SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Fiscal Year Ended December 26, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to .
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Commission File No. 0-23226
GRILL CONCEPTS, INC.
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(Exact name of registrant as specified in its charter)
Delaware 13-3319172
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(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
11661 San Vicente Blvd., Suite 404, Los Angeles, California 90049
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(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Include Area Code: (310) 820-5559
Securities Registered Under Section 12(b) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which Registered
---------------------- -----------------------------------------------
None None
Securities Registered Under Section 12(g) of the Exchange Act:
Common Stock, $.00004 par value
-------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports); and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [ ] No [X]
The aggregate market value of the voting and non-voting common equity held
by non-affiliates of the registrant, based on the closing price on the NASDAQ
Small-Cap Market, as of the close of business June 30, 2004 was approximately
$7,240,000.
Number of shares outstanding of the registrant's common stock, $.00004 par
value, as of April 11, 2005: 5,650,146 shares.
DOCUMENTS INCORPORATED BY REFERENCE
None
TABLE OF CONTENTS
PART I Page
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ITEM 1. BUSINESS 3
ITEM 2. PROPERTIES 16
ITEM 3. LEGAL PROCEEDINGS 16
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 16
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED
STOCKHOLDER MATTERS AND ISSUER PURCHASES OF
EQUITY SECURITIES 16
ITEM 6. SELECTED FINANCIAL DATA 17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 18
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE
ABOUT MARKET RISK 39
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 39
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE 40
ITEM 9A. CONTROLS AND PROCEDURES 40
ITEM 9B. OTHER INFORMATION 42
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 42
ITEM 11. EXECUTIVE COMPENSATION 44
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS 46
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 47
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES 49
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES 49
PART I
This Form 10-K contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. The Company's actual results could differ materially from
those set forth in the forward-looking statements. Certain factors that might
cause such a difference are discussed in the section entitled "Certain Factors
Affecting Future Operating Results" beginning on page 38 of this Form 10-K.
ITEM 1. BUSINESS
Except as expressly indicated or unless the context otherwise requires, as
used herein, the "Company", "we", "our", or "us", means Grill Concepts, Inc., a
Delaware corporation and its subsidiaries.
GENERAL
Grill Concepts, Inc. and its subsidiaries (the "Company") develop and
operate casual dining restaurants under the name "Daily Grill" and fine dining
restaurants under the name "The Grill on the Alley." In addition, we own and
operate, or have management or licensing agreements with respect to, other
restaurant properties.
The Company was incorporated under the laws of the State of Delaware in
November of 1985. Since our acquisition of Grill Concepts, Inc., a California
corporation ("GCI"), in March of 1995, we have focused principally on the
expansion of the "Daily Grill" and "The Grill on the Alley" restaurant formats
of GCI.
At December 26, 2004, we owned and operated fifteen restaurants and managed
or licensed eight additional restaurants. Eleven Daily Grill restaurants and
four The Grill on the Alley restaurants are owned and operated, six Daily Grill
restaurants are managed and we license two Daily Grill restaurants. With the
exception of three The Grill on the Alley restaurants, and two Daily Grill
restaurants that are operated by partnerships, all of the Daily Grill and The
Grill on the Alley restaurants, which were owned and operated at December 26,
2004, were solely owned and operated by us.
In 2001 we entered into a strategic alliance with Starwood Hotels and
Resorts Worldwide, Inc. to jointly develop restaurant properties in Starwood
hotels. Management believes that the opening of restaurants in hotel properties
in strategic markets will help further establish brand name recognition for the
opening of additional restaurants in those markets.
During 2004, we continued to pursue a strategic growth plan whereby the
Company plans to open, and/or convert, and operate, and/or manage, Daily Grill
and The Grill on the Alley restaurants in hotel properties, and non-hotel based
restaurants, in strategic markets throughout the United States.
During 2004 we opened two restaurants consisting of (1) a 100% owned Daily
Grill, not covered by the Starwood alliance, opened in January 2004 in the Hyatt
Bethesda Hotel in Bethesda, Maryland and (2) a managed Daily Grill restaurant,
not subject to the Starwood alliance, opened in November 2004 in the Hilton
Hotel in Long Beach, California.
In March 2005, we opened a 100% owned Daily Grill in an office park in
Santa Monica, California.
3
The following table sets forth unaudited restaurant count information for
all restaurants.
2004 2003
---- ----
Number of restaurants:
Daily Grill restaurants:
Company Restaurants:
Beginning of year 10 9
Restaurant opening 1 1
Restaurant closings - -
---- ----
End of year 11 10
Managed or Licensed Restaurants:
Beginning of year 7 6
Restaurant openings 1 1
---- ----
End of year 8 7
Total Daily Grill restaurants:
Beginning of year 17 15
Restaurant openings 2 2
Restaurants closed or sold - -
---- ----
End of year 19 17
==== ====
Grill restaurants:
Company Restaurants:
Beginning of year 4 4
Restaurant openings - -
---- ----
End of year 4 4
Total Grill restaurants:
Beginning of year 4 4
Restaurant openings - -
---- ----
End of year 4 4
==== ====
Other restaurants:
Company Restaurants:
Beginning of year - -
Restaurants closed or sold - -
---- ----
End of year - -
Managed or Licensed Restaurants:
Beginning of year 1 1
Restaurant closings (1) -
---- ----
End of year - 1
Total Other restaurants:
Beginning of year 1 1
Restaurants closed or sold (1) -
---- ----
End of year - 1
==== ====
Total restaurants:
Beginning of year 22 20
Restaurant openings 2 2
Restaurants closed or sold (1) -
---- ----
End of year 23 22
==== ====
4
The following table sets forth unaudited per restaurant sales information,
comparable restaurant sales information for restaurants open twelve months in
both periods, and total sales information during 2004 and 2003 by restaurant
concept for owned restaurants ("Company Restaurants"):
2004 2003
---------- ----------
Weighted average weekly sales per restaurant:
Daily Grill restaurants:
Company Restaurants $ 57,757 $ 58,052
Grill restaurants:
Company Restaurants $ 77,545 $ 75,971
Change in comparable restaurant sales:
Daily Grill restaurants
Company Restaurants 4.6% 4.9%
Grill restaurants
Company Restaurants 2.1% 8.1%
Total sales:
Daily Grill $33,809,000 $30,056,000
Grill 16,129,000 15,802,000
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Total consolidated sales $49,938,000 $45,858,000
========== ==========
We also earn management and license fee revenue based on a percentage of gross
sales at restaurants under management and under licensing arrangements. Our
management and license fee revenue typically is earned at a rate of five to
eight percent of reported gross sales at these restaurants. The gross sales of
managed and licensed restaurants are not included in our statements of
operations. However, we consider the disclosure of these gross sales to be a key
indicator of brand strength and important to understanding how changes in gross
sales at the managed and licensed restaurants impact our revenue.
Sales at non-Company owned Grill Concepts-branded restaurants, categorized as,
managed and licensed restaurants were as follows:
2004 2003
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Gross Sales
Managed Daily Grills $16,382,000 $13,256,000
Licensed Daily Grills 8,003,000 8,773,000
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$24,385,000 $22,029,000
============= =============
Management and license fees $1,282,000 $ 1,037,000
============ ==============
Percent of gross sales 5.3% 4.7%
RESTAURANT CONCEPTS
- DAILY GRILL RESTAURANTS
Background. At December 26, 2004, we, through our subsidiaries, GCI and
Grill Concepts Management, Inc., owned and operated, managed or licensed eleven
Daily Grill restaurants in Southern California, four Daily Grill restaurants in
the Washington, D.C./Virginia market, one Daily Grill restaurant in Skokie,
Illinois, one Daily Grill restaurant in San Francisco, California, one Daily
Grill restaurant in Houston, Texas and one Daily Grill in Portland, Oregon.
Daily Grill restaurants are patterned after "The Grill on the Alley" in Beverly
Hills. See "-- The Grill on the Alley." The Grill on the Alley was founded by
Robert Spivak, Michael Weinstock and Richard Shapiro (the founders of GCI) in
the early 1980's to offer classic American foods in the tradition of the classic
American dinner house. After successfully operating The Grill on the Alley for
a number of years, in 1988, Messrs. Spivak, Weinstock and Shapiro decided to
expand on that theme by opening the first Daily Grill restaurant. Daily Grill,
in an effort to offer the same qualities that made The Grill on the Alley
successful, but at more value oriented prices, adopted six operating principles
that characterize each Daily Grill restaurant: high quality food, excellent
service, good value, consistency, appealing atmosphere and cleanliness. GCI
emphasized those principles in an effort to create a loyal patron who will be a
"regular" at its restaurants.
5
Restaurant Sites. Current and planned Daily Grill restaurants can be
characterized as either owned, in part or in whole, managed or licensed and as
either hotel based or based in shopping malls and other commercial properties.
At December 26, 2004, nineteen Daily Grill restaurants were in operation, eight
of which were 100% owned by us and located in shopping malls and other
commercial properties, one of which is 100% owned by us and located in a hotel,
one of which was 50% owned and located in Universal CityWalk, California, one of
which was 50.1% owned by us and located in an office park, six of which were
managed by us and located in hotels and two of which were licensed restaurants.
Daily Grill locations which are opened, or are scheduled to open in the
following months and years, are owned, managed or licensed as indicated and,
where indicated, are located in the referenced hotels:
Ownership
Opened or Interest,
Scheduled Licensed or
Location Opening Managed
-------- ------- -------
Brentwood, California September 1988 100%
Los Angeles, California April 1990 100%
Newport Beach, California April 1991 100%
Studio City, California August 1993 100%
Palm Desert, California January 1994 100%
Irvine, California September 1996 100%
Los Angeles International Airport January 1997 Licensed
Washington, D.C. March 1997 100%
Tysons Corner, Virginia October 1998 100%
Burbank, California (Hilton Hotel) January 1999 Managed
Washington, D.C. (Georgetown Inn) April 1999 Managed
Universal CityWalk, California May 1999 50%
Skokie, Illinois (DoubleTree Hotel) September 2000 Licensed
San Francisco, California
(Handlery Union Square Hotel) February 2002 Managed
Houston, Texas (Westin Galleria) July 2002 Managed
El Segundo (South Bay), California January 2003 50.1%
Portland, Oregon (Portland Westin) September 2003 Managed
Bethesda, Maryland (Hyatt Hotel) January 2004 100%
Long Beach, California (Hilton Hotel) November 2004 Managed
Santa Monica, California March 2005 100%
Downtown Los Angeles, California 2nd Quarter 2005 58.4%
Each 100% owned Daily Grill restaurant is located in leased facilities.
Site selection is viewed as critical to the success of our restaurants and,
accordingly, significant effort is exerted to assure that each site selected is
appropriate. For non-hotel based restaurants, the site selection process
focuses on local demographics and household income levels, as well as specific
site characteristics such as visibility, accessibility, parking availability and
traffic volume. Each site must have sufficient traffic such that management
believes the site can support at least twelve strong meal periods a week (i.e.,
five lunches and seven dinners). Preferred Daily Grill sites, which
characterize the existing 100% owned restaurants, are high-end, mid-size retail
shopping malls in large residential areas with significant daytime office
populations and some entertainment facilities. Historically, Daily Grill
restaurants have been viewed as desirable tenants drawing traffic to the high
profile malls where we locate and, therefore, have received significant tenant
improvement allowances.
Hotel based Daily Grill restaurants may be newly constructed facilities or
remodeled facilities on the premises of, or adjacent to, a hotel. Such
facilities may be leased, operated pursuant to a partnership, a joint venture, a
license arrangement, or a management agreement. As with non-hotel based
restaurants, site selection is viewed as critical and, accordingly, significant
effort is exerted to assure that each site selected is appropriate. The site
selection process for hotel-based restaurants is the responsibility of Hotel
Restaurant Properties, Inc. ("HRP"), which identifies suitable locations and
negotiates leases, license or management agreements for those properties. See
"-- Hotel Property Agreement" and " Certain Relationships and Related
Transactions".
6
Existing non-hotel based Daily Grill restaurants range in size from 3,750
to 7,000 square feet of which approximately 30% is devoted to kitchen and
service areas and seat between 100 and 250 persons. Our costs for existing
non-hotel based restaurants, including leasehold improvements, furniture,
fixtures and equipment and pre-opening expenses, have averaged $325 per foot per
restaurant, less tenant improvement allowances.
Existing hotel based Daily Grill restaurants range in size from 5,000 to
8,000 square feet of which approximately 30% is devoted to kitchen and service
areas and seat between 140 and 252 persons. Management anticipates that
additional hotel based Daily Grill restaurants will require minimal capital
investment on our part. However, each hotel restaurant arrangement will be
negotiated separately and our capital investment may vary widely. Our portion of
opening costs of existing hotel restaurants, including leasehold improvements,
furniture, fixtures and equipment and pre-opening expenses, have ranged from
$64,000 to $513,000 per restaurant.
Menu and Food Preparation. Each Daily Grill restaurant offers a similar
extensive menu featuring over 100 items. The menu was designed to be
reminiscent of the selection available at American-style grill restaurants of
the 1930's and 1940's. Daily Grill offers such "signature" items as Cobb salad,
Caesar salad, meatloaf with mashed potatoes, chicken pot pie, chicken burgers,
hamburgers, rice pudding and fresh fruit cobbler. The emphasis at the Daily
Grill is on freshly prepared American food served in generous portions.
Entrees range in price, subject to regional differences, from $8.95 for a
hamburger to $23.95 for a char-broiled New York steak with all the trimmings.
The average lunch check is $17.00 per person and the average dinner check is
$26.00 per person, including beverage. Daily Grill restaurants also offer a
children's menu with reduced portions of selected items at reduced prices. All
of the existing Daily Grill restaurants offer a full range of beverages,
including beer, wine and full bar service. During the year ended December 26,
2004, food and non-alcoholic beverage sales constituted approximately 85% of the
total restaurant revenues for the Daily Grill restaurants, with alcoholic
beverages accounting for the remaining 15%.
Proprietary recipes have been developed for substantially all of the items
offered on the Daily Grill menu. The same recipes are used at each location and
all chefs undergo extensive training in order to assure consistency and quality
in the preparation of food. Virtually all of the menu items offered at the
Daily Grill are cooked from scratch utilizing fresh food ingredients. Our
management believes that our standards for ingredients and the preparation of
menu items are among the most stringent in the industry.
Each Daily Grill restaurant has up to seven cooks on duty during regular
lunch and dinner hours to provide prompt, specialized service. Restaurant staff
members utilize a "point-of-sale" computer system to monitor the movement of
food items to assure prompt and proper service of guests and for fiscal control
purposes.
Atmosphere and Service. Most Daily Grill restaurants are open for lunch
and dinner seven days a week and for Sunday brunch. Each Daily Grill location
is designed to provide the sense and feel of comfort. In the tradition of an
old-time American-style grill, the setting is very open with a mix of booths and
tables. Several of the restaurants have counters for singles to feel
comfortable. A number of the Daily Grill restaurants have private dining rooms
for banquets or additional seating. Each restaurant emphasizes the quality and
freshness of Daily Grill food dishes in addition to the cleanliness of
operations. The dining area is well-lit and is characterized by a "high energy
level". Reservations are accepted but not required.
Attention to detail and quality of decor is carried through to the
professional service. All Daily Grill employees are trained to treat each
person who visits the restaurant as a "guest" and not merely a customer. Each
server is responsible for assuring that his or her guest is satisfied. In
keeping with the traditions of the past, each Daily Grill employee is taught
that at the Daily Grill "the guest is always right." The Daily Grill's policy
is to accommodate all reasonable guest requests, ranging from substitutions of
menu items to take-out orders.
In order to assure that our philosophy of guest service is adhered to, all
Daily Grill employees from the kitchen staff to the serving staff undergo
extensive training making each employee knowledgeable not only in our procedures
and policies but in every aspect of Daily Grill operations. Our policy of
promoting from within and providing access to senior management for all
employees has produced a work force which works in a cooperative team approach
and has resulted in an employee turnover rate of just over 66% per year for all
employees, considerably below the industry average which management believes to
be approximately 125%.
7
We believe that the familiarity and feeling of comfort, which accompanies
dining in a familiar setting, with familiar food and quality service by familiar
servers, produces satisfied customers who become "regulars." Management believes
that at the Daily Grills which have been open for over a year repeat business is
significantly greater than the industry average, with many guests becoming
"regulars" in the tradition of the neighborhood restaurant.
THE GRILL ON THE ALLEY
Background. At December 26, 2004, we, through our subsidiary, GCI, owned
and operated four The Grill on the Alley restaurants ("Grill"), one in Beverly
Hills, California, one in San Jose, California, one in Chicago, Illinois and one
in Hollywood, California, named The Grill on Hollywood.
The original Grill is a fine dining Beverly Hills restaurant, which opened
in 1984 and served as the model for the Daily Grill restaurants. The Grill is
set in the traditional style of the old-time grills of New York and San
Francisco, with black-and-white marbled floors, polished wooden booths and deep
green upholstery. In 1995, the Grill was inducted into Nation's Restaurant
News' Fine Dining Hall of Fame and was described by W Magazine as "home of the
quintessential Beverly Hills power lunch." The Grill offers five-star American
cuisine and uncompromising service in a comfortable, dignified atmosphere.
In April of 1996, we acquired the original Grill from a partnership, the
managing partner of which was controlled by our then principal shareholders and
directors.
Restaurant Sites. At December 26, 2004, we operated four Grill
restaurants, two of which are non-hotel based facilities and two of which are
hotel-based facilities.
Grill locations opened in the following months and years, are owned or
managed as indicated and, where indicated, in the referenced hotels:
Ownership Interest
Location Opened or Managed
-------- ------ -- -------
Beverly Hills, California January 1984 100.00%
San Jose, California (Fairmont Hotel) May 1998 50.05%
Chicago, Illinois (Westin Hotel) June 2000 60.00%
Hollywood, California November 2001 51.00%
Our Grill restaurants are located in leased facilities. As with the Daily
Grill restaurants, site selection is viewed as critical to success and,
accordingly, significant effort is exerted to assure that each site selected is
appropriate. For non-hotel based Grill restaurants, the site selection process
focuses on local demographics and household income levels, as well as specific
site characteristics such as visibility, accessibility, parking availability and
traffic volume. Because of the upscale nature of Grill restaurants, convenience
for business patrons is considered a key site selection criterion.
Hotel based Grill restaurants may be newly constructed facilities or
remodeled facilities on the premises of, or adjacent to, a hotel. Such
facilities may be leased by us, operated pursuant to a partnership, a joint
venture arrangement, or a management agreement. As with freestanding (non hotel
based) restaurants, site selection is viewed as critical to success and,
accordingly, significant effort is exerted to assure that each site selected is
appropriate.
The Beverly Hills based Grill restaurant is approximately 4,300 square feet
of which approximately 35% is devoted to kitchen and service areas and seats 120
persons. The Hollywood based Grill restaurant is approximately 5,600 square
feet of which approximately 36% is devoted to kitchen and service areas and
seats 200 persons.
The San Jose based Grill restaurant is approximately 8,000 square feet of
which approximately 38% is devoted to kitchen and service areas and seats 280
persons. The Chicago based Grill restaurant is approximately 8,500 square feet,
of which approximately 35% is devoted to kitchen and service areas, and seats
more than 300 guests.
Because of the unique nature of Grill restaurants, the size, seating
capacity and opening costs of future sites cannot be reasonably estimated.
Management anticipates that additional hotel based Grill restaurants will
require minimal capital investment on our part. However, each hotel restaurant
arrangement will be negotiated separately and our capital investment may vary
widely. Total project costs of the existing hotel based restaurants, including
leasehold improvements, furniture, fixtures and equipment and pre-opening
expenses, have ranged from $2.1 million to $3.1 million.
8
Menu and Food Preparation. Each Grill restaurant offers a similar
extensive menu featuring over 100 items. The menu was designed to be
reminiscent of the selection available at fine American-style grill restaurants
of the 1930's and 1940's, featuring steaks and seafood and freshly prepared
salads and vegetables served in generous portions.
Entrees range in price from $13.25 for a cheeseburger to $36.75 for a prime
porterhouse steak. The average lunch check is $29.00 per person and the average
dinner check is $59.00 per person, including beverage. All of the existing
Grill restaurants offer a full range of beverages, including beer, wine and full
bar service. During the year ended December 26, 2004, food and non-alcoholic
beverage sales constituted approximately 71% of the total restaurant revenues
for Grill restaurants, with alcoholic beverages accounting for the remaining
29%.
Proprietary recipes have been developed for substantially all of the items
offered on the Grill menu. The same recipes are used at each location and all
chefs undergo extensive training in order to assure consistency and quality in
the preparation of food. Virtually all of the menu items offered at the Grill
are cooked from scratch utilizing fresh food ingredients. Our management
believes that our standards for ingredients and the preparation of menu items
are among the most stringent in the industry.
Each Grill has up to 8 cooks on duty during regular lunch and dinner hours
to provide prompt, specialized service. Restaurant staff members utilize a
"point-of-sale" computer system to monitor the movement of food items to assure
prompt and proper service of guests and for fiscal control purposes.
Atmosphere and Service. Each Grill restaurant is presently open for lunch
six days a week and dinner seven days a week. Each Grill location is designed
to provide the sense and feel of comfort and elegance. In the tradition of an
old-time American-style grill, the setting is an open kitchen adjacent to tables
and booths. The open kitchen setting emphasizes the quality and freshness of
food dishes in addition to the cleanliness of operations. The dining area is
well-lit and is characterized by a "high energy level". Reservations are
accepted but are not required.
Attention to detail and quality of decor is carried through to the
professional service. All Grill employees are trained to treat each person who
visits the restaurant as a "guest" and not merely a customer. Each server is
responsible for assuring that his or her guest is satisfied. In keeping with
the traditions of the past, each Grill employee is taught that "the guest is
always right." The Grill's policy is to accommodate all reasonable guest
requests, ranging from substitutions of menu items to take-out orders.
In order to assure that our philosophy of guest service is adhered to, all
Grill employees from the kitchen staff to the serving staff undergo extensive
training making each employee knowledgeable not only in our procedures and
policies but in every aspect of Grill operations. Our policy of promoting from
within and providing access to senior management for all employees has produced
a work force which works in a cooperative team approach.
We believe that the familiarity and feeling of comfort which accompanies
dining in a familiar setting, with familiar food and quality service by familiar
servers, produces satisfied customers who become "regulars." Management
believes that at the original Grill repeat business is significantly greater
than the industry average, with many guests becoming "regulars" in the tradition
of the neighborhood restaurant.
SALE OF PIZZERIA UNO RESTAURANTS
In April 2002, with the sale of our Cherry Hill, New Jersey Pizzeria Uno
Restaurant for $325,000, we completed our planned divestiture of our interests
in Pizzeria Uno Restaurants. Previously, we operated as many as three
franchised Pizzeria Uno Restaurants. During 1998, we determined that the
continued ownership and operation of the Pizza Restaurants did not fit with our
strategic growth plan. Based on that determination, in July 2000, we closed our
Pizzeria Uno restaurant in Media, Pennsylvania and, in July 2001, we sold our
Pizzeria Uno restaurant in South Plainfield, New Jersey for $700,000.
OTHER RESTAURANT ACTIVITIES
In addition to owning and operating Daily Grills and The Grills, we, at
December 26, 2004, also provided management services for Daily Grill restaurants
at the Burbank Hilton, the Georgetown Inn, the Handlery Hotel, the Westin
Galleria, the Portland Westin and the Long Beach Hilton and had granted licenses
to operate a Daily Grill at LAX and a Daily Grill at the DoubleTree Hotel in
Skokie, Illinois. Under the terms of our management agreements, we are
responsible for all aspects of the restaurant's operation for which we earn a
fee, however, we have no ownership in the restaurant. We are liable for all
debts and obligations that we incur on behalf of the managed outlets including
payroll and related costs of the restaurant staff who are our employees. All
such costs are included as expenses in our statements of operations and we also
record revenue for those costs that are reimbursed by the restaurants.
9
HOTEL PROPERTY AGREEMENT
In order to facilitate our efforts to open restaurants on a large scale
basis in hotel properties, in August of 1998, we entered into the Hotel Property
Agreement with Hotel Restaurant Properties, Inc. ("HRP") pursuant to which HRP
has agreed to assist us in locating suitable hotel locations for the opening of
our restaurants. HRP is considered a related party as one of its owners is a
family member of a director and preferred stock holder. In May 11, 1999 the HRP
agreement was amended under the same terms and conditions except that it is now
100% owned by the family member. HRP is responsible for identifying suitable
hotel locations in which a Grill or Daily Grill can be operated ("Managed
Outlets") and negotiating and entering into leases or management agreements for
those properties. We will, in turn, enter into management agreements with HRP or
the hotel owners, as appropriate. We may advance certain pre-opening costs and
certain required advances ("Manager Loans") and will manage and supervise the
day-to-day operations of each Managed Outlet. From the gross management fee, we
are entitled to receive a base overhead fee equal to $1,667 per month per
Managed Outlet. The remaining fee income, less any expenses and after
repayments required on Manager Loans from each Managed Outlet, are allocated 75%
to us and 25% to HRP.
In July 2001, in conjunction with an investment in the Company by Starwood
Hotels, the Hotel Property Agreement was amended to limit, for so long as we are
subject to the exclusivity provisions of a Property Development Agreement with
Starwood, the amounts payable to HRP to $400,000 annually plus 12.5% of the
amounts otherwise payable to HRP with respect to the Burbank, Georgetown and San
Jose Hilton restaurants.
The operating agreement between HRP and GCI contains a clause whereby, HRP
has the right to cause GCI to purchase HRP (the put option) at any time there is
a change in control or after May 2004 subject to certain conditions and at the
same time, GCI has the right to purchase HRP (the call option) after May 2004
subject to certain conditions. The purchase is governed by the following terms:
The Agreed Purchase Price ("APP") (principally paid in stock) under the put
or call option will be 25% multiplied by 10 (Multiple) times the Operating
Income of HRP (Gross Receipts for the prior twelve months less Operating
Expenses which are averaged over a five year period), with certain allowed
exclusions from Operating Income minus the principal balance of any outstanding
loans (with certain allowed exclusions) to HRP. Under the Put Option the
Multiple may change if 87.5% multiplied by the Closing Price of the Company's
Common Stock divided by EBITDA per share is less than 10. If the Company sells
assets or stock to certain third parties introduced to GCI by HRP which causes a
Change in Control, then purchase price will be the greater of: (A) $3,000,000 or
(B) the APP not to exceed $4,500,000.
RESTAURANT MANAGEMENT SERVICES
Restaurant management services include overseeing the design, development,
construction, equipping, furnishing and operation of the restaurant. Once the
restaurant is open to the public, the manager is responsible for rendering and
performing all services in connection with the operation of the restaurant.
Those services include employing, training and supervising personnel, purchasing
and maintaining adequate inventory, etc.
In May 1998, pursuant to the Hotel Property Agreement with HRP (see below),
we began providing management services for a restaurant in the Burbank Hilton
Hotel. The restaurant was converted from its former concept to a Daily Grill in
January 1999. Pursuant to our management agreement with the hotel, we invested
$500,000 for conversion of the restaurant to a Daily Grill and are responsible
for management and supervision of the restaurant. We, with HRP, are entitled to
a management fee equal to 8.5% of the gross receipts of the restaurant.
Additionally, we, with HRP, are entitled to 30% of the annual profits of the
restaurant in excess of a base amount increased annually by the CPI.
In March 1999, pursuant to the Hotel Property Agreement, we began providing
management services for a Daily Grill restaurant at the Georgetown Inn.
Pursuant to our management agreement with the hotel, we were not required to
invest in the restaurant but we are responsible for management and supervision
of the restaurant. We, with HRP, are entitled to a management fee equal to 8% of
the gross receipts of the restaurant. Additionally, we, with HRP, are entitled
to 30% of the annual profits of the restaurant.
10
In February 2002, pursuant to the Hotel Property Agreement, we began
providing management services for a Daily Grill restaurant at the Handlery Hotel
in San Francisco. Pursuant to our management agreement with the hotel, we
contributed $331,000 to the restaurant which was expensed through reimbursed
costs in 2002 and 2003. We, with HRP, are entitled to a management fee equal to
6% of gross receipts of the restaurant. Additionally, we, with HRP, are entitled
to 25% of the net income of the restaurant.
In July 2002, pursuant to the Hotel Property Agreement, we began providing
management services for a Daily Grill restaurant at the Westin Galleria in
Houston, Texas. Pursuant to our management agreement with the hotel, we
advanced the restaurant $64,000 which was repaid out of net income available for
distribution in May 2003. We, with HRP, are entitled to a management fee equal
to 5% of gross receipts of the restaurant. Additionally, we, with HRP, are
entitled to 35% of the annual profits of the restaurant after working capital
requirements are satisfied.
In September 2003, pursuant to the Hotel Property Agreement, we began
providing management services for a Daily Grill restaurant at the Portland
Westin in Portland, Oregon. We were not required to invest in the restaurant.
We, with HRP, are entitled to a management fee of 5% of gross receipts of the
restaurant and 35% of annual profit after working capital requirements are
satisfied. Due to the slow start at this restaurant we have not received any
of the management fees earned and therefore have reserved for them 100%.
In November 2004, pursuant to the Hotel Property Agreement, we began
providing management services for a Daily Grill restaurant at the Long Beach
Hilton in Long Beach, California. We were not required to invest in the
restaurant. We, with HRP, are entitled to a management fee of 6% of gross
receipts of the restaurant guaranteed by the owner to be no less than $150,000
per year subject to certain cancellation rights after two years. We, with HRP,
are also entitled to an incentive fee of 35% of the annual profits of the
restaurant.
RESTAURANT LICENSING
Under restaurant licensing agreements, we earn a licensing fee in exchange
for use of our brand, as well as, the proprietary menu.
LAX Daily Grill. Since January 1997, CA One Services, Inc. has operated a
Daily Grill restaurant (the "LAX Daily Grill") in the International Terminal of
the Los Angeles International Airport. The LAX Daily Grill was originally
operated as a joint venture between us and CA One Services, Inc., and since
April 1998 has been operated by CA One Services under a license agreement.
Pursuant to the terms of the License Agreement, we are entitled to receive
license fees in an amount equal to 2.5% of the first $5 million of annual
revenues from the restaurant and 4% of annual revenues in excess of $5 million.
San Jose City Bar and Grill. In conjunction with our entry into the hotel
restaurant market and pursuant to the Hotel Property Agreement, in May 1998, we
began providing management services at the City Bar & Grill at the San Jose
Hilton. In September 2002 the agreement relating to our management of the City
Bar and Grill was converted to a license agreement under which we, with HRP,
were entitled to receive license fees equal to the greater of $2,500 per month
or 1.5% on sales. In 2004 the agreement was terminated.
Skokie Daily Grill. In September 2000, pursuant to the Hotel Property
Agreement, a licensed Daily Grill restaurant was opened in the DoubleTree Hotel
in Skokie, Illinois. Under the terms of the license, the hotel operator paid
all costs to build and open the restaurant and we, with HRP, are entitled to a
license fee equal to the greater of $65,000 increased by 4% per year or 2% of
sales per year.
BUSINESS EXPANSION
Our expansion plans focus on the addition of Daily Grill restaurants with
selected expansion of the Grill restaurant concept also planned.
Management continually reviews possible expansion into new markets and
within existing markets. Such reviews entail careful analysis of potential
locations to assure that the demographic make-up and general setting of new
restaurants is consistent with the patterns which have proven successful at the
existing Daily Grills and Grills. While the general appearance and operations of
future Daily Grills and Grill restaurants are expected to conform generally to
those of existing facilities, we intend to monitor the results of any
modifications to our existing restaurants and to incorporate any successful
modifications into future restaurants. All future restaurants are expected to
feature full bar service.
