UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001 or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________to _________
Commission file number 000-31149
California Pizza Kitchen, Inc.
(Exact name of registrant as specified in its charter)
| California | 95-4040623 |
| (State or other jurisdiction of incorporation or organization) | (IRS Employer Identification Number) |
6053 West Century Boulevard, 11th Floor
Los Angeles, California 90045-6442
(Address of principal executive offices including zip code)
(310) 342-5000
(Registrant's telephone number, including area code)
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 reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ],
There were 18,421,799 shares of outstanding Common Stock of the Registrant as of November 9, 2001.
California Pizza Kitchen, Inc and Subsidiaries
TABLE OF CONTENTS
| PART I. Financial Information | Page No. |
| | |
| Item 1. Financial Statements (unaudited): | |
| | |
Consolidated Balance Sheets at
September 30, 2001 and December 31, 2000 | 3 |
| | |
Consolidated Statements of Income for the three and nine months
ended September 30, 2001 and October 1, 2000 respectively | 4 |
| | |
Consolidated Statements of Cash Flows for the nine months
ended September 30, 2001 and October 1, 2000 | 5 |
| | |
| Notes to Consolidated Financial Statements | 6 |
| | |
| Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations | 7 |
| | |
| Item 3. Quantitative and Qualitative Disclosures About Market Risk | 13 |
| | |
| PART II. Other Information | |
| Item 6. Exhibits and Reports on Form 8-K | 15 |
| | |
| Signatures | 15 |
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
California Pizza Kitchen, Inc. and Subsidiaries
Consolidated Balance Sheets
(in thousands, except for share data)
September 30, December 31,
2001 2000
------------- -------------
Assets (unaudited)
Current assets:
Cash and cash equivalents................................. $ 11,382 $ 12,649
Trade accounts receivable................................. 963 1,122
Inventories............................................... 1,666 1,609
Prepaid expenses and other current assets................. 2,653 2,003
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Total current assets........................................ 16,664 17,383
Property and equipment, net................................. 108,136 91,144
Deferred taxes.............................................. 5,953 5,953
Other assets................................................ 2,182 2,497
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Total assets................................................ $ 132,935 $ 116,977
============= =============
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable.......................................... $ 2,499 $ 3,473
Accrued compensation and benefits......................... 6,088 9,273
Accrued rent.............................................. 5,506 4,763
Other accrued liabilities................................. 7,947 5,581
Current maturities of long-term debt...................... 12 47
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Total current liabilities................................... 22,052 23,137
Other liabilities........................................... 1,432 1,522
Commitments
Shareholders' equity:
Common Stock--$0.01 par value, 80,000,000 shares
authorized, 18,420,574 and 17,889,091 shares issued
and outstanding at September 30, 2001 and December 31,
2000, respectively...................................... 184 179
Additional paid-in capital................................ 205,178 198,052
Accumulated deficit....................................... (95,911) (105,913)
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Total shareholders' equity.................................. 109,451 92,318
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Total liabilities and shareholders' equity.................. $ 132,935 $ 116,977
============= =============
See accompanying notes
California Pizza Kitchen, Inc. and Subsidiaries
Consolidated Statements of Operations
(in thousands, except for per share data)
(unaudited)
Three Months Ended Nine Months Ended
-------------------------- --------------------------
September 30, October 1, September 30, October 1,
2001 2000 2001 2000
------------ ------------- ------------ -------------
Revenues:
Restaurant sales.............................................. $ 63,566 $ 54,328 $ 179,429 $ 154,013
Franchise and other revenues.................................. 705 641 2,198 1,861
------------ ------------ ------------ ------------
Total revenues........................................ 64,271 54,969 181,627 155,874
------------ ------------ ------------ ------------
Restaurant costs and expenses:
Cost of sales................................................. 15,841 13,402 44,330 38,149
Labor......................................................... 22,920 19,301 64,692 55,109
Direct operating and occupancy................................ 12,670 10,588 35,725 30,388
------------ ------------ ------------ ------------
Total restaurant operating costs....................... 51,431 43,291 144,747 123,646
General and administrative.................................... 3,894 3,817 11,389 11,038
Depreciation and amortization................................. 3,085 2,418 8,699 7,040
Pre-opening................................................... 805 396 1,918 910
Loss on impairment of property and equipment and
restaurant closures......................................... -- -- -- 1,839
Non-recurring compensation.................................... -- -- -- 1,949
------------ ------------ ------------ ------------
Operating income................................................ 5,056 5,047 14,874 9,452
Other income (expense):
Interest income (expense)..................................... 127 (139) 513 (1,640)
------------ ------------ ------------ ------------
Total other income (expense), net...................... 127 (139) 513 (1,640)
------------ ------------ ------------ ------------
Income before income tax provision.............................. 5,183 4,908 15,387 7,812
Income tax provision............................................ (1,814) (1,718) (5,386) (2,734)
------------ ------------ ------------ ------------
Net income...................................................... 3,369 3,190 10,001 5,078
Redeemable preferred stock accretion............................ -- (582) -- (3,512)
------------ ------------ ------------ ------------
