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EX-32.1 - EXHIBIT 32.1 - Zoe's Kitchen, Inc.ex321soxcertificatonq117.htm
EX-31.2 - EXHIBIT 31.2 - Zoe's Kitchen, Inc.ex312section302certificati.htm
EX-31.1 - EXHIBIT 31.1 - Zoe's Kitchen, Inc.ex311section302certificati.htm
EX-10.2 - EXHIBIT 10.2 - Zoe's Kitchen, Inc.ex1012016managementseveran.htm
EX-10.1 - EXHIBIT 10.1 - Zoe's Kitchen, Inc.ex101amendedandrestatedemp.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended April 17, 2017
or
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 001-36411
ZOE'S KITCHEN, INC.
(Exact name of registrant as specified in its charter)

 
 
 
Delaware
 
51-0653504
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
 
5760 State Highway 121, Suite 250
Plano, Texas
 
75024
(Address of principal executive offices)
 
(Zip Code)
 
 
 
Registrant’s telephone number, including area code: (214) 436-8765
 
 
 
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 and (2) has been subject to such filing requirements for the past 90 days.    Yes þ  No  o
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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes    þ   No  o
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    þ
 
 
 
Accelerated filer    o
 
 
 
 
 
Non-accelerated filer   o
 
(Do not check if a smaller reporting company)
 
Smaller reporting company  o
 
 
 
 
 
 
 
 
 
Emerging growth company  o
 
 
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes  o    No  þ
On May 25, 2017, there were 19,488,754 shares of common stock outstanding.



Table of Contents
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


1


Part I - Financial Information

Item 1. Financial Statements

Zoe's Kitchen, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
(in thousands, except share and per share data)
 
 
April 17,
2017
 
December 26,
2016
Assets
 
 
 
 
Current Assets:
 
 
 
 
Cash and cash equivalents
 
$
3,030

 
$
5,493

Trade accounts receivable, net of allowance for doubtful accounts
 
1,774

 
2,287

Other accounts receivable
 
2,802

 
3,708

Inventories
 
2,102

 
1,878

Prepaid expenses and other
 
3,566

 
1,818

Total current assets
 
13,274

 
15,184

Property and equipment, net
 
174,737

 
162,033

Goodwill
 
29,528

 
29,528

Intangibles, net
 
7,473

 
7,962

Other long-term assets, net
 
540

 
512

Total long-term assets
 
212,278

 
200,035

Total assets
 
$
225,552

 
$
215,219

Liabilities and Stockholders' Equity
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
10,810

 
$
7,229

Accrued expenses and other
 
15,556

 
14,260

Total current liabilities
 
26,366

 
21,489

Long-term liabilities:
 
 
 
 
Deemed landlord financing
 
32,440

 
29,777

Deferred rent
 
30,048

 
28,375

Deferred income taxes
 
5,740

 
5,476

Other long-term liabilities, net
 
84

 
136

Total long-term liabilities
 
68,312

 
63,764

Total liabilities
 
94,678

 
85,253

Commitments and contingencies (Note 8)
 

 

Stockholders' equity:
 
 
 
 
Common stock: $0.01 par value, 135,000,000 shares authorized as of April 17, 2017 and December 26, 2016; 19,488,754 and 19,460,467 issued and outstanding as of April 17, 2017 and December 26, 2016, respectively.
 
$
195

 
$
195

Additional paid-in capital
 
149,654

 
148,482

Accumulated deficit
 
(18,975
)
 
(18,711
)
Total stockholders' equity
 
130,874

 
129,966

Total liabilities and stockholders' equity
 
$
225,552

 
$
215,219


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

2


Zoe's Kitchen, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Operations
(in thousands, except share and per share data)

 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
Revenue:
 
 
 
 
Restaurant sales
 
$
90,504

 
$
80,348

Royalty fees
 
57

 
63

Total revenue
 
90,561

 
80,411

Operating expenses:
 
 
 
 
Restaurant operating costs (excluding depreciation and amortization):
 
 
 
 
Cost of sales
 
26,496

 
23,989

Labor
 
26,952

 
23,299

Store operating expenses
 
19,049

 
15,373

General and administrative expenses
 
9,985

 
9,445

Depreciation
 
5,052

 
3,992

Amortization
 
489

 
500

Pre-opening costs
 
567

 
740

Loss from disposal of equipment
 
259

 
237

Total operating expenses
 
88,849

 
77,575

Income from operations
 
1,712

 
2,836

Other income and expenses:
 
 
 
 
Interest expense, net
 
1,368

 
1,122

Other income
 
(29
)
 
(27
)
Total other income and expenses
 
1,339

 
1,095

Income before provision for income taxes
 
373

 
1,741

Provision for income taxes
 
354

 
345

Net income
 
$
19

 
$
1,396

Earnings per share:
 
 
 
 
Basic
 
$
0.00

 
$
0.07

Diluted
 
$
0.00

 
$
0.07

Weighted average shares of common stock outstanding:
 
 
 
 
Basic
 
19,472,124

 
19,395,815

Diluted
 
19,528,915

 
19,568,815


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


3


Zoe's Kitchen, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Cash Flows
(in thousands)
 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
Cash flows from operating activities:
 
 
 
 
Net income
 
$
19

 
$
1,396

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation
 
5,052

 
3,992

Amortization of intangible assets
 
489

 
500

Equity-based compensation
 
888

 
703

Deferred income taxes
 
264

 
345

Amortization of loan costs
 
7

 
7

Bad debt expense
 
3

 
10

Loss from disposal of equipment
 
259

 
237

Accretion of deemed landlord financing
 
92

 
110

Changes in operating assets and liabilities:
 
 
 
 
Trade accounts receivable
 
510

 
(533
)
Other accounts receivable
 
907

 
(1,007
)
Inventories
 
(224
)
 
(150
)
Prepaid expenses and other
 
(1,783
)
 
(772
)
Accounts payable
 
2,095

 
1,613

Accrued expenses and other
 
350

 
449

Deferred rent
 
1,705

 
2,581

Net cash provided by operating activities
 
10,633

 
9,481

Cash flows from investing activities:
 
 
 
 
Purchase of property and equipment
 
(13,217
)
 
(10,569
)
Proceeds from sale-leaseback transactions
 

 
2,089

Proceeds from sale of property and equipment
 

 
12

Net cash used in investing activities
 
(13,217
)
 
(8,468
)
Cash flows from financing activities:
 
 
 
 
Proceeds from deemed landlord financing
 
121

 
(10
)
Proceeds from exercise of stock options
 

 
480

Net cash provided by financing activities
 
121

 
470

Net change in cash and cash equivalents
 
(2,463
)
 
1,483

Cash and cash equivalents:
 
 
 
 
Beginning of period
 
5,493

 
19,131

End of period
 
$
3,030

 
$
20,614

Supplemental disclosure of cash flow information:
 
 
 
 
Cash paid for interest related to deemed landlord financing
 
1,455

 
1,122

Non-cash deemed landlord financing
 
2,450

 
(1,450
)
Change in accrued purchases of property and equipment
 
2,400

 
2,846


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

4


Zoe's Kitchen, Inc. and Subsidiaries
Notes to Unaudited Condensed Consolidated Financial Statements

