EACO Corporation
Eatery Concepts
2113 Florida Boulevard
Neptune Beach, Florida 32266
(904) 249-4197
Fax: (904) 249-1466
Via Federal Express and Facsimile
Ms. Linda Cvrkel
Branch Chief
U. S. Securities and Exchange Commission
Washington, D.C. 20549
Re: EACO Corporation (the "Company")
Form 10-K for the fiscal year ended December 29, 2004
Your File No. 0-14311
Dear Ms. Cvrkel:
We are in receipt of your letter dated April 28, 2005, concerning
the Company and are herein providing a response to your comments
related to the Company's Annual Report of Form 10-K (File Number
0-14311). The numbered responses in this letter correspond to the
numbered comments in your April 28, 2005 letter. For your
convenience, we have repeated your comments in this letter.
COMMENT 1: Annual Report for the fiscal year ended December
29. 2004: Management's Discussion and Analysis - Results of
Operations - 2004 Compared to 2003, page 7
Please explain to us and revise your significant accounting
policies in future filings to disclose in detail how you account
for purchases of marketable securities using margin debt within
your consolidated financial statements. Your response should
include the balance sheet and income statement accounts that are
affected and the journal entries used to record these types of
transactions. Also, tell us the specific accounting guidance, if
any, which supports your treatment and why you believe it is
appropriate. Describe the circumstances under which you use debt
margin and the specific risks and returns that you evaluate prior
to entering into a debt margin transaction.
RESPONSE:
We described the policy for accounting for marketable securities
and margin debt in the "Results of Operations 2004 compared to
2003" section of our MD&A in Form 10-K. Please also note our
existing disclosure included in Note 1 to the Financial Statements
described as Investments Available for Sale and Securities Sold,
Not Yet Purchased. We have not had any transactions in
marketable securities or margin debt since the second quarter of
2004. However, such transactions might occur in the future. We
will revise our disclosure in the 2005 10-K to include additional
disclosure under "Critical Accounting Policies" and Note 1 to the
Financial Statements. If any such transactions are entered into
prior to the end of 2005, we will provide the revised disclosure
in the following Form 10-Q.
Margin debt was infrequently used. When used, it was limited to
25% of the equity value to avoid the likelihood of a margin call.
It is not our intention to use margin debt in the future. Should
this change, we will expand our disclosure regarding the
circumstances and associated risk.
There are several general ledger accounts involved with the
recording of these transactions. They include Cash, Investments
Available for Sale, Interest Expense, Dividend Income, Gain or
Loss on Sale of Securities, Margin Debt Liability, Unrealized Gain
or Loss on Securities and Securities Sold, not yet Purchased (this
is the liability account for short sales). Journal entries are
posted to adjust the values of the investment accounts to the
appropriate amounts and to record the appropriate related realized
and unrealized gains and losses. The following are examples of
journal entries for transactions involving margin debt:
1. Purchase on Margin: Debit Credit
Investments available for sale $500,000
Margin debt $100,000
Cash $400,000
2. Valuation of securities at quarter end:
Investments available for sale $10,000
Other compensation income* $10,000
3. Sale of security:
Margin debt $100,000
Cash $410,000
Investments available for sale $500,000
Gain on sale of securities $10,000
*Historically there has been no tax impact, due to capital loss
carryforwards and NOL carryforwards.
COMMENT 2: Financial Statements: Consolidated Statements of
Operations, page 16
We note that you present undeclared cumulative preferred stock
dividends of $19,100 for the fiscal year ended December 29, 2004
on the face of your consolidated statement of operations. Please
explain the reason(s) why there are amounts reflected as
"preferred stock dividends paid" of $6,500 in your consolidated
financial statements (refer to your consolidated statements of
cash flows on page 19), when it does not appear that preferred
stock dividends have been declared as of December 29, 2004.
Provide us with a reconciliation of the amounts. Similarly revise
your notes in future filings to include an explanation of the
differences between the amounts in your statements of operations
and consolidated statements of shareholders' equity and cash
flows.
