UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

For the quarterly period ended October 2, 2004

For the transition period from                   to                   

Commission file number 1-12104

BACK YARD BURGERS, INC.

1657 Shelby Oaks Dr. N. Ste. 105, Memphis, Tennessee 38134
(Address of principal executive offices)

(901) 367-0888
(Registrant’s telephone number)

Check whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ]  No [X]

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class - Common stock, par value $.01 per share

Outstanding at October 31, 2004 — 4,779,325

BACK YARD BURGERS, INC.

INDEX

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Back Yard Burgers, Inc.

See accompanying notes to unaudited Consolidated Financial Statements

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Back Yard Burgers, Inc.

See accompanying notes to unaudited Consolidated Financial Statements

4

Back Yard Burgers, Inc.

See accompanying notes to unaudited Consolidated Financial Statements

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BACK YARD BURGERS, INC.

NOTE 1 — BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Back Yard Burgers, Inc. owns and operates quick-service and fast-casual restaurants and is engaged in the sale of franchises and the collection of royalties based upon related franchise sales. The Company grants franchise rights for the use of “Back Yard Burgers” trade name and other associated trademarks, signs, emblems, logos, slogans and service marks which have been or may be developed.

     The accompanying unaudited Consolidated Financial Statements have been prepared in accordance with the instructions to Form 10-Q and therefore do not include all information and notes necessary for a fair presentation of financial position, results of operations and cash flows in conformity with generally accepted accounting principles in the United States of America. The statements do reflect all adjustments (consisting of only normal recurring adjustments) which are, in the opinion of management, necessary to present fairly the financial position and results of operations and cash flows in conformity with generally accepted accounting principles in the United States of America. The statements should be read in conjunction with the Notes to Consolidated Financial Statements for the year ended January 3, 2004 included in the Company’s 2003 Annual Report.

     The Consolidated Financial Statements include the accounts of Back Yard Burgers, Inc. and its wholly-owned subsidiaries, Little Rock Back Yard Burgers, Inc., Atlanta Burgers BYB Corporation and BYB Properties, Inc., as well as the Back Yard Burgers National Advertising Fund. All significant intercompany transactions have been eliminated.

     The results of operations for the current thirteen and thirty-nine week periods are not necessarily indicative of the results to be expected for the full year.

     The Company maintains its financial records on a 52-53 week fiscal year ending on the Saturday closest to December 31. In 52 week years, each quarter is a thirteen week period. In 53 week years the first three quarters are thirteen week periods and the fourth quarter is a fourteen week period.

     Certain prior year revenue and expense amounts have been reclassified to conform to current year presentation under EITF 02-16.

     Other Revenue. Other revenue is primarily comprised of sales of proprietary food products to franchisees, volume based incentive receipts under long-term contracts with vendors and contributions to the National Advertising Fund by certain of our vendors based upon purchasing volumes of the Company and our franchisees, and other miscellaneous revenues. Revenue from sales of proprietary food products is recognized when the products are shipped.

     Vendor contracts entered into subsequent to December 29, 2002 are being accounted for under EITF 02-16. Volume based revenue and contributions from our vendors are recognized systematically throughout the accounting period based on the estimated annual volume to be achieved under the agreements.

     Preopening costs. The Company expenses preopening costs as incurred. Preopening costs expensed for the thirty-nine weeks ended October 2, 2004 and September 27, 2003 were approximately $85,000 and $63,000, respectively.

NOTE 2 — STOCK-BASED EMPLOYEE COMPENSATION

The Company applies Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for its plans. Accordingly, no compensation expense has been recognized for its stock-based compensation. Had compensation cost for the Company’s stock option plan been determined based on the fair value at the grant date for awards in the quarters ended October 2, 2004, and September 27, 2003, under the plan consistent with the fair value method prescribed by SFAS No. 123, Accounting for Stock-Based Compensation and SFAS No. 148, Accounting for Stock-Based Compensation- Transition and Disclosure, the Company’s operating results for the quarters ended October 2, 2004, and September 27, 2003 would have been reduced to the pro forma amounts indicated below (in thousands, except per share data):

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     The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model.

NOTE 3 — NET INCOME PER SHARE

The Company calculates earnings per share in accordance with Statement of Financial Accounting Standards No. 128, Earnings per Share, which requires the presentation of basic and diluted earnings per share. Basic earnings per share excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity.

