ARC Group, Inc. - FORM 10-Q

Attached files

file	filename
EX-32.1 - EXHIBIT 32.1 - ARC Group, Inc.	tv493726_ex32-1.htm
EX-31.2 - EXHIBIT 31.2 - ARC Group, Inc.	tv493726_ex31-2.htm
EX-31.1 - EXHIBIT 31.1 - ARC Group, Inc.	tv493726_ex31-1.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark One)

Quarterly report PURSUANT TO Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended: March 31, 2018

Transition report PURSUANT TO Section 13 or 15(d) of the Exchange Act of 1934

For the transition period from ___________ to ______________

Commission File No. 000-54226

ARC GROUP, INC.
(Exact name of registrant as specified in its charter)

Nevada

59-3649554

(State or other jurisdiction of

incorporation or organization)

(IRS Employer

Identification No.)

6327-4 Argyle Forest Blvd.

Jacksonville, FL 32244

(Address of principal executive offices)

(904) 741-5500

(Registrant’s telephone number, including area code)

(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 1394 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 Website, 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 ¨

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

Large accelerated filer ¨	Accelerated filer ¨

Non-accelerated filer (Do not check if a smaller reporting company) ¨	Smaller reporting company x

	Emerging growth company ¨

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. ¨

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 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: There were 6,974,008 shares of the issuer’s Class A common stock, $0.01 par value per share, issued and outstanding on May 11, 2018.

TABLE OF CONTENTS

		Page
	PART I – FINANCIAL INFORMATION

Item 1.	Financial Statements	1

	Condensed Consolidated Balance Sheets at March 31, 2018 (unaudited) and December 31, 2017	1

	Condensed Consolidated Statements of Operations for the three-month periods ended March 31, 2018 and March 31, 2017 (unaudited)	2

	Condensed Consolidated Statements of Cash Flows for the three-month periods ended March 31, 2018 and March 31, 2017 (unaudited)	3

	Notes to Condensed Consolidated Financial Statements (unaudited)	4

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	21

Item 4.	Controls and Procedures	30

	PART II – OTHER INFORMATION

Item 2.	Unregistered Sales of Securities and Use of Proceeds	31

Item 6.	Exhibits	31

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements.

ARC Group, Inc.

Condensed Consolidated Balance Sheets

	March 31,			December 31,
	2018			2017
	(Unaudited)

Assets

Cash and cash equivalents	$	237,988		$	145,346
Accounts receivable, net		49,818			166,987
Accounts receivable, net – related party		1,640			1,505
Ad funds receivable, net		11,065			36,837
Ad funds receivable, net – related party		2,759			2,280
Inventory		51,802			45,417
Notes receivable, net		22,214			28,522
Deposits		21,458			21,189
Other current assets		12,628			5,923

Total current assets		411,372			454,006

Notes receivable, net of current portion		4,468			5,106
Property and equipment, net		117,527			99,114

Total assets	$	533,367		$	558,226

Liabilities and stockholders' deficit

Accounts payable and accrued expenses	$	390,818		$	467,264
Accounts payable and accrued expenses – related party		63,883			94,150
Accrued interest		14,349			13,472
Settlement agreements payable		267,776			264,997
Accrued legal contingency		157,865			155,935
Notes payable – related party		43,551			30,503
Contingent consideration		199,682			199,682
Deferred franchise fees		31,486			-
Other current liabilities		10,881			9,147

Total current liabilities		1,180,291			1,235,150

Deferred franchise fees, net of current portion		156,367			-

Total liabilities		1,336,658			1,235,150

Stockholders' equity deficit:

Class A common stock – $0.01 par value: 100,000,000 shares authorized, 6,974,008 and 6,950,869 shares issued and outstanding at March 31, 2018 and December 31, 2017, respectively		69,740			69,509
Additional paid-in capital		4,031,075			3,995,306
Stock subscriptions payable		13,350			26,853
Accumulated deficit		(4,917,456	)		(4,768,592	)

Total stockholders' deficit		(803,291	)		(676,924	)

Total liabilities and stockholders' deficit	$	533,367		$	558,226

The accompanying notes are an integral part of these financial statements

ARC Group, Inc.

Condensed Consolidated Statements of Operations (Unaudited)

	For the Three Months Ended
	March 31, 2018			March 31, 2017

Revenue:
Restaurant sales	$	984,775		$	868,476
Franchise and other revenue		233,259			177,302
Franchise and other revenue – related party		28,628			43,018

Total net revenue		1,246,662			1,088,796

Operating expenses:
Restaurant operating costs:
Cost of sales		270,535			283,006
Labor		254,539			268,479
Occupancy		60,459			30,715
Other operating expenses		212,118			170,052
Professional fees		128,913			25,620
Employee compensation expense		131,205			85,323
General and administrative expenses		140,585			15,209

Total operating expenses		1,198,354			878,404

Income from operations		48,308			210,392

Other expense:
Interest expense		(5,692	)		(7,925	)
Interest income		298			-
Other income		4,700			3,610

Total other expense		(694	)		(4,315	)

Net income	$	47,614		$	206,077

Net income per share – basic and fully diluted	$	0.01		$	0.03

Weighted average number of shares outstanding – basic and fully diluted		6,980,735			6,647,464

The accompanying notes are an integral part of these financial statements

ARC Group, Inc.

Condensed Consolidated Statements of Cash Flows (Unaudited)

	For the Three Months Ended
	March 31, 2018			March 31, 2017

Cash flows from operating activities

Net income	$	47,614		$	206,077
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation expense		5,559			3,146
Stock-based compensation expense		22,497			13,315
Changes in operating assets and liabilities:
Accounts receivable		117,169			18,419
Accounts receivable – related party		(135	)		11,288
Ad fund receivable		25,772			(13,067	)
Ad fund receivable – related party		(479	)		-
Inventory		(6,385	)		(4,068	)
Other assets		(6,974	)		(20,025	)
Accounts payable and accrued liabilities		(76,446	)		377
Accrued liabilities – related party		(30,267	)		(78,337	)
Advertising fund liabilities		-			27,067
Settlement agreements payable		2,779			2,780
Accrued legal contingency		1,930			1,930
Deferred franchise fees		(8,625	)		-
Other liabilities		2,611			(456	)

Net cash provided by operating activities		96,620			168,446

Cash flows from investing activities

Repayments of notes receivable		6,946			34,047
Purchases of fixed assets		(23,972	)		(9,739	)

Net cash provided / (used) by investing activities		(17,026	)		24,308

Cash flows from financing activities

Proceeds from issuance of notes payable – related party		43,551			352,649
Repayments of notes payable – related party		(30,503	)		(295,997	)

Net cash provided by financing activities		13,048			56,652

Net decrease in cash and cash equivalents		92,642			249,406
Cash and cash equivalents, beginning of period		145,346			50,923

Cash and cash equivalents, end of period	$	237,988		$	300,329

Supplemental disclosure of cash flow information

Cash paid for interest	$	-		$	-
Cash paid for income taxes	$	-		$	-

The accompanying notes are an integral part of these financial statements

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Note 1. Description of Business

ARC Group, Inc., a Nevada corporation (the “Company”), was incorporated in April 2000. The Company’s business is focused on the development of the Dick’s Wings^® franchise and the acquisition of financial interests in other restaurant brands. The Dick’s Wings concept is currently comprised of traditional restaurants like its Dick’s Wings & Grill^® restaurants and non-traditional units like the Dick’s Wings concession stands that the Company has at TIAA Bank Field (formerly EverBank Field) in Jacksonville, Florida.

On December 19, 2016, the Company acquired all of the issued and outstanding membership interests of Seediv, LLC, a Louisiana limited liability company (“Seediv”), for $600,000 and an earn-out payment. Seediv is the owner and operator of the Dick’s Wings & Grill restaurant located at 100 Marketside Avenue, Suite 301, in the Nocatee development in Ponte Vedra, Florida 32081 (the “Nocatee Restaurant”) and the Dick’s Wings & Grill restaurant located at 6055 Youngerman Circle in Argyle Village in Jacksonville, Florida 32244 (the “Youngerman Circle Restaurant”; together with the Nocatee Restaurant, the “Nocatee and Youngerman Restaurants”). A description of the Company’s acquisition of Seediv is set forth herein under Note 5 – Acquisition of Seediv.

