SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 26, 1999
OR
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number: 0-21660
PAPA JOHN'S INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 61-1203323
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) number)
2002 Papa John's Boulevard
Louisville, Kentucky 40299-2334
(Address of principal executive offices)
(502) 261-7272
(Registrant's telephone number, including area code)
- --------------------------------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days:
Yes X No
--- ---
At November 1, 1999, there were outstanding 30,443,572 shares of the
registrant's common stock, par value $.01 per share.
INDEX
PART I. FINANCIAL INFORMATION Page No.
--------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets --
September 26, 1999 and December 27, 1998 2
Condensed Consolidated Statements of Income --
Three Months and Nine Months Ended September 26, 1999
and September 27, 1998 3
Condensed Consolidated Statements of Stockholders'
Equity -- Nine Months Ended September 26, 1999
and September 27, 1998 4
Condensed Consolidated Statements of Cash Flows -
Nine Months Ended September 26, 1999 and
September 27, 1998 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 13
Item 6. Exhibits and Reports on Form 8-K 13
1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Papa John's International, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(In thousands) September 26, 1999 December 27, 1998
- ----------------------------------------------------------------------------------------
(Unaudited) (Restated - see note)
Assets
Current assets:
Cash and cash equivalents $ 45,529 $ 33,814
Accounts receivable 15,862 17,420
Inventories 10,431 9,808
Prepaid expenses and other current assets 5,562 4,891
Deferred income taxes 2,090 2,090
- ---------------------------------------------------------------------------------------
Total current assets 79,474 68,023
Investments 39,841 47,355
Net property and equipment 214,698 172,872
Notes receivable from franchisees 10,574 8,990
Other assets 30,186 22,484
- ----------------------------------------------------------------------------------------
Total assets $374,773 $319,724
========================================================================================
Liabilities and stockholders' equity
Current liabilities:
Accounts payable $ 21,300 $ 18,389
Accrued expenses 28,491 26,916
Current portion of long-term debt 5,233 190
- ----------------------------------------------------------------------------------------
Total current liabilities 55,024 45,495
Unearned franchise and development fees 5,906 6,561
Long-term debt, net of current portion 925 8,230
Deferred income taxes 709 5,066
Other long-term liabilities 956 202
Stockholders' equity:
Preferred stock - -
Common stock 304 298
Additional paid-in capital 187,487 166,209
Accumulated other comprehensive income
(unrealized gain on investments, net of tax) 881 688
Retained earnings 123,062 87,456
Treasury stock (481) (481)
- ----------------------------------------------------------------------------------------
Total stockholders' equity 311,253 254,170
- ----------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $374,773 $319,724
========================================================================================
Note: The Condensed Consolidated Balance Sheet at December 27, 1998 has been
derived from the audited financial statements at that date restated to
reflect the acquisition of Minnesota Pizza Company, LLC, a business
combination accounted for as a pooling of interests (see Note 3 of Notes
to Condensed Consolidated Financial Statements).
2
Papa John's International, Inc. and Subsidiaries
Condensed Consolidated Statements of Income
(Unaudited)
Three Months Ended Nine Months Ended
(In thousands, except per share amounts) Sept. 26, 1999 Sept. 27, 1998 Sept. 26, 1999 Sept. 27, 1998
- -----------------------------------------------------------------------------------------------------------------------------------
(Restated - (Restated -
see note) see note)
Revenues:
Restaurant sales $ 96,538 $ 85,165 $289,216 $249,544
Franchise royalties 10,261 7,899 29,783 23,005
Franchise and development fees 1,775 1,530 5,020 3,822
Commissary sales 81,002 63,162 227,090 180,162
Equipment and other sales 12,504 11,676 38,706 33,596
- -----------------------------------------------------------------------------------------------------------------------------------
Total revenues 202,080 169,432 589,815 490,129
Costs and expenses:
Restaurant expenses:
Cost of sales 26,449 22,876 74,031 65,950
Salaries and benefits 25,746 22,942 78,150 67,259
Advertising and related costs 7,972 7,131 25,245 21,680
Occupancy costs 5,127 4,630 14,377 12,615
Other operating expenses 12,994 11,051 38,865 32,464
- -----------------------------------------------------------------------------------------------------------------------------------
78,288 68,630 230,668 199,968
Commissary, equipment and other expenses:
Cost of sales 72,066 58,945 202,839 167,222
Salaries and benefits 6,135 4,328 17,691 12,300
Other operating expenses 6,659 5,590 20,839 16,080
- -----------------------------------------------------------------------------------------------------------------------------------
84,860 68,863 241,369 195,602
General and administrative expenses 13,768 12,853 42,193 39,301
Pre-opening and other general expenses (43) 369 2,703 2,645