COMPUTATION OF INCOME PER SHARE

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The calculation of diluted income per share for the thirteen weeks ended October 2, 2004, and September 27, 2003 excluded 125,000 and 30,000 stock options, respectively, as their effect would be anti-dilutive. The calculation of diluted income per share for the thirty-nine weeks ended October 2, 2004, and September 27, 2003 excluded 55,000 and 51,639 stock options, respectively, as their effect would be anti-dilutive.

NOTE 4 — DEFERRED FRANCHISE AND AREA DEVELOPMENT FEES

Amounts received for certain franchise and area development rights, net of commissions paid, have been deferred. Revenues on individual franchise fees are recognized when substantially all of the initial services required of the Company have been performed, which generally coincides with the opening of the franchises. Under the terms of the franchise agreements, these fees are non-refundable, and may be recognized as income should the franchisee fail to perform as agreed. Area development fees are recognized on a pro-rata basis as each unit opens. At October 2, 2004, deferred fees include franchise and area development rights sold during the following years:

NOTE 5 — COMMITMENTS AND CONTINGENCIES

The Company is party to several pending legal proceedings and claims. Although the outcome of the proceedings and claims cannot be determined with certainty, management of the Company is of the opinion that it is unlikely that these proceedings and claims will have a material adverse effect on the financial condition or results of operations of the Company.

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Forward-Looking Information

     This document and other written reports and oral statements made from time to time by Back Yard Burgers, Inc. and its representatives contain forward-looking statements. These statements, which are not statements of historical fact, may contain estimates, assumptions, projections and/or expectations regarding our financial position, results of operations, growth strategy and plans for future expansion, product development, economic conditions, and other similar forecasts and statements of expectation. We generally indicate these statements by words or phrases such as “anticipate,” “estimate,” “plan,” “expect,” “believe,” “intend,” “foresee,” and similar words or phrases. Forward-looking statements are based upon estimates, projections, beliefs and assumptions of management at the time of such statements and should not be viewed as guarantees of future performance. Such forward-looking information involves important risks and uncertainties that could significantly impact anticipated results in the future and, accordingly, such results may differ materially from those expressed in any forward-looking statements by or on behalf of the Company. The factors that could cause our actual results to differ materially, many of which are beyond our control, include, but are not limited to, the following: delays in opening new stores or outlets because of weather, local permitting, and the availability and cost of land and construction; increases in competition and competitive discounting; increases in minimum wage and other operating costs; shortages in raw food products; volatility of commodity prices; consumer preferences, spending patterns and demographic trends; the possibility of unforeseen events affecting the industry generally, and other risks described from time to time in our periodic reports filed with the Securities and Exchange Commission. Back Yard Burgers, Inc. disclaims any obligation to update or revise any forward-looking statement based on the occurrence of future events, the receipt of new information, or otherwise.

Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations

Introduction

     As of October 2, 2004, the Back Yard Burgers system included 150 restaurants, of which 42 were company-operated and 108 were franchised (of which 9 were co-branded restaurants with YUM! Brands, Inc). Unit activity for the quarter included one company-operated store opening and 11 franchised store openings. One company-operated store and two franchised stores were closed during the quarter. The Company also sold one of its company-operated stores during the 13-week period ended October 2, 2004 to a new franchisee, and this location will continue to be operated as a franchised store.

     The Company’s revenues are derived primarily from company-operated restaurant sales, franchise and area development fees and royalty fees. Certain expenses (cost of restaurant sales, restaurant operating expenses, depreciation and advertising) relate directly to company-operated restaurants, while general and administrative expenses relate to both company-operated restaurants and franchise operations. The Company’s revenues and expenses are affected by the number and timing of the opening of additional restaurants. Sales for new restaurants in the period immediately following their opening tend to be high because of trial by public and promotional activities. As a result, the timing of openings can affect the average volume and other period-to-period comparisons.

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Results of Operations

The following table sets forth the percentage relationship to total revenue, unless otherwise indicated, of certain items included in the Company’s historical operations and operating data for the periods indicated.

(1)	As a percentage of restaurant sales.

(2)	As a percentage of income before taxes.

(3)	Includes sales for restaurants open for entire trailing twelve-month period. Restaurants are included in the calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public.

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Comparison of the Company’s Results for the Thirteen Weeks Ended October 2, 2004 and September 27, 2003.

     Restaurant sales increased 1.9% to $8,908,000 during the thirteen weeks ended October 2, 2004, from $8,739,000 for the year-earlier period. This increase is primarily the result of an increase of 2.2% in same-store sales at company-operated restaurants during the thirteen weeks ended October 2, 2004. Restaurants are included in the same-store sales calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public.