Net income attributable to common shareholders.................. $ 3,369 $ 2,608 $ 10,001 $ 1,566
============ ============ ============ ============
Net income per common share:
Basic......................................................... $ 0.18 $ 0.17 $ 0.55 $ 0.13
============ ============ ============ ============
Diluted....................................................... $ 0.18 $ 0.17 $ 0.54 $ 0.12
============ ============ ============ ============
Shares used in calculating net income per common share:
Basic......................................................... 18,383 15,129 18,272 12,307
============ ============ ============ ============
Diluted....................................................... 18,625 15,473 18,613 12,578
============ ============ ============ ============
See accompanying notes
California Pizza Kitchen, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Nine Months Ended
--------------------------
September 30, October 1,
2001 2000
------------ ------------
Operating activities
Net income.................................................... $ 10,001 $ 5,078
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization ............................ 8,699 7,040
Loss on impairment of property and equipment
and restaurant closures................................. -- 1,839
Non-recurring compensation................................ -- 1,949
Changes in operating assets and liabilities:
Trade accounts receivable............................... 159 (2,622)
Inventories............................................. (56) (128)
Prepaid expenses and other assets....................... (336) 1,238
Accounts payable........................................ (974) (1,940)
Accrued liabilities..................................... 1,760 2,113
Other liabilities....................................... (122) (100)
------------ ------------
Net cash provided by operating activities..................... 19,131 14,467
------------ ------------
Investing activities
Capital expenditures...................................... (25,709) (15,789)
------------ ------------
Net cash used in investing activities......................... (25,709) (15,789)
------------ ------------
Financing activities
Payments on long-term debt................................ (34) (40,027)
Net proceeds from issuance of common stock................ 5,345 71,876
Redemption of preferred stock............................. -- (23,719)
------------ ------------
Net cash provided by financing activities..................... 5,311 8,130
------------ ------------
Net (decrease) increase in cash and cash equivalents.......... (1,267) 6,808
Cash and cash equivalents at beginning of period.............. 12,649 5,686
Cash from consolidation of investment in limited partnership.. -- 172
------------ ------------
Cash and cash equivalents at end of period.................... $ 11,382 $ 12,666
============ ============
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest................................................... $ 25 $ 1,879
============ ============
Income taxes............................................... $ 3,570 $ 2,583
============ ============
See accompanying notes
California Pizza Kitchen, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
September 30, 2001
(unaudited)
1. Basis of Presentation
California Pizza Kitchen, Inc. (referred to herein as the "Company" or in the first person notations "we," "us" and "our") owns, operates, licenses or franchises 131 restaurants under the names California Pizza Kitchen and California Pizza Kitchen ASAP as of November 13, 2001.
The accompanying consolidated financial statements have been prepared by the Company in accordance with accounting principles generally accepted in the United States and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The consolidated financial statements presented herein have not been audited by independent public accountants, but include all material adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the Company's consolidated financial condition, results of operations and cash flows for the periods. However, these results are not necessarily indicative of results for any other interim periods or for the full fiscal year. The consolidated balance sheet data presented herein for December 31, 2000 was derived from our audited consolidated financial statements for the fiscal year then ended, but does not include all disclosures required by accounting principles generally accepted in the United States. The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires us to make certain estimates and assumptions for the reporting periods covered by the financial statements. These estimates and assumptions affect the reported amounts of assets, liabilities, revenues and expenses. Actual amounts could differ from these estimates.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been omitted pursuant to requirements of the Securities and Exchange Commission. We believe the disclosures included in the accompanying interim consolidated financial statements and footnotes are adequate to make the information not misleading, but should be read in conjunction with the consolidated financial statements and notes thereto included in our filings with the Securities and Exchange Commission.
2. Sales of Securities
The Company completed its initial public offering on August 7, 2000. The offering resulted in the issuance of 5,300,000 shares of common stock at $15.00 per share, resulting in net proceeds to the Company of approximately $71.9 million. Upon consummation of the offering, all shares of Series A 12 1/2% cumulative compounding preferred stock and Series B 13 1/2% cumulative compounding preferred stock were automatically converted into a right to receive $23.7 million in cash and 1,580,938 shares of common stock. Additionally, upon completion of the Company's public offering, options to purchase 110,696 shares of common stock were exercised.
On January 15, 2001 and July 16, 2001, employees purchased 69,873 and 68,668 shares of common stock from the Company under the Company's employee stock purchase plan. The net proceeds to the Company were approximately $891,000 and $894,000, respectively.
On February 13, 2001, the Company completed a follow-on offering for 4,400,000 shares of common stock, of which 200,000 shares were sold by the Company and 4,200,000 shares were sold by selling shareholders. The shares were sold at a price of $25.94 per share, resulting in net proceeds to the Company of approximately $4.5 million.