1.    Nature of Operations and Basis of Presentation
Nature of Operations
Zoe’s Kitchen, Inc. (the "Company", "Zoës", "we" or "us") primarily develops and operates fast-casual restaurants serving a distinct menu of freshly prepared Mediterranean-inspired dishes. As of April 17, 2017, we operated 211 Company-owned restaurants and three franchise restaurants in 20 states across the United States. We have determined that we have one operating and reportable segment. All of our revenues are derived in the United States. All of our assets are located in the United States.
Interim Financial Statements
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles and practices of the United States of America ("GAAP") for interim financial information. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair statement of the results for interim periods have been included.
Certain information and footnote disclosures normally included in audited consolidated financial statements presented in accordance with GAAP have been omitted pursuant to rules and regulations of the Securities and Exchange Commission (the "SEC"). Due to the seasonality of our business, results for any interim financial period are not necessarily indicative of the results that may be achieved for a full fiscal year. In addition, quarterly results of operations may be impacted by the timing and amount of sales and costs associated with the opening of new restaurants. These interim unaudited condensed consolidated financial statements do not represent complete financial statements and should be read in conjunction with our annual financial statements included in the Company's Annual Report on Form 10-K for the fiscal year ended December 26, 2016 (the "2016 Form 10-K"). While the condensed consolidated balance sheet data as of December 26, 2016 was derived from audited financial statements, it does not include all disclosures required by GAAP.
Comprehensive Income (Loss)
Comprehensive income (loss) is the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources. Comprehensive income (loss) is the same as net income (loss) for all periods presented. Therefore, a separate statement of comprehensive income (loss) is not included in the accompanying condensed consolidated financial statements.
Principles of Consolidation
The unaudited condensed consolidated financial statements include the accounts of Zoe’s Kitchen, Inc. and its wholly owned subsidiaries, Zoe’s Kitchen USA, LLC and Soho Franchising, LLC. All intercompany accounts and transactions have been eliminated in consolidation. The condensed consolidated financial statements presented herein reflect our financial position, results of operations and cash flows in conformity with GAAP.
Fiscal Year
We operate on a 52- or 53-week fiscal year that ends on the last Monday of the calendar year. Fiscal years ended December 25, 2017 and December 26, 2016 consist of 52 weeks. Our first fiscal quarter consists of 16 weeks, and each of our second, third and fourth fiscal quarters consists of 12 weeks, except for a 53-week year when the fourth quarter has 13 weeks.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions, such as valuation of long-lived, definite and indefinite-lived assets, estimated useful lives of assets, the reasonably assured lease terms of operating leases, the construction costs of leases where the Company is considered the owner during and after the construction period, allowance for doubtful accounts, the fair value related to equity-based compensation, the calculation of self-insurance

5


reserves, and deferred tax valuation allowances, that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Recently Adopted Accounting Standards
In March 2016, the FASB issued Accounting Standard Update ("ASU") No. 2016-09, “Compensation – Stock Compensation (Topic 718).” The pronouncement was issued to simplify the accounting for share-based payment transactions, including income tax consequences, the classification of awards as either equity or liabilities, and the classification on the statement of cash flows. This pronouncement is effective for reporting periods beginning after December 15, 2016. We adopted ASU 2016-09 effective December 27, 2016. The portion of ASU 2016-09 related to the accounting for income taxes was adopted using a modified retrospective approach and resulted in a net zero effect on our statement of financial position. As permitted under the new standard, the Company elected to recognize forfeitures as they occur rather than using an estimated forfeiture rate. Adopted using a modified retrospective approach, this election resulted in an increase to Accumulated deficit of $0.3 million offset by an equal increase to Additional paid-in capital.
Recently Issued Accounting Standards
In May 2017, the FASB issued ASU No. 2017-09, “Compensation - Stock Compensation (Topic 718) - Scope of Modification Accounting,” which provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. An entity will account for the effects of a modification unless the fair value of the modified award is the same as the original award, the vesting conditions of the modified award are the same as the original award, and the classification of the modified award as an equity instrument or liability instrument is the same as the original award. This pronouncement is effective for reporting periods beginning after December 15, 2017 and early adoption is permitted. We do not expect the adoption of ASU 2017-09 to have a material impact on our financial position or results of operations.
In January 2017, the FASB issued ASU No. 2017-04, “Intangibles - Goodwill and Other (Topic 350) - Simplifying the Test for Goodwill Impairment,” which eliminates Step 2 from the goodwill impairment test. Under the new standard, annual and interim goodwill impairment tests will compare the fair value of a reporting unit with its carrying amount. An impairment charge will be recognized for the amount by which the carrying amount exceeds the reporting unit's fair value, not to exceed the total amount of goodwill. The pronouncement is effective for goodwill impairments tests in fiscal years beginning after December 15, 2019 and should will be applied on a prospective basis. Early adoption is permitted for goodwill impairment tests performed after January 1, 2017. We are currently evaluating the impact of adopting this update.
In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230) - Classification of Certain Cash Receipts and Cash payments,” which provides specific guidance regarding presentation and classification on a variety of cash payments and receipts. Among the issues addressed is the classification of proceeds from the settlement of insurance claims. This pronouncement is effective for reporting periods beginning after December 15, 2017 and early adoption is permitted. We do not expect the adoption of ASU 2016-15 to have a material impact on our financial position or results of operations.
In March 2016, the FASB issued ASU No. 2016-04, "Liabilities - Extinguishments of Liabilities (Subtopic 405-20)", which amends subtopic 405-20 to provide a scope exception that requires breakage for prepaid stored-value product liabilities to be accounted for consistent with the breakage guidance in Topic 606. The amendment is effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. We do not expect the adoption of ASU 2016-04 to have a material impact on our financial position or results of operations.
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)," which requires entities to recognize lease assets and lease liabilities on the balance sheet and disclose key information about leasing arrangements. Previous lease accounting did not require certain lease types to be recognized on the balance sheet. This update is an amendment to the codification and is effective for fiscal years beginning after December 15, 2018 including interim periods within those fiscal years applied using a modified retrospective approach. Early adoption is permitted. We are currently evaluating the impact of the adoption of ASU 2016-02 on our financial position and results of operations, but expect that it will result in a significant increase in our long-term assets and liabilities given we have a significant number of leases. In addition, rental payments under most of our leases for which we are the

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accounting owner will no longer be considered debt service applied to deemed landlord financing and interest expense. Instead, these rental payments will be classified as rent expense.
In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers." This update was issued to replace the current revenue recognition guidance, creating a more comprehensive revenue model. In August 2015, the FASB issued ASU 2015-14 to defer the effective date for adoption. The update is now effective for reporting periods beginning after December 15, 2017. In March 2016, April 2016, May 2016, and December 2016 the FASB also issued ASU 2016-08, ASU 2016-10, ASU 2016-12 and ASU 2016-20, respectively, to further clarify performance obligations and licensing implementation guidance and other general topics. We expect to adopt the new standard using the modified retrospective approach for the fiscal year and quarter beginning December 26, 2017. We do not expect the adoption to have an impact on revenue from Company-owned restaurants or the recognition of royalty fees from our franchise agreement. In addition, we do not expect a material impact related to recognition of gift card breakage.
2.    Supplemental Information
Property and equipment, net consisted of the following (in thousands):
 