Depreciation and amortization expense 6,252 5,375 17,529 14,962
- -----------------------------------------------------------------------------------------------------------------------------------
Total costs and expenses 183,125 156,090 534,462 452,478
- -----------------------------------------------------------------------------------------------------------------------------------
Operating income 18,955 13,342 55,353 37,651
Investment income 831 1,039 2,459 3,112
- -----------------------------------------------------------------------------------------------------------------------------------
Income before income taxes and cumulative effect of a
change in accounting principle 19,786 14,381 57,812 40,763
Income tax expense 7,420 5,682 21,729 15,924
- -----------------------------------------------------------------------------------------------------------------------------------
Income before cumulative effect of a change in accounting principle 12,366 8,699 36,083 24,839
Cumulative effect of accounting change, net of tax - - - (2,603)
- -----------------------------------------------------------------------------------------------------------------------------------
Net income $ 12,366 $ 8,699 $ 36,083 $ 22,236
===================================================================================================================================
Basic earnings per share:
Income before cumulative effect of a change in accounting
principle $ 0.41 $ 0.29 $ 1.20 $ 0.84
Cumulative effect of accounting change, net of tax - - - (0.09)
- -----------------------------------------------------------------------------------------------------------------------------------
Basic earnings per share $ 0.41 $ 0.29 $ 1.20 $ 0.75
===================================================================================================================================
Diluted earnings per share:
Income before cumulative effect of a change
in accounting principle $ 0.40 $ 0.29 $ 1.16 $ 0.82
Cumulative effect of accounting change, net of tax - - - (0.09)
- -----------------------------------------------------------------------------------------------------------------------------------
Diluted earnings per share $ 0.40 $ 0.29 $ 1.16 $ 0.73
===================================================================================================================================
Basic weighted average shares outstanding 30,335 29,635 30,156 29,473
===================================================================================================================================
Diluted weighted average shares outstanding 31,228 30,388 31,131 30,395
===================================================================================================================================
Note: The Condensed Consolidated Statements of Income for the three and nine
months ended September 27, 1998 have been restated to reflect the adoption
of SOP 98-5 and the acquisition of Minnesota Pizza Company, LLC, a
business combination accounted for as a pooling of interests (see Notes 2
and 3 of Notes to Condensed Consolidated Financial Statements).
See accompanying notes.
3
Papa John's International, Inc. and Subsidiaries
Condensed Consolidated Statements of Stockholders' Equity
(Unaudited)
Accumulated
Additional Other Total
Common Paid-In Comprehensive Retained Treasury Stockholders'
(In thousands) Stock Capital Income Earnings Stock Equity
- ----------------------------------------------------------------------------------------------------------------------
Balance at December 28, 1997
as restated (see note) $292 $151,349 $321 $ 55,515 $(481) $206,996
Comprehensive income:
Net income - - - 22,236 - 22,236
Unrealized gain on investments,
net of tax of $202 - - 210 - - 210
--------------
Comprehensive income 22,446
Exercise of stock options 4 7,785 - - - 7,789
Tax benefit related to exercise of
non-qualified stock options - 1,886 - - - 1,886
Other 1 239 - (414) - (174)
- ----------------------------------------------------------------------------------------------------------------------
Balance at September 27, 1998 $297 $161,259 $531 $ 77,337 $(481) $238,943
======================================================================================================================
Balance at December 27, 1998
as restated (see note) $298 $166,209 $688 $ 87,456 $(481) $254,170
Comprehensive income:
Net income - - - 36,083 - 36,083
Unrealized gain on investments,
net of tax of $88 - - 193 - - 193
--------------
Comprehensive income 36,276
Exercise of stock options 6 12,524 - - - 12,530
Tax benefit related to exercise of
non-qualified stock options - 3,440 - - - 3,440
Deferred tax asset - acquisition - 5,245 - - - 5,245
Other - 69 - (477) - (408)
- ----------------------------------------------------------------------------------------------------------------------
Balance at September 26, 1999 $304 $187,487 $881 $123,062 $(481) $311,253
======================================================================================================================
Note: The Condensed Consolidated Statements of Stockholders' Equity for all
prior periods presented have been restated to reflect the adoption of SOP
98-5 and the acquisition of Minnesota Pizza Company, LLC, a business
combination accounted for as a pooling of interests (see Notes 2 and 3 of
Notes to Condensed Consolidated Financial Statements).
