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U.S. SECURITIES AND EXCHANGE COMMISSION

 Washington, D.C. 20549

 

FORM 10-Q

  

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 

EXCHANGE ACT OF 1934

 

For the quarterly period ended September 28, 2014  

 

[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 

EXCHANGE ACT OF 1934

 

For the transition period from

 

Commission File No.  000-53577

 

DIVERSIFIED RESTAURANT HOLDINGS, INC.

(Exact name of registrant as specified in its charter) 

 

Nevada

 

03-0606420

(State or other jurisdiction

of incorporation or organization)

 

(I.R.S. Employer

Identification Number)

 

 

 

 

 

 

 

27680 Franklin Road

Southfield, Michigan 48034

(Address of principal executive offices)

 

Registrant’s telephone number: (248) 223-9160

 

No change

(Former name, former address and former

fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [  ]

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes [X] No [  ]

 

APPLICABLE ONLY TO CORPORATE ISSUERS:

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:  26,185,375 shares of $.0001 par value common stock outstanding as of November 5, 2014.

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. 

 

Large accelerated filer

[   ]

 

Accelerated filer

[ X ]

 

 

 

 

 

Non-accelerated filer

[   ]

 

Smaller reporting company

[   ]

 

(Do not check if a smaller reporting company)        

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [  ] No [X]

 

 
 

 

 

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

PROCEEDINGS DURING THE PRECEDING FIVE YEARS

 

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.  Yes [  ]       No [  ]

 

 
 

 

 

 

INDEX

 

PART I. FINANCIAL INFORMATION

1

Item 1. Financial Statements

1

Consolidated Balance Sheets

1

Consolidated Statements of Operations

2

Consolidated Statements of Comprehensive Income (loss)

3

Consolidated Statements of Stockholders' Equity 

4

Consolidated Statements of Cash Flows

5

Notes to Interim Consolidated Financial Statements

6

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

19

Item 3. Quantitative and Qualitative Disclosure About Market Risks

25

Item 4. Controls and Procedures

26

PART II. OTHER INFORMATION

27

Item 1. Legal Proceedings

27

Item 1A. Risk Factors

27

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

27

Item 3. Defaults Upon Senior Securities

27

Item 5. Other Information

27

Item 6. Exhibits

27

 

 
 

 

 

PART I.  FINANCIAL INFORMATION

 

Item 1.  Financial Statements

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

    

   

September 28

         
   

2014

   

December 29

 

ASSETS

 

(UNAUDITED)

   

2013

 

Current assets

               

Cash and cash equivalents

  $ 6,514,056     $ 9,562,473  

Investments

    4,911,848       8,561,598  

Accounts receivable

    231,334       1,248,940  

Inventory

    1,182,420       1,017,626  

Prepaid assets

    429,581       555,144  

Total current assets

    13,269,239       20,945,781  
                 
                 

Deferred income taxes

    1,353,681       1,162,761  

Property and equipment, net

    74,500,195       58,576,734  

Intangible assets, net

    3,229,487       2,948,013  

Goodwill

    10,998,630       8,578,776  

Other long-term assets

    199,500       121,668  

Total assets

  $ 103,550,732     $ 92,333,733  
                 

LIABILITIES AND STOCKHOLDERS' EQUITY

               
                 

Current liabilities

               

Accounts payable

  $ 5,210,270     $ 4,416,092  

Accrued compensation

    1,565,911       2,060,082  

Other accrued liabilities

    1,035,623       809,104  

Current portion of long-term debt

    12,327,788       8,225,732  

Current portion of deferred rent

    377,812       306,371  

Total current liabilities

    20,517,404       15,817,381  
                 

Deferred rent, less current portion

    2,992,190       3,420,574  

Unfavorable operating leases

    712,223       759,065  

Other long-term liabilities

    410,600       327,561  

Long-term debt, less current portion

    44,528,221       38,047,589  

Total liabilities

    69,160,638       58,372,170  
                 

Commitments and contingencies (Notes 10 and 11)

               
                 

Stockholders' equity

               

Common stock - $0.0001 par value; 100,000,000 shares authorized; 26,147,999 and 26,049,578, respectively, issued and outstanding

    2,582       2,580  

Additional paid-in capital

    35,554,165       35,275,255  

Accumulated other comprehensive loss

    (180,997 )     (245,364 )

Accumulated deficit

    (985,656 )     (1,070,908 )

Total stockholders' equity

    34,390,094       33,961,563  
                 

Total liabilities and stockholders' equity

  $ 103,550,732     $ 92,333,733  

 

 

The accompanying notes are an integral part of these interim consolidated financial statements.

 

 
1

 

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

 

   

Three Months Ended

   

Nine Months Ended

 
   

September 28

   

September 29

   

September 28

   

September 29

 
   

2014

   

2013

   

2014

   

2013

 
                                 
                                 

Revenue

  $ 32,782,092     $ 26,368,090     $ 93,264,727     $ 80,410,174  
                                 

Operating expenses

                               

Restaurant operating costs (exclusive of depreciation and amortization shown separately below):

                               

Food, beverage, and packaging costs

    9,456,106       7,759,146       26,784,277       24,336,433  

Compensation costs

    8,405,116       6,972,432       24,170,212       20,903,931  

Occupancy costs

    1,873,693       1,600,278       5,052,643       4,704,380  

Other operating costs

    7,220,083       5,436,252       19,627,639       16,100,223  

General and administrative expenses

    2,133,564       1,558,924       6,345,810       5,058,879  

Pre-opening costs

    609,664       639,498       2,063,800       2,036,022  

Depreciation and amortization

    2,865,794       2,070,841       7,612,125       5,539,874  

Loss on disposal of property and equipment

    33,013       22,970       353,333       83,711  

Total operating expenses

    32,597,033       26,060,341       92,009,839       78,763,453  
                                 

Operating profit

    185,059       307,749       1,254,888       1,646,721  
                                 

Interest expense

    (483,057 )     (320,798 )     (1,436,092 )     (1,375,646 )

Other income, net

    67,789       68,415       86,426       92,958  
                                 

Income (loss) before income taxes

    (230,209 )     55,366       (94,778 )     364,033  
                                 

Income tax provision (benefit)

    (48,100 )     (14,444 )     (180,030 )     52,186  
                                 

Net income (loss)

  $ (182,109 )   $ 69,810     $ 85,252     $ 311,847  
                                 

Basic earnings (loss) per share

  $ (0.01   $ 0.00     $ 0.00     $ 0.01  

Fully diluted earnings (loss) per share

  $ (0.01   $ 0.00     $ 0.00     $ 0.01  
                                 

Weighted average number of common shares outstanding

                               

Basic

    26,107,627       26,054,118       26,074,797       23,231,403  

Diluted

    26,107,627       26,186,263       26,174,593       23,351,128  

 

 

The accompanying notes are an integral part of these interim consolidated financial statements.

 

 
2

 

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

 

   

Three Months Ended

   

Nine Months Ended

 
   

September 28

   

September 29

   

September 28

   

September 29

 
   

2014

   

2013

   

2014

   

2013

 
                                 

Net income (loss)

  $ (182,109 )   $ 69,810     $ 85,252     $ 311,847  
                                 

Other comprehensive income (loss)

                               

Unrealized changes in fair value of interest rate swaps, net of tax of $43,284, $77,315, $26,039 and $18,011, respectively

    84,022       (150,082 )     50,841       34,962  

Unrealized changes in fair value of invesments, net of tax of $2,232, $16,876, $6,969 and $8,423, respectively

    (4,333 )     32,750       13,526       (16,253 )

Total other comprehensive income (loss)

    79,689       (117,332 )     64,367       18,709  
                                 

Comprehensive income (loss)

  $ (102,420 )   $ (47,522 )   $ 149,619     $ 330,556  

 

 

The accompanying notes are an integral part of these interim consolidated financial statements.