 
April 17,
2017
 
December 26,
2016
Land
 
$
813

 
$

Buildings under deemed landlord financing
 
26,280

 
23,830

Leasehold improvements
 
132,578

 
125,666

Machinery and equipment
 
34,371

 
32,566

Furniture and fixtures
 
6,927

 
6,604

Automobiles
 
4,019

 
4,019

Computer equipment
 
10,906

 
9,848

Construction in progress
 
10,298

 
6,256

Property and equipment, gross
 
226,192

 
208,789

Less: Accumulated depreciation
 
(51,455
)
 
(46,756
)
Total Property and equipment, net
 
$
174,737

 
$
162,033

Accrued expenses and other consisted of the following (in thousands):
 
 
April 17,
2017
 
December 26,
2016
Accrued payroll and payroll taxes
 
$
4,736

 
$
5,448

Accrued capital purchases
 
3,261

 
2,347

Sales tax payable
 
2,943

 
1,218

Gift card payable
 
740

 
1,200

Other accrued expenses
 
3,876

 
4,047

Total Accrued expenses and other
 
$
15,556

 
$
14,260

3.    Fair Value Measurements
The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and all other current liabilities approximate fair values due to the short maturities of these instruments.
4.    Bank Line of Credit and Term Loan
On February 6, 2015, we entered into a credit facility with Wells Fargo Bank, National Association (the "2015 Credit Facility"). The 2015 Credit Facility consists of a revolving loan commitment in the aggregate amount of $20.0 million, together with an incremental revolving credit commitment up to an aggregate amount of $30.0 million. The 2015 Credit Facility has a five year term and matures on February 6, 2020. As of April 17, 2017, we had no indebtedness under the 2015 Credit Facility.

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Revolving credit loans under the 2015 Credit Facility bear interest, at the Company’s election, at either the base rate plus an applicable margin, or LIBOR plus an applicable margin. The base rate consists of the highest of the prime rate, the federal funds rate plus 0.5% and LIBOR plus 1.0%. The applicable margin and associated loan commitment fee consists of two pricing levels based on the Company’s consolidated total debt ratio. If this debt ratio is greater than or equal to 2.50 to 1, then the unused commitment fee is 0.15% per annum, and the applicable margin is LIBOR plus 1.5% or the base rate plus 0.5%. If this debt ratio is less than 2.50 to 1, then the unused commitment fee is 0.125% per annum and the applicable margin is LIBOR plus 1.0% or the base rate.
The 2015 Credit Facility includes specific financial covenants such as a leverage ratio and an interest coverage ratio. We are also subject to other customary covenants, including limitations on additional borrowings, dividend payments and acquisitions. As of April 17, 2017, we were in compliance with these financial and other customary covenants.
5.    Equity-based Compensation
In connection with our initial public offering in April 2014 (the "IPO"), we adopted the 2014 Omnibus Incentive Plan (the “2014 Incentive Plan”), which provides for grants of stock options, stock appreciation rights, restricted stock, other stock-based awards and other cash-based awards available to directors, officers and other employees of us and our subsidiaries, as well as others performing consulting or advisory services to us. The number of shares of common stock available for issuance under the 2014 Incentive Plan may not exceed 1,905,799.
The following table summarizes our stock option plan activity during the sixteen weeks ended April 17, 2017:
 
 
Stock Options
 
Weighted Average Exercise Price
Outstanding as of December 26, 2016
 
710,597

 
$
26.28

Granted
 
311,169

 
23.26

Exercised
 

 

Forfeited
 
(1,407
)
 
42.05

Expired
 
(468
)
 
42.05

Outstanding as of April 17, 2017
 
1,019,891

 
$
25.33

There were 250,000 stock options granted, included in the summary of stock option plan activity, that vested immediately upon completion of the IPO. All other options vest in four equal annual installments following the date of the grant with a contractual term of 10 years.
The following table reflects the weighted-average assumptions utilized in the Black-Scholes option-pricing model to value the stock options granted.
 
 
Sixteen Weeks Ended
 
 
April 17, 2017
Expected volatility (1)
 
31.5%
Risk-free rate of return
 
2.1%
Expected life (in years) (2)
 
6.3
Dividend yield
 
0%
Weighted-average fair value per share at date of grant
 
$8.17
(1) Expected volatility was based on competitors within the industry.
(2) Expected life was calculated using the simplified method, which is an average of the contractual term of the option and its ordinary vesting period, as we do not have sufficient historical data for determining the expected term of our stock option awards.


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The following table summarizes our restricted stock unit plan activity sixteen weeks ended April 17, 2017:
 
 
Restricted Stock Units
 
Weighted Average Grant Date Fair Value
Non-vested at December 26, 2016
 
83,411

 

$28.13

Granted
 
62,069

 
21.85

Vested
 
(28,287
)
 
27.84

Forfeited
 
(365
)
 
27.42

Non-vested at April 17, 2017
 
116,828

 
24.86


The fair value of the non-vested restricted stock units is based on the closing price on the date of grant. All of our outstanding restricted stock units vest in three equal annual installments following the date of the grant.
We recognized equity-based compensation as a component of general and administrative expenses of $0.9 million and $0.7 million during the sixteen weeks ended April 17, 2017 and April 18, 2016, respectively. As of April 17, 2017, total unrecognized compensation expense related to non-vested stock awards was $8.3 million, which is expected to be recognized over a weighted-average period of 2.7 years.
6.    Earnings Per Share
Basic net income per share is calculated by dividing net income by the weighted average shares outstanding during the period, without consideration of common stock equivalents. Diluted net income per share is calculated by adjusting weighted average shares outstanding for the dilutive effect of common stock equivalents outstanding for the period, determined using the treasury-stock method.
The following table presents the computation of basic and diluted net income per share for the period indicated:
 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
Net income (in thousands):
 
$
19

 
$
1,396

Shares:
 
 
 
 
Basic weighted average shares outstanding
 
19,472,124

 
19,395,815

Diluted weighted average shares outstanding
 
19,528,915

 
19,568,815

Earnings per share:
 
 
 
 
Basic EPS
 
$
0.00

 
$
0.07

Diluted EPS
 
$
0.00

 
$
0.07

During the sixteen weeks ended April 17, 2017, there were 607,105 stock options and 85,094 restricted stock units excluded from the diluted earnings per share calculation because their inclusion would have been anti-dilutive. During the sixteen weeks ended April 18, 2016, there were 432,227 stock options and 417 restricted stock units excluded from the diluted earnings per share calculation because their inclusion would have been anti-dilutive.
7.    Income Taxes
Provision for income taxes was $0.4 million and $0.3 million for the sixteen weeks ended April 17, 2017 and April 18, 2016, respectively. The effective tax rate was 95% and 20% for the sixteen weeks ended April 17, 2017 and April 18, 2016, respectively. Our tax expense typically remains relatively constant as it primarily reflects the accrual of income tax expense related to a valuation allowance in connection with the tax amortization of the Company’s goodwill that was not available to offset existing deferred tax assets. Due to the uncertain timing of the reversal of this temporary difference, it cannot be considered as a source of future taxable income for purposes of determining a valuation allowance; therefore the deferred tax liability cannot offset deferred

