogurt and other
desserts. The Company operated 50 restaurants at December 26, 1999 including one
Fresh Choice Express, 51 restaurants at December 27, 1998, and 53 restaurants at
December 28, 1997.
BASIS OF PRESENTATION. The consolidated financial statements include the
accounts of the Company and Moffett Design Corporation, a wholly-owned
subsidiary, after elimination of intercompany transactions and balances. The
Company's fiscal year ends on the last Sunday in December. Fiscal years 1999,
1998 and 1997 each contained 52 weeks.
ESTIMATES. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect reported amounts of assets, liabilities, revenues
and expenses as of the dates and for the periods presented. Such management
estimates include the restructuring reserve, the valuation allowance for
deferred income taxes, and certain other accrued expenses. Actual results could
differ from those estimates.
CASH AND CASH EQUIVALENTS. The Company considers all highly liquid debt
instruments with a maturity of three months or less, when purchased, to be cash
equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The Company believes that the carrying
amount for cash and cash equivalents, accounts receivable, accounts payable,
other notes payable and long-term debt borrowings approximated fair values at
December 26, 1999.
CONCENTRATIONS. Financial instruments which potentially subject the Company
to concentration risk principally consist of cash and cash equivalents. The
Company places its cash and cash equivalents with what it believes are high
credit quality financial institutions.
The Company has geographic concentration risk as thirty eight of the
Company's fifty restaurants are located in California, primarily in Northern
California. Accordingly, the Company is susceptible to fluctuations in its
business caused by adverse economic conditions in this region.
INVENTORIES. Inventories consist principally of food and supplies stated at
the lower of cost (first in, first out) or market.
PRE-OPENING COSTS. Pre-opening costs consist of the direct costs associated
with opening a new restaurant including the costs of hiring and training the
initial workforce. Pre-opening costs have historically been amortized over a
twelve-month period commencing with the restaurant opening. In 1998, the
American Institute of Certified Public Accountants issued Statement of Position
98-5 ("SOP 98-5"), "Reporting on the Cost of Start-Up Activities," which
requires companies to expense the costs of start-up activities and organization
costs as incurred. The Company adopted SOP 98-5 effective for its fiscal year
beginning December 28, 1998 and expensed $70,000 of unamortized pre-opening
costs at the time of adoption.
PROPERTY AND EQUIPMENT. Property and equipment are stated at cost.
Depreciation and amortization are computed using the straight-line method over
the estimated useful lives of the assets which range from
F-5
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
5 to 30 years or the lease term of a restaurant including option periods, as
appropriate, not to exceed 25 years. The Company reviews the cash flow of each
restaurant throughout any given reporting period and performs an impairment
review of its investment in property and equipment at any given restaurant
during a reporting period if deemed necessary based on the restaurant's cash
flow performance. At least annually, the Company performs an impairment review
of its investment in property and equipment for all of its restaurants.
LEASE ACQUISITION COSTS. Lease acquisition costs are amortized using the
straight-line method over the remaining term of the acquired lease including
option periods, as appropriate, not to exceed 25 years.
DEFERRED RENT. The Company computes rent expense on a straight-line basis
for operating leases that contain provisions for scheduled rent increases over
the lease term. The Company's deferred rent balance consists of the cumulative
rent expensed in excess of rent payments since inception of these leases.
INCOME TAXES. Deferred tax assets and liabilities are recognized to reflect
the estimated future tax effects, calculated at currently effective tax rates,
of differences between the carrying amounts of assets and liabilities for
financial reporting and income tax purposes. A valuation allowance related to a
deferred tax asset is recorded until it is deemed more likely than not that the
deferred tax asset will be realized.
NET INCOME (LOSS) PER COMMON SHARE. Basic EPS excludes dilution and is
computed by dividing net income by the weighted average of common shares
outstanding for the year. Diluted EPS reflects the potential dilution that could
occur if securities or other contracts to issue common stock were exercised or
converted into common stock. The Company converts common stock options and
warrants into dilutive potential shares using the treasury stock method and
converts preferred stock into dilutive potential shares using the "if converted"
method.
STOCK-BASED COMPENSATION. The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees."
RECENTLY ISSUED ACCOUNTING STANDARDS. In June 1998, the Financial
Accounting Standards Board issued Statement of Financial Accounting Standards
("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities." This statement requires companies to record derivatives on the
balance sheet as assets or liabilities measured at fair value. SFAS No. 133, as
amended by SFAS No. 137, is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. The Company will adopt this statement for its
fiscal year beginning January 1, 2001. The Company does not expect that adoption
of this statement will impact the Company's consolidated financial position,
results of operations or cash flows.
2. RESTRUCTURING PLANS AND ASSET IMPAIRMENT
1995 RESTRUCTURING PLAN
The 1995 restructuring plan called for closing as many as ten of the
Company's restaurants, of which seven restaurants were included in a reserve for
closures, and a write-down of assets to estimated fair market value for thirteen
other restaurants. Management developed the restructuring plan to help restore
profitability after an analysis of the sales potential and operating economies
of every Fresh Choice restaurant. The Company had reported its first operating
loss in the fourth quarter of 1994 and additional operating losses for each
quarter of 1995. At December 26, 1999 and December 27, 1998, the Company had no
reserve balances related to the 1995 plan.