See accompanying notes.
4
Papa John's International, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended
(In thousands) September 26, 1999 September 27, 1998
- ------------------------------------------------------------------------------------------------------------------
(Restated - see note)
Operating activities
Net cash provided by operating activities $ 63,365 $ 49,114
Investing activities
Purchase of property and equipment (62,323) (53,502)
Purchase of investments (22,165) (30,018)
Proceeds from sale or maturity of investments 29,703 36,547
Loans to franchisees (5,236) (4,139)
Loan repayments from franchisees 2,752 4,505
Deferred systems development costs (979) (846)
Acquisitions (2,397) (1,902)
Other 262 391
- ------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (60,383) (48,964)
Financing activities
Payments on long-term debt (9,815) (4,480)
Proceeds from issuance of long-term debt 2,510 5,510
Proceeds from exercise of stock options 12,530 7,789
Tax benefit related to exercise of non-qualified
stock options 3,440 1,886
Other 68 2
- ------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 8,733 10,707
- ------------------------------------------------------------------------------------------------------------------
Net increase in cash and cash equivalents 11,715 10,857
Cash and cash equivalents at beginning of period 33,814 18,835
- ------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 45,529 $ 29,692
==================================================================================================================
Note: The Condensed Consolidated Statement of Cash Flows for the nine months
ended September 27, 1998, has been restated to reflect the adoption of SOP
98-5 and the acquisition of Minnesota Pizza Company, LLC, a business
combination accounted for as a pooling of interests (see Notes 2 and 3 of
Notes to Condensed Consolidated Financial Statements).
See accompanying notes.
5
Papa John's International, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
September 26, 1999
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments, consisting
of normal recurring accruals, considered necessary for a fair presentation have
been included. Operating results for the three and nine months ended September
26, 1999, are not necessarily indicative of the results that may be expected for
the year ended December 26, 1999. For further information, refer to the
consolidated financial statements and footnotes thereto included in the Annual
Report on Form 10-K for Papa John's International, Inc. (referred to as the
"Company," "Papa John's" or in the first person notations of "we," "us" and
"our"), for the year ended December 27, 1998.
2. Accounting Change
In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-5, "Reporting the Costs of Start-Up Activities" (the
"SOP"), which requires that costs related to start-up activities be expensed as
incurred. Prior to 1998, we capitalized our start-up costs incurred primarily in
connection with opening new restaurant and commissary locations and amortized
these costs on a straight line basis over a period of one year from the
facility's opening date. We adopted the provisions of the SOP at the time we
issued our financial statements for the year ended December 27, 1998 and have
restated all previously reported interim financial statements. The adoption
resulted in a charge in the first quarter of 1998 for the cumulative effect of
an accounting change of $2.6 million, net of taxes of $1.5 million, to expense
costs that had been previously capitalized prior to 1998. Excluding the one-time
cumulative effect, the adoption of the new accounting standard did not have a
material impact on 1998 operating results.
3. Business Combinations
On March 28, 1999, we acquired Minnesota Pizza Company, LLC ("Minnesota Pizza"),
a franchisee which operated 37 Papa John's restaurants in the Minneapolis/St.
Paul, Minnesota market. We issued 128,119 shares of our common stock valued at
$5.4 million in exchange for all of the issued and outstanding ownership
interests of Minnesota Pizza. The transaction was accounted for as a pooling of
interests. Our previously reported results of operations and balance sheets have
been restated to include Minnesota Pizza. Intercompany transactions between the
Company and Minnesota Pizza have been eliminated in the accompanying condensed
consolidated financial statements. The operating results previously reported by
the Company and Minnesota Pizza separately are summarized below:
Three Months Ended Nine Months Ended
September 27, 1998 September 27, 1998
(In thousands) Papa John's Minnesota Pizza Papa John's Minnesota Pizza
- ------------------------------------------------------------------------------------------------------------------------------------
Total revenues $166,428 $4,615 $481,629 $13,127
Eliminations (1,611) - (4,627) -
------------------------------------------------------------------------------------------------
Net combined revenue 164,817 4,615 477,002 13,127
Net income (loss) 9,675 (976) 24,512 (2,276)
Pro forma net income (loss) 9,675 (605) 24,512 (1,411)
The Minnesota Pizza pro forma net income (loss) includes an income tax benefit
for the treatment of Minnesota Pizza as a C Corporation rather than a limited
liability company taxed as a partnership, with an assumed effective income tax
rate of 38%.