At March 31, 2018, the Company had 21 restaurants and two concession stands. Of the 21 restaurants, 16 were located in Florida and five were located in Georgia. The Company’s concession stands were also located in Florida. Two of the Company’s restaurants were owned by the Company, and the remaining 19 restaurants were owned and operated by franchisees. The Company’s concession stands at TIAA Bank Field were also owned by the Company.

Note 2. Basis of Presentation and Significant Accounting Policies

Interim Financial Information

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) applicable to a going concern which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, Seediv, LLC. All intercompany accounts and transactions were eliminated in consolidation.

The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with the instructions to Form 10-Q and Article 8-03 of Regulation S-X and the related rules and regulations of the Securities and Exchange Commission (the “SEC”). Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. Certain information and footnotes disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to SEC rules and regulations. Notwithstanding this, we believe that the disclosures herein are adequate to make the information presented not misleading.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto for the year ended December 31, 2017 included in the Company’s Annual Report on Form 10-K. Information presented as of December 31, 2017 is derived from the audited consolidated financial statements. The results of operations for the three-month period ended March 31, 2018 are not necessarily indicative of the results that the Company will have for any subsequent quarter or full fiscal year.

This summary of significant accounting policies is provided to assist the reader in understanding the Company’s financial statements. The financial statements and notes thereto are representations of the Company’s management. The Company’s management is responsible for their integrity and objectivity. These accounting policies conform to accounting principles generally accepted in the United States of America (“GAAP”) and have been consistently applied in the preparation of the financial statements.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

Reclassifications

Certain amounts in the Company’s financial statements for the 2017 fiscal year have been reclassified to conform to the 2018 fiscal year presentation. These reclassifications did not result in any change to the previously reported total assets, net loss or stockholders’ deficit.

Going Concern

Prior to December 31, 2017, certain facts about the Company’s financial results created an uncertainty about the Company’s ability to continue as a going concern. The Company generated net income of $344,740 and cash flows from operations of $248,345 for the year ended December 31, 2017, and generated net income of $47,614 and cash flows from operations of $96,620 for the three-month period ended March 31, 2018. The improvement was due primarily to the Company’s acquisition of two Company-owned restaurants in December 2016. In addition, the Company has received continued financial support from related parties. As a result of these factors, the Company believes that the substantial doubt about its ability to continue as a going concern had been alleviated as of December 31, 2017 and March 31, 2018.

Segment Disclosure

The Company has a single brand, all of the restaurants of which operate in the full-service casual dining industry in the United States. Pursuant to the standards of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 280, Segment Reporting (“ASC 280”), the Company’s Chief Executive Officer and President, who comprise the Company's Chief Operating Decision Maker function for the purposes of ASC 280, concluded that the Company operates as a single segment for reporting purposes.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Revenue Recognition

On January 1, 2018, the Company adopted the provisions of FASB ASC 606, Revenue From Contracts With Customers (“ASC 606”). ASC 606 supersedes the current revenue recognition guidance, including industry-specific guidance. ASC 606 provides a single framework in which revenue is required to be recognized to depict the transfer of goods or services to customers in amounts that reflect the consideration to which a company expects to be entitled in exchange for those goods or services.

The Company adopted this new guidance effective the first day of fiscal year 2018, using the modified retrospective method of adoption. Under this method, the cumulative effect of initially adopting the guidance was recognized as an adjustment to the opening balance of equity at January 1, 2018. Therefore, the comparative period has not been adjusted and continues to be reported under the previous revenue recognition guidance. The details of the significant changes and quantitative impact of the changes are discussed below.

Franchise Fees

ASC 606 impacted the timing of recognition of franchise fees. Under previous guidance, these fees were typically recognized upon the opening of restaurants. Under ASC 606, the fees are deferred and recognized as revenue over the term of the individual franchise agreements. The effect of the required deferral of fees received in a given year will be mitigated by the recognition of revenue from fees retrospectively deferred from prior years. As a result of the adoption of ASC 606, the Company recognized deferred franchise fees in the amount of $196,478 on its balance sheet as of January1, 2018 and an increase in its accumulated deficit by the same amount on that date.

Advertising Funds

ASC 606 also impacted the accounting for transactions related to the Company’s general advertising fund. Under previous guidance, franchisee contributions to and expenditures by the fund were not included in the Company’s condensed consolidated financial statements. Under ASC 606, the Company records contributions to and expenditures by the fund as revenue and expenses within the Company’s condensed consolidated financial statements. The Company recognized contributions to and expenditures by the fund of $53,232 during the three-month period ended March 31, 2018.

Gift Card Funds

Additionally, ASC 606 impacted the accounting for transactions related to the Company’s gift card program. Under previous guidance, estimated breakage income on gift cards was deferred until it was deemed remote that the unused gift card balance would be redeemed. Under ASC 606, breakage income on gift cards is recognized as gift cards are utilized. This effect of this change on the Company’s financial statements was negligible.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Impact on Financial Statements

The following table summarizes the impacts of adopting the revenue recognition standard on the Company’s condensed consolidated financial statements as of and for the three-month period ended March 31, 2018:

				Adjustments
	As Reported			Franchise Fees			Advertising Funds			Balances Without Adoption
Condensed Consolidated Balance Sheet
Deferred franchise fees	$	31,486		$	(31,486	)	$	—		$	—
Total current liabilities		1,180,291			(31,486	)		—			1,148,805
Deferred franchise fees, net of current portion		156,367			(156,367	)		—			—
Total liabilities		1,336,658			(187,853	)		—			1,148,805
Accumulated deficit		(4,917,456	)		187,853			—			4,729,603
Total stockholders’ equity		(803,291	)		187,853			—			615,438

Condensed Consolidated Statement of Operations
Franchise and other revenue	$	233,259		$	(5,625	)	$	(46,048	)	$	181,586
Franchise and other revenue – related party		28,628			(3,000	)		(7,184	)		18,444
Total revenue		1,246,662			(8,625	)		(53,232	)		1,184,805
General and administrative expenses		140,585			—			(53,232	)		87,353
Total operating expenses		1,198,354			—			(53,232	)		1,145,122
Income from operations		48,308			(8,625	)		—			39,683
Net income		47,614			(8,625	)		—			38,989

Condensed Consolidated Statement of Cash Flows
Cash flows from operating activities:
Net income	$	47,614		$	(8,625	)	$	—		$	38,989
Changes in operating assets and liabilities:
Deferred franchise fees		(8,625	)		8,625			—			—

Disaggregation of Revenue

The following table disaggregate revenue by primary geographical market and source:

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

	Three Months Ended March 31, 2018
Primary geographic markets
Florida	$	1,196,368
Georgia		50,294
Total revenue	$	1,246,662

Sources of revenue
Restaurant sales	$	984,775
Royalties		200,030
Franchise fees		8,625
Advertising fund fees		53,232
Total revenue	$	1,246,662

Contract Balances

The following table presents changes in deferred franchise fees as of and for the three-month period ended March 31, 2018:

	Total Liabilities
Deferred franchise fees at January 1, 2018	$	196,478
Revenue recognized during the period		(8,625	)
New deferrals due to cash received		—
Deferred franchise fees at March 31, 2018	$	187,853

Anticipated Future Recognition of Deferred Franchise Fees

The following table presents the estimated franchise fees to be recognized in the future related to performance obligations that were unsatisfied at March 31, 2018:

Year	Franchise Fees Recognized
2018	$	25,344
2019		28,719
2020		27,000
2021		25,923
2022		24,000
Thereafter		56,867
Total	$	187,853

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

The estimated franchise fees for 2018 represent the fees to be recognized during the remainder of the 2018 fiscal year.

Recent Accounting Pronouncements

In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”). ASU 2016-02 requires that lease arrangements longer than 12 months result in the lessee recognizing a lease asset and liability. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. ASU 2016-02 is effective for interim and annual periods beginning after December 15, 2018. Early adoption is permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-02 will have on its financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows: Restricted Cash (“ASU 2016-18”). ASU 2016-18 provides guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows. The guidance is effective for interim and annual periods beginning after December 15, 2017. The adoption of ASU 2016-18 did not have a material impact on the Company’s financial statements.