 

 
3

 

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

 

                           

Accumulated

   

Retained

         
                   

Additional

   

Other

   

Earnings

   

Total

 
   

Common Stock

   

Paid-in

   

Comprehensive

   

(Accumulated

   

Stockholders'

 
   

Shares

   

Amount

   

Capital

   

Income (Loss)

   

Deficit)

   

Equity

 
                                                 

Balances - December 30, 2012

    18,951,700     $ 1,888     $ 2,991,526     $ (284,294 )   $ (1,205,216 )   $ 1,503,904  
                                                 

Issuance of restricted shares

    145,575       -       -       -       -       -  
                                                 

Forfeitures of restricted shares

    (48,399 )     -       -       -       -       -  
                                                 

Sale of common stock from follow-on offering, net of fees and expenses

    6,900,000       690       31,906,989       -       -       31,907,679  
                                                 

Stock options exercised

    104,638       2       74,997       -       -       74,999  
                                                 

Employee stock purhcase plan

    2,061       -       12,145                       12,145  
                                                 

Share-based compensation

    -       -       205,668       -       -       205,668  
                                                 

Other comprehensive income

    -       -       -       18,709       -       18,709  
                                                 

Net income

    -       -       -       -       311,847       311,847  
                                                 

Balances - September 29, 2013 (unaudited)

    26,055,575     $ 2,580     $ 35,191,325     $ (265,585 )   $ (893,369 )   $ 34,034,951  
                                                 

Balances - December 29, 2013

    26,049,578     $ 2,580     $ 35,275,255     $ (245,364 )   $ (1,070,908 )   $ 33,961,563  
                                                 

Issuance of restricted shares

    91,966       -               -       -       -  
                                                 

Forfeitures of restricted shares

    (2,068 )     -       -       -       -       -  
                                                 

Share-based compensation

    -       -       237,079       -       -       237,079  
                                                 

Employee stock purchase plan

    8,523       2       41,831       -       -       41,833  
                                                 

Other comprehensive income

    -       -       -       64,367       -       64,367  
                                                 

Net income

    -       -       -       -       85,252       85,252  
                                                 

Balances - September 28, 2014 (unaudited)

    26,147,999     $ 2,582     $ 35,554,165     $ (180,997 )   $ (985,656 )   $ 34,390,094  

 

 

The accompanying notes are an integral part of these interim consolidated financial statements.

 

 
4

 

 

 

 

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

 

   

Nine Months Ended

 
   

September 28

   

September 29

 
   

2014

   

2013

 
                 

Cash flows from operating activities

               

Net income

  $ 85,252     $ 311,847  

Adjustments to reconcile net income to net cash provided by operating activities

               

Depreciation and amortization

    7,641,090       5,539,874  

Write off of loan fees

    -       76,408  

Realized loss on sales of investments

    33,406       -  

Loss on disposal of property and equipment

    353,333       83,711  

Share-based compensation

    237,079       205,668  

Deferred income taxes

    (223,928 )     (13,248 )

Changes in operating assets and liabilities that provided (used) cash

               

Accounts receivable

    1,017,606       (136,544 )

Inventory

    (110,794 )     (300,064 )

Prepaid assets

    125,563       (67,541 )

Intangible assets

    (210,937 )     (546,831 )

Other long-term assets

    (77,832 )     (299,267 )

Accounts payable

    1,292,321       759,930  

Accrued liabilities

    (107,580 )     (458,825 )

Deferred rent

    (356,943 )     614,182  

Net cash provided by operating activities

    9,697,636       5,769,300  
                 

Cash flows from investing activities

               

Purchases of investments

    (7,469,555 )     (12,690,397 )

Proceeds from sale of investments

    11,106,241       5,278,048  

Purchases of property and equipment

    (23,685,771 )     (17,297,791 )

Acquisition of business, net of cash acquired

    (3,202,750 )     -  

Net cash used in investing activities

    (23,251,835 )     (24,710,140 )
                 

Cash flows from financing activities

               

Proceeds from issuance of long-term debt

    16,448,332       55,862,559  

Repayments of long-term debt

    (5,865,644 )     (58,460,520 )

Payment of loan fees

    (118,739 )     -  

Proceeds from employee stock purchase plan

    41,833       -  

Proceeds from sale of common stock, net of underwriter fees

    -       31,994,823  

Net cash provided by financing activities

    10,505,782       29,396,862  
                 

Net increase (decrease) in cash and cash equivalents

    (3,048,417 )     10,456,022  
                 

Cash and cash equivalents, beginning of period

    9,562,473       2,700,328  
                 

Cash and cash equivalents, end of period

  $ 6,514,056     $ 13,156,350  

 

 

The accompanying notes are an integral part of these interim consolidated financial statements.

 

 

 

 
5

 

DIVERSIFIED RESTAURANT HOLDINGS, INC. AND SUBSIDIARIES

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

 

1.           BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Nature of Business

 

Diversified Restaurant Holdings, Inc. (“DRH”) is a fast-growing restaurant company operating two complementary concepts:  Bagger Dave’s Burger Tavern ® (“Bagger Dave’s”) and Buffalo Wild Wings ® Grill & Bar (“BWW”).  As the creator, developer, and operator of Bagger Dave’s and as one of the largest franchisees of BWW, we provide a unique guest experience in a casual and inviting environment.  We were incorporated in 2006 and are headquartered in the Detroit metropolitan area.  As of September 28, 2014, we had 61 locations in Florida, Illinois, Indiana, and Michigan.

  

DRH and its wholly-owned subsidiaries (collectively, the “Company”), AMC Group, Inc. (“AMC”), AMC Wings, Inc. (“WINGS”), AMC Burgers, Inc. (“BURGERS”), and AMC Real Estate, Inc. (“REAL ESTATE”) own, operate, and manage Bagger Dave's and DRH-owned BWW restaurants located throughout Florida, Illinois, Indiana, and Michigan.

 

DRH originated the Bagger Dave’s concept with our first restaurant opening in January 2008 in Berkley, Michigan.  Currently, there are 22 Bagger Dave’s, 14 in Michigan and eight in Indiana. The Company expects to operate between 47 and 51 Bagger Dave’s locations by the end of 2017.

 

DRH is also one of the largest BWW franchisees and currently operates 40 DRH-owned BWW restaurants (18 in Michigan, 14 in Florida, four in Illinois, and four in Indiana), including the nation’s largest BWW, based on square footage, in downtown Detroit, Michigan. We remain on track to fulfill our area development agreement (“ADA”) with Buffalo Wild Wings International, Inc. (“BWLD”) and expect to operate 52 DRH-owned BWW restaurants by the end of 2017, exclusive of potential additional BWW restaurant acquisitions. 

 

The following organizational chart outlines the current corporate structure of DRH.  A brief textual description of the entities follows the organizational chart. DRH is incorporated in Nevada.   

 

 

AMC was formed on March 28, 2007 and serves as our operational and administrative center. AMC renders management, operational support, and advertising services to WINGS, BURGERS, REAL ESTATE and their subsidiaries. Services rendered by AMC include marketing, restaurant operations, restaurant management consultation, hiring and training of management and staff, and other management services reasonably required in the ordinary course of restaurant operations.