9


tax assets. Our quarterly provision for income taxes is measured using an annual estimated effective tax rate for the full year applied to period earnings. The comparison of our effective tax rate between periods is significantly impacted by the level of pre-tax income earned and projected for the year.
We continue to monitor and evaluate the rationale for recording a full valuation allowance for the net amount of the deferred tax assets which are in excess of the indefinite-lived intangible asset deferred tax liabilities. We intend to continue maintaining a full valuation allowance on these net deferred tax assets until there is sufficient evidence to support the reversal of all or some portion of these allowances. However, given our current earnings and anticipated future earnings, we believe that there is a reasonable possibility within the foreseeable future, sufficient positive evidence may become available to allow us to reach a conclusion that a significant portion of the valuation allowance will no longer be needed. Release of the valuation allowance would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period the release is recorded. However, the exact timing and amount of the valuation allowance release are subject to change on the basis of the level of profitability that we are able to actually achieve.
8.    Commitments and Contingencies
Franchise Agreement
Our Kentucky franchise agreement, which requires the franchisee to remit continuing royalty fees at a specified percentage of the franchisee's gross sales revenue, provides that we as franchisor, or its authorized representative, will: (a) provide franchisee with written schedules of all foods, food products, beverages, and other items for sale, and the furniture, fixtures, supplies and equipment necessary and required for the operation of the restaurant; (b) provide franchisee with a list of approved suppliers for the products and services necessary and required for the restaurant; (c) upon the reasonable written request of franchisee, render reasonable advisory services by telephone or in writing pertaining to the operation of the restaurant; (d) provide franchisee with a sample of the standard Zoës Kitchen menu, and any modifications to the menu; (e) loan franchisee a copy of the System's operating manual and any supplements to the manual that may be published by us; and, (f) provide franchisee the opportunity to participate in group purchasing programs that we may use, develop, sponsor or provide on terms and conditions determined solely by us. In addition, as a condition to the commencement of business by any of our franchises, the franchisee must attend and successfully complete our training program. The costs related to our franchise agreement are not significant.
Litigation
We are currently involved in various claims and legal actions that arise in the ordinary course of our business, including claims resulting from employment related matters. None of these claims, most of which are covered by insurance, has had a material effect on us, and as of the date of this report, other than as set forth below, we are not party to any material pending legal proceedings and are not aware of any claims that could have a material adverse effect on our business, financial condition, results of operations or cash flows. However, a significant increase in the number of these claims or an increase in amounts owing under successful claims could materially and adversely affect our business, financial condition, results of operations or cash flows.
On October 31, 2014, Forsyth Consulting, Inc. ("Forsyth"), a former music vendor for the Company, filed a complaint against the Company in the Circuit Court of Jefferson County, Alabama alleging breach of contract with respect to its prior music service contract. We have removed the action to federal court and, on December 19, 2014, we filed a counterclaim in the United States District Court for the Northern District of Alabama, alleging breach of contract and tortious interference with business relations claims against Forsyth. The discovery period is complete, and both parties' motions for summary judgment were denied in all material respects. We do not anticipate the results of this proceeding to have a material effect on our results of operations.
9.    Subsequent Events
On April 20, 2017, we borrowed $5.0 million on the 2015 Credit Facility. The proceeds will be used to fund capital expenditures and working capital obligations.


10


MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion summarizes the significant factors affecting our consolidated operating results, financial condition, liquidity and cash flows as of and for the periods presented below. The following discussion and analysis should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and related notes in Item 1 and with the audited consolidated financial statements and the related notes included in our 2016 Form 10-K.
In addition to historical information, this discussion and analysis contains forward-looking statements based on current expectations that involve risks, uncertainties and assumptions, such as our plans, objectives, expectations, and intentions set forth under the sections entitled "Risk Factors" and "Forward-Looking Statements" as filed in our 2016 Form 10-K.
Overview
Zoës Kitchen is a fast growing, fast-casual restaurant concept serving a distinct menu of fresh, wholesome, Mediterranean-inspired dishes delivered with Southern hospitality. Founded in 1995 in Birmingham, Alabama, Zoës Kitchen is a natural extension of Zoë Cassimus' lifetime passion for cooking Mediterranean meals for family and friends. Since opening our first restaurant, we have never wavered from our commitment to make our food fresh daily and to serve our customers in a warm and welcoming environment.
Growth Strategies and Outlook
We plan to execute the following strategies to continue to enhance our brand awareness and grow our revenue and achieve profitability:
grow our restaurant base;
increase our comparable restaurant sales; and
improve our margins and leverage infrastructure.

We have expanded our restaurant base from 21 restaurants in seven states in 2008 to 214 restaurants in 20 states as of April 17, 2017, including three franchise restaurants. We opened 10 Company-owned restaurants during the sixteen weeks ended April 17, 2017. We plan to open 38 to 40 restaurants in 2017, including the restaurants opened in the sixteen weeks ended April 17, 2017. In fiscal year 2017 we have opened 15 restaurants as of May 25, 2017. We believe we are well positioned for future growth with a developed infrastructure capable of supporting a restaurant base that is greater than our existing footprint. Additionally, we believe we have an opportunity to optimize costs and achieve profitability as we benefit from economies of scale.
Growing sales and traffic in the restaurant sector continues to be a challenge. This challenge is due to a number of factors including increasing competition, heavy discounting in the casual dining industry, and recent macroeconomic pressures such as escalating cost of living and slower wage growth, among other factors. These macroeconomic pressures can reduce the availability of our guests' discretionary spending for restaurant visits. In response to these factors we have undertaken a number of significant initiatives which we believe will help us drive profitable sales and traffic growth and improve the guest experience in our restaurants. First, we are continuing to innovate our menu which will include new snack boxes, appetizers, salads, sauces and entrées. Second, we are making investments in technology to advance our e-commerce, marketing and in-store operational capabilities which are designed to provide a superior guest experience. Lastly, we are increasing our capabilities to meet the off-premise dining demand through delivery. In addition, we continue to improve our labor model, drive cost savings in our supply chain and otherwise further drive efficiencies in our business. These strategies are intended to differentiate us from the competition, reduce the costs associated with managing our restaurants, and establish a strong presence for our brand in key markets in the United States. There can be no assurance that our strategies and initiatives will be successful solutions to the current challenges.