In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business (“ASU 2017-01”). ASU 2017-01 provides a more robust framework to use in determining when a set of assets and activities is considered a business. ASU 2017-01 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Early adoption is permitted for certain transactions. The adoption of ASU 2017-01 did not have a material impact on the Company’s financial statements.

In March 2018, the FASB issued ASU 2018-05, Income Taxes (Topic 740) (“ASU 2018-05”). ASU 2018-05 provides guidance on accounting for the income tax effects of the Tax Cuts and Jobs Act of 2017 (the “Act”), which impacts U.S. corporate tax rates, business-related exclusions, and deductions and credits. The Act also has tax consequences for many companies that operate internationally. The guidance in ASU 2018-05 addresses situations in which the accounting for certain income tax effects of the Act is incomplete by the time financial statements are issued for the reporting period that includes the enactment date of December 22, 2017. The new guidance requires companies to report provisional amounts if a reasonable estimate of the tax impact can be determined. If a provisional amount cannot be reasonably determined, the entity should continue to apply ASC Topic 740 based on the provisions of the tax laws that were in effect immediately prior to the Act being enacted. The Company is currently evaluating the impact of ASU 2018-05, but believes that ASU 2018-05 will not have a material impact on the Company’s financial statements

The Company reviewed all other significant newly-issued accounting pronouncements and concluded that they either are not applicable to the Company’s operations or that no material effect is expected on the Company’s financial statements as a result of future adoption.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Note 3. Net Income Per Share

The Company calculates basic and diluted net income per share in accordance with ASC Topic 260, Earnings per Share. Basic net income per share is based on the weighted-average number of shares of the Company’s common stock outstanding during the applicable period and is calculated by dividing the reported net income for the applicable period by the weighted-average number of shares of common stock outstanding during the applicable period. Diluted net income per share is calculated by dividing the reported net income for the applicable period by the weighted-average number of shares of common stock outstanding during the applicable period, as adjusted to give effect to the exercise or conversion of all potentially dilutive securities outstanding at the end of the applicable period.

The Company did not have any securities outstanding at March 31, 2018 or 2017 that were exercisable or convertible into shares of the Company’s common stock. As a result, basic net income per share was equal to diluted net income per share for the three-month periods ended March 31, 2018 and 2017.

Note 4. Investment in Paradise on Wings

On January 20, 2014, the Company entered into a contribution agreement with Paradise on Wings. In connection with the execution of the contribution agreement, on January 20, 2014, the Company and the incumbent members of Paradise on Wings entered into an amended and restated operating agreement of Paradise on Wings to reflect the terms of the contribution agreement. The transactions contemplated by the contribution agreement and operating agreement were completed on January 20, 2014.

On September 30, 2017, the Company sold its 50% ownership interest in Paradise on Wings to Seenu G. Kasturi, the Company’s President, Chief Financial Officer and Chairman of the Board of Directors, for $24,000.

Set forth below is a summary of the unaudited income statement of Paradise on Wings for the three-month period ended March 31, 2017 provided to the Company by Paradise on Wings.

Statement of Operations	Three Months Ended March 31, 2017
Revenue	$	84,151
Operating expenses		(97,156	)
Loss from operations		(13,005	)
Other expense		(195,096	)
Net loss	$	(208,101	)

Company’s share of net loss	$	(104,051	)

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Set forth below is a summary of the unaudited balance sheet of Paradise on Wings at March 31, 2017 provided to the Company by Paradise on Wings.

Balance Sheet	March 31, 2017
Current assets	$	99,155
Equity investment		243,766
Total assets	$	342,921

Total liabilities	$	118,124
Equity		224,797
Total liabilities and equity	$	342,921

Note 5. Acquisition of Seediv

On December 19, 2016, the Company entered into a membership interest purchase agreement with Seenu G. Kasturi pursuant to which the Company agreed to acquire all of the issued and outstanding membership interests of Seediv from Mr. Kasturi. Seediv is the owner and operator of the Nocatee and Youngerman Restaurants. The closing of the acquisition occurred simultaneously with the execution of the membership interest purchase agreement by the Company and Mr. Kasturi on December 19, 2016.

In connection with the acquisition of Seediv, the Company agreed to make an earnout payment to Mr. Kasturi and recorded $20,897 of contingent consideration as the estimated initial fair value of the earnout payment. A description of the manner by which the earnout payment was valued is set forth herein under Note 8. Fair Value Measurements. As of December 31, 2017, the Company calculated the earnout payment in accordance with the provisions of the membership interest purchase agreement and determined that the earnout payment was $199,682. The Company did not make any payments to Mr. Kasturi with respect to the earnout payment during the three-month period ended March 31, 2018. Accordingly, the outstanding balance of contingent consideration was $199,682 at March 31, 2018 and December 31, 2017.

Note 6. Inventory

Inventory was comprised of the following at March 31, 2018 and December 31, 2017, respectively:

	March 31, 2018		December 31, 2017
Food	$	30,872	$	23,987
Beverages		16,747		21,430
Other		4,183		-0-
Total	$	51,802	$	45,417

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Note 7. Property and Equipment, Net

Property and equipment were comprised of the following at March 31, 2018 and December 31, 2017, respectively:

	March 31, 2018			December 31, 2017
Leasehold improvements	$	69,472		$	69,472
Furniture, fixtures and equipment		107,267			78,621
Subtotal		176,739			148,093
Less: accumulated depreciation		(59,212	)		(48,979	)
Total	$	117,527		$	99,114

Depreciation expense was $5,559 and $3,146 during the three-month periods ended March 31, 2018 and 2017, respectively.

Note 8. Fair Value Measurements

On January 20, 2014, the Company purchased a 50% ownership interest in Paradise on Wings. On December 19, 2016, the Company acquired all of the issued and outstanding membership interests of Seediv. A description of the investment in Paradise on Wings and the acquisition of Seediv is set forth herein under Note 4. Investment in Paradise on Wings and Note 5. Acquisition of Seediv, respectively.

On September 30, 2017, the Company sold its 50% ownership interest in Paradise on Wings to Seenu G. Kasturi for $24,000. Paradise on Wings incurred a loss of $440,561 during the period beginning January 1, 2017 and ending September 30, 2017. As a result, the carrying amount of the Company’s investment in Paradise on Wings was zero at September 30, 2017.

In connection with the acquisition of Seediv, the Company agreed to pay contingent consideration in the form of an earn-out payment. The Company determined that the fair value of the liability for the contingent consideration was estimated to be $20,897 at the acquisition date. The Company determined the fair value of the contingent consideration based on a probability-weighted approach derived from earn-out criteria estimates and a probability assessment with respect to the likelihood of achieving the earn-out criteria. The measurement was based upon significant inputs not observable in the market, including internal projections and an analysis of the target markets. The resultant probability-weighted contingent consideration was discounted using a discount rate based upon the weighted-average cost of capital.

At each reporting date, the Company revalues the contingent consideration to the reporting date fair value and records increases and decreases in the fair value as income or expense under general and administrative expenses in the Company’s Condensed Consolidated Statements of Operations. Increases or decreases in the fair value of the contingent consideration may result from, among other things, changes in discount periods and rates, changes in the timing and amount of earn-out criteria, and changes in probability assumptions with respect to the likelihood of achieving the various earn-out criteria.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

As of December 31, 2017, the Company calculated the earnout payment in accordance with the provisions of the membership interest purchase agreement and determined that the earnout payment was $199,682. The Company recognized additional Seediv compensation expense in the amount by $178,785 in connection with the earnout payment and the liability for the contingent consideration was increased to $176,675 at December 31, 2017. The Company did not make any payments to Mr. Kasturi with respect to the earnout payment during the three-month period ended March 31, 2018. Accordingly, the outstanding balance of contingent consideration was $199,682 at March 31, 2018 and December 31, 2017

The following table presents the contingent consideration recorded by the Company in connection with the acquisition of Seediv within the fair value hierarchy utilized to measure fair value on a recurring basis at December 31, 2017 and 2016, respectively:

	Level 1		Level 2		Level 3
March 31, 2018	$	-0-	$	199,682	$	-0-
December 31, 2017	$	-0-	$	199,682	$	-0-

The earnout payment was to be calculated based on the earnings before interest, taxes, depreciation and amortization (“EBITDA”) for the Nocatee and Youngerman Restaurants during the year ended December 31, 2017. As of December 31, 2017, the EBITDA for the Nocatee and Youngerman Circle Restaurants was utilized to compute the ending contingent consideration liability. As a result, the fair value measurement of the contingent consideration represented a Level 2 fair value measurement at March 31, 2018 and December 31, 2017 because it was based on other significant observable inputs.

