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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE FISCAL YEAR ENDED NOVEMBER 30, 1996
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: 0-17442
MERITAGE HOSPITALITY GROUP INC.
(Exact name of registrant as specified in its charter)
MICHIGAN 38-2730460
(State or other jurisdiction (I.R.S. Employer Identification Number)
of incorporation or organization)
40 PEARL STREET, N.W., SUITE 900
GRAND RAPIDS, MICHIGAN 49503
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (616) 776-2600
Securities registered pursuant to Section 12(b) of the Act:
COMMON SHARES, $0.01 par value
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X NO __
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [ ]
The aggregate market value of the voting shares held by non-affiliates as of
February 20, 1997 was $6,785,314 based on the closing price of the Common
Shares on the Chicago Stock Exchange on February 20, 1997.
As of February 20, 1997, there were outstanding 3,213,017 Common Shares of the
Registrant.
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MERITAGE HOSPITALITY GROUP INC.
INDEX TO ANNUAL REPORT
ON FORM 10-K
PART I PAGE
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Item I - Business 3
Item 2 - Properties 10
Item 3 - Legal Proceedings 12
Item 4 - Submission of Matters to Vote of Security-Holders 12
PART II
Item 5 - Market for Registrant's Common Equity and Related
Stockholder Matters 13
Item 6 - Selected Financial Data 16
Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 17
Item 8 - Financial Statements and Supplementary Data 24
Item 9 - Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure 24
PART III
Item 10 - Directors and Executive Officers of the Registrant 25
Item 11 - Executive Compensation 28
Item 12 - Security Ownership of Certain Beneficial Owners
and Management 29
Item 13 - Certain Relationships and Related Transactions 30
PART IV
Item 14 - Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 33
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PART I
ITEM 1. BUSINESS
GENERAL
Meritage Hospitality Group Inc. is engaged in the hospitality business and
conducts its operations through two business segments: the Lodging Group and
the Food Service Group.
In the Lodging Group, the Company owns and operates three full service
hotels: the 149-room Thomas Edison Inn located on the St. Clair River in Port
Huron, Michigan; the 78-room St. Clair Inn located on the St. Clair River in St.
Clair, Michigan; and the 121-room Grand Haven Holiday Inn located on the Grand
River in Spring Lake, Michigan. Each Hotel has a picturesque waterfront setting
and seeks business and leisure travelers who desire full service accommodations
such as guest rooms and suites, a restaurant and cocktail lounge, and
meeting/conference rooms.
In the Food Service Group, the Company owns 680.8 limited partnership
units of the Wendy's of West Michigan Limited Partnership (the "WENDY'S
PARTNERSHIP"), representing approximately 54% of the total outstanding limited
partnership units. The Wendy's Partnership operates 26 "Wendy's Old-Fashioned
Hamburgers" restaurants throughout Western and Southern Michigan which are
operated pursuant to franchise agreements with Wendy's International, Inc.
On May 21, 1996, the shareholders of the Company approved an amendment to
the Company's Articles of Incorporation changing the Company's name from
"Thomas Edison Inns, Inc." to "Meritage Hospitality Group Inc." The Company's
principal executive office is located at 40 Pearl Street, N.W., Suite 900,
Grand Rapids, Michigan 49503, its telephone number is (616) 776-2600 and its
facsimile number is (616) 776-2776. Unless otherwise specified, or unless the
context otherwise requires, all references to "the Company" include Meritage
Hospitality Group Inc. and its subsidiaries.
ACQUISITION
WENDY'S OF WEST MICHIGAN LIMITED PARTNERSHIP
In June 1996, the Company purchased 14 limited partnership units of the
Wendy's Partnership for $5,000 cash per unit. In July 1996, the Company
purchased an additional 143.25 units in exchange for 171,900 Company Common
Shares which were trading at $6.25 per share at that time (equal to $7,500 per
unit). These transactions resulted in the Company owning approximately 12.5% of
the outstanding units.
As reported on Form 8-K/A Amendment No. 1, filed with the Securities and
Exchange Commission on January 6, 1997, the Company commenced a tender offer on
September 17, 1996 to acquire an additional 480 units in exchange for $7,000
cash per limited partnership unit. When the tender offer expired on October 31,
1996, a total of 698.75 limited partnership units had been deposited. The
Company accepted 482.55 validly tendered units, thereby giving the Company 639.8
(approximately 51%) of the outstanding limited partnership units. The Company
thereafter acquired an additional 41 limited partnership units (which the
Company valued at $7,200 per unit) in exchange for 29,520 shares of Company
preferred stock, bringing the Company's total
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ownership interest to approximately 54%. All of the Company's limited
partnership units were then transferred to MHG Food Service Inc., a wholly
owned subsidiary of the Company.
On October 21, 1996, the Company entered into an agreement to acquire the
General Partnership interest in the Wendy's Partnership. The acquisition is
conditioned upon, among other things, the approval of Wendy's International.
The current General Partner of the Wendy's Partnership (Wendy's West Michigan,
Inc., a Michigan corporation) oversees the day-to-day operations of the Wendy's
Partnership, subject to the right of the limited partners to vote on certain
matters.
It is the Company's intention ultimately to acquire the entire business of
the Wendy's Partnership.
REPLACEMENT AND RESTRUCTURING OF MANAGEMENT
From the Company's inception in 1986 until January 1996, Donald W.
Reynolds served as Chairman of the Board, President, Chief Executive Officer,
Treasurer and Secretary of the Company, and the Company engaged Innkeepers
Management Company, a Michigan corporation wholly owned by Mr. Reynolds, to
manage the Company's business pursuant to a Management Agreement.
As reported in the Company's Report on Form 8-K filed with the SEC on
February 5, 1996, Mr. Reynolds was removed as an officer and director of the
Company by the St. Clair County (Michigan) Circuit Court on January 8, 1996
(Case No. 95-00-33-88-CZ, Deegan, J.). The Court appointed Frank O. Staiger as
acting President and director. On January 25, 1996, Meritage Capital Corp.
("MCC"), then the Company's majority shareholder, amended the Company's Bylaws
to, among other things, expand the Board of Directors to 10 directors and
appointed 5 new directors. On January 25, 1996, the Company's newly expanded
Board of Directors appointed Christopher B. Hewett as the Company's new
President and Chief Executive Officer. The Board also terminated the Management
Agreement with Innkeepers and removed David C. Distad, Mr. Reynolds's
son-in-law, as Vice President and Chief Financial Officer of the Company.
Instead of employing a third party management company, the Company now operates
the Company's business directly in an effort to more effectively utilize the
Company's resources and employees.
On January 24, 1997, the Board of Directors amended the Company's Bylaws
to remove the requirement that the Board of Directors consist of two classes.
Pursuant to this amendment, the Board shall be comprised of not less than 5 nor
more than 15 directors, and all directors shall be elected for a term of office
continuing only until the next election of directors by the shareholders.
LODGING GROUP
The Company's Hotels are full service properties that attract business and
leisure travelers. Each Hotel provides fully appointed guest rooms and numerous
amenities and services including a restaurant and cocktail lounge,
meeting/conference rooms, and a swimming pool and fitness facility.
Approximately 150 full time, and 325 part time, employees are involved in the
operation of the three Hotels, none of whom are members of a labor union or
part of a collective bargaining unit.
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THOMAS EDISON INN
The Thomas Edison Inn, which opened in 1987, is located on approximately 4
acres bordering the St. Clair River in Port Huron, Michigan. The Hotel has 149
guest rooms, a 250 seat restaurant that overlooks the St. Clair River and Lake
Huron, a 150 seat cocktail lounge, and a variety of meeting/conference rooms
accommodating up to 500 people. Other facilities include an indoor swimming
pool, a pool side whirlpool, and a health club and retail shops leased to third
party vendors. The Hotel's room revenue is derived from business and leisure
travelers. The Hotel's food and beverage facilities are heavily patronized by
local clientele which results in food and beverage revenues significantly
higher than industry norms for similar size hotels. In 1996, the Hotel
underwent a $650,000 renovation which included building improvements and the
installation of point-of-sale, property management and telephone systems.
ST. CLAIR INN
The St. Clair Inn, which opened in 1926, is a state historic site located
on approximately 2.5 acres bordering the St. Clair River in St. Clair, Michigan.
The Hotel has 78 rooms, a 240 seat restaurant that overlooks the St. Clair
River, a 60 seat cocktail lounge, and a variety of meeting/conference rooms
accommodating up to 250 people. Other facilities include an indoor swimming pool
and approximately 1,000 feet of frontage along the St. Clair River with a
boardwalk running most of that distance. The Hotel's market mix is similar to
that of the Thomas Edison Inn, and the Hotel also derives substantial food and
beverage revenue from local clientele. In order to facilitate the sale of
certain Non-core Assets (described below), three buildings adjacent to the Hotel
are slated to be demolished in 1997, resulting in eighteen rooms having been
removed from service in late 1996. The Hotel underwent a $500,000 renovation in
1996 which included building improvements and the installation of point-of-sale,
property management and telephone systems.
GRAND HAVEN HOLIDAY INN
The Grand Haven Holiday Inn, which opened in 1969, is located on
approximately 4 acres bordering the Grand River in Spring Lake, Michigan. The
Hotel has 121 rooms, a 185 seat restaurant that overlooks the Grand River, a 125
seat cocktail lounge, and a variety of meeting/conference rooms accommodating up
to 300 people. Other facilities include an outdoor and indoor swimming pool. The
Grand Harbor Yacht Club, a 52-slip marina owned by the Company, borders the
property. The Hotel's market mix is similar to that of the Thomas Edison Inn and
the St. Clair Inn, and the Hotel also derives substantial food and beverage
revenue from local clientele. In 1996, the Hotel underwent a $700,000 renovation
whereby the exterior of the Hotel was redesigned and renovated to compliment and
accentuate its nautical surroundings.
The Hotel is operated under a license agreement between Holiday Inns
Franchising, Inc. and the Company's subsidiary, Grand Harbor Resort Inc. Under
this agreement, the Hotel is entitled to use the service marks "Holiday Inn"
and certain other service and trademarks, and a computerized reservation
network operating under the name "Holidex." The Hotel is required to pay a
variety of fees and assessments to Holiday Inns Franchising which, in fiscal
1996, totaled $148,811, or 8.3% of the Hotel's gross room revenues. The license
agreement expires in August 2009. Holiday Inns Franchising may terminate the
license if the Hotel fails to meet its obligations under the license agreement
to the satisfaction of Holiday Inns Franchising. The Company believes its
subsidiary is in compliance with the license agreement. However, the Company is
presently negotiating the terms of a property improvement plan mandated by
Holiday Inns Franchising which, if an agreement is not reached, may be viewed
as a
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default under the license agreement. The Company is also presently reviewing
the significance of its affiliation with Holiday Inn to determine whether
continuing the Holiday Inn affiliation is in the Company's best interests. The
Company does not believe that the termination of the license agreement would
have a material effect on its operations.
CAPITAL EXPENDITURE PROGRAM
The Company spent approximately $2.2 million in its capital expenditure
program in 1996, primarily to upgrade and refurbish the Company's properties.
The program is described in more detail in Item 7 "Financial Condition and
Liquidity." The Company intends to continue basic capital improvements in 1997
and may finance such expenditures through the sale of Non-core Assets
(described below) or with funds generated from operations.
COMPETITION AND INDUSTRY CONDITIONS
The lodging industry is highly competitive. Since 1993, the industry has
been steadily recovering from the recession of the early 1990's and the
over-building of the late 1980's. Occupancy and average daily rates have
consistently increased since 1993. Also, new hotel construction has resumed.
Industry sources continue to forecast modest increases in occupancy, average
daily rates and profits for 1997.
The following table illustrates the average daily room rates for the
Hotels during 1995 and 1996 as compared to the national average:
AVERAGE DAILY ROOM RATES
- --------------------- ----------------------- ----------------------- ----------------------- ---------------------
THOMAS GRAND HAVEN HOLIDAY NATIONAL
FISCAL YEAR EDISON INN ST. CLAIR INN INN AVERAGE*
- --------------------- ----------------------- ----------------------- ----------------------- ---------------------
1995 $ 80.68 $ 71.39 $ 68.11 $ 67.34
- --------------------- ----------------------- ----------------------- ----------------------- ---------------------
1996 $ 80.48 $ 83.26 $ 71.02 $ 69.50
- --------------------- ----------------------- ----------------------- ----------------------- ---------------------
* Source: Smith Travel, Coopers & Lybrand and CLS Estimates
The following table illustrates the percentages of occupancy for 1995 and
1996 as compared to the national occupancy rate:
OCCUPANCY RATES
- -------------------- ----------------------- ------------------------ ----------------------- ---------------------
THOMAS GRAND HAVEN HOLIDAY NATIONAL
FISCAL YEAR EDISON INN ST. CLAIR INN INN AVERAGE*
- -------------------- ----------------------- ------------------------ ----------------------- ---------------------
1995 59.5% 59.9% 61.7% 65.5%
- -------------------- ----------------------- ------------------------ ----------------------- ---------------------
1996 65.5% 56.6% 57.7% 66.5%
- -------------------- ----------------------- ------------------------ ----------------------- ---------------------
* Source: Smith Travel, Coopers & Lybrand and CLS Estimates
The Hotels compete with a wide range of lodging facilities offering various
types of hospitality related services to the public. The competition includes
several national and regional hotel chains offering a variety of accommodations,
amenities and levels of service, and independent hotels in each market segment.
Business at the Company's Hotels varies seasonally. Historically,
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demand has been greatest during the summer, resulting in higher revenues
during the Company's third fiscal quarter.
The Company's Hotels are the dominant full service properties in their
respective markets. To maintain its market share, the Company has expanded its
sales and marketing programs and made significant capital improvements. In
recent years, most newly constructed hotels in the Company's markets have been
limited service hotel properties which offer mid-priced or economy level room
rates. The Company anticipates increased competition in its markets as a result
of these new properties.
Current market conditions make this an opportune time to sell full service
hotels. Accordingly, the Company intends to explore carefully any opportunity
which may arise regarding the sale of one or more of the Company's full service
hotels. Proceeds would be used to pay down the Company's long term
indebtedness.
RISKS AND GOVERNMENTAL REGULATIONS
The Company's Lodging Group is subject to all the risks inherent in the
lodging industry. These include, among others, general and local economic
conditions; changes in travel patterns and highway conditions and construction;
changes in governmental regulations that influence wages, prices and
construction costs; changes in interest rates; changes in health insurance
coverage requirements; the geographical concentration of the Company's Hotels;
working conditions; and the recurring need for renovation and capital
improvements. Because of the high level of fixed costs required to operate full
service hotels, certain significant expenditures cannot generally be reduced
when circumstances cause a reduction in revenue. Substantial changes in the
minimum wage or mandatory health care coverage could have an adverse effect on
the Company's operations.
The hotel, restaurant and lounge operations within the Company's Lodging
Group are subject to governmental regulation and licensing requirements,
including, but not limited to, zoning ordinances, public health certification
and liquor licenses. The Company believes its operations would be adversely
affected if these licenses or permits were terminated. The Company does not
anticipate that its licenses or permits will be terminated.
FOOD SERVICE GROUP
THE WENDY'S PARTNERSHIP
The Company's Food Service Group consists of a majority interest in the
Wendy's Partnership which operates 26 "Wendy's Old-Fashioned Hamburgers"
quick-service restaurants in the Michigan counties of Allegan, Calhoun,
Kalamazoo, Kent, Muskegon, Ottawa and Van Buren. The Wendy's Partnership
employs approximately 900 people and reported sales of approximately $26.5
million in fiscal 1996. The restaurants offer a diverse menu featuring
hamburgers, chicken breast sandwiches, baked and french fried potatoes, pita
sandwiches, freshly prepared salads, soft drinks and "Frosty" desserts.