RESPONSE:
A preferred stock dividend of $6,500 was declared and paid during
the fourth quarter of 2004 as reflected on the statement of cash
flows. This represented the prorated dividend amount payable from
the third quarter of 2004, since the preferred stock issue was
issued on September 1 of that quarter. As of December 29,
2004, there was an undeclared preferred dividend of $19,100, which
represented the amount of the dividend for the fourth quarter.
This dividend was declared and paid in the first quarter of 2005.
Below is a roll forward of the preferred dividends.
The line item on the Consolidated Statements of Operations
described as "Undeclared cumulative preferred stock dividends"
should have been described as "Declared and undeclared cumulative
preferred stock dividends" and should have totaled $25,600, a
difference of $6,500 and an impact on loss per share of $.0017 per
share. Due to the insignificance of this misstatement, we do not
think it is necessary to amend the 2004 Form 10-K.
Preferred Dividend Summary
Cumulative Preferred Dividends
Quarter End Dividends Undeclared Declared and Paid
- ---------------- -------------------- -----------------
3rd Quarter 2004 6,500 0
4th Quarter 2004 19,100 6,500
1st Quarter 2005 19,100 19,100
In future filings, we will add additional disclosure indicating
the amount of dividends declared and paid and the amount of
undeclared dividends each year. We will insure that the amount of
declared and undeclared dividends on preferred stock are properly
reflected in the Statement of Operations.
COMMENT 3: Consolidated Statements of Cash Flows, page 19
We note that you reflect "loss on disposition of assets held for
sale and other property" within operating activities of your
statements of cash flows in the amount of $29,000 for the fiscal
year ended December 29. 2004. However, we also note that you
disclose in your MD&A section on page 12 that you recognized a net
gain on the sale of property related to the four restaurants sold
in the amount of $62,700. Please reconcile and explain to us why
these amounts do not agree. Also, revise future filings to
similarly disclose this information.
RESPONSE:
The gain of $62,700 mentioned in the MD&A section relates
specifically to the net gain on the sale of four restaurants. The
$29,000 loss on disposition of assets held for sale and other
property in the Consolidated Statements of Cash Flows represents a
non-cash loss from the write-off of disposed assets. A
reconciliation of these items to the Consolidated Statement of
Operations is presented below.
Annual Report Location
Gain on sale of restaurants $62,700 MD&A discussion
Loss on disposition of assets
held for sale and other
property (non-cash) (29,000) Cash flow statement
Closed store expenses (124,500) N/A
--------
Loss on store closures
and disposition of equipment (90,800) Consolidated statement
======== of operations
We will revise future filings to disclose this information.
COMMENT 4 Consolidated Statements of Cash Flows, page 19
We note that you present "principal receipts on mortgages
receivable" within investing activities in your statements of cash
flows. However, we note little, if any, information describing
these amounts in your financial statements or elsewhere in the
filing. In this regard, please tell us and revise your footnotes
in future filings to explain in detail the nature and terms of
mortgages receivable transactions. Your response should also
include, but not be limited to, how mortgages receivables are
accounted for within your consolidated financial statements and
the parties that are involved in these types of transactions.
Also, to the extent you enter into such transactions in the future
and if considered material, we believe you should provide related
discussion and analysis in the liquidity and capital resource
section of your MD&A.
RESPONSE:
Mortgage receivables resulted from seller financed sales of
properties in years prior to 2003. The final principal payment on
these mortgages was received in the first quarter of 2003. No
outstanding balances existed as of year-end 2003 or 2004.
Although we do not expect to have any similar transactions in the
future, we will include the recommended discussion in the
liquidity and capital resource section of our MD&A, if applicable.
COMMENT 5: Consolidated Statements of Cash Flows, page 19
We note that you present "Expenses from sale of property held for
sale" as a cash outflow item of $153,000 within investing
activities as of December 29. 2004. However, it is unclear from
your notes to financial statements or disclosures within the
liquidity and capital resource section of your MD&A, the nature of
these amounts and why they are classified as an investing
activity. In this regard, please explain in detail the nature,
facts and circumstances of this item and why you believe
classifying these expenses as an investing activity pursuant to
paragraph 15 and 17 of SFAS 95 is appropriate.