The Company’s other financial instruments consist of cash and cash equivalents, accounts and ad fund receivables, notes receivable, accounts payable, accrued expenses and notes payable. The estimated fair values of the cash and cash equivalents, accounts and ad fund receivables, notes receivable, accounts payable, accrued expenses and notes payable approximate their respective carrying amounts due to the short-term maturities of these instruments.

Note 9. Notes Receivable

In September 2014, the Company made a loan to one of its franchisees in the aggregate original principal amount of $6,329. The loan was for a term of three years, was payable in monthly installments, and did not require the payment of any interest. The loan was paid off in full during the three-month period ended March 31, 2018. A total of $25 of principal was outstanding under the loan at December 31, 2017.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

In June 2016, the Company made a loan to one of its franchisees under a promissory note in the aggregate original principal amount of $25,000. In July 2016, the Company made an additional loan to the same franchisee under a line of credit agreement for an aggregate original principal amount of up to $28,136. In September 2016, the Company made an additional loan to the same franchisee under a second line of credit agreement for an aggregate original principal amount of up to $25,000. The loan under the promissory note is for a term of two years, is payable in monthly installments beginning January 1, 2017, and accrues interest at a rate of 5% per annum beginning September 1, 2016. The loan under the $28,136 line of credit agreement was for a term of two years, was payable in monthly installments beginning January 1, 2017, and did not require the payment of any interest. The loan was repaid in full during the year ended December 31, 2017. The loan under the $25,000 line of credit agreement is for a term of two years, is payable in monthly installments beginning January 1, 2017 and accrues interest at a rate of 5% per annum beginning October 1, 2016. A total of $19,661 and $25,944 of principal was outstanding under the loans at March 31, 2018 and December 31, 2017, respectively. Interest in the amount of $298 and $588 accrued and was paid in full during the three-month periods ended March 31, 2018 and 2017, respectively. No accrued interest was outstanding under the loans at March 31, 2018 or December 31, 2017.

In October 2017, the Company made a loan to one of its franchisees in the aggregate original principal amount of $7,659. The loan is due and payable in full on December 1, 2020, is payable in monthly installments beginning January 1, 2018, and does not require the payment of any interest. The full amount of the loan was outstanding on December 31, 2017. Payments in the amount of $638 were made against the loan during the three-month period ended March 31, 2018. Accordingly, a total of $7,021 of principal was outstanding under the loan at March 31, 2018.

The carrying value of the Company’s outstanding notes receivable was $26,682 and $33,628 at March 31, 2018 and December 31, 2017, respectively, all of which was due from unrelated third parties. Of these amounts, $22,214 and $4,468 were classified as short-term and long-term notes receivable, respectively, at March 31, 2018, and $28,522 and $5,106 were classified as short-term and long-term notes receivable, respectively, at December 31, 2017. The Company generated interest income of $298 and $748 during the three-month periods ended March 31, 2018 and 2017, respectively. The Company did not have any interest receivable outstanding at March 31, 2018 or December 31, 2017.

Note 10. Debt Obligations

As of December 31, 2016, the Company had principal in the amount of $16,103 outstanding under its credit facility with Blue Victory Holdings, Inc. (“Blue Victory”) and repaid $824,250 under the credit facility. During the year ended December 31, 2017, the Company borrowed $61,721 under the credit facility and repaid $77,824 to Blue Victory under the credit facility. The Company did not borrow any funds under the credit facility during the three-month period ended March 31, 2018. Accordingly, there was no principal outstanding under the credit facility at March 31, 2018 or December 31, 2017.

The carrying value of the Company’s outstanding promissory notes, net of unamortized discount, was $43,551 and $30,503 at March 31, 2018 and December 31, 2017, respectively.

Note 11. Capital Stock

The Company’s authorized capital consisted of 100,000,000 shares of Class A common stock, par value $0.01 per share, at March 31, 2018 and December 31, 2017, of which 6,974,008 and 6,950,869 shares of common stock were outstanding at March 31, 2018 and December 31, 2017, respectively, and 10,000,000 shares of preferred stock, none of which was outstanding at March 31, 2018 and December 31, 2017.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

On January 1, 2018, Mr. Kasturi earned 9,337 shares of the Company’s common stock pursuant to the terms of his employment agreement with the Company. The Company recognized $147 of stock compensation expense during the three-month period ended March 31, 2018 in connection with the vesting of the shares of common stock earned by Mr. Kasturi on January 1, 2018. This amount was credited to stock subscriptions payable as of March 31, 2018. The Company also recognized $13,350 of stock compensation expense during the three-month period ended March 31, 2018 in connection with the vesting of the shares of common stock to be earned by Mr. Kasturi on April 1, 2018 pursuant to the terms of his employment agreement with the Company. This amount was credited to stock subscriptions payable as of March 31, 2018.

In January 2018, the Company issued a total of 5,625 shares of its common stock to certain of its franchisees as incentive compensation. The shares were valued at a price per share equal to the closing price of the Company’s common stock on the OTCQB on the date of grant. The Company recognized $9,000 of stock compensation expense in connection therewith during the three-month period ended March 31, 2018.

The Company recognized a total of $22,497 and $13,315 for stock compensation expense during the three-month periods ended March 31, 2018 and 2017, respectively. The Company had a total of $13,350 and $26,853 of stock subscription payable outstanding at March 31, 2018 and December 31, 2017, respectively.

Note 12. Stock Options and Warrants

The Company did not issue any stock options or warrants exercisable into shares of the Company’s common stock during the three-month periods ended March 31, 2018 and 2017, and no stock options or warrants were exercised during the three-month periods ended March 31, 2018 and 2017. There were no stock options or warrants outstanding at March 31, 2018 and 2017.

Note 13. Commitments and Contingencies

Operating Leases

Company Headquarters

In January 2015, the Company entered into a lease with Crescent Hill Office Park for its corporate headquarters located at 6327-4 Argyle Forest Boulevard, Jacksonville, Florida pursuant to which the Company leases approximately 2,000 square feet of space. The lease provides for an initial monthly rent payment of $1,806 and expired on December 31, 2017, at which time it converted to a month-to-month lease.

In January 2018, the Company entered into a new lease with Crescent Hill Office Park for its corporate headquarters located at 6327-4 Argyle Forest Boulevard, Jacksonville, Florida pursuant to which the Company leases approximately 2,000 square feet of space. The lease provides for an initial monthly rent payment of $2,063 and continues in place on a month-to-month basis until either party provides 60 days advance written notice of their intent to terminate the lease.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Nocatee Restaurant

In October 2013, DWG Acquisitions entered into a triple net shopping center lease with NTC-REG, LLC (“NTC-REG) for the Nocatee Restaurant pursuant to which DWG Acquisitions leased approximately 2,900 square feet of space. The lease provides for an initial monthly rent payment of $1,100 and an additional annual rent payment equal to the amount by which 6% of the restaurant’s annual gross sales exceeds the aggregate monthly rent payments accrued during the applicable year. The lease has an initial term of 53 months and provides DWG Acquisitions with an option to extend the lease by an additional term of 60 months. The lease was assumed by Seediv when Seediv acquired all of the assets and liabilities associated with the Nocatee and Youngerman Circle Restaurants from DWG Acquisitions pursuant to the terms of that certain Asset Purchase Agreement, dated December 1, 2016, by and between Seediv and DWG Acquisitions (the “Asset Purchase Agreement”).