11
Our future expansion efforts are expected to concentrate on (1) expansion
into new markets through a combination of Company owned restaurants and the
establishment of hotel based restaurants pursuant to the Hotel Property
Agreement, and (2) expansion within existing markets through the opening of
non-hotel based restaurants. With the assistance of HRP, we expect to establish
name recognition and market presence through the opening of Daily Grill and
Grill restaurants in fine hotel properties in strategic markets throughout the
United States. Upon establishing name recognition and a market presence in a
market, we intend to construct and operate clusters of restaurants within those
markets. Management intends to limit the construction and operation of Grill
restaurants to one restaurant per market while constructing multiple Daily Grill
restaurants within each market. The exact number of Daily Grill restaurants to
be constructed within any market will vary depending upon population,
demographics and other factors.
At December 26, 2004, we operated non-hotel based Daily Grill and Grill
restaurants in Southern California, principally the greater-Los Angeles market,
and metropolitan Washington, D.C. In March 2005, we opened a non-hotel based
Daily Grill in Santa Monica, California and we plan to open a non-hotel based
Daily Grill in downtown Los Angles, California in the second quarter of 2005.
Management is presently evaluating the opening of additional non-hotel based
Daily Grill and Grill restaurants in existing markets and in other major
metropolitan areas. Existing markets will be evaluated for expansion in order
to establish market presence and economies of scale. As of March 2005,
negotiations are under way for several sites, however no definitive site had
been identified for future construction of restaurants. Management anticipates
that the cost to open additional Daily Grill and Grill restaurants will average
$325 per square foot per restaurant, less tenant improvement allowances, with
each restaurant expected to be approximately 6,000 to 7,000 square feet in size.
Actual costs may vary significantly depending upon the tenant improvements,
market conditions, rental rates, labor costs and other economic factors
prevailing in each market in which we pursue expansion.
At December 26, 2004, hotel based Daily Grill restaurants were operated
under management or licensing agreements in Southern California, Washington,
D.C., Skokie, Illinois, San Francisco, California, Houston, Texas, and Portland,
Oregon and hotel based Grill restaurants were operated in San Jose, California
and Chicago, Illinois. We, and HRP, are presently evaluating the opening of
additional hotel based Daily Grill restaurants in existing markets and in other
major metropolitan areas. Each hotel restaurant arrangement will be negotiated
separately and the size of the restaurants, ownership and operating arrangements
and capital investment on our part may vary widely. We opened a hotel-based
company owned Daily Grill restaurant in Bethesda, Maryland in January 2004 and a
hotel-based managed restaurant in Long Beach, California in November 2004.
STARWOOD DEVELOPMENT AGREEMENT
On July 27, 2001, in conjunction with the purchase by Starwood Hotels and
Resorts of 666,667 shares of our common stock and 666,667 $2.00 warrants for
$1,000,000, we and Starwood entered into a Development Agreement under which we
and Starwood agreed to jointly develop our restaurant properties in Starwood
hotels.
Under the Starwood Development Agreement, either we, or Starwood, may
propose to develop a Daily Grill, Grill or City Bar and Grill restaurant in a
Starwood hotel property. If the parties agree in principal to the development
of a restaurant, the parties will attempt to negotiate either a management
agreement or a license agreement with respect to the operation of the
restaurant.
So long as Starwood continues to meet certain development thresholds set
forth in the Development Agreement, we are prohibited from developing, managing,
operating or licensing our restaurants in any hotel owned, managed or franchised
by a person or entity, other than Starwood, with more than 50 locations operated
under a single brand. Existing hotel based restaurants are excluded from the
exclusive right of Starwood. The development thresholds required to be
satisfied to maintain Starwood's exclusive development rights require,
generally, (1) the signing of an average of one management agreement or license
agreement with respect to Daily Grill restaurants annually over the life of the
Development Agreement, (2) the signing of one management agreement or license
agreement in any two year period with respect to Grill restaurants, and (3) the
signing of an aggregate average of three management agreements or license
agreements with respect to all of our restaurants annually over the life of the
Development Agreement. Satisfaction of the thresholds set forth in the
Development Agreement are determined on each anniversary of the Development
Agreement. With respect to satisfaction of the specific thresholds applying to
Daily Grill restaurants and Grill restaurants, the failure to satisfy the
development thresholds with respect to those individual brands will terminate
the exclusivity provisions relative to such brand but will not affect the
exclusivity rights as to the other brand or in general.
12
Under the Development Agreement, we are obligated to issue to Starwood
warrants to acquire a number of shares of our common stock equal to four percent
of the outstanding shares upon the attainment of certain development milestones.
Such warrants are issuable upon execution of management agreements and/or
license agreements relating to the development and operation, and the
commencement of operation, of an aggregate of five, ten, fifteen and twenty of
our branded restaurants. If the market price of our common stock on the date
the warrants are to be issued is greater than the market price on the date of
the Development Agreement, the warrants will be exercisable at a price equal to
the greater of (1) 75% of the market price as of the date such warrant becomes
issuable, or (2) the market price on the date of the Development Agreement. If
the market price of our common stock on the date the warrants are to be issued
is less than the market price on the date of the Development Agreement, the
warrants will be exercisable at a price equal to the market price as of the date
such warrants become issuable. The warrants will be exercisable for a period of
five years.
In addition to the warrants described above, if and when the aggregate
number of restaurants operated under the Development Agreement exceeds 35% of
the total Daily Grill, Grill and City Grill-branded restaurants, we will be
obligated to issue to Starwood a warrant to purchase a number of shares of our
common stock equal to 0.75% of the outstanding shares on that date exercisable
for a period of five years at a price equal to the market price at that date.
On each anniversary of that date on which the restaurants operated under the
Development Agreement continues to exceed the 35% threshold, for so long as the
Development Agreement remains effective, we shall issue to Starwood additional
warrants to purchase 0.75% of the outstanding shares on that date at an exercise
price equal to the market price on that date.
Following the events of September 11, 2001, Starwood substantially
curtailed new development activities and only two management agreements have, as
yet, been entered into under the Development Agreement. Certain portions of the
exclusivity agreement have terminated due to the lack of performance on
Starwood's part.
RESTAURANT MANAGEMENT
We strive to maintain quality and consistency in our restaurants through
the careful hiring, training and supervision of personnel and the adherence to
standards relating to food and beverage preparation, maintenance of facilities
and conduct of personnel. We believe that our concept and high sales volume
enable us to attract quality, experienced restaurant management and hourly
personnel. We have experienced a relatively low turnover at every level at its
Daily Grill and Grill restaurants. See "-- Daily Grill Restaurants" above.
Each Daily Grill and Grill restaurant, including both free standing and
hotel-based restaurants, is managed by one general manager and up to four
managers or assistant managers. Each restaurant also has one head chef and one
or two sous chefs, depending on volume. On average, general managers have
approximately seven years experience in the restaurant industry and three years
with us. The general manager has primary responsibility for the operation of the
restaurant and reports directly to an Area Director who in turn reports to our
Vice President of Operations. In addition to ensuring that food is prepared
properly, the head chef is responsible for product quality, food costs and
kitchen labor costs. Each restaurant has approximately 77 employees.
Restaurant operations are standardized, and a comprehensive management manual
exists to ensure operational quality and consistency.
We maintain financial and accounting controls for each Daily Grill and
Grill restaurant through the use of a "point-of-sale" computer system integrated
with centralized accounting and management information systems. Inventory,
expenses, labor costs, and cash are carefully monitored with appropriate control
systems. With the current systems, revenue and cost reports, including food and
labor costs, are produced every night reflecting that day's business. The
restaurant general manager, as well as corporate management, receives these
daily reports to ensure that problems can be identified and resolved in a timely
manner. All employees receive appropriate training relating to cost, revenue
and cash control. Financial management and accounting policies and procedures
are developed and maintained by our Corporate Controller, Director of
Information Systems, and Chief Financial Officer.
All managers participate in a comprehensive six-week training program
during which they are prepared for overall management of the dining room. The
program includes topics such as food quality and preparation, customer service,
food and beverage service, safety policies and employee relations. In addition,
we have developed training courses for assistant managers and chefs. We
typically have a number of employees involved in management training, so as to
provide qualified management personnel for new restaurants. Our senior
management meets bi-weekly with each restaurant management team to discuss
business issues, new ideas and revisit the manager's manual. Overall
performance at each location is also monitored with shoppers' reports, guest
comment cards and third party quality control reviews.
13
Servers at each restaurant participate in approximately ten days of
training during which the employee works under close supervision, experiencing
all aspects of the operations both in the kitchen and in the dining room. The
extensive training is designed to improve quality and customer satisfaction.
Experienced servers are given responsibility for training new employees and are
rewarded with additional hourly pay plus other incentives. Management believes
that such practice fosters a cooperative team approach which contributes to a
lower turnover rate among employees. Representatives of corporate management
regularly visit the restaurants to ensure that our philosophy, strategy and
standards of quality are being adhered to in all aspects of restaurant
operations.
PURCHASING
We have developed proprietary recipes for substantially all the items
served at our Daily Grill and Grill restaurants. In order to assure quality and
consistency at each of the Daily Grill and Grill restaurants, ingredients
approved for the recipes are ordered on a unit basis by each restaurant's head
chef from a supplier designated by our Vice President-Purchasing. Because of
the emphasis on cooking from scratch, virtually all food items are purchased
"fresh" rather than frozen or pre-cooked, with the exception being bread, which
is ordered from a central supplier which prepares the bread according to a
proprietary recipe and delivers daily to assure freshness. In order to reduce
food preparation time and labor costs while maintaining consistency, we work
with outside suppliers to produce a limited number of selected proprietary items
such as salad dressings, soups and seasoning combinations.
We utilize our point-of-sale computer system to monitor inventory levels
and sales, then order food ingredients daily based on such levels. We employ
contract purchasing in order to lock in food prices and reduce short-term
exposure to price increases. Our Vice President-Purchasing establishes general
purchasing policies and is responsible for controlling the price and quality of
all ingredients. The Senior Vice President - Culinary in conjunction with our
team of chefs, constantly monitors the quality, freshness and cost of all food
ingredients. All essential food and beverage products are available, or upon
short notice can be made available, from alternative qualified suppliers.
ADVERTISING AND MARKETING
Our marketing philosophy is to provide our guests with an exceptional and
enjoyable dining experience that creates loyalty and frequent visits. Our
marketing and promotional efforts have been fueled historically by our quality
reputation, word of mouth, and positive local reviews. The Grill on the Alley
and The Daily Grill have been featured in articles and reviews in numerous local
as well as national publications. We supplement our reputation with a program of
marketing and public relations activities designed to keep the Daily Grill and
Grill name before the public. Such activities include media advertising, direct
mail promotions, a birthday club, as well as holiday and special interest
events. We also support and participate in local charity campaigns. These
activities are managed by a full time Director of Marketing. A toll free
phone-in guest survey is utilized to gather guest feelings on their dining
experience. During 2004, expenditures for advertising and promotion were
approximately 0.9% of total revenues.
COMPETITION
The Daily Grill restaurants compete within the mid-price, full-service
casual dining segment. Daily Grill competitors include national and regional
chains, such as Cheesecake Factory and Houston's, as well as local
owner-operated restaurants. Grill restaurants compete within the fine dining
segment. Grill competitors include a limited number of national fine dining
chains as well as selected local owner-operated fine dining establishments.
Competition for our hotel-based restaurants is primarily limited to restaurants
within the immediate proximity of the hotels.
The restaurant business is highly competitive with respect to price,
service, restaurant location and food quality and is affected by changes in
consumer tastes, economic conditions and population and traffic patterns. We
believe we compete favorably with respect to these factors. We believe that our
ability to compete effectively will continue to depend in large measure on our
ability to offer a diverse selection of high quality, fresh food products with
an attractive price/value relationship served in a friendly atmosphere.
14
EMPLOYEES
We, and our subsidiaries, employ approximately 1,408 people, 35 of whom are
corporate personnel and 124 of whom are restaurant managers, assistant managers
and chefs. The remaining employees are restaurant personnel. Of our employees,
approximately 40% are full-time employees, with the remainder being part-time
employees.
Management believes that its employee relations are good at the present
time. An anonymous employee survey is taken each year and the results are
disseminated to keep corporate and restaurant management aware of the level of
employee satisfaction.
With the exception of the Chicago Grill on the Alley, none of our employees
are represented by labor unions or are subject to collective bargaining or other
similar agreements. The current union contract expires in August 2005.
Management believes that its employee relations are good at the present time.
TRADEMARKS AND SERVICE MARKS
We regard our trademarks and service marks as having significant value and
as being important to our marketing efforts. We have registered our "Daily
Grill" mark and logo and our "Satisfaction Served Daily," "Think Daily," "Daily
Grind" and other marks with the United States Patent and Trademark Office as
service marks for restaurant service, and have secured California state
registration of such marks. Our policy is to pursue registration of our marks
and to oppose strenuously any infringement.
GOVERNMENT REGULATION
We are subject to various federal, state and local laws affecting our
business. Each of our restaurants is subject to licensing and regulation by a
number of governmental authorities, which may include alcoholic beverage
control, health and safety, and fire agencies in the state or municipality in
which the restaurants are located. Difficulties or failures in obtaining or
renewing the required licenses or approvals could result in temporary or
permanent closure of our restaurants.
Alcoholic beverage control regulations require each of our restaurants to
apply to a state authority and, in certain locations, county and municipal
authorities for a license or permit to sell alcoholic beverages on the premises.
Typically, licenses must be renewed annually and may be revoked or suspended for
cause at any time. Alcoholic beverage control regulations relate to numerous
aspects of the daily operation of our restaurants, including minimum age of
patrons and employees, hours of operation, advertising, wholesale purchasing,
inventory control, and handling, storage and dispensing of alcoholic beverages.
We may be subject in certain states to "dram-shop" statutes, which
generally provide a person injured by an intoxicated person the right to recover
damages from an establishment which served alcoholic beverages to such person.
In addition to potential liability under "dram-shop" statutes, a number of
states recognize a common-law negligence action against persons or
establishments which serve alcoholic beverages where injuries are sustained by a
third party as a result of the conduct of an intoxicated person. We presently
carry liquor liability coverage as part of our existing comprehensive general
liability insurance.
Various federal and state labor laws govern our relationship with our
employees, including such matters as minimum wage requirements, overtime and
other working conditions. Significant additional government-imposed increases
in minimum wages, paid leaves of absence and mandated health benefits, or
increased tax reporting requirements for employees who receive gratuities, could
be detrimental to the economic viability of our restaurants. Management is not
aware of any environmental regulations that have had a material effect on us to
date.
ITEM 2. PROPERTIES
With the exception of certain properties that may be operated pursuant to
management arrangements or partnership or joint venture arrangements, all of our
restaurants are located in space leased from unaffiliated third parties. The
leases have initial terms ranging from 10 to 25 years, with varying renewal
options on all but one of such leases. Most of the leases provide for a base
rent plus payment of real estate taxes, insurance and other expenses, plus
additional percentage rents based on revenues of the restaurant. See
"Business."
15
The Grill restaurant in San Jose is located in space leased from a hotel
management company that may be deemed to be controlled by one of our directors,
Lewis Wolff.
Our executive offices are located in 5,000 square feet of office space
located in Los Angeles, California. Such space is leased from an unaffiliated
party pursuant to a lease expiring in May 2007.
Management believes that our existing restaurant and executive office space
is adequate to support current operations. We intend to lease, from time to
time, such additional office space and restaurant sites as management deems
necessary to support our future growth plans.
ITEM 3. LEGAL PROCEEDINGS
Restaurants such as those we operate are subject to litigation in the
ordinary course of business, most of the related costs we expect to be covered
by our general liability insurance. However, punitive damages awards are not
covered by general liability insurance. Punitive damages are routinely claimed
in litigation actions against us. There can be no assurance that punitive
damages will not be given with respect to any actions that may arise in the
future.
In June 2004, one of our former hourly restaurant employees filed a class
action lawsuit against us in the Superior Court of California of Orange County.
We requested and were granted a motion to move the suit from Orange County to
Los Angeles County. The lawsuit was then filed in the Superior Court of
California of Los Angeles County in December 2004. The plaintiff has alleged
violations of California labor laws with respect to providing meal and rest
breaks. The lawsuit sought unspecified amounts of penalties and other monetary
payments on behalf of the plaintiffs and other purported class members. We
believe that all of our employees were provided with the opportunity to take all
required meal and rest breaks. The Company filed a motion to dismiss several of
the claims, which is scheduled to be argued in court in May 2005. Concurrently,
discovery is continuing in these matters and we intend to vigorously defend our
position in all of these matters although the outcome cannot be ascertained at
this time.
In November 2004, a sexual harassment case was filed against the Company in
Superior Court of California of Los Angeles. We filed a motion to dismiss and
the case was dismissed with the plaintiff having the right to re-file. The
plaintiff re-filed the case. We filed a second motion to dismiss in March 2005
as we believe the suit is unfounded.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of our stockholders through the
solicitation of proxies, or otherwise, during the fourth quarter of our fiscal
year ended December 26, 2004.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY RELATED STOCKHOLDER
MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is currently traded in the over-the-counter market and is
quoted on the Nasdaq Small-Cap Market ("Nasdaq") under the symbol "GRIL". The
following table sets forth the high and low bid price per share for our common
stock for each quarterly period during the last two fiscal years:
High Low
----- -----
2003 - First Quarter 1.620 0.830
Second Quarter 2.850 1.050
Third Quarter 2.950 2.010
Fourth Quarter 2.900 1.940
2004 - First Quarter 3.650 2.460
Second Quarter 3.440 1.800
Third Quarter 2.960 1.550
Fourth Quarter 2.530 1.450
16
The quotations reflect inter-dealer prices without retail mark-up,
mark-down or commission and may not represent actual transactions.
At April 11, 2005, the closing bid price of our Common Stock was $2.75.
As of April 11, 2005, there were approximately 1,200 holders of record of
our Common Stock.
We have never declared or paid any cash dividend on our Common Stock and do
not expect to declare or pay any such dividend in the foreseeable future.
17
ITEM 6. SELECTED FINANCIAL DATA
The following tables present selected historical consolidated financial
data derived from our consolidated financial statements. The financial results
for fiscal years 2003, 2002, 2001 and 2000 have been restated. See footnote 1 to
the consolidated financial statements for the impact of the restatement on the
2003 and 2002 results. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" for a discussion of the impact of the
restatement on 2001 and 2000. The following data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our consolidated financial statements included elsewhere herein.
Fiscal Year Ended December
-------------------------------------------------------------
2004 2003 2002 2001 2000
--------- -------- --------- --------- ---------
Restated Restated Restated Restated
(In thousands except per share data)
Statement of Operations Data:
Sales $ 49,938 $ 45,858 $ 41,826 $ 45,022 $ 45,454
Reimbursed managed outlet operating expenses 12,439 9,728 7,270 3,594 3,510
Management and license fees 1,282 1,037 901 771 957
--------- -------- --------- --------- ---------
Total revenues 63,659 56,623 49,997 49,387 49,921
Operating expenses:
Cost of sales 14,465 13,274 11,927 12,915 13,605
Restaurant operating expenses 30,552 28,050 25,649 27,100 27,272
Managed outlet operating expenses 12,439 9,772 7,557 3,594 3,510
General and administration 4,472 3,696 3,426 3,381 3,142
Depreciation and amortization 2,005 1,816 1,868 1,838 1,655
Pre-opening costs 167 182 69 199 330
Gain on sale of assets (2) (11) (71) (225) -
Unusual charges - - - - 73
--------- -------- --------- --------- ---------
Total 64,098 56,779 50,425 48,802 49,587
Income (loss) from operations (439) (156) (428) 585 334
Interest expense, net (272) (331) (364) (564) (580)
--------- -------- --------- --------- ---------
Income (loss) before taxes and minority
interest (711) (487) (792) 21 (246)
Provision for income taxes (65) (89) (37) (65) (14)
Minority interest 814 704 422 110 (59)
--------- -------- --------- --------- ---------
Net income (loss) 38 128 (407) 66 (319)
--------- -------- --------- --------- ---------
Preferred dividends accrued (50) (50) (50) (50) (50)
--------- -------- --------- --------- ---------
Net income (loss) applicable to
common stock $ (12) $ 78 $ (457) $ 16 $ (369)
========= ========= ========= ========= =========
Net income (loss) per share applicable
to common stock:
Basic $ 0.00 $ 0.01 $ (0.08) $ 0.00 $ (0.09)
========= ========= ========= ========= =========
Diluted $ 0.00 $ 0.01 $ ( 0.08) $ 0.00 $ (0.09)
========= ========= ========= ========= =========
Weighted average shares outstanding
Basic 5,608,541 5,537,071 5,537,071 4,776,741 4,104,360
========= ========= ========= ========= =========
Diluted 5,608,541 5,640,842 5,537,071 4,776,741 4,104,360
========= ========= ========= ========= =========
18
Fiscal Year Ended December
-------------------------------------------------------------
2004 2003 2002 2001 2000
--------- -------- --------- --------- ---------
Restated Restated Restated Restated
(In thousands except per share data)
Balance Sheet Data:
Working capital surplus (deficit) $ 209 $ 378 $ (1,045) $ (628) $(2,702)
Total assets 19,749 17,047 16,579 17,321 16,069
Long-term debt, less
current portion 977 1,254 1,743 2,371 3,842
Stockholders' equity 3,830 3,744 3,616 4,023 1,866
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Form 10-K contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. The Company's actual results could differ materially from
those set forth in the forward-looking statements. Certain factors that might
cause such a difference are discussed in the section entitled "Certain Factors
Affecting Future Operating Results" beginning on page 38 of this Form 10-K.
GENERAL
Grill Concepts develops, owns and operates casual dining restaurants under
the name "Daily Grill" and fine dining restaurants under the name "The Grill on
the Alley." Additionally, we manage or license other restaurant properties.
Our revenues are derived from sales at company-owned restaurants,
management and license fees from restaurants managed or licensed by us and
reimbursements of operating expenses of managed outlets.
During the fiscal year ended December 26, 2004, we owned and operated, for
the full fiscal year, thirteen restaurants (ten Daily Grill and four Grill
restaurants), including two Daily Grill and three Grill restaurants owned in
partnership with third parties. During fiscal 2004, we also operated one fully
owned Daily Grill that opened in January.
Also during fiscal 2004, we managed or licensed, for the full fiscal year,
six Daily Grill restaurants. During fiscal 2004, we commenced management of one
Daily Grill that opened in November and terminated our license relating to the
San Jose City Bar and Grill.
During the fiscal year ended December 28, 2003, we owned and operated, for
the full fiscal year, thirteen restaurants (nine Daily Grill and four Grill
restaurants), including one Daily Grill and three Grill restaurants owned in
partnership. During 2003, we also operated one Daily Grill that opened in
January and is owned in partnership.
Also during fiscal 2003, we managed or licensed, for the full fiscal year,
seven restaurants (six Daily Grill and one City Bar and Grill restaurant).
During fiscal 2003, we commenced management of one Daily Grill that opened in
September.
Sales revenues are derived from sales of food, beer, wine, liquor and
non-alcoholic beverages. Approximately 73% of combined 2004 sales were food and
27% were beverage. Sales revenues from restaurant operations are primarily
influenced by the number of restaurants in operation at any time, the timing of
the opening of such restaurants and the sales volumes of each restaurant.
Management and license fee revenues are derived from individually
negotiated arrangements by which we manage restaurants on behalf of third
parties or license to third parties the right to operate Daily Grill
restaurants. Management and license fees are primarily influenced by the number
of management and license arrangements in place, the negotiated management or
license fee and the revenues of the managed or licensed restaurants. Management
and license fees typically range from five to eight percent of gross sales of
the subject restaurants.
Revenues derived from reimbursement of operating expenses of managed
outlets relate to contractual undertakings relating to managed restaurants
wherein we assume responsibility for some or all operating expenses of managed
restaurants and the restaurant owner undertakes to reimburse all of those
expenses. Pursuant to the guidance of EITF 01-14 and EITF 99-19, we are
considered to be the primary obligor with respect to the reimbursed expenses
and, as such, report the reimbursed expenses as revenues with the expenses being
reported as "Reimbursed Costs" under operating expenses.
19
Expenses are comprised primarily of cost of food and beverages, restaurant
operating expenses, including payroll, rent and occupancy costs and reimbursed
costs. Our largest expenses are payroll and the cost of food and beverages,
which is primarily a function of the price of the various ingredients utilized
in preparing the menu items offered at our restaurants. Restaurant operating
expenses consist primarily of wages paid to part-time and full-time employees,
rent, utilities, insurance and taxes. Reimbursed costs are costs incurred on
behalf of managed restaurants that are reimbursable by the managed restaurant.
We typically analyze these costs as a percentage of restaurant sales, not total
revenues.
In addition to restaurant operating expenses, we pay certain general and
administrative expenses that relate primarily to operation of our corporate
offices. Corporate office general and administrative expenses consist primarily
of salaries of officers, management personnel and clerical personnel, rent,
legal and accounting costs, travel, insurance and office expenses.
RESTATEMENT OF FINANCIAL STATEMENTS
The Company began a review of its lease accounting policies following
announcements in February 2005 that the Chief Accountant of the Securities and
Exchange Commission ("SEC") issued a letter to the American Institute of
Certified Public Accountants regarding lease accounting issues. As a result of
our review, the Company has revised its accounting for leases in 2004 and
restated its historical financial statements as of December 28, 2003 and for
each of the two years in the period then ended, as well as the historical
financial data as of and for the fiscal years 2001 and 2000 and the 2003 and
2004 quarterly financial data, to correct for these errors in its lease
accounting. The Company has also corrected the accounting for complimentary
meals and promotional activities as part of this restatement process.
Historically, the Company recognized straight-line rents and amortized
lessor lease incentives using the initial non-cancelable term of the lease
commencing on the date rent payments began. Under generally accepted accounting
principles, the Company should have recognized rent expense (net of the related
lessor lease incentive amortization) on a straight-line basis over the term of
the lease as defined in SFAS No. 13 which begins on the later of when the
Company had access to the site or the lease is executed. The impact of correctly
calculating rent expense and lessor lease incentive amortization was to increase
restaurant operating expenses and decrease general and administrative expenses
by $117,000 and $1,000, respectively, for fiscal year 2003, to decrease
restaurant operating expenses and general and administrative expenses by $61,000
and $4,000, respectively, for fiscal year 2002, to decrease restaurant operating
expenses and general and administrative expenses by $135,000 and $18,000,
respectively, for fiscal year 2001, and to increase restaurant operating
expenses and decrease general and administrative expenses by $32,000 and
$80,000, respectively, for fiscal year 2000. The Company also increased other
current assets by $1,116,000 and $228,000 in fiscal years 2003 and 2002,
respectively, to recognize a receivable for tenant improvement allowances to be
received, increased fixed assets by $272,000 in fiscal year 2002 to recognize
additional construction in progress and increased long-term liabilities by
$2,862,000, $2,129,000, $1,694,000 and $1,849,000 for deferred rent and lease
incentives, to properly reflect the correct lease accounting in each of the
fiscal years 2003, 2002, 2001 and 2000, respectively.
In closing the 2004 books and records, the Company also reviewed the
estimated useful lives that it was using to amortize its leasehold improvements.
In the case of six restaurants, it was found that the incorrect lives had been
used. The Company has revised the amortization period to reflect the shorter of
their estimated useful lives or the initial lease term. The impact of the change
is to increase depreciation and amortization expense by $70,000, $69,000,
$76,000 and $15,000 in fiscal years 2003, 2002, 2001, 2000, respectively.
A portion of the above adjustments was recorded on the books of the LLC's
in which we have a majority ownership or we consolidate under FIN 46R. As
discussed in the footnotes to the consolidated financial statements the Company
allocates results to the minority interests based on the underlying economics of
the investment. The impact of the above adjustments increased/(decreased) the
amount of loss allocated to the minority interests by $256,000, $6,000 and
($16,000) in fiscal years 2003, 2002 and 2001, respectively, and increased the
amount of income allocated to the minority interests by $22,000 in fiscal year
2000.
20
During fourth quarter of 2004, the Company eliminated amounts that had
previously been recorded as restaurant sales revenue arising from complimentary
meals and promotional activities. The Company's previous method of recording
these activities as restaurant sales revenue at the full retail price of each
item with a corresponding increase in operating expense is not in accordance
with generally accepted accounting principles. Historically the amounts
associated with complimentary meals and promotional activities have been
recorded as restaurant revenues, with an offsetting amount in restaurant
operations and corporate general and administrative expenses. As revised, the
Company has eliminated the complimentary portion of meals and promotional
activities from revenues and operating expenses. As a result of these
adjustments, revenue and expenses were decreased by $1.7 million, $1.5 million,
$1.5 million and $1.4 million in fiscal years 2003, 2002, 2001 and 2000,
respectively. These adjustments have no impact on previously reported net
income.
The individual per share impact of each adjustment noted above was not
considered material. The overall impact on earnings per share is shown below in
the tables that follow.
The above revisions impacted the balance sheets, statements of operations
and statements of cash flows for each of the fiscal years 2000 to 2003. The
impact of all the above is as follows:
The following table reflects the effects of the restatement on the
Consolidated Balance Sheet:
DECEMBER 28, 2003
As previously reported Restated
Prepaid expenses and other
current assets $ 612,000 $ 1,728,000
Total current assets 3,931,000 5,047,000
Furniture, equipment and
improvements, net 11,061,000 10,988,000
Total Assets 16,005,000 17,047,000
Other Long Term Liabilities 2,734,000 5,596,000
Total Liabilities 8,657,000 11,519,000
Minority Interest 2,058,000 1,784,000
Accumulated Deficit (8,311,000) (9,857,000)
Total Stockholders Equity 5,290,000 3,744,000
Total Liabilities & Equity 16,005,000 17,047,000
DECEMBER 29, 2002
As previously reported Restated
Prepaid expenses and other
current assets $ 532,000 $ 760,000
Total current assets 3,285,000 3,513,000
Furniture, equipment and
improvements, net 11,088,000 11,356,000
Total Assets 16,083,000 16,579,000
Other Long Term Liabilities 1,739,000 3,868,000
Total Liabilities 8,040,000 10,169,000
Minority Interest 2,811,000 2,794,000
Accumulated Deficit (8,369,000) (9,985,000)
Total Stockholders Equity 5,232,000 3,616,000
Total Liabilities & Equity 16,083,000 16,579,000
DECEMBER 30, 2001
As previously reported Restated
Furniture, equipment and
improvements, net $ 11,687,000 $ 11,752,000
Total Assets 17,256,000 17,321,000
Other Long Term Liabilities 1,864,000 3,558,000
Total Liabilities 9,259,000 10,953,000
Minority Interest 2,356,000 2,345,000
Accumulated Deficit (7,960,000) (9,578,000)
Total Stockholders Equity 5,641,000 4,023,000
Total Liabilities & Equity 17,256,000 17,321,000
21
DECEMBER 28, 2000
As previously reported Restated
Furniture, equipment and
improvements, net $ 12,230,000 $ 12,372,000
Total Assets 15,927,000 16,069,000
Other Long Term Liabilities 1,960,000 3,809,000
Total Liabilities 10,940,000 12,789,000
Minority Interest 1,441,000 1,414,000
Accumulated Deficit (7,964,000) (9,644,000)
Total Stockholders Equity 3,546,000 1,866,000
Total Liabilities & Equity 15,927,000 16,069,000
The following table reflects the effects of the restatement on the Consolidated
Statement of Operations:
December 28, 2003 December 29, 2002
As previously Restated As previously Restated
reported reported
------------------------------- -------------------------------
Sales $ 47,578,000 $ 45,858,000 $ 43,336,000 $ 41,826,000
Total Revenues 58,343,000 56,623,000 51,507,000 49,997,000
Restaurant operating expenses 29,535,000 28,050,000 27,082,000 25,649,000
General & administrative 3,815,000 3,696,000 3,568,000 3,426,000
Depreciation & amortization 1,746,000 1,816,000 1,799,000 1,868,000
Total operating expenses 58,313,000(1) 56,779,000 51,931,000(1) 50,425,000
Income (loss) from operations 30,000 (156,000) (424,000) (428,000)
Loss before taxes & minority
interest (301,000) (487,000) (788,000) (792,000)
Loss before minority interest (390,000) (576,000) (825,000) (829,000)
Minority interest 448,000 704,000 416,000 422,000
Net income (loss) 58,000 128,000 (409,000) (407,000)
Net income (loss) applicable
to common stock 8,000 78,000 (459,000) (457,000)
Net income (loss) per share
applicable to common stock:
Basic Net Income (loss) $ 0.00 $ 0.01 $ (0.08) $ (0.08)
Diluted Net Income (loss) $ 0.00 $ 0.01 $ (0.08) $ (0.08)
22
December 30, 2001 December 31, 2000
As previously Restated As previously Restated
reported reported
------------------------------- -------------------------------
Sales $ 46,541,000 $ 45,022,000 $ 46,809,000 $ 45,454,000
Total Revenues 50,906,000 49,387,000 51,276,000 49,921,000
Restaurant operating expenses 28,624,000 27,100,000 28,460,000 27,272,000
General & administrative 3,530,000 3,381,000 3,357,000 3,142,000
Depreciation & amortization 1,762,000 1,838,000 1,640,000 1,655,000
Total operating expenses 50,399,000(1) 48,802,000 50,975,000(1) 49,587,000
Income from operations 507,000 585,000 301,000 334,000
Income (loss) before taxes
& minority interest (57,000) 21,000 (279,000) (246,000)
Loss before minority interest (122,000) (44,000) (293,000) (260,000)
Minority interest 126,000 110,000 (37,000) (59,000)
Net income (loss) 4,000 66,000 (330,000) (319,000)
Net income (loss) applicable
to common stock (46,000) 16,000 (380,000) (369,000)
Net income (loss) per share
applicable to common stock:
Basic Net Income $ (0.01) $ 0.00 $ (0.09) $ (0.09)
Diluted Net Income $ (0.01) $ 0.00 $ (0.09) $ (0.09)
(1) Includes cost of sales amounts that were not included in the "Total
operating expenses" subtotal in prior financial statements.