 

BURGERS was formed on March 12, 2007 and serves as a holding company for our Bagger Dave’s restaurants.  Bagger Dave’s Franchising Corporation, a subsidiary of BURGERS, was formed to act as the franchisor for the Bagger Dave’s concept and has rights to franchise in Illinois, Indiana, Kentucky, Michigan, Missouri, Ohio, and Wisconsin.  We do not intend to pursue franchise development at this time.  

 

WINGS was formed on March 12, 2007 and serves as a holding company for our DRH-owned BWW restaurants.  We are economically dependent on retaining our franchise rights with BWLD.  The franchise agreements have specific initial term expiration dates ranging from March 2020 through June 2034, depending on the date each was executed and the duration of its initial term.  The franchise agreements are renewable at the option of the franchisor and are generally renewable if the franchisee has complied with the franchise agreement.  When factoring in any applicable renewals, the franchise agreements have specific expiration dates ranging from March 2035 through June 2049.  We believe we are in compliance with the terms of these agreements.  

 
6

 

 

REAL ESTATE was formed on March 18, 2013 and serves as the holding company for the real estate properties owned by DRH. REAL ESTATE’s portfolio currently includes eight properties, four of which are Bagger Dave’s restaurants and four of which are DRH-owned BWW restaurants. The restaurants at these locations are all owned and operated by DRH.

 

Basis of Presentation

 

The consolidated financial statements as of September 28, 2014 and December 29, 2013, and for the three-month and nine-month periods ended September 28, 2014 and September 29, 2013, have been prepared by the Company pursuant to accounting principles generally accepted in the United States of America (“GAAP”) and the rules and regulations of the Securities and Exchange Commission. The financial information as of September 28, 2014 and for the three-month and nine-month periods ended September 28, 2014 and September 29, 2013 is unaudited, but, in the opinion of management, reflects all adjustments and accruals necessary for a fair presentation of the financial position, results of operations, and cash flows for the interim periods.

 

The consolidated financial information as of December 29, 2013 is derived from our audited consolidated financial statements and notes thereto for the fiscal year ended December 29, 2013, which is included in Item 8 in the Fiscal 2013 Annual Report on Form 10-K, and should be read in conjunction with such consolidated financial statements.

 

The results of operations for the three-month and nine-month periods ended September 28, 2014 are not necessarily indicative of the results of operations that may be achieved for the entire year ending December 28, 2014.

 

Reclassifications

 

Certain reclassifications have been made to the consolidated financial statements to conform to the prior year's presentation.

 

Segment Reporting

 

The Company has two operating segments, Bagger Dave’s and BWW. The brands operate within the ultra-casual, full-service dining industry, providing similar products to similar customers. The brands also possess similar economic characteristics, resulting in similar long-term expected financial performance. Sales from external customers are derived principally from food and beverage sales. We do not rely on any major customers as a source of sales. We believe we meet the criteria for aggregating our operating segments into a single reporting segment.

 

Concentration Risks

 

Approximately 79.8% and 80.6% of the Company's revenues are generated from food and beverage sales of restaurants located in the Midwest region during the nine-month periods ended September 28, 2014 and September 29, 2013, respectively.

 

Investments

 

The Company’s investment securities are classified as available-for-sale. Investments classified as available-for-sale are available to be sold in the future in response to the Company’s liquidity needs, changes in market interest rates, tax strategies, and asset-liability management strategies, among other reasons. Available-for-sale securities are reported at fair value, with unrealized gains and losses, net of taxes, reported in the accumulated other comprehensive income (loss) component of stockholders’ equity, and accordingly, have no effect on net income. Realized gains or losses on sale of investments are determined on the basis of specific costs of the investments. Dividend income is recognized when declared and interest income is recognized when earned. Discount or premium on debt securities purchased at other than par value are amortized using the effective yield method. See Note 3 for details. 

 

Goodwill

 

Goodwill is not amortized and represents the excess of cost over the fair value of identified net assets of businesses acquired. Goodwill is subject to an annual impairment analysis or more frequently if indicators of impairment exist. At September 28, 2014 and December 29, 2013, we had goodwill of $ 11.0 million and $8.6 million, respectively that was assigned to our BWW operating segment. See Note 2 for additional information.

 

The impairment analysis, if necessary, consists of a two-step process. The first step is to compare the fair value of the reporting unit to its carrying value, including goodwill. We estimate fair value using market information (market approach) and discounted cash flow projections (income approach). The income approach uses the reporting unit’s projection of estimated operating results and cash flows that is discounted using a weighted-average cost of capital that reflects market conditions. The projection uses management’s best estimates of projected revenue, costs and cash expenditures, including an estimate of new restaurant openings and related capital expenditures. Other significant estimates also include terminal growth rates and working capital requirements. We supplement our estimate of fair value under the income approach by using a market approach which estimates fair value by applying multiples to the reporting unit’s projected operating performance. The multiples are derived from comparable publicly traded companies with similar characteristics to the reporting unit. If the fair value of the reporting unit is less than its carrying value, the second step of the impairment analysis must be performed in order to determine the amount of impairment loss, if any. The second step compares the implied fair value of goodwill with the carrying amount of that goodwill. If the carrying amount of the goodwill exceeds its implied fair value, an impairment charge is recognized in an amount equal to that excess. As of December 29, 2013, based on our quantitative analysis, goodwill was considered recoverable. At September 28, 2014, there were no impairment indicators warranting an analysis.

  

Use of Estimates

 

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates.

 

 
7

 

 

Interest Rate Swap Agreements

 

The Company utilizes interest rate swap agreements with RBS Citizens, N.A. (“RBS”) to fix interest rates on a portion of the Company’s portfolio of variable rate debt, which reduces exposure to interest rate fluctuations.  The Company does not use any other types of derivative financial instruments to hedge such exposures, nor does it use derivatives for speculative purposes. The Company’s interest rate swap agreements qualify for hedge accounting. As such, the Company records the change in the fair value of its swap agreements as a component of accumulated other comprehensive income (loss), net of tax. The Company records the fair value of its interest swaps on the Consolidated Balance Sheet in other long-term assets or other long-term liabilities depending on the fair value of the swaps. See Note 7 and Note 14 for additional information on the interest rate swap agreements.

 

Recent Accounting Pronouncements

 

In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers ("ASU 2014-09"), which supersedes nearly all existing revenue recognition guidance under GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing GAAP.  The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein.  We are currently evaluating the impact of our pending adoption of ASU 2014-09, although based on the nature of our business we do not expect the standard will have a significant impact on our consolidated financial statements.  

 

2.           SIGNIFICANT BUSINESS TRANSACTIONS

 

On April 23, 2013, the Company completed an underwritten, follow-on equity offering of 6.9 million shares of common stock at a price of $5.00 per share to the public. After deducting underwriting discounts, commissions, and other offering expenses the net proceeds to DRH were $31.9 million. The Company invested a portion of the proceeds from the follow-on offering in highly liquid short-term investments with maturities of less than one year. At September 28, 2014, the Company held available-for-sale securities with an estimated fair value of $4.9 million. See Note 3 for additional information.

 

On June 30, 2014, the Company completed the acquisition of substantially all of the assets of Screamin’ Hot Florida, LLC and Screamin’ Hot Trinity, LLC, each a Florida limited liability company. The assets consist of three BWW restaurants in Clearwater, Port Richey and Oldsmar, Florida (the “Restaurants”). The purchase price was $3.2 million in cash, subject to working capital adjustment, and one-half of the transfer fees imposed by BWLD under its franchise agreements for these Restaurants. After the acquisition, the Company will own the entire Tampa, FL BWW market, giving DRH control of the local Advertising Co-Op. This ownership provides DRH a unique opportunity to gain local market scale, in addition to providing greater geographic diversity to the Company’s restaurant portfolio.