3. Long-term Debt and Credit Facilities
Upon completion of the Company's initial public offering in August 2000, the Company repaid all borrowings outstanding under its 1999 credit agreement. On December 15, 2000, the Company replaced its 1999 credit agreement with a $20.0 million revolving line of credit with Bank of America, N.A., of which zero is outstanding as of September 30, 2001. The credit line bears interest at either the bank base rate minus 0.75% or LIBOR plus 1.0% and expires on June 30, 2004. The terms of the credit facility include financial covenants which the Company was in compliance with as of September 30, 2001.
4. Loss on Impairment of Property and Equipment and Store Closures
The Company reviews the carrying value of its assets in accordance with Statements of Financial Accounting Standards (SFAS) No. 121, "Accounting for Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of," on a restaurant by restaurant basis. In April 2000, the Company determined that one of its restaurant locations, with a net book value of $1,839,000, was impaired. As a result, the Company recorded a $1,839,000 write-down of the book value of the restaurant in accordance with SFAS No. 121. There was no write-down of assets during the nine months ended September 30, 2001.
5. Net Income Per Common Share (in thousands)
Basic Net Income per share is computed by dividing net income attributable to common shareholders by the weighted average number of common shares outstanding during the period. Diluted net income per share includes the dilutive effect of potential stock options exercises, calculated using the treasury stock method.
Three Months Ended Nine Months Ended
------------------------ ------------------------
September 30, October 1, September 30, October 1,
2001 2000 2001 2000
------------ ---------- ------------ ----------
Numerator for basic and diluted net income per share
attributable to common shareholders................. $ 3,369 $ 2,608 $ 10,001 $ 1,566
Denominator: ============ ========== ============ ==========
Denominator for basic net income per share -
weighted average shares............................ 18,383 15,129 18,272 12,307
Employee stock options.............................. 242 344 341 271
------------ ---------- ------------ ----------
Denominator for diluted net income per share -
weighted average shares............................ 18,625 15,473 18,613 12,578
============ ========== ============ ==========
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
California Pizza Kitchen is a leading casual dining restaurant chain in the premium pizza segment. As of November 13, 2001, we own and operate 99 restaurants under the name "California Pizza Kitchen" or "California Pizza Kitchen ASAP" in 21 states and the District of Columbia. We also franchise our concept and currently have 32 additional restaurants which operate under franchise or license agreements. We opened our first restaurant in 1985 in Beverly Hills, California. During more than 16 years of operating history, we have developed a recognized consumer brand and demonstrated the appeal of our concept in a wide variety of geographic areas. Our restaurants, which feature an exhibition-style kitchen centered around an open-flame oven, provide a distinctive, casual dining experience, which is family friendly and has a broad consumer appeal.
We have opened 16 new restaurants in 2001, ten of which were opened by September 30, 2001. We do not anticipate opening any additional restaurants this year. In addition, we purchased a restaurant located in San Antonio, Texas which was formerly operated by a franchisee. In 2002, we intend to open 16 to 18 new restaurants. We have signed lease agreements or letters of intent for 17 of these restaurants. We anticipate that our new restaurants will require a cash investment, net of landlord contributions of approximately $1.3 to $1.4 million per restaurant. Pre-opening expenses for each of these new restaurants is expected to average approximately $175,000 per restaurant. Additionally, our new restaurants experience higher cost of sales, labor and direct operating and occupancy costs for approximately their first 90 days of operations in both percentage and dollar terms when compared with our mature restaurants. Accordingly, the volume and timing of new restaurant openings has had, and is expected to continue to have an impact on pre-opening expenses, cost of sales, labor and direct operating and occupancy costs until our restaurant operating base is large enough to mitigate these opening costs and inefficiencies.
Our revenues are comprised of restaurant sales, franchise royalties and other income. Our restaurant sales are comprised almost entirely of food and beverage sales. Cost of sales is composed of food, beverage and paper supply expenses. The components of cost of sales are variable and increase with sales volume. Labor costs include direct hourly and management wages, bonuses, taxes and benefits for restaurant employees. Direct operating and occupancy costs include restaurant supplies, marketing costs, fixed rent, percentage rent, common area maintenance charges, utilities, real estate taxes, repairs and maintenance and other related costs.
General and administrative costs include all corporate and administrative functions that support existing operations and provide infrastructure to facilitate our future growth. Components of this category include management, supervisory and staff salaries and related employee benefits, travel, information systems, training, corporate rent and professional and consulting fees. Depreciation and amortization principally includes depreciation on capital expenditures for restaurants.
Pre-opening costs, which are expensed as incurred, consist of the costs of hiring and training the initial work force, travel, the cost of food used in training, marketing costs, the cost of the initial stocking of operating supplies and other direct costs related to the opening of a new restaurant.