23
RESULTS OF OPERATIONS
The following table sets forth certain items as a percentage of total
revenues from our Statements of Operations during 2004, 2003 and 2002. As noted
above, we typically analyze our operating expenses as a percentage of sales
revenues, not total revenues.
Fiscal Year Ended December
--------------------------
2004 2003 2002
---- ---- ----
Restated Restated
Sales revenues 78.5% 81.0% 83.7%
Cost reimbursements 19.5 17.2 14.5
Management and licensing fees 2.0 1.8 1.8
------ ------ ------
Total revenues 100.0 100.0 100.0
Cost of sales 22.7 23.4 23.9
Restaurant operating expense 48.0 49.5 51.3
Reimbursed costs 19.5 17.4 15.1
General and administrative expense 7.0 6.5 6.9
Depreciation and amortization 3.2 3.2 3.7
Pre-opening costs 0.3 0.3 0.1
Gain on sale of assets (0.0) (0.0) (0.1)
------ ------ ------
Total operating expenses 100.7 100.3 100.9
------ ------ ------
Operating income (loss) (0.7) (0.3) (0.9)
Interest expense, net (0.4) (0.6) (0.7)
------ ------ ------
Loss before income tax (1.1) (0.9) (1.6)
Provision for taxes (0.1) (0.2) (0.1)
Minority interest 1.3 1.3 0.8
------ ------ ------
Net income (loss) 0.1% 0.2% (0.9)%
======= ====== =======
FISCAL YEAR 2004 COMPARED TO FISCAL YEAR 2003
Revenues. Revenues for 2004 increased 12.4% to $63.7 million from $56.6
million in 2003. Sales revenues increased 8.9% to $49.9 million in 2004 from
$45.9 million in 2003. Reimbursed managed outlet operating expenses increased
27.9% to $12.4 million from $9.7 million in 2003. Management and license fee
revenues increased to $1.3 million in 2004 from $1.0 million in 2003. The
restaurant sales information excludes revenue related to reimbursed operating
expenses and management and license fees.
Sales for Daily Grill restaurants increased by 12.5% from $30.1 million in
2003 to $33.8 million in 2004. The increase in sales revenues for the Daily
Grill restaurants from 2003 to 2004 was primarily attributable to an increase in
same store sales of 4.6% ($1.3 million) for restaurants open for 12 months in
both 2004 and 2003 and opening of the Bethesda Daily Grill ($2.9 million) and a
decrease at our South Bay Daily Grill ($400,000). Weighted average weekly sales
at the Daily Grill restaurants decreased 1.1% from $58,052 in 2003 to $57,757 in
2004.
Sales for Grill restaurants increased by 2.1% from $15.8 million in 2003 to
$16.1 million in 2004. The increase in sales revenues for the Grill restaurants
from 2003 to 2004 was attributable to the improved check averages partially
offset by decreased guest counts. Weighted average weekly sales at the Grill
restaurants increased 2.1% from $75,971 in 2003 to $77,545 in 2004.
Selected price increases may be implemented from time to time in the
future, consistent with the casual dining industry and how the economy fares.
Future revenue growth is expected to be driven principally by a combination of
expansion into new markets and the opening of additional restaurants and
establishment of market share in those new markets as well as increases in guest
count at existing restaurants and selected price increases. When entering new
markets where we have not yet established a market presence, sales levels are
expected to be lower than in existing markets where we have a concentration of
restaurants and high customer awareness. Although our experience in developing
markets indicates that the opening of multiple restaurants within a particular
market results in increased market share, decreases in comparable restaurant
sales could result.
24
Cost reimbursements increased in 2004 primarily due to the full year
operation of Portland Daily Grill, the opening of Long Beach Daily Grill and
improved sales at other managed restaurants.
Management and license fee revenues during 2004 were attributable to (1)
hotel restaurant management services which accounted for $1,073,000 of
management fees, and (2) licensing fees from the LAX Daily Grill, Skokie,
Illinois Daily Grill and the San Jose City Bar and Grill which totaled $209,000.
The increase in management fees during 2004 was attributable to (1) management
of the Portland Daily Grill open a full year compared to 15 weeks in 2003, (2) a
26.6% increase in sales at the San Francisco Daily Grill and (3) sales increase
of over 6% at the Georgetown Daily Grill, Burbank Daily Grill and Houston Daily
Grill. We have reserved 100% of the Portland management due to slower than
expected sales. We terminated the licensed operation of the San Jose City Bar
and Grill in 2004.
Operating Expenses and Operating Results. Total operating expenses,
including cost of sales, restaurant operating expenses, reimbursed costs,
general and administrative expense, depreciation and amortization, and
pre-opening costs, increased 12.9% to $64.1 million in 2004 from $56.8 million
in 2003.
Cost of Sales. Cost of sales consists exclusively of the cost of food and
beverages sold. Cost of sales increased by 9.0% ($1.2 million) and increased
slightly as a percentage of sales to 29.0% in 2004 compared to 28.9% in 2003.
The increase in cost of sales reflects the opening of new restaurants and higher
revenues, generally. The slight increase in cost of sales as a percentage of
sales reflects fluctuation in food costs.
Restaurant Operating Expenses. Restaurant operating expenses consist of
wages and benefits of restaurant personnel and all other operating expenses. The
operating expenses include, but are not limited to, supplies, advertising,
occupancy, maintenance and utilities. Restaurant operating expenses increased
8.9% to $30.6 million in 2004 from $28.1 million in 2003. As a percentage of
sales, restaurant operating expenses represented 61.2% in both 2004 and 2003.
The opening during 2004 of the Bethesda Daily Grill accounted for $1.9 million
of the increase. For comparable restaurants the expenses as a percentage of
sales improved slightly to 60.3% from 60.5% in 2003.
Reimbursed Costs. Reimbursed costs increased 27.3% from $9.8 million in
2003 to $12.4 million in 2004. These expenses represent the operating costs for
which we are the primary obligor of the restaurants we do not consolidate. The
increase is primarily due to the full year operations of the Portland Daily
Grill, the opening of the Long Beach Daily Grill and improved sales at other
restaurants.
General and Administrative. General and administrative expenses rose to
$4.5 million in 2004 compared to $3.7 million in 2003. General and
administrative expenses represented 7.0% of total revenues in 2004 as compared
to 6.5% of total revenues in 2003. The increase was the result of higher payroll
and related benefits related to building staff for our growth ($367,000),
increased professional services ($248,000), increased travel due to new
locations ($76,000), and reserve for uncollected management fees ($109,000).
Depreciation and Amortization. Depreciation and amortization expense was
$2.0 million during 2004 and $1.8 million in 2003. The increase was due
primarily to the addition of the Bethesda Daily Grill.
Pre-opening costs. Pre-opening costs totaled $167,000 in 2004 as compared
with $182,000 in 2003. These pre-opening costs were attributable to the opening
in January 2003 of the South Bay Daily Grill and the opening of the Bethesda
Daily Grill in January 2004.
Interest Expense. Interest expense, net, totaled $272,000 during 2004 as
compared to $331,000 in 2003. The decrease in interest expense was primarily
attributable to reduced debt levels as a result of the maturing of loans.
Provision for income taxes. The income tax provision for 2004 and 2003 are
due mainly to state taxes as the company has a federal net operating loss to
carry forward. The tax rates in 2004 and 2003 were comprised of the federal and
state statutory rates, less any permanent items and tax credits based on the
annual estimated effective tax rates for the respective years.
25
Minority Interest. We reported a minority interest in the loss of our
majority owned subsidiaries of $814,000 during 2004, consisting of a minority
interest in the earnings of San Jose Grill on the Alley, LLC of $154,000, a
minority interest in the loss of The Grill on Hollywood, LLC of $357,000, a
minority interest in the loss of The Daily Grill at Continental Park, LLC of
$483,000, a minority interest in the loss of the 612 Flower Daily Grill LLC of
$3,000 and a partnership loss in the Universal CityWalk Daily Grill of $125,000.
During 2003 we reported a minority interest in the loss of our majority owned
subsidiaries of $704,000, consisting of a minority interest in the earnings of
San Jose Grill on the Alley, LLC of $141,000, a minority interest in the loss of
The Grill on Hollywood, LLC of $366,000 and a minority interest allocation from
The Daily Grill at Continental Park of $334,000 and partnership loss in the
Universal CityWalk Daily Grill of $145,000. The Company allocates profits and
losses to the minority interest in its partially owned subsidiaries based on the
underlying economics of the investment. These may or may not reflect the
Company's ownership percentage and can be inconsistent with the allocation
provisions specified in the joint venture agreements. Where there is a disparity
among the ownership percentages, the terms of the agreements and the underlying
economics, the Company utilizes a hypothetical liquidation model to allocate
profits and losses. Under this model, all of the venture's assets and
liabilities as reflected in the balance sheet are assumed to be realized at
their GAAP carrying values. The hypothetical liquidating proceeds are calculated
at the end of each period and applied to the capital accounts as would occur
under a true liquidation scenario. The change in this balance from period to
period represents the investors' share of the income or loss.
Net Income. We reported a net income of $38,000 in 2004 as compared to a
net income of $128,000 in 2003.
FISCAL YEAR 2003 COMPARED TO FISCAL YEAR 2002
Revenues. Revenues for 2003 increased 13.3% to $56.6 million from $50.0
million in 2002. Sales revenues increased 9.6% to $45.9 million in 2003 from
$41.8 million in 2002. Reimbursed managed outlet operating expenses increased
33.8% to $9.7 million from $7.3 million in 2002. Management and license fee
revenues increased to $1.0 million in 2003 from $0.9 million in 2002. The
restaurant sales information excludes revenue related to reimbursed operating
expenses and management and license fees.
Sales for Daily Grill restaurants increased by 10.7% from $27.2 million in
2002 to $30.1 million in 2003. The increase in sales revenues for the Daily
Grill restaurants from 2002 to 2003 was primarily attributable to a increase in
same store sales of 5.3% ($1.3 million) for restaurants open for 12 months in
both 2003 and 2002 and opening of the South Bay Daily Grill ($2.6 million),
offset by the closure of the Encino Daily Grill ($0.5 million) and the Cherry
Hill Pizzeria Uno ($0.5 million). Weighted average weekly sales at the Daily
Grill restaurants increased 8.1% from $53,701 in 2002 to $58,052 in 2003.
Comparable restaurant sales and weighted average weekly sales at the Daily Grill
restaurants in 2003 were favorably affected approximately equally by increased
guest counts and improved average checks.
Sales for Grill restaurants increased by 8.1% from $14.6 million in 2002 to
$15.8 million in 2003. The increase in sales revenues for the Grill restaurants
from 2002 to 2003 was attributable to the improved check averages and increased
guest counts. Weighted average weekly sales at the Grill restaurants increased
from $70,252 in 2002 to $75,971 in 2003.
Reimbursed costs which represent employee and other operating expenses of
managed restaurants for which we are reimbursed by the restaurants increased in
2003 primarily due to the opening of Portland Daily Grill and the full year of
operations for San Francisco Daily Grill and Houston Daily Grill, which were
open for a partial year in 2002.
Management and license fee revenues during 2003 were attributable to (1)
hotel restaurant management services which accounted for $834,000 of management
fees, and (2) licensing fees from the LAX Daily Grill, Skokie, Illinois Daily
Grill and the San Jose City Bar and Grill which totaled $203,000. The increase
in management fees during 2003 was attributable to (1) management of the San
Francisco Daily Grill open a full year compared to 44 weeks in 2002, (2)
management of the Houston Daily Grill for the full year compared to 25 weeks in
2002 and (3) management of the Portland Daily Grill for 15 weeks in 2003.
26
Operating Expenses and Operating Results. Total operating expenses,
including cost of sales, restaurant operating expenses, managed outlet operating
expenses, general and administrative expense, depreciation and amortization, and
pre-opening costs, increased 12.6% to $56.8 million in 2003 from $50.4 million
in 2002.
Cost of Sales. Cost of sales consists exclusively of the cost of food and
beverages sold. While sales revenues increased by 9.6% ($4.0 million) in 2003
as compared to 2002, cost of sales increased by 11.3% ($1.3 million) and
increased as a percentage of sales from 28.5% in 2002 to 28.9% in 2003. The
increase in cost of sales as a percentage of restaurant sales was attributable
to higher beef costs during the second half of the year.
Restaurant Operating Expenses. Restaurant operating expenses consist of
wages and benefits of restaurant personnel and all other operating expenses.
The operating expenses include, but are not limited to, supplies, advertising,
occupancy, maintenance and utilities. Restaurant operating expenses increased
9.4% to $28.1 million in 2003 from $25.7 million in 2002. As a percentage of
restaurant sales, restaurant operating expenses represented 61.3% in 2003
compared to 61.3% in 2002. The dollar increase in restaurant operating expenses
followed the sales increase and was negatively impacted by increases in
marketing, stock option compensation expense, workers' compensation and general
insurance. The decrease in operating expenses as a percentage of sales resulted
from improved labor management.
Reimbursed Costs. Reimbursed costs expenses increased 29.3% from $7.6
million in 2002 to $9.8 million in 2003. These expenses represent the operating
costs for which we are the primary obligor of the restaurants we do not
consolidate. The increase is primarily due to the opening of the Portland Daily
Grill and the full year of operations for San Francisco Daily Grill and Houston
Daily Grill, which were open for a partial year in 2002.
General and Administrative. General and administrative expenses rose
slightly to $3.7 million in 2003 compared to $3.4 million in 2002. General and
administrative expenses represented 6.5% of total revenues in 2003 as compared
to 6.9% of total revenues in 2002. While these expenses in total were nearly
equal, there were increases in payroll and related benefits, stock option
compensation expense, professional services and rent, partially offset by
decreases in recruitment costs and office expenses.
Depreciation and Amortization. Depreciation and amortization expense was
$1.8 million during 2003 and $1.9 million during 2002.
Pre-opening Costs. Pre-opening costs totaled $182,000 in 2003 as compared
with $69,000 in 2002. These pre-opening costs were attributable to the opening
in January 2003 of the South Bay Daily Grill and the opening of the Bethesda
Daily Grill in January 2004.
Interest Expense. Interest expense, net, totaled $331,000 during 2003 as
compared to $364,000 in 2002. The decrease in interest expense was primarily
attributable to the maturing of the loans.
Provision for income taxes. The income tax provision for 2003 and 2002
are due mainly to state taxes as the company has a federal net operating loss to
carry forward. The tax rates in 2003 and 2002 were comprised of the federal and
state statutory rates, less any permanent items and tax credits based on the
annual estimated effective tax rates for the respective years.
Minority Interest. We reported a minority interest in the loss of our
majority owned subsidiaries of $704,000 during 2003, consisting of a minority
interest in the earnings of San Jose Grill on the Alley, LLC of $141,000, a
minority interest in the loss of The Grill on Hollywood, LLC of $366,000, a
minority interest in the loss of The Daily Grill at Continental Park, LLC of
$334,000 and a partnership loss in the Universal CityWalk Daily Grill of
$145,000. We reported a minority interest in the loss of our majority owned
subsidiaries of $422,000 for the year ended December 29, 2002 comprised of a
minority interest in the earnings of San Jose Grill on the Alley, LLC of
$111,000, a minority interest in the loss of The Grill on Hollywood, LLC of
$307,000 and a minority interest allocation from The Daily Grill at Continental
Park of $3,000 and a partnership loss in the Universal CityWalk Daily Grill of
$229,000.
Net Income/(Loss). We reported net income of $128,000 in 2003 as compared
to a net loss of $407,000 for 2002.
27
LIQUIDITY AND CAPITAL RESOURCES
CASH POSITION AND SHORT-TERM LIQUIDITY. At December 26, 2004, we had a
working capital surplus of $209,000 and a cash balance of $1.4 million as
compared to a working capital surplus of $378,000 and a cash balance of $1.5
million at December 28, 2003. In 2004 we generated cash from operations of
$4.1 million which included tenant improvement allowances of $2.1 million,
purchased fixed assets of $2.9 million increased restricted cash of $0.8
million and repaid debt of $0.5 million. During 2003 we generated cash from
operations of $1.8 million used cash to purchase fixed assets of $1.4 million
and repay debt of $0.7 million.
Our need for capital resources historically has resulted from, and for the
foreseeable future is expected to relate primarily to, the construction and
opening of new restaurants. Funds necessary to operate restaurants under
management agreements are usually funded by cash generated by the restaurants.
Sales from these outlets are deposited into an agency account belonging to the
owner and we pay the outlet operating expenses, including our fee, from this
agency account. Historically, we have funded our day-to-day operations through
operating cash flows that have ranged from a $803,000 to $4.1 million over the
past three fiscal years. Growth has been funded through a combination of bank
borrowing, loans from stockholders/officers, the sale of debentures and stock,
loans and tenant allowances from certain of our landlords, and, beginning in
1999, through joint venture arrangements.
FINANCING FACILITIES. At December 26, 2004, the Company had $45,000 owing
under equipment leasing financing transactions, an obligation to a member of
Chicago - The Grill on the Alley, LLC of $1.0 million for a guaranteed return of
its invested capital, loans from stockholders/ officers/directors of $0.2
million, equipment loans of $0.2 million, and loans/advances from a landlord of
$0.1 million.
On August 1, 2000, we received a $400,000 loan from private individuals.
The loan bears interest at 9% and is payable in monthly installments over four
years. In connection with the loan, we issued 40,000 warrants. In June 2001
the lender became a member of our Board of Directors and the loan was
reclassified as related party debt. The loan had been paid in full at December
26, 2004.
In June 2004, we finalized an agreement with respect to the establishment
of a new bank credit facility to replace our facility that expired in October
2004. Under the terms of the new bank credit facility, we have been provided
with financing in the form of a revolving line of credit in the amount of
$500,000, an irrevocable standby letter of credit in the amount of $700,000,
increased to $860,000 in January 2005, and equipment financing in the amount of
$500,000. The facility has a one-year term, is secured by assets and is subject
to certain standard borrowing covenants. We have not utilized any funds from the
current or prior lines of credit dating back to 2001 except for $45,000 of
equipment leasing in 2004; therefore, there should be no negative impact if the
current facility is not extended. Interest is at the bank's variable reference
rate. Although we were in default of a covenant at year-end, the bank has
granted us a waiver.
We held preliminary talks with the bank to renew its existing credit lines
for another year. Given the expected capital expenditures of approximately
$600,000 (net of $3.5 million in both landlord reimbursements and joint venture
contributions) for the new restaurants planned for 2005 and refurbishments on
existing restaurants, management believes we will be able to meet our expected
obligations from our existing cash flow from operations if it is unable to
secure bank financing.
OPERATING LEASES. During 2004, we, and our subsidiaries, were obligated
under eighteen leases covering the premises in which our Daily Grill and Grill
Restaurants are located as well as leases on our executive offices. Such
restaurant leases and the executive office lease contain minimum rent provisions
which provided for the payment of minimum aggregate annual rental payments of
approximately $3.7 million in 2004 and percentage rent obligations, above and
beyond minimum rent, of $0.7 million. Our minimum rent obligations for 2005 are
$3.3 million.
CONTRACTUAL OBLIGATIONS. Our only material contractual obligations
requiring determinable future payments on our part are various notes payable and
our leases relating to our executive offices and restaurants, each of which is
described above.
28
The following table details our contractual obligations as of December
26, 2004:
Payments due by period
-----------------------------------------------------------------------------
Total 2005 2006 - 2007 2008 - 2009 Thereafter
Long-term debt $ 1,467,000 $ 490,000 $ 386,000 $ 465,000 $ 126,000
Capital lease obligations - - - - -
Operating lease commitments 25,062,000 3,282,000 6,103,000 4,753,000 10,924,000
Other contractual purchase
Obligations - - - - -
Other long-term liabilities - - - - -
------------ -------------- -------------- ------------ ------------
Total $26,529,000 $ 3,772,000 $6,489,000 $5,218,000 $11,050,000
------------ -------------- -------------- ------------ ------------
COMMITMENTS RELATING TO MANAGED RESTAURANTS AND LLCS. Funds necessary to
operate restaurants under management agreements are usually funded by cash
generated by the restaurant. Sales from these outlets are deposited directly
into an agency account belonging to the owner and we pay the outlet operating
expenses, including our fee, from this agency account. We began management in
February 2002, of the San Francisco Daily Grill in the Handlery Hotel in Union
Square. Cost of opening the Handlery Hotel Daily Grill in San Francisco was
$2.8 million, of which we contributed approximately $331,000, with the balance
being paid by the hotel owners.
We began management of a hotel-based Daily Grill in the Westin Galleria in
Houston, Texas on July 10, 2002. Under the terms of the Management Agreement,
we advanced $64,000 to the restaurant for initial working capital which has
since been repaid in full.
We began management in September 2003, of the Portland Daily Grill in the
Portland Westin Hotel in Portland, Oregon. Under the terms of the Management
Agreement, we had no cash obligations for initial advances or construction
costs.
We began management in November 2004, of the Long Beach Daily Grill in the
Hilton Hotel in Long Beach, California. Under the terms of the Management
Agreement, we had no cash obligations for initial advances or construction
costs.
Under certain of our operating and management agreements we have an
obligation to potentially make additional cash advances and/or contributions and
may not realize any substantial returns for some time. The agreements and
arrangements under which we may be required to make cash advances or
contributions, guarantee obligations or defer receipt of cash are:
CITYWALK. The CityWalk management agreement requires that each member
loan, interest free, to the joint venture 50 percent of any operating
deficit forecast for the next quarter, such loans to be repaid out of the
first cash available from operations. Each time funds were necessary, we
have agreed with our partner, to consider the advances additional capital
contributions rather than loans. As of December 26, 2004, we had made
additional capital contributions to the CityWalk Partnership of $201,000.
SAN FRANCISCO DAILY GRILL. The management agreement for the San
Francisco Daily Grill stipulates that if in any month there is insufficient
working capital to pay operating expenses, excluding payments to us or the
owner, we will provide one-half of the required working capital. Such
advances are to be repaid prior to deferred payments to us or the owner. No
working capital advances have been necessary.
PORTLAND DAILY GRILL. The management agreement for the Portland Daily
Grill stipulates that the Owner shall provide working capital of no less
than $50,000 or more than $150,000. If during any month there is
insufficient working capital to pay for operating expenses the Owner agreed
to advance the required working capital until the balance of the Owner
Working Capital Advance equals $150,000. Thereafter if additional working
capital is necessary we as the manager will be required to loan it. Any
advances we make will earn interest at a rate of 12% per annum and will be
repaid as second priority behind owner's working capital advance but before
owner's return of capital. At December 26, 2004 the owner had advanced
$150,000.
29
CHICAGO - THE GRILL ON THE ALLEY. The Operating Agreement and the
Senior Promissory Note for Chicago - The Grill on the Alley, LLC stipulates
that the non-manager member shall receive a preferred return of eight
percent on its capital contribution and a payment on its converted capital
prior to any distribution of cash. We have guaranteed the repayment of the
Senior Promissory Note as well as the contributed capital for Chicago - The
Grill on the Alley.
THE GRILL ON HOLLYWOOD. The Operating Agreement for The Grill on
Hollywood, LLC stipulates that 90% of distributable cash shall go to the
non-managing member until its preferred return, unrecovered contribution
and any additional contribution have been returned. As of December 26, 2004
no cash has been distributed.
SAN JOSE GRILL. The Operating Agreement for San Jose Grill, LLC
stipulates that distributable cash shall be paid first 10% to the manager
and 90% to the members in proportion to their ownership percentage until
initial capital is recovered, then as a preferred return on the capital
contributions to both members in proportion to their ownership percentage,
then to the managing member and non-managing member in proportion to their
ownership percentage until the additional capital contribution is
recovered, and finally 16 2/3% to the manager and the balance to the
members in proportion to their ownership percentages.
Our San Jose Grill, Chicago - Grill on the Alley, Grill on Hollywood and
South Bay Daily Grill restaurants are each owned by limited liability companies
(the "LLCs") for which we serve as manager and own a controlling interest. Each
of the LLCs has minority interest owners, some of whom have participating rights
in the joint venture such as the ability to approve operating and capital
budgets and the borrowing of money. In connection with the financing of each of
the LLCs, the minority members may have certain rights to priority distributions
of capital until they have received a return of their initial investments
("Return of Member Capital") as well as rights to receive defined preferred
returns on their invested capital ("Preferred Return").
Our Universal CityWalk Daily Grill is owned by a partnership for which we
serve as manager. Our partner has certain rights to priority distribution of
capital from the CityWalk partnership until they have received their initial
investments ("Return of Member Capital").
The following tables set forth a summary for each of the LLCs and the
partnership of (1) the initial capital contributions of the Company and the
minority LLC members or partner (the "Members"), (2) additional capital
contributions, (3) the distributions of capital to the Members and/or us during
the year ended December 26, 2004, (4) the unreturned balance of the capital
contributions of the Members and/or us at December 26, 2004, (5) the Preferred
Return rate to Members and/or us, (6) the accrued but unpaid preferred returns
due to the Members and/or us at December 26, 2004, (7) the management incentive
fees, if any, payable to us, and (8) a summary of the principal distribution
provisions. In each of the tables, the balance of distributable cash represents
cash available for distribution to the members after all obligations, including
minimum working capital advances, have been satisfied. The distribution
provisions outlined below are consistent with the order of distributions in a
liquidation scenario and are utilized for purposes of allocated profits and
losses under the liquidation model described elsewhere in this accounting policy
footnote under "Principles of Consolidation and Minority Interests."
SAN JOSE GRILL LLC
Initial Capital Contribution: Members (a) $1,149,650
===========
Company $ 350,350
===========
Distributions of profit during the year
ended December 26, 2004: Members $ 171,000
===========
Company $ 171,000
===========
Unreturned Initial Capital Contributions at
December 26, 2004: Members $ 0
===========
Company $ 0
===========
Preferred Return rate: Members 10%
Company 10%
Accrued but unpaid Preferred Returns at
December 26, 2004: Members $ 0
Company $ 0
Management Fee: Company 5%
30
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Initial Capital 10% to Company (Manager)
50.05% of 90% to Company
49.95% of 90% to Members
2 Until Return of Preferred Return 50.05% to Company
49.95% to Members
3 Until Return of Additional 50.05% to Company
Contributions 49.95% to Members
Thereafter:
4 Balance of distributable cash 16.67% to Company (Manager)
50.05% of 83.33% to Company
49.95% of 83.33% to Members
CHICAGO - GRILL ON THE ALLEY
Initial Capital Contribution: Members (b) $1,700,000
===========
Company $ 0
===========
Distributions of capital and note
repayments during the year ended
December 26, 2004: Members (b) $ 252,000
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,076,000
===========
Preferred Return rate: Members 8%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members $ 0
Management Fee: Company 5%
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Members Capital 100% to Members
2 Until Return of Preferred Return 100% to Members
Thereafter:
3 Balance of distributable cash 60% to Company
40% to Members
31
THE GRILL ON HOLLYWOOD LLC
Initial Capital Contribution: Members $1,200,000
===========
Company $ 250,000
===========
Distributions of capital during the year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,200,000
===========
Company $ 250,000
===========
Preferred Return rate: Members 12%
Company 12%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ 0
===========
Company (d) $ 0
===========
Management Fee: Company 5%
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Members Capital and 10% to Company (Manager)
Preferred Return 90% to Members
2 Until Return of Company's Capital 90% to Company (Manager)
and Preferred Return 10% to Members
Thereafter:
3 Balance of distributable cash 51% to Company
49% to Members
SOUTH BAY DAILY GRILL (CONTINENTAL PARK LLC)
Initial Capital Contribution: Members $1,000,000
===========
Company $ 350,000
===========
Additional Capital Contribution Members $ 0
===========
Company $ 100,000
===========
Distributions of capital during the year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,000,000
===========
Company $ 350,000
===========
Preferred Return rate: Members 10%
Company (c) 10%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ 0
===========
Company (d) $ 0
===========
Management Fee: Company 5%
32
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until payment in full of all deferred
management fees 100% to Company (Manager)
2 Until Return of Any Additional Ratably to Company and Members
Contributions and Preferred Returns
thereon
3 Until $300,000 is paid 33.3% to Company
66.7% to Members
4 Until Return of Members accrued and 10% to Company
unpaid preferred returns 90% to Members
5 Until Members Capital Contribution 10% to Company
Returned 90% to Members
6 Until Return of Company's Preferred 90% to Company
Return 10% to Members
7 Until Return of Company's Capital 90% to Company
Contribution 10% to Members
Thereafter
8 Balance of distributable cash 50.1% to Company
49.9% to Members
UNIVERSAL CITYWALK DAILY GRILL
Initial Capital Contribution: Members $1,100,000
===========
Company $ 0
===========
Additional Capital Contributions: Members $ 201,106
===========
Company $ 201,106
===========
Distributions of capital during year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial and Additional Capital
Contributions at December 26, 2004: Members $1,301,106
===========
Company $ 201,106
===========
Preferred Return rate: Members Prime rate
Company 0%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ -
===========
Company $ -
===========
Management Fee: Company 5%
33
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Additional Capital 50% to Company (Manager)
Contributions 50% to Members
2 Until Return of $550,000 of Members 0% to Company (Manager)
Capital Contribution 100% to Members
3 Until Members unpaid preferred 0% to Company (Manager)
return is paid in full 100% to Members
4 Until return of initial contribution 20% to Company (Manager)
and preferred return 80% to Members
Thereafter:
5 Balance of distributable cash 50% to Company
50% to Members
(a) The initial capital contributions of the Members of San Jose Grill LLC
consisted of a capital contribution of $349,650 and a loan of $800,000.
(b) The initial capital contributions of the Members of Chicago - Grill on the
Alley LLC consisted of a capital contribution of $1,000 and a loan of
$1,699,000. $1,189,000 of the loan was converted to capital in 1999. Under
the terms of the joint venture agreement, the LLC is obligated to repay
both the converted capital and loan and the Company guaranteed the joint
venture's payment of these obligations. Distributions of capital and note
repayments for the year ended December 26, 2004 includes $124,000 of
capital and note repayments and $128,000 of interest and preferred return.
No losses are allocated to the minority interest partner as the investor
has no equity at risk. The loan has been recognized as notes
payable-related parties.
(c) The Company's preferred return with respect to the South Bay Daily Grill is
based on unrecovered capital contribution and accrued but unpaid management
fees.