6
Notes to Condensed Consolidated Financial Statements (continued)
4. Segment Information
Three Months Ended Nine Months Ended
(In thousands) Sept. 26, 1999 Sept. 27, 1998 Sept. 26, 1999 Sept. 27, 1998
- -----------------------------------------------------------------------------------------------------------------------------
Restated (1) Restated (1)
Revenues from external customers:
Restaurants $ 96,538 $ 85,165 $289,216 $249,544
Commissaries 81,002 63,162 227,090 180,162
Franchising 12,036 9,429 34,803 26,827
All others 12,504 11,676 38,706 33,596
- -----------------------------------------------------------------------------------------------------------------------------
Total revenues from external customers $202,080 $169,432 $589,815 $490,129
=============================================================================================================================
Intersegment revenues:
Commissaries $ 30,490 $ 26,687 $ 87,350 $ 76,717
Franchising 34 32 102 95
All others 3,644 4,426 10,519 12,154
- -----------------------------------------------------------------------------------------------------------------------------
Total intersegment revenues $ 34,168 $ 31,145 $ 97,971 $ 88,966
=============================================================================================================================
Income before income taxes:
Restaurants $ 3,022 $ 2,192 $ 11,910 $ 7,576 (2)
Commissaries 6,696 4,113 19,303 12,295
Franchising 10,350 7,975 30,005 22,863
All others 1,014 1,406 3,574 3,835
Unallocated corporate expenses (1,239) (1,228) (6,865) (5,622) (2)
Elimination of intersegment profits (57) (77) (115) (184)
- -----------------------------------------------------------------------------------------------------------------------------
Total income before income taxes $ 19,786 $ 14,381 $ 57,812 $ 40,763 (3)
=============================================================================================================================
Gross fixed assets:
Restaurants $138,512
Commissaries 53,110
All others 5,050
Unallocated corporate assets 79,751
Accumulated depreciation (61,725)
- ------------------------------------------------------------
Net fixed assets $214,698
============================================================
(1) See Notes 2 and 3 of Notes to Condensed Consolidated Financial Statements.
(2) Certain 1998 data from prior quarters has been reclassified between segments
to more appropriately reflect the accounting for the Minnesota Pizza
acquisition.
(3) Excludes the cumulative effect of a change in accounting principle.
7
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Restaurant Progression (1)
Three Months Ended Nine Months Ended
September 26, September 27, September 26, September 27,
1999 1998 1999 1998
- ----------------------------------------------------------------------------------------------------------------------------
U.S. Company-owned:
Beginning of period 519 474 514 427
Opened 9 18 19 57
Closed - - (1) (1)
Sold to franchisees - (2) (6) (3)
Acquired from franchisees 20 11 22 21
- ----------------------------------------------------------------------------------------------------------------------------
End of period 548 501 548 501
- ----------------------------------------------------------------------------------------------------------------------------
U.S. franchised:
Beginning of period 1,523 1,212 1,365 1,090
Opened 88 74 248 207
Closed (2) - (8) (2)
Sold to Company (20) (11) (22) (21)
Acquired from Company - 2 6 3
- ----------------------------------------------------------------------------------------------------------------------------
End of period 1,589 1,277 1,589 1,277
- ----------------------------------------------------------------------------------------------------------------------------
International franchised:
Beginning of period 15 - 6 -
Opened 7 2 16 2
- ----------------------------------------------------------------------------------------------------------------------------
End of period 22 2 22 2
- ----------------------------------------------------------------------------------------------------------------------------
Total at end of period 2,159 1,780 2,159 1,780
============================================================================================================================
(1) Restated for the acquisition of Minnesota Pizza (see Note 3 of Notes to
Condensed Consolidated Financial Statements).
Results of Operations
On March 28, 1999, we acquired Minnesota Pizza Company, LLC ("Minnesota Pizza"),
a franchisee which operated 37 Papa John's restaurants in the Minneapolis/St.
Paul, Minnesota market. The transaction was accounted for as a pooling of
interests. Our operating results for the first quarter of 1999 and previously
reported results of operations and balance sheets have been restated to include
Minnesota Pizza.
Revenues. Total revenues increased 19.3% to $202.1 million for the three months
ended September 26, 1999, from $169.4 million for the comparable period in 1998,
and 20.3% to $589.8 million for the nine months ended September 26, 1999, from
$490.1 million for the comparable period in 1998.