Our fiscal year consists of 52 or 53 weeks and ends on the Sunday closest to December 31 in each year. The three months ended September 30, 2001 and October 1, 2000 consist of thirteen weeks. The nine months ended September 30, 2001 and October 1, 2000 consist of thirty-nine weeks. In calculating company-owned comparable restaurant sales, we include a restaurant in the comparable base once it has been open for 12 months.
Events of September 11, 2001
- The September 11, 2001 terrorist attacks have negatively impacted the United States economy. Like most consumer businesses, our business is affected by general economic, political and public safety conditions that impact consumer confidence and spending. Sales for many of our restaurants were adversely affected as a result of the September 11 attacks. Additional terrorist attacks or related events could adversely impact all consumer businesses, including ours. It is not possible at this time to predict the long-term effects of the attacks, or the impact of actions taken in response to the attacks, on general economic, political and public safety conditions and our results of operations.
- Additionally, we have 19 franchised California Pizza Kitchen ASAP restaurants located in airport terminals throughout the United States. These franchise restaurants were adversely affected by the September 11 terrorist attacks and by the subsequent continuing decline in airport traffic. Although these restaurants are not owned or managed by us, we do expect that these franchise locations will have significantly reduced franchise income in the fourth quarter and possibly next year.
-
Results of Operations
Our operating results for the three months and nine months ended September 30, 2001 and October 1, 2000 are expressed as a percentage of revenues below, except for restaurant operating costs and expenses, which are expressed as a percentage of restaurant sales:
Three Months Ended Nine Months Ended
-------------------------- --------------------------
September 30, October 1, September 30, October 1,
2001 2000 2001 2000
------------ ------------ ------------ ------------
Revenues:
Restaurant sales.......................................... 98.9 % 98.8 % 98.8 % 98.8 %
Franchise and other revenues.............................. 1.1 1.2 1.2 1.2
------------ ------------ ------------ ------------
Total revenues.................................... 100.0 100.0 100.0 100.0
------------ ------------ ------------ ------------
Restaurant costs and expenses:
Cost of sales............................................. 24.9 24.7 24.7 24.8
Labor..................................................... 36.1 35.5 36.1 35.8
Direct operating and occupancy............................ 19.9 19.5 19.9 19.7
------------ ------------ ------------ ------------
Total restaurant operating costs................... 80.9 79.7 80.7 80.3
General and administrative................................ 6.1 6.9 6.3 7.1
Depreciation and amortization............................. 4.8 4.4 4.8 4.5
Pre-opening............................................... 1.3 0.7 1.1 0.6
Loss on impairment of property and equipment and
restaurant closures..................................... -- -- -- 1.2
Non-recurring compensation................................ -- -- -- 1.3
------------ ------------ ------------ ------------
Operating income............................................ 7.9 9.2 8.2 6.1
Other income (expense):
Interest income (expense)................................. 0.2 (0.3) 0.3 (1.1)
------------ ------------ ------------ ------------
Total other income (expense), net.................. 0.2 (0.3) 0.3 (1.1)
------------ ------------ ------------ ------------
Income before income tax provision.......................... 8.1 8.9 8.5 5.0
Income tax provision........................................ (2.8) (3.1) (3.0) (1.8)
------------ ------------ ------------ ------------
Net income.................................................. 5.2 % 5.8 % 5.5 % 3.3 %
============ ============ ============ ============
Three months ended September 30, 2001 compared to the three months ended October 1, 2000
Total Revenues. Total revenues increased by $9.3 million, or 16.9%, to $64.3 million in the third quarter of 2001 from $55.0 million for the third quarter of 2000 due to a $9.2 million increase in restaurant sales and a $64,000 increase in franchise and other revenues. The increase in restaurant sales was due to $7.6 million in sales derived from the 15 restaurants opened during or subsequent to the third quarter of 2000 and $1.0 million from comparable restaurant sales increases of 1.8%. The increase in comparable restaurant sales was driven by an increase in the average check of approximately 3.0% compared to the third quarter of 2000 and a decrease in traffic of approximately 1.2%. The increase in average check was due to an average aggregate 3.0% price increase taken in November 2000 and May 2001. Franchise and other revenues growth was due to the two new franchise restaurants that opened during the second quarter of 2001 and increased royalties from our partnership with Kraft Pizza Company.
Cost of sales. Cost of sales increased by $2.4 million, or 18.2%, to $15.8 million for the third quarter of 2001 from $13.4 million for the third quarter of 2000. Cost of sales as a percentage of restaurant sales increased to 24.9% for the third quarter of 2001 from 24.7% in the comparable quarter for the prior year. This deterioration was primarily a result of increased cheese prices and inefficiencies from new stores.