     Franchise and area development fees increased to $226,000 for the thirteen weeks ended October 2, 2004, compared with $20,000 in the year-earlier period. Eleven new franchised stores opened during the thirteen weeks ended October 2, 2004 compared with two new franchised store openings in the year-earlier period.

     Royalty fees increased 25.0% to $830,000 during the thirteen week period ended October 2, 2004, compared with $664,000 during the third quarter of 2003. The change is due to a net increase of twenty-one franchised stores since September 27, 2003 resulting in increased franchised sales on which royalty fees are based as well as a 0.4% increase in same-store sales at franchised restaurants during the thirteen weeks ended October 2, 2004. Restaurants are included in the same-store sales calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public. During the third quarter of 2004, 18 franchised locations were closed for a combined total of 54 operating days due to hurricanes.

     Advertising fees increased 53.1% to $248,000 during the thirteen week period ended October 2, 2004, from $162,000 during the third quarter of 2003. The change is primarily due to an increase in franchised restaurant sales, upon which a portion of the fees are based.

     Other revenues remained relatively flat at $180,000 during the thirteen week period ended October 2, 2004, compared with $179,000 during the third quarter of 2003.

     Cost of restaurant sales, consisting of food and paper costs, totaled $2,927,000 for the thirteen weeks ended October 2, 2004, compared with $2,861,000 in the year-earlier period, increasing as a percentage of restaurant sales to 32.9% from 32.7%. The increase in costs as a percentage of sales is due to an 11% increase in the cost of beef during the thirteen weeks ended October 2, 2004, as well as other food cost increases driven primarily by higher fuel costs over the year-earlier period. The margin impact of these cost increases was partially offset by two menu price increases of approximately 2% at company-operated restaurants in October 2003 and in June 2004.

     Restaurant operating expenses, consisting of labor, supplies, utilities, maintenance, rent and certain other unit level operating expenses, increased to $4,344,000 for the thirteen weeks ended October 2, 2004, from $4,300,000 in the same prior year period, decreasing as a percentage of restaurant sales to 48.8%, from 49.2% for the year-earlier period. This change was primarily due to a reduction in labor costs as a percentage of restaurant sales by 0.5% from the year-earlier period resulting from 2.2% improvements in same-store sales at company-operated restaurants during the thirteen weeks ended October 2, 2004.

     General and administrative costs which increased $342,000 to $1,438,000 for the thirteen weeks ended October 2, 2004 from $1,096,000 in the year-earlier period, increased as a percentage of total revenue for the thirteen weeks ended October 2, 2004, to 13.8% from 11.2% in the year-earlier period. $186,000 of the increase is related to increases in corporate personnel costs for annual merit increases, additional positions added since the prior year and increased personnel costs for staffing at franchised store openings. The remainder of the increase is primarily related to higher spending in the areas of travel for franchised store opening support, training and professional fees.

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     Advertising expense which increased to $692,000 for the thirteen weeks ended October 2, 2004, from $604,000 in the same period in 2003, increasing as a percentage of total revenues to 6.7% from 6.2% in the year-earlier period. The Company increased spending on system-wide marketing promotions over the year-earlier period.

     Depreciation expense increased 9.8% to $492,000 for the thirteen weeks ended October 2, 2004, from $448,000 in the same period in 2003 due primarily to the addition of approximately $2.6 million in fixed assets since September 27, 2003.

     Interest expense decreased 12.1% to $109,000 for the thirteen weeks ended July 3, 2004, from $124,000 in the year-earlier period. Since September 27, 2003, long-term debt decreased by $910,000, or 16.3%, to $4,657,000 as of October 2, 2004.

     Other, net income increased by $56,000 to $35,000 for the thirteen weeks ended October 2, 2004, compared with a net expense of $21,000 in the prior year. The increase is due to the fact that the Company recognized approximately $57,000 in gains on the sale of assets during the thirteen weeks ended October 2, 2004, compared with zero in the year earlier period. Also included in this category are franchise and excise taxes and other miscellaneous income and expenses, and these items remained relatively flat with the year-earlier period.

Comparison of the Company’s Results for the Thirty-Nine Weeks Ended October 2, 2004 and September 27, 2003.

     Restaurant sales increased 5.9% to $26,665,000 during the thirty-nine weeks ended October 2, 2004, from $25,186,000 for the year-earlier period. This increase is primarily the result of an increase of 4.4% in same-store sales at company-operated restaurants during the thirty-nine weeks ended October 2, 2004. Restaurants are included in the same-store sales calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public.