F-6
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
1995 RESTRUCTURING RESERVE. In 1995, the Company recorded a $23,932,000
restructuring and asset impairment charge in connection with the restructuring
plan which consisted of (1) an $18,671,000 non-cash impairment charge of which
$8,318,000 related to the write-down of assets to fair market value at the seven
restaurants identified for closure and $10,353,000 related to a write-down to
fair market value at the thirteen other restaurants, (2) a $4,655,000 charge for
estimated cash costs associated with the restaurant closures and settlement of
the related lease obligations, and (3) a $606,000 charge for other costs, both
cash and non-cash, primarily for consulting and other professional services
rendered in connection with the Company's restructuring. Fair value for the
write-down of assets at restaurants was estimated based on the present value of
expected future cash flows.
The Company closed six of the seven restaurants identified for closure:
three restaurants were closed at the end of 1995 and three were closed in 1996.
The Company decided not to close the seventh restaurant based on its improved
operating performance and reversed $451,000 in 1996 of the previously-recorded
restructuring expense related primarily to anticipated cash payments to close
the restaurant and settle the lease obligation. The Company negotiated cash
payments to landlords to settle the lease obligations for five of the closed
restaurants and assumed a contingent liability in connection with a sublease
agreement for the sixth closed restaurant. The Company settled the lease
obligations at five of the six closed restaurants in 1996 and reversed an
additional $1,618,000 of the previously-recorded restructuring expense due
primarily to lower-than-estimated cash payments to settle the lease obligations.
During 1997, the Company reversed an additional $732,000 of the
previously-recorded restructuring expense based on updated estimates of the
costs to resolve the final lease obligation. The final lease obligation was
settled in 1998, and the Company reversed approximately $32,000 of excess
reserve to other restaurant operating expenses. The Company attributed the
lower-than-estimated cash payments to settle the six lease obligations to
better-than-expected real estate markets which enable landlords to locate new
tenants for the closed locations.
1996 RESTRUCTURING RESERVE. During 1996, the Company identified and closed
or sold five additional restaurants for a total of eleven closed restaurants.
The Company recorded a $1,618,000 restructuring charge for two of the
restaurants which consisted of a (1) $650,000 non-cash charge for the write-down
of assets to fair market value at one restaurant that was not previously
impaired and (2) a $968,000 charge for estimated cash costs associated with
restaurant closures and settlement of lease obligations for both restaurants.
The Company closed both restaurants during 1996 and reached a settlement with
the landlord for the lease obligation for one restaurant in 1996 and for the
other restaurant in 1997. In 1997, the Company reversed $282,000 of the
previously-recorded restructuring expense due primarily to lower-than-estimated
cash payments to close the restaurant and settle the lease obligations. The
Company closed a third restaurant in 1996 which did not require a settlement
with the landlord for the lease obligation. The Company had partially impaired
the restaurant's assets in connection with its 1995 restructuring charge and
charged its remaining net assets to operations at the time the restaurant
closed. In addition, the Company sold two restaurants in 1996 in the Washington,
D.C. market for $750,000 and recorded a gain of $446,000. The Company had
previously recorded a partial write-down of assets for both of the restaurants
in connection with its restructuring reserve recorded at the end of 1995. The
Company is contingently liable under the assigned lease agreements on the two
restaurants.
1997 ASSET IMPAIRMENT. The Company closed no restaurants in 1997, but
identified one other restaurant, which was previously impaired in connection
with the Company's restructuring plan, for closure in 1998 at the expiration of
its lease term. The restaurant closed in 1998 with no material impact on the
F-7
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
Company's financial position, results of operations or cash flows. In 1997, the
Company recorded a $1,014,000 impairment charge for the write-down of assets to
fair market value at one other restaurant.
The following table sets forth the Company's 1997 asset impairment and the
1996 and 1995 restructuring reserves and their respective activities for the
fiscal years ended December 27, 1998, December 28, 1997, and December 29, 1996:
PROVIDED PROVIDED
BALANCE (REVERSED) UTILIZED BALANCE (REVERSED) UTILIZED BALANCE
1996 IN 1997 IN 1997 1997 IN 1998 IN 1998 1998
-------- ---------- -------- -------- ---------- -------- --------
(IN THOUSANDS)
1995 RESERVE:
Restaurant closures:
Non-cash write-down of restaurant
assets to estimated fair value and
other related costs................. $ 58 $ (58) $ - $ - $ - $ - $ -
Estimated cash costs associated with
restaurant closures and settlement
of lease obligations................ 1,765 (674) (370) 721 (32) (689) -
------ ----- ------- ---- ---- ----- ----
1995 reserve.......................... 1,823 (732) (370) 721 (32) (689) -
------ ----- ------- ---- ---- ----- ----
1996 RESERVE:
Restaurant closures:
Non-cash write-down of restaurant
assets to estimated fair value and
other related costs................. 28 (28) - - - - -
Estimated cash costs associated with
restaurant closures and settlement
of lease obligations................ 845 (254) (591) - - - -
------ ----- ------- ---- ---- ----- ----
1996 reserve.......................... 873 (282) (591) - - - -
------ ----- ------- ---- ---- ----- ----
1997 IMPAIRMENT:
Non-cash write-down of restaurant
assets to estimated fair value...... - 1,014 (1,014) - - - -
------ ----- ------- ---- ---- ----- ----
Totals................................ $2,696 $ - $(1,975) $721 $(32) $(689) $ -
====== ===== ======= ==== ==== ===== ====
1998 RESTRUCTURING PLAN
In the fourth quarter of 1998, the Company announced a restructuring plan
which called for the closure of four restaurants, the closure of two additional
restaurants at the end of their lease terms in 1999, and a write-down of
restaurant assets to fair market value for two other restaurants.