 

The following table summarizes the estimated fair values of net assets acquired and liabilities assumed:

 

 

Working capital

  $ 57,600  

Property and equipment

    656,146  

Franchise fees

    72,750  

Goodwill

    2,419,854  

Net Cash paid for acquisition

  $ 3,206,350  

 

The excess of the purchase price over the aggregate fair value of assets acquired is allocated to goodwill. Goodwill will be deductible for tax purposes. The results of operations of these locations are included in our Consolidated Statements of Operations from the date of acquisition.

 

 
8

 

 

 3.           INVESTMENTS

 

Investments consist of available-for-sale securities that are carried at fair value. Available-for-sale securities are classified as current assets based upon our intent and ability to use any and all of the securities as necessary to satisfy the operational requirements of our business. Based on the call date of the investments, all securities have maturities of one year or less. Unrealized losses are charged against net earnings when a decline in fair value is determined to be other than temporary.

  

The amortized cost, gross unrealized holding gains, gross unrealized holding loss, and fair value of available-for-sale securities by type are as follows: 

 

   

September 28, 2014

 
   

 Amortized

Cost

   

Unrealized

Gains

   

Unrealized

Loss

   

Estimated

Fair Value

 

Debt securities:

                               

Obligations of states/municipals

    2,613,309       -       (5,468

)

    2,607,841  

Corporate securities

    2,322,250       -       (18,243

)

    2,304,007  

Total debt securities

  $ 4,935,559     $ -     $ (23,711

)

  $ 4,911,848  

 

 

   

December 29, 2013

 
   

 Amortized

Cost

   

Unrealized

Gains

   

Unrealized

Loss

   

Estimated

Fair Value

 

Debt securities:

                               

U.S. government and agencies

  $ 3,497,951     $ 236     $ (52

)

  $ 3,498,135  

Corporate securities

    5,107,853       -       (44,390

)

    5,063,463  

Total debt securities

  $ 8,605,804     $ 236     $ (44,442

)

  $ 8,561,598  

 

As of September 28, 2014 and December 29, 2013, $4.9 million and $7.0 million of investments were in a loss position with a cumulative unrealized loss of $23,711 and $44,442, respectively. The Company may incur future impairment charges if decline in market values continue and/or worsen and the impairments are no longer considered temporary. All investments with unrealized losses have been in such position for less than 12 months.

 

Gross unrealized gains and losses on available-for-sale securities, recorded in accumulated other comprehensive income (loss), as of September 28, 2014 and December 29, 2013, were as follows:

 

   

September 28

2014

   

December 29

2013

 

Unrealized gains

  $ -     $ 236  

Unrealized loss

    (23,711

)

    (44,442

)

Net unrealized loss

    (23,711

)

    (44,206

)

Deferred federal income tax benefit

    8,061       15,030  

Net unrealized loss on investments, net of deferred income tax

  $ (15,650

)

  $ (29,176

)

 

 

4.          PROPERTY AND EQUIPMENT

 

Property and equipment are comprised of the following assets:

 

   

September 28

2014

   

December 29

2013

 

Land

  $ 5,823,050     $ 3,610,453  

Building

    4,316,263       4,316,263  

Equipment

    26,459,185       22,212,594  

Furniture and fixtures

    6,950,744       5,822,813  

Leasehold improvements

    57,304,857       46,469,088  

Restaurant construction in progress

    4,551,171       2,434,332  

Total

    105,405,270       84,865,543  

Less accumulated depreciation

    (30,905,075

)

    (26,288,809

)

Property and equipment, net

  $ 74,500,195     $ 58,576,734  

  

 
9

 

 

5.        INTANGIBLE ASSETS

 

Intangible assets are comprised of the following:

 

   

September 28

2014

   

December 29

2013

 

Amortized intangibles:

               

Franchise fees

  $ 659,863     $ 568,363  

Trademark

    64,059       59,199  

Non-compete agreement

    76,560       76,560  

Favorable lease

    239,000       239,000  

Loan fees

    465,497       346,758  

Total

    1,504,979       1,289,880  

Less accumulated amortization

    (481,961

)

    (361,009

)

Amortized intangibles, net

    1,023,018       928,871  
                 

Unamortized intangibles:

               

Liquor licenses

    2,206,469       2,019,142  

Total intangibles, net

  $ 3,229,487     $ 2,948,013  

 

Amortization expense for the three-month periods ended September 28, 2014 and September 29, 2013, was $15,935 and $13,989, respectively. Amortization expense for the nine-month periods ended September 28, 2014 and September 29, 2013, was $45,144 and $41,437, respectively. Amortization of favorable leases and loan fees are reflected as part of occupancy and interest expense, respectively.

 

Based on the current intangible assets and their estimated useful lives, future intangible-related expense for the next five years is projected as follows:

 

Year

 

Amount

 

Remainder of 2014

  $ 42,847  

2015

    165,794  

2016

    147,614  

2017

    146,078  

2018

    71,516  

2019 and thereafter

    449,169  

Total

  $ 1,023,018  

 

The aggregate weighted-average amortization period for intangible assets is 8.2 years.  

 

6.           RELATED PARTY TRANSACTIONS

 

Fees for monthly accounting and financial statement services are paid to an entity owned by a member of the DRH Board of Directors and a stockholder of the Company. Fees paid during the three-month periods ended September 28, 2014 and September 29, 2013, were $131,050, and $101,440, respectively. Fees paid during the nine-month periods ended September 28, 2014 and September 29, 2013, were $378,988 and $295,642, respectively.

 

See Note 10 for related party operating lease transactions.

 

 
10

 

 

 7.           LONG-TERM DEBT

 

Long-term debt consists of the following obligations:

   

September 28

2014

   

December 29

2013

 

Note payable - $46.0 million term loan; payable to RBS with a senior lien on all the Company’s personal property and fixtures. Scheduled monthly principal payments are approximately $547,619 plus accrued interest through maturity in April 2018. Interest is charged based on one-month LIBOR plus an applicable margin, which ranges from 2.25% to 3.15%, depending on the lease adjusted leverage ratio defined in the terms of the agreement. The rate at September 28, 2014 was approximately 2.7%.

  $ 26,690,476       31,619,048  
                 

Note payable - $15.0 million development line of credit; payable to RBS with a senior lien on all the Company’s personal property and fixtures. Scheduled monthly principal payments are $178,571 plus accrued interest through maturity in April 2018. Interest is charged based on one-month LIBOR plus an applicable margin, which ranges from 2.25% to 3.15%, depending on the lease adjusted leverage ratio defined in the terms of the agreement. The rate at September 28, 2014 was approximately 2.7%.

    14,107,143       12,759,420  
                 

Note payable - $20.0 million development line of credit II; payable to RBS with a senior lien on all the Company’s personal property and fixtures. Interest is charged based on one-month LIBOR plus an applicable margin, which ranges from 2.25% to 3.15%, depending on the lease adjusted leverage ratio defined in the terms of the agreement. The rate at September 28, 2014 was approximately 2.7%. Once fully drawn, payments will be due monthly; the note matures in April 2018.

    14,207,752       -  
                 

Note payable to a bank secured by a senior mortgage on the Brandon Property. Scheduled monthly principal and interest payments are approximately $8,000 through maturity in June 2030, at which point a balloon payment of $413,550 is due. Interest is charged based on a fixed rate of 6.7%, per annum, through June 2017, at which point the rate will adjust to the U.S. Treasury Securities Rate plus 4.0% (and every seven years thereafter).