(d) Due to the poor performance of the restaurant the preferred return is not
being accrued. The Company is not liable to pay the preferred return
distributions, such that they represent a non-recourse obligation of the
subsidiary entity. If preferred returns were accrued for The Grill on
Hollywood the Member would have an accrued preferred return of $545,000 and
the Company would have an accrued preferred return of $113,000. If
preferred returns were accrued for South Bay Daily Grill the Member would
have an accrued preferred return of $215,000 and the Company would have an
accrued preferred return of $96,000. If preferred returns were accrued for
the CityWalk Partnership the Member would have an accrued return of
$430,000.
OFF-BALANCE SHEET ARRANGEMENTS. At December 26, 2004, we had no
off-balance sheet arrangements of the nature described in Item 303(a)(4) of
Regulation S-K.
CAPITAL EXPENDITURES. Management anticipates that new non-hotel based
restaurants will cost between $1 million and $2 million per restaurant to build
and open depending upon the location and available tenant allowances. Hotel
based restaurants may involve remodeling existing facilities, substantial
capital contributions from the hotel operators and other factors which will
cause the cost to us of opening such restaurants to be less than our cost to
build and open non-hotel based restaurants.
Capital expenditures were $1.6 million in 2002, $1.4 million in 2003 and
$2.9 million in 2004. Capital expenditures in fiscal 2005 are expected to be
between $0.2 million and $2.2 million, primarily for the development of new
restaurants, capital replacements and refurbishing existing restaurants. The
amount of actual capital expenditures will be dependent upon, among other
things, the proportion of free standing versus hotel based properties as hotel
based restaurants are expected to generally require lower capital investment on
our part. In addition, if we open more, or less, restaurants than we currently
anticipate, our capital requirements will increase, or decrease, accordingly.
34
In April 2004 we signed a lease for an owned restaurant in Santa Monica,
California. The restaurant opened March 14, 2005. Construction of the
restaurant was paid for through a $2.2 million tenant improvement allowance.
In June 2004 we signed a lease for a majority owned restaurant in Los
Angeles, California. The restaurant is scheduled to open in the second quarter
of 2005. Construction of the restaurant will be paid for through a $600,000
tenant improvement allowance, a $1,250,000 capital contribution from the
minority owner and a $251,000 capital contribution by us.
CONVERTIBLE SECURITIES. We previously issued various convertible
securities, warrants and common stock to finance restaurant openings in 1997 and
1998. 500 shares of Series II 10% Convertible Preferred Stock issued in that
transaction remained outstanding at December 26, 2004. All warrants issued in
that transaction expired in 2002.
The Series II 10% Convertible Preferred Stock is convertible into common
stock commencing one year from the date of issuance at the greater of (i) $4.00
per share, or (ii) 75% of the average closing price of our common stock for the
five trading days immediately prior to the date of conversion; provided,
however, that the conversion price shall in no event exceed $10.00 per share.
The Series II 10% Convertible Preferred Stock is entitled to receive an annual
dividend equal to $100 per share payable on conversion or redemption in cash or,
at our option, in common stock at the then applicable conversion price. The
Series II Convertible Preferred Stock is subject to redemption, in whole or in
part, at our option on or after the second anniversary of issuance at $1,000 per
share. Accrued dividends in arrears total $376,000 at December 26, 2004 and
$326,000 at December 28, 2003.
STARWOOD ALLIANCE
In July 2001, we completed a transaction with Starwood Hotels and Resorts
Worldwide, Inc. pursuant to which we sold 666,667 shares of restricted common
stock and 666,667 stock warrants at $2.00 to Starwood for $1,000,000.
Concurrently, we sold an additional 666,666 shares of restricted common stock
and 666,666 stock purchase warrants for $2.25 to other strategic investors for
$1,000,000. Proceeds reflected in the financial statements are net of
transaction costs.
In conjunction with the investment by Starwood, we and Starwood entered
into a Development Agreement under which we and Starwood agreed to jointly
develop our restaurant properties in Starwood hotels.
Under the Starwood Development Agreement, either we or Starwood may propose
to develop a Daily Grill, Grill or City Bar and Grill restaurant in a Starwood
hotel property. If the parties agree in principal to the development of a
restaurant, the parties will attempt to negotiate either a management agreement
or a license agreement with respect to the operation of the restaurant.
Under the Development Agreement, we are obligated to issue to Starwood
warrants to acquire a number of shares of our common stock equal to four percent
of the outstanding shares upon the attainment of certain development milestones.
Such warrants are issuable upon execution of management agreements and/or
license agreements relating to the development and operation, and the
commencement of operation, of an aggregate of five, ten, fifteen and twenty of
our branded restaurants. If the market price of our common stock on the date
the warrants are to be issued is greater than the market price on the date of
the Development Agreement, the warrants will be exercisable at a price equal to
the greater of (1) 75% of the market price as of the date such warrant becomes
issuable, or (2) the market price on the date of the Development Agreement. If
the market price of our common stock on the date the warrants are to be issued
is less than the market price on the date of the Development Agreement, the
warrants will be exercisable at a price equal to the market price as of the date
such warrants become issuable. The warrants will be exercisable for a period of
five years.
In addition to the warrants described above, if and when the aggregate
number of restaurants operated under the Development Agreement exceeds 35% of
the total Daily Grill, Grill and City Grill-branded restaurants, we will be
obligated to issue to Starwood a warrant to purchase a number of shares of our
common stock equal to 0.75% of the outstanding shares on that date exercisable
for a period of five years at a price equal to the market price at that date.
On each anniversary of that date at which the restaurants operated under the
Development Agreement continues to exceed the 35% threshold, for so long as the
Development Agreement remains effective, we shall issue to Starwood additional
warrants to purchase 0.75% of the outstanding shares on that date at an exercise
price equal to the market price on that date.
35
Following the events of September 11, 2001, Starwood substantially
curtailed new development activities and only two management agreements have, as
yet, been entered into under the Development Agreement. Exclusivity portions of
the agreement have terminated due to the lack of performance on Starwood's part.
TERMINATION OF PIZZERIA UNO OPERATIONS
In April 2002, we sold our Cherry Hill, New Jersey Pizza Restaurant, the
last of our Pizzeria Uno franchised restaurants, for net proceeds of $264,000.
RESTAURANT CLOSINGS
In April 2002, we closed our Encino, California Daily Grill restaurant when
the lease expired. Assets of the restaurant were sold for net proceeds of
$61,000.
In the third quarter of 2004, we terminated the licensed operation of our
San Jose City Bar and Grill restaurant.
SHORT-TERM FINANCING REQUIREMENTS
Management believes that we have adequate resources on hand and operating
cash flow to sustain operations for at least the following 12 months through
March 2006. We project increased operating cash flows in 2005 which, when added
to existing cash balances, will allow us to meet all operating, investing and
financing needs. Such projections are based on sales increases due to store
openings, as well as modest increases in same store sales. In the event of a
decline in sales, as a result of deterioration of the economy or the hospitality
industry or other factors, management believes it can respond to such a decrease
in sales through cost controls, reductions in discretionary capital improvements
and borrowings under the existing credit facility. In order to fund the opening
of additional restaurants, we might require additional capital that might be
raised through the issuance of debt or equity securities, or the formation of
additional investment/loan arrangements, or a combination thereof. We presently
have no commitments in that regard. See "Business -- Business Expansion" and
"Management's Discussion and Analysis -- Certain Factors Affecting Future
Operating Results."
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of
operations are based upon our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America. We believe the following critical accounting policies affect our more
significant judgments and estimates used in the preparation of our financial
statements.
Principals of Consolidation and Minority Interests
--------------------------------------------------
Our restaurant operations are conducted through multiple wholly-owned
subsidiaries as well as through four majority-owned limited liability companies
and through a 50% owned joint venture. Our consolidated financial statements
include balance sheet and income statement items, after eliminating
inter-company accounts and transactions, of each wholly-owned and majority-owned
subsidiary and entities consolidated under FIN 46. The allocated interest of
the earnings or loss of majority-owned subsidiaries attributable to the minority
owners of those subsidiaries is reflected in a single statement of operations
entry, with minority interests in earnings being a reduction in net income and
minority interests in losses being an increase in net income. The proportionate
interest in the equity of majority-owned subsidiaries attributable to the
minority owners of those subsidiaries is reflected as a single balance sheet
entry between liabilities and stockholders' equity.
We allocate profits and losses to the minority interest in our
majority-owned subsidiaries based on the underlying economics of the investment.
These may or may not reflect our ownership percentage and can be inconsistent
with the allocation provisions specified in the joint venture agreements. Where
there is a disparity among the ownership percentages, the terms of the
agreements and the underlying economics, we utilize a hypothetical liquidation
model to allocate profits and losses. Under this model, all of the ventures'
assets and liabilities as reflected in the balance sheet are assumed to be
realized at their GAAP carrying values. The hypothetical liquidating proceeds
are calculated at the end of each period and applied to the capital accounts as
would occur under a true liquidation scenario. The change in this balance from
period to period represents the investors' share of the income or loss.
Effective December 28, 2003 (the first day of fiscal year 2004), we
retroactively adopted the provisions of FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities, an interpretation of ARB No. 51."
36
Under FIN 46, an entity is considered to be a variable interest entity
("VIE") when it has equity investors which lack the characteristics of a
controlling financial interest, or its capital is insufficient to permit it to
finance its activities without additional subordinated financial support.
Consolidation of a VIE by an investor is required when it is determined that the
investor is the primary beneficiary and will absorb a majority of the VIE's
expected losses or residual returns if they occur.
Management has assessed all entities which are not wholly owned by us to
determine if these entities would be considered VIEs and whether we would be
considered the primary beneficiary. Upon adoption of FIN 46, it was determined
that all of the following entities would be considered VIEs: The San Jose Grill
LLC, Chicago - The Grill on the Alley LLC, The Grill on Hollywood LLC, The Daily
Grill at Continental Park LLC, and the Universal CityWalk Daily Grill joint
partnership. We determined that we are the primary beneficiary for all these
entities.
If we had not retroactively adopted FIN 46, it was determined that the San
Jose Grill, Chicago Grill and South Bay Daily Grill would not have been
consolidated because the minority interests' have rights which preclude
consolidation. The minority interests' rights in the San Jose LLC were deemed to
be material in that they vote on the approval of the construction, capital and
annual operating budgets as well as refinancing in excess of $10,000. The
minority interests' rights at Chicago are similar to San Jose except they do not
approve the operating budget. They do however approve construction and capital
budgets. The rights of the minority interest in South Bay are also considered
material, as borrowings in excess of $50,000 require the minority interest's
approval. The minority interest in Hollywood has no such rights, and therefore,
it was determined that we controlled the entity and consolidation would be
appropriate. In the restaurant business ongoing capital expenditures are
considered regular and routine, and as such, requiring approval on them from the
minority investor is evidence of material control.
Impairment of Long-Lived Assets
-------------------------------
We review all long-lived assets on a regular basis to determine if there
has been impairment in the value of those assets. If, upon review, it is
determined that the carrying value of those assets may not be recoverable, we
will record a charge to earnings and reduce the value of the asset on the
balance sheet to the amount determined to be recoverable.
For purposes of evaluating recoverability of long-lived assets, the
recoverability test is performed using undiscounted cash flows of the individual
restaurants and consolidated undiscounted net cash flows for long-lived assets
not identifiable to individual restaurants compared to the related carrying
value. If the undiscounted operating income is less than the carrying value,
the amount of the impairment, if any, will be determined by comparing the
carrying value of each asset with its fair value. Fair value is generally based
on a discounted cash flow analysis.
Based on our review of our presently operating restaurants and other
long-lived assets, during the fiscal year ended December 26, 2004, we recorded
no impairments of our long-lived assets.
Valuation of Accounts Receivable
-----------------------------------
We review all of our accounts receivable on a regular basis to determine
the collectability of each account based on age, response to collection efforts,
and other factors. We establish a reserve for those accounts where collection
seems doubtful. If a determination is made that the customer will definitely
not pay, the amount is written off against the reserve.
Based on our review at December 26, 2004, the current reserve for
uncollectable accounts receivable is adequate.
37
Recording Reimbursable Costs
----------------------------
We operate a number of restaurants under management agreements whereby we
are responsible for all aspects of restaurant operation. For our services, we
typically receive a management fee based on a percentage of revenue and an
incentive fee which is usually a profit sharing arrangement. Under the terms of
the management agreements, we are hired as an independent contractor and are
responsible for all debts and liabilities of the restaurant. Additionally, all
employees are employees of Grill Concepts, not the individual restaurant.
Although payroll and other operating expenses are paid out of an agency bank
account belonging to the restaurant, based on the weight of the indicators
identified in EIFT 01-14, "Income Statement Characterization of Reimbursements
Received for 'Out of Pocket' Expenses Incurred," and EITF 99-19, "Reporting
Revenue Gross as a Principal Versus Net as an Agent," we consider ourselves the
primary obligor in these arrangements. Accordingly, we recognize restaurant
expenses of the managed outlets in our financial statements and record the
reimbursement for such expenses as revenues.
HRP
---
The Company concluded that the options relating to HRP would be defined as
a derivative under FAS 133. However, because the purchase price was based on a
floating price, it was determined that the value of the put and call would be
identical so long as the formula resulted in a representative fair value of HRP.
The Company concluded that the multiple was based on fair value because the
original formula was negotiated between two parties. This fact was reconfirmed
when the HRP agreement was amended approximately three years later at the time
the Company entered into a development agreement with Starwood Hotels and the
multiple for the HRP put and call options did not change. We believe the
multiple used in the formula to be within a tolerable range of those found in
the marketplace. Therefore, management asserts that the formula is a reasonable
approximation of fair value of the HRP business that results in the put and call
options having similar values. Additionally, because fair market puts and calls
have little value on their own, any asset and liability related to these would
be insignificant. No derivative accounting is necessary in these circumstances
and therefore, no accounting recognition has been made in the financial
statements.
The Company will continue to evaluate the appropriateness of formula to
market conditions to ensure it represents fair market value, and will continue
to evaluate the formula going forward and to the extent it no longer represents
fair market value, will account for the derivative appropriately.
CERTAIN FACTORS AFFECTING FUTURE OPERATING RESULTS
This Form 10-K contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. Our actual results could differ materially from those set
forth in the forward-looking statements. Certain factors that might cause such
a difference include the following: adverse weather conditions and other
conditions affecting agricultural output which may cause shortages of key food
ingredients and volatility of food prices and which, in turn, may reduce
operating margins; changes in consumer tastes, demographics and adverse economic
conditions which may result in reduced frequency of dining at our restaurants;
the dependence on key personnel and ability to attract and retain qualified
management and restaurant personnel to support existing operations and future
growth; regulatory developments, particularly relating to labor matters (i.e.,
minimum wage, health insurance and other benefit requirements), health and
safety conditions, service of alcoholic beverages and taxation, which could
increase the cost of restaurant operations; establishment of market position and
consumer acceptance in new markets in light of intense competition in the
restaurant industry and the geographic separation of senior management from such
markets; potential delays in securing sites for new restaurants and delays in
opening restaurants which may entail additional costs and lower revenues than
would otherwise exist in the absence of such delays; the availability of capital
to fund future restaurant openings; rising energy costs and the occurrence of
rolling blackouts in California which may result in higher occupancy costs and
periodic restaurant closures. In addition to the foregoing, the following
specific factors may affect the Company's future operating results:
The anticipated opening of additional Daily Grill and Grill locations is
expected to result in the incurrence of various pre-opening expenses and high
initial operating costs which may adversely impact earnings during the first
year of operations of such restaurants. However, management anticipates that
each of such operations can be operated profitably within the first year of
operations and that the opening of each of the restaurants presently
contemplated will improve revenues and profitability.
38
In order to better manage the cost of our workers compensation expense,
commencing in 2004, we altered our workers compensation coverage to
substantially increase our per event and aggregate deductibles. As a result, we
expect to reduce our recurring cost of workers compensation insurance. On the
other hand, we will have substantially higher exposure to losses resulting from
claims under that policy should those claims exceed our prior deductible levels.
The employees of the Chicago restaurant are members of the Hotel Employees
and Restaurant Employees Union AFL-CIO. The union contract covering the Chicago
Grill will expire in August 2005. Under a new union contract, our labor costs
are expected to increase slightly.
We are presently party to litigation in which a former hourly restaurant
employee has alleged violations of California labor laws with respect to
providing meal and rest breaks. While we believe that all of our employees were
provided with the opportunity to take all required meal and rest breaks, many
restaurant operators in California have incurred substantial expenses in
settling similar claims and we may incur substantial expenses in connection with
defending or settling the pending litigation.
NEW ACCOUNTING REQUIREMENTS
In April 2004, the EITF reached final consensus on EITF 03-06,
"Participating Securities and the Two-Class Method under FASB Statement No.
128," which requires companies that have participating securities to calculate
earnings per share using the two-class method. This method requires the
allocation of undistributed earnings to the common shares and participating
securities based on the proportion of undistributed earnings that each would
have been entitled to had all the period's earnings been distributed. EITF 03-06
is effective for fiscal periods beginning after March 31, 2004 and earnings per
share reported in prior periods presented must be retroactively adjusted in
order to comply with EITF 03-06. The Company adopted EITF 03-06 for the quarter
ended June 27, 2004, however there has been no impact on the Company's financial
statements as the preferred shares are not participating securities.
On December 16, 2004, the Financial Accounting Standards Board (FASB)
issued FASB Statement No. 123 (revised 2004), Share-Based Payment, which is a
revision of FASB Statement No. 123, Accounting for Stock-Based Compensation.
Statement 123(R) supersedes APB No. 25, and amends FASB Statement No. 95,
Statement of Cash Flows. Generally, the approach in Statement 123(R) is similar
to the approach described in Statement 123. However, Statement 123(R) requires
all share-based payments to employees, including grants of employee stock
options, to be recognized in the statement of operations based on their fair
values. Pro forma disclosure is no longer an alternative.
As permitted by Statement 123, we currently account for share-based
payments to employees using APB No. 25's intrinsic value method and, as such,
generally recognize no compensation cost for employee stock options.
Accordingly, the adoption of Statement 123(R)'s fair value method may have a
significant impact on our result of operations, although it will have no impact
on our overall financial position. The impact of adoption of Statement 123(R)
cannot be predicted at this time because it will depend on levels of share-based
payments granted in the future. However, had we adopted Statement 123(R) in
prior periods, the impact of that standard would have approximated the impact of
Statement 123 as described in the disclosure of pro forma net income and
earnings per share above
We expect to adopt Statement 123(R) in the first quarter of 2006.
IMPACT OF INFLATION
Substantial increases in costs and expenses, particularly food, supplies,
labor and operating expenses, could have a significant impact on our operating
results to the extent that such increases cannot be passed along to customers.
We do not believe that inflation has materially affected our operating results
during the past two years.
A majority of our employees are paid hourly rates related to federal and
state minimum wage laws and various laws that allow for credits to that wage.
Our cost of operations have been affected by several increases in the Federal
and State minimum wage in recent years. In addition, further increases in the
minimum wage are also being discussed by the federal and various state
governments. Although we have been able to and will continue to attempt to pass
along increases in costs through food and beverage price increases, there can be
no assurance that all such increases can be reflected in our prices or that
increased prices will be absorbed by customers without diminishing, to some
degree, customer spending at its restaurants.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from changes in interest rates on funded
debt. This exposure relates to our credit line facility. At December 26, 2004
there are no borrowings under the credit line. Borrowings under the credit
facility bear interest at the lender's prime rate. A hypothetical 1% interest
rate change would not have a material impact on our results of operations.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our consolidated financial statements, together with the reports of our
independent registered public accounting firms appear herein. See Index to
Financial Statements on F-1 of this report.
39
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On October 18, 2004, we dismissed PricewaterhouseCoopers LLP ("PWC") as our
independent registered public accounting firm. On the same date, we appointed
Moss Adams LLP ("Moss Adams") as our new independent registered public
accounting firm.
The decision to dismiss PWC and appoint Moss Adams was recommended and
approved by our audit committee and board of directors.
PWC's reports on the financial statements for the years ended December
28, 2003 and December 29, 2002 did not contain an adverse or disclaimer of
opinion, and were not qualified or modified as to uncertainty, audit scope, or
accounting principles.
During the two years ended December 28, 2003 and the subsequent interim
period through October 18, 2004, there were no disagreements with PWC on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure, which disagreement(s) if not resolved to the
satisfaction of PWC, would have caused PWC to make reference to the subject
matter of the disagreement(s) in connection with its report.
During the two years ended December 28, 2003 and the subsequent interim
period through October 18, 2004, there have been no reportable events of the
type required to be disclosed by Item 304(a)(1)(v) of Regulation S-K.
Prior to the engagement of Moss Adams, we did not consult with such firm
regarding the application of accounting principles to a specific completed or
contemplated transaction, or any matter that was either the subject of a
disagreement or a reportable event. We also did not consult with Moss Adams
regarding the type of audit opinion which might be rendered on our financial
statements and no oral or written report was provided by Moss Adams.
We reported the change of independent accountants on a Form 8-K, provided
PWC with a copy of the disclosures contained therein, and filed with Form 8-K a
letter from PWC addressed to the Securities and Exchange Commission stating that
it agreed with the statements made by us in the Form 8-K in response to Item
304(a).
ITEM 9A. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures-We maintain disclosure controls and
procedures (as defined in Exchange Act Rule 13a-15(e) and 15d-15(e)) that are
designed to ensure that information required to be disclosed in our reports
under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms, and that such information is accumulated and
communicated to management, including our Chief Executive Officer ("CEO") and
Chief Financial Officer ("CFO"), as appropriate, to allow timely decisions
regarding required disclosure.
In designing and evaluating the disclosure controls and procedures, our
management recognized that any controls and procedures, no matter how well
designed and operated, can provide only reasonable assurance of achieving the
desired control objectives, as ours are designed to do, and our management
necessarily was required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.
40
In connection with the preparation of this Annual Report on Form 10-K, as
of December 26, 2004, an evaluation was performed under the supervision and with
the participation of our management, including the CEO and CFO, of the
effectiveness of the design and operation of our disclosure controls and
procedures. This evaluation was done in light of the two prior restatements of
our financial statements which occurred during fiscal year 2004.
In preparing the annual report on Form 10-K, our management considered all
disclosure controls and procedures and turned specific attention to our lease
accounting practices in light of the recent pronouncement of February 7, 2005 by
the Office of the Chief Accountant of the SEC in a letter to the AICPA. As a
result of our review, we have concluded that our previously established lease
accounting policies were incorrect.
In conjunction with our review of leases we also looked at the lives
utilized for depreciating our leasehold improvements. Although our policy was to
depreciate leasehold improvements over the shorter of their estimated useful
lives or the term of the lease as defined in SFAS No. 13, we found that in some
cases we were depreciating the assets incorrectly by using longer or shorter
lives. In preparing the year end financial statements we also determined that we
were incorrectly recording revenue and operating expenses for complimentary
meals and promotional activities.
In light of the above items, we restated our financial statements for each
of the years 2000 to 2003 and the first three quarters for fiscal year 2004 to
correct our accounting under Generally Accepted Accounting Principles.
Based on the material weaknesses described below, we concluded that our
disclosure controls and procedures were not effective at the reasonable
assurance level as of December 26, 2004.
Management's Consideration of the Restatement- On March 24, 2005, the Audit
Committee of the Board of Directors and senior management determined to restate
our previously issued financial statements to correct the errors noted above.
This decision follows two previous restatements of our historical financial
statements undertaken during fiscal year 2004. The underlying issue causing
these restatements is considered to be a material weakness as described below.
A material weakness is a control deficiency, or combination of control
deficiencies, that results in more than a remote likelihood that a material
misstatement of the annual or interim financial statements will not be prevented
or detected. As of December 26, 2004, the Company did not maintain effective
controls over the selection, application and monitoring of its accounting
policies to ensure that certain transactions were accounted for in conformity
with generally accepted accounting principles. Specifically, the control
deficiency resulted in the following:
a. During the first quarter review of 2004, the Company determined that its
stock option plans should have been accounted for using variable accounting
rather than fixed accounting. This resulted in restating employee compensation
expense for periods prior to the first quarter of 2004.
b. During the second quarter review of 2004, the Company determined that
(i) the Company's accounting for its joint ventures including loss allocations,
guarantees of returns and consolidation decisions were incorrect, (ii)
reimbursed costs related to management agreements should be presented on a
grossed-up basis as both revenue and expense, and (iii) the accounting for
certain equity awards needed to be adjusted. These items resulted in restating a
number of accounts for periods prior to the second fiscal quarter of fiscal year
2004.
c. The Company determined that it was incorrectly accounting for its leases
as well as the amortization of certain leasehold improvements. This resulted in
restating depreciation expense, rent expense, leasehold improvements,
receivables for tenant improvement allowances and liabilities for deferred rent
and lease incentives for periods prior to the fourth quarter of 2004.
d. The Company determined that it was incorrectly reporting revenues and
expenses for complimentary meals and promotional activities. This resulted in
restating revenues and operating expenses for all periods prior to the fourth
quarter of 2004.
This control deficiency resulted in the restatement of the Company's
consolidated financial statements for 2000 through 2003 for each of the quarters
for 2003 and for the first, second and third quarters for 2004 as well as
certain audit adjustments to the fourth quarter 2004 financial statements.
Additionally, this control deficiency could result in a misstatement of the
aforementioned accounts that would result in a material misstatement to annual
or interim financial statements that would not be prevented or detected.
Accordingly, management determined that this control deficiency constitutes a
material weakness. Because of this material weakness, we have concluded that the
Company did not maintain effective internal control over financial reporting as
of December 26, 2004, based on criteria in "Internal Control-Integrated
Framework" issued by the COSO.
Management's Remediation Efforts - Since the date of our first restatement
in fiscal year 2004 to the date of this report, we have worked diligently to
remediate the material weakness in the selection, application and monitoring of
our accounting policies to ensure that certain transactions were accounted for
in conformity with generally accepted accounting principles. During the second
and third quarters of 2004, we took steps to identify, rectify and prevent the
recurrence of the circumstances that resulted in our determination to restate
prior period financial statements, including reviewing the terms of our stock
option grant agreements in relation to the option plan agreement, reviewing the
terms of all our joint venture and related agreements, reviewing the accounting
for reimbursed costs under our management agreements and reviewing the
accounting for all our equity awards. During the first and second quarter of
fiscal year 2005, we have reviewed and summarized all the significant terms of
our leases, reviewed the depreciation calculations of our leasehold improvements
and instituted new accounting policies for complimentary meals and promotional
activities. As part of this undertaking, we have consulted with our independent
registered public accounting firm, increased emphasis on continuing education
for our accounting personnel, increased emphasis on reviewing applicable
accounting literature and implemented additional review procedures over the
selection and monitoring of our accounting policies. We believe continued
efforts in these areas will help enhance our system of internal controls and our
disclosure controls and procedures.
41
Change in Internal Control Over Financial Reporting - Except as otherwise
stated herein, there were no changes in our internal control over financial
reporting that occurred during our last fiscal quarter that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
ITEM 9B. OTHER INFORMATION
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
EXECUTIVE OFFICERS AND DIRECTORS
The following table sets forth the name, ages and current positions of our
directors and executive officers as of April 15, 2005:
NAME AGE POSITION
----------------- -- ----------------------------------------------------
Robert Spivak 61 President and Chief Executive Officer
Michael Weinstock 62 Chairman of the Board and Executive Vice President
John Sola 52 Senior Vice President - Culinary
Philip Gay 47 Executive Vice President and Chief Financial Officer
Glenn Golenberg 64 Director
Stephen Ross 56 Director
Lewis Wolff 69 Director
Bruce Schwartz 65 Director
Norman Macleod 54 Director
Except as noted below, each of the officers serves at the discretion of the
board of directors.
Our directors serve until the next annual meeting of shareholders or their
earlier resignation.
There are no family relationships among any of our officers or directors.
The following is a biographical summary of the business experience of our
present directors and executive officers:
ROBERT SPIVAK has served as our President, Chief Executive Officer and a
director since 1995. Mr. Spivak was a co-founder of our predecessor, Grill
Concepts, Inc. (a California corporation)("GCI") and served as President, Chief
Executive Officer and a director of GCI from the company's inception in 1988
until 1995. Prior to forming GCI, Mr. Spivak co-founded, and operated, The
Grill on the Alley restaurant in Beverly Hills in 1984. Mr. Spivak is a founder
and past president of the Beverly Hills Restaurant Association. Mr. Spivak also
chairs the executive advisory board of the Collins School of Hotel and
Restaurant Management at California State Polytechnic University at Pomona, is
Director Emeritus of the California Restaurant Association and is a member of
the Board of Directors of DiRoNA - Distinguished Restaurants of North America.
MICHAEL WEINSTOCK has served as our Executive Vice President and a director
since 1995 and as Chairman of the Board since 2000. From 1995 to 2000, Mr.
Weinstock served as Vice-Chairman of the Board. Mr. Weinstock was a co-founder
of GCI and served as Chairman of the Board, Vice President and a director of GCI
from 1988 until 1995. Prior to forming GCI, Mr. Weinstock co-founded The Grill
on the Alley restaurant in Beverly Hills in 1984. Mr. Weinstock previously
served as President, Chief Executive Officer and a director of Morse Security
Group, Inc., a security systems manufacturer.
JOHN SOLA has served as our Senior Vice President - Culinary since June
2004. Previously, Mr. Sola served as Executive Chef for GCI from 1988 until 1995
when he assumed the position of Vice President - Executive Chef of the Company
from which he was promoted in September 2001 to Vice President - Operations and
Development. Mr. Sola oversees all kitchen operations, including personnel,
food preparation and food costs, as well as monitoring and maintaining the
overall performance of the kitchens and establishing procedures and policies in
connection with the opening of new Daily Grill restaurants. Mr. Sola, along
with Mr. Spivak, created the Daily Grill menu. Prior to joining GCI, Mr. Sola
served as opening chef at The Grill on the Alley from inception in 1984 to 1988.
Previously, Mr. Sola served in various positions, including Executive Chef, at a
wide range of restaurants.
42
PHILIP GAY has served as our Executive Vice President and Chief Financial
Officer since July 2004. From March 2000 until he joined Grill Concepts in July
2004, Mr. Gay served as Managing Director of Triple Enterprises, a business
advisory firm that assisted mid-cap sized companies with financing, mergers and
acquisitions, franchising and strategic planning. From March 2000 to November
2001, Mr. Gay served as an independent consultant with El Paso Energy.
Previously he has served as Chief Financial Officer for California Pizza Kitchen
(1987 to 1994), Chief Financial Officer and Interim Chief Executive Officer for
Wolfgang Puck Food Company (1994 to 1996), Chief Executive Officer for Color Me
Mine and has held various Chief Operating Officer and Chief Executive Officer
positions with Diversified Food Group from 1996 to 2000. Mr. Gay is also on the
financial advisory board for Concours Consulting and is on the Board of Motor
Car Parts of America, a publicly traded company that remanufactures starters and
alternators. He is a Certified Public Accountant, a former audit manager at
Laventhol and Horwath and a graduate of the London School of Economics.
GLENN GOLENBERG has served as a Director since 1995. Mr. Golenberg is a
Managing Director of Golenberg & Company, formed in 1978, and The Bellwether
Group, LLC, merchant banking firms that invest in and provide consulting and
financial advisory services to a broad range of businesses. Prior to forming
Golenberg & Company, Mr. Golenberg served in various research and management
positions in the investment banking industry from 1966 to 1978. Previously, Mr.
Golenberg was a CPA with Arthur Andersen & Co.
STEPHEN ROSS has served as a Director since 2001. Mr. Ross is a consultant
and private investor. From 1989 to 2001, Mr. Ross served as Executive Vice
President - Special Projects for Warner Bros. Previously, Mr. Ross served as
Senior Vice President and General Counsel for Lorimar Telepictures Corporation,
and its predecessors, from 1981 to 1989. Since 2001, Mr. Ross has served as a
director of MAI Systems Corporation, an information technology solutions
provider for the hotel industry.
