1
EXHIBIT 13
Years ended June 30, all amounts in thousands except per share data
SELECTED
FINANCIAL
DATA
1994 1995 1996 1997 1998
----------- ----------- ----------- ----------- -----------
Revenues $ 403,341 $ 378,093 $ 401,018 $ 365,134 $ 352,249
Operating income 1,021 17,363 35,521 11,840 2,040
Income before cumulative effect
of accounting change 534 11,772 22,912 8,332 2,126
Per share amounts:
Income before cumulative effect
of accounting change, basic .02 .46 .95 .40 .10
Net income, basic .02 .46 .95 .04 .10
Income before cumulative effect
of accounting change, diluted .02 .46 .93 .40 .10
Net income, diluted .02 .46 .93 .04 .10
Dividends declared per share .45 -- -- -- --
Total assets 104,190 115,376 104,401 112,297 106,245
Note payable -- -- -- 5,716 5,526
Shares outstanding 26,076 25,196 20,856 20,688 20,689
In 1997, the Company changed its method of accounting for service fees received
from customers.
See Note 1 of Notes to Consolidated Financial Statements for further information
regarding this change.
8 JENNY CRAIG, INC.
2
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Information provided in this Annual Report may contain, and the Company may from
time to time disseminate material and make statements which may contain
"forward-looking" information, as that term is defined by the Private Securities
Litigation Reform Act of 1995 (the "Act"). These cautionary statements are being
made pursuant to the provisions of the Act and with the intention of obtaining
the benefit of "safe harbor" provisions of the Act. The reader is cautioned that
all forward-looking statements are necessarily speculative. The reader should
carefully review the cautionary statements contained in the Company's Annual
Report on Form 10-K for the year ended June 30, 1998, which identify important
factors that could cause actual results to differ materially from those in the
forward-looking statements, as well as the risk factors which may also be
identified by the Company from time to time in other filings with the Securities
and Exchange Commission, press releases, and other communications.
The following table gives certain key statistics regarding the Company
during the past five years:
Years ended June 30,
1994 1995 1996 1997 1998
---- ---- ---- ---- ----
CENTRES OPEN AT END OF YEAR:
Company-owned
United States 502 478 485 542 533
Foreign 106 102 103 106 110
---- ---- ---- ---- ----
608 580 588 648 643
---- ---- ---- ---- ----
Franchise
United States 159 154 159 113 101
Foreign 43 43 36 36 37
---- ---- ---- ---- ----
202 197 195 149 138
---- ---- ---- ---- ----
Total 810 777 783 797 781
==== ==== ==== ==== ====
AVERAGE REVENUE PER CENTRE IN THOUSANDS:
Company-owned
United States $628 600 642 538 502
Foreign 346 356 407 483 447
Franchise
United States 644 654 659 517 510
Foreign 441 343 328 452 475
The decrease in United States Company-owned centres in 1998 reflects the
Company's acquisition of 8 centres from two franchisees and the net closure of
17 centres.
The increase in United States Company-owned centres and the decrease in
United States franchised centres in 1997 reflects the Company's acquisition of
51 centres from three franchisees during 1997.
See Note 13 of Notes to Consolidated Financial Statements for additional
information regarding United States and foreign operations.
JENNY CRAIG, INC. 9
3
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
The following table presents the range of service fees charged by the
Company:
INITIAL SERVICE MAINTENANCE
----------------- ----------------
FISCAL YEAR LOW HIGH LOW HIGH
- ----------- --- ---- --- ----
1994 $10 99 99 125
1995 10 99 99 99
1996 10 180 99 181
1997 10 149 99 99
1998 10 197 99 99
YEAR ENDED JUNE 30, 1998 AS COMPARED TO YEAR ENDED JUNE 30, 1997
The Company has operated in a difficult and dynamic environment since April 1996
when the United States Food and Drug Administration ("FDA") approved
dexfenfluramine, commonly referred to by its trade name Redux(TM), for use as a
doctor-prescribed medication for the treatment of obesity. The Company believes
that the extensive publicity that accompanied the introduction of Redux
heightened the public's interest in weight loss pharmaceuticals, including
interest in a combination of two other medications (phentermine and
fenfluramine) commonly known as "phen-fen," and resulted in significantly
reduced demand for the Company's program. In July 1996, the Company began test
marketing an adjunct to its traditional weight loss program which incorporated
weight loss pharmaceuticals. This program adjunct utilized independently-
contracted physicians to examine clients and prescribe Redux only to persons who
met the FDA's protocol and phen-fen to persons who met the appropriate medical
criteria for this medication. In January 1997, the weight loss medication
adjunct was incorporated into virtually all of the Company's centres in the
United States. In August 1997, the Company ceased offering a weight loss
medication adjunct to its program following reports from the medical community
as to possible health risks associated with the use of Redux and phen-fen. In
September 1997, Redux and fenfluramine were withdrawn from the United States
market at the request of the FDA.
Revenues from United States Company-owned operations decreased 2% from
$279,090,000 in 1997 to $273,358,000 in 1998. There was a 5% increase in the
average number of United States Company-owned centres in operation during 1998
compared to 1997. Average revenue per United States Company-owned centre
decreased 7% from $538,000 in 1997 to $502,000 in 1998. Service revenues from
United States Company-owned operations decreased 22% from $21,448,000 in 1997 to
$16,820,000 in 1998. This decrease in service revenues was primarily due to a
16% decrease (19% on an average per centre basis) in the number of new
participants enrolled in the program between the periods. Product sales,
10 JENNY CRAIG, INC.
4
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
which consists primarily of food products, from United States Company-owned
operations decreased less than 1% from $257,642,000 in 1997 to $256,538,000 in
1998. This decrease was principally due to a 6% decrease in the number of active
participants in the program offset, in part, by an increase in the average food
amount purchased per active participant. Revenues from foreign Company-owned
operations decreased 4% from $50,308,000 in 1997 to $48,329,000 in 1998, and
average revenue per foreign Company-owned centre decreased 7% from $483,000 in
1997 to $447,000 in 1998 principally due to a 12% weighted average decrease in
the Australian and Canadian currencies in relation to the U.S. dollar between
the years. The number of foreign Company-owned centres in operation increased 4%
from 106 at June 30, 1997 to 110 at June 30, 1998.
Costs and expenses of United States Company-owned operations increased
1% from $258,458,000 in 1997 to $262,225,000 in 1998. Costs and expenses of
United States Company-owned operations in 1997 were reduced by a $3,267,000 net
credit that resulted from the Company's successful litigation recovery from one
of its insurance carriers. Additionally, costs and expenses of United States
Company-owned operations in 1997 included $8,150,000 of costs associated with
the weight loss medication program which was terminated in August 1997 compared
to $2,437,000 of such costs in 1998. The increase in costs and expenses in 1998
is principally due to $5,265,000 of additional advertising expenses, of which
approximately $3,047,000 was associated with the launch of the Company's ABC
weight management program in the quarter ended September 30, 1997. Costs and
expenses of United States Company-owned operations as a percentage of United
States Company-owned revenues increased from 93% to 96% between the years
principally due to the aforementioned additional advertising expenses. After
including the allocable portion of general and administrative expenses, United
States Company-owned operations had an operating loss of $8,175,000 in 1998
compared to operating income of $732,000 in 1997. Costs and expenses of foreign
Company-owned operations decreased 5% from $42,422,000 in 1997 to $40,183,000
in 1998 principally due to the aforementioned 12% weighted average decrease in
the Australian and Canadian currencies in relation to the U.S. dollar between
the years. After including the allocable portion of general and administrative
expenses, foreign Company-owned operations, principally as a result of the
Australian centres, had operating income of $5,409,000, for fiscal 1998 as
compared to operating income of $5,249,000 for fiscal 1997.
The Company's gross margin on product sales from Company-owned
operations decreased from 7% in 1997 to 4% in 1998, and its gross margin on
service revenues decreased from 31% in 1997 to 30% in 1998. Costs and expenses
of Company-owned operations, other than direct product costs, are allocated
between product and service based upon the respective percentage of total
revenue from Company-owned operations derived from product sales and service
revenue. The decline in gross margins in 1998 compared to 1997 resulted
principally from the increased advertising expenses and the decreased service
revenue, which has higher margins than product sales.