Labor. Labor increased by $3.6 million, or 18.8%, to $22.9 million for the third quarter of 2001 from $19.3 million for the third quarter of 2000. Labor as a percentage of restaurant sales increased to 36.1% for the third quarter of 2001 from 35.5% for the prior period. The increase in labor as a percent of sales was due to the de-leveraging of certain labor costs at both the hourly and management positions due to lower sales volumes attributed to the events of September 11 and inefficiencies related to the four new stores that were opened during the quarter. We expect upward pressure on our labor costs in the fourth quarter due to the six new store openings since labor expenses for new restaurants are typically higher than normal during the first 90 days of operations, and due to the de-leveraging of certain labor costs as a result of lower comparable restaurant sales.
Direct operating and occupancy. Direct operating and occupancy increased by $2.1 million, or 19.7%, to $12.7 million for the third quarter of 2001 from $10.6 million for the third quarter of 2000. Direct operating and occupancy as a percentage of restaurant sales increased to 19.9% for the third quarter of 2001 from 19.5% for the prior period. The increase in direct operating and occupancy as a percentage of sales was primarily due to higher utility costs for both natural gas and electricity. While we have seen a reduction in natural gas prices from earlier in the year, we still anticipate the higher electricity rates in California and lower comparable restaurant sales increases to exert upward pressure on our direct operating costs for the remainder of the year.
General and administrative. General and administrative increased by $77,000, or 2.0%, to $3.9 million for the third quarter of 2001 from $3.8 million for the third quarter of 2000. General and administrative as a percentage of total revenues decreased to 6.1% for the third quarter of 2001 from 6.9% for the prior quarter. The increase in general and administrative expenses was primarily a result of higher travel and moving expenses related to manager relocations for our new restaurants and higher recruiting and personnel costs related to new management positions. The decrease in general and administrative expenses as a percentage of revenues was primarily a result of the Company's increasing revenue base and our ability to leverage our general and administrative personnel, coupled with the elimination of our co-founders' salaries effective October 1, 2000.
Depreciation and amortization. Depreciation and amortization increased by $667,000, or 27.6%, to $3.1 million for the third quarter of 2001 from $2.4 million for the third quarter of 2000. The increase was primarily due to a full three months of depreciation on the eight new restaurants that opened in the third and fourth quarters of 2000 and depreciation on the ten new restaurants that have opened by September 30, 2001.
Pre-opening. Pre-opening increased by $409,000, to $805,000 for the third quarter of 2001 from $396,000 for the third quarter of 2000. The increase was due to the four new stores that opened in the third quarter of 2001 and some initial pre-opening costs related to the six new store openings in the fourth quarter of 2001 compared to one full service opening and two ASAP openings in the third quarter of 2000.
Interest income (expense). Interest income, net of interest expense, increased by $266,000 to $127,000 for the third quarter of 2001 from interest expense of $139,000 for the third quarter of 2000. The increase was a result of interest income earned on cash balances since the repayment of our term note and the pay-down of the revolving line of credit on August 7, 2000 from the proceeds of our initial public offering.
Income tax provision. The income tax provision for the third quarter of 2001 and 2000 was based on annual effective tax rates applied to the income before income tax provision. The 35.0% tax rate applied to the third quarter of 2001 and 2000 comprises the federal and state statutory rates based on the annual estimated effective tax rate for both years.
Nine months ended September 30, 2001 compared to the nine months ended October 1, 2000
Total Revenues. Total revenues increased by $25.8 million, or 16.5%, to $181.6 million for the first nine months of 2001 from $155.9 million for the first nine months of 2000 due to a $25.4 million increase in restaurant sales and a $337,000 increase in franchise and other revenues. The increase in restaurant sales was due to $11.2 million in sales from a full nine months of operations for the eleven restaurants that opened in 2000, $5.9 million from comparable restaurant sales increases of 3.7% and $7.7 million from ten new stores opened and one new store acquired from our franchisee in the first nine months of 2001. The increase in comparable restaurant sales was driven by an increase in customer counts of approximately 0.5% and an increase in the average check of approximately 3.2% compared to the first nine months of 2000. The increase in average check was due to approximately 3.0% in price increases with the remainder due to modest shifts in our menu mix. Franchise and other revenues growth was due primarily to a full nine months of operations for the six new franchise restaurants that opened in 2000 as well as operations for the three new franchise restaurants that opened during the first nine months of 2001.
Cost of sales. Cost of sales increased by $6.2 million, or 16.2%, to $44.3 million for the first nine months of 2001 from $38.1 million for the first nine months of 2000. Cost of sales as a percentage of restaurant sales decreased to 24.7% for the first nine months of 2001 from 24.8% for the first nine months of 2000. This reduction was primarily a result of menu price increases taken in November 2000 and May 2001. We do expect slight upward pressure on cost of sales through the remainder of the year due to inefficiencies from new stores.