1998 RESTRUCTURING RESERVE. In 1998, the Company recorded a $3,710,000
restructuring and asset impairment charge which consisted of (1) a $2,415,000
non-cash charge for the write-down of restaurant assets to fair market value of
which $725,000 related to the six restaurants identified for closure and
$1,690,000 related to the write-down of restaurant assets to fair market value
for two other restaurants and (2) a $1,295,000 charge for the estimated cash
costs associated with restaurant closures and settlement of
F-8
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
lease obligations. Fair value for the write-down of assets at restaurants was
estimated based on the present value of expected future cash flows.
In 1998, the Company closed three of the four restaurants identified for
closure and negotiated cash settlement terms for the lease obligations. The
Company closed three of these restaurants in 1998 and another at the beginning
of 2000. After significant improvement in operating performance, management
reversed its decision to not renew the lease on one location and is evaluating
its options on the remaining restaurant.
1999 RESTRUCTURING RESERVE. In 1999, in accordance with the Company's
strategy to dispose of underperforming restaurants, the Company closed a
previously impaired restaurant and recorded a $443,000 restructuring and asset
impairment charge which consisted of a $27,000 non-cash charge for the write
down of assets to fair value and a $416,000 charge for the estimated cash costs
associated with the restaurant closure and settlement of lease obligations. In
addition, during 1999, the Company wrote down the assets on another restaurant
whose lease expires in 2000 recording a non-cash charge of $172,000. The Company
also reversed $157,000 of excess accruals resulting from the settlement of the
1998 restaurant closures for less than previously estimated costs.
The following table sets forth the Company's 1999 and 1998 restructuring and
asset impairment reserve and its balance at December 26, 1999 and December 27,
1998:
PROVIDED
PROVIDED UTILIZED BALANCE (REVERSED) UTILIZED BALANCE
IN 1998 IN 1998 1998 IN 1999 IN 1999 1999
-------- -------- -------- ---------- -------- --------
(IN THOUSANDS)
1998 RESERVE:
Restaurant closures:
Non-cash write-down of restaurant assets to
estimate fair value and other related
costs........................................ $ 725 $ (725) $ - $ - $ - $ -
Estimated cash costs associated with restaurant
closures and settlement of lease
obligations.................................. 1,295 (38) 1,257 (157) (670) 430
Impaired restaurants:
Non-cash write-down of assets to estimated fair
value and other related costs................ 1,690 (1,690) - - - -
------ ------- ------ ---- ------- ----
1998 Reserve................................... 3,710 (2,453) 1,257 (157) (670) 430
------ ------- ------ ---- ------- ----
1999 RESERVE:
Restaurant closures:
Non-cash write-down of restaurant assets to
estimate fair value and other related
costs........................................ - - - 27 (27) -
Estimated cash costs associated with restaurant
closures and settlement of lease
obligations.................................. - - - 416 (276) 140
Impaired restaurants:
Non-cash write-down of assets to estimated fair
value and other related costs................ - - - 172 (172) -
------ ------- ------ ---- ------- ----
1999 Reserve................................... - - - 615 (475) 140
------ ------- ------ ---- ------- ----
Totals......................................... $3,710 $(2,453) $1,257 $458 $(1,145) $570
====== ======= ====== ==== ======= ====
F-9
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
The following table represents the results of operations for the restaurants
closed in 1999 and 1998:
1999 1998 1997
-------- -------- --------
(IN THOUSANDS)
Net sales........................................... $1,171 $4,056 $4,362
Cost of sales....................................... 310 1,124 1,185
Restaurant operating expenses:
Labor............................................. 506 1,750 1,615
Occupancy and other............................... 479 1,640 1,615
Depreciation and amortization....................... 36 210 145
------ ------ ------
Total costs and expenses.......................... 1,331 4,724 4,560
------ ------ ------
Operating loss...................................... $ (160) $ (668) $ (198)
====== ====== ======
3. PROPERTY AND EQUIPMENT
Property and equipment consists of:
DECEMBER 26, DECEMBER 27,
1999 1998
------------ ------------
(IN THOUSANDS)
Land................................................ $ 1,795 $ 1,795
Buildings and improvements.......................... 6,850 7,115
Leasehold improvements.............................. 16,763 16,682
Equipment........................................... 10,229 10,540
Equipment under capital leases...................... 2,282 1,770
Furniture and fixtures.............................. 7,591 6,614
Construction in progress............................ 247 87
-------- --------
Total property and equipment...................... 45,757 44,603
Accumulated depreciation and amortization........... (18,526) (15,435)
-------- --------
Property and equipment, net....................... $ 27,231 $ 29,168
======== ========
Accumulated amortization of equipment leased under capital leases was
$440,000 and $159,000 at December 26, 1999 and December 27, 1998, respectively.
F-10
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
4. BORROWING ARRANGEMENTS
LOAN AND SECURITY AGREEMENT. During fiscal 1999, the Company entered into a
$4,000,000 loan and security agreement (the "Agreement") with a finance company.
The Agreement expires on December 29, 2001 and provides for one-year renewals
thereafter. Under the terms of the Agreement, the Company may borrow up to
$2,330,000 against the value of certain Company-owned real estate secured by
deeds of trust and up to an additional $1,670,000 against the value of any of
the Company's restaurant equipment in which the lender has established a first
priority perfected security interest, subject to a maximum available borrowing
against each restaurant. Borrowings under the Agreement initially bear interest
at the prime rate (8.5% at December 26, 1999) plus 1.25% and, once repaid, can
be re-borrowed unless converted to a term loan. Outstanding borrowings on the
first and second anniversaries of the Agreement convert into term loans which
become payable at 1/60(th) of the converted balance each month plus interest at
1.75% above the prime rate. All borrowings, including any term loans, are fully
payable on December 29, 2001. Aggregate borrowings in excess of $2,500,000 bear
an additional 0.5% interest. The Agreement also provides for a monthly
collateral monitoring fee and a 0.5% unused line fee.