RESPONSE
The $153,000 represents closing costs related to the sale of three
properties which had been classified on the balance sheet as
"property held for sale" at year-end 2003. The expenses included
commissions, documentary stamps, title insurance and other
miscellaneous selling expenses. The receipts and expenses from the
sale of these property sales were presented on a gross basis in
the Statement of Cash Flows, rather than on a net basis. These
closing expenses are related to investing activities pursuant to
paragraph 15 and 17 of SFAS 95.
COMMENT 6: Summary of Significant Accounting Policies -
Securities Sold Not Yet Purchased, page 21
Please tell us and revise your notes to explain in further detail
how you account for short-selling transactions within your
financial statements. Explain how you evaluate the risks and
rewards in determining when to enter into a short-selling
arrangement and your policy for assessing when to satisfy your
obligation to purchase securities on those borrowed in such
short-selling transactions.
RESPONSE
Short-sale transactions are accounted for as a liability entitled
"Securities Sold, not yet Purchased." They are adjusted each
quarter to current market value, and the associated gain or loss
is recognized. As discussed above in our response to Comment 1,
the Company has not entered into any such transactions since the
second quarter of 2004.
Risks and reward of short-sales are evaluated through the
Company's expertise in certain industries. Decisions to cover
short positions were made based on detailed review and evaluation
of each short position.
If short-sale transactions occur in the future, we will expand the
disclosure to discuss the strategy in more detail.
COMMENT 7: Note 4 - Asset Impairment Charges, page 25
Please revise future filings to include all disclosures as
required under paragraphs 26 and 47 of SFAS No. 144 as applicable.
Your revised disclosure should include a description of the
impaired long-lived asset (asset group) and the facts and
circumstances leading to the impairment, and the method or methods
for determining the fair value. Please provide us with your
proposed revised disclosure.
RESPONSE
Following is our proposed revised disclosure to Note 4:
Note 4. Asset Impairment Charges
The Company recognized asset impairment charges related to closed
or under-performing restaurants of $594,200, $63,100 and $987,700
in 2004, 2003 and 2002, respectively. The charges in 2004
resulted from the write-off of the net book value of leasehold
improvements upon closure of one leased restaurant and termination
of the lease obligation. The charges in 2003 related to an
estimated impairment in the market value of one closed restaurant.
The amount of the charge was based on the difference between the
restaurant's book value, and fair market value determined by a
pending contract for the sale of that restaurant. The charges in
2002 related to an estimated impairment in the market value of two
closed restaurants, measured by pending sale contract amounts, and
the write-off of leasehold improvements of a third restaurant
where the Company sub-leased the restaurant to another restaurant
operator.
COMMENT 8: Note 9 - Income Taxes, page 29
Please tell us and revise future filings to explain in further
detail the nature of the $409,200 amount described as "adjusted
book to tax accrual" in the reconciliation of your income taxes at
the statutory tax rate to that reflected in your 2004 statement of
operations.
RESPONSE
The amount described as "adjusted book to tax accrual" represents
an adjustment to the deferred tax liability for fixed assets with
no corresponding adjustment to the calculation of current income
tax expense. The adjustment of the deferred tax liability has no
tax provision impact because the valuation allowance was adjusted
by an equal and opposite amount. We will revise future filings to
explain the item as an adjustment of fixed assets book tax
differences.
COMMENT 9: Note 10 - Common Shareholders' Equity - Earnings per
share, page 30
Please revise future filings to disclose the number of shares
issuable upon exercise of outstanding stock options and conversion
of preferred stock that could potentially dilute basic EPS in the
future which were excluded in the computation of diluted EPS for
the various periods presented as their effect would have been
antidilutive. Refer to paragraph 40(c) of SFAS No. 128.
RESPONSE
We will revise future filings to disclose the number of shares
issuable upon exercise of outstanding stock options and conversion
of preferred stock that could potentially dilute basic EPS.