The Wendy's restaurants are operated pursuant to license agreements with
Wendy's International. These agreements impose requirements regarding the
preparation and quality of food products, the level of service, and general
operating procedures. The Wendy's Partnership makes a monthly royalty payment to
Wendy's International (the greater of 4% of monthly gross sales or
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$250 per restaurant) and commits a certain percentage of monthly gross sales to
advertising. The Wendy's Partnership is also permitted to utilize Wendy's
International's trademarks, service marks, designs and other propriety rights
in connection with the operation of the restaurants.
The franchise agreements provide, among other things, that a change in the
operational control of the Wendy's Partnership or the General Partner cannot
occur without the prior consent of Wendy's International. The Company executed a
letter of intent with Wendy's International in January 1997 whereby the basic
business terms of the Company's assumption of control of the Wendy's Partnership
were agreed to by Wendy's International. The franchise agreements also provide
that any proposed sale of the Wendy's Partnership's business, interests or
franchise rights is subject to the consent and right of first refusal of Wendy's
International.
The franchise agreements currently in place with the Wendy's Partnership
generally expire 20 years after the date the restaurant at issue was opened or
under construction. Subject to certain conditions, the franchise agreements
generally are renewable for a term equal to the term set forth in the standard
form of franchise agreement that is executed by other Wendy's International
franchise owners renewing their franchises at or about the same time.
The Wendy's Partnership cannot conduct its present business without its
affiliation with Wendy's International which gives the Wendy's Partnership the
right to use certain registered trademarks and service marks such as "Wendy's"
and "Wendy's Old-Fashioned Hamburgers." A default by the Wendy's Partnership
under a franchise agreement could result in adverse consequences, including the
termination of the franchise agreement.
COMPETITION AND INDUSTRY CONDITIONS
The food service industry serves as the nation's largest retail employer,
providing jobs for over 9 million people at over 730,000 locations in the United
States. The growth rate of the quick-service segment has consistently exceeded
that of the food service industry as a whole for more than 20 years. The
historic change in domestic lifestyles which favor greater convenience has
significantly impacted this trend. Because of this growth rate, competition in
the quick-service restaurant segment is intense and can be expected to
increase. Most of the Wendy's Partnership's restaurants are in close proximity
to other quick-service restaurants (e.g. McDonald's, Burger King and Taco Bell)
which compete on the basis of price, service, quality and variety. Recently,
the major competitors have attempted to draw customer traffic by a deep
discounting strategy. However, neither Wendy's International nor the Company
believes this is a profitable long-term strategy. The Company intends to achieve
growth both by developing new Wendy's restaurants and by increasing the sales
at existing restaurants.
The restaurant industry is subject to seasonal fluctuations. Like the rest
of the quick-service industry, traffic typically increases during the summer
months, which results in increased revenues for the Wendy's Partnership during
those months.
The Company is exploring other acquisitions that would significantly
increase the size of the Company's Food Service Group.
RISKS AND GOVERNMENTAL REGULATIONS
The Company's Food Service Group is subject to all the risks inherent in
its industry. These include, among others, changes in local, regional or
national economic conditions; changes in consumer
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tastes and concerns about the nutritional quality of quick-service food;
increases in food, labor and energy costs; the availability and cost of
suitable restaurant sites; the general reputation of Wendy's restaurants;
changes in travel patterns and highway conditions and construction; changes in
governmental regulations that influence prices and construction costs; changes
in health insurance coverage requirements; and changes in interest rates. Also,
the Wendy's Partnership is subject to extensive federal, state and local
government regulations relating to the zoning, development and operation of the
restaurants and the preparation and sale of food. The Wendy's Partnership is
also sensitive to laws governing relationships with its employees such as
minimum and overtime wage laws, health insurance coverage requirements, and
working conditions. Substantial changes in the minimum wage or mandatory
health care coverage could have an adverse effect on the Wendy's Partnership.
FINANCIAL INFORMATION RELATING TO INDUSTRY SEGMENTS
-------------------------- ------------------------- -------------------------
1996 1995 1994
- --------------------------------- -------------------------- ------------------------- -------------------------
Revenue:
- --------------------------------- -------------------------- ------------------------- -------------------------
Lodging Group $ 14,762,822 $ 14,441,020 $ 15,360,028
- --------------------------------- -------------------------- ------------------------- -------------------------
Food Service Group 2,122,040 * *
- --------------------------------- -------------------------- ------------------------- -------------------------
- --------------------------------- -------------------------- ------------------------- -------------------------
Operating Profit or (Loss):
- --------------------------------- -------------------------- ------------------------- -------------------------
Lodging Group (966,885) (2,043,858) 1,309,492
- --------------------------------- -------------------------- ------------------------- -------------------------
Food Service Group (8,136) * *
- --------------------------------- -------------------------- ------------------------- -------------------------
- --------------------------------- -------------------------- ------------------------- -------------------------
Identifiable Assets:
- --------------------------------- -------------------------- ------------------------- -------------------------
Lodging Group 21,418,956 17,983,503 19,688,429
- --------------------------------- -------------------------- ------------------------- -------------------------
Food Service Group 10,509,908 * *
- --------------------------------- -------------------------- ------------------------- -------------------------
* The Company's Food Service Group commenced operations on November 1, 1996.
NON-CORE ASSETS
The Company has a number of assets which do not directly relate to its
hospitality business. These assets include (i) approximately 5.5 acres of
undeveloped land adjacent to the Thomas Edison Inn, (ii) approximately 1 acre of
commercial property adjacent to the St. Clair Inn, (iii) the Grand Harbor Yacht
Club, a 55-slip marina which borders the Grand River adjacent to the Grand Haven
Holiday Inn, (iv) $5.1 million in life insurance policies on the life of the
former President and Chief Executive Officer, and (v) a note receivable from the
sale of shares in the outstanding principal amount of $9,750,000 (together the
"NON-CORE ASSETS"). The Company intends to sell some or all of the Non-core
Assets described in (i) through (iv) above to raise additional funds which may
be used to pay down the Company's long-term indebtedness or fund acquisitions,
capital expenditures or other corporate purposes.
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ITEM 2. PROPERTIES.
For a description of the properties that are owned and operated by the
Company and its subsidiaries, see Item 1.
The Company leases approximately 4,600 square feet of office space located
at 40 Pearl Street, N.W., Suite 900, Grand Rapids, Michigan 49503 as its
corporate headquarters and as the registered office of the Company and its
subsidiaries.
The Wendy's Partnership operates 26 restaurants in the Michigan counties
of Allegan, Calhoun, Kalamazoo, Kent, Muskegon, Ottawa and Van Buren. The
Wendy's Partnership (i) owns the land and buildings comprising five
restaurants, (ii) leases the land and buildings comprising 20 restaurants, and
(iii) owns the building and leases the land comprising one restaurant. The term
of the leases (including options to renew) range from one to 25 years. All of
the equipment used in the operation of the restaurants is owned by the Wendy's
Partnership. Each restaurant is a size, shape, design and layout that is
required, and has been approved, by Wendy's International. The ages of the
restaurants range from one to twenty-three years. The restaurants are subject
to the encumbrances that are described in "Financing and Encumbrances" below.
The Wendy's Partnership also leases approximately 4,000 square feet of
office space located at 4613 West Main, Kalamazoo, Michigan 49006 as its
operating headquarters. The principal office of the General Partner is located
at 125 Ottawa, N.W., Suite 235, Grand Rapids, Michigan 49503.
The Company believes that its properties, and the properties held by the
Wendy's Partnership, are adequately covered by insurance.
FINANCING AND ENCUMBRANCES
On February 26, 1996, the Company entered into an agreement with Great
American Life Insurance Company ("GALIC"), an affiliate of American Financial
Group, Inc., to refinance all of its mortgage debt. The Company executed two
promissory notes in favor of GALIC in the principal amount of $12,000,000
("LOAN A") and $3,000,000 ("LOAN B"), respectively. The interest rate on Loan A
was the Prime Rate of The Provident Bank (Cincinnati, Ohio) plus 1%, fully
floating. The interest rate on Loan B was the Prime Rate of The Provident Bank
plus 8%, fully floating. Loan A had a maturity date of March 1, 2012, with
monthly payments of interest only during the first year and 180 equal monthly
payments of principal plus accrued interest thereafter. Loan B had a maturity
date of March 1, 2002, with monthly payments of interest only during the first
year and 60 equal monthly payments of principal and accrued interest
thereafter. Loan A could be prepaid in whole or in part at any time without
penalty upon payment of all accrued interest and principal. Loan B could be
prepaid in whole or in increments of $100,000 upon payment of all accrued
interest plus a prepayment premium of 10% of the principal balance so prepaid,
except that no prepayment premium would be payable if GALIC required such
prepayment from the proceeds resulting from the disposition of certain
collateral securing Loan B. Loan A was secured by, among other things, a first
priority mortgage lien on the Hotels. Loan B was secured by a second priority
mortgage lien on the Hotels; by a first priority mortgage lien on the
undeveloped land adjacent to the Thomas Edison Inn, the commercial property
adjacent to the St. Clair Inn, and the Grand Harbor Yacht Club; by a collateral
assignment of all life insurance policies owned by the Company on the life of
Mr. Reynolds; and by an assignment of a Secured Promissory Note in the
principal amount of $10,500,000 payable by MCC to the Company. Both Loan A and
Loan B contained cross-default provisions.
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On October 31, 1996, the Company entered into Amendment No. 1 to the loan
agreement with GALIC to obtain an additional $3,000,000 mortgage loan ("LOAN
C"). The proceeds from Loan C were used to pay the costs associated with
commencing and closing the tender offer for the limited partnership units of
the Wendy's Partnership. The terms of Loan C were nearly identical to Loan B
described above, although Loan C's security included all of the outstanding
limited partnership units of the Wendy's Partnership owned by the Company.
On November 26, 1996, the Company entered into a new loan agreement with
GALIC to replace the existing loan agreement and restructure the Company's
total indebtedness. Loan A was refinanced and an additional $2,000,000 was
borrowed ("LOAN I"). Loan I is with the subsidiaries of the Company and is
secured by a first mortgage lien on the Hotels, a first priority security
interest in the Hotel personal property and an assignment of the Hotel
franchise agreement. Loan I is guaranteed by the Company and bears a fixed
interest rate of 10.3%. Loan I requires equal monthly payments of principal and
interest of $137,897 (based upon a 20 year amortization) through December 1,
2003, at which time the loan matures and any remaining unpaid principal and
interest will be due. Loan I may not be prepaid, in whole or in part, within 48
months, except in the event of the sale of one of the Hotels, in which case the
prepayment amount is an amount equal to a predetermined release price for the
property being sold plus a prepayment premium. The prepayment premium is 4% of
the amount prepaid if the sale is within 12 months after closing; 3% if the
sale is after 12 months and prior to 24 months after closing; 2% if the sale is
after 24 months and prior to 36 months after closing; and 1% if the sale is
after 36 months and prior to 48 months after closing. Beginning after the
fourth anniversary of the closing, and continuing until the sixth anniversary
of the closing, Loan I may be prepaid, with a "make whole premium" as defined
in the loan agreement.
At the same time, Loan B and Loan C (together totaling $5,250,000) were
combined into one loan ("LOAN II"). Loan II is with the Company and certain of
its subsidiaries, and bears an interest rate of prime (based on The Provident
Bank - Cincinnati, Ohio) plus 8%, fully floating. Loan II has a maturity date
of June 1, 2002, with monthly payments of interest only during the first year;
principal payments of $50,000 plus accrued interest from December 1, 1997
through March 1, 1998; and principal payments of $100,000 plus accrued interest
thereafter. Loan II may be prepaid in whole or in increments of $100,000 upon
payment of all accrued interest plus a prepayment premium of 10% of the
principal balance so prepaid, except that no prepayment premium shall be
payable if GALIC requires such prepayment from the proceeds resulting from the
disposition of certain collateral securing Loan II. Loan II is secured by a
second priority mortgage lien on the Hotels; by a first priority security
interest on undeveloped land adjacent to the Thomas Edison Inn, commercial
property adjacent to the St. Clair Inn, and the Grand Harbor Yacht Club; by a
collateral assignment of all life insurance policies owned by the Company on
the life of Mr. Reynolds; by an assignment of the Secured Promissory Note in
the principal amount of $9,750,000 payable by MCC to the Company; by the
Company's pledge of the common stock of each of its subsidiaries; and by the
Company's pledge of its partnership interests in the Wendy's Partnership. Both
Loan I and II contain cross-default provisions.
The loan agreement contains a covenant that requires that (i) Mr. Hewett,
or another person acceptable to GALIC, serve as the Company's President and
Chief Executive Officer, (ii) Mr. Hewett own not less than 50% of MCC, and
(iii) MCC own and control at least 25% of the Company's issued and outstanding
Common Shares, or in the event of an issuance of Common Shares by the Company,
that MCC own more Common Shares than any other person or group acting in
concert and have sufficient control to cause the election of persons nominated
by MCC as a majority of the Company's directors.
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The Wendy's Partnership has a note payable with First of America
Bank-Michigan, N.A. in the principal amount of $2,192,351. The loan requires
monthly payments of $43,313 based on a ten year amortization including interest
at 1% over prime. The revolving loan agreement allows the Wendy's Partnership
to apply its excess cash against the loan balance to reduce the interest
charged on the loan. As of November 30, 1996, the loan was paid down to a
balance of $2,192,351 while the permitted (amortized) balance was $2,978,702.
The loan is secured by substantially all the assets of the Wendy's Partnership
and by the guaranty of the General Partner and the personal guarantees of the
shareholders of the General Partner.
ITEM 3. LEGAL PROCEEDINGS.
The Company is involved in certain routine legal proceedings which are
incidental to its business. Except as described below, all of these proceedings
arose in the ordinary course of the Company's business and, in the opinion of
the Company, any potential liability of the Company with respect to these legal
actions will not, in the aggregate, be material to the Company's financial
condition or operations. The Company maintains various types of insurance
standard to the industry which would cover most actions brought against the
Company.
On December 5, 1996, the Company received a notice from the Internal
Revenue Service that it had concluded that legal and professional fees totaling
approximately $2.1 million that were incurred by the Company in fiscal 1995 in
connection with the then existing litigation and deducted as an ordinary and
necessary business expense, should be treated as a capital expenditure and,
therefore, disallowed the deduction. These expenditures related to various
lawsuits in fiscal 1995 concerning the "Replacement and Restructuring of
Management" described in Item 1. The Company believes the deduction was proper
and is vigorously contesting the disallowance.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS.
There were no matters submitted to a vote of security holders of the
Company during the fourth quarter of fiscal 1996.
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13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
MARKET INFORMATION
On October 22, 1996, the Company's Common Shares commenced trading under
the symbol "MHG" on the Chicago Stock Exchange. Since October 18, 1995, the
Company's Common Shares have also appeared under the symbol "MHGI" (or "TEIR"
prior to the Company's name change in May 1996) on the OTC Bulletin Board
System administered by the National Association of Securities Dealers, Inc.
Prior to October 18, 1995, there was no established public trading market for
the Company's Common Shares.