     Franchise and area development fees increased to $435,000 for the thirty-nine weeks ended October 2, 2004, compared with $185,000 in the year-earlier period. Twenty-two new franchised stores opened during the thirty-nine weeks ended October 2, 2004 compared with fourteen new franchised store openings in the year-earlier period

     Royalty fees increased 19.2% to $2,282,000 during the thirty-nine week period ended October 2, 2004, compared with $1,914,000 in the year-earlier period. The change is due to a net increase of twenty-one franchised stores since September 27, 2003 resulting in increased franchised sales on which royalty fees are based. This increase was partially offset by a 1.0% decrease in same-store sales at franchised restaurants during the thirty-nine weeks ended October 2, 2004. Restaurants are included in the same-store sales calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public.

     Advertising fees increased 30.4% to $618,000 during the thirty-nine weeks ended October 2, 2004, from $474,000 during the year-earlier period. The change is due to an increase in franchised restaurant sales, upon which a portion of the fees are based.

     Other revenues decreased by $154,000 to $534,000 during the thirty-nine weeks ended October 2, 2004, from $688,000 during the year-earlier period. The decrease in other revenues is due to a reduction in miscellaneous revenues and a reduction in volume based incentive receipts under long-term contracts with vendors from the year-earlier period.

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     Cost of restaurant sales, consisting of food and paper costs, totaled $8,493,000 for the thirty-nine weeks ended October 2, 2004, compared with $8,139,000 in the year-earlier period, decreasing as a percentage of restaurant sales to 31.9% from 32.3%. The decrease in costs as a percentage of sales is partially due to a combination of two menu price increases of approximately 2% at company-operated restaurants in October 2003 and in June 2004. Another contributing factor is that during the first seven months of 2003, the Company offered certain sandwich items at discounted prices in efforts to increase guest traffic and sales at company-operated restaurants. The Company has not pursued this discounting strategy during 2004, which has helped lower the Company’s cost of restaurant sales as a percentage of restaurant sales compared with the year-earlier period. These factors were partially offset by a 14% increase in the cost of beef for the thirty-nine weeks ended October 2, 2004 as well as other food cost increases driven primarily by higher fuel costs over the prior year period.

     Restaurant operating expenses, consisting of labor, supplies, utilities, maintenance, rent and certain other unit level operating expenses, increased to $12,770,000 for the thirty-nine weeks ended October 2, 2004, from $12,131,000 in the same prior year period, decreasing as a percentage of restaurant sales to 47.9%, from 48.2% for the year-earlier period. This change was primarily due to a reduction in labor costs as a percentage of restaurant sales by 0.3% from the year-earlier period resulting from 4.4% improvements in same-store sales at company-operated restaurants during the thirty-nine weeks ended October 2, 2004.

     General and administrative costs which increased $565,000 to $3,944,000 for the thirty-nine weeks ended October 2, 2004 from $3,379,000 in the year-earlier period, increased as a percentage of total revenue for the thirty-nine weeks ended October 2, 2004 to 12.9% from 11.8% in the year-earlier period. $325,000 of the increase is related to increases in corporate personnel costs for annual merit increases, additional positions added since the prior year and increased personnel costs for staffing at franchised store openings. The remainder of the increase is primarily related to higher spending in the areas of travel for franchised store opening support, training and professional fees.

     Advertising expense which increased to $1,926,000 for the thirty-nine weeks ended October 2, 2004, from $1,680,000 in the same period in 2003, increased as a percentage of total revenues to 6.3% from 5.9% in the year-earlier period. The Company increased spending on system-wide marketing promotions over the year-earlier period.

     Depreciation expense increased by $136,000 to $1,469,000 for the thirty-nine weeks ended October 2, 2004, from $1,333,000 in the same period in 2003 due primarily to the addition of approximately $2.6 million in fixed assets since September 27, 2003.

     Interest expense decreased 11.7% to $332,000 for the thirty-nine weeks ended October 2, 2004, from $376,000 in the year-earlier period. Since September 27, 2003, long-term debt decreased by $910,000, or 16.3%, to $4,657,000 as of October 2, 2004.

     Other, net expense was $11,000 for the thirty-nine weeks ended October 2, 2004, compared with a net expense of $49,000 in the prior year. The reduction in net expense is due to the fact that the Company recognized approximately $57,000 in gains on the sale of assets during the thirteen weeks ended October 2, 2004, compared with zero in the year earlier period. The difference was partially offset by a $13,000 increase in franchise and excise taxes over the year-earlier period. Also included in this category are other miscellaneous income and expenses, and these items remained relatively flat with the year-earlier period.