At December 26, 1999, the Company had $1,500,000 of debt outstanding which
converted, under the terms of the Agreement, to a term loan as described above.
Accordingly, at December 26, 1999, $1,200,000 of the term loan was included in
long-term debt and $300,000 was included in the current portion of long-term
obligations. As of December 26, 1999, the Company had an additional $1,450,000
available for borrowing under the Agreement.
The Agreement requires the Company to maintain a minimum net worth and debt
service coverage ratio and to not exceed maximum interest and debt to cash flow
ratios and limits its aggregate indebtedness. The Agreement also requires
approval before paying dividends and limits the Company's fixed asset
acquisitions based on its operating cash flows. The Company was in compliance
with the covenants under the Agreement at December 26, 1999.
LINE OF CREDIT. At December 27, 1998, the Company had $1,155,000 borrowed
under a bank line of credit agreement which was repaid during 1999.
OTHER NOTE PAYABLE. At December 26, 1999, the Company had a $116,000
promissory note included in long-term debt which is payable over 32 years, bears
interest at 8% and is secured by property at one of the Company's restaurants.
5. COMMON STOCK
STOCK OPTION PLAN. The Company has reserved 1,500,000 shares for issuance
to employees, management, directors and consultants under an incentive stock
option plan and a non-qualified stock option plan (the "Plan"). Under the Plan,
the Company may grant options at prices not less than the fair market value of
the Company's common stock at the grant date. Options generally have a ten-year
term and vest over a four or five-year period commencing one year after grant.
At December 30, 1996, the Company had outstanding non-qualified options to
purchase 120,000 common shares, having terms similar to options granted under
the Plan, granted to an executive officer to purchase shares of common stock at
$6.875 per share. These options were canceled as of December 28, 1997 and are
reflected in the summary of stock option activity below. During 1997, the
Company granted non-qualified options to purchase 120,000 common shares, having
terms similar to options granted under the Plan, to an executive officer of the
Company to purchase shares of common stock at $4.375 per share.
F-11
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
These non-qualified options were outstanding as of December 28, 1997,
December 27, 1998 and December 26, 1999 and are reflected in the summary of
stock option activity below.
A summary of stock option activity follows:
WEIGHTED
AVERAGE
NUMBER OF EXERCISE
SHARES PRICE
--------- --------
Outstanding--December 30, 1996 (159,458 exercisable at a
weighted average price of $8.79)....................... 550,208 $7.92
Options granted (weighted average fair value of $1.84)... 336,750 $4.25
Options cancelled........................................ (289,350) $8.56
Options exercised........................................ (602) $1.45
--------
Outstanding--December 28, 1997 (149,808 exercisable at a
weighted average price of $7.48)....................... 597,006 $5.55
Options granted (weighted average fair value of $1.84)... 234,913 $3.82
Options cancelled........................................ (174,948) $5.87
Options exercised........................................ (3,654) $0.28
--------
Outstanding--December 27, 1998 (172,083 exercisable at a
weighted average price of $6.65)....................... 653,317 $4.87
Options granted (weighted average fair value of $0.70)... 266,000 $1.92
Options cancelled........................................ (81,027) $4.21
Options exercised........................................ (734) $1.21
--------
Outstanding--December 26, 1999........................... 837,556 $3.73
========
Additional information regarding options outstanding as of December 26, 1999
is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------- -----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
RANGE OF EXERCISE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
PRICES OUTSTANDING LIFE IN YEARS PRICE EXCERCISABLE PRICE
- ------------------------------ ----------- ------------- -------- ------------ --------
$ 0.83 - $1.04 924 1.3 $ 0.93 924 $ 0.93
1.45 - 2.09 238,274 9.7 1.73 9,463 1.62
2.31 - 3.38 214,200 8.6 2.94 49,562 3.23
3.50 - 5.25 303,978 7.2 4.33 137,787 4.34
5.61 - 6.88 57,708 5.5 6.40 48,816 6.38
10.06 - 10.38 10,388 5.0 10.08 10,388 10.08
21.00 - 26.13 12,084 3.7 23.90 12,084 23.90
------ ------ ------- ---- ------ ------- ------
$ 0.83 - $26.13 837,556 8.1 $ 3.73 269,024 $ 5.50
====== ====== ======= ==== ====== ======= ======
At December 26, 1999, 427,287 shares were available for future grants under
the Plan.
During 1998, the Company granted options to purchase 50,000 shares of common
stock under the Plan at an exercise price of $3.375 pursuant to the terms of a
consulting agreement with the Chairman of the Company's Board of Directors. The
options vest over five years, and the Company measures expense
F-12
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
quarterly based on the then current fair value of the options. In 1999 and 1998,
the Company recorded $24,000 and $6,000 in consulting expense related to these
options.
STOCK PURCHASE PLAN. Under the Company's Employee Stock Purchase Plan,
eligible employees may authorize payroll deductions of up to 10% of their base
compensation, as defined, to purchase up to 329,600 shares of common stock at a
price equal to 85% of the lower of the fair market value as of the beginning or
end of each six-month offering period. Shares of common stock issued under the
plan were 42,863, 33,000 and 20,765 shares in 1999, 1998, and 1997 at weighted
average prices of $2.34, $1.91 and $3.27 per share, respectively. At
December 26, 1999, 152,275 shares were available for issuance under the plan.