The following table sets forth the high and low bid prices for the
Company's Common Shares beginning on October 18, 1995 and ending on November
30, 1996 (the last day of fiscal 1996) as reported by the NASDAQ Trading and
Market Services:
---------------------------------------------- --------------------------------------------------------------
BID
FISCAL QUARTER HIGH LOW
---------------------------------------------- --------------------------------------------------------------
1st, 2nd & 3rd Quarters, 1995 No Published Quotations
---------------------------------------------- --------------------------------------------------------------
October 18, 1995 - November 30, 1995 $ 7.50 $ 5.88
---------------------------------------------- -------------------------------- -----------------------------
First Quarter 1996 $ 7.125 $ 5.50
---------------------------------------------- -------------------------------- -----------------------------
Second Quarter 1996 $ 6.375 $ 5.625
---------------------------------------------- -------------------------------- -----------------------------
Third Quarter 1996 $ 6.375 $ 4.25
---------------------------------------------- -------------------------------- -----------------------------
Fourth Quarter 1996 $ 6.25 $ 4.25
---------------------------------------------- -------------------------------- -----------------------------
The quotations reflect inter-dealer prices, without retail mark-up,
mark-down or commission, and may not represent actual transactions.
The following table sets forth the high and low prices for the Company's
Common Shares beginning on October 22, 1996 (the first day of trading) and
ending on November 30, 1996 as reported by the Chicago Stock Exchange:
---------------------------------------------- --------------------------------------------------------------
SALES
PERIOD HIGH LOW
---------------------------------------------- -------------------------------- -----------------------------
October 22, 1996 - November 30, 1996 $ 6.25 $ 5.63
---------------------------------------------- -------------------------------- -----------------------------
HOLDERS
As of February 21, 1997, there were approximately 600 record holders of
the Company's Common Shares, which the Company believes represents
approximately 1,400 beneficial holders.
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14
DIVIDENDS
On April 26, 1996, the Company paid a special dividend in the amount of
$.50 per Common Share. Pursuant to the Company's loan agreement with GALIC (see
Item 2 "Financing and Encumbrances"), the Company may not pay any further
dividends without GALIC's consent until Loan II has been paid in full. The
Company does not intend to pay any dividends on its Common Shares in 1997.
The Wendy's Partnership Agreement provides for cash distributions to its
limited partners. On a semi-annual basis, the General Partner reviews the
Wendy's Partnership's results of operations and cash requirements and
determines the cash flow from operations available for distribution to the
limited partners. Pursuant to the Wendy's Partnership's loan agreement (see
Item 2 "Financing and Encumbrances"), the Wendy's Partnership must maintain
certain minimum Tangible New Worth and Cash Availability (as defined in the
loan agreement) which may limit the amount of cash distributions to the
limited partners.
Cash distributions for the two most recent fiscal years are set forth
below:
- ---------------------------------------- ------------------------------------- ------------------------------------
DATE OF DISTRIBUTION PER LIMITED PARTNERSHIP UNIT TOTAL CASH DISTRIBUTION
- ---------------------------------------- ------------------------------------- ------------------------------------
January 1995 $ 200.00 $ 253,899
- ---------------------------------------- ------------------------------------- ------------------------------------
July 1995 $ 250.00 $ 317,374
- ---------------------------------------- ------------------------------------- ------------------------------------
January 1996 $ 100.00 $ 126,950
- ---------------------------------------- ------------------------------------- ------------------------------------
July 1996 $ 150.00 $ 190,424
- ---------------------------------------- ------------------------------------- ------------------------------------
RECENT SALES OF UNREGISTERED SECURITIES
On September 19, 1995, the Company issued 1,500,000 Common Shares to MCC
in exchange for a non-interest bearing note in the original principal amount of
$10,500,000. See Item 13 "Certain Relationships and Related Transactions" for a
more detailed description of the transaction.
In October 1996, the Company commenced a private offering of up to 200,000
shares ($2,000,000) of a new issue of Series A Convertible Preferred Stock. As
of February 21, 1997 the Company had sold $1,083,870 in Convertible Preferred
Stock, with the sales consisting of $788,670 in cash ($243,670 of which certain
executive officers and management elected to take in lieu of all or a portion
of their year end cash bonuses), and $295,200 in units of the Wendy's
Partnership (valued at $7,200 per unit).
Each Convertible Preferred Share has an annual dividend rate of $.90 per
share which is payable in equal quarterly installments on the first day of each
January, April, July and October to holders of record as of the 15th day of the
preceding month. The holders may convert their Preferred Shares at any time
into Common Shares at a conversion price of $7.00 per share, taking the
Preferred Shares at the liquidation value of $10.00 per share, which, at such
ratio, would yield approximately 1.43 Common Shares for each Convertible
Preferred Share. The conversion rate is subject to adjustment in the event of
stock splits, stock dividends, combinations, reclassifications and similar
occurrences. Upon any dissolution or winding up, the holder of each Preferred
Share will be entitled to receive a liquidation value of $10 plus all accrued
but unpaid dividends after the payment of all indebtedness of the Company
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15
and before any distributions to holders of Common Shares. No voting rights are
provided except that should the Company miss six consecutive quarterly dividend
payments, the holders of the Preferred Shares, voting as a class, will be
entitled to elect two additional directors to the Company's Board of Directors.
The offering's objective is to increase shareholders' equity and provide funds
for both acquisition activities and capital improvements.
The following schedule provides information regarding the Series A
Convertible Preferred Shares:
- -------------------------------------- ------------ ------------------------ ------------------ -------------------
SHARES COMMON SHARES IF
DATE OF SALE PURCHASED CLASS OF PURCHASER CONSIDERATION CONVERTED
- -------------------------------------- ------------ ------------------------ ------------------ -------------------
October and November 1996 42,500 Non Employee Directors $ 425,000 cash 60,715
- -------------------------------------- ------------ ------------------------ ------------------ -------------------
Certain Executive
November and December 1996 24,367 Officers & Management $ 243,670 cash 34,810
- -------------------------------------- ------------ ------------------------ ------------------ -------------------
$ 120,000 cash
November 1996 41,520 Others and 41 Units of 59,314
the Wendy's
Partnership
- -------------------------------------- ------------ ------------------------ ------------------ -------------------
On July 25, 1996, the Company issued 171,900 Common Shares to acquire
143.25 limited partnership units of the Wendy's Partnership from three
individuals. The amount of stock issued was determined by using the trading
price on the day that the agreement was reached ($6.25 per share) and assigning
a value of $7,500 to each Wendy's unit.
On November 5, 1996, the Company issued 7,500 Common Shares to a law firm
as payment for services rendered. The amount of stock issued was determined by
using the trading price on the day that the Company agreed to pay the fee in
Common Stock ($4.30 per share).
On January 21, 1997, the Company issued 5,000 Common Shares to a company
as a signing deposit in connection with the execution of a hotel acquisition
agreement that is subject to various conditions prior to closing. The amount of
stock issued was determined by using an agreed upon trading price of $6.25 per
share.
These issuances were exempt from registration under the Securities Act of
1933 pursuant to Section 4(2) of that Act.
-15-
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ITEM 6. SELECTED FINANCIAL DATA.
The following table sets forth the selected financial information of the
Company.
(In thousands except for per share information)
YEAR ENDED NOVEMBER 30,
-------------------------------------------------------------
1996 1995 1994 1993 1992
----------- ------------ ----------- ----------- ------------
Total revenue $ 16,885 $ 14,441 $ 15,360 $ 14,245 $ 14,345
Earnings (loss) from operations $ (975) $ (2,044) $ 1,309 $ 1,064 $ 1,700
Earnings (loss) before cumulative effect
of change in accounting principle $ (1,926) $ (2,049) $ 90 $ 230 $ 299
Net earnings (loss) $ (1,926) $ (2,049) $ (27) $ 230 $ 299
Earnings (loss) per share:
Before cumulative effect of change in
accounting principle $ (0.62) $ (1.13) $ 0.06 $ 0.15 $ 0.20
After cumulative effect of change in
accounting principle $ (0.62) $ (1.13) $ (0.02) $ 0.15 $ 0.20
Property & equipment $ 21,757 $ 13,218 $ 13,645 $ 14,068 $ 14,867
Total assets $ 31,929 $ 17,984 $ 19,688 $ 20,004 $ 20,145
Long-term obligations (1) $ 24,293 $ 11,443 $ 12,647 $ 12,905 $ 13,209
Cash dividends declared per common share $ 0.50 $ 0.00 $ 0.00 $ 0.00 $ 0.00
(1) For comparative purposes, long-term obligations include current portions of
long-term obligations.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
RESULTS OF OPERATIONS
LODGING GROUP
The following summarizes the Company's results of operations for the
Lodging Group for the years ended November 30, 1996, 1995 and 1994.
Statements of Operations
$ in Thousands % of Revenue
-------------------------------- -----------------------------
1996 1995 1994 1996 1995 1994
-------------------------------- -----------------------------
Revenue
Room revenue $ 6,282 $ 5,999 $ 6,048 42.6% 41.5% 39.4%
Food and beverage revenue 7,786 8,246 9,100 52.7 57.1 59.2
Telephone and sundry revenue 695 196 212 4.7 1.4 1.4
---------------------------------- -----------------------------
Total revenue 14,763 14,441 15,360 100.0 100.0 100.0
Costs and expenses
Cost of food and beverages 2,700 2,864 3,041 18.3 19.8 19.8
Operating expenses 8,166 7,215 7,180 55.3 50.0 46.7
General and administrative 3,854 4,980 2,597 26.1 34.5 16.9
Depreciation and amortization 1,010 1,427 1,232 6.8 9.9 8.0
---------------------------------- -----------------------------
Total costs and expenses 15,730 16,485 14,051 106.6 114.2 91.5
---------------------------------- -----------------------------
Earnings (loss) from operations (967) (2,044) 1,309 (6.6) (14.2) 8.5
Other income (expense)
Interest expense (1,605) (1,355) (1,206) (10.9) (9.4) (7.9)
Interest income 658 387 87 4.5 2.7 0.6
Gain (loss) on sale of assets (7) 242 12 (0.0) 1.7 0.1
---------------------------------- -----------------------------
(954) (727) (1,107) (6.4) (5.0) (7.2)
---------------------------------- -----------------------------
Earnings (loss) before federal income
tax and cumulative effect of change
in accounting principle (1,921) (2,771) 202 (13.0) (19.2) 1.3
Federal income tax expense (benefit) (20) (721) 112 (0.1) (5.0) 0.7
---------------------------------- -----------------------------
Earnings (loss) before cumulative
effect of change in accounting
principle (1,901) (2,049) 90 (12.9) (14.2) 0.6
Cumulative effect of change in
accounting principle (117) (0.8)
---------------------------------- -----------------------------
Net loss $(1,901) $ (2,049) $ (27) (12.9%) (14.2%) (0.2%)
================================== =============================
-17-
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YEARS ENDED NOVEMBER 30, 1996 AND 1995
REVENUE
Total revenue for the Lodging Group was $14,762,822 for fiscal 1996
compared to $14,441,020 for fiscal 1995, an increase of 2.2%. The following
table outlines revenues (excluding sundry and telephone) by category:
Increase % Increase
1996 1995 (Decrease) (Decrease)
---------------------------------------------------------------
Room revenue $ 6,281,711 $ 5,999,024 $ 282,687 4.7%
Food and beverage revenue $ 7,786,154 $ 8,245,880 (459,726) (5.6%)
---------------------------------------------------------------
Total $14,067,865 $14,244,904 $(177,039) (1.2%)
===============================================================
The increase in room revenue was attributable to an increase in the
overall average daily rate of $2.94 (4.0%), from $74.46 in fiscal 1995 to
$77.40 in fiscal 1996. Also contributing to the increase in room revenue was a
slight increase in Hotel occupancy from 60.3% in fiscal 1995 to 60.6% in fiscal
1996. The decrease in food and beverage revenue from fiscal 1995 to fiscal
1996 was primarily attributable to a decrease in social function bookings at
the Hotels during the second half of fiscal 1996.
Telephone and sundry revenue increased $498,841, from $196,116 in fiscal
1995 to $694,957 in fiscal 1996. A large portion of the increase was
attributable to the recognition of approximately $217,000 of expired gift
certificates as income in fiscal 1996. Also contributing to the increase was
the recovery of approximately $68,000 from the collection of amounts due from
parties related to the Company prior to the change in control of the Company,
which had been written off to bad debt expense in fiscal 1995. In addition, new
telephone systems were installed at the Thomas Edison Inn and the St. Clair
Inn. Rate schedules used to calculate telephone charges were updated
generating additional telephone income.
COST OF FOOD AND BEVERAGES
Due to a change in revenue mix between room revenue and food and beverage
revenue (as a percentage of total revenue), cost of food and beverages was
18.3% in fiscal 1996 and 19.8% in fiscal 1995. As a percentage of food and
beverage revenue, cost of food and beverages was 34.7% in both fiscal 1996 and
fiscal 1995 despite the decline in food and beverage revenue.
OPERATING EXPENSES
Operating expenses for fiscal 1996 and fiscal 1995 were $8,166,380 and
$7,215,061, respectively, an increase of $951,319 (13.2%). As a percentage of
total revenue, operating expenses increased 5.3 percentage points, from 50.0%
of total revenue in fiscal 1995 to 55.3% of total revenue in fiscal 1996. The
increase in operating expenses in fiscal 1996 compared to fiscal 1995 was
primarily the result of a 4.0 percentage point increase in payroll costs due to
increased staffing, and salary and wage
-18-
19
increases aimed at improving service to increase revenue. Increases in sales
and marketing expenses, entertainment expense and repairs and maintenance also
contributed to the increase in operating expenses.
GENERAL AND ADMINISTRATIVE
General and administrative expenses decreased $1,126,084 in fiscal 1996
compared to fiscal 1995. General and administrative expenses were abnormally
high in fiscal 1995 as a result of $2,154,163 of expenses related to various
lawsuits in fiscal 1995 resulting in the "Replacement and Restructuring of
Management" described in Item 1. Excluding this $2,154,163 of expenses, general
and administrative expenses increased $1,028,079 in fiscal 1996 compared to
fiscal 1995. In fiscal 1996, the Company decided to manage the Hotels directly
as compared to fiscal 1995 when the Hotels were managed by a management
company (owned by Mr. Reynolds, the former majority shareholder of the
Company). This decision eliminated the fees and expenses assessed by the
management company, but increased payroll costs attributable to the corporate
management staff. This additional staffing was also required to implement the
Company's strategy to expand the Company through the acquisition of new
businesses (including the Wendy's Partnership). The Company did not receive the
financial benefits in fiscal 1996 that it expects to receive in future years as
a result of the Wendy's Partnership acquisition and future acquisitions.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expense decreased $416,871, from $1,426,642
in fiscal 1995 to $1,009,771 in fiscal 1996. Amortization expense was
abnormally high in fiscal 1995 due to the write-off of deferred loan costs of
approximately $350,000 because of the refinancing of the Company's long-term
debt in February 1996. Also, certain property and equipment acquired in 1986
(the year of incorporation) which had a ten year life became fully depreciated
during fiscal 1995. As a result, depreciation expense for fiscal 1996 was lower
compared to fiscal 1995.
INTEREST EXPENSE
Interest expense for fiscal 1996 and 1995 was $1,605,047 and $1,335,389,
respectively. The increase of $249,658 from fiscal 1995 to fiscal 1996 was due
to additional borrowings in fiscal 1996. See Note F to the Financial Statements
beginning on page F-1 for details of the Company's long-term debt. Also see
Item 2 "Financing and Encumbrances."
INTEREST INCOME
Interest income increased from $387,099 in fiscal 1995 to $658,007 in
fiscal 1996. The increase was due to an increase in cash and cash equivalents
in fiscal 1996 compared to fiscal 1995, and an increase in interest income from
the note receivable from the sale of stock which is described in Note J to the
Financial Statements beginning on Page F-1.