Restaurant sales increased 13.4% to $96.5 million for the three months ended
September 26, 1999, from $85.2 million for the comparable period in 1998, and
15.9% to $289.2 million for the nine months ended September 26, 1999, from
$249.5 million for the comparable period in 1998. These increases were primarily
due to increases of 9.6% and 13.4% in the number of equivalent Company-owned
restaurants open during the three and nine months ended September 26, 1999,
respectively, compared to the same period in the prior year. "Equivalent
restaurants" represent the number of restaurants open at the beginning of a
given period, adjusted for restaurants opened or acquired during the period on a
weighted average basis. Also, sales increased 4.5% for the three months ended
September 26, 1999, over the comparable period in 1998, and 3.9% for the nine
months ended September 26, 1999,
8
over the comparable period in 1998, for Company-owned restaurants open
throughout both periods due to reduced price discounting during 1999.
Franchise royalties increased 29.9% to $10.3 million for the three months ended
September 26, 1999, from $7.9 million for the comparable period in 1998, and
29.5% to $29.8 million for the nine months ended September 26, 1999, from $23.0
million for the comparable period in 1998. These increases were primarily due to
increases of 26.5% and 25.8% in the number of equivalent franchised restaurants
open during the three and nine months ended September 26, 1999, compared to the
same periods in 1998. Also, sales increased 6.9% for the three months ended
September 26, 1999, over the comparable period in 1998, and 7.5% for the nine
months ended September 26, 1999, over the comparable period in 1998, for
franchised restaurants open throughout both periods.
Franchise and development fees increased 16.0% to $1.8 million for the three
months ended September 26, 1999, from $1.5 million for the comparable period in
1998, and 31.3% to $5.0 million for the nine months ended September 26, 1999,
from $3.8 million for the comparable period in 1998. These increases were
primarily due to the 264 franchised restaurants opened during the nine months
ended September 26, 1999, versus the 209 opened during the comparable period in
1998, and the mix of development agreements under which the restaurants were
opened. The average dollar amount of fees per franchised restaurant opening may
vary from period to period, as restaurants opened pursuant to older development
agreements and certain "Hometown restaurants" generally have lower required fees
than restaurants opened pursuant to more recent development agreements.
"Hometown restaurants" are generally located in smaller markets with fewer than
9,000 households. Hometown restaurant development agreements entered into
subsequent to March 1998, generally provide for fees equivalent to those under
standard development agreements.
Commissary sales increased 28.2% to $81.0 million for the three months ended
September 26, 1999, from $63.2 million for the comparable period in 1998, and
26.0% to $227.1 million for the nine months ended September 26, 1999, from
$180.2 million for the comparable period in 1998. These increases were primarily
the result of the increases in equivalent franchised restaurants previously
noted.
Equipment and other sales increased 7.1% to $12.5 million for the three months
ended September 26, 1999, from $11.7 million for the comparable period in 1998,
and 15.2% to $38.7 million for the nine months ended September 26, 1999, from
$33.6 million for the comparable period in 1998. These increases were due to
ongoing equipment and smallwares orders related to the previously noted increase
in equivalent franchised restaurants and an increase in sales and support fees
of the Papa John's PROFIT System, a proprietary point of sale system. The nine-
month increase is also due to increases in the number of new restaurant
equipment packages sold to franchisees that opened restaurants during the nine
months ended September 26, 1999 as compared to the same period in 1998,
partially offset by the decrease in sales of the Papa John's PROFIT System.
Substantially all franchisees had installed the Papa John's PROFIT System in
their existing restaurants by March 29, 1998.
Costs and Expenses. Restaurant cost of sales, which consists of food, beverage
and paper costs, increased as a percentage of restaurant sales to 27.4% for the
three months ended September 26, 1999, from 26.9% for the comparable period in
1998, and decreased to 25.6% for the nine months ended September 26, 1999, from
26.4% for the comparable period in 1998. The increase for the three-month period
is primarily due to an increase in the average cheese block market price. Cheese
represents approximately 40% of food cost and is subject to significant price
fluctuations caused by weather, demand and other factors. The decrease for the
nine-month period is primarily attributable to reduced restaurant menu price
discounting, partially offset by an increase in the average cheese block market
price.