COMMENT 10: Stock Options, page 31
We note that you disclose the weighted average fair value of
options granted during fiscal 2004 and 2002 was $.01 and $.01,
respectively. However, it does not appear the appropriate
information required under paragraph 47(b) of SFAS No. 123 has
been disclosed. It appears the weighted-average exercise price of
the stock options granted during the year rather than the
weight-average grant-date fair value has been reported for each of
the periods presented. Please revise future filings to correct
this disclosure error.
RESPONSE
We will revise future filings regarding the weighted average fair
value of options granted as requested.
COMMENT 11: Preferred Stock, page 32
We note that the holders of the Series A cumulative convertible
preferred stock have the right to convert the liquidation
preference of $25 per share of preferred stock into shares of the
Company's common stock at a conversion price of $.90 per share. In
this regard, please tell us whether the conversion price
represents a beneficial conversion feature as defined in EITF No.
98-5. If so, tell us how you valued and accounted for the
beneficial conversion feature and further, how your treatment
complies with the guidances outlined EITF No. 98-5. If the
conversion price dues not represent a beneficial conversion
feature, provide us with the reason(s) as to why and the market
value of your common stock on the date the preferred shares were issued.
RESPONSE
The conversion price of $.90 per share was based on the fair
market value of the stock, determined by the average closing price
of the stock during the month of August 2004. The closing price
on August 31, 2004 the day before issuance was also $.90.
Accordingly, there are no beneficial conversion features as
described in EITF 98-5.
COMMENT 12: Note 13- Quarterly Consolidated Financial Data
(unaudited), page 35
We note the disclosure in Note 13 indicating that the Company
increased its workers' compensation liability by $274,000 during
the quarter ended December 31, 2003 and by $199,000 during the
quarter ended December 29, 2004. Please tell us in further detail
why these adjustments to your workers' compensation liability did
not occur until the fourth quarter of these fiscal years. If you
review and analyze your workers' compensation reserves on only an
annual basis, please explain why you believe this treatment is
appropriate given your quarterly reporting obligations.
RESPONSE
The Company reviews in detail and adjusts its workers'
compensation liability on a quarterly basis. For the first three
quarters of each year, the best available information for this
review is loss reserves provided by our workers' compensation
administrator, an outside third party who handles and evaluates
our claim reserves. At the end of every year, we have an
actuarial study prepared to evaluate the reserves, and we adjust
the liability balance according to the actuary's findings.
For our fiscal years 2003 and 2004, the actuary's estimated loss
reserves were unexpectedly higher than the reserves calculated
during our previous quarterly reviews. Despite the fact that each
quarter we had carefully reviewed the administrator's reserves as
compared to the latest actuarial report, estimated future
development of claims as reported by the actuary resulted in these
fourth quarter adjustments. We are using this experience to
modify our quarterly evaluation of the workers' compensation
liability to the best of our ability. However, this is an
estimate, and actual results may be different than the estimates
provided.
COMMENT 13: Note 15- Subsequent Events - Unaudited Pro Forma
Financial Statements
Please note that pro forma financial statements should generally
be preceded by an introductory paragraph which describes (a) each
transaction for which pro forma effects are presented, (b) the
entities involved, (c) the periods presented, and (d) an
explanation of what the pro forma presentation shows. Further, pro
forma adjustments must be factually supportable, directly
attributable to the transaction and must have a continuing impact
on the Company's results of operations. Also, assumptions involved
in determining the pro forma adjustments should be clearly
explained in the footnotes. Refer to the requirements of Article
11 of Regulation S-X. Please confirm that you will comply with the
requirements of Article 11 of Regulation S-X to the extent you
disclose pro forma information in future flings.
RESPONSE:
Note 15, "Subsequent Events" on page 36 and 37 includes
introductory paragraphs related to the potential transaction.
However, we will insure that we fully comply with the requirements
of Article 11 of Regulation of S-X in future filings.