ACCOUNTING FOR STOCK-BASED COMPENSATION. As discussed in Note 1, the
Company accounts for its stock-based awards using the intrinsic value method in
accordance with Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees" and its related interpretations. Accordingly, no
compensation expense has been recognized in the financial statements for
employee stock arrangements.
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation," (SFAS No. 123) requires the disclosure of pro forma
net income (loss) and net income (loss) per share had the Company adopted the
fair value method as of the beginning of 1995. Under SFAS No. 123, the fair
value of stock-based awards to employees is calculated through the use of option
pricing models. Such models were developed to estimate the fair value of freely
tradable, fully transferable options without vesting restrictions which differs
significantly from stock option awards. These models also require subjective
assumptions, including future stock price volatility and expected time to
exercise, which greatly affect the calculated values. The Company's calculations
were made using the Black-Scholes option pricing model with the following
weighted average assumptions: expected life, twelve months following vesting for
officers and directors and six months following vesting for all other employees;
stock volatility, 90.1% in 1999, 57.1% in 1998 and 62.6% in 1997; risk free
interest rate, 5.5% in 1999, 5.5% in 1998 and 7.0% in 1997; and no dividends
during the expected term. The Company's calculations are based on a multiple
option valuation approach and forfeitures are recognized as they occur. The fair
value of the employee purchase rights under the Employee Stock Purchase Plan was
estimated using the same model, but with the following weighted average
assumptions: expected option life, six months, stock volatility, 70.0% in 1999,
36.7% in 1998 and 45.4% in 1997; risk-free rates, 4.9% in 1999, 2.75% in 1998
and 3.5% in 1997; and no dividends during the expected term.
If the computed fair values of the awards had been amortized to expense over
the vesting period of the awards, pro forma net loss would have been $158,000
($.03 per share for basic and $.02 per share for diluted) in 1999 and pro forma
net loss would have been $6,667,000 ($1.17 per share for both basic and diluted
earnings per share) in 1998 and pro forma net income would have been $106,000
($0.02 per share for both basic and diluted earnings per share) in 1997.
However, the impact of outstanding non-vested stock options granted prior to
1995 has been excluded from the pro forma calculations; accordingly, the 1999,
1998 and 1997 pro forma adjustments are not indicative of future period pro
forma adjustments.
OTHER STOCK TRANSACTIONS. At December 26, 1999, the Company had an
outstanding warrant, issued in 1995 to outside consultants in connection with
the Company's restructuring plan, to purchase 100,000 shares of its common stock
at an exercise price of $6.875. The warrant expires in 2005.
F-13
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
At December 26, 1999, the Company also had an outstanding warrant, issued in
1995 in connection with a bank line of credit, to purchase 37,500 shares of its
common stock at an exercise price of $6.80. The warrant expires in 2000.
The Company had an additional warrant outstanding under the terms of a
preferred stock purchase agreement which expired in 1999 (see Note 6).
BASIC AND DILUTED NET INCOME (LOSS) PER COMMON SHARE. A reconciliation of
the components of basic and diluted net income (loss) per common share follows:
DECEMBER 26, DECEMBER 28, DECEMBER 28,
1999 1998 1997
------------ ------------ ------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
BASIC NET INCOME (LOSS) PER COMMON SHARE
Net income (loss)....................................... $ 185 $(6,443) $ 333
===== ======= =====
Average common shares outstanding....................... 5,734 5,692 5,667
===== ======= =====
Basic net income (loss) per common share before
cumulative effect of change in accounting principle... $0.04 $ (1.13) $0.06
Cumulative effect of change in accounting principle..... (0.01) - -
----- ------- -----
Basic net income (loss) per common share................ $0.03 $ (1.13) $0.06
===== ======= =====
DILUTED NET INCOME (LOSS) PER COMMON SHARE
Net income (loss)....................................... $ 185 $(6,443) $ 333
===== ======= =====
Average common shares outstanding....................... 5,734 5,692 5,667
Dilutive shares:
Stock options......................................... 16 - 5
Convertible preferred stock........................... 1,187 - 1,187
----- ------- -----
Total shares and dilutive shares...................... 6,937 5,692 6,859
===== ======= =====
Diluted net income (loss) per common share before
cumulative effect of change in accounting principle... $0.04 $ (1.13) $0.05
Cumulative effect of change in accounting principle..... (0.01) - -
----- ------- -----
Diluted net income (loss) per common share.............. $0.03 $ (1.13) $0.05
===== ======= =====
The Company excluded certain potentially dilutive securities each year from
its dilutive EPS computation because either the exercise price of the securities
exceeded that average fair values of the Company's common stock or the Company
had net losses, and, therefore, these securities were anti-dilutive.
F-14
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
A summary of the excluded potential dilutive securities as of the end of
each fiscal year follows:
DECEMBER 26, DECEMBER 28, DECEMBER 28,
1999 1998 1997
------------ ------------ ------------
(IN THOUSANDS)
POTENTIAL DILUTIVE SECURITIES
Stock Options......................... 767 653 516
Stock Warrants........................ 138 732 732
Convertible Preferred Stock........... - 1,188 -
--- ----- -----
Total................................. 905 2,573 1,248
=== ===== =====
6. CONVERTIBLE PREFERRED STOCK
At December 26, 1999 the Company had outstanding 1,187,906 shares of its
Series B non-voting convertible preferred stock which it sold in 1996 at $4.63
per share to Crescent Real Estate Equities Limited Partnership ("Crescent") in a
private offering for net proceeds of $5,175,000 (net of $325,000 of issuance
costs). Under the terms of the preferred stock purchase agreement (the
"Agreement"), Crescent and/or its assignees had an option to purchase up to
593,953 shares of Series C non-voting convertible preferred stock at a price of
$6.00 per share during a period of three years which expired in 1999.