Revenues from franchise operations decreased 14% from $35,736,000 in
1997 to $30,562,000 in 1998. This decline was principally due to a 7% decrease
in the number of franchise centres in operation, from 149 at June 30, 1997 to
138 at June 30, 1998, and a decrease in the number of
JENNY CRAIG, INC. 11
5
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
new participants enrolled in the program at franchise centres, resulting in
reduced product sales and royalties. The decrease in the number of franchise
centres reflects the Company's acquisition of 8 centres from franchisees and the
net closure of 3 franchise centres in 1998.
Costs and expenses of franchise operations, which consist primarily of
product costs, decreased 11% from $23,907,000 in 1997 to $21,224,000 in 1998
principally because of the reduced level of franchise operations. Franchise
costs and expenses as a percentage of franchise revenues increased from 67% in
1997 to 69% in 1998, principally due to the reduced royalty revenue, which has a
higher margin than product sales.
General and administrative expenses decreased 7% from $28,507,000 in
1997 to $26,577,000 in 1998 and decreased from 7.8% to 7.5% of total revenues in
1997 and 1998, respectively. The decrease in general and administrative expenses
in 1998 was principally due to a decrease in compensation, consulting, and
professional fees, offset, in part, by expenses totaling $3,500,000 related to
the separation of a former senior executive of the Company. These expenses
include $1,500,000 for the forgiveness of a loan made to the former senior
executive in 1995 (which is reflected on the accompanying consolidated balance
sheets as a decrease in other assets), $1,000,000 for the payment, in
semi-monthly installments, of the former senior executive's salary and benefits
through December 31, 1998, and $1,000,000 for the cancellation of stock options,
payable in five equal annual installments commencing in fiscal 1998, which were
exercisable by the former senior executive.
The elements discussed above combined to result in a decrease in
operating income from $11,840,000 in 1997 to $2,040,000 in 1998 and a decrease
in income before the cumulative effect of accounting change from $8,332,000, or
$.40 per diluted share, in 1997 to $2,126,000, or $.10 per diluted share, in
1998.
The Company is in the process of assessing the functionality of both its
information technology ("IT") and non-IT systems with respect to the "year 2000"
millennium change. The Company utilizes two primary IT systems: the corporate
office system, which includes the general ledger and related applications, and
the point-of-sale system, which is used at each of the 559 Company-owned centres
in North America to record sales to customers. With respect to the corporate
office system, the Company has determined that its current system, implemented
in 1991, is not year 2000 compliant. Accordingly, the Company accelerated the
planned replacement of this system by purchasing a new corporate office system
in the first quarter of fiscal 1999. The implementation process for this new
system has begun and the Company expects the implementation to be completed by
April 1, 1999. The cost of the new corporate office system software of $189,000
is being capitalized and amortized over the five year estimated useful life of
the new software. The cost of new hardware, which will be purchased in the
second quarter of fiscal 1999, necessary to install the new corporate office
system is estimated to be $200,000 and will be depreciated over the five year
estimated useful life of the new hardware. Additional implementation costs,
comprised principally of external consultants, are estimated to be $380,000 and
will be expensed as incurred in fiscal 1999. With respect to the point-of-sale
system, there are two basic components: the software and the hardware. The
point-of-sale software continues to be assessed. Estimated costs to modify this
software to effect year 2000 compliance totaling approximately $150,000 will be
expensed as
12 JENNY CRAIG, INC.
6
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
incurred in fiscal 1999. The point-of-sale hardware is essentially a personal
computer ("PC") network consisting of a file server and three PCs at the
Company-owned and franchised centres in North America. The Company is conducting
an analysis of the hardware at these centres for year 2000 compliance. This
analysis is expected to be completed by November 30, 1998. A preliminary
estimate of the cost to both modify certain hardware and replace other hardware
is approximately $4,000 per Company-owned centre, or $2,236,000 in aggregate.
The Company expects that substantially all of these hardware costs will be
incurred prior to the planned completion date of May 31, 1999 and that
substantially all of these costs will be capitalized and depreciated over their
estimated useful life of five years. With respect to non-IT systems, the Company
is assessing its embedded systems contained in the corporate office building and
centre locations. This assessment is principally focusing on the Company's
telephone system hardware and software. The Company plans to complete the
assessment of non-IT systems by December 31, 1998. The final area of
significance pertaining to the Company's year 2000 planning relates to third
parties with whom the Company transacts business. This includes the Company's
food suppliers, banks, advertising agencies, telecommunications suppliers, and
utility providers. The Company is sending written questionnaires to significant
suppliers and vendors in an effort to assess their year 2000 readiness and the
effect these third parties could have on the Company. The Company plans to
maintain communication with significant suppliers and vendors with respect to
this issue.
As detailed above, the Company estimates that approximately $3,155,000
will be disbursed during fiscal 1999 in connection with year 2000 compliance.
The Company expects that its cash flow from operations, together with cash, cash
equivalents and short-term investments currently on hand, will be sufficient to
fund these disbursements. Disbursements made in fiscal 1998, substantially all
of which was paid to external consultants, related to year 2000 compliance
totaled approximately $75,000 and were expensed as incurred. Although the
Company believes that its planning, as detailed above, will enable the Company
to be adequately prepared for the year 2000, a contingency plan is also being
developed. With respect to the point-of-sale system, the Company has a manual
back-up system which is currently used during computer downtimes and was the
Company's primary point-of-sale system from the Company's inception in 1983
through 1990. The Company believes that this manual point-of-sale system could
be utilized in the event of a delay in the implementation of the plan to have
the point-of-sale system year 2000 compliant during 1999. With respect to the
corporate office system, the Company believes that a third party provider of
data processing services could provide the basic services necessary for the
Company to maintain adequate books and records, similar to the methodology
utilized by the Company prior to 1991. The Company expects to have the specific
third party provider to be utilized as a contingency plan identified by March
31, 1999.
The statements set forth above relating to the Company's analysis and
plans with respect to the year 2000 issue in many cases constitute forward-
looking statements which are necessarily speculative. Actual results may differ
materially from those described above. The factors which could cause actual
results to differ materially include, without limitation, the following: the
Company's assessment of the impact of year 2000 is not complete and further
analysis and study, as well as the testing
JENNY CRAIG, INC. 13
7
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
and implementation of planned solutions, could disclose additional remedial
work, with the resultant additional time and expense, necessary to permit the
Company's IT and non-IT systems to be year 2000 compliant; third party
consultants and software and hardware suppliers could fail to meet timetables
and projected cost estimates; third party suppliers of products and services to
the Company could make mistakes in their advice to the Company with respect to
their year 2000 readiness, and their failure to be year 2000 compliant could
have a material adverse effect on the Company; the Company's estimates of the
periods of time and costs necessary to complete certain analysis and
implementation could be impacted by future events and conditions such as a
shortage of personnel, including Company employees and outside consultants, to
perform the necessary analysis and remediation work.
The Company and the Federal Trade Commission have entered into a Consent
Order settling all contested issues raised in a complaint filed in September
1993 against the Company alleging that the Company violated the Federal Trade
Commission Act by the use and content of certain advertisements for the
Company's weight loss program featuring testimonials, claims for the program's
success and safety, and statements as to the program's costs to participants.
The Consent Order does not admit any issue of fact or law or any violation by
the Company of any law or regulation, and does not involve payment by the
Company of any civil money penalty, damages, or other financial relief. The
Consent Order requires certain procedures and disclosures in connection with the
Company's advertisements of its products and services. The full Commission
accepted the Consent Order, and it has been made effective as of May 4, 1998.
The Company does not believe that compliance with the Consent Order will have a
material adverse effect on the Company's consolidated financial position or
results of operations or its current advertising and marketing practices.