COMMENT 14: Note 15- Subsequent Events - Unaudited Pro Forma
Financial Statements
Reference is made to pro forma adjustment (A). We note that you
have netted together several pro forma adjustments which effect
cash and cash equivalents. Generally, adjustments should be
presented gross rather than net on the face of pro forma
statements or alternatively, the components of the adjustments are
broken down in sufficient detail in the notes to the pro forma
statements to arrive at the netted pro forma adjustment amount. In
this regard, please explain in detail how you arrive at the pro
forma adjustment of $25,522,600 as it relates to cash and cash
equivalents since it is unclear based on your current footnote
disclosure. Further, please tell us supplementally the type and
amount of costs comprising the $600,000 in closing costs that you
expect to incur as a result of the proposed transaction. Your
response should include the calculation of how you arrive at the
pro forma adjustment of $600,000 and basis for the amounts
included in the adjustment. Also, tell us the amount of the total
gain recognized on the sale and explain how it was calculated.
Also, if a gain was recognized as a result of the $4.0 million
note received, please explain why you believe recognition of this
portion of the gain is appropriate.
RESPONSE:
Detailed below is a summary of the adjustment for $25,522,600,
each component of which was discussed in our footnote A which is
referenced to the pro forma balance sheet. Also below is a detail
of the $600,000 estimate for closing cost. With regard to the
projected gain on the sale, in future filings, we will recognize
the deferral of the portion of the gain attributable to the note
on the installment sale basis based on the payment terms of the
note.
Pro forma - cash proceeds
Cash proceeds per sale contract $25,950,000
Closing costs deducted from proceeds (600,000)
Restaurant cash funds given to Buyer (24,000)
Purchase price adjustment for
construction in process, per contract 64,000
Purchase price adjustment for 1/2 of certain
prepaid expenses, per contract 132,600
-----------
Total per pro forma statement 25,522,600
===========
Estimated closing costs
Commission $400,000
Other seller costs 200,000
--------
Total 600,000
COMMENT 15: Note 15- Subsequent Events - Unaudited Pro Forma
Financial Statements
Reference is made to pro forma adjustments (C) and (E). Please
explain how you arrive at the pro forma adjustments for estimated
income tax liability and interest expense of $1,163,000 and
$1,566,000, respectively. Supplementally provide us with the
computations for each adjustment, the assumptions involved in
calculating the pro forma adjustments and basis supporting the
amounts included in the adjustments.
RESPONSE:
The calculation of the pro forma adjustments for income tax
liability is detailed below.
Purchase Price $29,950,000
Assumption of Capital Lease Obligations 4,000,000
Store Conversion Payment 500,000
------------
Total Proceeds 34,450,000
Asset Basis 24,639,447
Gain on Sale 9,810,553
Utilize NOL and Capital Loss
Carryforward (6,390,874)
Taxable income 3,419,679
Tax Rate 34%
-----------
Estimated Tax Liability $1,162,691
The pro forma income statement assumes that the transaction
occurred at the beginning of our 2004 fiscal year. Accordingly,
debt principal on sixteen stores would be paid off. The
computation of interest expense eliminated was 100% of the actual
interest expense paid on these sixteen stores in 2004.
COMMENT 16: Note 15- Subsequent Events - Unaudited Pro Forma
Financial Statements
Please tell us in further detail the nature of the "deferred
gains" associated with certain restaurants that were recognized as
a result of the sale transaction. As part of your response, please
tell us the nature and timing of the transactions that originally
generated these deferred gains.
RESPONSE:
The deferred gains represented gains on sale-leaseback refinancing
transactions. The Company realized gains on the sale of these
properties, which are required to be deferred and recognized over
the life of the related leases. Since the buyer will be assuming
these lease obligations, these deferred gains would be recognized
upon the closing of the sale transaction.
The Company acknowledges that:
the Company is responsible for the adequacy and accuracy of
the disclosure in the filing;
staff comments or changes to disclosure in response to staff
comments do not foreclose the Commission from taking any
action with respect to the filing; and
the Company may not assert staff comments as a defense in
any proceeding initiated by the Commission or any person
under the federal securities laws of the United States.
In the event you have any questions or comments concerning the
above response, please contact the undersigned at the number
provided above.
Sincerely,
/s/ Edward B. Alexander
Edward B. Alexander
President