LEWIS WOLFF has served as a Director since 2001. Mr. Wolff is Chairman of
Wolff Urban Management, Inc.and Wolff Urban Development LLC, real estate
acquisition, investment, development and management firms. Mr. Wolff is also
co-founder and, since 1994, has served as Chairman of Maritz, Wolff & Co., a
privately held hotel investment group that acquires top-tier luxury hotel
properties. Maritz, Wolff's holdings exceed $1.0 billion. Mr. Wolff is
currently Chairman of Sunstone Hotel Investors Inc. (NYSE: SHO) and Managing
Partner of the Oakland Athletics Major League Baseball team.
BRUCE SCHWARTZ has served as a Director since 2004. Mr. Schwartz served,
from 1989 until his retirement in 2003, in various executive capacities with
Sysco Food Services of Los Angeles, Inc., a major food services company and
subsidiary of NYSE traded Sysco Corporation. From 1989 to 1996, Mr. Schwartz
served as President and Chief Operating Officer of Sysco Food Services and, from
1996 to 2003, Mr. Schwartz served as Chairman of the Board and Chief Executive
Officer of Sysco Food Services.
NORMAN MACLEOD has served as a Director since 2001. Mr. MacLeod served as
Executive Vice President of the Sheraton Hotels & Resorts division of Starwood
Hotels & Resorts Worldwide, Inc until 2005. Mr. MacLeod served in various
management positions with Starwood since 1996, beginning as Area Managing
Director for the North American Southeast operations of the company's Westin
Hotels & Resorts division and then Executive Vice President of the Westin Hotels
& Resorts division and, most recently, Executive Vice President, Operations,
North America Division. Previously, Mr. MacLeod served in various management
positions with Omni Hotels.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Under the securities laws of the United States, the Company's directors,
its executive officers, and any persons holding more than ten percent of the
Company's Common Stock are required to report their initial ownership of the
Company's Common Stock and any subsequent changes in that ownership to the
Securities and Exchange Commission. Specific due dates for these reports have
been established and the Company is required to disclose in this Proxy Statement
any failure to file by these dates during 2004. Based solely on a review of
such reports and written statements of its directors, executive officers and
shareholders, the Company believes that all of the filing requirements were
satisfied on a timely basis in 2004, except (1) Michael Weinstock filed one late
Form 4, (2) Stephen Ross filed one late Form 4, (3) Lewis Wolff filed one late
Form 4, (4) John Sola filed one late Form 4, and (5) Glenn Golenberg filed one
late Form 4.
43
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth information concerning cash and non-cash
compensation paid or accrued for services in all capacities to the Company
during the year ended December 26, 2004 of each person who served as the
Company's Chief Executive Officer during fiscal 2004 and the next four most
highly paid executive officers whose salary exceeded $100,000 (the "Named
Officers").
Long Term
Annual Compensation Compensation
Name and ---------------------- ----------------
Principal Position Year Salary($) Bonus($) Other ($) Stock Options(#)
------------------ ---- --------- -------- --------- ----------------
Robert Spivak 2004 259,123 -0- 48,050 (1) 25,000
President and 2003 244,039 -0- 55,178 (1) -0-
Chief Executive Officer 2002 235,000 -0- 33,500 (1) -0-
John Sola 2004 150,148 -0- -0- 6,000
Vice President - Operations 2003 151,460 -0- -0- 6,000
and Development 2002 146,000 -0- -0- 12,000
Michael Weinstock 2004 148,327 -0- -0- -0-
Executive Vice President and 2003 116,829 -0- -0- -0-
Chairman of the Board 2002 112,500 -0- -0- -0-
Philip Gay 2004 93,101 -0- 15,000 (2) 50,000
Chief Financial Officer 2003 -0- -0- -0- -0-
And Executive Vice President 2002 -0- -0- -0- -0-
(1) Mr. Spivak receives the use of a leased automobile and reimbursement
of all expenses related to the use thereof ($13,219), a $1,500 per
month non-accountable expense allowance ($18,000) and a $1,000,000
term life insurance policy ($16,831), in addition to vacation
benefits, expense reimbursements and participation in medical,
retirement and other benefit plans which are generally available to
the Company's executives.
(2) Mr. Gay received $15,000 as a relocation allowance in connection his
hiring. Mr. Gay's service commenced on July 12, 2005.
STOCK OPTION GRANTS
The following table sets forth information concerning the grant of stock
options made during 2004 to each of the Named Officers:
PERCENT OF POTENTIAL REALIZABLE VALUE
TOTAL OPTIONS AT ASSUMED ANNUAL RATES
GRANTED TO OF STOCK PRICE APPRECIATION
OPTIONS EMPLOYEES IN PRICE EXPIRATION FOR OPTION TERM
NAME GRANTED FISCAL YEAR PER SHARE DATE 5% 10%
----------- ------- ----------- --------- ------- ------- ---------
Robert Spivak 25,000 12.20% 3.14 04/23/09 $12,435 $ 36,248
John Sola 6,000 2.93% 2.86 06/23/14 $10,225 $ 25,914
Michael Weinstock - - - - - -
Philip Gay 50,000 24.39% 2.23 07/12/14 $70,121 $177,702
44
STOCK OPTION EXERCISES AND YEAR-END OPTION VALUES
The following table sets forth information concerning the exercise of stock
options during 2004 by each of the Named Officers and the number and value of
unexercised options held by the Named Officers at the end of 2004:
NUMBER OF UNEXERCISED VALUE OF UNEXERCISED
SHARES OPTIONS AT IN-THE MONEY OPTIONS
ACQUIRED ON VALUE AT FY-END (#) AT FY-END ($)(1)
NAME EXERCISE (#) REALIZED ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
Robert Spivak 0 0 108,333 16,667 0 0
John Sola 0 0 45,650 24,600 9,489 8,583
Michael Weinstock 0 0 0 0 0 0
Philip Gay 0 0 0 50,000 - 1,000
(1) Based on the fair market value per share of the Common Stock at year-end,
minus the exercise price of "in-the-money" options. The closing price for
the Company's Common Stock on December 31, 2004 on the Nasdaq Small-Cap
Market was $2.25.
EMPLOYMENT CONTRACTS
The Company and Robert Spivak, the Company's President and Chief Executive
Officer, entered into a new employment agreement pursuant to which Mr. Spivak
will continue his service for a period of three years, effective January 1,
2004. Mr. Spivak's employment agreement provides for an annual salary of
$260,000 in 2004, $280,000 in 2005 and $300,000 in 2006. In addition, such
agreement provides for Mr. Spivak to receive a 25,000 share stock option grant,
the use of a leased automobile and reimbursement of all expenses related to the
use thereof, a $1,500 per month non-accountable expense allowance, five weeks
paid vacation per year, a $1,000,000 term life insurance policy, reimbursement
of business related travel and meal expenses, participation, for a period
extending five years after the end of the term of Mr. Spivak's employment
agreement, in all medical, retirement and other benefit plans available to the
Company's executives and performance based bonuses in an amount up to fifty
percent of salary based on performance criteria established by the Compensation
Committee. In conjunction with the execution of the new employment agreement,
the Company and Mr. Spivak entered a consulting agreement pursuant to which Mr.
Spivak will provide ongoing consulting services to the Company for a period of
ten years following the end of his employment with the Company. Under the terms
of the consulting agreement, Mr. Spivak will provide an estimated 40 hours of
services per month and will receive $12,500 per month plus use of an office and,
for a period of eighteen months, an automobile, a $1,000 per month restaurant
meal allowance and medical, life and disability insurance.
The Company and Philip Gay, the Company's Chief Financial Officer, entered
into an employment agreement, effective July 12, 2004, pursuant to which Mr. Gay
serves as Executive Vice President and Chief Financial Officer for a period of
one year. Mr. Gay's employment agreement provides for an annual salary of
$211,000 with annual cost of living increases. In addition, such agreement
provides for Mr. Gay to receive a 50,000 share stock option grant vesting over
five years and a performance based bonus in an amount up to twenty-five percent
of salary based on performance criteria established by the Compensation
Committee.
COMPENSATION OF DIRECTORS
From January 2004 to June 2004, each non-employee director of the Company
was paid a fee of $500 for each Board meeting attended and $250 for each
committee meeting attended. Beginning in June 2004, the non-employee directors
were paid a quarterly fee of $1,000 plus a quarterly fee of $1,000 for service
on the Audit Committee and a quarterly fee of $500 for service on the
Compensation Committee. The Company also reimburses each director for all
expenses of attending such meetings. Each non-employee director is also granted
a $500 per quarter food credit at the Company's restaurants. Additionally, each
non-employee director is currently granted options, pursuant to the Company's
amended 1998 Comprehensive Stock Option and Award Plan, to purchase 6,250 shares
of Common Stock upon their initial appointment as a director. Thereafter, each
non-employee director on the day following each annual meeting of shareholders
of the Company shall automatically receive options to purchase an additional
5,000 shares, plus an additional 1,000 shares for each committee on which such
non-employee director serves. All such options are exercisable at the fair
market value of the Company's Common Stock on the date of grant. Such options
are fully vested and exercisable with respect to all of the shares covered on
the date of each grant.
45
Until December 31, 2003, Glenn Golenberg was covered under Grill Concepts'
group health and dental insurance plans and Grill Concepts paid all insurance
premiums relating to that coverage. Premiums paid by Grill Concepts with
respect to health and dental insurance coverage for Mr. Golenberg totaled
$10,240.29 during 2003. Mr. Golenberg's health and dental insurance coverage
was terminated effective December 31, 2003.
No additional compensation of any nature is paid to employee directors.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The following table is furnished as of April 20, 2005 to indicate
beneficial ownership of shares of the Company's Common Stock by (1) each
shareholder of the Company who is known by the Company to be a beneficial owner
of more than 5% of the Company's Common Stock, (2) each director, nominee for
director and Named Officer of the Company, individually, and (3) all officers
and directors of the Company as a group. The information in the following table
was provided by such persons.
Amount and Nature of
Beneficial Ownership (1)
--------------------------
Shares Underlying
Options, Warrants
Name and Address and Other Percent
of Beneficial Owner Shares Convertible Securities (2) Total (2) of Class (2)
Starwood Hotels & Resorts Worldwide, Inc. (3) 666,667 666,667 1,333,334 21.1
Michael Weinstock (4)(5)(6) 483,079 75,000 558,079 9.7
Robert Spivak (4)(5)(7) 426,091 108,333 534,424 9.3
Aaron Ferrer (8) 410,024 0 410,024 7.3
Keith Wolff (9) 337,625 95,000 432,625 7.3
Cundill International Company Ltd (10) 318,633 0 318,633 5.6
Lewis Wolff (11) 136,647 316,250 452,897 7.6
Stephen Ross (12) 79,485 122,873 202,358 3.5
Glenn Golenberg 21,875 41,250 63,125 1.1
John Sola (13) 8,750 45,650 54,400 *
Philip Gay (14) - 0 0 *
Norman MacLeod (15) - 22,250 22,250 *
Bruce Schwartz - 8,250 8,250 *
All executive officers and directors
as a group (9 persons) 1,155,927 739,856 1,895,783 29.7
* Less than 1%.
(1) The persons named in the table have sole voting and investment power with
respect to all shares of Common Stock shown as beneficially owned by them,
subject to community property laws, where applicable, and the information
contained in the footnotes to the table.
(2) Includes shares of Common Stock not outstanding, but which are subject to
options, warrants and other convertible securities exercisable or
convertible within 60 days of the date of the information set forth in this
table, which are deemed to be outstanding for the purpose of computing the
shares held and percentage of outstanding Common Stock with respect to the
holder of such options.
(3) Address is 1111 Westchester Avenue, White Plains, New York 10604. Includes
(a) 666,667 shares of common stock held, and (b) 666,667 shares of common
stock underlying five year $2.00 warrants. The information set forth herein
is based on the Schedule 13D dated July 27, 2001 filed by Starwood Hotels &
Resorts Worldwide, Inc. with the Securities and Exchange Commission.
(4) Address is 11661 San Vicente Blvd., Suite 404, Los Angeles, California
90049.
46
(5) All shares indicated as being held by Messrs. Weinstock and Spivak exclude
certain shares held by their spouses, children and certain trusts for the
benefit of family members. Messrs. Weinstock and Spivak disclaim any
beneficial interest in such shares.
(6) Includes 75,000 shares issuable upon exercise of warrants held by the
Weinstock Family Trust.
(7) Includes 108,333 shares out of 125,000 shares issuable upon exercise of
stock options held by Mr. Spivak.
(8) Address is 1 Homs Court Hillsborough, California 94010.
(9) Address is 11828 La Grange Avenue, Los Angeles, California 90025. Includes
(a) 242,625 shares of common stock held by Keith Wolff, as Trustee of The
Keith M. Wolff 2000 Irrevocable Trust, (b) 95,000 shares of common stock
held by KMWGEN Partners, of which Mr. Wolff is the general partner, and (c)
95,000 shares of common stock underlying warrants held by KMWGEN Partners.
Mr. Wolff has the sole power to vote or to direct the vote, and the sole
power to dispose or to direct the disposition of, the securities
beneficially owned by Mr. Wolff, other than the securities owned by KMWGEN
Partners, as to which Mr. Wolff shares power with his father, Lewis Wolff.
The information set forth herein is based on Amendment No. 1 to the
Schedule 13D dated July 27, 2001 filed by Mr. Wolff with the Securities and
Exchange Commission and information reflected in Schedule 13D described in
foot (11) below.
(10) Address is 15 Alton Hill, Southampton SN01 Bermuda. The information set
forth herein is based on the Schedule 13G, Amendment No. 2, dated February
14, 2005 filed by Cundill International Company Ltd with the Securities and
Exchange Commission.
(11) Address is 11828 La Grange Avenue, Los Angeles, California 90025. Includes
(a) 2,375 shares of common stock held directly, (b) 134,272 shares of
common stock held by KMWGEN Partners, (c) 95,000 shares of common stock
underlying five year $2.25 warrants held by KMWGEN Partners, (d) 21,250
shares of common stock issuable upon exercise of stock options held by Mr.
Wolff, (e) 125,000 shares issuable upon conversion of 500 shares of Series
II Convertible Preferred Stock, held by KMWGEN Partners, and (f) 75,000
shares issuable pursuant to a warrant to purchase shares at an exercise
price of $2.12 per share, held by KMWGEN Partners. The Series II
Convertible Preferred Stock is convertible commencing June 24, 1998 into a
number of shares determined by dividing $1,000 per share by the greater of
$4.00 or 75% of the average closing price of the Company's Common Stock
over the five trading days immediately preceding conversion, but not higher
than $10.00. For purposes hereof, the number of shares shown as being
issuable upon conversion of the Series Convertible Preferred Stock is based
on a conversion price of $4.00, the minimum conversion price of the Series
II convertible Preferred Stock. Mr. Wolff, as Trustee of the Wolff
Revocable Trust of 1993, may be deemed to be the beneficial owner of all
such securities except for the shares underlying the option to purchase
21,250 shares which option is held directly by Mr. Wolff. Mr. Wolff has the
sole power to vote or to direct the vote, and the sole power to dispose or
to direct the disposition of, all the shares beneficially owned by Mr.
Wolff, other than 190,000 shares beneficially owned by KMWGEN Partners, of
which Mr. Wolff and his son, Keith M. Wolff, are the general partners. The
information set forth herein is based on Amendment No. 5 to the Schedule
13D dated March 1, 2003 filed by Mr. Wolff with the Securities and Exchange
Commission on April 9, 2003.
(12) Includes (a) (i) 71,525 shares of common stock held by Stephen Ross and
Rachel Ross as co-trustees of the Ross Family Trust, and (ii) 7,960 shares
of common stock held by the Mazel Trust of which Stephen Ross is the
co-trustee, (b) (i) 63,565 shares of common stock underlying five year
$2.25 warrants, held by Stephen Ross and Rachel Ross as co-trustees of the
Ross Family Trust, (ii) 16,029 shares of common stock underlying five year
$2.77 warrants, held by Stephen Ross and Rachel Ross as co-trustees of the
Ross Family Trust, and (iii) 16,029 shares of common stock underlying five
year $2.77 warrants, held by the Mazel Trust of which Stephen Ross is the
co-trustee, and (c) 27,250 shares issuable upon exercise of stock options
held by Mr. Ross.
(13) Includes 45,650 shares out of 69,250 shares issuable upon exercise of stock
options held by Mr. Sola.
(14) Includes 0 shares out of 50,000 shares issuable upon exercise of stock
options held by Mr. Gay.
(15) Mr. MacLeod is an officer of Starwood Hotels & Resorts Worldwide. Mr.
MacLeod disclaims any beneficial interest in any shares held by Starwood
Hotels & Resorts Worldwide.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company has entered into transactions with various entities that may be
deemed to be controlled by Lewis Wolff. Mr. Wolff is the trustee of the Wolff
Revocable Trust of 1993 that holds all of the outstanding preferred stock of the
Company and may be deemed to be a controlling shareholder of the Company. Mr.
Wolff has served as director of the Company since June 2001. Transactions that
provide for ongoing obligations and/or rights of the Company, or with respect to
which amounts were paid during 2001 and/or 2002, and which may be deemed to have
been entered into with Mr. Wolff and his affiliates include: (1) lease of the
site of the San Jose Grill at the San Jose Fairmont Hotel from an entity in
which Mr. Wolff is a part owner and (2) entry into an agreement with Hotel
Restaurant Properties, Inc. ("HRP"), an entity controlled by a member of Mr.
Wolff's family, pursuant to which HRP will assist the Company in locating hotel
locations for the opening of restaurants and pursuant to which HRP is entitled
to a portion of the fees or profits from those restaurants. Rents in the amount
of $160,000 and $136,000 were accrued by the Company with respect to the San
Jose Grill during 2003 and 2004, respectively.
47
In August 1998, the Company entered into an agreement with HRP, of which
Mr. Keith Wolff is President. Pursuant to the agreement HRP will assist the
Company in locating hotel locations for the opening of restaurants. HRP is
entitled to a portion of the fees or profits from those restaurants. The
Company paid $290,000 and $235,000 of management fees to HRP during fiscal years
2003 and 2004, respectively. The agreement also provides that HRP will repay to
the Company amounts advanced to managed units on behalf of HRP. As of December
26, 2004, HRP owed to the Company $396,000. As of December 28, 2003, HRP owed
to the Company $255,000.
In July 2000, Lewis Wolff and Michael Weinstock each agreed to guarantee
$750,000 of the Company's bank credit facility. Pursuant to the terms of the
guarantee, the Company issued to each of Mr. Wolff and Mr. Weinstock 75,000
warrants exercisable to purchase common stock at $1.41 per share. In 2001 each
of Mr. Wolff and Mr. Weinstock received an additional 75,000 five year warrants
exercisable at $2.12 per share. Additionally, the Company agreed to pay each of
Mr. Wolff and Mr. Weinstock interest at the rate of 2% per annum of the average
annual balance of the loans guaranteed. No interest was accrued or paid to Mr.
Wolff and Mr. Weinstock during the years ended December 28, 2003 and December
26, 2004.
In July 2001, the Company completed a series of transactions with Starwood
Hotels & Resorts Worldwide, Inc., pursuant to which (1) Starwood acquired, for
$1,000,000.50, 666,667 shares of Common Stock and five year $2.00 666,667
warrants to purchase shares of the Company's Common Stock, (2) the Company and
certain shareholders agreed to take appropriate actions, so long as Starwood
owns no fewer than 333,333 shares of Common Stock, to cause one nominee of
Starwood to be elected to the Company's board or, in the event the number of
restaurants operated pursuant to the Starwood Agreements equals or exceeds ten
restaurants, to cause two nominees of Starwood to be elected to the Company's
board, and (3) the Company and Starwood agreed to jointly develop the Company's
branded restaurants in Starwood properties with Starwood being the exclusive
major hotel operator in which the Company's restaurants are developed, managed,
operated or licensed. Norman MacLeod has been designated as Starwood's board
representative and currently serves as a Director of the Company.
In conjunction with, and as a condition of, the Starwood transactions, the
Company was obligated to secure funding, in addition to that provided by
Starwood, in an amount not less than $1,000,000 from the sale of equity
securities to other investors on terms not more favorable to the investors than
those of Starwood. Pursuant to that obligation, the Company sold, for $142,500,
95,000 shares of common stock and 95,000 five year $2.25 warrants to KMWGEN
Partners, a partnership of which Lewis Wolff, as Trustee of the Wolff Revocable
Trust of 1993, and Keith Wolff, as Trustee of The Keith M. Wolff 2000
Irrevocable Trust, are general partners.
Also, in conjunction with the Starwood transactions, the Company sold
65,565 shares of common stock to the Ross Family Trust for $95,348. The Ross
Family Trust and the Mazel Trust, both of which Mr. Ross is co-trustee of, in
2000, loaned $400,000 to the Company for which it is paid interest of 10% and
was issued 40,000 five year warrants exercisable at $1.40625 per share. In 2001
the trusts were issued an additional 32,058 four year warrants exercisable at
$2.77 per share. In 2002, the Ross Family Trust acquired the loans from the
Mazel Trust. The Company owed $67,635 to the Ross Family Trust at December 28,
2003 and $0 at December 26, 2004. Stephen Ross, co-trustee of the Ross Family
Trust was elected as a director of the Company in 2001, following the Starwood
transactions.
The Starwood Agreements also provide for the issuance to Starwood, after
the aggregate number of branded restaurants covered by management agreements or
licensing agreements reaches five, ten, fifteen and twenty (each a "Development
Threshold Date"), of warrants (the "Development Warrants") to purchase a number
of shares of the Company's Common Stock equal to 4% of the then outstanding
shares of capital stock. The Development Warrants will have an exercise price
equal to (1) if the fair market value of the Common Stock as of the applicable
Development Threshold Date is greater than the fair market value of the Common
Stock as of the closing date of the transactions contemplated by the Starwood
Agreements (the "Closing Date"), the greater of (A) 75% of the fair market value
of the Common Stock on the date of issuance of the Development Warrants or (B)
the fair market value of the Common Stock on the closing date as defined in the
Starwood Agreements, or (2) if the fair market value of the Common Stock as of
the applicable Development Threshold Date is equal to or less than the fair
market value of the Common Stock on the closing date, the fair market value of
the Common Stock as of the applicable Development Threshold Date.
48
In addition to the Development Warrants, the Starwood Agreements provide
for the issuance of warrants (the "Incentive Warrants") to Starwood to purchase
a number of shares of the Company's Common Stock equal to 0.75% of the then
outstanding shares of capital stock of the Company on the date of execution of
any management agreement or license agreement (the "Initial Incentive Threshold
Date") resulting in the total number of restaurants being operated pursuant to
the Starwood Agreements exceeding 35% of the total branded restaurants operated
by the Company. Additional Incentive Warrants will be issued on each
anniversary of the Initial Incentive Threshold Date provided that the incentive
threshold continues to be satisfied.
In 1993, Michael Weinstock, Executive Vice President and Chairman of the
Board, loaned $85,000 to the Company in an uncollateralized subordinated note,
renewable annually with interest accruing at 7% per annum. At December 26,
2004, the balance owed to Mr. Weinstock, including accrued interest, totaled
$152,502.
In 1998, Robert Spivak, President and Chief Executive Officer, loaned
$70,000 to the Company in an uncollateralized subordinated note, renewable
annually with interest accruing at 10% per annum. At December 26, 2004, the
balance owed to Mr. Spivak, including accrued interest, totaled $106,750.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The following table presents fees for professional audit services rendered
by Moss Adams LLP for the audit of the Company's annual financial statements for
the year ended December 26, 2004 and fees billed for other services rendered by
Moss Adams during the year and for professional audit services rendered by
PricewaterhouseCoopers LLP, our former independent registered public accounting
firm, for the audit of the Company's annual financial statements for the year
ended December 28, 2003 and fees billed for other services rendered by
PricewaterhouseCoopers LLP during the year.
Fiscal 2004 Fiscal 2003
----------- -----------
Audit fees (1) 207,120 109,000
Audit related fees (2) 47,500 47,500
Tax fees 4,397 -
All other fees - -
Total 259,017 156,500
============ ===========
(1) Audit Fees consist of fees billed for professional services rendered for
the audit of the Company's consolidated annual financial statements and
review of the interim consolidated financial statements included in
quarterly reports and services that are normally provided by Moss Adams LLP
or PricewaterhouseCoopers LLP, as appropriate, in connection with statutory
and regulatory filings or engagements.
(2) Audit-Related Fees consist of fees billed for assurance and related
services that are reasonably related to the performance of the audit or
review of the Company's consolidated financial statements and are not
reported under "Audit Fees." This category includes fees related to audits
of affiliated entities in which the Company owns an interest or from which
the Company receives management or license fees.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
The following documents are filed as a part of this Report:
(1) Consolidated Financial Statements: See Index to Financial Statements
on page F-1 of this report for financial statements and supplementary data filed
as part of this report.
(2) Financial Statement Schedules
49
Schedule II - Valuation and Qualifying Accounts and Allowances
(3) Exhibits
Exhibit
Number Description of Exhibit
------ ------------------------
3.1 Certificate of Incorporation, as amended, of Grill Concepts, Inc.
(4)
3.2 Certificate of Amendment to Restated Certificate of Incorporation
of Grill Concepts, Inc. (5)
3.3 Certificate of Amendment to Restated Certificate of Incorporation
of Grill Concepts, Inc. dated August 1999 (10)
3.4 Certificate of Amendment of Restated Certificate of Incorporation
of Grill Concepts, Inc., dated July 3, 2001 (17)
3.5 Bylaws, as amended, of Grill Concepts, Inc. (1)
3.6 Amendment to Bylaws of Magellan Restaurant Systems, Inc. dated
December 31, 1994 (2)
4.1 Certificate of Designation fixing terms of Series II Preferred
Stock (5)
4.2 Specimen Common Stock Certificate (1)
+10.1 Grill Concepts, Inc. 1995 Stock Option Plan (3)
10.2 Operating Agreement for San Jose Grill LLC, dated June 1997 (6)
10.3 Amendment, dated December 1997, to Operating Agreement for San
Jose Grill LLC (6)
10.4 Subordinate Note, dated December 1997, relating to San Jose Grill
LLC (7)
10.5 Management Agreement re: San Jose City Bar & Grill (10)
10.6 Blanket Conveyance, Bill of Sale and Assignment between Grill
Concepts, Inc. and Air Terminal Services, Inc. (8)
10.7 License Agreement between Grill Concepts, Inc. and Airport Grill,
L.L.C. (8)
10.8 Agreement, dated August 27, 1998, between Grill Concepts, Inc.
and Hotel Restaurant Properties, Inc. (8)
10.9 Restaurant Management Agreement between Grill Concepts, Inc.,
Hotel Restaurant Properties, Inc. and CapStar Georgetown Company,
L.L.C. for the Georgetown Inn (8)
10.10 Loan Agreement between Grill Concepts, Inc. and The Wolff
Revocable Trust of 1993 (9)
10.11 Addendum to Management Agreement re: San Jose City Bar & Grill
(9)
+10.12 Grill Concepts, Inc. 1998 Comprehensive Stock Option and Award
Plan, as amended February 27, 2001 (11)
10.13 Bank of America Business Loan Agreement (12)
10.14 Peter Roussak Warrant dated November 1999 (12)
10.15 Chicago - Grill on the Alley Warrant (12)
10.16 Chicago - Grill on the Alley First Extension Warrant (12)
10.17 Chicago - Grill on the Alley Second Extension Warrant (12)
10.18 Guaranty - Michigan Avenue Group Note (12)
10.19 Operating Agreement for Chicago - The Grill on the Alley LLC (12)
10.20 Letter Agreement dated July 19, 2000 with Wells Fargo Bank (13)
10.21 Indemnification Agreement between Grill Concepts, Inc., Lewis N.
Wolff and the Lewis N. Wolff Revocable Trust of 1993 and Michael
S. Weinstock and Michael S. Weinstock Trustee of the Michael S.
Weinstock Living Trust (13)
10.22 Form of Letter Agreement regarding Loan Facility (13)
10.23 Form of four year 9% Promissory Note (13)
10.24 Form of Warrant issued in connection with Promissory Notes (13)
10.25 Guarantee Agreement dated July 11, 2000 with Michael Weinstock
and Lewis Wolff (13)
10.26 Form of Warrant issued in connection with Loan Guaranty (13)
10.27 Michael Grayson Warrant (16)
10.28 Daily Grill Restaurant Management Agreement, dated February 5,
2001, between Grill Concepts Management, Inc., Hotel Restaurant
Properties II Management, Inc., and Handlery Hotel, Inc. (14)
10.28 Subscription Agreement, dated May 16, 2001, by and between Grill
Concepts, Inc. and Starwood Hotels & Resorts Worldwide, Inc. (16)
50
10.29 Development Agreement by and between Grill Concepts, Inc. and
Starwood Hotels & Resorts Worldwide, Inc. (16)
10.30 Investor Rights Agreement by and between Grill Concepts, Inc. and
Starwood Hotels & Resorts Worldwide, Inc. (16)
10.31 Stockholders' Agreement by and between Grill Concepts, Inc.,
Starwood Hotels & Resorts Worldwide, Inc., Robert Spivak, Michael
Weinstock, Lewis Wolff, Keith Wolff and Wolff Revocable Trust of
1993. (15)
10.32 Form of $2.00 Warrant. (16)
10.33 Amendment to Hotel Restaurant Properties, Inc. Agreement, dated
July 27, 2001 (17)
10.34 Amendment to San Jose City Bar and Grill Agreement (18)
+10.36 Employment Agreement, dated January 1, 2004, with Robert Spivak
(20)
+10.37 Consulting Agreement with Robert Spivak (20)
+10.38 Employment Agreement, dated June 22, 2004, with Philip Gay (21)
14.1 Code of Business Ethics - CEO and Senior Financial Officers (19)
14.2 Code of Ethics (19)
21.1* Subsidiaries of Registrant
23.1* Consent of PricewaterhouseCoopers LLP
23.2* Consent of Moss Adams LLP
31.1* Section 302 Certification of CEO
31.2* Section 302 Certification of CFO
32.1* Certification of CEO Pursuant to 18.U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32.2* Certification of CFO Pursuant to 18.U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
+ Compensatory plan or management agreement.
* Filed herewith
(1) Incorporated by reference to the respective exhibits filed with
Registrant's Registration Statement on Form SB-2 (Commission File No.
33-55378-NY) declared effective by the Securities and Exchange Commission
on May 11, 1993.
(2) Incorporated by reference to the respective exhibits filed with
Registrant's Registration Statement on Form S-4 (Commission File No. 33-
85730) declared effective by the Securities and Exchange Commission on
February 3, 1995.
(3) Incorporated by reference to the respective exhibits filed with
Registrant's Quarterly Report on Form 10-QSB for the quarter ended June 25,
1995.
(4) Incorporated by reference to the respective exhibits filed with
Registrant's Registration Statement on Form SB-2 (Commission File No.
33-55378-NY) declared effective by the Securities and Exchange Commission
on May 11, 1993 and the exhibits filed with the Registrant's Current Report
on Form 8-K dated March 3, 1995.
(5) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-QSB for the quarter ended June 29, 1997.
(6) Incorporated by reference to the respective exhibits filed with the
Registrant's Annual Report on Form 10-KSB for the year ended December 28,
1997.
(7) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-QSB for the quarter ended March 29, 1998.
(8) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-QSB for the quarter ended September 27, 1998.
(9) Incorporated by reference to the respective exhibits filed with the
Registrant's Annual Report on Form 10-K for the year ended December 27,
1998.
(10) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended June 27, 1999.
(11) Incorporated by reference to the Company's Definitive Proxy Statement filed
May 29, 2001.
(12) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-K for the year ended December 26, 1999.
51
(13) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended September 24, 2000.
(14) Incorporated by reference to the respective exhibits filed with the
Registrant's Annual Report on Form 10-K for the year ended December 31,
2000.
(15) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended April 1, 2001.
(16) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 8-K dated May 16, 2001.
(17) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended July 1, 2001.
(18) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-K for the year ended December 30, 2001.