The Company along with other weight loss programs and certain
pharmaceutical companies has been named as a defendant in an action filed in the
Circuit Court for the Eleventh Judicial Circuit in Pickens County, Alabama (the
"Alabama Litigation"). The action was commenced in August 1997 by three
plaintiffs who are seeking to maintain the action as a class action on behalf of
all persons in the United States and United States Territories who have suffered
or may in the future suffer injury due to the administration of phentermine,
fenfluramine (commonly known as "phen-fen" when taken together), and/or
dexfenfluramine (trade name Redux(TM)), which were manufactured or sold by the
defendants. The complaint includes claims against the Company and other
defendants, acting separately and in concert, for alleged unlawful and tortious
acts, including sale of allegedly dangerous and defective products, negligent
marketing and distribution, failure to warn of the risks associated with the
weight loss medications, breach of warranty, fraud, and negligent
misrepresentation. The complaint seeks compensatory and punitive damages in
unspecified amounts and equitable relief including the establishment of a
medical fund to cover future medical expenses resulting from the use of the
weight loss medications, and a requirement that the defendants adequately warn
the public of the risks associated with use of the weight loss medications.
The Company along with certain pharmaceutical companies has also been
named as a defendant in an action filed in the Court of Common Pleas,
Philadelphia County, Pennsylvania (the "Pennsylvania Litigation"). The action
was com-
14 JENNY CRAIG, INC.
8
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
menced in November 1997 by a plaintiff, a participant in the Company's program,
who is seeking to maintain the action as a class action on behalf of all persons
in the Commonwealth of Pennsylvania who have purchased and used fenfluramine,
dexfenfluramine, and phentermine, alone or in combination. The complaint
includes claims against the Company and the other defendants for alleged false
and misleading statements concerning the safety and appropriateness of using
fenfluramine, dexfenfluramine, and phentermine, and the benefits, uses, and
ingredients of these drugs, negligence in the distribution, sale, and
prescribing of these medications, and breach of the warranty of merchantability.
The complaint seeks compensatory and punitive damages in unspecified amounts and
a Court-supervised program funded by the defendants through which class members
would undergo periodic medical examination and testing.
The Company has tendered the Alabama Litigation and the Pennsylvania
Litigation matters to its insurance carriers. The Company and the provider of
the independent physicians who prescribed the weight loss medications in the
Company's centres have each asserted their rights with respect to these
litigations under contractual provisions for indemnification in the agreement
between them. The claims have not progressed sufficiently for the Company to
estimate a range of possible loss, if any. The Company intends to defend the
matters vigorously.
YEAR ENDED JUNE 30, 1997 AS COMPARED TO YEAR ENDED JUNE 30, 1996
Revenues from United States Company-owned operations decreased 10% from
$309,415,000 in 1996 to $279,090,000 in 1997. There was a 12% increase in the
total number of United States Company-owned centres in operation, from 485 at
June 30, 1996 to 542 at June 30, 1997. The increase in United States Company-
owned centres reflects the Company's acquisition of 51 centres from three
franchisees and the net opening of six centres in 1997. Average revenue per
United States Company-owned centre decreased 16% from $642,000 in 1996 to
$538,000 in 1997. Service revenues from United States Company-owned operations
decreased 1% from $21,769,000 in 1996 to $21,448,000 in 1997. This decrease in
service revenues was primarily due to an 11% decrease (18% on an average per
centre basis) in the number of new participants enrolled in the program between
the periods offset, in part, by $804,000 of additional service revenues
recognized in 1997 as a result of the Company's change in method of accounting
for service fees described below. The decline in new enrollments also resulted
in a decline in the number of active participants in the program and led to a
10% decline in product sales, which consists primarily of food products, from
United States Company-owned operations from $287,646,000 in 1996 to $257,642,000
in 1997. Revenues from foreign Company-owned operations increased 21% from
$41,590,000 in 1996 to $50,308,000 in 1997, and average revenue per foreign
Company-owned centre increased 19% from $407,000 in 1996 to $483,000 in 1997
principally due to an increase in the number of new enrollments in the program
at the Company's 81 centres in Australia. There was a 2% average increase in the
Australian and Canadian currencies in relation to the U.S. dollar between the
years. The number of foreign Company-owned centres in operation increased 3%
from 103 at June 30, 1996 to 106 at June 30, 1997.
JENNY CRAIG, INC. 15
9
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
Costs and expenses of United States Company-owned operations decreased 2% from
$264,693,000 in 1996 to $258,458,000 in 1997. Costs and expenses of United
States Company-owned operations were reduced by a $2,200,000 net credit in 1996
and a $3,267,000 net credit in 1997 that resulted from the Company's successful
litigation recoveries from certain of its insurance carriers. The decrease in
costs and expenses in 1997 reflects the decreased variable costs, principally
product costs, related to the lower level of operations offset, in part, by the
additional costs, principally comprised of independently-contracted physicians
and related medical professionals totaling $8,150,000 associated with offering
the program adjunct utilizing weight loss medications, increased compensation
expense associated with the introduction of this program, and increased fixed
costs associated with operating the 57 additional Company-owned centres in 1997
compared to 1996. Costs and expenses of United States Company-owned operations
as a percentage of United States Company-owned revenues increased from 86% to
93% between the years principally due to the higher proportion of fixed costs
when compared to the reduced level of revenues, the increased expenses of the
program component utilizing weight loss medications, and increased compensation
expense related to staffing levels associated with the introduction of this
program. After including the allocable portion of general and administrative
expenses, United States Company-owned operations had operating income of
$732,000 in 1997 compared to operating income of $25,226,000 in 1996. Costs and
expenses of foreign Company-owned operations increased 8% from $39,357,000 in
1996 to $42,422,000 in 1997, principally because of the increased variable costs
related to the higher level of operations. After including the allocable portion
of general and administrative expenses, foreign Company-owned operations had
operating income of $5,249,000, or 44% of total operating income, principally as
a result of the Australian centres, for fiscal 1997 as compared to operating
income of $58,000, or less than 1% of total operating income, for fiscal 1996.
The Company's gross margin on product sales from Company-owned
operations decreased from 11% in 1996 to 7% in 1997, and its gross margin on
service revenues decreased from 39% in 1996 to 31% in 1997. Costs and expenses
of Company-owned operations, other than direct product costs, are allocated
between product and service based upon the respective percentage of total
revenue from Company-owned operations derived from product sales and service
revenue. The decline in gross margins in 1997 compared to 1996 results
principally from the increased expenses associated with the program adjunct
utilizing weight loss medications and the higher proportion of fixed costs,
which include the fixed costs associated with operating the 57 additional
Company-owned centres in 1997 compared to 1996, when compared to the reduced
level of revenues.
Revenues from franchise operations decreased 29% from $50,013,000 in
1996 to $35,736,000 in 1997. This decline was principally due to a 24% decrease
in the number of franchise centres in operation, from 195 at June 30, 1996 to
149 at June 30, 1997, and a decrease in the number of new participants
16 JENNY CRAIG, INC.
10
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
enrolled in the program at franchise centres resulting in reduced product sales
and royalties. The decrease in the number of franchise centres reflects the
Company's acquisition of 51 centres from three franchisees in 1997.
Costs and expenses of franchise operations, which consist primarily of
product costs, decreased 28% from $32,985,000 in 1996 to $23,907,000 in 1997
principally because of the reduced level of franchise operations. Franchise
costs and expenses as a percentage of franchise revenues remained relatively
constant at 66% in 1996 compared to 67% in 1997.
General and administrative expenses remained relatively constant at
$28,462,000 in 1996 compared to $28,507,000 in 1997, but increased from 7.1% to
7.8% of total revenues in 1996 and 1997, respectively. General and
administrative expenses in 1996 included a one time $1,000,000 charge for the
early termination of the Company's corporate office lease, net of estimated
sublease income. After considering this one time charge in the prior year, the
increase in general and administrative expenses in 1997 was principally due to
an increase in consulting expenses, primarily pertaining to information systems.