11


Key Measures We Use to Evaluate Our Performance
In assessing the performance of our business, we consider a variety of performance and financial measures. The key measures used by our management for determining how our business is performing are restaurant sales, comparable restaurant sales growth, number of new restaurant openings, restaurant contribution, EBITDA and Adjusted EBITDA.
Restaurant Sales
Restaurant sales represents sales of food and beverages in Company-owned restaurants. Several factors affect our restaurant sales in any given period, including the number of restaurants in operation and per restaurant sales.
Comparable Restaurant Sales Growth
Comparable restaurant sales refers to year-over-year sales comparisons for the comparable Company-owned restaurant base. We define the comparable restaurant base to include those restaurants open for 18 fiscal periods or longer. Each fiscal period consists of 28 days. As of April 17, 2017 and April 18, 2016, there were 161 and 126 restaurants, respectively, in our comparable Company-owned restaurant base. This measure highlights performance of existing restaurants, as the impact of new Company-owned restaurant openings is excluded.
Comparable restaurant sales growth is generated by an increase in transactions or changes in per customer spend. Per customer spend can be influenced by changes in menu prices and/or the mix and number of items sold per check.
Measuring our comparable restaurant sales allows us to evaluate the performance of our existing restaurant base. Various factors impact comparable restaurant sales, including:
consumer recognition of our brand and our ability to respond to changing consumer preferences;
overall economic trends, particularly those related to consumer spending;
our ability to operate restaurants effectively and efficiently to meet consumer expectations;
pricing;
customer traffic;
per-customer spend and average check amount;
marketing and promotional efforts;
local competition;
trade area dynamics;
introduction of new menu items; and
opening of new restaurants in the vicinity of existing locations.

Consistent with common industry practice, we present comparable restaurant sales on a fiscal year basis that aligns current year sales weeks with comparable periods in the prior year, regardless of whether they belong to the same calendar period or not. Since opening new Company-owned restaurants will be a significant component of our revenue growth, comparable restaurant sales is only one measure of how we evaluate our performance.
Number of New Restaurant Openings
The number of Company-owned restaurant openings reflects the number of restaurants opened during a particular reporting period. Before we open new Company-owned restaurants, we incur pre-opening costs. Some of our restaurants open with an initial start-up period of higher than normal sales volumes, which subsequently decrease to stabilized levels. Typically, our new restaurants have stabilized sales after approximately 12 to 24 weeks of operation, at which time the restaurant's sales typically begin to grow on a consistent basis. In new markets, the length of time before average sales for new restaurants stabilize is less predictable and can be longer as a result of our limited knowledge of these markets and consumers' limited awareness of our brand. New restaurants may not be profitable, and their sales performance may not follow historical patterns. The number and timing of restaurant openings has had, and is expected to continue to have, an impact on our results of operations.

12


The following table shows the growth in our Company-owned and franchise restaurant base:
 
 
Sixteen Weeks Ended
 
 
April 17, 2017
 
April 18, 2016
Company-owned Restaurant Base
 
 
 
 
Beginning of period
 
201

 
163

Openings
 
10

 
11

Restaurants at end of period
 
211

 
174

Franchise Restaurant Base
 


 


Beginning of period
 
3

 
3

Restaurants at end of period
 
3

 
3

Total restaurants
 
214

 
177


Key Financial Definitions
Restaurant sales.    Restaurant sales represent sales of food and beverages in Company-owned restaurants, net of promotional allowances and employee meals. Restaurant sales in a given period are directly impacted by the number of operating weeks in the period, the number of restaurants we operate and comparable restaurant sales growth.
Royalty fees. Royalty fees represent royalty income from the three franchised restaurants.
Cost of sales.    Cost of sales consists primarily of food, beverage and packaging costs. The components of cost of sales are variable in nature, change with sales volume and are influenced by menu mix and subject to increases or decreases based on fluctuations in commodity costs.
Labor.    Labor includes all restaurant-level management and hourly labor costs, including salaries, wages, benefits and bonuses, payroll taxes and other indirect labor costs.
Store operating expenses.    Store operating expenses include all other restaurant-level operating expenses, such as supplies, utilities, repairs and maintenance, travel costs, credit card fees, recruiting, delivery service, restaurant-level marketing costs, security and occupancy expenses.
General and administrative expenses.    General and administrative expenses include expenses associated with corporate and regional functions that support the development and operations of restaurants, including compensation and benefits, travel expenses, stock compensation costs, legal and professional fees, information systems, corporate office rent and other related corporate costs.
Depreciation.    Depreciation consists of depreciation of fixed assets, including equipment and capitalized leasehold improvements.
Amortization.    Amortization consists of amortization of certain intangible assets including franchise agreements, trademarks, reacquired rights and favorable leases.
Pre-opening costs.    Pre-opening costs consist of expenses incurred prior to opening a new restaurant and are made up primarily of manager salaries, relocation costs, supplies, recruiting expenses, employee payroll and training costs. Pre-opening costs also include occupancy costs recorded during the period between date of possession and the restaurant's opening date.
Loss from disposal of equipment.    Loss from disposal of equipment is composed of the loss on disposal of assets related to retirements and replacements of leasehold improvements or equipment. These losses are related to normal disposals in the ordinary course of business, along with disposals related to selected restaurant remodeling activities.

13


Interest expense, net.    Interest expense includes cash and imputed non-cash charges related to our deemed landlord financing, non-cash charges related to our residual value obligations, amortization of debt issue costs as well as cash payments and accrued charges related to our 2015 Credit Facility.
Provision for income taxes.    Provision for income taxes represents federal, state and local current and deferred income tax expense.

14


Consolidated Results of Operations
The following table summarizes key components of our results of operations for the periods indicated as a percentage of our total revenue, except for the components of restaurant operating costs, which are expressed as a percentage of restaurant sales.
 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
Revenue:
 
 
 
 
Restaurant sales
 
99.9
 %
 
99.9
 %
Royalty fees
 
0.1
 %
 
0.1
 %
Total revenue
 
100.0
 %
 
100.0
 %
Operating expenses(1):
 
 
 
 
Restaurant operating costs (excluding depreciation and amortization) (1):
 
 
 
 
Cost of sales
 
29.3
 %
 
29.9
 %
Labor
 
29.8
 %
 
29.0
 %
Store operating expenses
 
21.0
 %
 
19.1
 %
General and administrative expenses
 
11.0
 %
 
11.7
 %
Depreciation
 
5.6
 %
 
5.0
 %
Amortization
 
0.5
 %
 
0.6
 %
Pre-opening costs
 
0.6
 %
 
0.9
 %
Loss from disposal of equipment
 
0.3
 %
 
0.3
 %
Total operating expenses
 
98.1
 %
 
96.5
 %
Income from operations
 
1.9
 %
 
3.5
 %
Other income and expenses:
 
 
 
 
Interest expense, net
 
1.5
 %
 
1.4
 %
Other income
 
(0.0
)%
 
(0.0
)%
Total other income and expenses
 
1.5
 %
 
1.4
 %
Income before provision for income taxes
 
0.4
 %
 
2.2
 %
Provision for income taxes
 
0.4
 %
 
0.4
 %
Net income
 
0.0
 %
 
1.7
 %
 
 
 
 
 
(1) As a percentage of restaurant sales.