FOURTH QUARTER OPERATIONS
The Company's loss before federal income tax increased from $19,677 for
the nine months ended August 31, 1996 to $1,945,570 for the year ended November
30, 1996. The significant loss in the
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20
fourth quarter of fiscal 1996 was attributable to several factors. Hotel
revenues decreased approximately 9% in the fourth quarter of fiscal 1996 as
compared to fiscal 1995. This decrease was the result of a decline in food and
beverage revenue caused by a decline in social function bookings combined with
a decrease in food and beverage business from local clientele as a result of
increased competition. Hotel operating expenses also increased, including
increases in fixed payroll costs, entertainment expense and sales and marketing
expenses, all of which were increased in an effort to reverse the downward
sales trend. General and administrative expenses were also unusually high for
the fourth quarter of fiscal 1996 due to increased professional fees, year-end
bonuses to employees which were allocated at the discretion of the Company's
Compensation Committee, and significant costs related to public company matters
including fees and expenses associated with creating a market for the Company's
Common Stock.
FOOD SERVICE GROUP
As described in Item 1 "Acquisition," the Company acquired a majority
interest in the Wendy's Partnership on October 31, 1996, resulting in the
consolidation of the Wendy's Partnership's operations for the month of November
1996. Revenue from the Wendy's Partnership was $2,122,040. The Wendy's
Partnership's operating loss for the month of November was $8,136 and the loss
before federal income tax was $24,745.
YEARS ENDED NOVEMBER 30, 1995 AND 1994
REVENUE
Total revenue of the Lodging Group decreased 6.0%, from $15,360,028 in
fiscal 1994 to $14,441,020 in fiscal 1995. The decrease in total revenue was
primarily attributable to decreased food and beverage revenue. Room revenue
decreased only $48,486 (0.8%). Food and beverage revenue, however, decreased
$854,278 (9.4%). The following table outlines revenues (excluding sundry and
telephone) by category and Hotel:
Increase % Increase
1995 1994 (Decrease) (Decrease)
--------------------------------------------------------------
Room revenue $ 5,999,024 $ 6,047,510 $ (48,486) (0.8%)
Food and beverage revenue $ 8,245,880 $ 9,100,158 $ (854,278) (9.4%)
--------------------------------------------------------------
Total $ 14,244,904 $ 15,147,668 $ (902,764) (6.0%)
==============================================================
The decrease in room revenue was the result of a decrease in overall
occupancy for the Hotels in fiscal 1995 compared to fiscal 1994. Hotel
occupancy decreased 1.5%, from 61.2% in fiscal 1994 to 60.3% in fiscal 1995.
The decrease in hotel occupancy was largely offset by an increase in the
overall average daily rate of $0.55 (0.7%), from $73.91 in fiscal 1994 to
$74.46 in fiscal 1995. The decrease in food and beverage revenue from fiscal
1994 to fiscal 1995 was primarily attributable to the decrease in
meeting/conference business at the Thomas Edison Inn due to the loss of a
contract with a major customer.
-20-
21
COST OF FOOD AND BEVERAGES
As a percentage of total revenue, cost of food and beverages was 19.8% in
fiscal 1995 and fiscal 1994. As a percentage of food and beverage revenue, cost
of food and beverages increased from 33.4% in fiscal 1994 to 34.7% in fiscal
1995. The increase in cost of food and beverages was due to a change in product
mix resulting primarily from the loss of banquet (e.g. meetings/conferences,
weddings, etc.) business at the Thomas Edison Inn described in the previous
paragraph. Food and beverage costs for banquet business are relatively lower
than food and beverage costs for restaurant and lounge business.
OPERATING EXPENSES
Operating expenses increased 0.5%, from $7,179,572 in fiscal 1994 to
$7,215,061 in fiscal 1995. As a percentage of total revenue, operating expenses
increased 3.3 percentage points to 50.0% in fiscal 1995 compared to 46.7% in
fiscal 1994. The increase in operating expenses was primarily the result of an
increase of approximately 2 percentage points in salaries and wages. This
increase was the result of increased hourly wages (due to the tight labor
market in Michigan) and the negative impact on fixed labor of reduced revenues
in fiscal 1995 compared to fiscal 1994. Increased property taxes and an
increase in repairs and maintenance also contributed to the increase in
operating expenses (as a percentage of sales).
GENERAL AND ADMINISTRATIVE
General and administrative expenses increased $2,384,070 in fiscal 1995
compared to fiscal 1994, of which $2,154,163 related to various lawsuits in
fiscal 1995 which resulted in the "Replacement and Restructuring of Management"
described in Item 1. General and administrative expenses in fiscal 1995 also
included bad debt expense of $260,000 relating to the former majority
shareholder's indebtedness to the Company. Excluding these unusual expenses of
$2,414,163, general and administrative expenses were $2,565,458 in fiscal 1995
compared to $2,597,278 in fiscal 1994.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expense increased $194,455, from $1,232,187
in fiscal 1994 to $1,426,642 in fiscal 1995. The increase was the result of
increased amortization due to the write-off of deferred loan costs of
approximately $350,000 because of the refinancing of the Company's long-term
debt in February 1996. Depreciation expense decreased approximately $156,000 in
fiscal 1995 compared to fiscal 1994. Depreciation expense decreased because
certain property and equipment acquired in 1986 (the year of incorporation)
became fully depreciated during fiscal 1995.
INTEREST EXPENSE
Interest expense for fiscal 1995 and 1994 was $1,355,389 and $1,206,151,
respectively. The increase of $149,238 from fiscal 1994 to fiscal 1995 was due
to increases in the prime rate. All of the Company's debt had been based on
variable interest rates that were based on the prime rate.
INTEREST INCOME
Interest income increased from $87,028 in fiscal 1994 to $387,099 in
fiscal 1995. The increase was due to an increase in cash and cash equivalents
in fiscal 1995 compared to fiscal 1994 and an increase in interest on the
payment of outstanding loans from then related parties. Also contributing to
-21-
22
the increase was interest income from the note receivable from the sale of
stock in September 1995 (see Note J to the Financial Statements beginning on
Page F-1).
GAIN ON SALE OF ASSETS
The gain on sale of assets of $241,646 in fiscal 1995 was primarily the
result of the sale of a portion of the land adjacent to the Thomas Edison Inn.
LIQUIDITY AND CAPITAL RESOURCES
On October 31, 1996, the Company acquired a majority interest in the
Wendy's Partnership. At November 30, 1996, the Company owned approximately 54%
of the Wendy's Partnership, all of which was acquired in fiscal 1996. The cost
of the Wendy's Partnership acquisition was approximately $4,870,000. As a
result of this acquisition, the financial statements of the Wendy's Partnership
have been included in the Company's consolidated operating results beginning
November 1, 1996 and the Company's consolidated balance sheet at November 30,
1996. The fair value of the assets of the Wendy's Partnership as of November
30, 1996, which have been included in the consolidated financial statements,
was approximately $10,500,000. This accounts for the majority of the increase
in total assets of the Company from $17,983,503 at November 30, 1995 to
$31,928,864 as of November 30, 1996. The acquisition was funded by payment of
approximately $3,500,000 in cash and the issuance of approximately $1,370,000
of Company stock. Of the cash payment, $3,000,000 was provided by proceeds from
borrowings.
At November 30, 1996, the Company's current assets exceeded its current
liabilities by $103,112 compared to November 30, 1995, when current assets
exceeded current liabilities by $43,681. At these dates, the ratios of current
assets to current liabilities were 1.03:1 and 1.02:1, respectively. Because of
the net loss in fiscal 1996, the Company's operating activities did not provide
positive cash flow in fiscal 1996. As a result, proceeds from long-term debt
provided the necessary working capital for the Company to meet its financial
requirements for fiscal 1996. During fiscal 1996, the Company borrowed
approximately $7,500,000 (net of loan costs) of additional long-term debt. The
proceeds were used primarily for the acquisition of the Wendy's Partnership
(approximately $3,500,000), additions to property, plant and equipment
(approximately $2,200,000), operating activities (approximately $1,500,000) and
an increase in the balance of cash and cash equivalents from November 30, 1995
to November 30, 1996 (approximately $900,000).
The Company's long-term debt consists primarily of the following:
1) $14,000,000 first mortgage loan requiring monthly payments of $137,897,
including interest at 10.3%, through December 31, 2003 when the
remaining unpaid principal will be due.
2) $5,250,000 second mortgage loan requiring monthly payments of interest
only at 8% over the prime rate through November 1, 1997. Beginning
December 1, 1997, monthly principal payments of $50,000, plus interest
at 8% over the prime rate, will be required through March 1, 1998.
Beginning April 1, 1998, monthly principal payments of $100,000, plus
interest at 8% over the prime rate, will be required until the loan is
retired in June 2002.
3) $2,192,351 revolving term loan of the Wendy's Partnership requiring
monthly payments of $43,313, including interest at 1% over the prime
rate, through February 2005 when any remaining unpaid principal will be
due. Under the revolving loan agreement, the required monthly payments
may be offset by additional borrowings up to the unused available
-22-
23
borrowings. The total available borrowings under the loan agreement
were $2,978,702 at November 30, 1996.
4) $582,359 note payable requiring monthly payments of $14,693, including
interest at 8.8%, through October 2000.
Minimum annual principal payments on the Company's long-term debt to
maturity as of November 30, 1996 are as follows:
1997 $ 395,120
1998 1,389,380
1999 1,678,253
2000 1,997,253
2001 1,911,939
Thereafter 14,735,022
-----------
$22,106,967
===========
The loan agreement with the Company's primary lender contains numerous
covenants regarding the maintenance of a prescribed amount of net worth,
certain financial ratios, and restrictions on certain Common Stock purchases,
dividends, additional indebtedness and executive compensation. At November 30,
1996, the Company failed to meet the net worth covenant. However, a waiver has
been obtained through May 31, 1997.
During fiscal 1996, the Company issued $1,083,870 (108,387 shares) of
Series A Convertible Preferred Stock. The shares have an annual dividend rate
of $0.90 per share and payment of dividends is cumulative. Based on the present
shares outstanding, quarterly dividend payments of $24,387 are due on January
1, April 1, July 1 and October 1 of each year.
As described in Item 5 "Dividends," a special dividend was paid in the
amount of $0.50 per outstanding Common Share on April 26, 1996. The total
dividend paid was $1,510,075. Of this amount $435,124 was withheld from the
Company's former majority shareholder (Mr. Reynolds) and applied against
amounts due to the Company from Mr. Reynolds and companies related to Mr.
Reynolds at that date. An additional $775,000 of the dividend was paid to MCC
which then paid $750,000 to the Company as an early prepayment on the Company's
note receivable from the sale of shares to MCC described in Note J to the
Financial Statements beginning on page F-1.
The Company estimates 1997 capital expenditures to be approximately
$1,100,000 for building improvements, and furniture, fixtures and equipment
purchases, at its existing Hotels and at the existing Wendy's Partnership
restaurants. Of the $1,100,000, approximately $500,000 is allotted for fiscal
1997 capital expenditures at existing Wendy's restaurants. Also, the Company has
received various proposals to finance (through debt or lease) both the real
estate and furniture, fixtures and equipment for any new Wendy's restaurants. Of
the $1,100,000, the Company estimates fiscal 1997 capital expenditures at its
full service Hotels to be approximately $600,000. This is a reduction from
previous capital expenditures budgets for the Company's full service Hotels as
the Company is reassessing how to best utilize its capital resources between the
Wendy's restaurants and its lodging operations.
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The Company has also entered into agreements to acquire the General
Partnership interest in the Wendy's Partnership (which would require a $200,000
cash payment in March 1997), and a hotel acquisition agreement which, if the
agreement closes, would require a cash payment of approximately $650,000 in
April 1997.
Sources of funds for the estimated $1,100,000 in capital expenditures and
$850,000 in acquisitions are expected to come from (i) improved operations of
the Company's Lodging Group, (ii) proceeds from the private placement of
approximately 92,000 shares ($10 per share) of the unissued Series A
Convertible Preferred Stock, and (iii) the sale of certain Non-core Assets
valued at approximately $1,000,000 to $1,500,000. The acquisition of the
remaining Wendy's Partnership units and the hotel acquisition referenced above,
if completed, should provide the Company with a significant source of
additional cash flow.
INFLATION AND CHANGING PRICES
The rate of inflation as measured by changes in the average consumer price
index has not had a material effect on the Company's financial condition or
results of operations for the periods presented.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and supplementary data included in the report
under this Item are set forth in pages F-1 through F-24 appearing at the end of
this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Directors and Executive Officers
The following is information concerning each of the current directors and
executive officers as of February 21, 1997:
- -------------------------------------------- ---------------------------------- ----------------------------------
COMMON SHARES
BENEFICIALLY OWNED
NAME AND AGE (1) POSITION AMOUNT (2) PERCENTAGE
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Robert E. Schermer, Sr. (3) (4) (5) (6) (7) Chairman of the Board of 162,104 4.9%
61 Directors
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Christopher B. Hewett (4) (8) (9) President, Chief Executive 1,573,014 48.7%
38 Officer and Director
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Robert E. Schermer, Jr. (4) (9) (10) Executive Vice President and 15,886 *
38 Director
- -------------------------------------------- ---------------------------------- ---------------- -----------------
William D. Badgerow (9) Vice President, Treasurer and 581 *
37 Chief Financial Officer
- -------------------------------------------- ---------------------------------- ---------------- -----------------
James R. Saalfeld (9) Vice President, General Counsel 1,734 *
29 and Secretary
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Gary R. Garrabrant (3) (5) Director 5,180 *
39
- -------------------------------------------- ---------------------------------- ---------------- -----------------
James R. Goerlich (11) Director 5,644 *
59
- -------------------------------------------- ---------------------------------- ---------------- -----------------
David S. Lundeen (7) (11) Director 45,359 1.4%
35
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Joseph L. Maggini (3) (7) (12) Director 51,502 1.6%
57
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Jerry L. Ruyan (8) (11) Director 206,859 6.4%
50
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Frank O. Staiger (3) (5) Director 5,894 *
67
- -------------------------------------------- ---------------------------------- ---------------- -----------------
Raymond A. Weigel, III (11) Director 11,012 *
51
- -------------------------------------------- ---------------------------------- ---------------- -----------------
All Current Executive Officers and 2,084,769 62.3%
Directors as a Group (12 persons)
- -------------------------------------------- ---------------------------------- ---------------- -----------------
(1) Unless otherwise indicated, the persons named have sole voting and
investment power and beneficial ownership of the securities.
(2) The column sets forth Common Shares which are deemed "beneficially owned"
by the named persons under Rule 13d-3 of the Securities Exchange Act of
1934. This includes options to acquire 5,000 shares of Company Common
Stock which were granted to all non-employee directors of the Company
pursuant to the terms of the 1996 Directors' Share Option Plan and which
are immediately exercisable.
(3) Compensation Committee Member
(4) Executive Committee Member
(5) Nominating Committee Member
(6) Includes 2,000 shares held directly by Mr. Schermer, Sr.'s wife.
(7) Includes Series A Convertible Preferred Stock acquired in a private
offering conducted by the Company which is immediately convertible.
(8) See description of Common Share ownership contained under Item 12 "Security
Ownership of Certain Beneficial Owners and Management."
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(9) Includes Series A Convertible Preferred Stock which is immediately
convertible and which the Executive Officers elected to receive in lieu of
all or a portion of their year-end cash bonus.