The elements discussed above combined to result in a decrease in
operating income from $35,521,000 in 1996 to $11,840,000 in 1997 and a decrease
in income before the cumulative effect of accounting change from $22,912,000, or
$.93 per diluted share, in 1996 to $8,332,000, or $.40 per diluted share, in
1997.
In June 1997, the Company changed its method of accounting for service
fees received from customers, retroactively effective as of July 1, 1996.
Previously, the Company recognized $60 as revenue at the time of each new sale
and the remaining service revenue was deferred and recognized as revenue using
an accelerated method based upon expected customer attendance at the centres.
Under the new method, all service fees collected are deferred and recognized as
revenue on a straight-line basis over the 14-month period of expected customer
attendance at the centres. The Company believes the new method is preferable as
it provides a better matching of revenues and expenses because the costs
incurred in performing the weight loss consulting services are generally
incurred on a level basis. The cumulative effect of this accounting change for
periods prior to July 1, 1996 of $7,509,000, or $.36 per diluted share, is shown
as a cumulative adjustment on the consolidated statement of income. The effect
of this change for the year ended June 30, 1997 was to increase income before
cumulative effect of accounting change by $525,000, or $.02 per diluted share.
The pro forma effect of retroactive application of this new method of accounting
would not have materially affected the results of operations for the years ended
June 30, 1996 and 1995. The increase in deferred service revenue from $4,506,000
at June 30, 1996 to $14,558,000 at June 30, 1997 results principally from this
change in accounting method.
JENNY CRAIG, INC. 17
11
MANAGEMENT'S
DISCUSSION AND
ANALYSIS OF FINANCIAL
CONDITION AND
continued RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 1998, the Company had cash, cash equivalents, and short-term
investments of $43,360,000 compared to $38,944,000 at June 30, 1997. Sources of
cash, cash equivalents, and short-term investments during the year ended June
30, 1998 included $8,941,000 provided by operations, which includes the net
receipt of $3,267,000 resulting from the Company's litigation recovery from an
insurance carrier. Uses of cash, cash equivalents, and short-term investments
during the year ended June 30, 1998 included $4,678,000 for the purchase of
property and equipment. The Company believes that its cash, cash equivalents,
and short-term investments and its cash flow from operations are adequate for
its needs in the foreseeable future.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
130") and No. 131, "Disclosures about Segments of an Enterprise and Related
Information" ("SFAS 131"). SFAS 130 establishes standards for the reporting and
display of comprehensive income and its components in the financial statements.
SFAS 131 establishes standards for the manner in which public business
enterprises report information about operating segments and also establishes
standards for related disclosures about products and services, geographic areas,
and major customers. SFAS 130 and SFAS 131 are effective for years beginning
after December 15, 1997. The Company does not expect that the adoption of SFAS
130 and SFAS 131 will have a material impact on the Company's financial position
or results of operations.
18 JENNY CRAIG, INC.
12
CONSOLIDATED
June 30, BALANCE
1997 and 1998
($ in thousands) SHEETS
1997 1998
------------- -------
ASSETS
Cash and cash equivalents $ 37,438 42,124
Short-term investments 1,506 1,236
Accounts receivable, net 2,967 2,617
Inventories 15,285 14,469
Prepaid expenses and other assets 16,497 12,548
------------- -------
Total current assets 73,693 72,994
Cost of reacquired area franchise rights, net 9,550 8,419
Property and equipment, net 27,554 24,832
Other assets 1,500 --
------------- -------
$ 112,297 106,245
============= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable 14,938 15,256
Accrued liabilities 19,117 19,399
Income taxes payable 4,050 --
Deferred service revenue 14,558 10,278
------------- -------
Total current liabilities 52,663 44,933
Note payable 5,716 5,526
------------- -------
Total liabilities 58,379 50,459
Stockholders' equity:
Common stock $.000000005 par value, 100,000,000 shares
authorized; Issued: 1997 - 27,579,060 shares; 1998 -
27,580,260 shares; Outstanding: 1997 - 20,687,771
shares; 1998 - 20,688,971 shares -- --
Additional paid-in capital 71,615 71,622
Retained earnings 55,053 57,179
Equity adjustment from foreign currency translation 2,012 1,747
Treasury stock at cost: 1997 and 1998 - 6,891,289 shares (74,762) (74,762)
------------- -------
Total stockholders' equity 53,918 55,786
Commitments and contingencies
------------- -------
$ 112,297 106,245
============= =======
See accompanying notes to consolidated financial statements.
JENNY CRAIG, INC. 19
13
For the years
ended June 30,
1996, 1997, CONSOLIDATED
and 1998
($ in thousands, STATEMENTS OF
except per
share amounts) INCOME
1996 1997 1998
------------- ------------- ------------
Revenues:
Company-owned operations:
Product sales $ 326,107 304,240 301,802
Service revenue 24,898 25,158 19,885
------------- ------------- ------------
351,005 329,398 321,687
------------- ------------- ------------
Franchise operations:
Product sales 42,059 29,677 26,002
Royalties 7,719 5,794 4,505
Initial franchise fees 235 265 55
------------- ------------- ------------
50,013 35,736 30,562
------------- ------------- ------------
Total revenues 401,018 365,134 352,249
------------- ------------- ------------
Costs and expenses:
Company-owned operations:
Product 288,954 283,643 288,450
Service 15,096 17,237 13,958
------------- ------------- ------------
304,050 300,880 302,408
------------- ------------- ------------
Franchise operations:
Product 30,699 22,067 19,257
Other 2,286 1,840 1,967
------------- ------------- ------------
32,985 23,907 21,224
------------- ------------- ------------
63,983 40,347 28,617
General and administrative expenses 28,462 28,507 26,577
------------- ------------- ------------
Operating income 35,521 11,840 2,040
Other income, net, principally interest 2,960 1,585 1,374
------------- ------------- ------------
Income before taxes and cumulative effect of accounting change 38,481 13,425 3,414
Provision for income taxes 15,569 5,093 1,288
------------- ------------- ------------
Income before cumulative effect
of accounting change 22,912 8,332 2,126
Cumulative effect on prior years of change in accounting
for service revenue, net of $4,498 income tax benefit -- 7,509 --
------------- ------------- ------------
Net income $ 22,912 823 2,126
============= ============= ============
Basic per share amounts:
Income before cumulative effect of accounting change $ .95 .40 .10
Cumulative effect of accounting change -- .36 --
------------- ------------- ------------
Net income per share, basic $ .95 .04 .10
============= ============= ============
Diluted per share amounts:
Income before cumulative effect of accounting change $ .93 .40 .10
Cumulative effect of accounting change -- .36 --
------------- ------------- ------------
Net income per share, diluted $ .93 .04 .10
============= ============= ============
See accompanying notes to consolidated financial statements.
20 JENNY CRAIG, INC.
14
CONSOLIDATED
For the years STATEMENTS
ended June 30,
1996, 1997, OF STOCKHOLDERS'
and 1998
($ in thousands) EQUITY
Equity
adjustment
from
Additional foreign
Common paid-in Retained currency Treasury
stock capital earnings translation stock Total
-------- -------- ---------- ------------ --------- --------
Balance at June 30, 1995 -- $ 71,148 31,318 415 (28,734) 74,147
Net income -- -- 22,912 -- -- 22,912
Purchase of 4,396,689 shares
of common stock, at cost -- -- -- -- (44,395) (44,395)
Exercise of stock options -- 330 -- -- -- 330
Translation adjustment -- -- -- 1,468 -- 1,468
--------- -------- ---------- ------------ ---------- --------
Balance at June 30, 1996 -- 71,478 54,230 1,883 (73,129) 54,462
Net income -- -- 823 -- -- 823
Purchase of 190,200 shares
of common stock, at cost -- -- -- -- (1,633) (1,633)
Exercise of stock options -- 137 -- -- -- 137
Translation adjustment -- -- -- 129 -- 129
--------- -------- ---------- ------------ ---------- --------
Balance at June 30, 1997 -- 71,615 55,053 2,012 (74,762) 53,918
Net income -- -- 2,126 -- -- 2,126
Exercise of stock options -- 7 -- -- -- 7
Translation adjustment -- -- -- (265) -- (265)
--------- -------- ---------- ------------ ---------- --------
Balance at June 30, 1998 -- $ 71,622 57,179 1,747 (74,762) 55,786
========= ======== ========== ============ ========== ========
See accompanying notes to consolidated financial statements.