    1,063,990       1,081,047  
                 

Note payable to a bank secured by a junior mortgage on the Brandon Property. The note matures in 2030 and requires monthly principal and interest installments of approximately $6,300 until maturity. Interest is charged at a rate of 3.6% per annum.

    786,648       813,806  
                 

Total long-term debt

    56,856,009       46,273,321  
                 

Less current portion

    (12,327,788

)

    (8,225,732

)

                 

Long-term debt, net of current portion

  $ 44,528,221     $ 38,047,589  

 

On April 15, 2013, the Company entered into a $63.0 million senior secured credit facility with RBS (the “April 2013 Senior Secured Credit Facility”). The April 2013 Senior Secured Credit Facility consists of a $46.0 million term loan (the “April 2013 Term Loan”), a $15.0 million development line of credit (the “April 2013 DLOC”), and a $2.0 million revolving line of credit (the “April 2013 RLOC”). The April 2013 Term Loan is for a period of five years. Payments of principal are based upon an 84-month straight-line amortization schedule, with monthly principal payments of $547,619 plus accrued interest through maturity on April 15, 2018, at which time the entire unpaid principal and interest is due. The April 2013 DLOC converted to a term loan on March 11, 2014, with monthly principal payments of $178,571 plus accrued interest beginning May 2014 through maturity on April 15, 2018, at which time the entire unpaid principal and interest is due. The April 2013 RLOC is for a term of two years. As of September 28, 2014 no amounts were outstanding under the April 2013 RLOC. Amounts borrowed under the April 2013 Senior Secured Credit Facility bear interest at a rate of one-month LIBOR plus an applicable margin.

 

On March 20, 2014, the Company amended the April 2013 Senior Secured Credit Facility to include a $20.0 million development line of credit II (the “March 2014 DLOC II”). The March 2014 DLOC II is for a term of two years and is convertible upon maturity into a term note. The amendment also provided a 25 basis point reduction to the April 2013 Senior Secured Credit Facility’s applicable margin rate, which reduced the range from 2.5%/3.4% to 2.25%/3.15%, which commenced April 2014. 

  

 
11

 

 

Based on the long-term debt terms that existed at September 28, 2014, the scheduled principal maturities for the next five years and thereafter are summarized as follows:

 

Year

 

Amount

 

Remainder of 2014

  $ 2,558,034  

2015

    13,148,218  

2016

    13,151,117  

2017

    13,154,578  

2018

    13,276,923  

2019 and thereafter

    1,567,139  

Total

  $ 56,856,009  

 

For the three-month periods ended September 28, 2014 and September 29, 2013, interest expense was $483,057 and $320,798, respectively. For both the nine-month periods ended September 28, 2014 and September 29, 2013, interest expense was $1.4 million.

 

The current debt agreement contains various customary financial covenants generally based on the performance of the specific borrowing entity and other related entities. The more significant covenants consist of a minimum debt service coverage ratio and a maximum lease adjusted leverage ratio, both of which we are in compliance with as of September 28, 2014.

  

At September 28, 2014, the Company has four interest rate swap agreements to fix a portion of the interest rates on its variable rate debt. The swap agreements all qualify for hedge accounting. The swap agreements have a combined notional amount of $40.2 million at September 28, 2014. Under the swap agreements, the Company receives interest at the one-month LIBOR and pays a fixed rate. The April 2012 swap has a rate of 1.4% (notional amount of $10.5 million) and expires April 2019, the October 2012 swap has a rate of 0.9% (notional amount of $4.3 million) and expires October 2017, the December 2013 swap has a rate of 1.4% (notional amount of $12.5 million) and expires April 2018, and the April 2015 forward swap has a rate of 1.54% (notional amount of $12.9 million) and expires April 2018. The fair value of these swap agreements was a liability of $250,528 and $327,561 at September 28, 2014 and December 29, 2013, respectively. Since these swap agreements qualify for hedge accounting, the changes in fair value are recorded in other comprehensive income (loss), net of tax. See Note 1 and Note 14 for additional information pertaining to interest rate swaps.

  

8.            STOCK-BASED COMPENSATION

 

The Company established a Stock Incentive Plan in 2011 (“Stock Incentive Plan”) to attract and retain directors, consultants, and team members and to align their interests with the interests of the Company’s shareholders through the opportunity for increased stock ownership.  The plan permits the grant and award of 750,000 shares of common stock by way of stock options and/or restricted stock.  Stock options must be awarded at exercise prices at least equal to or greater than 100.0% of the fair market value of the shares on the date of grant. The options will expire no later than 10 years from the date of grant, with vesting terms to be defined at grant date, ranging from a vesting schedule based on performance to a vesting schedule that extends over a period of time as selected by the Compensation Committee of the Board of Directors (the “Committee”) or another committee as determined by the Board of Directors. The Committee also determines the grant, issuance, retention, and vesting timing and conditions of awards of restricted stock. The Committee may place limitations, such as continued employment, passage of time, and/or performance measures, on restricted stock. Awards of restricted stock may not provide for vesting or settlement in full of restricted stock over a period of less than one year from the date the award is made.

 

During the nine months ended September 28, 2014 and September 29, 2013, restricted shares were granted to certain team members at a weight-average fair value of $4.82 and $5.85.  Restricted shares are granted with a per share purchase price at 100.0% of the fair market value on the date of grant. Based on the Stock Award Agreement, shares vest ratably over a three year period or upon the three year anniversary of the granted shares, the vesting terms are determined by the Committee.  Unrecognized stock-based compensation expense of $700,648 at September 28, 2014 will be recognized over the remaining weighted-average vesting period of 2.1 years. The total fair value of shares vested during the nine months ended September 28, 2014 and September 29, 2013 was $193,996 and $169,593, respectively.  Under the Stock Incentive Plan, there are 543,434 shares available for future awards at September 28, 2014.

 

The Company also reserved 250,000 shares of common stock for issuance under the Employee Stock Purchase Plan (“ESPP”). The ESPP is available to team members subject to employment eligibility requirements. Participants may purchase common stock at 85.0% of the lesser of the start or end price for the offering period. The plan has four offering periods, each start/end dates coincide with the fiscal quarter and are awarded on the last day of the offering period. During the nine months ended September 28, 2014 and September 29 2013, we issued 8,523 and 2,061 shares, respectively. Under the ESPP, there are 236,704 shares available for future awards at September 28, 2014.

 

 
12

 

 

The following table presents the restricted shares transactions during the nine months ended September 28, 2014:

 

   

Number of

Restricted

Stock Shares

 

Unvested, December 29, 2013

    116,667  

Granted

    91,966  

Vested

    (41,031

)

Expired/Forfeited

    (2,068

)

Unvested, September 28, 2014

    165,534  

 

The following table presents the restricted shares transactions during the nine months ended September 29, 2013:

 

   

Number of

Restricted

Stock Shares

 

Unvested, December 30, 2012

    54,900  

Granted

    145,375  

Vested

    (26,500

)

Expired/Forfeited

    (48,400

)

Unvested, September 29, 2013

    125,375  

 

 

On July 30, 2007, DRH granted options for the purchase of 150,000 shares of common stock to the directors of the Company at an exercise price of $2.50 per share. These options vested ratably over a three-year period and were set to expire six years from issuance, July 30, 2013. All 150,000 options were fully vested as of July 30, 2013 and were exercised either through cash or cashless exercise at a price of $2.50 per share. The intrinsic value of options exercised in 2013 was $679,680.