Labor. Labor increased by $9.6 million, or 17.4%, to $64.7 million for the first nine months of 2001 from $55.1 million for the first nine months of 2000. Labor as a percentage of restaurant sales increased to 36.1% for the first nine months of 2001 from 35.8% for the prior period. The increase in labor as a percentage of restaurant sales was primarily due to higher hourly labor as a result of inefficiencies related to new store openings and higher management labor as a percentage of sales resulting from the hiring of additional managers in anticipation of new store openings. Hourly labor as a percentage of sales increased from 21.4% for the first nine months of 2000 to 21.7% for the first nine months of 2001. Due to the increase in new store openings and anticipated lower comparable restaurant sales increases we do expect some upward pressure on labor costs in the fourth quarter.
Direct operating and occupancy. Direct operating and occupancy costs increased by $5.3 million, or 17.6%, to $35.7 million for the first nine months of 2001 from $30.4 million for the first nine months of 2000. Direct operating and occupancy as a percentage of restaurant sales increased to 19.9% for the first nine months of 2001 from 19.7% for the prior period as a result of higher natural gas and electricity costs. We do anticipate continued upward pressure on direct operating and occupancy costs through the remainder of the year due to electricity rate increases in California and anticipated lower comparable restaurant sales increases.
General and administrative. General and administrative increased by $351,000, or 3.2%, to $11.4 million for the first nine months of 2001 from $11.0 million for the first nine months of 2000. General and administrative as a percentage of total revenues decreased to 6.3% for the first nine months of 2001 from 7.1% for the prior period. The increase in general and administrative expenses was primarily a result of higher travel and moving expenses related to manager relocations for our new restaurants and higher personnel costs related to new management positions. The decrease in general and administrative expenses as a percentage of revenues was primarily a result of the Company's increasing revenue base and our ability to leverage our general and administrative personnel, coupled with the elimination of our co-founders' salaries effective October 1, 2000.
Depreciation and amortization. Depreciation and amortization increased by $1.7 million or 23.6%, to $8.7 million for the first nine months of 2001 from $7.0 million for the first nine months of 2000. The increase was primarily due to a full nine months of depreciation for the eleven new restaurants opened during 2000 and the depreciation for the ten new restaurants opened through September 30, 2001.
Pre-opening. Pre-opening increased by $1.0 million, to $1.9 million for the first nine months of 2001 from $0.9 million for the first nine months of 2000. The increase was due to ten new restaurants that opened in the first nine months of 2001 compared to six restaurants that opened in the first nine months of 2000. We expect to incur an increase in pre-opening during the fourth quarter of 2001 related to six restaurant openings compared with five new openings in the prior period.
Interest income (expense). Interest income, net of interest expense, increased by $2.2 million to $513,000 for the first nine months of 2001 from interest expense of $1.6 million for the first nine months of 2000. The increase was a result of the interest earned on the cash balances since the repayment of our term note and the pay-down of the revolving line of credit on August 7, 2000 from the proceeds of our initial public offering.
Income tax provision. The income tax provision for the first nine months of 2001 and 2000 was based on annual effective tax rates applied to the income before income tax provision. The 35.0% tax rate applied to the first nine months of 2001 and 2000 comprises the federal and state statutory rates based on the annual estimated effective tax rate for both years.
Liquidity and capital resources
In recent years we have funded our capital requirements through cash flow from operations. For the first nine months of 2001, net cash flow provided by operating activities was $19.1 million compared to $14.5 million for the first nine months of 2000. Net cash flow provided by operating activities exceeded the net income for both periods due to the effects of depreciation and amortization for both 2001 and 2000 and the loss on impairment of property and equipment and restaurant closures and non-recurring compensation for 2000.
We use cash to fund the development and construction of new restaurants and to remodel our existing restaurants. Net cash used in investing activities for the first nine months of 2001 and 2000 was $25.7 million and $15.8 million, respectively. We opened ten new restaurants in the first nine months of 2001 and six new restaurants in the first nine months of 2000. Additionally, we have opened six restaurants in the fourth quarter of 2001 for a total of 16 new restaurants in 2001. We anticipate opening 16 to 18 new restaurants in 2002. We expect that our planned future restaurants will require, on average, a total cash investment per restaurant, after landlord contributions, of approximately $1.3 to $1.4 million. We anticipate pre-opening costs on average to be approximately $175,000. However, any unexpected delays in construction, labor shortages or other factors could result in higher than anticipated pre-opening costs.
Net cash provided by financing operations was $5.3 million for the first nine months of 2001 compared to net cash provided by financing activities of $8.1 million for the first nine months of 2000. Financing activities in the first nine months of 2001 consisted primarily of an aggregate of $5.3 million from the sale of securities, net of underwriting fees and expenses, and common stock option exercises. Financing activities in the first nine months of 2000 consisted of $71.9 million in proceeds from our initial public offering offset by debt payments of $40.0 million and $23.7 million to our preferred shareholders upon conversion of their preferred stock into common stock. At September 30, 2001 we have a $20.0 million revolving line of credit, of which nothing is currently outstanding. The line of credit expires on June 30, 2004 and bears interest at either LIBOR plus 1.0% or the bank base rate minus 0.75%.