JENNY CRAIG, INC. 21
15
CONSOLIDATED
STATEMENTS
For the years
ended June 30, OF CASH
1996, 1997, and 1998
($ in thousands) FLOWS
1996 1997 1998
------------- ------------- -------------
Cash flows from operating activities:
Net income $ 22,912 823 2,126
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 7,405 7,461 7,101
Decrease in other assets - forgiveness of officer loan -- -- 1,500
Cumulative effect of change in accounting
for service revenue -- 7,509 --
Provision for doubtful accounts (900) -- --
Provision for centre closures -- (400) --
Loss on disposal of property and equipment 167 134 1,035
(Increase) decrease in:
Accounts receivable (639) (566) 94
Inventories 275 2,526 866
Prepaid expenses and other assets (461) (3,717) 3,949
Increase (decrease) in:
Accounts payable 4,122 (5,977) 318
Accrued liabilities 4,560 (4,717) 282
Income taxes payable (1,209) 1,948 (4,050)
Deferred service revenue 1,237 (1,955) (4,280)
------------- ------------- -------------
Net cash provided by operating activities 37,469 3,069 8,941
------------- ------------- -------------
Cash flows from investing activities:
Purchase of property and equipment (3,662) (17,125) (4,678)
Purchase of short-term investments (9,877) (16,359) (9,008)
Proceeds from maturity of short-term investments 10,791 21,898 9,278
Payments for acquisition of franchise centres -- (2,156) (145)
------------- ------------- -------------
Net cash used in investing activities (2,748) (13,742) (4,553)
------------- ------------- -------------
Cash flows from financing activities:
Purchase of treasury stock (44,395) (1,633) --
Proceeds from note payable -- 6,000 --
Principal payments on note payable -- (95) (190)
Proceeds from exercise of stock options 330 137 7
------------- ------------- -------------
Net cash provided by (used in) financing activities (44,065) 4,409 (183)
------------- ------------- -------------
Effect of exchange rate changes on cash 1,060 167 481
------------- ------------- -------------
Net increase (decrease) in cash and cash equivalents (8,284) (6,097) 4,686
Cash and cash equivalents at beginning of year 51,819 43,535 37,438
------------- ------------- -------------
Cash and cash equivalents at end of year $ 43,535 37,438 42,124
============= ============= =============
Supplemental disclosure of cash flow information:
Income taxes paid $ 16,780 2,848 5,400
Interest paid -- 238 399
Supplemental disclosure of noncash investing activities--
acquisition of franchise centres:
Fair value of assets acquired $ -- 5,052 401
Liabilities assumed $ -- (1,629) --
Cancellation of accounts receivable $ -- (1,267) (256)
------------- ------------- -------------
Cash paid for acquisitions $ -- 2,156 145
============= ============= =============
See accompanying notes to consolidated financial statements.
22 JENNY CRAIG, INC.
16
NOTES TO
CONSOLIDATED
June 30, FINANCIAL
1996, 1997,
and 1998 STATEMENTS
Jenny Craig, Inc. (the "Company"), through its wholly-owned subsidiaries,
operates and franchises centres offering weight management programs to the
general public in the United States, Australia, New Zealand, Canada, and Puerto
Rico.
NOTE 1.
Summary of Significant
Accounting Policies
(A) BASIS OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries. All material intercompany accounts and
transactions have been eliminated in consolidation.
(B) CASH EQUIVALENTS
Cash equivalents consist principally of money market funds and other highly
liquid interest-bearing instruments with original maturities of three months or
less.
(C) SHORT-TERM INVESTMENTS
Short-term investments consist principally of U.S. Government securities,
tax-exempt municipal obligations, and commercial paper. The Company accounts for
its short-term investments in accordance with the provisions of Statement of
Financial Accounting Standards No.115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS 115"). Under SFAS 115, the Company currently
classifies its securities as held-to-maturity. Held-to-maturity securities are
those investments in which the Company has the ability and intent to hold the
security until maturity. Held-to-maturity securities are recorded at amortized
cost, which approximates market value. All investments mature within a 12-month
period. Dividend and interest income are recognized in the period earned.
(D) INVENTORIES
Inventories, which consist primarily of food products held for sale, are stated
at the lower of cost (determined using the first-in, first-out method) or
market.
(E) PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, net of accumulated depreciation and
amortization. Depreciation is computed using the straight-line method over the
estimated useful lives of the related assets, predominantly five years.
Leasehold improvements are amortized over the shorter of their useful life or
related lease term, predominantly five years. The Company's corporate
headquarters building, purchased in 1997, is being depreciated using the
straight-line method over 30 years.
(F) REACQUIRED AREA FRANCHISE RIGHTS
The cost of reacquired area franchise rights is amortized using the
straight-line method over the then remaining term of the acquired franchise
territorial rights, which averages 13 years.
(G) IMPAIRMENT OF LONG-LIVED ASSETS
The Company accounts for its long-lived assets in accordance with Statement of
Financial Accounting Standards No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("SFAS 121").
This Statement requires that long-lived assets and certain identifiable
intangibles be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is
JENNY CRAIG, INC. 23
17
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
measured by the amount by which the carrying amount of the assets exceed the
fair value of the assets. Reacquired area franchise rights are evaluated for
recovery of the carrying amount on an individual area franchise basis. Assets to
be disposed of are reported at the lower of the carrying amount or fair value
less costs to sell.
(H) REVENUE RECOGNITION
In June 1997, the Company changed its method of accounting for service fees
received from customers, retroactively effective as of July 1, 1996. Previously,
the Company recognized $60 as revenue at the time of each new sale and the
remaining service revenue was deferred and recognized as revenue based upon
expected customer attendance at the centres. Under the new method, all service
fees collected are deferred and recognized as revenue on a straight-line basis
over the 14-month period of expected customer attendance at the centres. The
Company believes the new method is preferable as it provides a better matching
of revenues and expenses because the costs incurred in performing the weight
loss consulting services are generally incurred on a level basis. The cumulative
effect of this accounting change, net of related income tax benefit, for periods
prior to July 1, 1996 of $7,509,000, or $.36 per diluted share, is shown as a
cumulative effect adjustment on the consolidated statements of income. The
effect of this change for the year ended June 30, 1997 was to increase income
before cumulative effect of accounting change by $525,000, or $.02 per diluted
share. The pro forma effect of retroactive application of this new method of
accounting would not have materially affected the results of operations for the
year ended June 30, 1996. Service revenue not recognized in income is recorded
as deferred service revenue in the accompanying consolidated balance sheets.
The Company grants franchises in exchange for an initial franchise fee
which is recorded as revenue when substantially all services have been performed
and the franchisee commences operations. Costs associated with such sales,
substantially all of which are incurred prior to the franchisee commencing
operations, are expensed as incurred. Franchise royalties are calculated as a
percentage of franchisees' revenue in accordance with the franchise agreements.
The Company's allowance for doubtful accounts amounted to $1,190,000 and
$1,080,000 at June 30, 1997 and 1998, respectively.
(I) ADVERTISING COSTS
Advertising costs are charged to expense as incurred.
(J) TRANSLATION OF FOREIGN
CURRENCY FINANCIAL STATEMENTS
Assets and liabilities of foreign operations where the functional currency is
other than the U.S. dollar are translated at fiscal year-end rates of exchange,
and the related revenue and expense amounts are translated at the average rates
of exchange in effect for the fiscal year. Gains or losses resulting from
translating foreign currency financial statements are accumulated in a separate
component of stockholders' equity.
(K) FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of cash and cash equivalents, short-term investments,
accounts receivable, accounts payable, and accrued liabilities approximate their
fair value because of the short-term nature of those instruments. The carrying
amount of the note payable approximates fair value because the interest rate is
reset each quarter to reflect current market rates and the other terms are
comparable to those currently available in the marketplace.