15


Sixteen Weeks Ended April 17, 2017 compared to Sixteen Weeks Ended April 18, 2016
The following table presents selected consolidated comparative results of operations from our unaudited condensed consolidated financial statements for the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016:
 
 
Sixteen Weeks Ended
 
 
 
 
 
April 17,
2017
 
April 18,
2016
 
Increase / (Decrease)
 
 
 
Dollars
 
Percentage
 
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
Consolidated Statement of Operations Data:
 
 
 
 
 
 
 
 
Revenue:
 
 
 
 
 
 
 
 
Restaurant sales
 
$
90,504

 
$
80,348

 
$
10,156

 
12.6
 %
Royalty fees
 
57

 
63

 
(6
)
 
(9.5
)%
Total revenue
 
90,561

 
80,411

 
10,150

 
12.6
 %
Operating expenses:
 
 
 
 
 
 
 
 
Restaurant operating costs (excluding depreciation and amortization):
Cost of sales
 
26,496

 
23,989

 
2,507

 
10.5
 %
Labor
 
26,952

 
23,299

 
3,653

 
15.7
 %
Store operating expenses
 
19,049

 
15,373

 
3,676

 
23.9
 %
General and administrative expenses
 
9,985

 
9,445

 
540

 
5.7
 %
Depreciation
 
5,052

 
3,992

 
1,060

 
26.6
 %
Amortization
 
489

 
500

 
(11
)
 
(2.2
)%
Pre-opening costs
 
567

 
740

 
(173
)
 
(23.4
)%
Loss from disposal of equipment
 
259

 
237

 
22

 
9.3
 %
Total operating expenses
 
88,849

 
77,575

 
11,274

 
14.5
 %
Income from operations
 
1,712

 
2,836

 
(1,124
)
 
(39.6
)%
Other income and expenses:
 
 
 
 
 
 
 
 
Interest expense, net
 
1,368

 
1,122

 
246

 
21.9
 %
Other income
 
(29
)
 
(27
)
 
(2
)
 
7.4
 %
Total other income and expenses
 
1,339

 
1,095

 
244

 
22.3
 %
Income before provision for income taxes
 
373

 
1,741

 
(1,368
)
 
(78.6
)%
Provision for income taxes
 
354

 
345

 
9

 
2.6
 %
Net income
 
$
19

 
$
1,396

 
$
(1,377
)
 
(98.6
)%
Restaurant sales.    The following table summarizes the growth in restaurant sales from the sixteen weeks ended April 18, 2016 to the sixteen weeks ended April 17, 2017 (dollars in thousands):
 
 
Net Sales
Restaurant sales for the sixteen weeks ended April 18, 2016
 
$
80,348

Incremental restaurant sales increase due to:
 
 
Comparable restaurant sales
 
(2,533
)
Restaurants not in comparable restaurant base
 
12,689

Restaurant sales for the sixteen weeks ended April 17, 2017
 
$
90,504

Restaurant sales increased by $10.2 million, or 12.6%, in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016. Restaurants not in the comparable restaurant base and other sales accounted for $12.7 million of this increase. Comparable restaurant sales decreased $2.5 million, or 3.3%, in the sixteen weeks ended April 17, 2017, comprised primarily of a 4.6% decrease in transactions and product mix offset by a 1.3% increase in price.

16


Royalty fees.    Royalty fees remained flat in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016.
Cost of sales.    Cost of sales increased $2.5 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016, due primarily to the increase in restaurant sales. As a percentage of restaurant sales, cost of sales decreased from 29.9% in the sixteen weeks ended April 18, 2016 to 29.3% in the sixteen weeks ended April 17, 2017. This decrease was primarily driven by lower costs in poultry, paper products and produce, offset by higher costs in seafood.
Labor.    Labor increased by $3.7 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016, due primarily to opening 37 new Company-owned restaurants. As a percentage of restaurant sales, labor increased from 29.0% in the sixteen weeks ended April 18, 2016 to 29.8% in the sixteen weeks ended April 17, 2017. The increase was primarily driven by an increase in wage rates as well as the dilutive effect on margins from our newest restaurants which, on average, initially operate at less than system-wide average sales volumes.
Store operating expenses.    Store operating expenses increased by $3.7 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016, due primarily to opening 37 new Company-owned restaurants. As a percentage of restaurant sales, store operating expense increased from 19.1% in the sixteen weeks ended April 18, 2016 to 21.0% in the sixteen weeks ended April 17, 2017. This increase was primarily attributable to the dilutive effect on margins from our newest restaurants, which, on average, initially operate at less than system-wide average sales volumes as well as increased costs related to in-store technology investments.
General and administrative expenses.    General and administrative expenses increased by $0.5 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016. As a percentage of revenue, general and administrative expenses decreased from 11.7% in the sixteen weeks ended April 18, 2016 to 11.0% in the sixteen weeks ended April 17, 2017. The decrease was primarily driven by lower consulting fees related to a variety of one-time projects from prior year and lower variable incentive compensation.
Depreciation.    Depreciation increased by $1.1 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016, due primarily to opening 37 new Company-owned restaurants. As a percentage of revenue, depreciation increased from 5.0% in the sixteen weeks ended April 18, 2016 to 5.6% in the sixteen weeks ended April 17, 2017 primarily due to corporate and in-store technology investments which typically have shorter useful lives.
Amortization.    Amortization remained flat in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016.
Pre-opening costs.    Pre-opening costs decreased by $0.2 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016. As a percent of revenue, pre-opening costs decreased from 0.9% in the sixteen weeks ended April 18, 2016 to 0.6% in the sixteen weeks ended April 17, 2017. The decrease was driven by improved project management and better control of pre-opening expenses.
Interest expense.    Interest expense increased by $0.2 million in the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016, due primarily to increased interest from deemed landlord financing.
Provision for income taxes.    Provision for income taxes was flat for the sixteen weeks ended April 17, 2017 compared to the sixteen weeks ended April 18, 2016. Our tax expense typically remains relatively constant as it primarily reflects the accrual of income tax expense related to a valuation allowance in connection with the tax amortization of the Company’s goodwill that was not available to offset existing deferred tax assets. Due to the uncertain timing of the reversal of this temporary difference, it cannot be considered as a source of future taxable income for purposes of determining a valuation allowance; therefore the deferred tax liability cannot offset deferred tax assets.  The comparison of our effective tax rate between periods is significantly impacted by the level of pre-tax income earned and projected for the year.

17


Non-GAAP Financial Measures
To supplement its unaudited condensed consolidated financial statements, which are prepared and presented in accordance with GAAP, the Company uses the following non-GAAP financial measures: restaurant contribution, EBITDA and adjusted EBITDA(collectively, the "non-GAAP financial measures"). The presentation of this financial information is not intended to be considered in isolation or as a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP. The Company uses these non-GAAP financial measures for financial and operational decision making and as a means to evaluate period-to-period comparisons. The Company believes that they provide useful information about operating results, enhance the overall understanding of past financial performance and future prospects, and allow for greater transparency with respect to key metrics used by management in its financial and operational decision making. The non-GAAP measures used by the Company may be different from the methods used by other companies.
Restaurant Contribution
Restaurant contribution is defined as restaurant sales less restaurant operating costs, which are cost of sales, labor and store operating expenses. Restaurant contribution margin is restaurant contribution as a percentage of restaurant sales. When used in conjunction with GAAP financial measures, restaurant contribution and restaurant contribution margin are supplemental measures that we believe are useful in evaluating operating performance and profitability of our restaurants. Additionally, restaurant contribution and restaurant contribution margin are key metrics used internally by our management to develop budgets and forecast, as well as assess the performance of our restaurants relative to budget and against prior periods. We believe the supplemental presentation of restaurant and restaurant contribution margin provides investors with a meaningful view of our operating performance as these measures depict the operating results that are directly impacted by our restaurants and exclude items that may not be indicative of, or are unrelated to, the ongoing operations of our restaurants. It may also assist investors to evaluate our performance relative to peers of various sizes and maturities and provide greater transparency to how our management evaluates our business as well as our financial and operational decision making.
Our management does not consider restaurant contribution or restaurant contribution margin in isolation or as an alternative to financial measures determined in accordance with GAAP. The principal limitation of restaurant contribution and restaurant contribution margin is that they exclude significant expenses and income that are required by GAAP to be recorded in the Company's financial statements. Restaurant contribution excludes general and administrative expenses and pre-opening costs, which are considered normal, recurring cash operating expenses and are essential to support the operation and development of our restaurants. Therefore, this measure may not provide a complete understanding of the operating results of our Company as a whole.
We compensate for this limitation by relying primarily on our GAAP results and using restaurant contribution and restaurant contribution margin only supplementally. You should review the reconciliation of income from operations to restaurant contribution and restaurant contribution margin below and not rely on any single financial measure to evaluate our business.