The Series B non-voting convertible preferred stock converts, at the
holders' option, into Series A voting convertible preferred stock on a
one-for-one basis, and the Series A voting convertible preferred stock,
Series B non-voting convertible preferred stock and Series C non-voting
convertible preferred stock convert, at the holders' option, into common stock
on a one-for-one basis. The Series A preferred stock entitles its holders to
vote with common stockholders on all matters submitted to a vote of
stockholders. In addition, when and if issued, the holders of a majority of the
outstanding Series A preferred stock will have a separate right to approve
certain corporate actions. In the event of a failure by the Company to achieve
earnings targets (before interest, taxes, depreciation and amortization) of at
least $1,500,000 in 1996, $3,500,000 in 1997 and $5,500,000 in 1998 (subject to
adjustment under certain circumstances by the Company's Board of Directors), the
Series A preferred stockholders could elect a majority of the Company's Board of
Directors. The Company did not achieve the specified earnings target in 1998,
which constituted an event of default under the terms of the preferred stock
agreement and which triggered the right of the Series A preferred stockholders
to elect a majority of the Company's Board of Directors. The holder of the
Series B preferred stock has not initiated any action to convert such shares
into shares of Series A preferred stock nor has it exercised it right to elect a
majority of the Board of Directors. Such holder has notified the Company that it
has no present intention of exercising such right; however, it has not waived
any of its rights under the agreement.
Upon achievement of certain per-share market price tests, the Company may
force a mandatory conversion of the Series A preferred stock to common stock.
All shares of Series A, Series B and Series C preferred stock are senior to the
Company's common stock with respect to dividends and with respect to
distributions on liquidation. In connection with the agreement, the Company also
has granted to Crescent registration rights with respect to the Common Stock
issuable upon conversion of the Series A, Series B and Series C preferred stock.
F-15
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
7. LEASE COMMITMENTS
The Company leases restaurant and office facilities under operating lease
agreements that expire at various dates, including renewal options, through
2033. The Company also leases equipment under capital lease agreements that
expire at various dates through 2004. The Company pays real estate taxes,
insurance and maintenance expenses related to these leases.
At December 26, 1999, future minimum lease payments, including option
periods for leases the Company intends to renew, under all noncancelable lease
agreements are presented below:
CAPITAL OPERATING
LEASES LEASES
-------- ---------
(IN THOUSANDS)
Year Ending:
2000.................................................... $ 666 $ 7,548
2001.................................................... 666 7,313
2002.................................................... 353 7,155
2003.................................................... 253 6,793
2004.................................................... 5 6,367
Thereafter.............................................. - 60,307
------ -------
Minimum lease payments.................................. 1,943 $95,483
=======
Amount representing interest............................ (317)
------
Present value of minimum lease payments................. 1,626
Current portion......................................... (500)
------
Capital lease obligations............................... $1,126
======
The Company's rent expense is composed of minimum rental payments under
operating lease agreements. Rent expense was $7,843,000 in 1999, $8,004,000 in
1998, and $7,452,000 in 1997. The Company was not required to pay contingent
rental payments based upon a percentage of sales during 1999, 1998 and 1997.
Deferred rent included in other long-term liabilities was $1,463,000 and
$1,405,000 at December 26, 1999 and December 27, 1998, respectively.
Deferred income included in other long-term liabilities was $247,000 and
$265,000 at December 26, 1999 and December 27, 1998, respectively, from a gain
on the 1993 sale and leaseback of a building and land for one of the Company's
restaurants. The Company is amortizing the gain over the 20-year initial term of
the lease.
At December 26, 1999, the Company had no material commitments for the
purchase of equipment and construction activities for new restaurant locations.
F-16
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
8. INCOME TAXES
The provision for (benefit from) income taxes consists of:
1999 1998 1997
-------- -------- --------
(IN THOUSANDS)
Federal deferred....................................... $38 $(2,178) $115
State deferred......................................... 16 (270) 203
Valuation allowance.................................... (54) 2,448 (318)
--- ------- ----
Total deferred......................................... $ - $ - $ -
=== ======= ====
The deferred portion of the Company's tax provision reflects the tax effects
of differences between the carrying amounts of assets and liabilities for
financial reporting and income tax purposes. The Company has recorded net
deferred assets which consisted primarily of the tax benefit related to
operating loss carryforwards and non-deductible asset write-downs and
restructuring accruals. Based on management's assessment that it is not deemed
more likely than not that the deferred tax assets will be realized, the Company
provided valuation allowances against its deferred net tax assets. The Company
had valuation allowances of $12,493,000 and $12,439,000 at December 26, 1999 and
December 27, 1998, respectively.