24 JENNY CRAIG, INC.
18
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
(L) STOCK-BASED COMPENSATION
The Company adopted the disclosure-only provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation"
("SFAS 123"). Accordingly, the Company continues to account for stock-based
compensation under APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations. As such, compensation expense for
employee stock option grants is recorded on the date of grant only if the
current market price of the Company's stock exceeds the exercise price.
(M) EARNINGS PER SHARE
The consolidated financial statements are presented in accordance with Statement
of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128").
Basic net income per common share is computed using the weighted-average number
of shares outstanding during the period. Diluted net income per share
incorporates the incremental shares issuable upon the assumed exercise of stock
options. All prior period net income per share information is presented in
accordance with SFAS 128.
Net income and weighted average common shares used to compute net income
per share, basic and diluted, are presented below (amounts in thousands):
1996 1997 1998
------------- ------------- ------------
Net income $ 22,912 823 2,126
============= ============= ===========
Common shares, basic 24,195 20,767 20,688
Dilutive effect
of stock options 559 336 265
------------- ------------- ------------
Common shares, diluted 24,754 21,103 20,953
============= ============= ===========
(N) USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
NOTE 2.
Prepaid Expenses and
Other Assets
Prepaid expenses and other assets at June 30 are summarized as follows ($ in
thousands):
1997 1998
------------- -------------
Net deferred tax asset $ 9,279 7,863
Insurance settlement receivable 4,000 --
Other 3,218 4,685
------------- -------------
$ 16,497 12,548
============= =============
The insurance settlement was received by the Company in July 1997.
JENNY CRAIG, INC. 25
19
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
NOTE 3.
Property and Equipment
Property and equipment at June 30 is summarized as follows ($ in thousands):
1997 1998
------------- -------------
Land $ 2,000 2,000
Building 7,128 7,186
Furniture and equipment 43,750 41,738
Leasehold improvements 23,931 23,041
------------- -------------
76,809 73,965
Less accumulated depreciation
and amortization (49,255) (49,133)
------------- -------------
$ 27,554 24,832
============= =============
In July 1996, the Company purchased a 75,000-square-foot office building
located in LaJolla, California which serves as the Company's corporate
headquarters.
NOTE 4.
Accrued Liabilities
Accrued liabilities at June 30 are summarized as follows ($ in thousands):
1997 1998
------------- -------------
Accrued salaries, wages
and benefits $ 12,283 11,708
Other accruals 6,834 7,691
-------------- --------------
$ 19,117 19,399
============== ==============
NOTE 5.
Income Taxes
The Company and its United States subsidiaries file consolidated federal and
combined or separate state income tax returns. Jenny Craig Weight Loss Centres,
Pty. Ltd. and Jenny Craig Weight Loss Centres (Canada), Ltd., both foreign
corporations, are subject to income tax in foreign jurisdictions.
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carry-forwards.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
The following summarizes income taxes ($ in thousands):
1996 1997 1998
------------- ------------- -------------
Current:
Federal $ 11,459 1,132 (1,301)
State 2,494 371 61
Foreign 1,347 3,993 1,112
------------- ------------- -------------
Total current 15,300 5,496 (128)
------------- ------------- -------------
Deferred:
Federal 794 1,112 373
State 215 (153) (86)
Foreign (740) (1,362) 1,129
------------- ------------- -------------
Total deferred 269 (403) 1,416
------------- ------------- -------------
Total provision for
income taxes $ 15,569 5,093 1,288
============= ============= =============
26 JENNY CRAIG, INC.
20
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
Deferred income taxes result from the temporary differences between the
tax basis of an asset or a liability and its reported amount in the consolidated
balance sheets. The components that comprise deferred tax assets and liabilities
at June 30, 1997 and 1998 are as follows ($ in thousands):
1997 1998
------------- -------------
Deferred tax assets:
Employee benefits $ 2,158 1,734
Allowance for doubtful
accounts 463 425
Depreciation and
amortization 3,294 2,752
Inventories 358 186
Foreign operations 1,500 371
Deferred service revenue 3,853 3,055
Net operating losses -- 84
Tax credits -- 353
Other accruals 1,710 1,463
------------- -------------
Total gross deferred
tax assets 13,336 10,423
Less valuation allowance (700) (700)
------------- -------------
Net deferred
tax assets 12,636 9,723
Deferred tax liabilities:
Receivable from
foreign subsidiary (3,357) (1,727)
Other -- (133)
------------- -------------
Total deferred
tax liabilities (3,357) (1,860)
------------- -------------
Net deferred tax asset $ 9,279 7,863
============= =============
In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. The ultimate realization of deferred
tax assets is dependent upon the generation of future taxable income during the
periods in which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected future
taxable income, and tax planning strategies in making this assessment. Based
upon the level of historical taxable income and management's projections for
future taxable income over the reversing periods, management believes it is more
likely than not the Company will realize the benefits of these deductible
differences, net of the existing valuation allowance which has been established
to offset a portion of the deferred tax assets based upon the above factors.
Income taxes for the years ended June 30, 1996, 1997, and 1998 differed
from the amounts expected by applying the U.S. federal income tax rate of 35% to
income before taxes as follows ($ in thousands):
1996 1997 1998
------------- ------------- -------------
Computed
income taxes $ 13,468 4,699 1,195
State taxes, net of
federal benefit 1,761 237 (17)
Change in the
valuation allowance
for deferred
tax assets (1,456) -- --
Permanent differences -- -- 65
Other 1,796 157 45
------------- ------------- -------------
$ 15,569 5,093 1,288
============= ============= =============
JENNY CRAIG, INC. 27
21
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
NOTE 6.
Note Payable
In October 1996, the Company borrowed $6,000,000 from a bank, secured by the
Company's corporate office building. The note bears interest at the London
Interbank Offered Rate plus one percent (6.75% at June 30, 1998). Quarterly
principal payments of $47,390 are due until the maturity date in November 2006,
at which time all remaining unpaid principal is due.
The current portion of the note, amounting to $190,000, is included in
accrued liabilities at June 30, 1997 and 1998.
NOTE 7.
Leases
The Company's centre operations are conducted from premises leased under
noncancellable operating leases, generally for terms of five years with renewal
options for like periods. The Company's rent expense under such noncancellable
operating leases amounted to $24,217,000, $25,074,000, and $25,227,000 for the
years ended June 30, 1996, 1997, and 1998, respectively.
As of June 30, 1998, the scheduled minimum annual rental payments,
excluding renewal provisions, are as follows ($ in thousands):
1999 $20,142
2000 14,065
2001 8,692
2002 4,181
2003 1,393
Thereafter 195
-------
$48,668
=======
Management expects that in the normal course of business, leases that
expire will be renewed or replaced by other leases. A majority of the leases
provide for the payment of taxes, maintenance, insurance, and certain other
expenses applicable to the leased premises.
NOTE 8.
Related
Party Transactions
In March 1996, a corporation controlled by the beneficial owners of a majority
of the outstanding stock of the Company sold 2,000,000 shares of the Company's
common stock to the Company at a price of $10 per share pursuant to a Dutch
Auction self tender offer commenced by the Company in February 1996 and open to
all shareholders.
The beneficial owners of a majority of the outstanding stock of the
Company own the franchise operations in New Zealand. The Company's revenue
derived from these operations was $4,143,000, $4,997,000, and $5,440,000 for the
years ended June 30, 1996, 1997, and 1998, respectively.
28 JENNY CRAIG, INC.
22
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
A director and officer of the Company is a partner in a law firm which
provided certain legal services to the Company. Legal fees incurred with such
firm were $2,096,000, $1,067,000, and $616,000 in 1996, 1997, and 1998,
respectively.
In September 1997, the Company recorded expenses totaling $3,500,000
related to the separation of a former senior executive of the Company. These
expenses include $1,500,000 for the forgiveness of a loan made to the former
senior executive in 1995 (which is reflected on the accompanying consolidated
balance sheets as a decrease in other assets), $1,000,000 for the payment of the
former senior executive's salary and benefits in semi-monthly installments
through December 31, 1998, and $1,000,000 for the cancellation of stock options,
payable in five equal annual installments commencing in fiscal 1998, which were
exercisable by the former senior executive.