 

On July 30, 2010, DRH granted options for the purchase of 210,000 shares of common stock to the directors of the Company.  These options are fully vested and expire six years from issuance, July 30, 2016.  Once vested, the options can be exercised at a price of $2.50 per share. At September 28, 2014, 210,000 shares of authorized common stock are reserved for issuance to provide for the exercise of these options. The intrinsic value of outstanding options is $476,700 and $852,600 as of September 28, 2014 and September 29, 2013, respectively.

 

Stock-based compensation of $84,072 and $70,563 was recognized, during the three-month periods ended September 28, 2014 and September 29, 2013, respectively, and $237,079, and $205,668 for the nine-month periods ended September 28, 2014 and September 29, 2013, respectively, as compensation cost in the Consolidated Statements of Operations and as additional paid-in capital on the Consolidated Statement of Stockholders' Equity to reflect the fair value of shares vested.

   

The Company has authorized 10,000,000 shares of preferred stock at a par value of $0.0001.  No preferred shares are issued or outstanding as of September 28, 2014.  Any preferences, rights, voting powers, restrictions, dividend limitations, qualifications, and terms and conditions of redemption shall be set forth and adopted by a Board of Directors' resolution prior to issuance of any series of preferred stock.

 

 
13

 

 

 9.           INCOME TAXES

 

The (benefit) provision for income taxes consists of the following components for the three-month and nine-month periods ended September 28, 2014 and September 29, 2013, respectively:

 

 

   

Three Months Ended

   

Nine Months Ended

 
   

 

September 28

2014

   

September 29

2013

   

September 28

2014

   

September 29

2013

 

Federal:

                               

Current

  $ -     $ -     $ -     $ -  

Deferred

    (20,315

)

    (14,246

)

    (189,473

)

    23,908  
                                 

State:

                               

Current

    (24,389 )     33,568       43,898       65,434  

Deferred

    (3,396

)

    (33,766

)

    (34,455

)

    (37,156

)

                                 

Income tax provision (benefit)

  $ (48,100

)

  $ (14,444 )   $ (180,030 )   $ 52,186  

 

The (benefit) provision for income taxes is different from that which would be obtained by applying the statutory federal income tax rate to income before income taxes before income taxes.  The items causing this difference are as follows:

 

   

September 28

2014

   

September 29

2013

 

Income tax provision at federal statutory rate

  $ (32,235 )   $ 116,298  

State income tax provision

    6,331       18,663  

Permanent differences

    53,499       123,778  

Tax credits

    (207,625

)

    (206,553

)

Income tax provision (benefit)

  $ (180,030 )   $ 52,186  

 

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.  The Company expects the deferred tax assets to be fully realizable within the next several years. Significant components of the Company's deferred income tax assets and liabilities are summarized as follows:

 

   

September 28

2014

   

December 29

2013

 

Deferred tax assets:

               

Net operating loss carry forwards

  $ 494,900     $ 983,682  

Deferred rent expense

    593,237       131,249  

Start-up costs

    133,744       130,136  

Tax credit carry forwards

    2,591,009       2,427,861  

Interest rate swaps

    85,179       111,218  

Investments

    8,061       15,030  

Stock-based compensation

    275,606       129,514  

Other

    259,280       186,814  

Total deferred tax assets

    4,441,016       4,115,504  
                 

Deferred tax liabilities:

               

Tax depreciation in excess of book

    2,804,681       2,708,544  

Other

    282,654       244,199  

Total deferred tax liabilities

    3,087,335       2,952,743  
                 

Net deferred income tax asset

  $ 1,353,681     $ 1,162,761  

 

If deemed necessary by management, the Company establishes valuation allowances in accordance with the provisions of Accounting Standards Codification (“ASC”) 740, Income Taxes ("ASC 740") issued by FASB. Management continually reviews the likelihood that deferred tax assets will be realized and the Company recognizes these benefits only as reassessment indicates that it is more likely than not that such tax benefits will be realized. 

 

The Company expects to use net operating loss and general business tax credit carryforwards before their 20-year expiration. As of September 28, 2014, the Company has available federal net operating loss carryforwards of approximately $2.1 million. Of that amount, approximately $600,000 relates to stock-based compensation tax deductions in excess of book compensation expense that will be credited to additional paid in capital in future periods when such deductions reduce taxes payable as determined based on a "with-and-without" approach.  Net operating losses relating to such benefits are not included in the table above. General business tax credits of $2.6 million will expire between 2028 and 2035. 

 

The Company applies the provisions of ASC 740 regarding the accounting for uncertainty in income taxes.  There are no amounts recorded on the Company's consolidated financial statements for uncertain positions.  The Company classifies all interest and penalties as income tax expense.  There are no accrued interest amounts or penalties related to uncertain tax positions as of September 28, 2014.

 

 
14

 

  

The Company files income tax returns in the United States federal jurisdiction and various state jurisdictions.

 

10.           OPERATING LEASES (INCLUDING RELATED PARTY)

 

Lease terms range from five to 20 years, generally include renewal options, and frequently require us to pay a proportionate share of real estate taxes, insurance, common area maintenance, and other operating costs. Some restaurant leases provide for contingent rental payments based on sales thresholds.

 

Total rent expense was $1.4 million and $1.2 million for the three-month periods ended September 28, 2014 and September 29, 2013, respectively (of which $34,299 and $18,820, respectively, were paid to a related party).  Total rent expense was $3.8 million and $3.7 million for the nine-month periods ended September 28, 2014 and September 29, 2013, respectively (of which $103,961 and $56,394, respectively, were paid to a related party). On October 30, 2014, Detroit Burgers, Inc., one of our wholly-owned subsidiaries, acquired 100% of the membership interests of DMM Group, LLC from a trust controlled by the spouse of our President, CEO and Chairman, T. Michael Ansley for $250,000. DMM Group’s sole asset is the land and improvements used for our Detroit Bagger Dave’s restaurant.

 

Scheduled future minimum lease payments for each of the five years and thereafter for non-cancelable operating leases with initial or remaining lease terms in excess of one year at September 28, 2014 are summarized as follows:

 

Year

 

Amount

 

Remainder of 2014

  $ 1,528,696  

2015

    6,065,811  

2016

    5,841,663  

2017

    5,568,461  

2018

    5,282,794  

2019 and thereafter

    24,090,959  

Total

  $ 48,378,384  

 

 

Scheduled future minimum lease payments for each of the five years and thereafter for non-cancelable operating leases for restaurants under development with initial or remaining lease terms in excess of one year at September 28, 2014 are summarized as follows:

 

Year

 

Amount

 

Remainder of 2014

  $ 37,008  

2015

    496,736  

2016

    520,872  

2017

    522,552  

2018

    524,236  

2019 and thereafter

    4,107,260  

Total

  $ 6,208,664  

 

 

11.           COMMITMENTS AND CONTINGENCIES

 

The Company’s ADA requires DRH to open 32 restaurants by March 1, 2017.  Failure to develop restaurants in accordance with the schedule detailed in the agreement could lead to potential penalties of up to $50,000 for each undeveloped restaurant, payment of the initial franchise fees for each undeveloped restaurant, and loss of rights to development territory.  As of September 28, 2014, we have opened 22 of the 32 restaurants required by the ADA.  With the remaining 10 restaurants, along with two additional franchise agreements, we expect the Company will operate 52 BWW restaurants by 2017, exclusive of potential additional BWW restaurant acquisitions.  

  

The Company is required to pay BWLD royalties (5.0% of net sales) and advertising fund contributions (3.0% of net sales globally and 0.5% of net sales for certain cities) for the term of the individual franchise agreements.  The Company incurred royalty fees of $1.4 million and $1.2 million for the three-month periods ended September 28, 2014 and September 29, 2013 and $3.9 million and $3.5 million for nine-month periods ended September 28, 2014 and September 29, 2013, respectively.  Advertising fund contribution expenses were $813,579 and $690,096 for the three-month periods ended September 28, 2014 and September 29, 2013 and $2.3 million and $2.1 million for nine-month periods ended September 28, 2014 and September 29, 2013, respectively.