(10) Includes 300 shares held by Mr. Schermer, Jr. as a custodian for his minor
child.
(11) Audit Committee Member
(12) Includes 2,000 shares held by Mr. Maggini jointly with his wife and 1,100
shares held directly by his wife.
* Less than 1%
Robert E. Schermer, Sr. has been a director of the Company since January
25, 1996. He is currently Senior Vice President and Managing Director of Robert
W. Baird & Co. Incorporated, an investment banking and securities brokerage
firm headquartered in Milwaukee, Wisconsin. Mr. Schermer has held this position
for more than five years. He is the father of Robert E. Schermer, Jr.
Christopher B. Hewett has been President, Chief Executive Officer and a
director of the Company since January 25, 1996. He has served as President of
MCC since its inception in 1993. Mr. Hewett was Executive Vice President
(1990-91) and President (1991-1997) of Ocean Reef Club, Inc., which was the
owner, developer and operator of the Ocean Reef Club, a 5,000 acre mixed-use
residential resort community in Key Largo, Florida. In 1993, Ocean Reef Club,
Inc. sold the Ocean Reef Club and was renamed Key Largo Group, Inc.
Robert E. Schermer, Jr. has been Executive Vice President and a director
of the Company since January 25, 1996. From January 25, 1996 until September
16, 1996, Mr. Schermer also served as Treasurer of the Company. Mr. Schermer
has served as Executive Vice President of MCC since 1993. From 1989 until 1993,
he was Executive Vice President of Landquest Ltd, a private investment
partnership which financed and developed residential real estate and hotel
investments. He is the son of Robert E. Schermer, Sr.
William D. Badgerow has been Vice President, Treasurer and Chief Financial
Officer of the Company since September 16, 1996. From 1987 to 1996, Mr.
Badgerow was the Vice President of EIP Financial Services, Inc., an affiliate
of the Wendy's Partnership. In this position, Mr. Badgerow also acted as the
Chief Financial Officer for the Wendy's Partnership. Mr. Badgerow is a
Certified Public Accountant.
James R. Saalfeld has been Vice President, General Counsel and Secretary
of the Company since March 20, 1996. From 1992 until 1996, Mr. Saalfeld was an
attorney with Dykema Gossett PLLC, a Grand Rapids, Michigan law firm.
Gary R. Garrabrant has been a director of the Company since October 24,
1996. Since January 1996, Mr. Garrabrant has been the Senior Vice President of
Chicago-based Equity Group Investments, an investment company controlling one
of the largest real estate portfolios in the United States. Since September
1996, Mr. Garrabrant has also been the Managing Partner of EGI Capital Markets,
Chicago, Illinois, which is responsible for real estate finance, equity capital
raising and new ventures. In January 1997, Mr. Garrabrant was appointed to the
Board of Directors of California Real Estate Investment Trust which is based in
San Francisco. In 1995, Mr. Garrabrant was director with the Sentinel
Securities Corporation, a real estate management firm located in New York City.
In 1994, Mr. Garrabrant co-founded Genesis Realty Capital Management, a money
management firm located in New York City. From 1989-1994, Mr. Garrabrant was a
Vice President with the real estate investment banking division of The Bankers
Trust Company in New York City.
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27
James R. Goerlich has been a director of the Company since May 21, 1996.
Since founding it in 1972, Mr. Goerlich has served as the Managing Partner of
Goerlich, Richert and Kaiser PLLC, Port Huron, Michigan. Mr. Goerlich is a
Certified Public Accountant.
David S. Lundeen has been a director of the Company since January 25,
1996. Since 1995, he has served as Executive Vice President and Chief
Financial Officer of BSG Corporation, Austin, Texas, an information technology
consulting company. From 1992 to 1995, Mr. Lundeen was President of Blockbuster
Technology, a division of Blockbuster Entertainment. From 1990 to 1992, he
worked for Blockbuster Entertainment as Director of Mergers & Acquisitions and
Corporate Finance. Prior to 1990, Mr. Lundeen was an investment banker at
Drexel Burnham Lambert in New York City.
Joseph L. Maggini has been a director of the Company since January 25,
1996. Since founding it in 1974, he has served as President and Chairman of the
Board of the Magic Steel Corporation, Grand Rapids, Michigan, a steel service
center.
Jerry L. Ruyan has been a director of the Company since October 24, 1996.
Since 1995, Mr. Ruyan has been a partner in Redwood Ventures, LLC, an
investment/venture capital company located in Cincinnati, Ohio. Mr. Ruyan is
also a founder of Cincinnati-based Meridian Diagnostics, Inc., which is engaged
in the production of medical diagnostic products, and has been a member of its
Board of Directors since 1977. Mr. Ruyan's other positions with Meridian
Diagnostics, Inc. included Chief Executive Officer (1992 to 1995), and
President and Chief Operating Officer (1986 to 1992). Since October 1996, Mr.
Ruyan has been a member of the Board of Directors of Frisch's Restaurants,
Inc., which operates more than 100 Big Boy restaurants.
Frank O. Staiger has been a director of the Company since January 8, 1996.
Since 1957, Mr. Staiger has been a member of the law firm of Davidson, Staiger
& Hill, Port Huron, Michigan, where he currently serves as its President.
Raymond A. Weigel, III has been a director of the Company since December
1986. Since 1992, he has been the President of CLB Consulting Inc., Grand
Rapids, Michigan, a business consulting firm. From 1988 to 1992, he was First
Vice President of the Grand Rapids office of Robert W. Baird & Co. Mr. Weigel
currently is a shareholder of the General Partner of the Wendy's Partnership
and is also a director of First National Bank of Manatee, Manatee, Florida.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's officers, directors and persons who own more than ten percent of the
Company's Common Shares to file reports of ownership with the SEC and to
furnish the Company with copies of these reports. Based solely upon its review
of reports received by it, or upon written representation from certain
reporting persons that no reports were required, the Company believes that
during fiscal 1996 all filing requirements were met, except for: (a) Mr.
Staiger's untimely filing of his Form 3, (b) Mr. Goerlich's untimely filing of
his Form 3, and (c) Mr. Schermer, Jr.'s untimely reporting of his purchase of
500 Common Shares. Messrs. Staiger and Goerlich filed Forms 3 upon learning of
their inadvertent failure to do so on a timely basis. Mr. Schermer, Jr.
reported the above-described transaction on his Form 5 upon discovery of his
failure to report the transaction in a timely fashion.
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ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth information regarding compensation paid by
the Company to its Chief Executive Officer, former Chief Executive Officer, and
to all executive officers earning in excess of $100,000:
==================================================================================================================
SUMMARY COMPENSATION TABLE
- -------------------------------- ---------- ------------------------------ ---------------------------------------
ANNUAL COMPENSATION LONG-TERM COMPENSATION
SECURITIES
UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS OPTIONS COMPENSATION
- -------------------------------- ---------- --------------- -------------- ------------------- -------------------
Christopher B. Hewett (1) 1996 $127,735 $ 110,000 (2) 50,000 ---
President and Chief Executive 1995 --- --- --- ---
Officer 1994 --- --- --- ---
- ------------------------------------------------------------------------------------------------------------------
Robert E. Schermer, Jr. (1) 1996 $114,961 $ 100,000 (2) 45,000 ---
Executive Vice President 1995 --- --- --- ---
1994 --- --- --- ---
- ------------------------------------------------------------------------------------------------------------------
Donald W. Reynolds (3) Former 1996 (4) --- --- ---
Chairman of the Board of 1995 (4) --- --- $ 193,875 (5)
Directors, President, Chief 1994 (4) --- --- $ 193,500 (5)
Executive Officer, Treasurer
and Secretary
==================================================================================================================
(1) MCC acquired majority control of the Company on January 25, 1996 and
Messrs. Hewett and Schermer, Jr. assumed their positions as officers on
that date.
(2) Represents Series A Convertible Preferred Stock which Messrs. Hewett and
Schermer, Jr. elected to receive in lieu of a year-end cash bonus (see Item
5 "Recent Sales of Unregistered Securities").
(3) Mr. Reynolds was removed as a director and officer of the Company by the
St. Clair County (Michigan) Circuit Court on January 8, 1996.
(4) In fiscal 1996, fiscal 1995 and fiscal 1994, Mr. Reynolds received
compensation from Innkeepers, a company wholly owned by Mr. Reynolds. From
its inception until January 1996, the Company engaged Innkeepers to manage
the Company's hotel properties. In fiscal 1996, fiscal 1995 and fiscal
1994, the Company paid fees to Innkeepers of $57,650, $402,786, and
$456,750, respectively.
(5) In fiscal 1996, fiscal 1995 and fiscal 1994, a subsidiary of the Company
furnished an automobile to Mr. Reynolds. In fiscal 1995 and 1994, the
Company paid $193,875 and $193,500, respectively, to Mr. Reynolds for his
personal guarantee of certain obligations of the Company.
In fiscal 1994, the Company adopted a plan established under Section
401(k) of the Internal Revenue Code that covers employees of the Company and
its subsidiaries who have met certain eligibility requirements. Company
contributions to the Plan are voluntary and at the discretion of the Board of
Directors. The Company made no contributions to the Plan during fiscal 1996.
STOCK OPTIONS
The following tables contain information concerning the grant of stock
options to the executives identified in the Summary Compensation Table and the
appreciation of such options:
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===================================================================================================================
OPTION GRANTS IN FISCAL 1996
- -------------------------------------------------------------------------------------------------------------------
POTENTIAL REALIZABLE
VALUE AT ASSUMED ANNUAL
RATES OF STOCK PRICE
APPRECIATION FOR
OPTION TERM
% OF TOTAL
NUMBER OF OPTIONS
SECURITIES GRANTED TO EXERCISE
UNDERLYING EMPLOYEES IN PRICE ($ EXPIRATION
NAME OPTIONS GRANTED FISCAL 1996 PER SHARE) DATE 5% 10%
- -------------------------- ---------------- ---------------- -------------- ----------- ------------ --------------
Christopher B. Hewett 50,000 26.3 % $ 7.00 5/21/2006 $118,500 $395,500
- -------------------------- ---------------- ---------------- -------------- ----------- ------------ --------------
Robert E. Schermer, Jr. 45,000 23.7 % $ 7.00 5/21/2006 $106,650 $355,950
===================================================================================================================
===================================================================================================================
FISCAL 1996 OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUES
- -------------------------------------------------------------------------------------------------------------------
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT
OPTIONS AT FISCAL YEAR FISCAL YEAR END
END
SHARES
NAME ACQUIRED ON VALUE REALIZED EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE
EXERCISE
- --------------------------- --------------- ----------------- ------------------------- ---------------------------
Christopher B. Hewett --- --- 0/50,000 $0/$0 (1)
- --------------------------- --------------- ----------------- ------------------------- ---------------------------
Robert E. Schermer, Jr. --- --- 0/45,000 $0/$0 (1)
===================================================================================================================
(1) The Compensation Committee established the exercise price as $7.00 per
share. Because the stock is currently trading for less than $7.00 per
share, the unexercisable options have no value.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following persons are the only shareholders known by the Company to
own beneficially 5% or more of its outstanding Common Shares as of February 21,
1997:
- ---------------------------------------- -------------------------------------------------- =======================
NAME OF BENEFICIAL OWNER AMOUNT AND NATURE OF BENEFICIAL OWNERSHIP PERCENT OF CLASS
- ---------------------------------------- -------------------------------------------------- -----------------------
Christopher B. Hewett 1,573,014 (1) 48.7%
- ---------------------------------------- -------------------------------------------------- -----------------------
Jerry L. Ruyan 206,859 (2) 6.4%
===================================================================================================================
(1) Includes Series A Convertible Preferred Stock which Mr. Hewett elected to
receive in lieu of a year-end cash bonus. Also includes 1,551,300 shares
held by MCC of which Mr. Hewett is the majority shareholder, an executive
officer and a director. See Item 13 "Certain Relationships and Related
Party Transactions" for a description of MCC's acquisition of 1,500,000
Common Shares.
(2) Includes options to acquire 5,000 Common Shares which were granted to all
non-employee directors pursuant to the terms of the 1996 Directors' Share
Option Plan.
The business address of Mr. Hewett is 40 Pearl Street, N.W., Suite 900,
Grand Rapids, Michigan 49503.
The business address of Mr. Ruyan is 10260 Alliance Road, Suite 350,
Cincinnati, Ohio 45242.
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All of MCC's Common Shares are pledged to GALIC as security for the loan
between the Company and GALIC described in Item 2 "Financing and Encumbrances."
In the event of a default by the Company under the loan agreement with GALIC,
GALIC may enforce its rights under the loan agreement, including the right to
register the pledged stock in its name and exercise all voting and corporate
rights with respect to the pledged stock.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The following transactions relate to Mr. Reynolds, the former Chairman of
the Board, President, Chief Executive Officer, Treasurer and Secretary of the
Company, who was removed from these positions by the St. Clair County
(Michigan) Circuit Court on January 8, 1996. Accordingly, Mr. Reynolds served
as an officer and director of the Company for only 39 days in fiscal 1996 prior
to the "Replacement and Restructuring of Management" described in Item 1. Mr.
Reynolds's daughter, Rebecca L. Awtrey, served as a director until May 1996.
Management is unable to determine whether these transactions were on terms no
less favorable to the Company than those that could be obtained from
unaffiliated parties.
From the Company's inception in 1986 until January 1996, the Company
engaged Innkeepers, a company wholly-owned by Mr. Reynolds, to manage the
Company's Hotels pursuant to a Management Agreement. For services in fiscal
1996, prior to termination of the Management Agreement on January 25, 1996,
Innkeepers received $57,650. At December 1, 1995, Mr. Reynolds, and companies
affiliated with Mr. Reynolds and former Board member William F. Ehinger, owed
the Company $695,430. In 1996, Mr. Reynolds incurred an additional $76,364 of
indebtedness, and made payments of $580,053 toward this total indebtedness.
This left a balance due of $191,741 for which a $260,000 allowance for doubtful
accounts had been established on November 30, 1995, resulting in a bad debt
recovery by the Company of $68,259.
Mr. Reynolds guaranteed the Company's obligations to First Federal Savings
and Loan Association in the amount of $2,924,975 at December 1, 1995. Reynolds
also guaranteed the Company obligations to First Federal under a letter of
credit in the amount of $3,929,506. Reynolds also pledged personally owned life
insurance policies with a face value of $3,000,000 as additional collateral for
the Company's obligations pursuant to a loan from Michigan National Bank in the
amount of $4,273,702 at December 1, 1995. The Company's obligations to First
Federal and Michigan National were paid in full with proceeds from the
refinancing with GALIC, and the guarantees were extinguished, in February 1996.
In fiscal 1996, the Company expended approximately $280,000 for litigation
expenses on behalf of, among others, Ms. Awtrey, Mr. Reynolds, Mr. Ehinger (a
director until October 1996), Mr. Joseph P. Michael (a director until October
1996) and Mr. Weigel. These expenses related to litigation brought by TEI
Acquisitions, Inc. ("TAI"), in TAI's attempt to gain control of the Company
through its alleged purchase of the former majority shareholder's Common
Shares. TAI's claims were ultimately dismissed during the fiscal year.
Management believes that the following transactions were on terms no less
favorable to the Company than those that could be obtained from unaffiliated
parties.
At November 30, 1996, MCC, owned by Messrs. Hewett and Schermer, Jr., owed
the Company $9,750,000 pursuant to a secured, non-interest bearing note in the
original amount of $10,500,000 issued to the Company in payment for 1,500,000
Common Shares. On May 21, 1996, the Company's Board of
-30-
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Directors approved an early prepayment of $750,000 and released 107,142 shares
of the pledged stock. The note was thereafter amended to provide for repayment
in six annual installments of $1,625,000 beginning on the fifth anniversary of
the promissory note.