Restaurant salaries and benefits as a percentage of restaurant sales decreased
to 26.7% for the three months ended September 26, 1999, from 26.9% for the
comparable period in 1998, and remained consistent at 27.0% for the nine months
ended September 26, 1999 and September 27, 1998. The decrease for the three
months was the result of labor efficiencies. For the nine-month period, this
decrease was offset by higher staffing levels after the 14th Anniversary
promotion to support the demands of new customers. Occupancy costs were
relatively consistent as a percentage of restaurant sales at 5.3% for the three
months ended September 26, 1999, compared to 5.4% for the comparable period in
1998, and 5.0% for the nine months ended September 26, 1999, compared to 5.1%
for the comparable period in 1998.
9
Advertising and related costs were relatively consistent as a percentage of
restaurant sales at 8.3% for the three months ended September 26, 1999, compared
to 8.4% for the comparable period in 1998 and 8.7% for the nine months ended
September 26, 1999 and September 27, 1998.
Other restaurant operating expenses increased as a percentage of restaurant
sales to 13.5% for the three months ended September 26, 1999, from 13.0% for the
comparable period in 1998, and increased as a percentage of restaurant sales to
13.4% for the nine months ended September 26, 1999, from 13.0% for the
comparable period in 1998. These increases were due to increased repair and
maintenance costs. The nine-month increase is also attributed to increased costs
associated with the 14th Anniversary promotion. Other operating expenses include
an allocation of commissary operating expenses equal to 3% of Company-owned
restaurant sales in order to assess a portion of the costs of dough production,
food, equipment purchases and storage to Company-owned restaurants.
Commissary, equipment and other expenses include cost of sales and operating
expenses associated with sales of food, paper, equipment, information systems,
and printing and promotional items to franchisees and other customers. These
costs decreased as a percentage of combined commissary sales and equipment and
other sales to 90.8% for the three months ended September 26, 1999, as compared
to 92.0% for the same period in 1998, and decreased to 90.8% for the nine months
ended September 26, 1999, from 91.5% for the same period in 1998. Cost of sales
as a percentage of combined commissary sales and equipment and other sales
decreased to 77.1% for the three months ended September 26, 1999, from 78.8% for
the comparable period in 1998, and decreased to 76.3% for the nine months ended
September 26, 1999, from 78.2% for the comparable period in 1998. These
decreases were due primarily to the timing of certain commodity price changes
and the change in classification of certain expenses to salaries and benefits
previously reported as cost of sales. Salaries and benefits increased to 6.6%
for the three months ended September 26, 1999, from 5.8% for the comparable
period in 1998, and increased to 6.7% for the nine months ended September 26,
1999, from 5.8% for the comparable period in 1998 due primarily to the change in
classification of certain expenses previously reported in cost of sales and
general and administrative expenses. Other operating expenses decreased to 7.1%
for the three months ended September 26, 1999, from 7.5% for the comparable
period in 1998, and increased to 7.8% for the nine months ended September 26,
1999, from 7.5% for the comparable period in 1998. The decrease for the three
months ended September 26, 1999 is primarily attributed to a reduction in
commissary rent expense due to the opening of the Dallas, Texas and Louisville,
Kentucky commissaries that were previously operated in leased facilities. The
increase for the nine months ended September 26, 1999 is attributed to higher
delivery costs related to the transition to a new distribution vendor and higher
costs related to the 14th Anniversary promotion, partially offset by a reduction
in commissary rent expense as noted above.
General and administrative expenses as a percentage of total revenues decreased
to 6.8% for the three months ended September 26, 1999, from 7.6% for the
comparable period in 1998, and decreased to 7.2% for the nine months ended
September 26, 1999, from 8.0% for the comparable period in 1998. The decreases
were due to leveraging expenses on a higher sales base, the resolution of
certain tax incentives related to the construction of the new corporate
headquarters facility, and the change in classification of certain expenses to
commissary, equipment and other salaries and benefits previously reported as
general and administrative expenses. The change in classification represented
approximately 0.2% of the total improvement in both the three and nine month
periods. The overall decrease in general and administrative expenses for both
periods was partially offset by an increase in legal costs (see Part II, Item 1.
Legal Proceedings).
Pre-opening and other general expenses decreased to ($43,000) for the three
months ended September 26, 1999, from $369,000 for the comparable period in
1998, and increased to $2.7 million for the nine months ended September 26,
1999, from $2.6 million for the comparable period in 1998. The decrease for the
three months is due to reduced write-offs for restaurant relocations and lower
restaurant pre-opening expenses. The increase for the nine months was due to
increased equipment and leasehold write-offs resulting from an increased number
of restaurant relocations and divestitures, partially offset by lower restaurant
pre-opening expenses. Restaurant pre-opening costs decreased due to a lower
number of corporate restaurant openings during the three and nine months ended
September 26, 1999 compared to the same periods in 1998.