(19) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-K for the year ended December 28, 2003.
(20) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended March 28, 2004.
(21) Incorporated by reference to the respective exhibits filed with the
Registrant's Form 10-Q for the quarter ended June 27, 2004.
52
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
GRILL CONCEPTS, INC.
By: /S/ Robert Spivak
--------------------------------
Robert Spivak
President
Dated: May , 2005
--
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Robert Spivak President, Chie Executive Officer May 23, 2005
--------------------- and Director (Principal Executive
Robert Spivak Officer)
/s/ Michael Weinstock Chairman of the Board of Directors May 23, 2005
--------------------- and Executive Vice President
Michael Weinstock
/s/ Bruce Schwartz Director May 23, 2005
---------------------
Bruce Schwartz
/s/ Glenn Golenberg Director May 23, 2005
---------------------
Glenn Golenberg
/s/ Norman MacLeod Director May 23, 2005
---------------------
Norman MacLeod
/s/ Stephen Ross Director May 23, 2005
---------------------
Stephen Ross
/s/ Lewis Wolff Director May 23, 2005
---------------------
Lewis Wolff
/s/ Philip Gay Chief Financial Officer May 23, 2005
--------------------- (Principal Accounting Officer and
Philip Gay Principal Financial Officers
53
Grill Concepts, Inc. and Subsidiaries Schedule II
VALUATION AND QUALIFYING ACCOUNTS AND ALLOWANCES
Allowance for Doubtful Accounts:
Additions Balance
Balance at Charged to Net At End
Year Ended Beginning Of Year Operations Deductions Of Year
December 29, 2002 $ - $ 46,000 $ - $ 46,000
December 28, 2003 $46,000 $ 29,000 $ 62,000 $ 13,000
December 26, 2004 $13,000 $134,000 $ 4,000 $143,000
Valuation Allowance for Deferred Taxes:
Additions Balance
Balance at Charged to Net At End
Year Ended Beginning Of Year Operations Deductions Of Year
December 29, 2002 $3,316,000 $156,000 $ - $3,472,000
December 28, 2003 $3,472,000 $ 76,000 $ - $3,548,000
December 26, 2004 $3,548,000 $ 22,000 $ - $3,570,000
54
GRILL CONCEPTS, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
REPORTS OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMS F-2
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 26, 2004 AND DECEMBER 28, 2003 (RESTATED) F-5
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 26, 2004, DECEMBER 28, 2003 (RESTATED) F-6
AND DECEMBER 29, 2002 (RESTATED)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 26, 2004, DECEMBER 28, 2003 (RESTATED) F-7
AND DECEMBER 29, 2002 (RESTATED)
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 26, 2004, DECEMBER 28, 2003 (RESTATED) F-8
AND DECEMBER 29, 2002 (RESTATED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F-9
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors of
Grill Concepts, Inc.
We have audited the accompanying consolidated balance sheet of Grill Concepts,
Inc. and subsidiaries as of December 26, 2004 and the related consolidated
statements of operations, stockholders' equity and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company's internal control over financial reporting. Accordingly, we express no
such opinion. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the consolidated financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Grill
Concepts, Inc. and subsidiaries as of December 26, 2004, and the consolidated
results of their operations and their cash flows for the year then ended, in
conformity with accounting principles generally accepted in the United States of
America.
As discussed in Note 1 to the accompanying consolidated financial statements,
the Company has restated its consolidated financial statements as of December
28, 2003 and for each of the two years in the period ended December 28, 2003.
Moss Adams LLP
Los Angeles, California
May 5, 2005
F-2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Of Grill Concepts, Inc.
In our opinion, the consolidated balance sheet as of December 28, 2003 and the
related consolidated statements of operations, of stockholders' equity and of
cash flows for each of the two years in the period ended December 28, 2003
referred to under Item 15(a)(1) and listed in the index appearing on page F-1,
present fairly, in all material respects, the financial position of Grill
Concepts, Inc. and its subsidiaries at December 28, 2003, and the results of
their operations and their cash flows for each of the two years in the period
ended December 28, 2003 in conformity with accounting principles generally
accepted in the United States of America. In addition, in our opinion, the
financial statement schedule as of and for the years ended December 28, 2003 and
December 29, 2002 listed in the index appearing under Item 15(a)(2) presents
fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements. These financial
statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and financial statement schedule based on our audits. We
conducted our audits of these statements in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As discussed in Note 1 to the accompanying consolidated financial statements,
the Company has restated its consolidated financial statements as of December
28, 2003 and for each of the two years in the period ended December 28, 2003.
As discussed in Note 2 to the accompanying consolidated financial statements,
the Company adopted the provisions of Financial Accounting Standards Board
Interpretation No. 46, "Consolidation of Variable Interest Entities, an
Interpretation of ARB No. 51," (FIN 46) effective December 29, 2003, and has
applied the retroactive adoption provisions of FIN 46 in these consolidated
annual financial statements.
PricewaterhouseCoopers LLP
F-3
Los Angeles, California
March 11, 2004, except for (i) the restatement as described in Note 1 under the
headings "Stock Compensation and Miscellaneous Adjustments" and "Joint Venture
Accounting and Miscellaneous Adjustments", which appear in the consolidated
financial statements included in the Company's Form 10-K/A Amendment No. 2 for
the year ended December 31, 2003 and are not presented herein, as to which the
dates are May 14, 2004 and October 11, 2004, respectively, (ii) the effect of
the retroactive adoption of FIN 46 described in Note 2 to the accompanying
consolidated financial statements, as to which the date is October 11, 2004, and
(iii) the restatement described in Note 1 to the accompanying consolidated
financial statements under the heading "Restatement of Financial Statements", as
to which the date is May 5, 2005
F-4
GRILL CONCEPTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 26, DECEMBER 28,
2004. 2003.
------------ ------------
ASSETS RESTATED
CURRENT ASSETS:
CASH AND CASH EQUIVALENTS $ 1,407,000 $ 1,496,000
INVENTORIES 620,000 585,000
RECEIVABLES, NET OF RESERVE ($143,000 AND $13,000 IN 2004 AND 2003, RESPECTIVELY) 836,000 658,000
PREPAID EXPENSES AND OTHER CURRENT ASSETS 2,372,000 1,728,000
REIMBURSABLE COSTS RECEIVABLE 928,000 580,000
------------ ------------
TOTAL CURRENT ASSETS 6,163,000 5,047,000
FURNITURE, EQUIPMENT AND IMPROVEMENTS, NET 11,864,000 10,988,000
GOODWILL, NET 205,000 205,000
LIQUOR LICENSES 350,000 350,000
RESTRICTED CASH 882,000 72,000
NOTE RECEIVABLE 101,000 111,000
OTHER ASSETS 184,000 274,000
------------ ------------
TOTAL ASSETS $19,749,000 $17,047,000
============ ============
LIABILITIES, MINORITY INTEREST AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
ACCOUNTS PAYABLE $ 1,988,000 $ 1,046,000
ACCRUED EXPENSES 2,548,000 2,400,000
REIMBURSABLE COSTS PAYABLE 928,000 580,000
CURRENT PORTION OF LONG-TERM DEBT 196,000 298,000
CURRENT PORTION NOTES PAYABLE - RELATED PARTIES 294,000 345,000
------------ ------------
TOTAL CURRENT LIABILITIES 5,954,000 4,669,000
LONG-TERM DEBT 148,000 285,000
NOTES PAYABLE - RELATED PARTIES 829,000 969,000
OTHER LONG-TERM LIABILITIES 8,054,000 5,596,000
------------ ------------
TOTAL LIABILITIES 14,985,000 11,519,000
------------ ------------
MINORITY INTEREST 934,000 1,784,000
COMMITMENTS AND CONTINGENCIES (NOTE 9)
STOCKHOLDERS' EQUITY:
SERIES I, CONVERTIBLE PREFERRED STOCK, $0.01 PAR VALUE; 1,000,000 SHARES
AUTHORIZED, NONE ISSUED AND OUTSTANDING IN 2004 AND 2003 - -
SERIES II, 10% CONVERTIBLE PREFERRED STOCK, $.001 PAR VALUE; 1,000,000 SHARES
AUTHORIZED, 500 SHARES ISSUED AND OUTSTANDING IN 2004 AND 2003, LIQUIDATION
PREFERENCE OF $376,000 AND $326,000 IN 2004 AND 2003, RESPECTIVELY - -
COMMON STOCK, $.00004 PAR VALUE; 12,000,000 SHARES AUTHORIZED IN 2004 AND
2003, 5,650,146 ISSUED AND OUTSTANDING IN 2004 AND 5,537,071 ISSUED AND
OUTSTANDING IN 2003 - -
ADDITIONAL PAID-IN CAPITAL 13,649,000 13,601,000
ACCUMULATED DEFICIT (9,819,000) (9,857,000)
------------ ------------
TOTAL STOCKHOLDERS' EQUITY 3,830,000 3,744,000
------------ ------------
TOTAL LIABILITIES, MINORITY INTEREST AND STOCKHOLDERS' EQUITY $19,749,000 $17,047,000
============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
GRILL CONCEPTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
DECEMBER 26, DECEMBER 28, DECEMBER 29,
2004. 2003. 2002.
------------ ------------ ------------
RESTATED RESTATED
REVENUES:
SALES $49,938,000 $45,858,000 $41,826,000
COST REIMBURSEMENTS 12,439,000 9,728,000 7,270,000
MANAGEMENT AND LICENSE FEES 1,282,000 1,037,000 901,000
------------ ------------ ------------
TOTAL REVENUES 63,659,000 56,623,000 49,997,000
OPERATING EXPENSES:
COST OF SALES (EXCLUSIVE OF DEPRECIATION, PRESENTED SEPARATELY
BELOW) 14,465,000 13,274,000 11,927,000
RESTAURANT OPERATING EXPENSES 30,552,000 28,050,000 25,649,000
REIMBURSED COSTS 12,439,000 9,772,000 7,557,000
GENERAL AND ADMINISTRATIVE 4,472,000 3,696,000 3,426,000
DEPRECIATION AND AMORTIZATION 2,005,000 1,816,000 1,868,000
PRE-OPENING COSTS 167,000 182,000 69,000
GAIN ON SALE OF ASSETS (2,000) (11,000) (71,000)
------------ ------------ ------------
TOTAL OPERATING EXPENSES 64,098,000 56,779,000 50,425,000
------------ ------------ ------------
LOSS FROM OPERATIONS (439,000) (156,000) (428,000)
INTEREST EXPENSE, NET (98,000) (138,000) (150,000)
INTEREST EXPENSE - RELATED PARTIES (174,000) (193,000) (214,000)
------------ ------------ ------------
LOSS BEFORE PROVISION FOR INCOME TAXES AND MINORITY
INTEREST (711,000) (487,000) (792,000)
PROVISION FOR INCOME TAXES (65,000) (89,000) (37,000)
------------ ------------ ------------
LOSS BEFORE MINORITY INTEREST (776,000) (576,000) (829,000)
MINORITY INTEREST IN LOSS OF SUBSIDIARIES 814,000 704,000 422,000
------------ ------------ ------------
NET INCOME (LOSS) 38,000 128,000 (407,000)
PREFERRED DIVIDENDS ACCRUED (50,000) (50,000) (50,000)
------------ ------------ ------------
NET INCOME (LOSS) APPLICABLE TO COMMON STOCK $ (12,000) $ 78,000 $ (457,000)
============ ============ ============
NET INCOME (LOSS) PER SHARE APPLICABLE TO COMMON STOCK:
BASIC NET INCOME (LOSS) $ (0.00) $ 0.01 $ (0.08)
============ ============ ============
DILUTED NET INCOME (LOSS) $ (0.00) $ 0.01 $ (0.08)
============ ============ ============
AVERAGE-WEIGHTED SHARES OUTSTANDING:
BASIC 5,608,541 5,537,071 5,537,071
============ ============ ============
DILUTED 5,608,541 5,640,842 5,537,071
============ ============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
GRILL CONCEPTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
SERIES I PREFERRED STOCK SERIES II PREFERRED STOCK COMMON STOCK ADDITIONAL
PAID-IN ACCUMULATED
SHARES AMOUNT. SHARES AMOUNT. SHARES AMOUNT. CAPITAL. DEFICIT. TOTAL
------ -------- ------ -------- --------- -------- ----------- ------------ ---------
BALANCE, DECEMBER 30, 2001
(RESTATED) - $ - 500 $ - 5,537,101 $ - $13,601,000 $(9,578,000) $4,023,000
NET LOSS (RESTATED) - - - - - - - (407,000) (407,000)
------ -------- ------ -------- --------- -------- ----------- ------------ ----------
BALANCE, DECEMBER 29, 2002
(RESTATED) - - 500 - 5,537,071 - 13,601,000 (9,985,000) 3,616,000
NET INCOME (RESTATED) - - - - - - - 128,000 128,000
------ -------- ------ -------- --------- -------- ----------- ------------ ----------
BALANCE, DECEMBER 28, 2003
(RESTATED) - - 500 - 5,537,071 - 13,601,000 (9,857,000) 3,744,000
EXERCISE OF STOCK OPTIONS
AND WARRANTS 113,075 48,000 48,000
NET INCOME - - - - - - - 38,000 38,000
------ -------- ------ -------- --------- -------- ----------- ------------ ----------
BALANCE, DECEMBER 26, 2004 - $ - 500 $ - 5,650,146 $ - $13,649,000 $(9,819,000) $3,830,000
====== ======== ====== ======== ========= ======== =========== ============ ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
GRILL CONCEPTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
DECEMBER 26, DECEMBER 28, DECEMBER 29,
2004. 2003. 2002.
------------ ------------ ------------
RESTATED RESTATED
CASH FLOWS FROM OPERATING ACTIVITIES:
NET INCOME (LOSS) $ 38,000 $ 128,000 $ (407,000)
ADJUSTMENTS TO RECONCILE NET INCOME (LOSS) TO NET CASH PROVIDED BY
OPERATING ACTIVITIES:
DEPRECIATION AND AMORTIZATION 2,005,000 1,816,000 1,868,000
STOCK BASED COMPENSATION EXPENSE (INCOME) (84,000) 168,000 -
ALLOWANCE FOR DOUBTFUL ACCOUNTS 130,000 (33,000) 46,000
GAIN ON SALE OF ASSETS (2,000) (11,000) (71,000)
MINORITY INTEREST IN NET LOSS OF SUBSIDIARIES (814,000) (704,000) (422,000)
CHANGES IN OPERATING ASSETS AND LIABILITIES:
INVENTORIES (35,000) (103,000) 124,000
RECEIVABLES (308,000) (142,000) 74,000
REIMBURSABLE COSTS RECEIVABLE (348,000) (82,000) (244,000)
PREPAID EXPENSES AND OTHER CURRENT ASSETS 91,000 (983,000) (174,000)
OTHER ASSETS 73,000 34,000 102,000
ACCOUNTS PAYABLE 942,000 28,000 (208,000)
ACCRUED EXPENSES 374,000 (81,000) (438,000)
REIMBURSABLE COSTS PAYABLE 348,000 82,000 244,000
OTHER LIABILITIES (342,000) (72,000) (191,000)
TENANT IMPROVEMENT ALLOWANCES 2,065,000 1,800,000 500,000
------------ ------------ ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 4,133,000 1,845,000 803,000
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
PURCHASE OF FURNITURE, EQUIPMENT AND IMPROVEMENTS (2,866,000) (1,389,000) (1,613,000)
CHANGE IN RESTRICTED CASH (810,000) 544,000 (616,000)
PROCEEDS FROM SALE OF FIXED ASSETS 5,000 26,000 175,000
(ADVANCE TO) REPAYMENTS FROM MANAGED OUTLETS - 64,000 (64,000)
PURCHASE OF LIQUOR LICENSES - (12,000) -
------------ ------------ ------------
NET CASH USED IN INVESTING ACTIVITIES (3,671,000) (767,000) (2,118,000)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
RETURN OF CAPITAL, PREFERRED RETURN AND PROFIT TO MINORITY MEMBER (171,000) (275,000) (167,000)
PROCEEDS FROM MINORITY INTERESTS 35,000 50,000 1,047,000
PROCEEDS FROM EQUIPMENT FINANCING 45,000 - -
NOTE RECEIVABLE COLLECTIONS 15,000 15,000 -
PAYMENTS ON LONG TERM DEBT AND BANK LOANS (284,000) (445,000) (410,000)
PAYMENTS ON RELATED PARTY DEBT (191,000) (217,000) (196,000)
------------ ------------ ------------
NET CASH PROVIDED BY (USED IN ) FINANCING ACTIVITIES (551,000) (872,000) 274,000
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS (89,000) 206,000 (1,041,000)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,496,000 1,290,000 2,331,000
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 1,407,000 $ 1,496,000 $ 1,290,000
============ ============ ============
SUPPLEMENTAL CASH FLOWS INFORMATION:
CASH PAID DURING THE YEAR FOR:
INTEREST $ 141,000 $ 260,000 $ 321,000
INCOME TAXES $ 181,000 $ 175,000 $ 100,000
NON-CASH TRANSACTIONS:
NOTE RECEIVABLE FROM SALE OF ASSETS $ - $ - $ 117,000
The accompanying notes are an integral part of these consolidated financial
statements.
F-8
GRILL CONCEPTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION
GENERAL
Grill Concepts, Inc. (the "Company") is incorporated under the laws of the
State of Delaware. The Company operates exclusively in the restaurant industry
in the United States. At December 26, 2004, the Company owned and operated
fifteen restaurants, consisting of eight Daily Grill restaurants in California;
The Grill on the Alley ("The Grill"); The Grill in San Jose ("The San Jose Grill
LLC"); The Grill in Chicago ("Chicago - The Grill on the Alley LLC"); The Grill
on Hollywood ("The Grill on Hollywood, LLC"): one Daily Grill in Washington,
D.C.; one Daily Grill in Virginia; and one Daily Grill in Maryland. Each of the
Company's restaurants is owned and operated on a non-franchise basis by the
Company. In addition the Company manages six Daily Grill restaurants and
licenses two additional Daily Grill restaurants. During 2004 the San Jose City
Bar and Grill terminated their license agreement.
RESTATEMENT OF FINANCIAL STATEMENTS
The Company began a review of its lease accounting policies following
announcements in February 2005 that the Chief Accountant of the Securities and
Exchange Commission ("SEC") issued a letter to the American Institute of
Certified Public Accountants regarding lease accounting issues. As a result of
our review, the Company has revised its accounting for leases in 2004 and
restated its historical financial statements as of December 28, 2003 and for
each of the two years in the period ended December 28, 2003 to correct for these
errors in its lease accounting. The Company has also corrected the accounting
for complimentary meals and promotional activities as part of this restatement
process.
Historically, the Company recognized straight-line rents and amortized
lessor lease incentives using the initial non-cancelable term of the lease
commencing on the date rent payments began. Under generally accepted accounting
principles, as highlighted in the SEC guidance, the Company should have
recognized rent expense (net of the related lessor lease incentives
amortization) on a straight-line basis over the term of the lease as defined in
SFAS No. 13 which begins on the later of when the Company had access to the site
or the lease is executed. The impact of correctly calculating rent expense and
lessor lease incentives amortization was to increase restaurant operating
expenses and decrease general and administrative expenses by $117,000 and
$1,000, respectively, for fiscal year 2003 and to decrease restaurant operating
expenses and general and administrative expenses by $61,000 and $4,000,
respectively, for fiscal year 2002. The Company also increased other current
assets by $1,116,000 to recognize a receivable for tenant improvement allowances
to be received, increased fixed assets by $272,000 in fiscal year 2002 to
recognize additional construction in progress and increased long-term
liabilities by $2,862,000 for lease incentives and deferred rent, to properly
reflect the correct lease accounting as of December 28, 2003.
F-9
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION (CONTINUED)
In closing the 2004 books and records, the Company also reviewed the
estimated useful lives that it was using to amortize its leasehold improvements.
In the case of six restaurants, it was found that the incorrect lives had been
used. The Company has revised the amortization period to reflect the shorter of
their estimated useful lives or the initial lease term. The impact of the change
is to increase depreciation and amortization expense by $70,000 and $69,000 in
fiscal year 2003 and fiscal year 2002, respectively.
A portion of the above adjustments was recorded on the books of the LLC's
in which we have a majority ownership or we consolidate under FIN 46R. As
discussed in the footnotes below, the Company allocates results to the minority
interests based on the underlying economics of the investment. The impact of the
above adjustments increased the amount of loss allocated to the minority
interests by $256,000 and $6,000 in fiscal year 2003 and 2002, respectively.
During fourth quarter of 2004, the Company eliminated amounts that had
previously been recorded as restaurant sales revenue arising from complimentary
meals and promotional activities. The Company's previous method of recording
these activities as restaurant sales revenue at the full retail price of each
item with a corresponding increase in operating expenses is not in accordance
with generally accepted accounting principles. Historically the amounts
associated with complimentary meals and promotional activities have been
recorded as restaurant revenues, with an offsetting amount in restaurant
operations and corporate general and administrative expenses. As revised, the
Company has eliminated the complimentary portion of meals and promotional
activities from revenues and operating expenses. As a result of these
adjustments, revenue and expenses were decreased by $1.7 million in 2003 and
$1.5 million in 2002. These adjustments have no impact on previously reported
net income.
The individual per share impact of each adjustment noted above was not
considered material. The overall impact on earnings per share is shown below on
the tables that follow.
The effects of our revisions to previously reported Consolidated Financial
Statements as of December 28, 2003 and for the years ended December 28, 2003 and
December 29, 2002 are summarized as follows.
The following table reflects the effects of the restatement on the
Consolidated Balance Sheet as of December 28,2003:
As previously Restated
reported
Prepaid expenses and other current assets $ 612,000 $ 1,728,000
Total current assets 3,931,000 5,047,000
Furniture, equipment and improvements, net 11,061,000 10,988,000
Total Assets 16,005,000 17,047,000
Other Long Term Liabilities 2,734,000 5,596,000
Total Liabilities 8,657,000 11,519,000
Minority Interest 2,058,000 1,784,000
Accumulated Deficit (8,311,000) (9,857,000)
Total Stockholders Equity 5,290,000 3,744,000
Total Liabilities & Equity 16,005,000 17,047,000
F-10
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION (CONTINUED)
The following table reflects the effects of the restatement on the Consolidated
Statement of Operations:
December 28, 2003 December 29, 2002
AS PREVIOUSLY RESTATED AS PREVIOUSLY RESTATED
REPORTED REPORTED
----------------- ------------ --------------- ------------
Sales $47,578,000 $45,858,000 $43,336,000 $41,826,000
Total Revenues 58,343,000 56,623,000 51,507,000 49,997,000
Restaurant operating expenses 29,535,000 28,050,000 27,082,000 25,649,000
General & administrative 3,815,000 3,696,000 3,568,000 3,426,000
Depreciation & amortization 1,746,000 1,816,000 1,799,000 1,868,000
Total operating expenses 58,313,000(1) 56,779,000 51,931,000(1) 50,425,000
Income (loss) from operations 30,000 (156,000) (424,000) (428,000)
Loss before taxes & minority
interests (301,000) (487,000) (788,000) (792,000)
Loss before minority interest (390,000) (576,000) (825,000) (829,000)
Minority interest 448,000 704,000 416,000 422,000
Net income (loss) 58,000 128,000 (409,000) (407,000)
Net income (loss) applicable to
common stock 8,000 78,000 (459,000) (457,000)
Net income (loss) per share
applicable to common stock:
Basic Net Income (Loss) $ 0.00 $ 0.01 $ (0.08) $ (0.08)
Diluted Net Income (Loss) $ 0.00 $ 0.01 $ (0.08) $ (0.08)
(1) Includes cost of sales amounts that were not included in the "Total operating expenses"
subtotal in prior financial statements.
The following table reflects the effects of the restatement on the Consolidated
Statement of Cash Flows:
December 28, 2003 December 29, 2002
AS PREVIOUSLY RESTATED AS PREVIOUSLY RESTATED
REPORTED REPORTED
------------ ------- ---------- ----------
Cash flows from operating activities
Net Income (loss) $ 58,000 $ 128,000 $ (409,000) $ (407,000)
Depreciation and amortization 1,746,000 1,816,000 1,799,000 1,868,000
Minority interest in net loss of subsidiaries (448,000) (704,000) (416,000) (422,000)
Prepaids and other current assets (95,000) (983,000) 54,000 (174,000)
Accrued expenses (80,000) (81,000) (382,000) (438,000)
Tenant improvement allowances - 1,800,000 - 500,000
Other long term liabilities (138,000) (72,000) (182,000) (191,000)
Net cash provided by operating
activities 984,000 1,845,000 531,000 803,000
Tenant improvement allowances 1,133,000 - - -
Net cash provided by (used in)
financing activities 261,000 (872,000) 274,000 274,000
F-11
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION (CONTINUED)
The Company restated its Consolidated Balance Sheet at December 28, 2003
and the Consolidated Statements of Operations, Stockholders' Equity and Cash
Flows for the years ended December 28, 2003 and December 29, 2002. The
adjustments associated with all the above corrections resulted in a $1,618,000
reduction in retained earnings as of December 30, 2001. We also restated the
quarterly financial information for fiscal 2003 and the first three quarters of
fiscal 2004 (see Note 12 of the Notes to Consolidated Financial Statements).
LIQUIDITY
At December 26, 2004, the Company had a working capital surplus of $209,000
and a cash balance of $1.4 million as compared to a working capital surplus of
$378,000 and a cash balance of $1.5 million at December 28, 2003. The small
decrease in the Company's cash was primarily attributable to purchases of fixed
assets of $2.9 million, increases in restricted cash of $0.8 million and
repayment of debt of $0.5 million, partially offset by cash provided by
operations of $4.1 million including tenant improvement allowances of $2.1
million.
The Company's need for capital resources historically has resulted from,
and for the foreseeable future is expected to relate primarily to, the
construction and opening of new restaurants. Historically, the Company has
funded its day-to-day operations through its operating cash flows which have
ranged from $803,000 to $4.1 million over the past three fiscal years. Growth
has been funded through a combination of bank borrowings, loans from
stockholders/officers, the sale of debentures and stock, loans and tenant
allowances from certain of its landlords, and, beginning in 1999, through joint
venture arrangements. Capital expenditures were $1.6 million in 2002, $1.4
million in 2003 and $2.9 million in 2004.
In June 2004, the Company finalized an agreement with respect to the
establishment of a new bank credit facility to replace our facility that expired
in October 2004. The terms of the new bank credit facility provide for financing
in the form of a revolving line of credit in the amount of $500,000, an
irrevocable standby letter of credit in the amount of $700,000, increased to
$860,000 in January 2005, and equipment financing in the amount of $500,000. The
facility has a one-year term, is secured by assets and is subject to certain
standard borrowing covenants. The Company has not utilized any funds from the
current or prior lines of credit dating back to 2001 and utilized $45,000 of the
equipment financing in 2004. There would be no negative impact if the current
facility is not extended. Interest is at the bank's variable reference rate.
Although the Company was in default of a covenant at year-end, the bank has
granted a waiver.
The Company has held preliminary talks with the bank to renew its existing
credit lines for another year. Given the expected capital expenditures of
approximately $600,000 (net of $3.5 million in both landlord reimbursements and
joint venture contributions) for the new restaurants planned for 2005 and
refurbishments on existing restaurants, the Company believes it will be able to
meet its expected obligations from its existing cash flow from operations if it
is unable to secure bank financing.
F-12
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION (CONTINUED)
At December 26, 2004, the Company had $45,000 owing under the above
mentioned equipment financing, an obligation to a member of Chicago - The Grill
on the Alley, LLC of $1.0 million for a guaranteed return of its invested
capital, loans from stockholders/ officers/directors of $0.2 million, equipment
loans of $0.2 million, and loans/advances from a landlord of $0.1 million.
The Company projects increased operating cash flows in 2005 which, when
added to existing cash balances, is expected to allow it to meet all operating,
investing and financing needs. Such projections are based on sales increases due
to store openings, as well as modest increases in same store sales. Management
believes it can respond to a decrease in sales through cost controls, reductions
in discretionary capital improvements and borrowings under the existing credit
facility. Management believes that the Company has adequate resources on hand
and operating cash flows to sustain operations for at least the following 12
months through December 2005.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION AND MINORITY INTEREST
The consolidated financial statements for the period ended December 26,
2004 include the accounts of Grill Concepts, Inc. and its wholly-owned
subsidiaries, which include The Grill on the Alley, Universal Grill Concepts,
Inc., Grill Concepts Management, Inc., Grill Concepts CD, Inc., six
majority-owned subsidiaries: The San Jose Grill LLC, Chicago - The Grill on the
Alley, LLC, The Grill on Hollywood, LLC, the Daily Grill at Continental Park,
LLC, and 612 Flower Daily Grill, LLC and Universal Grill Concepts Inc.'s
investment in the Universal CityWalk Daily Grill. All significant inter-company
accounts and transactions for the periods presented have been eliminated in
consolidation. The allocated interest of the earnings or loss of majority-owned
subsidiaries attributable to the minority owners of those subsidiaries is
reflected in a single statement of operations line, with minority interests in
earnings being a reduction in net income and minority interests in losses being
an increase in net income. The proportionate interest in the equity of
majority-owned subsidiaries attributable to the minority owners of those
subsidiaries is reflected as a single balance sheet line between liabilities and
stockholders' equity.
The Company allocates profits and losses to the minority interest in its
partially owned subsidiaries based on the underlying economics of the
investment. These may or may not reflect the Company's ownership percentage and
can be inconsistent with the allocation provisions specified in the joint
venture agreements. Where there is a disparity among the ownership percentages,
the terms of the agreements and the underlying economics, the Company utilizes a
hypothetical liquidation model to allocate profits and losses. Under this model,
all of the venture's assets and liabilities as reflected in the balance sheet
are assumed to be realized at their GAAP carrying values. The hypothetical
liquidating proceeds are calculated at the end of each period and applied to the
capital accounts as would occur under a true liquidation scenario. The change in
this balance from period to period represents the investors' share of the income
or loss.
F-13
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
We reported a minority interest in the loss of our majority owned
subsidiaries of $814,000 during 2004, consisting of a minority interest in the
earnings of San Jose Grill on the Alley, LLC of $154,000, a minority interest in
the loss of The Grill on Hollywood, LLC of $357,000, a minority interest in the
loss of The Daily Grill at Continental Park, LLC of $483,000, a minority
interest in the loss of the 612 Flower Daily Grill LLC of $3,000 and a
partnership loss in the Universal CityWalk Daily Grill of $125,000. During 2003
we reported a minority interest in the loss of our majority owned subsidiaries
of $704,000, consisting of a minority interest in the earnings of San Jose Grill
on the Alley, LLC of $141,000, a minority interest in the loss of The Grill on
Hollywood, LLC of $366,000 and a minority interest allocation from The Daily
Grill at Continental Park of $334,000 and partnership loss in the Universal
CityWalk Daily Grill of $145,000.
Effective December 28, 2003 (the first day of fiscal year 2004), the
Company retroactively adopted the provisions of FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities, an interpretation of ARB No. 51"
and restated the prior period financial statements.
Under FIN 46, an entity is considered to be a variable interest entity
("VIE") when it has equity investors which lack the characteristics of a
controlling financial interest, or its capital is insufficient to permit it to
finance its activities without additional subordinated financial support.
Consolidation of a VIE by an investor is required when it is determined that the
investor is the primary beneficiary and will absorb a majority of the VIE's
expected losses or residual returns if they occur.
Management has assessed all entities which are not wholly owned by the
Company to determine if these entities would be considered VIEs and whether the
Company would be considered the primary beneficiary. Upon adoption of FIN 46, it
was determined that all of the following entities would be considered VIEs: The
San Jose Grill LLC, Chicago - The Grill on the Alley LLC, The Grill on Hollywood
LLC, The Daily Grill at Continental Park LLC, and the Universal CityWalk Daily
Grill joint partnership. During 2004 it was determined that 612 Flower Daily
Grill, LLC would be considered a VIE. The Company has determined it is the
primary beneficiary for all these entities.