NOTE 9.
Cost of Reacquired
Area Franchise Rights
The Company has acquired, from time to time, centres which were previously owned
by franchisees. The excess cost over net assets acquired of $13,660,000 at June
30, 1998 is being amortized using the straight-line method over the then
remaining term of the acquired franchise territorial rights, which averages 13
years. Amortization expense was $837,000, $1,015,000, and $1,051,000 for the
years ended June 30, 1996, 1997, and 1998, respectively. Accumulated
amortization was $4,598,000 and $5,241,000 at June 30, 1997 and 1998,
respectively.
NOTE 10.
Employee Benefits
In 1996, the Company adopted a 401(k) Retirement Plan which allows all employees
with one or more years of service to participate. The Company currently matches
25% of an employee's voluntary contribution up to a maximum of 6% of eligible
compensation. The Company recorded expense of $91,000, $191,000, and $264,000 in
1996, 1997, and 1998, respectively, in connection with this plan.
In 1991, the Company adopted a management deferred bonus plan covering
certain members of the Company's management group. The bonus pool, which is
determined by the Board of Directors following each fiscal year, cannot exceed
one percent of operating income for the fiscal year plus a percentage of the
increase, if any, in operating income over the prior fiscal year. Participants
receive 25% of their allocated portion of the bonus pool approximately 90 days
after the end of each fiscal year. Payment of the remaining 75% is deferred for
five years and is subject to vesting at the rate of 20% per year. The unvested
portion is forfeited if the participant terminates employment for any reason
other than retirement after attainment of age 65 and completion of 10 years of
participation in the management plan. Amounts expensed under this plan were
$386,000, $100,000, and $20,000 in 1996, 1997, and 1998, respectively.
JENNY CRAIG, INC. 29
23
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
NOTE 11.
Stock Option Plan
The Company's Stock Option Plan (the "Option Plan") was adopted in October 1991
and provides for the grant of incentive stock options to key employees and of
nonqualified stock options to key employees, consultants, directors, and Medical
Advisory Board members. A total of 2,500,000 shares of common stock have been
reserved for issuance under the Option Plan, of which 487,540 shares remain
available for future grant at June 30, 1998. The exercise price of the options
may not be less than fair market value on the date of grant. Additionally, no
options may be exercisable more than 10 years after the date of grant and, with
certain exceptions, no option may become exercisable prior to the expiration of
six months from the date of grant. The options granted to employees generally
become exercisable over three to four years.
The Company applies APB Opinion No.25 in accounting for the Option Plan
and, accordingly, no compensation cost has been recognized for stock option
grants to employees and directors in the consolidated financial statements. Had
the Company determined compensation cost based on the fair value at the grant
date for its stock options under SFAS 123, the Company's net income and net
income per share would have been reduced to the pro forma amounts as follows ($
in thousands, except per share amounts):
1996 1997 1998
------------- ------------- -------------
Net income - as reported $ 22,912 823 2,126
Net income - pro forma 22,883 574 2,003
Per share amounts:
Basic, as reported .95 .04 .10
Basic, pro forma .95 .03 .10
Diluted, as reported .93 .04 .10
Diluted, pro forma .92 .03 .10
The per share weighted-average fair value of stock options granted
during 1996, 1997, and 1998 was $4.36, $3.70, and $2.37, respectively, on the
date of grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions: expected life of four years, expected volatility
of 44%, 47%, and 44% in 1996, 1997, and 1998, respectively, no dividends, and
risk-free interest rate of 5.0%.
Pro forma net income reflects only options granted in 1996, 1997, and
1998. Therefore, the full impact of calculating compensation cost for stock
options under SFAS 123 is not reflected in the pro forma net income amounts
presented above because compensation cost is reflected over the options' vesting
period of four years, and compensation cost for options granted prior to July 1,
1995 is not considered.
The following summarizes the status of the Option Plan:
Weighted-
average
Number of Range of exercise
options exercise prices price
- ------------------------------------- -------------- -------------
Outstanding at
June 30, 1995 1,677,900 $4.63 to 21.00 $ 6.73
Granted 187,000 9.13 to 16.25 11.68
Cancelled (59,380) 5.63 to 21.00 7.09
Exercised (56,940) 5.63 to 7.32 5.82
- ------------------------------------- -------------- -------------
Outstanding at
June 30, 1996 1,748,580 4.63 to 21.00 7.28
Granted 267,000 6.00 to 15.75 8.62
Cancelled (78,980) 5.63 to 16.25 10.14
Exercised (21,720) 5.63 to 7.32 6.31
- ------------------------------------- -------------- -------------
Outstanding at
June 30, 1997 1,914,880 4.63 to 21.00 7.36
Granted 1,648,100 5.82 to 7.50 5.84
Cancelled (1,629,580) 5.63 to 21.00 7.49
Exercised (1,200) 5.63 to 5.63 5.63
- ------------------------------------- -------------- -------------
Outstanding at
June 30, 1998 1,932,200 $4.63 to 15.32 $ 5.96
===================================== ============== =============
Exercisable at
June 30, 1998 227,360 $4.63 to 15.32 $ 6.21
===================================== ============== =============
30 JENNY CRAIG, INC.
24
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
During fiscal 1998, the compensation committee of the Board of Directors
authorized the grant of 543,600 options at an exercise price of $5.88 per share,
the fair market value on the date of grant. These grants were conditioned upon
the cancellation of an equal number of previously existing options which had
exercise prices ranging from $7.07 to $21.00 per share. The new options vest at
the rate of 33% per year, commencing on the grant date of the new options, with
the exception of 61,500 options granted to non-employee directors which were
exercisable immediately upon grant.
Information with respect to options outstanding and exercisable by
exercise price range at June 30, 1998 is as follows:
Options Outstanding
- -------------------------------------------------------------------
Weighted-
average Weighted-
remaining average
Range of Number contractual exercise
exercise prices outstanding life (in years) price
- -------------------------------------------------------------------
$4.63- 4.63 5,000 6.1 $ 4.63
5.63- 5.88 1,832,000 9.4 5.84
5.89- 9.38 80,200 7.9 7.04
9.39-15.32 15,000 7.9 15.32
- -------------------------------------------------------------------
$4.63-15.32 1,932,200 9.3 $ 5.96
===================================================================
Options Exercisable
- ----------------------------------------------------
Weighted-
average
Range of Number exercise
exercise prices exercisable price
- ----------------------------------------------------
$4.63- 4.63 5,000 $ 4.63
5.63- 5.88 186,240 5.82
5.89- 9.38 30,120 7.10
9.39- 15.32 6,000 15.32
- ----------------------------------------------------
$4.63- 15.32 227,360 $ 6.21
====================================================
At June 30, 1996 and 1997, the number of options exercisable were
671,810 and 1,071,780, respectively, and the weighted-average exercise prices
were $6.99 and $7.11, respectively.
NOTE 12.
Contingencies
Because of the nature of its activities, the Company is, at times, subject to
pending and threatened legal actions which arise out of the normal course of
business. In the opinion of management, based in part upon advice of legal
counsel, the disposition of all such matters will not have a material effect on
the consolidated financial statements.
The Company and the Federal Trade Commission have entered into a Consent
Order settling all contested issues raised in a complaint filed in September
1993 against the Company alleging that the Company violated the Federal Trade
Commission Act by the use and content of certain advertisements for the
Company's weight loss program featuring testimonials, claims for the program's
success and safety, and statements as to the program's costs to participants.
The Consent Order does not admit any issue of fact or law or any violation by
the Company of any law or regulation, and does not involve payment by the
Company of any civil money penalty, damages, or other financial relief. The
Consent Order requires certain procedures and disclosures in connection with the
Company's advertisements of its products
JENNY CRAIG, INC. 31
25
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
and services. The full Commission accepted the Consent Order, and it has been
made effective as of May 4, 1998. The Company does not believe that compliance
with the Consent Order will have a material adverse effect on the Company's
consolidated financial position or results of operations or its current
advertising and marketing practices.