Impairment of Long-Lived Assets

     Pursuant to SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets,” we evaluate the recoverability of assets (including intangibles) when events and circumstances indicate the impairment of assets. For such assets, we determine impairment by comparing the undiscounted future cash flows estimated to be generated by these assets to their respective carrying amounts. Where an indication of impairment exists, we generally estimate undiscounted future cash flows at the level of individual restaurants. In the event impairment exists, a loss is recognized based on the amount by which the carrying value exceeds the fair value of the asset. Assets held for disposition are valued at the lower of historical cost, net of accumulated depreciation, or fair market value less disposition cost.

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     No impairment charges were recorded during the thirty-nine weeks ended October 2, 2004, or the thirty-nine weeks ended September 27, 2003; however, in the past, the Company incurred non-cash charges for the effect of company-operated restaurant closings and impaired assets at company-operated restaurants. Also, related accruals for future lease payments of closed stores, net of estimated sub-lease income, were previously recorded.

Reserve for Closed Stores

     During the thirty-nine weeks ended October 2, 2004, $62,000 of lease obligation payments were incurred for closed stores and charged against this reserve and $16,000 in lease obligations were forgiven due to the negotiation of an early buyout of future lease obligations for one of the closed stores. This amount was recorded as a reduction in operating expenses during the thirteen weeks ended July 3, 2004. As of October 2, 2004, the Company’s remaining accrual for all future lease obligations discussed above was $3,000 for the remaining lease payments due, net of estimated sub-lease income.

Off-Balance Sheet Arrangements

     At October 2, 2004, the Company had a guarantee of a franchisee loan relating to the acquisition of a parcel of land and the construction of a building that is currently being operated as a Back Yard Burgers franchised location. The original loan balance was $655,000, and the balance as of October 2, 2004 was approximately $477,000.

Liquidity and Capital Resources

     Capital expenditures totaled $2,029,000 for the thirty-nine weeks ended October 2, 2004 and $2,712,000 for the year-earlier period. Generally, the Company constructs its restaurant buildings on leased properties for company-operated restaurants. The average monthly lease cost for the 13 company-operated restaurants on leased sites at October 2, 2004 is approximately $3,500 per month. For the 20 restaurants where the Company leases the building as well as the site, the average monthly lease cost is approximately $5,300.

     Cash from operations for the Company is primarily affected by net earnings adjusted for deferred franchise fees and non-cash expenses which consist primarily of depreciation. Depreciation totaled $1,469,000 for the thirty-nine weeks ended October 2, 2004 and $1,333,000 for the year-earlier period.

     Cash provided by operations for the thirty-nine week period ended October 2, 2004, was $750,000 compared with $2,741,000 in the year-earlier period. $1,175,000 of this reduction in cash provided by operations was related to an $876,000 reduction in accounts payable and accrued expenses for the thirty-nine week period ended October 2, 2004 compared with a $299,000 increase in accounts payable and accrued expenses in the year earlier period. An additional $713,000 of the reduction in cash provided by operations was related to a $278,000 reduction in income taxes payable in the current year compared with a $435,000 increase in income taxes payable in the year-earlier period. This change is primarily due to the fact that the Company has a $137,000 income tax receivable as of October 2, 2004 and had $141,000 in income taxes payable at the end of FY 2003 compared with $139,000 in income taxes payable as of September 27, 2003 and $296,000 in income taxes receivable at the end of FY 2002. In recent history, cash from operations and debt have been used for the addition of new restaurants and equipment as well as the re-imaging of existing restaurants to reflect the Company’s new logo and related color scheme.

     As of October 2, 2004, the Company had total long-term debt of $4,657,000 and unused lines of credit and loan commitments of potential additional borrowings of $2,500,000. While the Company does have, in addition to this $2,500,000, an $876,000 loan commitment, the company does not anticipate drawing these funds due to high interest rates for the commitment. On February 11, 2003, the Company entered a loan agreement with a financial institution in the amount of $5,000,000. The loan agreement comprised the following three components: (1) a $2,500,000 five-year loan with a fixed rate of 5.2%. The funds from the five-year term loan were used to refinance approximately $2.3 million of existing term loans with an average interest rate of 6.8% and maturity dates ranging from one to two years, (2) a $2.0 million draw down line for future expansion with a variable rate of interest equal to the one month LIBOR rate plus a spread not to exceed 3% that is calculated based on certain financial covenants and (3) a $500,000 revolver

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line with a variable rate of interest equal to the one month LIBOR rate plus a spread not to exceed 3% that is calculated based on certain financial covenants. No long-term debt commitments or loan draws were made by the Company during the thirty-nine weeks ended October 2, 2004.