On April 1, 2017, DWG Acquisitions, Seediv and NTC-REG entered into an assignment and assumption & first modification to lease agreement for the Nocatee Restaurant. Under the agreement, DWG Acquisitions assigned all of its right, title, interest and claim in and to the Nocatee Lease, and Seediv assumed the payment and performance of all obligations, liabilities and covenants of DWG Acquisitions under the lease for the Nocatee Restaurant. In addition, the parties amended certain terms of the lease to state that the lease covers approximately 3,400 square feet of space, to extend the term of the lease for a 60-month period commencing on April 1, 2018 and expiring March 31, 2023, and to change the rent payments to an initial monthly rent payment of $6,830 without an additional annual rent payment.

Youngerman Circle Restaurant

In May 2014, DWG Acquisitions entered into a triple net lease with Raceland QSR, a related party, for the Youngerman Circle Restaurant pursuant to which DWG Acquisitions leased approximately 6,500 square feet of space. The lease provides for a monthly rent payment equal to 7% of the restaurant’s monthly net sales. The lease has an initial term of 10 years and renews automatically for additional one-year terms unless prior written notice is provided by either party. The lease was assumed by Seediv when Seediv acquired all of the assets and liabilities associated with the Nocatee and Youngerman Circle Restaurants from DWG Acquisitions pursuant to the terms of the Asset Purchase Agreement.

On December 20, 2016, Seediv entered into a new triple net lease with Raceland QSR for the Youngerman Circle Restaurant. The lease provides for rent payments to be made by the Company for each of 13 rent periods per year, with each rent period comprised of four weeks. The lease provides for an initial base rent payment equal to the greater of: (i) $10,000 per rent period, or (ii) 7.5% of the Youngerman Circle Restaurant’s net sales for the applicable rent period. Commencing on the fifth (5^th) anniversary and continuing every five years thereafter, the base rent will be equal to the sum of: (i) the average base rent previously in effect for the preceding five-year period, and (ii) the product of such previous average base rent multiplied by 7.5%. The lease has an initial term of 20 years and provides the Company with an option to extend the lease for two additional five-year periods. The Company agreed to guarantee Seediv’s payment and performance of all of its obligations under the lease.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

Rent expense was $66,867 and $36,633 during the three-month periods ended March 31, 2018 and 2017, respectively.

Note 14. Related-Party Transactions

During the year ended December 31, 2017, the Company borrowed $372,049 from Blue Victory and repaid $341,546 to Blue Victory under a separate loan. Accordingly, the amount of principal outstanding under the loan was $30,503 at December 31, 2017. The Company borrowed $43,551 and repaid $30,503 under the loan during the three-month period ended March 31, 2018. Accordingly, the amount of principal outstanding under the loan was $43,551 at March 31, 2018. The loan accrues interest at a rate of 6% per annum and is payable on demand. Seenu G. Kasturi was appointed President, Chief Financial Officer and Chairman of the board of directors of the Company in January 2017. He owned approximately 49.2% of the Company’s common stock and 90% of the equity interests in Blue Victory at March 31, 2018. He also served as the President, Treasurer and Secretary, and as the sole member of the board of directors, of Blue Victory during the three-month period ended March 31, 2018 and the year ended December 31, 2017.

The Company generated a total of $28,628 and $43,018 in royalties and franchise fees through its franchise agreements with DWG Acquisitions during the three-month period ended March 31, 2018 and 2017, respectively. The Company had a total of $1,640 and $1,505 of accounts receivable outstanding from DWG Acquisitions at March 31, 2018 and December 31, 2017, respectively, and had a total of $2,759 and $2,280 of ad funds receivable outstanding from DWG Acquisitions at March 31, 2018 and December 31, 2017, respectively.

The Company had a total of $63,883 and $94,150 for accounts payable and accrued expenses outstanding from DWG Acquisitions and certain of its employees at March 31, 208 and December 31, 2017, respectively. The outstanding amounts were primarily for rent owed to DWG Acquisitions and other expenses owed to the employees.

Note 15. Judgments in Legal Proceedings

In October 2009, the Company initiated a legal proceeding entitled American Restaurant Concepts, Inc. vs. Cala, et al was filed in in the United States District Court for the Middle District of Florida, Jacksonville Division, in Duval County (the “ARC Proceeding”). In the complaint, the Company alleged damages for trademark infringement. Also on that date, a legal proceeding entitled Cala v. Rosenberger et al. was filed with the Fourth Judicial Circuit Court in and for Duval County, Florida (the “Cala Proceeding”; together with the ARC Proceeding, the “ARC & Cala Proceedings”). In the complaint, Cala alleged damages for breach of contract. In January 2010, the parties to each of the actions entered into a settlement agreement with respect to both actions pursuant to which the Company agreed to pay $250,000 in full settlement of the legal proceedings (the “2010 Settlement Agreement”). In early 2010, Cala breached the terms of the 2010 Settlement Agreement, relieving the Company of any further obligations under the agreement. The Company made total payments of $40,000 under the 2010 Settlement Agreement prior to the breach by Cala. Accordingly, the remaining balance of $210,000 outstanding under the settlement agreement was reflected in settlement agreements payable.

In August 2016, the Company entered into a full and final settlement and release agreement with Cala. Under the terms of the agreement, the Company and Cala agreed to release each other from all claims related to the ARC & Cala Proceedings, any and all other lawsuits that may have been filed by one party against the other, the 2010 Settlement Agreement, and any other matters, causes of action or claims either party may have had against the other. In consideration for the releases, the Company agreed to pay $15,000 to Cala and issue 35,000 shares of its common stock to Cala. The Company recognized a non-cash gain on settlement of liabilities of $175,449 in connection therewith during the year ended December 31, 2016. The remaining balance of $210,000 outstanding under the 2010 Settlement Agreement was debited to settlement agreements payable.

ARC Group, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

On February 25, 2011, a legal proceeding entitled Duval Station Investment, LLC vs. Hot Wing Concepts, Inc. d/b/a Dick’s Wings and Grill, and American Restaurant Concepts, Inc. was filed with the Fourth Judicial Circuit Court in and for Duval County, Florida. In the complaint, the plaintiff alleged damages for breach of guaranty. On October 4, 2011, a final judgment was entered by the court in favor of the plaintiff in the amount of $161,747, and on November 11, 2011 a final judgment for attorneys’ fees and costs was entered in favor of the plaintiff in the amount of $33,000. These judgments, together with accrued interest of $2,369 thereon, resulted in a total loss from legal proceedings of $197,116 during the year ended December 25, 2011. The Company had not paid any part of the judgment or the accrued interest thereon. As a result, the loss was reflected in settlement agreements payable at March 31, 2018 and December 31, 2017. Interest expense in the amount of $2,779 accrued on the outstanding balance of the settlement agreement payable during each of the three-month periods ended March 31, 2018 and 2017. The interest expense was credited to settlement agreements payable.

In January 2015, Santander Bank filed a complaint against the Company in the Circuit Court, Fourth Judicial Circuit in and for Duval County, Florida, seeking damages of $194,181 plus interest, costs and attorney’s fees for breach of a guaranty of certain obligations of Ritz Aviation, LLC (“Ritz Aviation”) under a promissory note executed by Ritz Aviation in July 2005. During the Company’s fourth fiscal quarter of 2016, Santander Bank informed the Company that certain assets of Ritz Aviation had been sold for $82,642 and that the proceeds from the sale were applied towards the balance of the damages being sought, resulting in an outstanding balance of damages sought of $111,539. A total of $35,739 and $33,809 of accrued interest, and $10,586 of other expenses, were outstanding at March 31, 2018 and December 31, 2017, respectively, resulting in an aggregate potential loss of $157,865 and $155,935 at March 31, 2018 and December 31, 2017, respectively. The potential losses of $157,865 and $155,935 were reflected in accrued legal contingency at March 31, 2018 and December 31, 2017, respectively. This case is currently pending.

Note 16. Subsequent Events

On April 1, 2018, Seenu G. Kasturi earned 9,660 shares of the Company’s common stock pursuant to the terms of his employment agreement with the Company.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). All statements other than statements of historical facts included or incorporated by reference in this report, including, without limitation, statements regarding our future financial position, business strategy, budgets, projected revenue and costs, and plans and objectives of management for future operations, are forward-looking statements. In addition, forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expects,” “intends,” “plans,” “projects,” “estimates,” “anticipates,” or “believes” or the negative thereof or any variation thereon or similar terminology or expressions.