If the Company had not retroactively adopted FIN 46, it was determined that
the San Jose Grill, Chicago Grill and South Bay Daily Grill would not have been
consolidated because the minority interests' have rights which preclude
consolidation. The minority interests' rights in the San Jose LLC were deemed to
be material in that they vote on the approval of the construction, capital and
annual operating budgets as well as refinancing in excess of $10,000. The
minority interests' rights at Chicago are similar to San Jose except they do not
approve the operating budget. They do however approve construction and capital
budgets. The rights of the minority interest in South Bay are also considered
material, as borrowings in excess of $50,000 require the minority interest's
approval. The minority interest in Hollywood has no such rights, and therefore,
it was determined that the Company controlled the entity and consolidation would
be appropriate. In the restaurant business ongoing capital expenditures are
considered regular and routine, and as such, requiring approval on them from the
minority investor is evidence of material control.
F-14
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In connection with the building of a new restaurant, in June 2004, 612
Flower Daily Grill, LLC was formed for the operation of the Daily Grill in
downtown Los Angeles of which the Company owns 58.4%. Construction of the
restaurant will be funded primarily by a capital contribution of $1,250,000 from
the minority interest member of the limited liability company and a tenant
improvement allowance of $600,000 to be received from the landlord. The Company
has contributed $20,000 of its $251,000 capital contribution. The restaurant is
scheduled to open in the second quarter of 2005. The 612 Flower Daily Grill, LLC
is considered a variable interest entity for which the Company is the primary
beneficiary. Upon adoption of FIN 46, the consolidated financial statements
include the accounts of the limited liability company with minority interest
reflected using the hypothetical liquidation model. Total assets of the 612
Flower Daily Grill, LLC as of and for the year ended December 26, 2004 were
approximately $0.7 million.
In connection with the building of a new restaurant, in May 2002, The Daily
Grill at Continental Park, LLC was formed for the operation of the Daily Grill
at Continental Park in El Segundo, California of which the Company owns 50.1%.
Construction of the restaurant has been funded primarily by a capital
contribution of $1,000,000 from the minority interest member of the limited
liability company and a tenant improvement allowance of $500,000 received from
the landlord. The Company contributed $350,000 in July 2002 as its investment in
the limited liability company. The restaurant opened January 16, 2003. The Daily
Grill at Continental Park, LLC is considered a variable interest entity for
which the Company is the primary beneficiary. Upon adoption of FIN 46, the
consolidated financial statements include the accounts of the limited liability
company with minority interest reflected using the hypothetical liquidation
model. Total assets and restaurant sales of the Daily Grill at Continental Park,
LLC as of and for the year ended December 26, 2004 were approximately $1.6
million and $2.2 million, respectively.
In connection with the building of a new restaurant, in July 2001, The
Grill on Hollywood, LLC was formed for the operation of "The Grill on Hollywood"
restaurant in Hollywood, California, of which the Company owns 51%. Construction
of the restaurant was funded by a capital contribution of $1,200,000 from the
minority interest member and a tenant improvement allowance of up to $1,015,000
received from the landlord. The Company contributed $250,000 to the limited
liability company. The LLC is considered a variable interest entity for which
the Company is the primary beneficiary and is consolidated in the financial
statements that include the accounts of the limited liability company with
minority interest reflected using the hypothetical liquidation model. Total
assets and restaurant sales of the Grill on Hollywood as of and for the year
ended December 26, 2004 were approximately $0.9 million and $2.9 million,
respectively.
In connection with the building of a new restaurant in June 1999, the
Universal CityWalk Daily Grill joint partnership was formed for the purpose of
owning and operating the "Daily Grill Short Order" restaurant located in the
retail and entertainment district of Universal CityWalk Hollywood in Universal
City, California. The partners of the entity are Universal Grill Concepts, Inc.,
a wholly owned subsidiary of the Company, which holds a partner's percentage
interest of 50%, and Universal Studios Development Venture Six, a California
corporation which holds the remaining partnership percentage interest of 50%.
The joint venture is considered a variable interest entity for which the Company
is the
F-15
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
primary beneficiary. Upon adoption of FIN 46, the Company consolidated the
results of the joint venture. Total assets and restaurant sales of the Universal
Grill as of and for the year ended December 26, 2004 were approximately $0.9
million and $2.1 million, respectively.
In connection with the building of a new restaurant, in February 1999,
Chicago - The Grill on the Alley, LLC was formed for the operation of "The Grill
on the Alley" restaurant in Chicago, Illinois, of which the Company owns 60.0%.
Construction of the restaurant was funded primarily by a capital contribution of
$1,190,000 and a loan of $510,000 from the minority interest member of the
limited liability company and $750,000 of equipment financing. Chicago - The
Grill on the Alley is considered a variable interest entity for which the
company is the primary beneficiary. As a result of the adoption of FIN 46, the
consolidated financial statements include the accounts of the limited liability
company. Under the terms of the joint venture agreement, the limited liability
company is obligated to repay both the capital contribution of the minority
interest member and the loan, both of which accrue interest at eight percent per
annum. The Company has guaranteed the joint venture's repayment of both the loan
and the contributed capital and therefore recorded the full amount of this
obligation as part of related party debt and not as minority interest. Losses
generated by the limited liability company have been recognized in the Company's
statement of operations with no allocation to the minority interest. Total
assets and restaurant sales of Chicago - The Grill on the Alley LLC as of and
for the year ended December 26, 2004 were approximately $1.9 million and $4.7
million, respectively.
In connection with the building of a new restaurant, in January 1998, The
San Jose Grill LLC was formed for the operation of "The Grill" restaurant in San
Jose, California, of which the Company owns 50.05%. Construction of the
restaurant was funded primarily by a capital contribution from the Company of
$350,350 and by a capital contribution of $349,650 and a $800,000 loan from the
minority interest member of the limited liability company. The San Jose Grill
LLC is considered a variable interest entity for which the Company is the
primary beneficiary. As a result of the adoption of FIN 46 the consolidated
financial statements include the accounts of the limited liability company with
minority interest reflected using the hypothetical liquidation model. Total
assets and restaurant sales of the San Jose Grill LLC as of and for the year
ended December 26, 2004 were approximately $1.6 million and $4.3 million,
respectively.
FISCAL YEAR
The Company's fiscal year is the 52 or 53 weeks ending the last Sunday in
the calendar year. The fiscal years 2004, 2003 and 2002 consisted of 52 weeks
ended December 26, 2004, December 28, 2003, and December 29, 2002, respectively.
F-16
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires the Company's management to make
estimates and assumptions for the reporting period and as of the financial
statement date. These estimates and assumptions affect the reported amounts of
assets and liabilities, the disclosure of contingent liabilities, and the
reported amounts of revenue and expenses. Actual results could differ from
these estimates.
REVENUE RECOGNITION
Revenue from restaurant sales is recognized when food and beverage products
are sold. Management and license fees are typically determined based on a
percentage of revenues and are recognized on an accrual basis when earned.
Reimbursements for restaurant operating expenses are recorded as revenues in
accordance with EITF 01-14, "Income Statement Characterization of Reimbursements
Received for 'Out-of- Pocket' Expenses Incurred," as the Company is considered
to be the primary obligor with respect to restaurant operating expenses.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with an original
maturity of three months or less at date of purchase to be cash equivalents.
RESTRICTED CASH
In January 2004 a $700,000 certificate of deposit was established at Union
Bank to act as collateral for the Standby Letter of Credit opened to support our
new Workers Compensation policy. Other restricted cash consists of $72,000 held
in escrow for the Daily Grill at Continental Park in El Segundo, California and
$110,000 that was placed with our insurance claims processor in 2004 for
worker's compensation claims.
WORKER'S COMPENSATION LOSS RESERVE
In the first quarter of 2004, the Company obtained a large deductible
worker's compensation policy for 2004 that includes a deductible per occurrence
of $250,000 subject to a maximum aggregate loss of $1.7 million. The Company has
established a loss reserve to cover the potential deductible amounts. The loss
reserve is determined by estimating the ultimate cost to the Company utilizing
information on current accidents, prior year experience and the carrier's loss
development and loss trend factors.
CONCENTRATION OF CREDIT RISK
Financial instruments which potentially subject the Company to a
concentration of credit risk are cash and cash equivalents. The Company
currently maintains substantially all of its day-to-day operating cash balances
with major financial institutions. At times during the year, and at December
26, 2004, cash balances were in excess of Federal Depository Insurance
Corporation ("FDIC") insurance limits.
F-17
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORIES
Inventories consist of food, soft beverages, wine and liquor and are stated
at the lower of cost or market, cost generally being determined on a first-in,
first-out basis.
ACCOUNTS RECEIVABLES
Accounts receivable consist of amounts due from our managed outlets, hotel
charges and various food delivery companies, and are recorded when the products
or services have been delivered.
The Company reviews the collectability of its receivables on an ongoing
basis, and provides for an allowance when it considers the entity unable to meet
its obligation. Due to the slow start of our Daily Grill restaurant in Portland
which was opened in September 2003, we have not received any of the management
fees earned at this location and therefore, a full reserve was established for
these receivables in 2004.
Allowance for doubtful accounts is as follows:
Balance at Additions Balance
Beginning Charged to Net At End
Of Year Operations Deductions Of Year
Allowance for
Doubtful Accounts
Year Ended
December 29, 2002 $ - $ 46,000 $ - $ 46,000
December 28, 2003 $ 46,000 $ 29,000 $ 62,000 $ 13,000
December 26, 2004 $ 13,000 $134,000 $ 4,000 $143,000
PREPAID EXPENSES AND OTHER CURRENT ASSETS
Most lease agreements contain one or more of the following; tenant
improvement allowances, rent holidays, rent escalation clauses and/or contingent
rent provisions.
Rent is recognized on a straight-line basis, including over the restaurant
build-out period. This period is normally prior to the commencement of rent
payments and is commonly called the rent holiday period. The build-out period
generally begins when the Company enters the space and begins to make
improvements in preparation for intended use. The Company expenses rent on a
straight-line basis during the build-out period. Tenant improvement allowances
are also recognized on a straight-line basis beginning at the same time as the
commencement of the straight-line rent expense.
F-18
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Prepaid expenses and other current assets at December 26, 2004 and December
28, 2003 were composed of:
2004 2003
---------- ----------
Restated
Tenant Improvement Allowances
receivable $1,851,000 $1,116,000
Prepaid expenses, other 521,000 612,000
---------- ----------
Total prepaid assets and other
current assets $2,372,000 $1,728,000
========== ==========
FURNITURE, EQUIPMENT AND IMPROVEMENTS
Furniture, equipment and improvements are stated at cost.
Depreciation of furniture and equipment is computed by use of the
straight-line method based on the estimated useful lives of 3 to 10 years of the
respective assets. Leasehold improvements are amortized using the straight-line
method over the life of the improvement or the remaining life of the lease,
whichever is shorter. Interest costs incurred during construction were
capitalized and are being amortized over the related assets' estimated useful
lives. When properties are retired or otherwise disposed of, the costs and
related accumulated depreciation are removed from the accounts, and the
resulting gain or loss is credited or charged to current-year operations. The
policy of the Company is to charge amounts expended for maintenance and repairs
to current-year expense and to capitalize expenditures for major replacements
and betterments.
GOODWILL
Goodwill relates to the excess of cost over the fair value of the net
assets of The Grill on the Alley in Beverly Hills, California acquired in April
1996. Effective December 31, 2001, the Company adopted the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and
Other Intangibles." SFAS No. 142 addresses financial accounting and reporting
requirements for acquired goodwill and other intangible assets. In accordance
with the adoption of SFAS No. 142, goodwill is deemed to have an indefinite
useful life and is no longer amortized but rather, tested at least annually for
impairment. An impairment loss should be recognized if the carrying amount of
goodwill is not recoverable and the carrying amount exceeds its fair value. The
Company has not recognized any impairment losses.
In accordance with SFAS No. 142, the Company has not amortized goodwill
during the years ended December 26, 2004, December 28, 2003 and December 29,
2002.
F-19
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EXPENDABLES
Initial amounts spent for china, glassware and flatware in connection with
the opening of a new restaurant are capitalized and not amortized. Subsequent
purchases are expensed as incurred.
LIQUOR LICENSES
The cost of acquiring liquor licenses is capitalized at cost and is stated
at the lower of cost or market. Such costs are not amortized as the licenses
have an indefinite life.
OTHER LONG TERM LIABILITIES
In connection with certain of the Company's leases, the landlord has
provided the Company with tenant improvement allowances. These lease incentives
have been recorded as long-term liabilities and are being amortized over the
life of the lease. Additionally, the Company recognizes a liability for deferred
rent where lease payments are lower than rental expense recognized on a
straight-line basis.
Other Long-Term Liabilities at December 26, 2004 and December 28, 2003 were
composed of:
2004 2003
---------- ----------
Restated
Tenant Improvement Allowances $5,653,000 $3,232,000
Deferred Rent 2,401,000 2,364,000
---------- ----------
Total Other Long-Term Liabilities $8,054,000 $5,596,000
========== ==========
PRE-OPENING COSTS
Pre-opening costs are expensed as incurred.
INCOME TAXES
The Company accounts for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes," which prescribes an asset and liability approach.
Under the asset and liability method, deferred income taxes are recognized for
the tax consequences of "temporary differences" by applying enacted statutory
rates applicable to future years to the difference between the financial
statement carrying amounts and the tax basis of existing assets and liabilities.
The effect on deferred taxes of a change in tax rates is recognized in income in
the period that includes the enactment date. The Company establishes a
valuation allowance to reduce net deferred tax assets to the amount expected to
be realized.
ADVERTISING AND PROMOTION COSTS
All costs associated with advertising and promoting products are expensed
as incurred. Advertising and promotion expense for the years ended December 26,
2004, December 28, 2003 and December 29, 2002 was $571,000, $296,000, and
$359,000, respectively.
F-20
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
REIMBURSED COSTS
Expenses related to non-consolidated restaurants operated under management
agreements for which the Company is considered the primary obligor are recorded
in the statement of operations. Reimbursements for such expenses are recorded as
revenues.
RECLASSIFICATIONS
Certain prior-year amounts have been reclassified to conform to the
current-year presentation.
LONG-LIVED ASSETS
Long-lived assets held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. For purposes of evaluating the recoverability
of long-lived assets, the recoverability test is performed using undiscounted
future cash flows of the individual restaurants and consolidated undiscounted
future cash flows for long-lived assets not identifiable to individual
restaurants compared to the related carrying value. If the undiscounted future
cash flow is less than the carrying value, the amount of the impairment, if any,
is determined by comparing the carrying value of each asset with its fair value.
Fair value is generally based on a discounted cash flow analysis. Based on its
review, the Company does not believe that any impairment of its long-lived
assets has occurred.
STOCK-BASED COMPENSATION
In December 2002, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and
Disclosure," which amends SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 148 provides alternative methods of transition for a
voluntary change to the fair value based method of accounting for stock-based
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results of
operations. As the Company has not elected to change to the fair value based
method of accounting for stock based employee compensation, the adoption of SFAS
No. 148 did not have a material impact on the Company's financial position or
results of operations. All disclosure requirements of SFAS No. 148 have been
adopted and are reflected in these financial statements.
The Company accounts for stock-based employee compensation arrangements in
accordance with provisions of Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees," and related interpretations, and
complies with the disclosure provisions of SFAS No. 123. Under APB 25,
compensation expense is based on the difference, if any, on the date of grant
between the fair value of the Company's stock and the amount an employee must
pay to acquire the stock. Because grants under the plan require variable
accounting treatment due to the cashless exercise feature of those options
(described below), compensation expense was remeasured at each balance sheet
date based on the difference between the current market price of the Company's
stock and the option exercise price. An accrual for compensation expense is
determined based on the proportionate vested amount of each option as prescribed
by Financial Interpretation No. 28, "Accounting for Stock Appreciation Rights
and Other Variable Stock Option or Award Plans." Each period, adjustments to the
accrual are recognized in the income statement. The Company accounts for stock
and options to non-employees at fair value in accordance with the provisions of
SFAS No. 123 and the Emerging Issues Task Force Consensus on Issue No. 96-18.
F-21
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
On June 1, 1995, the Company's Board of Directors adopted the Grill
Concepts, Inc. 1995 Stock Option Plan (the "1995 Plan") and on June 12, 1998 the
1998 Stock Option Plan (the "1998 Plan") was adopted. These Plans provide for
options to be issued to the Company's employees and others. The exercise price
of the shares under option shall be equal to or exceed 100% of the fair market
value of the shares at the date of grant. The options generally vest over a
five-year period. The terms of the option grants originally allowed the employee
to exercise the option by surrendering a portion of the vested shares in lieu of
paying cash, subject to the terms of the plan including the rights of the
Compensation Committee to amend grants in any manner that the committee in its
sole discretion deems to not adversely impact the option holders.
On June 23, 2004, the Company's Compensation Committee, as administrators
of the Company's stock option plans, resolved that the cashless exercise feature
in the Company's stock option plan will not be permitted, and a notification was
subsequently given to all employees on July 30, 2004. Effective with this date,
the Company reverted back to accounting for its options under the fixed
accounting treatment.
The Company has adopted the disclosure-only provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," and will continue to use the
intrinsic value-based method of accounting prescribed by APB Opinion No. 25,
"Accounting for Stock Issued to Employees." Pro forma compensation expense for
the Company's stock option plans determined based on the fair value at the grant
date for awards in fiscal year 2004, 2003 and 2002 would have been as follows:
2004 2003 2002
---- ---- ----
Restated Restated
Net income (loss), as reported $ 38,000 $ 128,000 $(407,000)
Add: Stock compensation expense
recorded, net of taxes 84,000 168,000 -
Deduct: Stock compensation
expense under fair value method,
net of taxes (189,000) (163,000) (185,000)
---------- ---------- ----------
Net income (loss), pro forma $ (67,000) $ 133,000 $(592,000)
========== ========== ==========
Net income (loss) per share, as
reported:
Basic $ 0.00 $ 0.01 $ (0.08)
Diluted $ 0.00 $ 0.01 $ (0.08)
Net income (loss) per share, pro
forma:
Basic $ (0.02) $ 0.01 $ (0.12)
Diluted $ (0.02) $ 0.01 $ (0.12)
F-22
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The fair value of each option grant issued in fiscal year 2004, 2003 and
2002 is estimated at the date of grant using the Black-Scholes option-pricing
model with the following weighted-average assumptions: (a) no dividend yield on
the Company's stock, (b) expected volatility ranging from 68.82% to 71.35%, (c)
risk-free interest rates ranging from 2.5% to 4.87%, and (d) expected option
lives of five and ten years.
The weighted average fair value of options granted at market price during
2004, 2003 and 2002 was $1.85, $1.39, and $1.02, respectively.
NET INCOME PER SHARE
Pursuant to SFAS No. 128, "Earnings Per Share," basic net income per share
is computed by dividing the net income attributable to common shareholders by
the weighted-average number of common shares outstanding during the period.
Diluted net income per share is computed by dividing the net income attributable
to common shareholders by the weighted-average number of common and common
equivalent shares outstanding during the period. Common share equivalents
included in the diluted computation represent shares issuable upon assumed
exercise of stock options, warrants and convertible preferred stocks using the
treasury stock method.
A reconciliation of earnings available to common stockholders and diluted
earnings available to common stockholders and the related weighted average
shares for the years ended December 26, 2004, December 28, 2003 and December 29,
2002 follows:
2004 2003 2002
Restated Restated
---------- ----------- ---------- --------- ---------- ---------
Earnings Shares Earnings Shares Earnings Shares
Net income (loss) $ 38,000 $ 128,000 $(407,000)
Less: preferred
dividends accrued (50,000) (50,000) (50,000)
---------- ----------- ---------- ----------
Net income (loss)
applicable to common
stock (12,000) 5,608,541 78,000 5,537,071 (457,000) 5,537,071
Dilutive securities:
Dilutive stock options - 47,565 -
Warrants - - - 56,206 - -
---------- ----------- ---------- --------- ---------- ---------
Diluted earnings (loss)
available to common
stockholders $ (12,000) 5,608,541 $ 78,000 5,640,842 $(457,000) 5,537,071
========== =========== ========== ========= ========== =========
Stock options for 678,425, 454,475, and 669,975 shares for 2004, 2003 and
2002, respectively, were excluded from the calculation of diluted earnings per
share because they were anti-dilutive. Warrants for 1,719,037, 1,722,786, and
1,732,786, shares for 2004, 2003 and 2002, respectively, were excluded from the
calculation of diluted earnings per share because they were anti-dilutive.
125,000 shares of common stock issuable upon conversion of preferred stock were
excluded from the calculation of diluted earnings per share because they were
anti-dilutive for 2004, 2003, and 2002.
F-23
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DISTRIBUTION OF CAPITAL AND PREFERRED RETURNS
The Company's San Jose Grill, Chicago - Grill on the Alley, Grill on
Hollywood and South Bay Daily Grill restaurants are each owned by limited
liability companies (the "LLCs") in which the Company serves as manager and owns
a controlling interest. Each of the LLCs has minority interest owners, some of
whom have participating rights in the joint venture such as the ability to
approve operating and capital budgets and the borrowing of money. In connection
with the financing of each of the LLCs, the minority members may have certain
rights to priority distributions of capital until they have received a return of
their initial investments ("Return of Member Capital") as well as rights to
receive defined preferred returns on their invested capital ("Preferred
Return").
The Universal CityWalk Daily Grill is owned by a partnership ("the CityWalk
Partnership") for which we serve as manager. Our partner has certain rights to
priority distribution of capital from the CityWalk Partnership until they have
received their initial investments ("Return of Member Capital").
The following tables set forth a summary for each of the LLCs and the
CityWalk Partnership of (1) the initial capital contributions of the Company and
the minority LLC members or partner (the "Members"), (2) additional capital
contributions, (3) the distributions of capital to the Members and/or the
Company during the year ended December 26, 2004, (4) the unreturned balance of
the capital contributions of the Members and/or the Company at December 26,
2004, (5) the Preferred Return rate to Members and/or the Company, (6) the
accrued but unpaid preferred returns due to the Members and/or the Company at
December 26, 2004, (7) the management incentive fees, if any, payable to the
Company, and (8) a summary of the principal distribution provisions. In each of
the tables, the balance of distributable cash represents cash available for
distribution to the members after all obligations, including minimum working
capital advances, have been satisfied. The distribution provisions outlined
below are consistent with the order of distributions in a liquidation scenario
and are utilized for purposes of allocated profits and losses under the
liquidation model described elsewhere in this accounting policy footnote under
"Principles of Consolidation and Minority Interests."
SAN JOSE GRILL LLC
Initial Capital Contribution: Members (a) $1,149,650
===========
Company $ 350,350
===========
Distributions of profit during the year
ended December 26, 2004: Members $ 171,000
===========
Company $ 171,000
===========
Unreturned Initial Capital Contributions at
December 26, 2004: Members $ 0
===========
Company $ 0
===========
Preferred Return rate: Members 10%
Company 10%
Accrued but unpaid Preferred Returns at
December 26, 2004: Members $ 0
Company $ 0
Management Fee: Company 5%
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Initial Capital 10% to Company (Manager)
50.05% of 90% to Company
49.95% of 90% to Members
2 Until Return of Preferred Return 50.05% to Company
49.95% to Members
3 Until Return of Additional 50.05% to Company
Contributions 49.95% to Members
Thereafter:
4 Balance of distributable cash 16.67% to Company (Manager)
50.05% of 83.33% to Company
49.95% of 83.33% to Members
F-24
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CHICAGO - GRILL ON THE ALLEY
Initial Capital Contribution: Members (b) $1,700,000
===========
Company $ 0
===========
Distributions of capital and note
repayments during the year ended
December 26, 2004: Members (b) $ 252,000
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,076,000
===========
Preferred Return rate: Members 8%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members $ 0
Management Fee: Company 5%
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Members Capital 100% to Members
2 Until Return of Preferred Return 100% to Members
Thereafter:
3 Balance of distributable cash 60% to Company
40% to Members
THE GRILL ON HOLLYWOOD LLC
Initial Capital Contribution: Members $1,200,000
===========
Company $ 250,000
===========
Distributions of capital during the year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,200,000
===========
Company $ 250,000
===========
Preferred Return rate: Members 12%
Company 12%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ 0
===========
Company (d) $ 0
===========
Management Fee: Company 5%
F-25
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Members Capital and 10% to Company (Manager)
Preferred Return 90% to Members
2 Until Return of Company's Capital 90% to Company (Manager)
and Preferred Return 10% to Members
Thereafter:
3 Balance of distributable cash 51% to Company
49% to Members
SOUTH BAY DAILY GRILL (CONTINENTAL PARK LLC)
Initial Capital Contribution: Members $1,000,000
===========
Company $ 350,000
===========
Additional Capital Contribution Members $ 0
===========
Company $ 100,000
===========
Distributions of capital during the year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial Capital Contributions
at December 26, 2004: Members $1,000,000
===========
Company $ 350,000
===========
Preferred Return rate: Members 10%
Company (c) 10%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ 0
===========
Company (d) $ 0
===========
Management Fee: Company 5%
F-26
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until payment in full of all deferred
management fees 100% to Company (Manager)
2 Until Return of Any Additional Ratably to Company and Members
Contributions and Preferred Returns
thereon
3 Until $300,000 is paid 33.3% to Company
66.7% to Members
4 Until Return of Members accrued and 10% to Company
unpaid preferred returns 90% to Members
5 Until Members Capital Contribution 10% to Company
Returned 90% to Members
6 Until Return of Company's Preferred 90% to Company
Return 10% to Members
7 Until Return of Company's Capital 90% to Company
Contribution 10% to Members
Thereafter
8 Balance of distributable cash 50.1% to Company
49.9% to Members
F-27
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
UNIVERSAL CITYWALK DAILY GRILL
Initial Capital Contribution: Members $1,100,000
===========
Company $ 0
===========
Additional Capital Contributions: Members $ 201,106
===========
Company $ 201,106
===========
Distributions of capital during year
ended December 26, 2004: Members $ 0
===========
Company $ 0
===========
Unreturned Initial and Additional Capital
Contributions at December 26, 2004: Members $1,301,106
===========
Company $ 201,106
===========
Preferred Return rate: Members Prime rate
Company 0%
Accrued but unpaid Preferred Returns
at December 26, 2004: Members (d) $ -
===========
Company $ -
===========
Management Fee: Company 5%
Principal Distribution Provisions:
Order of Distributions ALLOCATION
----------------------- ------------
1 Until Return of Additional Capital 50% to Company (Manager)
Contributions 50% to Members
2 Until Return of $550,000 of Members 0% to Company (Manager)
Capital Contribution 100% to Members
3 Until Members unpaid preferred 0% to Company (Manager)
return is paid in full 100% to Members
4 Until return of initial contribution 20% to Company (Manager)
and preferred return 80% to Members
Thereafter:
5 Balance of distributable cash 50% to Company
50% to Members
F-28
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(a) The initial capital contributions of the Members of San Jose Grill LLC
consisted of a capital contribution of $349,650 and a loan of $800,000.
(b) The initial capital contributions of the Members of Chicago - Grill on the
Alley LLC consisted of a capital contribution of $1,000 and a loan of
$1,699,000. $1,189,000 of the loan was converted to capital in 1999. Under
the terms of the joint venture agreement, the LLC is obligated to repay
both the converted capital and loan and the Company guaranteed the joint
venture's payment of these obligations. Distributions of capital and note
repayments for the year ended December 26, 2004 includes $124,000 of
capital and note payments and $128,000 of interest and preferred return. No
losses are allocated to the minority interest partner as the investor has
no equity at risk. The loan of has been recognized as notes payable -
related parties.
(c) The Company's preferred return with respect to the South Bay Daily Grill is
based on unrecovered capital contribution and accrued but unpaid management
fees.
(d) Due to the poor performance of the restaurant the preferred return is not
being accrued. The Company is not liable to pay the preferred return
distributions, such that they represent a non-recourse obligation to the
subsidiary entity. If preferred returns were accrued for The Grill on
Hollywood the member would have an accrued preferred return of $545,000 and
the Company would have an accrued preferred return of $113,000. If
preferred returns were accrued for the South Bay Daily Grill the member
would have an accrued preferred return of $215,000 and the Company would
have an accrued preferred return of $96,000. If preferred returns were
accrued for the CityWalk Partnership the member would have an accrued
preferred return of $430,000.
FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosure About Fair Value of Financial Instruments,"
requires disclosure of fair value information about most financial instruments
both on and off the balance sheet, if it is practicable to estimate. SFAS No.
107 excludes certain financial instruments, such as certain insurance contracts,
and all non-financial instruments from its disclosure requirements. Disclosures
regarding the fair value of financial instruments have been derived using
external market sources, estimates using present value or other valuation
techniques.
The Company's management believes that that the fair values of assets and
liabilities that are on the financial statements classified as current
approximates their carrying values because of the short-term maturity of these
assets and liabilities. The fair values of non-current assets and liabilities
that are financial instruments, including restricted cash, long-term debt and
notes payable related parties closely approximates their carrying value.
RECENTLY ISSUED ACCOUNTING REQUIREMENTS
In April 2004, the EITF reached final consensus on EITF 03-06,
"Participating Securities and the Two-Class Method under FASB Statement No.
128," which requires companies that have participating securities to calculate
earnings per share using the two-class method. This method requires the
allocation of undistributed earnings to the common shares and participating
securities based on the proportion of undistributed earnings that each would
have been entitled to had all the period's earnings been distributed. EITF 03-06
is effective for fiscal periods beginning after March 31, 2004 and earnings per
share reported in prior periods presented must be retroactively adjusted in
order to comply with EITF 03-06. The Company adopted EITF 03-06 for the quarter
ended June 27, 2004, however there has been no impact on the Company's financial
statements as the preferred shares are not participating securities.
F-29
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
On December 16, 2004, the Financial Accounting Standards Board (FASB)
issued FASB Statement No. 123 (revised 2004), Share-Based Payment, which is a
revision of FASB Statement No. 123, Accounting for Stock-Based Compensation.
Statement 123(R) supersedes APB No. 25, and amends FASB Statement No. 95,
Statement of Cash Flows. Generally, the approach in Statement 123(R) is similar
to the approach described in Statement 123. However, Statement 123(R) requires
all share-based payments to employees, including grants of employee stock
options, to be recognized in the statement of operations based on their fair
values. Pro forma disclosure is no longer an alternative.
As permitted by Statement 123, we currently account for share-based
payments to employees using APB No. 25's intrinsic value method and, as such,
generally recognize no compensation cost for employee stock options.
Accordingly, the adoption of Statement 123(R)'s fair value method may have a
significant impact on our results of operations, although it will have no impact
on our overall financial position. The impact of adoption of Statement 123(R)
cannot be predicted at this time because it will depend on levels of share-based
payments granted in the future. However, had we adopted Statement 123(R) in
prior periods, the impact of that standard would have approximated the impact of
Statement 123 as described in the disclosure of pro forma net income and
earnings per share above.
We expect to adopt Statement 123(R) in the first quarter of 2006.
3. FURNITURE, EQUIPMENT AND IMPROVEMENTS, NET
Furniture, equipment and improvements at December 26, 2004 and December 28,
2003 consisted of:
2004 2003
------------- -------------
Restated
Furniture, fixtures and equipment $ 9,201,000 $ 8,413,000
Leasehold improvements 15,616,000 14,034,000
Construction In Progress 1,039,000 624,000
Motor vehicle - 23,000
Expendables 509,000 442,000
------------- -------------
Furniture, equipment and improvements 26,365,000 23,536,000
Less, Accumulated depreciation (14,501,000) (12,548,000)
------------- -------------
Furniture, equipment and improvements, net $ 11,864,000 $ 10,988,000
============= =============
F-30
4. ACCRUED EXPENSES
Accrued Expenses at December 26, 2004 and December 28, 2003 consist of the
following:
2004 2003
---------- ----------
Accrued payroll & taxes $ 829,000 $ 744,000
Accrued sales tax 285,000 278,000
Stock based compensation 36,000 168,000
Accrued vacation 393,000 399,000
Accrued audit fees 20,000 137,000
Accrued rent 101,000 93,000
Workers compensation
claim reserves 321,000 -
Accrued preferred return - 200,000
Other 563,000 381,000
---------- ----------
Total $2,548,000 $2,400,000
========== ==========
5. DEBT
In June 2004, we finalized an agreement with respect to the establishment
of a new bank credit facility to replace our facility that expired in October
2004. Under the terms of the new bank credit facility, we have been provided
with financing in the form of a revolving line of credit in the amount of
$500,000, an irrevocable standby letter of credit in the amount of $700,000,
increased to $860,000 in January 2005, and equipment financing in the amount of
$500,000. The facility has a one-year term, is secured by assets and is subject
to certain standard borrowing covenants. Interest is at the bank's variable
reference rate.