Depreciation and amortization were relatively consistent as a percentage of
total revenues at 3.1% and 3.0% for the three and nine months ended September
26, 1999, as compared to 3.2% and 3.1% for the comparable periods in 1998.
Investment Income. Investment income decreased to $831,000 for the three months
ended September 26, 1999, from $1.0 million for the comparable period in 1998,
and decreased to $2.5 million for the nine months ended
10
September 26, 1999, from $3.1 million for the comparable period in 1998. These
decreases were primarily due to a lower average balance of franchise loans and
changes in the composition of our investments during the three and nine months
ended September 26, 1999 compared to the same periods in 1998.
Income Tax Expense. Income tax expense, exclusive of Minnesota Pizza operating
results, reflects a combined federal, state and local effective tax rate of
37.5% for the three and nine months ended September 26, 1999, compared to 37.0%
for the comparable periods in 1998 (see Note 3 of Notes to Condensed
Consolidated Financial Statements). The effective tax rate in 1999 increased as
a result of a relative decrease in the level of tax-exempt investment income to
total pre-tax income.
Liquidity and Capital Resources
Cash flow from operations increased to $63.4 million for the nine months ended
September 26, 1999, from $49.1 million for the comparable period in 1998, due
primarily to the higher level of net income for the first nine months of 1999
partially offset by increases in other components of working capital.
We require capital primarily for the development and acquisition of restaurants,
the addition of new commissary and support services facilities and equipment,
the enhancement of corporate systems and facilities and the funding of
franchisee loans. Capital expenditures of $62.3 million for the nine months
ended September 26, 1999, were funded by cash flow from operations and cash
generated from the exercise of stock options.
In addition to restaurant development and potential acquisitions, significant
capital projects for the next 12 months are expected to include the completion
of the 247,000 square foot facility in Louisville, Kentucky. In mid-1999, the
Louisville commissary operations and the majority of the team members in the
corporate offices were relocated to the new facility which is expected to be
completed in late-1999. In early-2000, we expect to open a full-service
commissary in Pittsburgh, Pennsylvania and complete the expansion and relocation
of the Phoenix, Arizona distribution center to a full-service commissary by mid-
2000.
We have been approved to receive up to $21.0 million in incentives under the
Kentucky Jobs Development Act in connection with the relocation of our corporate
offices. Based upon the expected timing of completion of the facility and its
final design, we expect to earn approximately $13.0 million of such incentives
through 2007.
Capital resources available at September 26, 1999, include $45.5 million of cash
and cash equivalents, $39.8 million of investments, and $19.5 million under a
line of credit expiring in June 2000. We expect to fund planned capital
expenditures for the next twelve months from these resources and operating cash
flows.
Impact of Year 2000
Some of our older purchased software programs were written using two digits
rather than four to define the applicable year. As a result, time-sensitive
software or hardware recognizes a date using "00" as the year 1900 rather than
the year 2000. This could cause a system failure or miscalculations resulting in
disruptions of important administrative and operational processes, including,
among other things, a temporary inability to process transactions, send
invoices, or engage in similar normal business activities.
Our year 2000 evaluation has been ongoing since late 1997 and became more
formalized in January 1999 with the formation of a committee comprised of senior
management from various departments within the Company. The primary goal of the
committee was to assess and mitigate risk associated with year 2000 issues by
September 1999. The committee developed a three-phased approach to accomplish
this goal consisting of the following: (1) identifying and documenting the
business components impacted by the year 2000, both internally and externally,
assigning priority to those components identified based on the level of risk,
and determining year 2000 compliance; (2) performing tests for year 2000
compliance; and (3) developing contingency plans based upon the results of the
risk analysis and testing phases.
As required by this three-phased approach, we completed an assessment of our
internal information technology and have modified or replaced certain software
and hardware to function properly in the year 2000 and thereafter. The total
year 2000 project cost is immaterial to our financial position, net income and
liquidity. Much of the cost related to year 2000 changes coincides with company
plans to replace certain systems, including the financial accounting and
payroll/human
11
resource systems, which were upgraded in January 1999, in order to accommodate
our planned growth. About 95% of the new financial accounting system has been
implemented and the remaining portion is expected to be implemented in December
1999. Based upon the representations from the manufacturers of these systems,
and our internal testing, we believe the systems are year 2000 compliant. The
timing of implementation was not materially affected by year 2000 concerns.