At December 1, 1995, Mr. Schermer, Jr. was indebted to Grand Harbor Resort
Inc. in the amount of $70,544. This indebtedness arose from a 7% promissory
note dated December 27, 1987 that Mr. Schermer, Jr. entered into with a third
party. This note was, unbeknownst to Mr. Schermer, Jr., assigned to one of the
Company's subsidiaries. Upon learning of this assignment, Mr. Schermer, Jr.
paid the note in full on March 27, 1996.
In fiscal 1996, the Company expended approximately $170,000 for litigation
expenses incurred by MCC in connection with litigation brought by TAI in its
attempt to gain control of the Company through its alleged purchase of the
former majority shareholder's Common Shares. TAI's claims were ultimately
dismissed during the fiscal year. This amount was accrued by the Company in
fiscal 1995.
On April 16, 1996, the Company's Board of Directors approved reimbursement
of $300,188 for expenditures incurred by MCC in connection with the change in
management described in Item 1 "Replacement and Restructuring of Management."
These expenditures included, among other things, office furniture, equipment,
staff and other associated expenses, and were reimbursed in accordance with the
Stock Purchase and Sale Agreement dated September 19, 1995 between MCC and the
Company. On April 10, 1996, the Company's Compensation Committee conducted an
item-by-item examination of the reimbursable expenses and recommended that the
Board approve the request for reimbursement.
On July 10, 1996, the Company entered into an agreement with Robert E.
Schermer, Sr. to acquire from him 103.25 limited partnership units of the
Wendy's Partnership. The purchase price was 123,900 newly issued Company Common
Shares. The amount of stock issued was determined by using the trading price on
the day that the agreement was reached ($6.25 per share) and assigning a value
of $7,500 to each Wendy's unit, the same price at which Mr. Schermer originally
purchased the units in 1996.
As described in Item 1 "Acquisition," in fiscal 1996 the Company
successfully completed a tender offer for a majority interest in the Wendy's
Partnership. Also in 1996, the Company entered into an agreement to acquire the
General Partnership interest in the Wendy's Partnership. Board member Weigel is
a shareholder of the General Partner of the Wendy's Partnership. Mr. Weigel
excused himself from any discussions, and abstained from any actions, regarding
these transactions. During fiscal 1996, the Wendy's Partnership paid management
fees of $146,667 to the General Partner.
The General Partner of the Wendy's Partnership is also the general partner
of Wendy's Real Estate Limited Partnership I, a partnership which leases real
property to the Wendy's Partnership for its use in its restaurant operations.
During fiscal 1996, the Wendy's Partnership made lease payments of $400,300 to
Wendy's Real Estate Limited Partnership I.
As discussed in Item 5 "Recent Sales of Unregistered Securities," on
October 24, 1996, the Company's Board of Directors authorized the issuance of up
to 200,000 shares of Series A Convertible Preferred Stock in a private offering
of such preferred stock. Certain members of the Board of Directors purchased
Convertible Preferred Stock pursuant to the private offering. Mr. Maggini
purchased 10,000 Convertible Preferred Shares, Mr. Lundeen purchased 12,500
Convertible Preferred Shares, and Mr. Schermer, Sr. purchased 20,000 Convertible
Preferred Shares.
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32
On November 19, 1996, the Company purchased 40 limited partnership units of
the Wendy's Partnership from Raymond A. Weigel, Sr. and his wife, Wavelet M.
Weigel. The Company assigned a value of $7,200 to each unit. Mr. and Mrs.
Weigel, Sr. are the parents of Board Member Weigel. The purchase price was
28,800 shares of Series A Convertible Preferred Stock.
On January 24, 1997, the Board of Directors approved an expense sharing
arrangement whereby MCC and its principals (Messrs. Hewett and Schermer, Jr.)
will pay the Company $2,500 per year (commencing as of January 25, 1996) for
the occasional use by MCC and its principals of Company employees, office space
and other property. MCC and the Company share the same business offices. The
Compensation Committee of the Board of Directors will review the arrangement on
an annual basis.
On January 24, 1997, the Board of Directors authorized agreements whereby
MCC and its principals will be indemnified by the Company for any losses or
expenses that they may incur as guarantors of the Company's obligations to its
primary financing institutions and franchisors.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a)(1) and (2) Financial Statements and Schedules.
All financial statements and schedules required to be filed by Item 8 of
this Form and included in this report appear in pages F-1 through F-24 at the
end of this report. No additional financial statements or schedules are being
filed since the requirements of paragraph (d) under Item 14 are not applicable
to the Company.
(a)(3) Exhibit List.
The following documents are filed as exhibits to this Annual Report:
Exhibit No. Description of Document
- ----------- -------------------------------------------------------------
3.1 Articles of Incorporation of Meritage Hospitality Group Inc.,
as amended (1).
3.2 Restated and Amended Bylaws of Meritage Hospitality Group
Inc. (1).
4.1 Certificate of Designation of Series A Convertible
Preferred Shares of Meritage Hospitality Group Inc.
(1).
4.2 Subscription Agreement relating to issuance of Series A
Convertible Preferred Shares of Meritage Hospitality Group
Inc. (1).
10.1 Adoption Agreement for Pathway Benefit Services, Inc.
Regional Prototype Non-Standardized 401(k) Profit Sharing
Plan and Trust; Pathway Benefit Services, Inc. Regional
Prototype Defined Contribution Plan and Trust; as amended May
24, 1994 (2).
10.2 Stock Purchase and Sale Agreement dated September 19, 1995
between the Company, MCC, Mr. Reynolds and Innkeepers, and
accompanying exhibits (3).
10.3 Loan Agreement dated November 26, 1996 among Meritage
Hospitality Group Inc., St. Clair Inn, Inc., Grand Harbor
Resort Inc., Thomas Edison Inn, Incorporated, MHG Food
Service Inc. and Grand Harbor Yacht Club Inc., as obligors,
and Great American Life Insurance Company, as lender (1).
10.4 Promissory Note dated November 26, 1996 by St. Clair Inn,
Inc., Grand Harbor Resort Inc., and Thomas Edison Inn,
Incorporated, as makers, and Great American Life Insurance
Company, as payee (1).
10.5 Promissory Note dated November 26, 1996 by Meritage
Hospitality Group Inc., MHG Food Service Inc. and Grand
Harbor Yacht Club Inc., as makers, and Great American Life
Insurance Company, as payee (1).
10.6 Business Loan Agreement dated February 22, 1995 between
Wendy's of West Michigan Limited Partnership and First of
America Bank-Michigan, N.A. (4).
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10.7 Promissory Note dated February 22, 1995 by Wendy's of West
Michigan Limited Partnership, as maker, and First of
America Bank-Michigan, N.A., as payee (4).
10.8 Restaurant Franchise Agreements between Wendy's of West
Michigan Limited Partnership and Wendy's International, Inc.
(5).
MANAGEMENT COMPENSATORY CONTRACTS:
10.9 1996 Management Equity Incentive Plan (6).
10.10 1996 Directors' Share Option Plan (6).
10.11 Directors' Compensation Plan (6).
10.12 Employee Share Purchase Plan (6).
21 Subsidiaries of the Registrant (1).
23 Consent of Independent Public Accountants (1).
27 Financial Data Schedule (1).
- ----------------------
Exhibits previously filed and incorporated by reference from:
(1) Filed herewith.
(2) The Annual Report on Form 10-KSB for the Company's fiscal year ended
November 30, 1994.
(3) The Quarterly Report on Form 10-QSB for the Company's fiscal quarter
ended August 31, 1995.
(4) The Annual Report on Form 10-K for Wendy's of West Michigan Limited
Partnership for the fiscal year ended December 31, 1994.
(5) Registration Statement No. 33-8586-C on Form S-18 filed with the SEC by
Wendy's of West Michigan Limited Partnership on September 8, 1986;
Annual Report on Forms 10-K for Wendy's of West Michigan Limited
Partnership for the fiscal years ended December 31, 1986, 1987, and
1995; and Quarterly Report on Forms 10-Q for Wendy's of West Michigan
Limited Partnership for the fiscal quarters ended September 30, 1987,
March 31, 1988, June 30, 1994, and March 31, 1995.
(6) Registration Statement No. 333-06657 on Form S-8 filed with the SEC by
the Company on June 24, 1996.
(b) Reports on Form 8-K.
The Company filed a report on Form 8-K on November 13, 1996 to report (i)
the successful completion of the Wendy's Partnership tender offer, and (ii) the
agreement whereby the Company will acquire the General Partnership interest in
the Wendy's Partnership. No financial statements were filed with this report.
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On January 6, 1997, the Company filed an amendment to the Form 8-K
described above to include (i) audited financial statements of the Wendy's
Partnership for the fiscal year ended December 31, 1995, (ii) unaudited
financial statements of the Wendy's Partnership for the nine months ended
September 30, 1996, and (iii) pro forma financial statements of the Company.
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.
MERITAGE HOSPITALITY GROUP INC.
Dated: February 21, 1997 By /s/ CHRISTOPHER B. HEWETT
-------------------------------
Christopher B. Hewett
President and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ ROBERT E. SCHERMER, SR. Chairman of the Board of Directors February 21, 1997
- ------------------------------
Robert E. Schermer, Sr.
/s/ CHRISTOPHER B. HEWETT President, Chief Executive Officer and February 21, 1997
- ------------------------------
Christopher B. Hewett Director (Principal Executive Officer)
/s/ WILLIAM D. BADGEROW Vice President, Chief Financial Officer February 21, 1997
- ------------------------------
William D. Badgerow and Treasurer (Principal Financial and
Accounting Officer)
/s/ GARY R. GARRABRANT Director February 19, 1997
- ------------------------------
Gary R. Garrabrant
/s/ JAMES R. GOERLICH Director February 20, 1997
- ------------------------------
James R. Goerlich
/s/ DAVID S. LUNDEEN Director February 21, 1997
- ------------------------------
David S. Lundeen
-35-
36
/s/ JOSEPH L. MAGGINI Director February 19, 1997
- ---------------------------
Joseph L. Maggini
/s/ JERRY L. RUYAN Director February 19, 1997
- ---------------------------
Jerry L. Ruyan
/s/ JAMES R. SAALFELD Vice President, General Counsel February 21, 1997
- ---------------------------
James R. Saalfeld and Secretary
/s/ ROBERT E. SCHERMER, JR. Executive Vice President and Director February 21, 1997
- ---------------------------
Robert E. Schermer, Jr.
/s/ FRANK O. STAIGER Director February 19, 1997
- ---------------------------
Frank O. Staiger
/s/ RAYMOND A. WEIGEL, III Director February 19, 1997
- --------------------------
Raymond A. Weigel, III
-36-
37
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
Report of Independent Certified Public Accountants......................... F-2
FINANCIAL STATEMENTS
Consolidated Balance Sheets............................................ F-3
Consolidated Statements of Operations.................................. F-5
Consolidated Statements of Stockholders' Equity........................ F-6
Consolidated Statements of Cash Flows.................................. F-7
Notes to Consolidated Financial Statements............................. F-9
SCHEDULES
Schedule I Condensed Financial Information of Registrant............... F-21
Schedule II Valuation and Qualifying Accounts.......................... F-24
F-1
38
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Meritage Hospitality Group Inc.
We have audited the accompanying consolidated balance sheets of Meritage
Hospitality Group Inc. (a Michigan corporation) and subsidiaries as of November
30, 1996 and 1995, and the related consolidated statements of operations,
stockholders' equity and cash flows for each of the three years in the period
ended November 30, 1996. 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 audits to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Meritage
Hospitality Group Inc. and subsidiaries as of November 30, 1996 and 1995 and
the consolidated results of their operations and their consolidated cash flows
for each of the three years in the period ended November 30, 1996, in
conformity with generally accepted accounting principles.
As discussed in Note G to the consolidated financial statements, effective
December 1, 1993 the Company changed its method of accounting for income taxes.
We have also audited Schedules I and II of Meritage Hospitality Group Inc. and
Subsidiaries for the years ended November 30, 1996, 1995 and 1994. In our
opinion these schedules present fairly, in all material respects, the
information required to be set forth therein.