The provision for (benefit from) income taxes differs from the amount
computed by applying the federal statutory income tax rate to income before
taxes as follows:
1999 1998 1997
-------- -------- --------
Tax computed at federal statutory rate............. 35.0 % (35.0)% 35.0 %
State income taxes,net of federal effect........... 16.6 (4.2) 58.0
Valuation allowance................................ (28.9) 38.0 (95.4)
Other.............................................. (22.7) 1.2 2.4
----- ----- -----
Effective tax rate................................. - % - % - %
===== ===== =====
The components of the net deferred tax asset (liability) are as follows:
DECEMBER 26, DECEMBER 27,
1999 1998
------------ ------------
(IN THOUSANDS)
Deferred tax assets (liabilities):
Tax basis depreciation and operating lease
expenses.......................................... $ (1,082) $ (1,286)
Restructuring expenses recognized in different
periods........................................... 244 538
Net operating loss carryforwards.................... 10,950 11,066
Accruals recognized in different periods............ 534 325
Pre-opening costs................................... - (30)
Alternative minimum tax credits..................... 944 944
Deferred rent....................................... 623 602
Federal tax credits................................. 280 280
Valuation allowance................................. (12,493) (12,439)
-------- --------
Net deferred tax asset (liability).................. $ - $ -
======== ========
F-17
FRESH CHOICE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FISCAL YEARS ENDED DECEMBER 26, 1999, DECEMBER 27, 1998, AND DECEMBER 28, 1997
At December 26, 1999, the Company had net operating loss carryforwards of
approximately $28,371,000 and $14,741,000 for federal and state income tax
purposes, respectively. These federal and state net operating loss carryforwards
expire beginning 2010 through 2018 and beginning 2000 through 2003,
respectively. The net operating loss carryforwards available for state tax
purposes are substantially less than for federal tax purposes, primarily because
only 50% of net operating losses can be utilized to offset future state taxable
income. The extent to which the loss carryforwards can be used to offset future
taxable income may be limited, depending on the extent of ownership changes
within any three-year period.
9. EMPLOYEE BENEFIT PLAN
The Company has a 401 (k) tax deferred savings plan (the "Plan") which
allows eligible employees to contribute from 1% to 25% of pre-tax compensation.
Discretionary matching contributions are determined annually by the Board of
Directors. Employees vest immediately in their contributions and vest in Company
contributions over a five year period. The Company contributed $14,000, $10,000
and $11,000 to the Plan in 1999, 1998 and 1997, respectively.
F-18
INDEPENDENT AUDITORS' REPORT
To the Stockholders and Board of Directors
of Fresh Choice, Inc.
We have audited the accompanying consolidated balance sheets of Fresh
Choice, Inc. and subsidiary as of December 26, 1999 and December 27, 1998, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the three fiscal years in the period ended December 26, 1999.
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 audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes 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, such consolidated financial statements present fairly, in
all material respects, the financial position of Fresh Choice, Inc. and
subsidiary at December 26, 1999 and December 27, 1998, and the results of their
operations and their cash flows for each of the three fiscal years in the period
ended December 26, 1999 in conformity with generally accepted accounting
principles.
/s/ DELOITTE & TOUCHE LLP
DELOITTE & TOUCHE LLP
San Jose, California
February 11, 2000
F-19
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.
March 23, 2000 FRESH CHOICE, INC.
By: /s/ EVERETT F. JEFFERSON
-----------------------------------------
Everett F. Jefferson
PRESIDENT, CHIEF EXECUTIVE OFFICER AND
DIRECTOR (PRINCIPAL EXECUTIVE OFFICER)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below on March 23, 2000 by the following persons on
behalf of the registrant and in the capacities indicated.
/s/ CHARLES A. LYNCH
------------------------------------------- Chairman of the Board and Director
Charles A. Lynch
/s/ EVERETT F. JEFFERSON
------------------------------------------- President, Chief Executive Officer and
Everett F. Jefferson Director (Principal Executive Officer)
/s/ DAVID E. PERTL Senior Vice President and Chief Financial
------------------------------------------- Officer (Principal Accounting and Financial
David E. Pertl Officer)
/s/ VERN O. CURTIS
------------------------------------------- Director
Vern O. Curtis
/s/ CARL R. HAYS
------------------------------------------- Director
Carl R. Hays
/s/ BARRY E. KRANTZ
------------------------------------------- Director
Barry E. Krantz
/s/ CHARLES L. BOPPELL
------------------------------------------- Director
Charles L. Boppell
47
INDEX TO FORM 10-K EXHIBITS
EXHIBIT
NO. DESCRIPTION
------- ------------------------------------------------------------
3.1 (1) Restated Certificate of Incorporation of Fresh Choice, Inc.
3.2 (8) Amended By-Laws of Fresh Choice, Inc. dated April 11, 1996
3.3 (10) Certificate of Amendment of Restated Certificate of
Incorporation of Fresh Choice, Inc.
3.4 (10) Certificate of Designation of Series A Voting Participating
Convertible Preferred Stock of Fresh Choice, Inc.
3.5 (10) Certificate of Designation of Series B Non-Voting
Participating Convertible Preferred Stock of Fresh Choice,
Inc.
3.6 (10) Certificate of Designation of Series C Non-Voting
Participating Convertible Preferred Stock of Fresh Choice,
Inc.