18


The following table reconciles income from operations, which is a GAAP financial measure, to restaurant contribution and restaurant contribution margin:
 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
 
 
 
 
 
 
 
(Dollars in thousands)
Restaurant Contribution:
Income from operations
 
$
1,712

 
$
2,836

Less:
 
 
 
 
Royalty fees
 
57

 
63

Add:
 
 
 
 
General and administrative expenses
 
9,985

 
9,445

Depreciation and amortization
 
5,541

 
4,492

Pre-opening costs(1)
 
567

 
740

Loss from disposal of equipment
 
259

 
237

Restaurant Contribution
 
$
18,007

 
$
17,687

 
 
 
 
 
Total revenue
 
$
90,561

 
$
80,411

Less: Royalty fees
 
57

 
63

Restaurant sales
 
$
90,504

 
$
80,348

 
 
 
 
 
Restaurant contribution margin
 
19.9
%
 
22.0
%
 
 
 
 
 
(1) Represent expenses directly associated with the opening of new restaurants that are incurred prior to opening, including pre-opening rent.
Adjusted EBITDA
EBITDA is defined as net income before interest, income taxes and depreciation and amortization.
We define Adjusted EBITDA as EBITDA plus loss from disposal of equipment and pre-opening costs. EBITDA and Adjusted EBITDA are intended as a supplemental measures of our performance that are not required by, or presented in accordance with, GAAP. We believe that EBITDA and Adjusted EBITDA provide useful information to management and investors regarding certain financial and business trends relating to our financial condition and operating results. Our management uses EBITDA and Adjusted EBITDA (i) as a factor in evaluating management's performance when determining incentive compensation and (ii) to evaluate the effectiveness of our business strategies.
We believe that the use of EBITDA and Adjusted EBITDA provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing the Company's financial measures with other fast casual restaurants, which may present similar non-GAAP financial measures to investors. In addition, you should be aware when evaluating EBITDA and Adjusted EBITDA that in the future we may incur expenses similar to those excluded when calculating these measures. Our presentation of these measures should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items. Our computation of Adjusted EBITDA may not be comparable to other similarly titled measures computed by other companies, because all companies do not calculate Adjusted EBITDA in the same fashion.

19


Our management does not consider EBITDA or Adjusted EBITDA in isolation or as an alternative to financial measures determined in accordance with GAAP. The principal limitation of EBITDA and Adjusted EBITDA is that they exclude significant expenses and income that are required by GAAP to be recorded in the Company's financial statements. Some of these limitations are:
Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments;
Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
Adjusted EBITDA does not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debts;
although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements;
Adjusted EBITDA does not reflect the impact of certain cash charges resulting from matters we consider not to be indicative of our ongoing operations; and
other companies in our industry may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure.

Because of these limitations, EBITDA and Adjusted EBITDA should not be considered in isolation or as a substitute for performance measures calculated in accordance with GAAP. We compensate for these limitations by relying primarily on our GAAP results and using EBITDA and Adjusted EBITDA only supplementally. You should review the reconciliation of net income to EBITDA and Adjusted EBITDA below and not rely on any single financial measure to evaluate our business.
The following table reconciles net income to EBITDA and Adjusted EBITDA:
 
 
Sixteen Weeks Ended
 
 
April 17,
2017
 
April 18,
2016
 
 
 
 
 
 
(Dollars in thousands)
Adjusted EBITDA:
 
 
 
 
Net income, as reported
 
$
19

 
$
1,396

Depreciation and amortization
 
5,541

 
4,492

Interest expense, net
 
1,368

 
1,122

Provision for income taxes
 
354

 
345

EBITDA
 
7,282

 
7,355

Loss from disposal of equipment
 
259

 
237

Pre-opening costs(1)
 
567

 
740

Adjusted EBITDA
 
$
8,108

 
$
8,332

 
 
 
 
 
(1) Represents expenses directly associated with the opening of new restaurants that are incurred prior to opening, including pre-opening rent.

20


Liquidity and Capital Resources
Summary of Cash Flows
Our primary sources of liquidity and cash flows are operating cash flows and available borrowings under our 2015 Credit Facility. We are using these sources to fund capital expenditures for new Company-owned restaurant openings, reinvest in our existing restaurants, repurchase restaurants from our franchisees, invest in infrastructure and information technology and maintain working capital. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day, or in the case of credit or debit card transactions, within several days of the related sale, and we typically have at least 20 days to pay our vendors.
We had negative working capital of $13.1 million as of April 17, 2017 compared to negative working capital of $6.3 million as of April 18, 2016. The increase in negative working capital resulted primarily from capital expenditures related to new store openings. We believe that cash and cash equivalents, expected cash flow from operations and borrowings on our 2015 Credit Facility in 2017 are adequate to fund our operating lease obligations, capital expenditures and working capital obligations for the next 12 months. However, our ability to continue to meet these requirements and obligations will depend on, among other things, our ability to achieve anticipated levels of revenue and cash flow from operations and our ability to manage costs and working capital successfully.
The following table summarizes consolidated cash flow data for the periods indicated:
 
 
Sixteen Weeks Ended
 
 
April 17, 2017
 
April 18, 2016
 
 
 
 
 
 
 
(Dollars in thousands)
Consolidated Statement of Cash Flows Data:
 
 
 
 
Net cash provided by operating activities
 
$
10,633

 
$
9,481

Net cash used in investing activities
 
(13,217
)
 
(8,468
)
Net cash provided by financing activities
 
121

 
470

Cash Flows Provided by Operating Activities
Net cash provided by operating activities increased to $10.6 million for the sixteen weeks ended April 17, 2017 from $9.5 million for the sixteen weeks ended April 18, 2016. Net cash provided by operating activities consists primarily of net income, adjusted for non-cash expenses such as depreciation and amortization, and the net change in operating assets and liabilities.
Net cash provided by operating activities for the sixteen weeks ended April 17, 2017 consisted primarily of net income adjusted for non-cash expenses and increases in accounts payable and deferred rent offset by an increase in prepaid expenses and other. The increase in accounts payable was primarily related to seasonality at stores and timing of corporate invoices. The increase in deferred rent is related to new store openings. The increase in prepaid expenses and other is primarily related to the timing of several annual corporate invoices that renewed in the first quarter.
Cash Flows Used in Investing Activities
Net cash used in investing activities increased to $13.2 million for the sixteen weeks ended April 17, 2017 from $8.5 million for the sixteen weeks ended April 18, 2016. The increase was primarily due to new store openings as well as technology investments in 2017.
Cash Flows Provided by Financing Activities
Cash flows provided by financing activities decreased to $0.1 million for the sixteen weeks ended April 17, 2017 from $0.5 million for the sixteen weeks ended April 18, 2016, primarily due to less proceeds from the exercise of stock options.