We have based these forward-looking statements on our current expectations and projections about future events. These forward-looking statements are not guarantees and are subject to known and unknown risks, uncertainties and assumptions that may cause our actual results to differ materially from results proposed in such statements. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from our expectations include, but are not limited to:

our ability to fund our future growth and implement our business strategy;

market acceptance of our restaurants and products;

food safety issues and other health concerns;

the cost of food and other commodities;

labor shortages and changes in employee compensation costs;

shortages or interruptions in the availability and delivery of food and other supplies;

our ability to maintain and increase the value of our Dick’s Wings^® brand;

changes in consumer preferences;

our ability to identify, attract and retain qualified franchisees;

our limited control over the activities of our franchisees;

the ability of us and our franchisees to identify suitable restaurant sites, open new restaurants and operate them in a profitable manner;

our ability to successfully operate our company-owned restaurants;

our ability to identify, acquire and integrate new restaurant brands and businesses;

the loss of key members of our management team;

the impact of any failure of our information technology system or any breach of our network security;

the impact of security breaches of confidential customer information in connection with the electronic processing of credit/debit card transactions by us and our franchisees;

the ability of us and our franchisees to comply with applicable federal, state and local laws and regulations;

our ability to protect our trademarks and other intellectual property;

competition and consolidation in the restaurant industry;

the effects of litigation on our business;

our ability to obtain debt, equity or other financing on favorable terms, or at all;

the impact of any decision to record asset impairment charges in the future;

the condition of the securities and capital markets generally;

economic conditions in the jurisdictions in which we operate and nationally;

and statements of assumption underlying any of the foregoing, as well as any other factors set forth herein under Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations below and Item 1A. Risk Factors of our Annual Report on Form 10-K for our fiscal year ended December 31, 2017. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the foregoing. Except as required by law, we assume no duty to update or revise our forward-looking statements.

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

This Management’s Discussion and Analysis of Financial Condition and Results of Operations and other parts of this report contain forward-looking statements that involve risks and uncertainties. All forward-looking statements included in this report are based on information available to us on the date hereof and, except as required by law, we assume no obligation to update any such forward-looking statements. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth herein under Item 1A. Risk Factors of our Annual Report on Form 10-K for our fiscal year ended December 31, 2017 and elsewhere in this report. The following should be read in conjunction with our condensed consolidated financial statements beginning on page 1 of this report.

Overview

We were formed in April 2000 to develop the Dick’s Wings concept, and are the owner, operator and franchisor of the Dick’s Wings brand of restaurants. Our Dick’s Wings concept is comprised of traditional restaurants like our Dick’s Wings & Grill^® restaurants, which are full service restaurants, and non-traditional units like our Dick’s Wings concession stands at TIAA Bank Field (formerly EverBank Field) in Jacksonville, Florida. We offer a variety of boldly-flavored menu items highlighted by our Buffalo, New York-style chicken wings spun in our signature sauces and seasonings. We offer our customers a casual, family-fun restaurant environment designed to appeal to both families and sports fans alike. At Dick’s Wings, we strive to provide our customers with a unique and enjoyable experience from first bite to last call.

On December 19, 2016, we acquired all of the issued and outstanding membership interests of Seediv, LLC, a Louisiana limited liability company (“Seediv”), for $600,000 and an earn-out payment. Seediv is the owner and operator of the Dick’s Wings & Grill restaurant located at 100 Marketside Avenue, Suite 301, in the Nocatee development in Ponte Vedra, Florida 32081 (the “Nocatee Restaurant”) and the Dick’s Wings & Grill restaurant located at 6055 Youngerman Circle in Argyle Village in Jacksonville, Florida 32244 (the “Youngerman Circle Restaurant”). A description of our acquisition of Seediv is set forth herein under Note 5 – Acquisition of Seediv in our condensed consolidated financial statements.

As of May 15, 2018, we had 20 Dick’s Wings & Grill restaurants and two Dicks’ Wings concession stands. Of our 20 restaurants, 15 are located in Florida and five are located in Georgia. Our concession stands are also located in Florida. Two of the restaurants are owned by us. The remaining 18 restaurants are owned and operated by franchisees. Our concession stands are also owned by us.

Strategy

Our plan is to grow our company from a Florida and Georgia based franchisor of Dick’s Wings restaurants into a diversified company operating a portfolio of premium restaurant brands and potentially non-restaurant brands, including in some cases, their related real estate properties.

The first major component of our growth strategy is the continued development and expansion of our legacy Dick’s Wings brand. Key elements of our strategy include strengthening the brand, developing new menu items, improving our operations and service, driving customer satisfaction, and opening new restaurants in new and existing markets in the United States. We believe there are meaningful opportunities to grow the number of Dick’s Wings restaurants and have implemented a rigorous and disciplined approach to drive franchising sales. In our existing markets, we plan to continue to open new restaurants until a market is penetrated to a point that will enable us to gain marketing, operational, cost and other efficiencies. In new markets, we plan to open several restaurants at a time to quickly build our brand awareness.

The other major component of our growth strategy is the acquisition of controlling and non-controlling financial interests in other restaurant brands, and potentially non-restaurant brands, offering us product and geographic diversification. We plan to complete, and are actively seeking, potential mergers, acquisitions, joint ventures and other strategic initiatives through which we can acquire or develop additional restaurant brands and, in some cases, their related real estate properties. We are seeking brands offering proprietary menu items that emphasize the preparation of food with high quality ingredients, as well as unique recipes and special seasonings to provide appealing, tasty, convenient and attractive food at competitive prices. We are seeking real estate properties that enable us to build equity through monthly debt payments rather than rent payments, that provide us with tax and other expense incentives, and that offer long-term appreciation potential. In the event we pursue non-restaurant brands, we intend to focus on companies with established brands that are either underperforming or undervalued and that offer long-term growth potential.

Financial Results

We achieved revenue of $1,246,662 for the three-month period ended March 31, 2018, compared to $1,088,796 for the three-month period ended March 31, 2017. Our total operating expenses were $1,198,354 for the three-month period ended March 31, 2018, compared to $878,404 for the three-month period ended March 31, 2017. We generated income from operations of $48,308 for the three-month period ended March 31, 2018 compared to $210,392 for the three-month period ended March 31, 2017. We generated net income of $47,614, or $0.01 per share, for the three-month period ended March 31, 2018 compared to $206,077, or $0.03 per share, for the three-month period ended March 31, 2017. Net cash flows provided by operating activities were $96,620 for the three-month period ended March 31, 2018, compared to $168,446 for the three-month period ended March 31, 2017.

Outlook

We expect our revenue to increase during the next 12 months as we generate sales through our company-owned restaurants, as we continue to improve the operations of our existing Dick’s Wings restaurants and open new Dick’s Wings restaurants, and as we acquire additional interests in other restaurant brands and potentially non-restaurant brands. We expect to continue generating net income during the next 12 months as we generate revenue and income from operations through our new and existing company-owned and franchised restaurants. Notwithstanding the foregoing, in the event we complete additional acquisitions of controlling or non-controlling financial interests in other brands through mergers, acquisitions, joint ventures or other strategic initiatives, our financial results will include and reflect the financial results of the target entities. Accordingly, the completion of any such transactions in the future may have a substantial beneficial or negative impact on our business, financial condition and results of operations.

Critical Accounting Policies

For information regarding our critical accounting policies, please refer to the discussion provided in our Annual Report on Form 10-K for our fiscal year ended December 31, 2017 under the caption “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies” and the discussion set forth below.

Revenue Recognition

On January 1, 2018, we adopted the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 606, Revenue From Contracts With Customers (“ASC 606”). ASC 606 supersedes the current revenue recognition guidance, including industry-specific guidance. ASC 606 provides a single framework in which revenue is required to be recognized to depict the transfer of goods or services to customers in amounts that reflect the consideration to which a company expects to be entitled in exchange for those goods or services.