4.1 (10) Registration Rights Agreement dated September 13, 1996
between Fresh Choice, Inc. and Crescent Real Estate Equities
Limited Partnership
10.1 (1) Form of Indemnity Agreement for Directors and Officers
10.2 (2) (3) Second Amended and Restated 1988 Stock Option Plan
10.3 (2) (3) 1992 Crewmember Stock Purchase Plan
10.4 (1) Series A Preferred Stock Purchase Agreement dated August 10,
1988
10.5 (1) Series B Preferred Stock Purchase Agreement dated July 21,
1989
10.6 (1) Series C Preferred Stock Purchase Agreement dated January
15, 1990
10.7 (1) Master Lease and Warrant Agreement with Equitec Leasing
Company and Warrant dated January 18, 1990
10.8 (8) Preferred Stock Purchase Agreement with Crescent Real Estate
Equities Limited Partnership dated April 26, 1996
10.9 (1) Series D Preferred Stock Purchase Agreement dated April 17,
1991
10.10(5) Amendment No. 1 dated September 3, 1993 to the Business Loan
Agreement dated September 3, 1993
10.11(5) Amendment No. 2 dated November 15, 1993 to the Business Loan
Agreement dated September 3, 1993
10.12(1) Amendment dated December 1, 1992 to Preferred Stock Purchase
Agreements
10.13(4) Business Loan Agreement dated September 3, 1993 with Bank of
America National Trust and Savings Association
10.14(5) Amendment No. 4 dated March 31, 1995 to the Business Loan
Agreement dated September 3, 1993
10.15(5) Amendment No. 3 dated April 27, 1994 to the Business Loan
Agreement dated September 3, 1993
10.16(6) Loan and Security Agreement dated December 20, 1995 with
Silicon Valley Bank
10.17(6) Third Party Security Agreement dated December 20, 1995
between Silicon Valley Bank and Moffett Design Corporation
10.18(6) Warrant to Purchase up to 75,000 Shares of the Company's
Common Stock issued to Silicon Valley Bank on December 20,
1995
48
INDEX TO FORM 10-K EXHIBITS (CONTINUED)
EXHIBIT
NO. DESCRIPTION
------- ------------------------------------------------------------
10.19(6) Common Stock Purchase Warrant to Purchase 100,000 Shares of
the Company's Common Stock issued to Bain & Company, dated
December 15, 1995
10.20(6) (3) Employment Offer Letter to Robert Ferngren dated November 9,
1995
10.21(9) (3) Amendment dated July 20, 1996 to Employment Offer Letter to
Robert Ferngren
10.22(10)(3) Severance Agreement with Charles A. Lynch dated July 18,
1996
10.23(10)(3) Severance Agreement with David Anderson dated July 18, 1996
10.24(10)(3) Severance Agreement with Tim G. O'Shea dated July 18, 1996
10.25(10)(3) Severance Agreement with Joan M. Miller dated July 18, 1996
10.26(11)(3) Employment Offer Letter to David E. Pertl dated January 24,
1997
10.27(11)(3) Employment Offer Letter to Everett F. Jefferson dated
January 30, 1997
10.28(11)(3) Amendment to Employment Offer Letter to Everett F. Jefferson
dated February 10, 1997
10.29(11) Loan Modification Agreement dated November 27, 1996 with
Silicon Valley Bank
10.30(11)(3) Severance Agreement with Tina Freedman dated March 13, 1997
10.31(12) Agreement of Sale and Purchase dated April 2, 1997 with RUI
One Corp.
10.32(12) Amendment to Loan and Security Agreement dated July 9, 1997
with Silicon Valley Bank
10.33(13) Amendment to Loan and Security Agreement dated May 27, 1998
with Silicon Valley Bank
10.34(13)(3) Consulting Agreement with Charles A. Lynch dated April 17,
1998
10.35(14) Amendment to Loan and Security Agreement dated October 28,
1998 with Silicon Valley Bank
10.36(14) Loan and Security Agreement dated December 29, 1998 with
FINOVA Capital Corporation
10.37(14)(3) Form of Severance Agreement with Senior Vice Presidents
10.38(14)(3) Officer Incentive Plan for fiscal year 1999
10.39 (3) Officer Incentive Plan for fiscal year 2000
10.40 (3) Vice President of Operations Incentive Plan for fiscal year
2000
21.1 Subsidiaries of the Company
23.1 Independent Auditors' Consent
27.1 (7) Financial Data Schedule
- ------------------------
(1) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Registration Statement on Form S-1 (No. 33-53904) filed
October 29, 1992, as amended by Amendment No. 1 to Form S-1 (No. 33-53904)
filed December 7, 1992, except that Exhibit 3.1 is incorporated by reference
from Exhibit 3.1C and Exhibit 3.2 is incorporated by reference from
Exhibit 3.2B.
(2) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Quarterly Report on Form 10-Q for the quarter ended
September 4, 1994.
49
INDEX TO FORM 10-K EXHIBITS (CONTINUED)
(3) Agreements or compensatory plans covering executive officers and directors
of Fresh Choice, Inc.
(4) Incorporated by reference from the Company's Annual Report on Form 10-K for
the period ended December 26, 1993.
(5) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Quarterly Report on Form 10-Q for the quarter ended
March 19, 1995.
(6) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Annual Report on Form 10-K for the year ended
December 31, 1995.
(7) Included in EDGAR filing only.
(8) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Quarterly Report on form 10-Q for the quarter ended
March 24, 1996.
(9) Incorporated by reference from the Exhibits with corresponding numbers filed
with the Company's Quarterly Report on Form 10-Q for the quarter ended
June 16, 1996.
(10) Incorporated by reference from the Exhibits with corresponding numbers
filed with the Company's Quarterly Report on Form 10-Q for the quarter ended
September 8, 1996.
(11) Incorporated by reference from the Exhibits with corresponding numbers
filed with the Company's Annual Report on Form 10-K for the year ended
December 29, 1996.
(12) Incorporated by reference from Exhibits with corresponding numbers filed
with the Company's Quarterly Report on Form 10-Q for the quarter ended
June 15, 1997.
(13) Incorporated by reference from Exhibits with corresponding numbers filed
with the Company's Quarterly Report on Form 10-Q for the quarter ended
June 14, 1998.
(14) Incorporated by reference from the Exhibits with corresponding numbers
filed with the Company's Annual Report on Form 10-K for the year ended
December 27, 1998.
50