F-31
5. DEBT (CONTINUED)
The credit facility is collateralized by an interest in the assets of the
Company. In connection with this facility, the Company is required to comply
with a number of restrictive covenants, including meeting certain debt service
coverage and liquidity requirements. Although we were in default of a covenant
at year end, the bank has granted us a waiver for periods through December 26,
2004.
Debts at December 26, 2004 and December 28, 2003 are summarized as follows:
2004 2003
-------- --------
Note payable to Small Business Administration collateralized
by property, payable monthly, $1,648, including interest at
4.0%, due September 23, 2006. $ 31,000 $ 49,000
Note payable to lessor, uncollateralized, payable monthly,
1,435, including interest at 10.0%, due April 30, 2013. 106,000 113,000
Note payable for equipment, payable monthly, $14,597,
including interest at 9.25%, due April 30, 2004. - 44,000
Note payable for equipment, payable monthly, $6,382,
including interest at 10.8%, due May 1, 2004. - 25,000
Note payable to GMAC had an original principal amount of
201,948. This note carries an interest rate of 10.3% per
annum. The note has defined monthly payment terms of
4,068 with the final payment on the first of January 2005. 4,000 46,000
Note payable for equipment, payable monthly, $15,396,
including interest at 10.8%, due December 1, 2005. 158,000 306,000
Note payable to Union Bank under the equipment financing
portion of the credit facility, payable in monthly installment of
982, including interest at 7.49%, due December 2009 45,000 -
-------- --------
344,000 583,000
Less, Current portion of long-term debts 196,000 298,000
-------- --------
Long-term portion $148,000 $285,000
======== ========
Principal maturities of long-term debt are as follows:
Year Ending December
--------------------
2005 $ 196,000
2006 29,000
2007 20,000
2008 19,000
2009 16,000
Thereafter 64,000
-------------
Total $ 344,000
=============
F-32
6. RELATED PARTIES
Debts with related parties at December 26, 2004 and December 28, 2003
consisted of:
2004 2003
---- ----
Uncollateralized note payable to officer/Board member/major
shareholder, with interest payable at a rate of 10% per annum.
The note payable and interest is due on June 30, 2005. $ 70,000 $ 70,000
Uncollateralized subordinated note payable to officer/Board
member/major shareholder, with interest payable at a rate of
7.0% per annum. The note payable and interest is due on
June 30, 2005. 85,000 85,000
Note payable to a member of the Board of Directors, payable
monthly, $9,954, including interest at 9.0%, due August 1,
2004. - 67,000
Collateralized subordinated note and mandatorily redeemable
capital payable to a member of Chicago - The Grill on the Alley
LLC. The original principal amount of the note was $1,699,000.
Although $1,190,000 of the note was converted to equity in
February 1999, the LLC is obligated to repay the capital on
terms similar to the original note. The note and capital bear
monthly payments of $20,972, including interest at 8% per
annum. The note will mature on April 1, 2010. The Company
guaranteed repayment of the loan and capital on behalf of
Chicago - The Grill on the Alley, LLC and issued 203,645
warrants to acquire common stock at $4.00 per share. The fair
value of the warrants ($322,000) has been recorded as a
discount to the obligation which is being accreted to interest
expense over the term of the loan. 968,000 1,092,000
----------- ----------
1,123,000 1,314,000
Less, Current portion of notes payable - related parties 294,000 345,000
----------- ----------
Long-term portion $ 829,000 $ 969,000
=========== ==========
F-33
6. RELATED PARTIES (CONTINUED)
Principal maturities of debts with related parties are as follows:
Year Ending December
--------------------
2005 $ 294,000
2006 158,000
2007 179,000
2008 202,000
2009 228,000
Thereafter 62,000
--------------
Total $ 1,123,000
==============
Related party interest expense incurred was $174,000, $193,000 and $214,000
in fiscal years 2004, 2003 and 2002 respectively.
The Company had agreed to pay to each of two stockholders interest at a
rate of 2% per annum of the average annual balance of the expired bank credit
facility for guaranteeing the note with their personal assets. Interest
expense, related to the guarantee, totaled zero in each of the fiscal years
2004, 2003 and 2002.
Two stockholders, who are also officers of the Company, have loaned the
Company money. Interest accrues on these loans, but to date has not been paid.
Interest accrued was $104,000, $91,000 and $78,000 for the fiscal years 2004,
2003 and 2002, respectively.
A stockholder of the Company was the lessor for property leased by the
Pizzeria Uno Restaurant in Cherry Hill. Rent expense related to this operating
lease was zero, zero, and $83,000, for each of the fiscal years 2004, 2003 and
2002, respectively.
The holder of all of the Company's preferred stock is also a current Member
of our Board of Directors and is a part owner of the San Jose Fairmont Hotel,
the site of The San Jose Grill LLC. Lease payments made to the Fairmont Hotel
were $160,000, $136,000 and $123,000 for the fiscal years 2004, 2003 and 2002,
respectively. He is also a part owner of the San Jose Hilton Hotel, the site
of The City Bar & Grill, which was one of the restaurants licensed by the
Company which was converted from a management agreement entered into during
1998. The license agreement was terminated during 2004. Revenue related to
the license and management agreement was $4,000, $6,000, and $62,000 for the
fiscal years 2004, 2003 and 2002, respectively.
In August 1998, the Company entered into an agreement (the "Agreement")
with Hotel Restaurant Properties, Inc. ("HRP") in which HRP will assist the
Company in locating hotel locations for the opening of Company restaurants. One
of the two original owners of HRP is a family member of the above-referenced
preferred stockholder of the Company. On May 11, 1999 the HRP agreement was
amended under the same terms and conditions ("HRP II") except that HRP II is
100% owned by the family member. Both HRP and HRP II are referred to as HRP.
There were $290,000, $235,000, and $168,000 of management fees paid to HRP on
this Agreement for fiscal year 2004, 2003 and 2002, respectively. The Agreement
also provides that HRP will repay to the Company amounts advanced to managed
units on behalf of HRP. Receivable from HRP was $396,000 at December 26, 2004
and $255,000 at December 28, 2003.
F-34
6. RELATED PARTIES (CONTINUED)
The operating agreement between HRP and GCI contains a clause whereby, HRP
has the right to cause GCI to purchase HRP (the put option) at any time there is
a change in control or after May 2004 subject to certain conditions and at the
same time, GCI has the right to purchase HRP (the call option) after May 2004
subject to certain conditions. The purchase is governed by the following terms:
The Agreed Purchase Price ("APP") (principally paid in stock) under the put
or call option will be 25% multiplied by 10 (Multiple) times the Operating
Income of HRP (Gross Receipts for the prior twelve months less Operating
Expenses which are averaged over a five year period), with certain allowed
exclusions from Operating Income minus the principal balance of any outstanding
loans (with certain allowed exclusions) to HRP. Under the Put Option the
Multiple may change if 87.5% multiplied by the Closing Price of the Company's
Common Stock divided by EBITDA per share is less than 10. If the Company sells
assets or stock to certain third parties introduced to GCI by HRP which causes a
Change in Control, then purchase price will be the greater of: (A) $3,000,000 or
(B) the APP not to exceed $4,500,000.
The Company concluded that the options relating to HRP would be defined as
a derivative under FAS 133. However, because the purchase price was based on a
floating price, it was determined that the value of the put and call would be
identical so long as the formula resulted in a representative fair value of HRP.
The Company concluded that the multiple was based on fair value because the
original formula was negotiated between two parties. This fact was reconfirmed
when the HRP agreement was amended approximately three years later at the time
the Company entered into a development agreement with Starwood Hotels and the
multiple for the HRP put and call options did not change. We believe the
multiple used in the formula to be within a tolerable range of those found in
the marketplace. Therefore, management asserts that the formula is a reasonable
approximation of fair value of the HRP business that results in the put and call
options having similar values. Additionally, because fair market puts and calls
have little value on their own, any asset and liability related to these would
be insignificant. No derivative accounting is necessary in these circumstances
and therefore, no accounting recognition has been made in the financial
statements.
The Company will continue to evaluate the appropriateness of formula to
market conditions to ensure it represents fair market value, and will continue
to evaluate the formula going forward and to the extent it no longer represents
fair market value, will account for the derivative appropriately.
7. STOCKHOLDERS' EQUITY
In June 1997, the Company completed a private placement of 50,000 shares of
common stock, 1,000 shares of Series I Convertible Preferred Stock, 500 shares
of Series II, 10% Convertible Preferred Stock, 187,500 five-year $8.00 warrants
and 187,500 five-year $12.00 warrants. The warrants expired during 2002. The
aggregate sales price of those securities was $1,500,000.
F-35
7. STOCKHOLDERS' EQUITY (CONTINUED)
The Series I Convertible Preferred Stock was convertible into common stock
at $5.00 per share. In July 2000, the holder of the Series I convertible
preferred stock converted all 1,000 shares of preferred stock into 200,000
shares of common stock.
The Series II 10% Convertible Preferred Stock is convertible into common
stock commencing one year from the date of issuance at the greater of (i) $4.00
per share, or (ii) 75% of the average closing price of the Company's common
stock for the five trading days immediately prior to the date of conversion;
provided, however, that the conversion price shall in no event exceed $10.00 per
share. The Series II, 10% Convertible Preferred Stock is entitled to receive an
annual dividend equal to $100 per share payable on conversion or redemption in
cash or, at the Company's option, in common stock at the then-applicable
conversion price. The Series II, 10% Convertible Preferred Stock is subject to
redemption, in whole or in part, at the option of the Company on or after the
second anniversary of issuance at $1,000 per share. There were no conversions as
of December 26, 2004. Accumulated dividends in arrears totaled $376,000 and
$326,000 as of December 26, 2004 and December 28, 2003, respectively.
In July 2001, the Company completed a transaction with Starwood Hotels and
Resorts Worldwide, Inc. pursuant to which (1) the Company and Starwood entered
into a Development Agreement under which the Company and Starwood agreed to
jointly develop the Company's restaurant properties in Starwood hotels; (2) the
Company sold 666,667 shares of restricted common stock and 666,667 $2.00 stock
purchase warrants to Starwood for $1,000,000. Concurrently, the Company sold an
additional 666,666 shares of restricted common stock and 666,666 stock purchase
warrants at $2.25 to other strategic investors for $1,000,000. Proceeds
reflected in the financial statements are net of transaction costs.
Under the Development Agreement, the Company is obligated to issue to
Starwood warrants to acquire a number of shares of the Company's common stock
equal to four percent of the outstanding shares upon the attainment of certain
development milestones. Such warrants are issuable upon execution of management
agreements and/or license agreements relating to the development and operation,
and the commencement of operation, of an aggregate of five, ten, fifteen and
twenty of the Company's branded restaurants. If the market price of the
Company's common stock on the date the warrants are to be issued is greater than
the market price on the date of the Development Agreement, the warrants will be
exercisable at a price equal to the greater of (1) 75% of the market price as of
the date such warrant becomes issuable, or (2) the market price on the date of
the Development Agreement. If the market price of the Company's common stock on
the date the warrants are to be issued is less than the market price on the date
of the Development Agreement, the warrants will be exercisable at a price equal
to the market price as of the date such warrants become issuable. The warrants
will be exercisable for a period of five years.
F-36
7. STOCKHOLDERS' EQUITY (CONTINUED)
In addition to the warrants described above, if and when the aggregate
number of Company restaurants operated under the Development Agreement exceeds
35% of the total Daily Grill, Grill and City Grill-branded restaurants, the
Company will be obligated to issue to Starwood a warrant to purchase a number of
shares of the Company's common stock equal to 0.75% of the outstanding shares on
that date exercisable for a period of five years at a price equal to the market
price at that date. On each anniversary of that date at which the restaurants
operated under the Development Agreement continue to exceed the 35% threshold,
for so long as the Development Agreement remains effective, the Company shall
issue to Starwood additional warrants to purchase 0.75% of the outstanding
shares on that date at an exercise price equal to the market price on that date.
WARRANTS
In June 1997, 187,500 warrants exercisable at $8.00 per share and 187,500
warrants exercisable at $12.00 per share were issued in connection with the
offering of the Series I Convertible Preferred Stock. These warrants expired on
June 26, 2002.
In February 1999, 177,083 warrants exercisable at $4.00 per share were
issued in connection with the receipt of a loan from a Member of the Chicago -
The Grill on the Alley, LLC. These warrants expire April 1, 2005.
In February 1999, 17,708 warrants exercisable at $4.00 per share were
issued in connection with the receipt of a loan from a Member of the Chicago -
The Grill on the Alley, LLC. The exercisability of these warrants is contingent
on the accepting of renewal options with regard to the restaurant lease for the
Chicago - The Grill on the Alley, LLC. These warrants expire June 2010.
In February 1999, 8,854 warrants exercisable at $4.00 per share were issued
in connection with the receipt of a loan from a Member of the Chicago - The
Grill on the Alley, LLC. The exercisability of these warrants is contingent on
the accepting of renewal options with regard to the restaurant lease for the
Chicago - The Grill on the Alley, LLC. These warrants expire June 2015.
The fair value of all the warrants issued in connection with receiving the
loan from a member of Chicago - The Grill on the Alley, LLC have been recognized
as a debt discount and recorded as a reduction to the loan balance. Accretion
of the discount is recognized as additional interest expense using the effective
interest method.
In November 1999, 3,750 warrants exercisable at $2.00 were issued as
additional compensation in relation to a private placement memorandum. These
warrants expired in November 2004.
F-37
7. STOCKHOLDERS' EQUITY (CONTINUED)
In connection with a $400,000 loan to the Company, the Company issued
40,000 warrants to two accredited investors in July 2000. A co-trustee for both
investors became a member of our Board of Directors in June 2001. The warrants
are exercisable for a period of four years at a price of $1.406 per share. The
warrants were issued pursuant to a privately negotiated lending arrangement with
two accredited investors pursuant to the exemption from registration in Section
4(2) of the Securities Act of 1933, as amended. In June 2004 all of these
warrants were exercised in a cashless exercise. In July 2001, an additional
32,058 warrants exercisable for a period of four years were issued in connection
with this loan at a price of $2.77 per share. The fair value of these warrants
was amortized over the life of the loan.
In October 2000, the Company issued 50,000 warrants to a professional
advisor for services rendered. The warrants are exercisable for a period of
four years at a price of $1.53 per share. The fair value of these warrants was
expensed as general and administrative expense in the period issued. These
warrants expired in October 2004.
In connection with a guarantee of the Company's bank lending facility, the
Company issued 150,000 warrants in July 2000 to two principal shareholders of
the Company. The warrants are exercisable for a period of four years at a price
of $1.406 per share. The warrants were issued pursuant to a privately
negotiated guarantee of the Company's loan facility by two directors of the
Company pursuant to the exemption from registration in Section 4(2) of the
Securities Act of 1933, as amended. These warrants were exercised in March and
June 2004 in cashless exercises. In August 2001, an additional 150,000 warrants
exercisable for a period of four years were issued in connection with the
guaranty at a price of $2.12 per share. The fair value of the warrants was
amortized over the life of the guarantee and was recorded as additional interest
expense.
In July 2001, in conjunction with the sale of restricted common stock to
Starwood Hotels and Resorts Worldwide, Inc. and other strategic investors, the
company issued 666,667 $2.00 stock purchase warrants and 666,666 $2.25 stock
purchase warrants. The warrants expire in July 2006.
OPTIONS
On June 1, 1995, the Company's Board of Directors adopted the Grill
Concepts, Inc. 1995 Stock Option Plan (the "1995 Plan") and on June 12, 1998 the
1998 Stock Option Plan (the "1998 Plan") was adopted. The Plans were approved
at the 1996 and 1998 annual stockholders' meetings. These Plans provide for
options to be issued to the Company's employees and others. The exercise price
of the shares under option shall be equal to or exceed 100% of the fair market
value of the shares at the date of grant. The options generally vest over a
five-year period.
The terms of the option grants originally allowed the employee to exercise
the option by surrendering a portion of the vested shares in lieu of paying
cash. This cashless exercise feature required the Company to account for its
option plan using a variable accounting treatment. The terms of the option
grants allow the employee to exercise the option by surrendering a portion of
the vested shares in lieu of paying cash, subject to the terms of the plan
including the rights of the Compensation Committee to amend grants in any manner
that the committee in its sole discretion deems to not adversely impact the
option holders.
F-38
7. STOCKHOLDERS' EQUITY (CONTINUED)
On June 23, 2004, the Company's Compensation Committee, as administrators
of the Company's stock option plans, resolved that the cashless exercise feature
in the Company's stock option plans will be eliminated for all currently
outstanding and future grants, and a notification was subsequently given to all
employees on July 30, 2004. Effective with this date, the Company reverted back
to accounting for its options under the fixed accounting treatment.
A total of 1,072,500 common shares are reserved for issuance pursuant to
these plans. The number of shares reserved under the Plans was increased by
500,000 shares at the annual stockholders' meeting in 2001. Transactions during
the fiscal years 2004, 2003 and 2002 under the Plans were as follows:
2004 2003 2002
-------------- -------------- ---------------
Weighted- Weighted- Weighted-
Average Average Average
Option Option Option
Number Exercise Number Exercise Number Exercise
of Shares Price of Shares Price of Shares Price
---------- -------- ---------- ------ ---------- ------
Options outstanding at
Beginning of year 716,625 $ 2.81 669,975 $ 2.89 543,113 $ 3.24
Options granted - price
equals fair value 212,000 2.79 89,250 1.96 163,000 1.65
Options granted - price greater
than fair value - - - - - -
Options exercised (50,000) 2.33 - - - -
Options cancelled (200,200) 3.34 (42,600) 2.27 (36,138) 2.50
---------- -------- ---------- ------ ---------- ------
Options outstanding at end of
year 678,425 $ 2.69 716,625 $ 2.81 669,975 $ 2.89
========== ======== ========== ====== ========== ======
Options exercisable at end of
year 404,815 427,630 295,095
Options available for grant at
end of year 394,075 355,875 402,525
The following table summarizes information about stock options outstanding at
December 26, 2004:
Options Outstanding Options Exercisable
------------------------------------------- ---------------------------
Number Weighted- Number
Range of Outstanding at Average Weighted- Outstanding at Weighted-
Exercise December 26, Remaining Average December 26, Average
Price 2004 Contractual Life Exercise Price 2004 Exercise Price
--------------- ------------- ---------------- -------------- ------------- ---------------
$1.25 1,750 5.5 $1.25 1,750 $1.25
$1.55 48,400 5.7 $1.55 36,740 $1.55
$1.65 111,000 6.4 $1.65 57,600 $1.65
$1.70 42,750 8.4 $1.70 8,550 $1.70
$2.19 to $3.30 389,900 7.6 $2.77 215,550 $2.89
$4.00 to $4.68 52,625 3.2 $4.19 52,625 $4.19
$5.36 to $14.00 32,000 1.5 $5.94 32,000 $5.94
------------- ---------------
678,425 404,815
============= ===============
F-39
8. PENSION PLAN
Effective January 1, 1996, the Company established the Grill Concepts, Inc.
401(k) Plan (the "Plan"), a defined contribution savings plan, which is open to
all employees of the Company who have completed one year (1,000 hours in that
year) of service and have attained the age of 21. The Plan allows employees to
contribute up to the lesser of the Internal Revenue Code-prescribed maximum
amount or 20% of their income on a pre-tax basis, through contribution to the
Plan. The Company's contributions are discretionary. For the years 2004, 2003
and 2002, the Company made no contributions to the Plan.
9. COMMITMENTS AND CONTINGENCIES
The Company leases most of its restaurant facilities and corporate offices
under non-cancelable operating leases. The restaurant leases generally include
land and building, require various expenses incidental to the use of the
property, and certain leases require contingent rent above the minimum lease
payments based on a percentage of sales. Certain leases also contain renewal
options and escalation clauses. Lease escalation clauses based on changes in the
consumer price index are accounting for as contingent rentals.
The aggregate minimum lease payments under non-cancelable operating leases
are as follows:
Fiscal Year Ending
------------------
2005 $ 3,282,000
2006 3,180,000
2007 2,923,000
2008 2,571,000
2009 2,182,000
Thereafter 10,924,000
-------------
Total $ 25,062,000
=============
Rent expense was $3,689,000, $3,290,000, and $2,776,000 for fiscal years
2004, 2003 and 2002, respectively, including $712,000, $565,000, and $305,000
for 2004, 2003 and 2002, respectively, for contingent rentals which are payable
on the basis of a percentage of sales in excess of base rent amounts.
Restaurants such as those operated by the Company are subject to litigation
in the ordinary course of business, most of the related costs the Company
expects to be covered by its general liability insurance. However, punitive
damage awards are not covered by general liability insurance. Punitive damages
are routinely claimed in litigation actions against the Company. There can be
no assurance that punitive damages will not be given with respect to any actions
currently pending or that may arise in the future.
F-40
9. COMMITMENTS AND CONTINGENCIES (CONTINUED)
In June 2004, one of our former hourly restaurant employees filed a class
action lawsuit against us in the Superior Court of California of Orange County.
We requested and were granted a motion to move the suit from Orange County to
Los Angeles County. The lawsuit was then filed in the Superior Court of
California of Los Angeles in December 2004. The plaintiff has alleged violations
of California labor laws with respect to providing meal and rest breaks. The
lawsuit sought unspecified amounts of penalties and other monetary payments on
behalf of the plaintiffs and other purported class members. We believe that all
of our employees were provided with the opportunity to take all required meal
and rest breaks. The Company filed a motion to dismiss several of the claims,
which is scheduled to be argued in court in May 2005. Concurrently, discovery is
continuing in these matters and we intend to vigorously defend our position in
all of these matters although the outcome cannot be ascertained at this time.
In November 2004, a sexual harassment case was filed against us in the
Superior Court of California of Los Angeles. We filed a motion to dismiss and
the case was dismissed with the plaintiff having the right to refile. The
plaintiff refiled the case. We filed a second motion to dismiss in March 2005 as
we believe the suit is unfounded. We have accrued legal costs up to our
insurance deductible of $50,000 in this matter.
The Company has two suppliers which account for a majority of our
purchases. The Company has a policy of strengthening its supplier relationships
by concentrating its purchases over a limited number of suppliers in order to
maintain quality, consistency, and cost controls and to increase the suppliers'
commitment to the Company. The Company relies upon, and expects to continue to
rely upon, several single source suppliers.
The Company plans on new restaurant openings during 2005. The restaurants
will be structured as owned, joint ventures, LLCs or management agreements. In
connection with the building of the restaurants, the Company may be obligated
for a portion of the start-up and/or construction costs.
In order to better manage the cost of our workers compensation expense,
commencing in 2004, we have altered our workers compensation coverage to
substantially increase our per event and aggregate deductibles. As a result, we
expect to substantially reduce our recurring cost of workers compensation
insurance. On the other hand, we will have substantially higher exposure to
losses resulting from claims under that policy should those claims exceed our
prior deductible levels.
10. INCOME TAXES
The provisions for income taxes for the fiscal years ended December 26,
2004, December 28, 2003 and December 29, 2002 are as follows:
2004 2003 2002
------- ------- -------
Current - federal $ - $ - $ -
Current - state 65,000 89,000 37,000
------- ------- -------
$65,000 $89,000 $37,000
======= ======= =======
F-41
10. INCOME TAXES (CONTINUED)
The following is a reconciliation of taxes at the U.S. federal statutory
rate and the effective tax rate:
2004 2003 2002
---- ---- ----
Restated Restated
Taxes at federal tax rate $(243,000) $(166,000) $(126,000)
State tax net of federal benefit 43,000 59,000 24,000
Variable incentive stock option 29,000 77,000 -
Change in valuation allowance 22,000 76,000 156,000
General business and tip tax
credit (48,000) (181,000) (188,000)
Minority Interests 186,000 207,000 132,000
Other 76,000 17,000 39,000
---------- ---------- ----------
Income tax provision $ 65,000 $ 89,000 $ 37,000
========== ========== ==========
Deferred tax assets and liabilities consist of the following as of December
26, 2004 and December 28, 2003:
2004 2003
-------------------- -------------------
Restated
Deferred tax assets:
Net operating loss $ 474,000 $ 595,000
Fixed Assets 653,000 646,000
Intangibles 143,000 75,000
General business credit 1,364,000 1,258,000
Deferred rent 770,000 810,000
Other 451,000 384,000
-------------------- -------------------
Total gross deferred tax
assets 3,855,000 3,768,000
Less, Valuation allowance 3,570,000 3,548,000
-------------------- -------------------
Net deferred tax assets 285,000 220,000
Deferred tax liabilities:
State taxes (285,000) (220,000)
-------------------- -------------------
Net deferred tax assets
and liabilities $ - $ -
==================== ===================
At December 26, 2004, the Company has available federal and state net
operating loss carryforwards of $220,000 and $3,990,000 respectively that may be
utilized to offset future federal and state taxable earnings. Federal net
operating losses begin to expire in 2014. The remaining state net operating
losses began expiring in 2003. A full valuation allowance has been established
to reduce net deferred tax assets to the amount expected to be realized.
F-42
11. STORE OPENINGS AND CLOSINGS
OPENINGS
The Company began management of a San Francisco hotel-based Daily Grill
restaurant in February 2002. The Company contributed approximately $331,000 to
the restaurant. The contribution was expensed through managed outlet operating
expenses in 2002 and 2003.
The Company began management of a Houston, Texas hotel-based Daily Grill
restaurant in July 2002. The Company advanced the restaurant approximately
$64,000 for initial working capital that was repaid in May 2003. This was the
first restaurant opened under the Starwood agreement.
In connection with the building of a new restaurant, The Daily Grill at
Continental Park, LLC was formed for the operation of a Daily Grill restaurant
in El Segundo, California. The construction of the restaurant was financed
through a combination of equity capital and tenant improvement allowances. The
restaurant opened January 16, 2003.
The Company began management of a Portland, Oregon hotel-based Daily Grill
restaurant in September 2003. This was the second restaurant opened under the
Starwood agreement.
The Company opened an owned hotel-based Daily Grill restaurant in the Hyatt
Bethesda in Bethesda, Maryland. The construction was financed by $1.8 million
tenant improvement allowance which was treated as a lease incentive and recorded
as a long-term liability which will be amortized over the life of the lease.
The restaurant opened January 19, 2004.
The Company began management of a Long Beach, California hotel-based Daily
Grill restaurant in November 2004.
The Company signed a lease in April 2004 to open an owned Daily Grill in an
office park in Santa Monica, California. The construction is being financed by
a $2.2 million tenant improvement allowance which will be treated as a lease
incentive and recorded as a long-term liability which will be amortized over the
life of the lease. The restaurant opened March 14, 2005.
In connection with the building of a new restaurant the 612 Flower Daily
Grill, LLC was formed for the operation of a Daily Grill restaurant in downtown
Los Angeles, California. The construction of the restaurant will be funded
through a combination of equity capital and tenant improvement allowances. The
restaurant is scheduled to open in the second quarter of 2005.
CLOSINGS
In April 2002, the Company sold the assets of its Pizzeria Uno restaurant
in Cherry Hill, New Jersey for $325,000 less legal and other sale related fees
of $61,000. The Company received $175,000 in cash and a non-interest bearing
note for the remaining $150,000. The note was recorded with a discount of
$33,000 in 2002 that is being taken into interest income over the life of the
note. In April 2002, the lease for the Encino Daily Grill expired and was not
renewed.
F-43
12. QUARTERLY FINANCIAL DATA (UNAUDITED)
As discussed in footnote 1 the Company restated its financial statements as
of December 28, 2003 and for each of the two years in the period then ended. The
errors giving rise to that restatement also impact the first three quarters of
2004 and all four quarters of 2003. That quarterly information has been restated
to reflect, changes in lease accounting, estimated useful lives of leasehold
improvements and the accounting for complimentary meals and promotional
activities. Quarterly results for fiscal year 2004 were adjusted by decreasing
restaurant operating expenses and general and administrative expenses by $2,000
and $1,000, respectively, for the first through third quarters to reflect the
change in lease accounting. Quarterly results for fiscal year 2003 were adjusted
by increasing restaurant operating expenses by $29,000, $29,000, $29,000 and
$30,000 for the first through fourth quarters, respectively, and decreasing
general and administrative expenses by $1,000 in the fourth quarter to reflect
the change in lease accounting. The change in the estimate of useful lives for
leasehold improvements increased depreciation expense in the first three
quarters of 2004 by $30,000 per quarter and increased depreciation expense in
2003 by $18,000 in first and second quarters and by $17,000 in the third and
fourth quarters. Minority interest was increased by $48,000, $47,000 and $48,000
for the first three quarters in fiscal 2004 and by $112,000, $48,000, $48,000
and $48,000 in the first through fourth quarters of 2003. Revenues and expenses
for previously reported quarterly periods in fiscal year 2004 were decreased by
$497,000, $465,000 and $448,000 for the first through third quarters,
respectively. Revenues and expenses were decreased by $438,000, $436,000,
$405,000 and $441,000 in the first through fourth quarters, respectively, of
fiscal 2003.
Quarter Ended
-------------
March 28, June 27, September 26, December 26,
2004 2004 2004 2004
---- ---- ---- -----
Restated Restated Restated
----------- ------------ ------------- -----------
Total revenues as previously
reported $16,996,000 $15,855,000 $ 15,092,000
Total revenues as restated 16,499,000 15,390,000 14,644,000 17,126,000
Income (loss) from operations as
previously reported 86,000 (246,000) (218,000)
Income (loss) from operations as
restated 59,000 (274,000) (245,000) 21,000
Net income (loss) as previously
reported 97,000 (151,000) (199,000)
Net income (loss) as restated 117,000 (131,000) (178,000) 230,000
Basic net income (loss) per share
as previously reported $ 0.02 $ (0.03) $ (0.04)
Basic net income (loss) per share
as restated $ 0.02 $ (0.03) $ (0.03) $ 0.04
Diluted net income (loss) per
share as previously reported $ 0.01 $ (0.03) $ (0.04)
Diluted net income (loss) per share as restated $ 0.02 $ (0.03) $ (0.03) $ 0.04
F-44
12. QUARTERLY FINANCIAL DATA (UNAUDITED) (CONTINUED)
March 30, June 29, September 28, December 28,
2003 2003 2003 2003
----------- ----------- ----------------- -------------
Restated Restated Restated Restated
----------- ----------- ----------------- -------------
Total revenues as previously
reported $14,431,000 $14,514,000 $ 13,774,000 $ 15,624,000
Total revenues as restated 13,993,000 14,078,000 13,369,000 15,183,000
Income (loss) from operations as
previously reported 186,000 66,000 (441,000) 219,000
Income (loss) from operation as
restated 139,000 20,000 (488,000) 173,000
Net income (loss) as previously
reported 243,000 46,000 (349,000) 118,000
Net income (loss) as restated 308,000 48,000 (348,000) 120,000
Basic net income (loss) per share
as previously reported $ 0.04 $ 0.01 $ (0.07) $ 0.02
Basic net income (loss) per share
as restated 0.05 0.01 (0.07) 0.02
Diluted net income (loss) per
share as previously reported $ 0.04 $ 0.01 $ (0.07) $ 0.02
Diluted net income (loss) per
share as restated 0.05 0.01 (0.07) 0.02
Note: Due to rounding, the sum of individual columns may not equal the earnings
per share for the year. See also discussion under Note 1 regarding restatement
of financial statements.
F-45