We adopted this new guidance effective the first day of fiscal year 2018, using the modified retrospective method of adoption. Under this method, the cumulative effect of initially adopting the guidance was recognized as an adjustment to the opening balance of equity at January 1, 2018. Therefore, the comparative period has not been adjusted and continues to be reported under the previous revenue recognition guidance. The details of the significant changes and quantitative impact of the changes are discussed below.

Franchise Fees

ASC 606 impacted the timing of recognition of franchise fees. Under previous guidance, these fees were typically recognized upon the opening of restaurants. Under ASC 606, the fees are deferred and recognized as revenue over the term of the individual franchise agreements. The effect of the required deferral of fees received in a given year will be mitigated by the recognition of revenue from fees retrospectively deferred from prior years. As a result of the adoption of ASC 606, we recognized deferred franchise fees in the amount of $196,478 on its balance sheet as of January1, 2018 and an increase in its accumulated deficit by the same amount on that date.

Advertising Funds

ASC 606 also impacted the accounting for transactions related to the Company’s general advertising fund. Under previous guidance, franchisee contributions to and expenditures by the fund were not included in our Consolidated Statements of Operations. Under ASC 606, we record contributions to and expenditures by the fund as revenue and expenses within our condensed consolidated statements. The Company recognized contributions to and expenditures by the fund of $53,232 during the three-month period ended March 31, 2018.

Gift Card Funds

Additionally, ASC 606 impacted the accounting for transactions related to our gift card program. Under previous guidance, estimated breakage income on gift cards was deferred until it was deemed remote that the unused gift card balance would be redeemed. Under ASC 606, breakage income on gift cards is recognized as gift cards are utilized. This effect of this change on our financial statements was negligible.

Impact on Financial Statements

The following table summarizes the impacts of adopting the revenue recognition standard on our condensed consolidated financial statements as of and for the three-month period ended March 31, 2018:

				Adjustments
	As Reported			Franchise Fees			Advertising Funds			Balances Without Adoption
Condensed Consolidated Balance Sheet
Deferred franchise fees	$	31,486		$	(31,486	)	$	—		$	—
Total current liabilities		1,180,291			(31,486	)		—			1,148,805
Deferred franchise fees, net of current portion		156,367			(156,367	)		—			—
Total liabilities		1,336,658			(187,853	)		—			1,148,805
Accumulated deficit		(4,917,456	)		187,853			—			4,729,603
Total stockholders’ equity		(803,291	)		187,853			—			615,438

Condensed Consolidated Statement of Operations
Franchise and other revenue	$	233,259		$	(5,625	)	$	(46,048	)	$	181,586
Franchise and other revenue – related party		28,628			(3,000	)		(7,184	)		18,444
Total revenue		1,246,662			(8,625	)		(53,232	)		1,184,805
General and administrative expenses		140,585			—			(53,232	)		87,353
Total operating expenses		1,198,354			—			(53,232	)		1,145,122
Income from operations		48,308			(8,625	)		—			39,683
Net income		47,614			(8,625	)		—			38,989

Condensed Consolidated Statement of Cash Flows
Cash flows from operating activities:
Net income	$	47,614		$	(8,625	)	$	—		$	38,989
Changes in operating assets and liabilities:
Deferred franchise fees		(8,625	)		8,625			—			—

Disaggregation of Revenue

The following table disaggregate revenue by primary geographical market and source:

	Three Months Ended March 31, 2018
Primary geographic markets
Florida	$	1,196,368
Georgia		50,294
Total revenue	$	1,246,662

Sources of revenue
Restaurant sales	$	984,775
Royalties		200,030
Franchise fees		8,625
Advertising fund fees		53,232
Total revenue	$	1,246,662

Contract Balances

The following table presents changes in deferred franchise fees as of and for the three-month period ended March 31, 2018:

	Total Liabilities
Deferred franchise fees at January 1, 2018	$	196,478
Revenue recognized during the period		(8,625	)
New deferrals due to cash received		—
Deferred franchise fees at March 31, 2018	$	187,853

Anticipated Future Recognition of Deferred Franchise Fees

The following table presents the estimated franchise fees to be recognized in the future related to performance obligations that were unsatisfied at March 31, 2018:

Year	Franchise Fees Recognized
2018	$	25,344
2019		28,719
2020		27,000
2021		25,923
2022		24,000
Thereafter		56,867
Total	$	187,853

The estimated franchise fees for 2018 represent the fees to be recognized during the remainder of the 2018 fiscal year.

Recent Accounting Pronouncements

For information regarding recent accounting pronouncements applicable to our business, please refer to the discussion provided herein under Note 2. Basis of Presentation and Significant Accounting Policies – Recent Accounting Pronouncements in our condensed consolidated financial statements.

Comparison of the Three-Month Periods Ended March 31, 2018

Revenue

Revenue consists primarily of proceeds from the sale of food and beverage products by our company-owned restaurants and concession stands, and royalty payments and ad fund fees that we receive from our franchisees. Revenue increased $157,866 to $1,246,662 for the three-month period ended March 31, 2018 from $1,088,796 for the three-month period ended March 31, 2017. The increase of $157,866 was due primarily to increases of $53,232 for ad fund fees that were recognized beginning January 1, 2018 due to the implementation of ASC 606 by FASB and $77,854 that we received from the sale of food and beverage products our concession stands at TIAA Bank Field. We expect our revenue to increase during the next 12 months as we improve the operations of our existing Dick’s Wings restaurants and open new Dick’s Wings restaurants, and as we acquire additional interests in other restaurant and potentially non-restaurant brands.

Operating Expenses

Operating expenses consist of restaurant operating costs, professional fees, employee compensation expense, and general and administrative expenses.

Restaurant Operating Costs. Restaurant operating costs consists of cost of sales, labor expenses, occupancy expenses and other operating expenses that we incur in connection with the operation of the company-owned restaurants that we acquired through our acquisition of Seediv. Restaurant operating costs were $797,651 for the three-month period ended March 31, 2018 compared to $752,252 for the three-month period ended March 31, 2017. Our restaurant operating costs consisted of $270,535 for cost of sales, $254,539 for labor expenses, $60,459 for occupancy expenses, and $212,118 for other operating expenses for the three-month period ended March 31, 2018. Our restaurant operating costs consisted of $283,006 for cost of sales, $268,479 for labor expenses, $30,715 for occupancy expenses, and $170,052 for other operating expenses for the three-month period ended March 31, 2017. The increase of $45,399 was due primarily to costs incurred with operating the concession stands that we acquired in October 2017. We expect our restaurant operating costs to remain at similar levels during the next 12 months.

Professional Fees. Professional fees consist of fees paid to our independent accountants, lawyers, technology consultants and other professionals and consultants. Professional fees increased $103,293 to $128,913 for the three-month period ended March 31, 2018 from $25,620 for the three-month period ended March 31, 2017. The increase of $103,293 was due primarily to increases of $66,372 for accounting fees associated with the hiring of Eide Bailly as our new independent registered public accounting firm and $24,075 for consulting fees. We expect our professional fees to continue to increase during the next 12 months as we incur increased legal, accounting, technology and consulting fees in connection with the general expansion of our business and operations and our compliance with the rules and regulations of the SEC.

Employee Compensation Expense. Employee compensation expense consists of salaries, hourly wages, bonuses and other cash compensation, equity-based compensation and employee benefits paid or granted to our executive officers and non-restaurant employees, and the related payroll taxes. Employee compensation expense increased $45,882 to $131,205 for the three-month period ended March 31, 2018 from $85,323 for the three-month period ended March 31, 2017. The increases of $45,882 was due primarily to $34,715 for salaries and hourly wages and $9,182 for stock compensation expense. We expect employee compensation expense to increase during the next 12 months as we hire additional executive officers and other non-restaurant employees in connection with the growth and expansion of our business and operations.

General and Administrative Expenses. General and administrative expenses consist of ad fund expenses, selling commissions and expenses, marketing and advertising expenses, bank service charges, computer and internet expenses, dues and subscriptions, licenses and filing fees, insurance expenses, SEC filing expenses, stock listing expenses, investor relations expenses, shareholder meeting expenses, office supplies, rent expense, repairs and maintenance expenses, telephone expenses, travel expenses, utilities expenses and other miscellaneous general and administrative expenses. General and administrative expenses increased $125,076 to $140,285 for the three-month period ended March 31, 2018 from $15,209 for the three-month period ended March 31, 2017. The increase of $125,076 was due primarily to increases of $53,232 for ad fund expenses that were recognized beginning January 1, 2018 due to the implementation of ASC 606 and $44,455 for commissions paid to the owner of our concession stands at TIAA Bank Field. We expect general and administrative expenses to continue to increases during the next 12 months as we incur increasing expenses for marketing and advertising, investor relations, travel, rent, office supplies, insurance and other miscellaneous items associated with the general growth of our business and operations.