Our capital requirements, including costs related to opening additional restaurants, have been and will continue to be significant. Our future cash requirements and the adequacy of available funds will depend on many factors, including the pace of expansion, real estate markets, site locations and the nature of the arrangements negotiated with landlords. We believe that our current cash balances, together with anticipated cash flows from operations and funds anticipated to be available from our credit facility, will be sufficient to satisfy our working capital and capital expenditure requirements on a short-term and long-term basis. Changes in our operating plans, acceleration of our expansion plans, lower than anticipated sales, increased expenses or other events may cause us to seek additional financing. Additional financing may not be available on acceptable terms, or at all. Failure to obtain additional financing as needed could have a material adverse effect on our business and results of operations.
Risk Factors
This document contains forward-looking statements concerning the Company, which involve risks and uncertainties. Such forward- looking statements may be deemed to include those regarding anticipated restaurant openings, anticipated costs sizes of future restaurants and the adequacy of anticipated sources of cash to fund the Company's future capital requirements. The Company's actual results may differ materially from those discussed in this document. Factors that might cause actual events or results to differ materially from those indicated by such forward-looking statements may include matters noted below in this Form 10-Q, such as development and construction risks, potential labor shortages, fluctuations in operating results, and changes in food costs. Words such as "believes," "anticipates," "expects," "intends," "plans" and similar expressions are intended to identify forward-looking statements, but are not the exclusive means of identifying such statements.
Our growth strategy requires us to open new restaurants at an accelerated pace. We may not be able to achieve this planned expansion.We are pursuing an accelerated, but disciplined growth strategy which to be successful depends on our ability, and the ability of our franchisees and licensees, to open new restaurants and to operate these new restaurants on a profitable basis. The success of our planned expansion will be dependent upon numerous factors, many of which are beyond our control, including the hiring, training and retention of qualified operating personnel, especially managers, identification and availability of suitable restaurant sites, competition for restaurant sites, negotiation of favorable lease terms, timely development of new restaurants, including the availability of construction materials and labor, management of construction and development costs of new restaurants, securing required governmental approvals and permits, competition in our markets, and general economic conditions. If we are unable to manage these risks effectively, our business, financial condition, operating results or cash flows could be materially adversely affected.
Our success depends on our ability to locate a sufficient number of suitable new restaurant sites.One of our biggest challenges in meeting our growth objectives will be to secure an adequate supply of suitable new restaurant sites. We have experienced delays in opening some of our restaurants and may experience delays in the future. There can be no assurance that we will be able to find sufficient suitable locations for our planned expansion in any future period. Delays or failures in opening new restaurants could materially adversely affect our business, financial condition, operating results or cash flows.
We could face labor shortages which could slow our growth.Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees, including restaurant managers, kitchen staff and servers, necessary to keep pace with our expansion schedule. Qualified individuals of the requisite caliber and number needed to fill these positions are in short supply in some areas. Although we have not experienced any significant problems in recruiting or retaining employees, any future inability to recruit and retain sufficient individuals may delay the planned openings of new restaurants. Any such delays or any material increases in employee turnover rates in existing restaurants could have a material adverse effect on our business, financial condition, operating results or cash flows. Additionally, competition for qualified employees could require us to pay higher wages to attract sufficient employees, which could result in higher labor costs.
Our expansion into new markets may present increased risks due to our unfamiliarity with the area.We anticipate that our new restaurants will typically take several months to reach budgeted operating levels due to problems commonly associated with new restaurants, including lack of market awareness, inability to hire sufficient staff and other factors. Although we have attempted to mitigate these factors by expanding primarily in markets in which we already have a significant presence and by paying careful attention to training and staffing needs, there can be no assurance that we will be successful in operating our new restaurants on a profitable basis.
Our expansion may strain our infrastructure which could slow our restaurant development.We also face the risk that our existing systems and procedures, restaurant management systems, financial controls, and information systems will be inadequate to support our planned expansion. We cannot predict whether we will be able to respond on a timely basis to all of the changing demands that our planned expansion will impose on management and these systems and controls. If we fail to continue to improve our information systems and financial controls or to manage other factors necessary for us to achieve our expansion objectives, our business, financial condition, operating results or cash flows could be materially adversely affected.
Our restaurant expansion strategy focuses primarily on further penetrating existing markets. This strategy can cause sales in some of our existing restaurants to decline.In accordance with our expansion strategy, we intend to open new restaurants primarily in our existing markets. Since we typically draw customers from a relatively small radius around each of our restaurants, the sales performance and customer counts for restaurants near the area in which a new restaurant opens may decline due to cannibalization of the existing restaurant's customer base.