     On January 2, 2001, the Company’s board of directors adopted a stock repurchase plan that allows the Company to repurchase up to 500,000 shares of its outstanding common stock. As of October 2, 2004, the Company had repurchased 25,000 shares of common stock under the plan. No further purchases are anticipated in the near term.

     The Company has budgeted capital expenditures of approximately $3.0 million in fiscal year 2004, excluding potential acquisitions and share repurchases. These capital expenditures primarily relate to the development of additional company-operated restaurants, the re-imaging of existing restaurants to reflect the Company’s new logo and related color scheme, addition of new menu boards, store equipment upgrades, and enhancements to existing financial and operating information systems. As of October 2, 2004, the Company had spent $2,029,000 of these budgeted capital expenditures. The Company expects to fund these capital expenditures through cash flow from operations, proceeds from the sale of the Kansas City location on July 9, 2004 and borrowings under existing loan commitments of up to $2.5 million.

Seasonality and Inflation

     While the Company does not believe that seasonality affects its operations in a materially adverse manner, first quarter results are generally lower than other quarters due to seasonal climate conditions in the locations of many of its restaurants. Although results were negatively impacted during the thirty-nine weeks ended October 2, 2004 due to a 14% increase in the cost of beef, in addition to increases in other food costs driven primarily by higher fuel costs, the Company has been able to offset the impact of inflation on income during the thirty-nine weeks ended October 2, 2004 with the implementation of two menu price increases of approximately 2% in October 2003 and June 2004. The company also implemented an additional menu price increase of approximately 2% effective October 3, 2004. Historically, the Company generally has been able to offset increases in operating costs by increasing menu prices or modifying its operating procedures. Additional increases in food, labor or other operating costs could adversely affect the Company’s operations. Depending on the impact the recent menu price increases have on guest traffic, the Company may not be able to offset the impact of additional cost increases in the near term with additional menu price increases and would need to offset these cost increases by modifying its operating procedures to improve efficiencies and profitability.

Conversion of Preferred Stock

     In accordance with the provisions of the Company’s Certificate of Incorporation regarding preferred stock, as a result of the Company’s having attained after tax net income in excess of $600,000 during 1994, each share of preferred stock is convertible into one share of common stock, at the option of the holder.

     The Company notified preferred stockholders of their right to convert preferred stock to common stock, and anticipates that all shares of preferred stock will eventually be converted. Such conversion began on April 5, 1995, at which time there were 1,199,979 shares of preferred stock outstanding. As of October 2, 2004, only 19,617 shares have yet to be converted.

Known Trends and Uncertainties

     Labor will continue to be a critical factor for the Company in the foreseeable future. In most areas where the Company operates restaurants, there is a shortage of suitable labor. This could result in higher wages as the competition for employees intensifies, not only in the restaurant industry, but in practically all retail and service industries. It is crucial for the Company to develop and maintain programs to attract and retain quality employees.

     During the thirty-nine weeks ended October 2, 2004, the cost of beef increased approximately 14.0% over the prior year period while the cost of chicken was relatively stable. In light of what appeared to be a sustained period of increased beef costs, the Company implemented menu price increases of approximately 2% in June 2004 and October 2004 in order to partially offset these increased costs. It may be difficult to

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continue to raise menu prices to fully cover any future cost increases. Additional margin improvements may be required to be made through operational improvements, equipment advances and increased volumes to help offset these increases, due to the competitive state of the quick-service restaurant industry.

     Due to the competitive nature of the restaurant industry, site selection continues to be challenging as the number of businesses vying for locations with similar characteristics increases. This will likely result in higher occupancy costs for prime locations.

     Franchised same-store sales decreased 1.0% and company-operated same-store sales increased 4.4% during the thirty-nine weeks ended October 2, 2004. Restaurants are included in the same-store sales calculation after the completion of eighteen months of operation as sales during the six-month period immediately after the opening tend to be higher due to promotions and trial by public. Management attributes the disparity between franchised and company-operated same-store sales to certain initiatives undertaken at company-operated restaurants that have yet to be fully implemented in the franchised stores.