We have taken action to ensure that our restaurant system is year 2000 compliant
by implementing a single point of sale operating system (Papa John's PROFIT
System) in all Company-owned and substantially all franchised restaurants.
Additionally, we have notified our franchisees of our year 2000 process and have
requested their assistance in ensuring year 2000 compliance with regard to their
business.
We believe that with the planned modifications to existing software and/or
conversions to new software and hardware as described above, the year 2000 issue
will not pose significant operational problems. However, if such modifications
and conversions are not made, or are not completed timely, the year 2000 issue
could have a material impact on certain administrative and operational
processes.
We have queried our significant vendors with respect to year 2000 issues and
have received responses from these vendors, including our cheese and tomato
sauce vendors. We are not aware of any vendors with a year 2000 issue that would
materially impact our results of operations, liquidity, or capital resources.
However, we have no means of ensuring that vendors will be year 2000 ready. The
inability of vendors to complete their year 2000 resolution process in a timely
fashion could materially impact us, although the actual impact of non-compliance
by vendors is not determinable.
There can be no assurance that we will be completely successful in our efforts
to address year 2000 issues. We have evaluated contingency plans in the event we
do not complete all phases of the year 2000 program, but do not believe any such
contingency plans need to be enacted at this time.
Forward Looking Statements
Certain information contained in this quarterly report, particularly information
regarding future financial performance and plans and objectives of management,
is forward looking. Certain factors could cause actual results to differ
materially from those expressed in forward looking statements. These factors
include, but are not limited to, our ability and the ability of our franchisees
to obtain suitable locations and financing for new restaurant development; the
hiring, training, and retention of management and other personnel; competition
in the industry with respect to price, service, location and food quality; an
increase in food cost due to seasonal fluctuations, weather or demand; changes
in consumer tastes or demographic trends; changes in federal or state laws, such
as increases in minimum wage; risks inherent to international development; and
factors associated with the year 2000 evaluation and modifications. See "Forward
Looking Statements" in Part I, Item I - Business Section of the Form 10-K for
the fiscal year ended December 27, 1998 for additional factors.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
On August 12, 1998, Pizza Hut, Inc. filed suit against us in the United States
District Court for the Northern District of Texas under the federal Lanham Act
(the "Lawsuit") claiming, among other things, that we engaged in acts of unfair
competition through dissemination of "false, misleading and disparaging
advertising", including without limitation, the use of our "Better Ingredients.
Better Pizza." trademark. Pizza Hut is seeking injunctive relief and damages in
an amount of not less than $12.5 million, attorneys' fees, and other relief. We
have filed counterclaims against Pizza Hut claiming, among other things, that
the Lawsuit was filed primarily, if not solely, as a competitive ploy and that
Pizza Hut had engaged in false, misleading and disparaging advertising aimed at
us. We have asked the court for an award of our reasonable attorneys' fees, as
well as for other relief to which we may be entitled. The trial in this case
began October 25, 1999, and is currently in process. We continue to believe the
Lawsuit has no merit and intend to vigorously defend the claims asserted against
us.
We are also subject to claims and legal actions in the ordinary course of our
business. We believe that all such claims and actions currently pending against
us are either adequately covered by insurance or would not have a material
adverse effect on us if decided in a manner unfavorable to us.
Item 6. Exhibits and Reports on Form 8-K.
a. Exhibits
Exhibit
Number Description
10.1 Committed Line of Credit Note with PNC Bank.
11 Calculation of Earnings per Share
27 Financial Data Schedule for the nine months ended
September 26, 1999, which is submitted electronically
to the Securities and Exchange Commission for
information only and not deemed to be filed with the
Commission.
99.1 Cautionary Statements. Exhibit 99.1 to our Annual
Report on Form 10-K for the fiscal year ended December
27, 1998 (Commission File No. 0-21660) is incorporated
herein by reference.
b. Current Reports on Form 8-K.
There were no reports filed on Form 8-K during the quarterly period ended
September 26, 1999.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PAPA JOHN'S INTERNATIONAL, INC.
(Registrant)
Date: November 9, 1999 /s/ E. Drucilla Milby
-------------------- ------------------------------
E. Drucilla Milby, Senior Vice
President, Chief Financial
Officer and Treasurer
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