 

 
15

 

 

The Company is required by its various BWLD franchise agreements to modernize the restaurants during the term of the agreements.  The individual agreements generally require improvements between the fifth and tenth year to meet the most current design model that BWLD has approved.  The modernization costs for a restaurant can range from approximately $50,000 to approximately $700,000 depending on an individual restaurant's needs.

 

The Company is subject to ordinary and routine legal proceedings, as well as demands, claims and threatened litigation, which arise in the ordinary course of its business.  The ultimate outcome of any litigation is uncertain.  While unfavorable outcomes could have adverse effects on the Company's business, results of operations, and financial condition, management believes that the Company is adequately insured and does not believe an unfavorable outcome of any pending or threatened proceedings is probable or reasonably possible.  Therefore, no separate reserve or disclosure has been established for these types of legal proceedings. 

 

12.          EARNINGS PER COMMON SHARE

 

The following is a reconciliation of basic and fully diluted earnings per common share for the three-month and nine-month periods ended September 28, 2014 and September 29, 2013:

 

   

Three months ended

 
   

 

September 28

2014

   

September 29

2013

 

Income (loss) available to common stockholders

  $ (182,109 )   $ 69,810  
                 

Weighted-average shares outstanding

    26,107,627       26,054,118  

Effect of dilutive securities

    -       132,145  

Weighted-average shares outstanding - assuming dilution

    26,107,627       26,186,263  
                 

Earnings (loss) per common share

  $ (0.01   $ 0.00  

Earnings (loss) per common share - assuming dilution

  $ (0.01   $ 0.00  

 

   

Nine months ended

 
   

 

September 28

2014

   

September 29

2013

 
                 

Income available to common stockholders

  $ 85,252     $ 311,847  
                 

Weighted-average shares outstanding

    26,074,797       23,231,403  

Effect of dilutive securities

    99,796       119,725  

Weighted-average shares outstanding - assuming dilution

    26,174,593       23,351,128  
                 

Earnings per common share

  $ 0.00     $ 0.01  

Earnings per common share - assuming dilution

  $ 0.00     $ 0.01  

 

 

13.            SUPPLEMENTAL CASH FLOWS INFORMATION

 

Other Cash Flows Information

 

Cash paid for interest was $438,679 and $319,689 during the three-month periods ended September 28, 2014 and September 29, 2013, and was $1.3 million and $1.4 million for the nine-month periods ended September 28, 2014 and September 29, 2013, respectively.

 

Cash paid for income taxes was $22,000 during the three-month periods ended September 28, 2014 and September 29, 2013, respectively, and $22,000 and $65,500 for the nine-month periods ended September 28, 2014 and September 29, 2013, respectively.

 

 
16

 

 

Supplemental Schedule of Non-Cash Operating, Investing, and Financing Activities

 

Noncash investing activities for property and equipment not yet paid during both the nine months ended September 28, 2014 and September 29, 2013, was $1.4 million.

 

14.           FAIR VALUE OF FINANCIAL INSTRUMENTS

 

The guidance for fair value measurements, FASB ASC 820, Fair Value Measurements and Disclosures, establishes the authoritative definition of fair value, sets out a framework for measuring fair value, and outlines the required disclosures regarding fair value measurements. Fair value is the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. We use a three-tier fair value hierarchy based upon observable and non-observable inputs as follows:

 

 

Level 1

Quoted market prices in active markets for identical assets and liabilities;

     

 

Level 2

Inputs, other than level 1 inputs, either directly or indirectly observable; and

     

 

Level 3

Unobservable inputs developed using internal estimates and assumptions (there is little or no market data) which reflect those that market participants would use.

 

As of September 28, 2014 and December 29, 2013, respectively, our financial instruments consisted of cash and cash equivalents, accounts receivable, available-for-sale investments, accounts payable, and debt. The fair value of cash and cash equivalents, accounts receivable, and accounts payable approximate carrying value, due to their short-term nature.

  

The fair value of our interest rate swaps is determined based on valuation models, which utilize quoted interest rate curves to calculate the forward value and then discount the forward values to the present period. The Company measures the fair value using broker quotes which are generally based on market observable inputs including yield curves and the value associated with counterparty credit risk. Our interest rate swaps are classified as a Level 2 measurement as these securities are not actively traded in the market, but are observable based on transactions associated with bank loans with similar terms and maturities. See Note 1 and Note 7 for additional information pertaining to interest rates swaps.

 

The estimated fair values of the Company’s investment portfolio are based on prices provided by a third party pricing service and a third party investment manager. The prices provided by these services are based on quoted market prices, when available, non-binding broker quotes, or matrix pricing. The third party pricing service and the third party investment manager provide a single price or quote per security and the Company has not historically adjusted security prices. The Company obtains an understanding of the methods, models and inputs used by the third party pricing service and the third party investment manager, and has controls in place to validate that amounts provided represent fair values. Our investments are classified as a Level 2 measurement as these securities are not actively traded in the market, but are observable based on the quoted prices provided by our Portfolio managers.

 

As of September 28, 2014 and December 29, 2013, our total debt was approximately $56.9 million and $46.3 million, respectively, which approximated fair value. The Company estimates the fair value of its fixed-rate debt using discounted cash flow analysis based on the Company’s incremental borrowing rate (Level 2).

 

There were no transfers between levels of the fair value hierarchy during the three and nine months ended September 28, 2014 and the fiscal year ended December 29, 2013.

 

 
17

 

 

The following table presents the fair values for those assets and liabilities measured on a recurring basis as of September 28, 2014:

 

FAIR VALUE MEASUREMENTS

 

Description

 

Level 1

   

Level 2

   

Level 3

   

Asset/(Liability)

Total

 

Interest rate swaps

  $ -     $ (250,528

)

  $ -     $ (250,528

)

                                 

Debt securities

                               

Obligations of states/municipals

    -       2,607,841       -       2,607,841  

Corporate securities

    -       2,304,007       -       2,304,007  

Total debt securities

    -       4,911,848       -       4,911,848  

Total debt securities and derivatives

  $ -     $ 4,661,320     $ -     $ 4,661,320  

 

 

The following table presents the fair values for those assets and liabilities measured on a recurring basis as of December 29, 2013:

 

FAIR VALUE MEASUREMENTS

 

Description

 

Level 1

   

Level 2

   

Level 3

   

Asset/(Liability)

Total

 

Interest rate swaps

  $ -     $ (327,561

)

  $ -     $ (327,561

)

                                 

Debt securities

                               

U.S. government and agencies

    -       3,498,135       -       3,498,135  

Corporate securities

    -       5,063,463       -       5,063,463  

Total debt securities

    -       8,561,598       -       8,561,598  

Total debt securities and swaps

  $ -     $ 8,234,037     $ -     $ 8,234,037  

 

 

15. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

 

The following table summarizes each component of Accumulated Other Comprehensive Income (loss):

 

   

September 28

2014

   

December 29

2013

 

Fair value of interest rate swaps (net of tax of $85,179 and $111,218)

  $ (165,347

)

  $ (216,188

)

Fair value of investments (net of tax of $8,061 and $15,030)

    (15,650

)

    (29,176

)

Total Accumulated other comprehensive loss ending balance

  $ (180,997

)

  $ (245,364

)

 

  

16.           SUBSEQUENT EVENTS

 

On October 31, 2014 and November 5, 2014, the Company closed on its previously announced sale and leaseback transaction with Spirit Master Funding IX (“Purchaser”), with regard to seven of the 12 properties that are subject to the agreement. The aggregate sales price for the properties closed to date was $13.1 million. The Company plans to use $5.0 million of the proceeds to pay down debt, including $1.9 million to retire mortgages on its Brandon Buffalo Wild Wings property and $3.1 million to pay down its DLOC. The Company intends to use the remaining proceeds from the transaction to fund growth capital. Closing on the remaining properties, all of which remain under construction, is anticipated to occur upon completion of the construction, subject to customary diligence by Purchaser and satisfaction of other conditions precedent to closing. For additional information, refer the 8-K filed on November 5, 2014.