Net Income

Net income was $47,614 for the three-month period ended March 31, 2018 compared to $206,077 for the three-month period ended March 31, 2017. The decrease of $158,463 was due primarily to increases of $45,399 for restaurant operating costs, $103,293 for professional fees, $45,882 for employee compensation expense and $125,076 for general and administrative expenses. This was partially offset by an increase of $157,866 for revenue. We expect to continue generating net income during the next 12 months as we continue to improve the operations of our existing Dick’s Wings restaurants and open new Dick’s Wings restaurants, and as we acquire additional interests in other restaurant brands and potentially non-restaurant brands. Notwithstanding the foregoing, in the event we complete additional acquisitions of controlling or non-controlling financial interests in other brands through mergers, acquisitions, joint ventures or other strategic initiatives, our financial results will include and reflect the financial results of the target entities. Accordingly, the completion of any such transactions in the future may have a substantial beneficial or negative impact on our business, financial condition and results of operations.

Liquidity and Capital Resources

Since our inception, we have funded our operations primarily through private sales of equity securities, the use of short- and long-term debt and cash flows from operating activities.

Net cash provided by operating activities was $96,620 for the three-month period ended March 31, 2018 compared to $168,446 for the three-month period ended March 31, 2017. The decrease of $71,826 was due primarily to decreases of $158,463 for net income, $28,753 for accounts payable and accrued liabilities, and $27,067 for advertising fund liabilities. This was partially offset by decreases of $87,327 for accounts receivable and $38,360 for ad fund receivable

Net cash used by investing activities was $17,026 for the three-month period ended March 31, 2018 compared to net cash provided by investing activities of $24,308 for the three-month period ended March 31, 2017. The difference of $41,334 was due to a decrease of $27,101 for repayments of notes receivable and an increase of $14,233 for purchases of fixed assets.

Net cash provided by financing activities was $13,048 for the three-month period ended March 31, 2018 compared to $56,652 for the three-month period ended March 31, 2017. The decrease of $43,604 of net cash used by financing activities was due to a decrease of $309,098 for proceeds from the issuance of notes payable to related parties, partially offset by a decrease of $265,494 for repayments of notes payable issued to related parties.

Our primary sources of capital since January 1, 2017 are set forth below.

As of December 31, 2016, we had principal in the amount of $16,103 outstanding under our credit facility with Blue Victory Holdings, Inc. (“Blue Victory”) and repaid $824,250 under the credit facility. During the year ended December 31, 2017, we borrowed $61,721 under the credit facility and repaid $77,824 to Blue Victory under the credit facility. We did not borrow any funds under the credit facility during the three-month period ended March 31, 2018. Accordingly, there was no principal outstanding under the credit facility at March 31, 2018 or December 31, 2017.

During the year ended December 31, 2017, we borrowed $372,049 from Blue Victory and repaid $341,546 to Blue Victory under a separate loan. Accordingly, the amount of principal outstanding under the loan was $30,503 at December 31, 2017. We borrowed $43,551 and repaid $30,503 under the loan during the three-month period ended March 31, 2018. Accordingly, the amount of principal outstanding under the loan was $43,551 at March 31, 2018. The loan accrues interest at a rate of 6% per annum and is payable on demand.

To date, our capital needs have been met through cash generated by our operations, sales of our equity securities and the use of short- and long-term debt to fund our operations, including our credit facility with Blue Victory. We have used these sources of capital to pay virtually all of the costs and expenses that we have incurred to date. These costs and expenses have been comprised primarily of the professional fees, employee compensation expenses, and general and administrative expenses discussed above. We intend to continue to rely upon each of these sources to fund our operations and expansion efforts, including additional acquisitions of controlling or non-controlling financial interests in other restaurant brands, during the next 12 months.

We can provide no assurance that these sources of capital will be adequate to fund our operations and expansion efforts during the next 12 months. If these sources of capital are not adequate, we will need to obtain additional capital through alternative sources of financing. We may attempt to obtain additional capital through the sale of equity securities or the issuance of short- and long-term debt. If we raise additional funds by issuing shares of our common stock, our stockholders will experience dilution. If we raise additional funds by issuing securities exercisable or convertible into shares of our common stock, our stockholders will experience dilution in the event the securities are exercised or converted, as the case may be, into shares of our common stock. Debt financing may involve agreements containing covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, issuing equity securities, making capital expenditures for certain purposes or above a certain amount, or declaring dividends. In addition, any equity securities or debt that we issue may have rights, preferences and privileges senior to those of the shares of common stock held by our stockholders.

We have not made arrangements to obtain additional capital and can provide no assurance that additional financing will be available in an amount or on terms acceptable to us, if at all. Our ability to obtain additional capital will be subject to a number of factors, including market conditions and our operating performance. These factors may make the timing, amount, terms and conditions of any proposed future financing transactions unattractive to us. If we cannot raise additional capital when needed, or if such capital cannot be obtained on acceptable terms, we may not be able to pay our costs and expenses as they are incurred, take advantage of future acquisition opportunities, respond to competitive pressures or unanticipated events, or otherwise execute upon our business plan. This may adversely affect our business, financial condition and results of operations and, in the extreme case, cause us to discontinue our operations.

Off-Balance Sheet Arrangements

As of March 31, 2018, we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, that had been established for the purpose of facilitating off-balance sheet arrangements or for other contractually narrow or limited purposes. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.

Item 4. Controls and Procedures.

As of March 31, 2018, we carried out the evaluation of the effectiveness of our disclosure controls and procedures required by Rule 13a-15(e) under the Exchange Act under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of March 31, 2018, our disclosure controls and procedures were not effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is: (i) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (ii) 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 has been no change in our internal control over financial reporting identified in connection with this evaluation that occurred during our fiscal quarter ended March 31, 2018 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

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

In January 2018, we issued 9,337 shares of our common stock to Seenu G. Kasturi pursuant to the terms of his employment agreement with us. The securities were issued to an accredited investor in a private placement transaction that was exempt from the registration requirements of the Securities Act pursuant to Section 4(a)(2) of the Securities Act directly by us without engaging in any advertising or general solicitation of any kind and without payment of underwriting discounts or commissions to any person.

In January 2018, we issued a total of 5,625 shares of our common stock to certain of our franchisees as incentive compensation. The securities were issued to a limited number of individuals in a private placement transaction that was exempt from the registration requirements of the Securities Act pursuant to Section 4(a)(2) of the Securities Act directly by us without engaging in any advertising or general solicitation of any kind and without payment of underwriting discounts or commissions to any person.

Item 6. Exhibits.

The documents set forth below are filed as exhibits to this report.

Exhibit No.		Exhibit Description
31.1		Certification of Chief Executive Officer of the registrant required by Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended
31.2		Certification of Chief Financial Officer of the registrant required by Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended
32.1		Certification of Chief Executive Officer and Chief Financial Officer of the registrant required by Rule 13a-14(b) under the Securities Exchange Act of 1934, as amended
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

SIGNATURES

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

	ARC GROUP, INC.

Date: May 15, 2018	/s/ Seenu G. Kasturi
	Seenu G. Kasturi
	Chief Financial Officer
	(principal financial officer and duly authorized officer)

EXHIBIT INDEX

Exhibit No.		Exhibit Description
31.1		Certification of Chief Executive Officer of the registrant required by Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended
31.2		Certification of Chief Financial Officer of the registrant required by Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended
32.1		Certification of Chief Executive Officer and Chief Financial Officer of the registrant required by Rule 13a-14(b) under the Securities Exchange Act of 1934, as amended
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

ARC Group, Inc. - FORM 10-Q - May 15, 2018

Attached files

ARC Group, Inc. Reports