Detroit, Michigan
January 21, 1997
F-2
39
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
NOVEMBER 30,
==========================================================================================================
ASSETS 1996 1995
----------- -----------
CURRENT ASSETS
Cash and cash equivalents $ 2,265,497 $ 1,336,891
Trade accounts receivable, less allowance for doubtful
accounts of $54,000 in 1996 and $29,000 in 1995
respectively 938,448 570,428
Inventories 354,226 208,891
Deferred income taxes 14,000 111,900
Refundable income taxes -- 321,600
Prepaid expenses and other current assets 487,295 465,225
----------- ----------
Total Current Assets 4,059,466 3,014,935
PROPERTY, PLANT AND EQUIPMENT, NET 21,757,068 13,218,340
DEFERRED INCOME TAXES 621,000 437,100
OTHER ASSETS
Goodwill, net of amortization of $1,994,342 in 1996 3,687,764 --
Land held for expansion 697,313 642,757
Financing costs, net of amortization of $38,591 in 1996 605,593 --
Cash surrender value of life insurance, net of policy
loans of $77,564 and $99,270 in 1996 and 1995,
respectively 260,710 188,875
Sundry 239,950 46,066
----------- ----------
5,491,330 877,698
AMOUNTS DUE FROM RELATED PARTIES -- 435,430
----------- ----------
Total Assets $31,928,864 $17,983,503
=========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-3
40
==========================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY 1996 1995
----------- -----------
CURRENT LIABILITIES
Note payable - Bank $ -- $ 200,551
Current portion of long-term debt 395,120 237,651
Current portion of obligations under capital lease 232,442 --
Amounts due to stockholders and related parties -- 2,300
Trade accounts payable 2,228,406 448,886
Accrued expenses 936,111 2,081,866
Other 164,275 --
----------- -----------
Total Current Liabilities 3,956,354 2,971,254
LONG-TERM DEBT 21,711,847 11,204,883
OBLIGATIONS UNDER CAPITAL LEASES 1,953,999 --
DEFERRED INCOME TAXES 818,000 752,000
DEFERRED COMPENSATION 61,444 --
COMMITMENTS AND CONTINGENCIES (NOTES H AND N) -- --
MINORITY INTEREST 1,405,777 --
STOCKHOLDERS' EQUITY
Preferred stock - $0.01 par value; authorized 5,000,000
shares; 200,000 shares designated as Series A
convertible cumulative preferred stock; issued and
outstanding, 108,387 shares (liquidation value -
$1,083,870) 1,084 --
Common stock - $0.01 par value; authorized
30,000,000 shares; issued and outstanding
3,204,483 and 3,020,150 shares respectively 32,045 30,200
Additional paid in capital 12,616,727 10,684,750
Note receivable from sale of shares (5,135,716) (5,602,532)
Accumulated deficit (5,492,697) (2,057,052)
----------- -----------
Total Stockholders' Equity 2,021,443 3,055,366
----------- -----------
Total Liabilities and Stockholders' Equity $31,928,864 $17,983,503
=========== ===========
F-4
41
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED NOVEMBER 30,
==========================================================================================================================
1996 1995 1994
----------- ----------- -----------
Net revenue
Room rents $ 6,281,711 $ 5,999,024 $ 6,047,510
Food and beverages 9,885,062 8,245,880 9,100,158
Sundry 555,049 149,321 174,761
Telephone 163,040 46,795 37,599
----------- ----------- -----------
Total revenue 16,884,862 14,441,020 15,360,028
Cost and expenses
Cost of food and beverages 3,334,434 2,863,554 3,041,499
Operating expenses 9,492,345 7,215,061 7,179,572
General and administrative expenses 3,951,400 4,979,621 2,597,278
Depreciation and amortization 1,081,704 1,426,642 1,232,187
----------- ----------- -----------
Total costs and expenses 17,859,883 16,484,878 14,050,536
----------- ----------- -----------
Earnings (loss) from operations (975,021) (2,043,858) 1,309,492
Other income (expense)
Interest expense (1,642,735) (1,355,389) (1,206,151)
Interest income 658,007 387,099 87,028
Gain (loss) on sale of assets (6,900) 241,646 11,769
Minority interest 21,079 -- --
----------- ----------- -----------
(970,549) (726,644) (1,107,354)
----------- ----------- -----------
Earnings (loss) before federal income tax and
cumulative effect of change in accounting
principle (1,945,570) (2,770,502) 202,138
Federal income tax expense (benefit) (20,000) (721,400) 112,000
----------- ----------- -----------
Earnings (loss) before cumulative effect of
change in accounting principle (1,925,570) (2,049,102) 90,138
Cumulative effect on prior years of changing to a different
method of accounting for income taxes -- -- 117,300
----------- ----------- -----------
Net loss $(1,925,570) $(2,049,102) $ (27,162)
=========== =========== ===========
Earnings (loss) per share
Before cumulative effect of change in accounting principle $ (.62) $ (1.13) $ .06
Cumulative effect of change in accounting principle -- -- (.08)
----------- ----------- -----------
After cumulative effect of change in accounting principle $ (.62) $ (1.13) $ (.02)
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-5
42
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED NOVEMBER 30, 1996, 1995 AND 1994
==================================================================================================================================
SERIES A NOTE RETAINED
CONVERTIBLE ADDITIONAL RECEIVABLE EARNINGS
PREFERRED COMMON PAID-IN SALE OF (ACCUMULATED
STOCK STOCK CAPITAL SHARES DEFICIT) TOTAL
----------- ------- ----------- ----------- ------------ -----------
Balance at December 1, 1993 $ -- $15,200 $ 5,217,820 $ -- $ 19,212 $ 5,252,232
Net loss -- -- -- -- (27,162) (27,162)
------ ------- ----------- ----------- ----------- -----------
Balance at December 1, 1994 -- 15,200 5,217,820 -- (7,950) 5,225,070
Issuance of common stock -- 15,000 5,466,930 (5,481,930) -- --
Recognition of interest income on
note receivable from sale
of shares -- -- -- (120,602) -- (120,602)
Net loss -- -- -- -- (2,049,102) (2,049,102)
------ ------- ----------- ----------- ----------- -----------
Balance at November 30, 1995 -- 30,200 10,684,750 (5,602,532) (2,057,052) 3,055,366
Issuance of 108,387 shares of
preferred stock 1,084 -- 1,082,786 -- -- 1,083,870
Issuance of 184,333 shares of
common stock -- 1,845 1,139,281 -- -- 1,141,126
Recognition of interest income
on note receivable from
sale of shares -- -- -- (573,274) -- (573,274)
Dividends paid ($.50 per share) -- -- -- -- (1,510,075) (1,510,075)
Payment and present value
adjustment on note receivable
from sale of shares -- -- (290,090) 1,040,090 -- 750,000
Net loss -- -- -- -- (1,925,570) (1,925,570)
------ ------- ----------- ----------- ----------- -----------
Balance at November 30, 1996 $1,084 $32,045 $12,616,727 $(5,135,716) $(5,492,697) $ 2,021,443
====== ======= =========== =========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-6
43
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED NOVEMBER 30,
===========================================================================================================================
1996 1995 1994
------------ ----------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (1,925,570) $(2,049,102) $ (27,162)
Adjustments to reconcile net loss to net cash provided
by operating activities
Cumulative effect of change in accounting principle -- -- 117,300
Depreciation and amortization 1,081,704 1,426,642 1,232,187
Compensation paid by issuance of preferred and
common stock 310,099 -- --
Deferred income tax expense (benefit) (20,000) (431,900) 14,000
Loss (gain) on disposal of property, plant and
equipment 6,900 (241,646) (11,769)
Bad debt expense 32,655 280,910 8,395
Interest income on note receivable from sale of shares (573,274) (120,602) --
(Increase) decrease in assets
Accounts receivable (201,742) 84,754 (241,604)
Inventories 41,198 (12,131) (21,502)
Prepaid expenses and other current assets 104,707 (7,477) --
Refundable income taxes 321,600 (318,705) (114,795)
Increase (decrease) in liabilities
Accounts payable and accrued expenses (674,696) 1,814,566 34,831
------------ ----------- ----------
Net cash (used in) provided by operating
activities (1,496,419) 425,309 989,881
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, plant and equipment (2,211,392) (456,132) (470,858)
Proceeds from sale of property, plant and equipment 40,146 616,646 100,964
Additions to amount due from related parties -- (682,248) (673,635)
Payments on amounts due from related parties 433,130 2,270,524 694,186
Acquisition of business, net of cash acquired (3,184,460) -- --
Increase in other assets (679,214) (5,981) (30,863)
------------ ----------- ----------
Net cash (used in) provided by investing
activities (5,601,790) 1,742,809 (380,206)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from long-term debt 37,717,705 46,887 --
Payments related to borrowings from
stockholders and related parties -- (248,163) (21,557)
Principal payments of notes payable -- -- (7,640)
Principal payments of long-term debt (29,446,007) (1,251,712) (409,429)
Payments on obligations under capital leases (29,808) -- --
Collection on note receivable from sale of shares 750,000 -- --
Proceeds from issuance of preferred and common shares 545,000 -- --
Dividends paid (1,510,075) -- --
------------ ----------- ----------
Net cash provided by (used in) financing
activities 8,026,815 (1,452,988) (438,626)
------------ ----------- ----------
Net increase in cash 928,606 715,130 171,049
F-7
44
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
YEARS ENDED NOVEMBER 30,
===========================================================================================================================
1996 1995 1994
---------- ---------- ----------
Cash and cash equivalents - beginning of year $1,336,891 $ 621,761 $ 450,712
---------- ---------- ----------
Cash and cash equivalents - end of year $2,265,497 $1,336,891 $ 621,761
========== ========== ==========
SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest and income taxes:
Interest $1,709,312 $1,355,389 $1,206,151
Income taxes -- -- 192,500
Non-cash investing activities for 1996 represents the acquisition of majority
equity interest in Wendy's of West Michigan Limited Partnership and includes
assets acquired and liabilities assumed.
Fair value of assets net of cash acquired $10,532,850
Liabilities assumed 7,348,390
-----------
$ 3,184,460
===========
In connection with this acquisition, the Company issued 171,900 shares of
common stock and 29,520 shares of preferred stock with a value of $1,369,575.
During 1995 a non-cash transaction occurred whereby 1,500,000 Common Shares
were issued in exchange for a non-interest bearing note receivable in the
amount of $10,500,000. The discounted present value of the note receivable was
$5,481,930.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-8
45
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE A - NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
The Company conducts its operations in two business segments. The lodging
industry segment consists of three full service hotels. The food service
industry segment consists of a limited partnership which operates twenty-six
Wendy's Old Fashioned Hamburger restaurants under franchise agreements with
Wendy's International Inc. All operations of the Company are located in
Michigan.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
the following wholly-owned subsidiaries:
St. Clair Inn, Inc.
Thomas Edison Inn, Incorporated
Grand Harbor Resort
Grand Harbor Yacht Club Inc.
MHG Food Service
All significant intercompany balances and transactions have been eliminated.
INVENTORIES
Inventories are stated at the lower of cost or market as determined by the
first-in, first-out method. Inventories consist of restaurant food items,
beverages and food serving supplies.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost. Depreciation is computed
principally using the straight-line method based upon estimated useful lives
ranging from 3 to 39 years. Amortization of leasehold improvements is provided
over the terms of the various leases.
INCOME TAXES
Income taxes are accounted for by using an asset and liability approach.
Deferred tax assets and liabilities are recognized for the expected future tax
consequences of temporary differences between the financial basis and tax basis
of assets and liabilities. Assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.
FRANCHISE FEES
Franchise fees for hotel and restaurant units are amortized using the
straight-line method over the terms of the individual franchise agreements.
F-9
46
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE A - NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FINANCING COSTS
Financing costs are amortized using the straight-line method over the terms of
the various loan agreements.
GOODWILL
Goodwill is amortized using the straight-line method over periods of up to
twenty years.
The Company evaluates the reasonableness of its amortization for goodwill. In
addition, if it becomes probable that expected future undiscounted cash flows
associated with goodwill are less than the carrying value, the assets are
written down to their fair value.
OBLIGATIONS UNDER CAPITALIZED LEASES
Lease transactions relating to certain restaurant buildings and equipment are
classified as capital leases. These assets have been capitalized and the
related obligations recorded based on the fair market value of the assets at
the inception of the leases. Amounts capitalized are being amortized over the
terms of the leases.
FRANCHISE COSTS AND OTHER ADVERTISING COSTS
Royalties and national advertising costs are based on a percentage of monthly
sales. These costs and other advertising costs are charged to operations as
incurred.
USE OF ESTIMATES
In the preparation of financial statements management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and revenue and expenses
during the reporting period. Actual results could differ from those estimates.
EARNINGS (LOSS) PER SHARE
Earnings (loss) per share is computed based upon the weighted average number of
shares outstanding during each year. The weighted average number of shares
outstanding is 3,081,885, 1,815,984 and 1,520,150 shares for the years ended
November 30, 1996, 1995 and 1994, respectively.
CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all highly
liquid debt instruments purchased with a maturity of three months or less to be
cash equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of financial instruments approximate their fair values.
F-10
47
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE A - NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECLASSIFICATIONS
Certain reclassifications have been made to the 1995 and 1994 financial
statements to conform to the presentation of the 1996 financial statements.
NEW PRONOUNCEMENTS
In March 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 121 (SFAS 121) - "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of".
SFAS 121 establishes accounting standards for the impairment of long-lived
assets, certain identifiable intangibles and goodwill related to those assets
to be held and used and for long-lived assets and certain intangibles to be
disposed of. The adoption of this standard in 1996 had no effect on the
consolidated financial statements of the Company.
In October 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 (SFAS 123) - "Accounting for Stock-Based
Compensation." SFAS 123 establishes accounting and reporting standards for
stock-based employee compensation plans with adoption required for fiscal years
beginning after December 15, 1995. As permitted under the provisions of this
statement, the Company has elected to continue the use of APB Opinion No. 25 to
measure compensation costs and will make the pro forma disclosures of net
earnings and earnings per share.
NOTE B - ACQUISITION
During the year, the Company began purchasing partnership units in Wendy's of
West Michigan Limited Partnership (the "Wendy's Partnership") and at November
30, 1996 the Company had acquired a majority interest (54.0%). Certain of the
units in the Wendy's Partnership were purchased from Stockholders/Directors at
prices no more favorable than that paid to non-related parties. The Company
then transferred this interest to its wholly-owned subsidiary, MHG Food Service
Inc.
The acquisition has been accounted for as a purchase and the acquisition cost
has been allocated to assets acquired and liabilities assumed based upon
estimates of their fair values. A total of $1,719,819, representing the excess
of acquisition cost over the fair value of assets acquired has been allocated
to goodwill.
F-11
48
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE B - ACQUISITION (CONTINUED)
The Company's consolidated results of operations include the Wendy's
Partnership activity from November 1, 1996 (effective date of acquisition). The
unaudited pro forma information below presents combined results of operations
as if the acquisition had occurred at the beginning of the periods presented.
The unaudited pro forma information is not necessarily indicative of the
results of operations of the combined company had the acquisition occurred at
the beginning of the periods presented, nor is it necessarily indicative of
future results.
YEAR ENDED NOVEMBER 30,
-------------------------------
1996 1995
----------- ----------
(unaudited)
Revenues $43,974,000 $39,806,000
Net loss $(2,256,000) $(2,330,000)
Loss per share $ (.73) $ (1.28)
The Company entered into an agreement on October 21, 1996, to acquire the
General Partnership interest in the Wendy's Partnership.
NOTE C - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are summarized as follows at November 30,:
1996 1995
----------- -----------
Land and improvements $ 2,014,914 $ 1,515,513
Buildings and improvements 21,597,196 18,522,242
Furnishings and equipment 14,552,410 7,067,815
Leasehold improvements 2,192,253 --
Leased property/capital leases 2,825,338 --
----------- ----------
43,182,111 27,105,570
Less accumulated depreciation
and amortization (21,425,043) (13,887,230)
----------- ----------
$21,757,068 $13,218,340
=========== ===========
Depreciation and amortization expense was approximately $1,012,000, $883,000
and $1,047,000 for the years ended November 30, 1996, 1995 and 1994,
respectively.
F-12
49
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE D - AMOUNTS DUE FROM RELATED PARTIES AND RELATED PARTY TRANSACTIONS
Amounts due from related parties at November 30, 1995 consisted of amounts due
from a stockholder and former officer of the Company, Donald W. Reynolds
("Reynolds"), or from companies related by common ownership to Reynolds. During
the year ended November 30, 1996, the Company collected approximately $433,000
of these receivables and wrote off the remainder.
In 1994 and 1995, the Company and each of its subsidiaries had a management
agreement with an affiliated company that was wholly-owned by Reynolds. The
agreement was terminated on January 25, 1996. Management fees charged to
operations totaled approximately $58,000, $403,000 and $457,000 for the years
ended November 30, 1996, 1995 and 1994, respectively. The Board of Directors
approved a 1-1/2% loan guarantee fee to be paid to Reynolds for the years ended
November 30, 1995 and 1994. The fee paid was $193,875 for 1995 and $193,500 for
1994.
NOTE E - ACCRUED EXPENSES
Accrued expenses consist of the following:
1996 1995
-------- ----------
Litigation expenses $ -- $1,361,470
Professional fees 56,697 246,788
Property taxes 213,005 189,461
Payroll and related payroll taxes 526,812 125,685
Interest and other expenses 139,597 158,462
-------- ----------
$936,111 $2,081,866
======== ==========
NOTE F - LONG-TERM DEBT
Long-term debt consists of the following obligations at November 30,:
1996 1995
----------- -----------
Mortgage note payable to bank, due $23,174 per month
including interest at prime plus 2% not to exceed 10.5%
due October 1, 1997. $ -- $ 2,924,975
Mortgage note payable to bank, due $28,108 per month
including interest at prime plus 1%, due October 31,
1997. -- 3,464,780
F-13
50
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE F - LONG-TERM DEBT (CONTINUED)
1996 1995
----------- -----------
Term note payable to bank, due $16,531 per month
including interest at prime plus 1% due October 31, 1997. -- 808,922
Mortgage note payable to bank, due $37,194 per month
including interest at prime plus 2% but not to exceed
10.5%, due October 1, 1997. -- 3,929,506
Mortgage note payable to insurance company, due in
monthly installments beginning January 1, 1997 of
$137,897 including interest at 10.3% through December
31, 2003. (1) 14,000,000 --
Mortgage note payable to insurance company, due in
monthly installments of interest at prime plus 8%
beginning January 1, 1997 through November 1, 1997
and monthly installments of principal of $50,000
beginning December 1, 1997 through March 1, 1998,
$100,000 beginning April 1, 1998 through May 1, 2002
plus interest and final principal payment of $50,000
plus interest due June 1, 2002. (2) 5,250,000 --
Note payable to bank, due in monthly installments of
$14,693 including interest at 8.8% through October 8,
2000. (3) 582,359 --
Term note payable to bank, due in monthly installments
of $43,313, including interest at 1% over prime per
month through February 2005 when any remaining
unpaid principal will be due. Under the revolving loan
agreement, the required monthly payments described
above may be offset by additional borrowings up to
the unused available borrowings. The total available
borrowings under the loan agreement were $2,978,702
as of November 30, 1996. (4) 2,192,351 --
Other notes and land contracts payable, requiring
monthly payments aggregating $4,100 and $8,950,
respectively, subject to interest at rates ranging from
6.9% to 11.0%. 82,257 314,351
----------- -----------
22,106,967 11,442,534
Less current portion 395,120 237,651
----------- -----------
$21,711,847 $11,204,883
=========== ===========
F-14
51
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE F - LONG-TERM DEBT (CONTINUED)
The prime lending rate was 8.25% at November 30, 1996.