     These initiatives include the re-imaging of existing company-operated restaurants to reflect the Company’s new logo and related color scheme. The Company completed the re-imaging of the exterior of all company-operated restaurants during the first quarter of 2004. Franchised locations are just beginning the process of being re-imaged, and the Company anticipates having the exterior of all franchised locations re-imaged by the end of 2005. As of the end of the third quarter of 2004, forty franchised locations had not had the stores’ exteriors re-imaged. All locations, both company-operated and franchised, constructed since the beginning of 2002 have been constructed with the Company’s new logo and related color scheme.

     The Company has been testing a late-night operations program at company-operated restaurants since the beginning of the second quarter of 2003. The Company intends to continue its late night operations at company-operated locations for the remainder of 2004 and during 2005, but has not mandated additional hours of operations for franchised stores at this time.

     The Company is also testing a breakfast program at ten of the 42 company-operated restaurants, which also had a positive impact on same-store sales at company-operated restaurants during the third quarter of 2004. The Company is still in the process of developing its menu and refining its operations for the breakfast program. Only two franchised locations were serving breakfast as of the end of the third quarter of 2004.

     The Company took two menu price increases at company-operated restaurants of approximately 2% that became effective in October 2003 and in June 2004, which also positively impacted same-store sales for company-operated restaurants.

     Management intends to continue with its marketing strategy of enhancing the Company’s points of differentiation and further positioning the Company as a premium fast-food provider.

     The future success of the Company will be determined, to a great extent, by its ability to positively address these issues.

Critical Accounting Policies and Estimates

     Our discussion and analysis of our financial condition and results of operations are based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities.

     On an on-going basis, management evaluates Company estimates, including those related to bad debts, carrying value of investments in property and equipment, goodwill, income taxes, contingencies and litigation. Management bases Company estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

     Management believes the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our Consolidated Financial Statements.

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Revenue Recognition:

     Revenue recognition at company-operated restaurants is recorded as customers pay for products at the time of sale. The earnings reporting process is covered by the Company’s system of internal controls and generally does not require significant management judgments and estimates. The Company calculates royalty income each week based upon amounts reported by franchisees and provides for estimated losses for revenues that are not likely to be collected. The Company maintains these allowances for doubtful accounts for estimated losses resulting from the inability of our franchisees and other borrowers to make required payments. If the financial conditions of our franchisees or other borrowers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.

     Franchise fees are recognized as revenue when substantially all of the initial services required of the Company have been performed, which generally coincides with the opening of the franchises. Such services include training and assistance with site location, equipment vendors, structural design and operating policies. Area development fees arise when franchisees are awarded the right to develop, own and operate additional Back Yard Burgers restaurants in specific geographical areas pursuant to the terms of an Area Development Agreement. Such fees are based on the number of restaurants the franchisee expects to develop.

     These fees are included as revenue in accordance with the franchise fee recognition policy as each additional restaurant is opened. Under the terms of the franchise and area development agreements, the fees are non-refundable and may be recognized as revenue should the franchisee fail to perform as agreed. Commission costs associated with the sales of franchise and area development rights are expensed when related revenues are recognized.

     The Company collected funds during 2003 and 2004 from certain vendors relating to future purchases by the Company. The Company deferred these amounts as other deferred income. These funds are recorded as a reduction of cost of sales in a proportionate manner with respective future purchases. Under the terms of signed contracts, the Company is required to purchase specific volumes in future years. If these purchase volumes are not met, funds related to the volume shortages will be refunded to the vendors. All contracts entered into subsequent to December 29, 2002 are being accounted for under EITF 02-16.

Long-Lived Assets:

     The restaurant industry is capital intensive. The Company has approximately 76% of its total assets invested in property and equipment. The Company capitalizes only those costs that meet the definition of capital assets under generally accepted accounting principles. Accordingly, repairs and maintenance costs that do not extend the useful life of the asset are expensed as incurred.

     The depreciation of our capital assets over their estimated useful lives, and the determination of any salvage values, requires management to make judgments about future events. Because the Company utilizes many of its capital assets over relatively long periods, the Company periodically evaluates whether adjustments to our estimated lives or salvage values are necessary. The accuracy of these estimates affects the amount of depreciation expense recognized in a period and, ultimately, the gain or loss on the disposal of the asset. Historically, gains and losses on the disposition of assets have not been significant. However, such amounts may differ materially in the future based on restaurant performance, technological obsolescence, regulatory requirements and other factors beyond our control.