Our planned expansion into retail distribution channels through the introduction of our premium frozen pizzas could dilute the value of our brand.We have entered into a strategic alliance with Kraft Pizza Company to distribute a line of premium frozen pizzas through supermarkets and other retail outlets. Although sales of these frozen products in the geographic markets in which they are currently available have been encouraging, we run the risk that the availability of a frozen product could dilute the value of our brand to the extent that consumers perceive our frozen products to be unappealing or of a lower quality.
Our operations are susceptible to changes in food and supply costs which could adversely affect our margins.Our profitability depends, in part, on our ability to anticipate and react to changes in food and supply costs. Our centralized purchasing staff negotiates prices for all of our ingredients and supplies through either contracts (terms of one month up to one year) or commodity pricing formulas. Our master distributor delivers goods at a set, flat fee per case twice a week to all of our restaurants. Our contract with our master distributor, Meadowbrook Meat Company, Inc., expires in June 2004. Furthermore, various factors beyond our control, including adverse weather conditions and governmental regulations, could also cause our food and supply costs to increase. We cannot predict whether we will be able to anticipate and react to changing food and supply costs by adjusting our purchasing practices. A failure to do so could adversely affect our operating results and cash flows.
Changes in consumer preferences or discretionary consumer spending could negatively impact our results.Our restaurants feature pizzas, pastas, salads and appetizers in an upscale, family-friendly, casual environment. Our continued success depends, in part, upon the popularity of these foods and this style of informal dining. Shifts in consumer preferences away from this cuisine or dining style could materially adversely affect our future profitability. Also, our success depends to a significant extent on numerous factors affecting discretionary consumer spending, including economic conditions, disposable consumer income and consumer confidence. Adverse changes in these factors could reduce customer traffic or impose practical limits on pricing, either of which could materially adversely affect our business, financial condition, operating results or cash flows. Like other restaurant chains, we can also be materially adversely affected by negative publicity concerning food quality, illness, injury, publication of government or industry findings concerning food products served by us, or other health concerns or operating issues stemming from one restaurant or a limited number of restaurants.
Forty-five percent of our restaurants are located in California. As a result, we are highly sensitive to negative occurrences in that state.We and our franchisees currently operate a total of 53 restaurants in California, of which 41 are concentrated in the greater Los Angeles and San Diego metropolitan areas. As a result, we are particularly susceptible to adverse trends and economic conditions in California, including adverse consequences stemming from its higher energy prices for gas and electricity. In addition, given our geographic concentration, negative publicity regarding any of our restaurants in California could have a material adverse effect on our business and operations, as could other regional occurrences such as local strikes, earthquakes or other natural disasters.
The restaurant industry is affected by litigation and publicity concerning food quality, health and other issues which can cause customers to avoid our restaurants and result in liabilities.
We are sometimes the subject of complaints or litigation from customers or employees alleging illness, injury or other food quality, health or operational concerns. Adverse publicity resulting from these allegations may materially adversely affect us and our restaurants, regardless of whether the allegations are valid or whether California Pizza Kitchen is liable. In fact, we are subject to the same risks of adverse publicity resulting from these sorts of allegations even if the claim actually involves one of our franchisees or licensees. Further, employee claims against us based on, among other things, discrimination, harassment or wrongful termination may divert our financial and management resources that would otherwise be used to benefit the future performance of our operations. We have been subject to these employee claims before, and a significant increase in the number of these claims or any increase in the number of successful claims could materially adversely affect our business, financial condition, operating results or cash flows. We also are subject to some states' "dram shop" statutes. These statutes generally provide a person injured by an intoxicated person the right to recover damages from an establishment that wrongfully served alcoholic beverages to the intoxicated person.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our market risk exposures are related to our cash and cash equivalents. We invest our excess cash in highly liquid short-term investments with maturities of less than three months as of the date of purchase. These investments are not held for trading or other speculative purposes. Changes in interest rates affect the investment income we earn on our investments and, therefore, impact our cash flows and results of operations.
In addition, we have a $20.0 million line of credit agreement with Bank of America, N.A. Interest on the line is calculated on either a bank base rate minus 0.75% or on LIBOR plus 1.0% per annum. Currently, there is no outstanding balance under this agreement. Should we draw on this line in the future, changes in interest rates would affect the interest expense on these loans and, therefore, impact our cash flows and results of operations.
Many of the food products purchased by us are affected by changes in weather, production, availability, seasonality and other factors outside our control. In an effort to control some of this risk, we have entered into some fixed price purchase commitments with terms of no more than a year. In addition, we believe that almost all of our food and supplies are available from several sources, which helps to control food commodity risks.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) | Exhibits |
| None |
b) | Reports on Form 8-K |
| No reports on Form 8-K were filed by the Registrant during the three months ended September 30, 2001 |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: November 13, 2001
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| | California Pizza Kitchen, Inc. |
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| | Gregory S. Levin |
| | Vice President and Chief Financial Officer
(Also signing as Chief Accounting Officer) |