 

 
18

 

 

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

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated interim financial statements and related notes included in Item 1 of Part 1 of this Quarterly Report and the audited consolidated financial statements and related notes and Management’s Discussion and Analysis of Financial Condition and Results from Operations contained in our Form 10-K, for the fiscal year ended December 29, 2013. Information included in this discussion and analysis includes commentary on company-owned restaurant, restaurant sales, and same store sales. Management believes such sales information is an important measure of our performance, and is useful in assessing consumer acceptance of the Bagger Dave’s Tavern® (“Bagger Dave’s”) and Buffalo Wild Wings® Grill & Bar (“BWW”) concept and the overall health of the concepts. However, same store sales information does not represent sales in accordance with accounting principles generally accepted in the United States of America (“GAAP”), should not be considered in isolation or as a substitute for other measures of performance prepared in accordance with GAAP and may not be comparable to financial information as defined or used by other companies.

 

INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

 

Statements contained in this “Quarterly Report on Form 10-Q” may contain information that includes or is based upon certain “forward-looking statements” relating to our business. These forward-looking statements represent management’s current judgment and assumptions, and can be identified by the fact that they do not relate strictly to historical or current facts. Forward-looking statements are frequently accompanied by the use of such words as “anticipates,” “plans,” “believes,” “expects,” “projects,” “intends,” and similar expressions. Such forward-looking statements involve known and unknown risks, uncertainties, and other factors, including, while it is not possible to predict or identify all such risks, uncertainties, and other factors, those relating to our ability to secure the additional financing adequate to execute our business plan; our ability to locate and start up new restaurants; acceptance of our restaurant concepts in new market places; and the cost of food and other raw materials.  Any one of these or other risks, uncertainties, other factors, or any inaccurate assumptions may cause actual results to be materially different from those described herein or elsewhere by us. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date they were made. Certain of these risks, uncertainties, and other factors may be described in greater detail in our filings from time to time with the Securities and Exchange Commission (“SEC”), which we strongly urge you to read and consider. Subsequent written and oral forward-looking statements attributable to us or to persons acting on our behalf are expressly qualified in their entirety by the cautionary statements set forth above and elsewhere in our reports filed with the SEC. We expressly disclaim any intent or obligation to update any forward-looking statements.

 

OVERVIEW

 

Diversified Restaurant Holdings, Inc. (“DRH”) is a fast-growing restaurant company operating two complementary concepts:  Bagger Dave’s Burger Tavern ® (“Bagger Dave’s”) and Buffalo Wild Wings ® Grill & Bar (“BWW”).  As the creator, developer, and operator of Bagger Dave’s and as one of the largest franchisees of BWW, we provide a unique guest experience in a casual and inviting environment.  We were incorporated in 2006 and are headquartered in the Detroit metropolitan area.  As of September 28, 2014, we had 61 locations in Florida, Illinois, Indiana, and Michigan.

  

DRH and its wholly-owned subsidiaries (collectively, the “Company”), AMC Group, Inc. (“AMC”), AMC Wings, Inc. (“WINGS”), AMC Burgers, Inc. (“BURGERS”), and AMC Real Estate, Inc. (“REAL ESTATE”) own, operate, and manage Bagger Dave's and DRH-owned BWW restaurants located throughout Florida, Illinois, Indiana, and Michigan.

 

DRH originated the Bagger Dave’s concept with our first restaurant opening in January 2008 in Berkley, Michigan.  Currently, there are 22 Bagger Dave’s, 14 in Michigan and eight in Indiana. The Company expects to operate between 47 and 51 Bagger Dave’s locations by the end of 2017.

 

DRH is also one of the largest BWW franchisees and currently operates 40 DRH-owned BWW restaurants (18 in Michigan, 14 in Florida, four in Illinois, and four in Indiana), including the nation’s largest BWW, based on square footage, in downtown Detroit, Michigan. We remain on track to fulfill our area development agreement (“ADA”) with Buffalo Wild Wings International, Inc. (“BWLD”) and expect to operate 52 DRH-owned BWW restaurants by the end of 2017, exclusive of potential additional BWW restaurant acquisitions. 

 

 
19

 

 

RESTAURANT OPENINGS

 

The following table outlines the restaurant unit information for each fiscal year from 2010 through 2014. From our inception in 2006, we managed, but did not own, nine BWW restaurants, which we acquired in February 2010.

 

   

2014

(estimate)

   

2013

   

2012

   

2011

   

2010

 

Summary of restaurants open at the beginning of year

                                       

DRH-owned BWW

    36       33       22       19       7  

Bagger Dave’s

    18       11       6       3       2  

BWW Acquisitions / affiliate restaurants under common control

    -       -       -       -       9  
                                         

Total

    54       44       28       22       18  
                                         

Openings:

                                       

DRH-owned BWW

    3       3       3       3       3  

Bagger Dave’s

    6       7       5       3       1  

BWW Acquisitions

    3       -       8       -       -  

Closures

    -       -       -       -       -  

Total restaurants

    66       54       44       28       22  

 

 

RESULTS OF OPERATIONS

 

For the three-month period ended September 28, 2014 ("Third Quarter 2014") and nine-month period ended September 28, 2014 (“Year to Date 2014”), revenue was generated from the operations of 40 BWW restaurants and 21 Bagger Dave’s restaurants. Of these restaurants, the Company opened one BWW restaurant in July 2014 and acquired three BWW restaurants on June 30, 2014. Additionally, the Company has opened three Bagger Dave’s during Year to Date 2014; one in May 2014, June 2014, and September 2014. For the three-month period ended September 29, 2013 ("Third Quarter 2013") and the nine-month period ended September 29, 2013 (“Year to Date 2013”), revenue was generated from the operations of 35 BWW restaurants and 14 Bagger Dave’s restaurants (three Bagger Dave’s restaurants opened during Year to Date 2013; one in May 2013, July 2013, and September 2013). Quarterly and annual operating results may fluctuate significantly as a result of a variety of factors, including the timing and number of new restaurant openings and related expenses, increases or decreases in same store sales, changes in commodity prices, general economic conditions, and seasonal fluctuations. As a result, our quarterly results of operations are not necessarily indicative of the results that may be achieved for any future period. Same store sales is defined as a restaurant to be comparable in the first full quarter following the 18th month of operations. Changes in comparable restaurant sales reflect changes in sales for the comparable group of restaurants over a specified period of time. Our comparable restaurant base consisted of 46 and 35 restaurants at September 28, 2014 and September 29, 2013, respectively

 

Results of Operations for the Three Months Ended September 28, 2014 and September 29, 2013

 

   

Three Months Ended

 
   

September 28

2014

   

September 29

2013

 

Total revenue

    100.0

%

    100.0

%

                 

Operating expenses

               

Restaurant operating costs:

               

Food, beverage, and packaging costs

    28.8

%