     Due to the fact that the Company invests a significant amount in the construction or acquisition of new restaurants, the Company has risks that these assets will not provide an acceptable return on our investment and an impairment of these assets may occur. The accounting test for whether an asset held for use is impaired involves first comparing the carrying value of the asset with its estimated future undiscounted cash flows. If these cash flows do not exceed the carrying value, the asset must be adjusted to its current fair value. The Company periodically performs this test on each of our restaurants to evaluate whether impairment exists. Factors influencing our judgment include the age of the restaurant (new restaurants have significant start up costs which impede a reliable measure of cash flow), estimation of future restaurant performance and estimation of restaurant fair value. Due to the fact that the management can specifically evaluate impairment on a restaurant by restaurant basis, the Company has historically been able to identify impaired restaurants and record the appropriate adjustment.

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     The Company has approximately $1.8 million of goodwill on its balance sheet resulting from the acquisition of businesses. Accounting standards require that we review goodwill for impairment on an annual basis and cease all goodwill amortization. The annual evaluation of goodwill impairment requires a two-step test in which the market value of the Company is compared to the recorded book value. If the market value is less than the book value, goodwill impairment is recorded. Once an impairment of goodwill has been recorded, it cannot be reversed.

Deferred Income Taxes:

     The Company records income tax liabilities utilizing known obligations and estimates of potential obligations. A deferred tax asset or liability is recognized whenever there are future tax effects from existing temporary differences and operating loss and tax credit carry forwards. The Company records a valuation allowance to reduce deferred tax assets to the balance that is more likely than not to be realized. In evaluating the need for a valuation allowance, management must make judgments and estimates on future taxable income, feasible tax planning strategies and existing facts and circumstances. When management determines that deferred tax assets could be realized in greater or less amounts than recorded, the asset balance and income statement reflect the change in the period such determination is made. Based on management’s estimates, there is presently a $315,000 valuation allowance recorded on the Company’s deferred tax assets. However, changes in facts and circumstances that affect our judgments or estimates in determining the proper deferred tax assets or liabilities could materially affect the recorded amounts.

Item 3 Quantitative and Qualitative Disclosures about Market Risk

Interest Rate Risk

     The Company is exposed to certain financial market risks, the most predominant being fluctuations in interest rates on variable rate debt and the repricing of fixed rate debt at maturity. Management monitors interest rate fluctuations as an integral part of the Company’s overall risk management program, which recognizes the unpredictability of financial markets and seeks to reduce the potential adverse effect of our results. The effect of interest rate fluctuations historically has been small relative to other factors affecting operating results, such as food, labor and occupancy costs.

     Less than 10% of the Company’s debt portfolio as of October 2, 2004, had variable rates or had maturity dates of less than two years. With every 25 basis point increase in interest rates, the Company could be subject to additional interest expense of approximately $1,500 annually, depending on the timing of the rate changes and debt maturities.

     The Company has considered the use of hedging instruments to minimize interest rate fluctuation risk, but based on the debt portfolio structure described above, no hedging tool has been deemed necessary for the Company at this time.

Commodity Price Risk

     We are subject to volatility in food costs as a result of market risk associated with commodity prices. Our ability to recover increased costs through higher pricing is, at times, limited by the competitive environment in which we operate. We manage our exposure to this risk primarily through pricing agreements on certain products; however, the cost the Company pays for beef fluctuates weekly based on beef commodity prices. The Company does not currently manage this risk with commodity future or option contracts.

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Item 4. Controls and Procedures

     The Company has evaluated the effectiveness of the design and operation of its disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 as of the end of the period covered by the report. Based on the evaluation, performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (the “CEO”) and Chief Financial Officer (the “CFO”), the Company’s management, including the CEO and CFO, concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by the report.

     There have been no changes in our internal control over financial reporting during the fiscal period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Part II            OTHER INFORMATION

     Item 1 Legal Proceedings

     The Company is involved in litigation incidental to its business, including, but not necessarily limited to, claims alleging violations of federal and state discrimination laws. Such litigation is not presently considered by management to be material to the financial condition or results of operations of the Company.

     Item 2 Unregistered Sales of Equity Securities and Use of Proceeds

     None

     Item 3 Defaults Upon Senior Securities

     Not Applicable

     Item 4 Submission of Matters to a Vote of Security Holders

     None

     Item 5 Other Information

     None

     Item 6 Exhibits

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

BACK YARD BURGERS, INC.

Date: November 12, 2004	By:	/s/ Lattimore M. Michael
		Lattimore M. Michael
		Chairman and Chief Executive Officer

Date: November 12, 2004	By:	/s/ Michael G. Webb
		Michael G. Webb
		Chief Financial Officer

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