The Company, along with other weight loss programs and certain
pharmaceutical companies, has been named as a defendant in an action filed in
the Circuit Court for the Eleventh Judicial Circuit in Pickens County, Alabama
(the "Alabama Litigation"). The action was commenced in August 1997 by three
plaintiffs who are seeking to maintain the action as a class action on behalf of
all persons in the United States and United States Territories who have suffered
or may in the future suffer injury due to the administration of phentermine,
fenfluramine (commonly known as "phen-fen" when taken together), and/or
dexfenfluramine (trade name Redux(TM)), which were manufactured or sold by the
defendants. The complaint includes claims against the Company and other
defendants, acting separately and in concert, for alleged unlawful and tortious
acts, including sale of allegedly dangerous and defective products, negligent
marketing and distribution, failure to warn of the risks associated with the
weight loss medications, breach of warranty, fraud, and negligent
misrepresentation. The complaint seeks compensatory and punitive damages in
unspecified amounts and equitable relief including the establishment of a
medical fund to cover future medical expenses resulting from the use of the
weight loss medications, and a requirement that the defendants adequately warn
the public of the risks associated with the use of the weight loss medications.
The Company, along with certain pharmaceutical companies, has also been
named as a defendant in an action filed in the Court of Common Pleas,
Philadelphia County, Pennsylvania (the "Pennsylvania Litigation"). The action
was commenced in November 1997 by a plaintiff, a participant in the Company's
program, who is seeking to maintain the action as a class action on behalf of
all persons in the Commonwealth of Pennsylvania who have purchased and used
fenfluramine, dexfenfluramine, and phentermine, alone or in combination. The
complaint includes claims against the Company and other defendants for alleged
false and misleading statements concerning the safety and appropriateness of
using fenfluramine, dexfenfluramine, and phentermine, and the benefits, uses,
and ingredients of these drugs, negligence in the distribution, sale, and
prescribing of these medications, and breach of the warranty of merchantability.
The complaint seeks compensatory and punitive damages in unspecified amounts and
a Court-supervised program funded by the defendants through which class members
would undergo periodic medical examination and testing.
32 JENNY CRAIG, INC.
26
NOTES TO
CONSOLIDATED
FINANCIAL
continued STATEMENTS
The Company has tendered the Alabama Litigation and the Pennsylvania
Litigation matters to its insurance carriers. The Company and the provider of
the independent physicians who prescribed the weight loss medications in the
Company's centres have each asserted their rights with respect to these
litigations under contractual provisions for indemnification in the agreement
between them. The claims have not progressed sufficiently for the Company to
estimate a range of possible loss, if any. The Company intends to defend the
matters vigorously.
NOTE 13.
Business Segments
and Geographic Information
The Company operates in one industry segment. Substantially all revenue results
from the sale of weight management products and services, whether the centre is
operated by the Company or its franchisees. The following presents information
about operations in different geographic areas ($ in thousands):
1996 1997 1998
------------- ------------- -------------
Revenue derived
from customers:
Company-owned
operations:
Unaffiliated:
United States $ 309,415 279,090 273,358
Foreign 41,590 50,308 48,329
Franchise operations:
Unaffiliated:
United States 43,119 27,525 22,051
Foreign 2,751 3,214 3,071
Affiliated:
United States -- -- --
Foreign 4,143 4,997 5,440
Operating income (loss):
Company-owned
operations:
United States 25,226 732 (8,175)
Foreign 58 5,249 5,409
Franchise operations:
United States 8,818 3,677 2,135
Foreign 1,419 2,182 2,671
Identifiable assets:
United States 93,208 100,689 94,450
Foreign 11,193 11,608 11,795
JENNY CRAIG, INC. 33
27
INDEPENDENT
AUDITORS'
REPORT
The Shareholders and Board of Directors
Jenny Craig, Inc.:
We have audited the accompanying consolidated balance sheets of Jenny
Craig, Inc. and subsidiaries as of June 30, 1997 and 1998, and the related
consolidated statements of income, stockholders' equity, and cash flows for each
of the years in the three-year period ended June 30, 1998. 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 audits.
We conducted our audits in accordance with generally accepted auditing
standards. 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. 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 audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Jenny Craig,
Inc. and subsidiaries as of June 30, 1997 and 1998, and the results of their
operations and their cash flows for each of the years in the three-year period
ended June 30, 1998, in conformity with generally accepted accounting
principles.
/s/ KPMG PEAT MARWICK LLP
San Diego, California
August 17, 1998
34 JENNY CRAIG, INC.
28
SELECTED
QUARTERLY
FINANCIAL
(Unaudited) INFORMATION
The following is a summary of the unaudited quarterly results of
operations ($ in thousands, except per share data):
Three-Month Period Ended
- --------------------------------------------------------------------------------------------------------------------------
September 30, December 31, March 31, June 30, Total
Current Year 1997 1997 1998 1998 year
- --------------------------------------------------------------------------------------------------------------------------
Total revenues $ 86,704 78,843 93,132 93,570 352,249
Operating income (loss) (7,906) 160 3,000 6,786 2,040
Net income (loss) (4,617) 283 2,042 4,418 2,126
Basic and diluted
net income (loss) per share (.22) .01 .10 .21 .10
The quarter ended September 30, 1997 includes a pretax charge of
$3,500,000 related to the separation of a former senior executive of the
Company.
Three-Month Period Ended
- --------------------------------------------------------------------------------------------------------------------------------
September 30, December 31, March 31, June 30, Total
Prior Year 1996 1996 1997 1997 year
- --------------------------------------------------------------------------------------------------------------------------------
Total revenues $ 91,012 83,388 96,536 94,198 365,134
Operating income 3,649 751 1,170 6,270 11,840
Income before cumulative
effect of accounting change 2,489 879 908 4,056 8,332
Cumulative effect of change in
accounting for service revenue (7,509) -- -- -- (7,509)
Net income (loss) (5,020) 879 908 4,056 823
Basic and diluted per share amounts:
Income before cumulative
effect of accounting change 0.12 0.04 0.04 0.20 0.40
Cumulative effect of change in
accounting for service revenue (0.36) -- -- -- (0.36)
- --------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (0.24) 0.04 0.04 0.20 0.04
================================================================================================================================
In the fourth quarter of fiscal 1997, the Company changed its method of
accounting for service fees received from customers, retroactively effective as
of July 1, 1996 (see Note 1 of Notes to Consolidated Financial Statements). The
quarterly results of operations for the first three quarters of fiscal 1997
reflect the effect of the change in accounting method as if the change had
occurred on July 1, 1996 and do not differ materially from the amounts as
originally reported.
The quarter ended June 30, 1997 includes a pretax credit of $3,267,000
resulting from the Company's litigation recovery from an insurance carrier.
The net income (loss) per share computed for each quarter and the year
are separate calculations.
JENNY CRAIG, INC. 35
29
COMMON
STOCK
DATA
At August 28, 1998, there were approximately 2,600 holders of the Company's
common stock, which is traded on the New York Stock Exchange (NYSE) under the
symbol JC. The following table reflects the range of high and low sales prices
as reported by the NYSE for the indicated periods.
1997 1998
--------------------------------------------------------
High Low High Low
--------------------------------------------------------
First quarter ended September 30 $17 3/4 9 1/8 8 15/16 6 5/16
Second quarter ended December 31 9 7/8 8 1/8 8 12/16 6 15/16
Third quarter ended March 31 10 3/4 6 1/2 7 10/16 5
Fourth quarter ended June 30 7 7/8 5 1/8 6 15/16 5 7/16
In June 1994, the Company suspended payment of its quarterly dividend, subject
to quarterly review by the Board of Directors. The Company currently believes
that its stockholders are best served by directing cash resources to the
Company's marketing efforts and further improvement of its business.
36 JENNY CRAIG, INC.