21


Credit Facility
On February 6, 2015, we entered into the 2015 Credit Facility with Wells Fargo Bank, National Association. The 2015 Credit Facility consists of a revolving loan commitment in the aggregate amount of $20.0 million, together with an incremental revolving credit commitment up to an aggregate amount of $30.0 million. The 2015 Credit Facility has a five year term and matures on February 6, 2020. As of April 17, 2017, we had no indebtedness under the 2015 Credit Facility. On April 20, 2017, we borrowed $5.0 million on the 2015 Credit Facility. The proceeds will be used to fund capital expenditures and working capital obligations.
Off-Balance Sheet Arrangements
As of April 17, 2017, we did not have any off-balance sheet arrangements.
Critical Accounting Policies and Estimates
Our discussion and analysis of operating results and financial condition are based upon our financial statements. The preparation of our financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures of contingent assets and liabilities. We base our estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis. Our critical accounting policies are those that materially affect our financial statements and involve difficult, subjective or complex judgments by management. Although these estimates are based on management's best knowledge of current events and actions that may impact us in the future, actual results may be materially different from the estimates.
We believe our critical accounting policies are affected by significant judgments and estimates used in the preparation of our consolidated financial statements and that the judgments and estimates are reasonable. Our critical accounting polices and estimates are described in our annual consolidated financial statements and the related notes in our 2016 Form 10-K. There have been no material changes affecting our critical accounting policies and estimates for the sixteen weeks ended April 17, 2017.



22


Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk
We are exposed to interest rate risk through fluctuations of interest rates on our investments and debt, as applicable. Changes in interest rates affect the interest income we earn, and therefore impact our cash flows and results of operations.
Commodity Price Risk
We are exposed to commodity price risks. Many of the ingredients we use to prepare our food, as well as our packaging materials, are commodities or ingredients that are affected by the price of other commodities, exchange rates, foreign demand, weather, seasonality, production, availability and other factors outside our control. We work closely with our suppliers and use a mix of forward pricing protocols under which we agree with our supplier on fixed prices for deliveries at some time in the future, fixed pricing protocols under which we agree on a fixed price with our supplier for the duration of that protocol, and formula pricing protocols under which the prices we pay are based on a specified formula related to the prices of the goods, such as spot prices. However, a majority of the dollar value of goods purchased by us is effectively at spot prices. Generally our pricing protocols with suppliers can remain in effect for periods ranging from one to 18 months, depending on the outlook for prices of the particular ingredient. We have tried to increase, where necessary, the number of suppliers for our ingredients, which we believe can help mitigate pricing volatility, and we follow industry news, trade issues, exchange rates, weather, crises and other world events that may affect our ingredient prices. Increases in ingredient prices could adversely affect our results if we choose for competitive or other reasons not to increase menu prices at the same rate at which ingredient costs increase, or if menu price increases result in customer resistance.
Inflation
The primary inflationary factors affecting our operations are food, labor costs, energy costs and materials used in the construction of new restaurants. Increases in the minimum wage directly affect our labor costs. Many of our leases require us to pay taxes, maintenance, repairs, insurance and utilities, all of which are generally subject to inflationary increases. Finally, the cost of constructing our restaurants is subject to inflationary increases in the costs of labor and material. Over the past five years, inflation has not significantly affected our operating results.


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Item 4. Controls and Procedures
As of April 17, 2017, the Company's management carried out an evaluation with the participation of Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures, pursuant to Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by this report, our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, were effective to provide reasonable assurance that the information we are required to file under the Exchange Act is recorded and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
There have been no changes in internal control over financial reporting during the quarter ended April 17, 2017 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.






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Part II - Other Information


Item 1. Legal Proceedings

Refer to Note 8, Commitments and Contingencies, of the Notes to the Unaudited Condensed Consolidated Financial Statements.

Item 1A. Risk Factors
There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the year ended December 26, 2016.

Item 2. Unregistered Sales of Equity and Use of Proceeds

None.

Item 3. Defaults upon Senior Securities

None.

Item 4. Mine Safety Disclosures

None.

Item 5. Other Information

On May 24, 2017, we entered into an Amended and Restated Employment Agreement with our CEO, Kevin Miles. This Agreement restates and supersedes in its entirety the Amended Employment Agreement dated February 25, 2016, between us and Mr. Miles. Pursuant to the Amended and Restated Employment Agreement, Mr. Miles’ employment term has been extended to June 30, 2022, and the terms of his severance were modified to provide for acceleration of any unvested equity upon any termination “without cause” or for “good reason” (as such terms are defined in the Agreement). The Amended and Restated Employment Agreement otherwise did not change the terms of the existing Miles’ Employment Agreement.  In addition, as incentive compensation, pursuant to our 2014 Omnibus Incentive Plan, the Compensation Committee of our Board of Directors approved granting Mr. Miles 130,000 stock options and 46,000 shares of restricted common stock, effective as of June 15, 2017.  Accordingly, the stock options will have an exercise price based on the closing price of our common stock on June 15, 2017.  The stock options and restricted stock will vest over five years in five equal annual installments on the anniversary date of the June 15th effective date, with the first tranche vesting on June 15, 2018, subject to Mr. Miles’ continued employment through such dates.
On May 24, 2017, the Committee also amended our 2016 Management Severance Program, which is applicable to our CEO and our senior management team after a change in control of the Company and upon a qualifying termination thereunder.  This amendment added to the definition of “change in control” a change in the majority of the then existing directors. The amendment otherwise did not change the terms of the 2016 Management Severance Program.
The foregoing summaries of the Amended and Restated Employment Agreement and the amended 2016 Management Severance Program do not purport to be complete, and are qualified in their entireties by the full text of the Amended and Restated Employment Agreement and the amended 2016 Management Severance Program, copies of which are filed herewith as Exhibits 10.1 and 10.2, respectively.



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Item 6. Exhibits

Exhibit Index
Exhibit Number
 
Description of Exhibit
10.1

 
10.2

 
31.1

 
31.2

 
32.1*

 
101.INS

 
XBRL Instance Document
101.SCH

 
XBRL Taxonomy Extension Schema Document
101.CAL

 
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF

 
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB

 
XBRL Taxonomy Extension Label Linkbase Document
101.PRE

 
XBRL Taxonomy Extension Presentation Linkbase Document

This certification is deemed not filed for purposes of section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act.




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SIGNATURES

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

Date: May 25, 2017

ZOE'S KITCHEN, INC.

By:
/s/ Kevin Miles
 
Name: Kevin Miles
 
Title: President and Chief Executive Officer


By:
/s/ Sunil Doshi
 
Name: Sunil Doshi
 
Title: Chief Financial Officer


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