(1) The mortgage is collateralized by the hotel properties.
(2) The mortgage is collateralized by the Meritage Capital Corp. note, common
stock of the Company, life insurance policies in the amount of
$5,100,000, other property and equipment and a second security interest
in the hotel properties.
(3) The note is collateralized by certain equipment.
(4) The note is collateralized by substantially all of the assets of the
Wendy's Partnership and by the guaranty of the General Partner and the
personal guarantees of the shareholders of the General Partner.
Minimum principal payments on long-term debt to maturity as of November 30,
1996 are as follows:
1997 $ 395,120
1998 1,389,380
1999 1,678,253
2000 1,997,253
2001 1,911,939
Thereafter 14,735,022
-----------
$22,106,967
===========
Loan covenants of the various loan agreements include a requirement for
maintenance of a prescribed amount of net worth and certain financial ratios
and restrictions on certain common stock purchases, dividends, additional
indebtedness and executive compensation. At November 30, 1996 the Company
failed to meet one of the covenants of its agreements with the insurance
company. A waiver has been obtained.
NOTE G - INCOME TAXES
In December 1993, the Company changed its method of accounting for income taxes
from Accounting Principles Board Opinion No. 11 (APB 11) and adopted Statement
of Financial Accounting Standards No. 109 (SFAS 109), "Accounting for Income
Taxes." The adoption of SFAS 109 changed the Company's method of accounting for
income taxes from the deferred method to an asset and liability approach.
Previously, the Company deferred the past tax effects of timing differences
between financial reporting and taxable income. The asset and liability
approach requires the recognition of deferred tax liabilities and assets for
the expected future tax consequences of temporary differences between the
carrying amounts and the tax bases of assets and liabilities.
F-15
52
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE G - INCOME TAXES (CONTINUED)
Income tax expense is summarized as follows:
YEAR ENDED NOVEMBER 30,
------------------------------------------
1996 1995 1994
-------- --------- --------
Current expense (benefit) $ -- $(289,500) $ 98,000
Deferred expense (benefit) (20,000) (431,900) 14,000
-------- --------- --------
$(20,000) $(721,400) $112,000
======== ========= ========
Deferred tax assets and liabilities at November 30, consist of the following:
1996 1995
---------- ---------
Deferred tax assets:
Net operating loss carryforward $1,181,000 $ 267,400
AMT credit carryforward 105,000 140,000
Allowance for doubtful accounts 8,500 111,900
Michigan Single Business Tax - Federal 63,000 69,000
Contribution carryforward 6,500 --
---------- ---------
1,364,000 588,300
Deferred tax liabilities
Depreciation (635,000) (549,000)
Michigan Single Business Tax - State (183,000) (203,000)
---------- ---------
(818,000) (752,000)
Less valuation allowance (729,000) (39,300)
---------- ---------
Net deferred tax liability $ (183,000) $(203,000)
---------- ---------
The net operating loss carryforward expires in 2011.
The income tax provision reconciled to the tax computed at the statutory
Federal rate was as follows:
YEAR ENDED NOVEMBER 30,
-------------------------------------------
1996 1995 1994
--------- --------- --------
Tax (benefit) at statutory rates applied to
income before federal income tax $(654,700) $(942,000) $ 68,700
Effect of nondeductible items (51,000) 24,700 43,300
Difference in rates of net operating loss carrybacks 151,300 --
Other (4,000) 5,300 --
Valuation allowance 689,700 39,300 --
--------- --------- --------
$ (20,000) $(721,400) $112,000
========= ========= ========
F-16
53
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE H - LEASE COMMITMENTS
The Wendy's Partnership leases land and buildings used in operations under
operating agreements, with remaining lease terms (including renewal options of
up to twelve years) ranging from one to seventeen years. Included in the leases
are five with parties related through common ownership of general partners,
where a stockholder of the general partner is also a stockholder/director of
the Company.
Certain restaurant leases (eight restaurant buildings, excluding land which is
accounted for as an operating lease) and equipment leases have been
capitalized. Minimum future obligations under capital leases and
noncancellable operating leases in effect are as follows:
OPERATING LEASES
----------------------------
CAPITAL RELATED
YEAR ENDING NOVEMBER 30, LEASES PARTIES OTHERS
------------------------ ---------- ---------- ----------
1997 $ 465,323 $ 285,552 $ 362,378
1998 465,323 153,127 294,506
1999 465,323 111,629 208,334
2000 465,323 111,629 193,511
2001 449,365 111,629 172,440
Later Years 769,948 419,892 344,880
--------- ---------- ----------
Total minimum lease obligations 3,080,605 $1,193,458 $1,576,049
========== ==========
Less amount representing interest
imputed at approximately 11% 894,164
----------
Present value of minimum lease obligations $2,186,441
==========
The present value of minimum rental obligations is reflected in the balance
sheets as current and long-term obligations under capital leases.
Accumulated amortization of leased property under capital leases was
$1,648,146, at November 30, 1996.
In addition to minimum future obligations, percentage rentals may be paid under
all restaurant leases on the basis of percentage of sales in excess of minimum
prescribed amounts.
Total rental expense since the date of acquisition of the Wendy's Partnership
is not significant.
F-17
54
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE I - SERIES A CONVERTIBLE CUMULATIVE PREFERRED STOCK
In 1996, the Company designated a series of non-voting preferred stock
consisting of 200,000 shares of $0.01 par value. The shares have an annual
dividend rate of $0.90 per share and the payment of the dividends are
cumulative. The shares are also convertible into common shares at the
conversion price of $7.00 per share. The shares also have a liquidation value
of $10.00 per share.
Under certain conditions relating to the market value of the Company's common
stock, the Company has the option to cause the preferred stock to be converted
into common stock.
NOTE J - NOTE RECEIVABLE FROM SALE OF SHARES
On September 19, 1995, a stock purchase and sale agreement (Agreement) was
executed by the Company, its principal stockholder and Meritage Capital Corp.
("MCC"). Under the agreement, the Company sold 1,500,000 shares of previously
authorized newly issued common stock to MCC at a total price of $10,500,000.
Upon execution of the agreement, MCC gave the Company a non-interest bearing
promissory note in the amount of $10,500,000. The Note provides that MCC does
not have to make any payments to the Company for five years from the date of
the Note (September 19, 1995). Beginning on the fifth anniversary of the Note,
MCC is required to make six annual payments of $1,625,000.
The Note is secured by the shares issued to MCC under the Agreement. The Note
was discounted at 11% and is recorded as a reduction of stockholders' equity.
During the year ended November 30, 1996 the Company received an unscheduled
principal payment of $750,000. As a result, the present value of the note was
recalculated and reduced by approximately $290,000.
NOTE K - EMPLOYEE BENEFIT PLANS
The Company maintains a defined contribution 401(k) plan that covers
substantially all employees of the lodging industry segment and corporate
employees. Contributions to the Plan may be made by the Company (which are
discretionary) or by plan participants through elective salary reductions. No
contributions were made to the plan by the Company during the years ended
November 30, 1996, 1995 and 1994.
The Wendy's Partnership maintains a 401(k) profit sharing plan that covers
substantially all of its employees. Contributions to the plan may be made by
the subsidiary (which are discretionary) or by plan participants through
elective salary reductions. Contributions to the plan by the subsidiary since
its date of acquisition are not significant.
The Wendy's Partnership has a deferred compensation agreement with a key
employee which provides for the payment of $150,000 upon the completion of the
five-year term of the agreement in December 1998. The agreement is funded by
the Wendy's Partnership through payment of premiums on a split dollar life
insurance contract.
F-18
55
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE L - STOCK OPTION PLANS
The 1996 Management Equity Incentive Plan ("Incentive Plan") and, the 1996
Directors' Share Option Plan ("Directors' Plan") were approved by stockholders
on May 21, 1996.
The Incentive Plan provides for 300,000 shares of common stock to be reserved
for options that may be issued under the plan. The Board of Directors has the
discretion to designate an option to be an Incentive Share Option or a
non-qualified share option. The plan provides that the option price is not less
than the fair market value of the common stock at the date of grant. Unless the
option agreement provides otherwise, options granted under the plan become
exercisable on a cumulative basis at the rate of 20 percent during each of the
second through fifth years after the date of grant. Options granted under the
plan may have a term of from one to ten years.
The Directors' Plan provides for the non-discretionary grant of options to
non-employee directors of the Company to purchase a combined maximum of 60,000
shares. The plan provides that the option price is not less than the greater of
the fair market value of the common stock on the date of grant or $7.00 per
share. The plan provides that each non-employee director, on the date such
person becomes a non-employee director, will be granted options to purchase
5,000 shares of stock. Provided that such person is still serving as a
non-employee director, they will automatically be granted options to purchase
1,000 additional shares each year thereafter on the date of the Annual
Shareholders' Meeting. Options granted under the plan have a term of ten years.
The following table summarizes the changes in the number of common shares under
stock options granted pursuant to the preceding plans:
1996 MANAGEMENT 1996 DIRECTOR'S
EQUITY INCENTIVE PLAN STOCK OPTION PLAN
-------------------------- ------------------------
AVERAGE AVERAGE
OPTION PRICE OPTION PRICE
SHARES PER SHARE SHARES PER SHARE
------- ------------ ------- ------------
Options outstanding at December 1, 1995 -- -- -- --
Options granted during the year 190,000 $7.00 50,000 $7.00
------- ------
Options outstanding at November 30, 1996 190,000 $7.00 50,000 $7.00
======= ===== ====== =====
Options exercisable at November 30, 1996 -- 50,000
------- ------
Options available for grant at
November 30, 1996 110,000 10,000
======= ======
F-19
56
MERITAGE HOSPITALITY GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOVEMBER 30, 1996, 1995 AND 1994
===============================================================================
NOTE M - BUSINESS SEGMENT INFORMATION
The Company operates in two business segments, lodging and food service
operations. Intersegment transactions are not reported separately since they
are not significant.
Identifiable assets are those assets applicable to the respective industry
segment.
Data by business segment for the year ended November 30, 1996 is as follows:
FOOD
LODGING SERVICE CONSOLIDATED
----------- ----------- ------------
Revenues $14,762,822 $ 2,122,040 $16,884,862
Loss from operations $ (966,885) $ (8,136) $ (975,021)
Identifiable assets $21,418,956 $10,509,908 $31,928,864
Depreciation and amortization expense $ 1,009,771 $ 71,933 $ 1,081,704
Capital additions $ 2,198,341 $ 13,051 $ 2,211,392
NOTE N - LEGAL PROCEEDINGS
The Company is involved in certain routine legal proceedings which are
incidental to the business. Except as described below, all of these proceedings
arose in the ordinary course of the Company's business and, in the opinion of
the Company, any potential liability of the Company with respect to these legal
actions will not, in the aggregate, be material to the Company's financial
condition. The Company maintains various types of insurance which cover most of
the actions brought against the Company.
On December 5, 1996, the Company received a notice from the Internal Revenue
Service that it had concluded that legal and professional fees totaling
approximately $2.1 million that were incurred by the Company in fiscal 1995 in
connection with the then existing litigation and deducted as a necessary
business expense, should be treated as a capital expenditure and, therefore,
disallowed the deduction. These expenditures related to various lawsuits in
1995 concerning the replacement and restructuring of management. The Company
believes the deduction is proper and is contesting the disallowance.
NOTE O - SUBSEQUENT EVENT
On January 21, 1997, the Company entered into a definitive agreement to acquire
two limited service hotels.
F-20
57
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
MERITAGE HOSPITALITY GROUP INC.
CONDENSED BALANCE SHEET
NOVEMBER 30, 1996
ASSETS
Current assets:
Cash and cash equivalents $ 1,768,204
Other current assets 30,424
------------
Total current assets 1,798,628
Property, plant and equipment, net 320,536
Investments in and advances to subsidiaries 19,534,617
Deferred income taxes 621,000
Other assets 551,417
------------
Total assets $ 22,826,198
============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Current liabilities $ 507,745
Deferred income taxes 818,000
Long-term debt 19,479,010
------------
Total liabilities 20,804,755
STOCKHOLDERS' EQUITY
Capital stock 7,514,140
Accumulated deficit (5,492,697)
------------
Total stockholders' equity 2,021,443
------------
Total liabilities and stockholders' equity $ 22,826,198
============
F-21
58
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED)
MERITAGE HOSPITALITY GROUP INC.
CONDENSED STATEMENT OF OPERATIONS
YEAR ENDED NOVEMBER 30, 1996
REVENUE
Equity in earnings of subsidiaries $ 1,286,594
Interest and dividend income 619,085
-------------
Total revenue 1,905,679
EXPENSES
General and administrative expenses 2,551,237
Depreciation and amortization 37,983
Interest expense 1,262,029
-------------
Total expenses 3,851,249
-------------
Loss before federal income tax (1,945,570)
Federal income tax benefit 20,000
-------------
Net loss $ (1,925,570)
=============
F-22
59
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED)
MERITAGE HOSPITALITY GROUP INC.
CONDENSED STATEMENT OF OPERATIONS
YEAR ENDED NOVEMBER 30, 1996
NET CASH USED IN OPERATING ACTIVITIES $ (2,167,330)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, plant and equipment (385,182)
Acquisition of business, net of cash acquired (3,184,460)
Increase in other assets (551,447)
-------------
Net cash used by investing activities (4,121,089)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from long-term debt 37,717,705
Principal payments of long-term debt (29,446,007)
Collection of note receivable from sale of shares 750,000
Proceeds from issuance of preferred and common shares 545,000
Dividends paid (1,510,075)
-------------
Net cash provided by financing activities 8,056,623
-------------
Net increase in cash 1,768,204
Cash and cash equivalents - beginning of year 0
-------------
Cash and cash equivalents - end of year $ 1,768,204
=============
F-23
60
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Additions
--------------------------------------
Balance at (1) (2)
beginning Charged to Charged to other Deductions - Balance at
Description of period costs & expenses accounts-describe describe end of period
- -----------------------------------------------------------------------------------------------------------
ALLOWANCE FOR DOUBTFUL ACCOUNTS:
Year ended November 30:
1996 $ 289,000 $ 32,655 -0- $ (267,655)* $ 54,000
1995 24,000 275,910 -0- (10,910)* 289,000
1994 24,000 8,395 -0- (8,395)* 24,000
* Amount written off as uncollectible
VALUATION ALLOWANCE FOR DEFERRED TAX ASSETS:
Year ended November 30:
1996 $ 39,300 $ 689,700 -0- -0- $ 729,000
1995 -0- 39,300 -0- -0- 39,300
1994 -0- -0- -0- -0- -0-
F-24