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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO
SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
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(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JUNE 27, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO________
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COMMISSION FILE NO. 0-21203
DIEDRICH COFFEE, INC.
(Exact name of registrant as specified in its charter)
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DELAWARE 33-0086628
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
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2144 MICHELSON DRIVE
IRVINE, CALIFORNIA 92612
(949) 260-1600
(Address of principal executive offices, including zip code
and telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $0.01 PAR VALUE PER SHARE
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. No [ ]
The aggregate market value of the registrant's common stock held by
non-affiliates, based upon a closing sale price of $2.53 as reported on The
Nasdaq National Market on September 24, 2001, was $6,338,512.
The number of shares of the registrant's common stock outstanding, as of
September 21, 2001 was 5,161,279.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporates certain information by reference from registrant's
definitive proxy statement pursuant to Schedule 14A for its 2001 annual meeting
of stockholders, which proxy statement will be filed not later than 120 days
after the close of the registrant's fiscal year ended June 27, 2001.
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TABLE OF CONTENTS
<Table>
<Caption>
PAGE
----
A Warning About Forward-Looking Statements............................ 2
PART I
Item 1. Business.................................................... 2
Item 2. Properties.................................................. 18
Item 3. Legal Proceedings........................................... 18
Item 4. Submission of Matters to a Vote of Security Holders......... 19
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters......................................... 20
Item 6. Selected Financial Data..................................... 21
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 22
Item 7A. Quantitative and Qualitative Disclosures About Market
Risk........................................................ 33
Item 8. Financial Statements and Supplementary Data................. 33
Item 9. Changes in and Discussions With Accountants on Accounting
and Financial Disclosure.................................... 33
PART III
Item 10. Directors and Officers of the Corporation................... 33
Item 11. Executive Compensation...................................... 33
Item 12. Security Ownership of Certain Beneficial Owners and
Management.................................................. 34
Item 13. Certain Relationships and Related Transactions.............. 34
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 34
Signatures.................................................. 37
Financial Statements........................................ F-1
Index to Exhibits........................................... S-1
</Table>
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A WARNING ABOUT FORWARD-LOOKING STATEMENTS
We make forward-looking statements in this annual report that are subject
to risks and uncertainties. These forward-looking statements include information
about possible or assumed future results of our financial condition, operations,
plans, objectives and performance. Additionally, when we use the words
"believe," "expect," "anticipate," "estimate" or similar expressions, we are
making forward-looking statements. Many possible events or factors could affect
our future financial results and performance. This could cause our results or
performance to differ materially from those expressed in our forward-looking
statements. You should consider these risks when you review this document, along
with the following possible events or factors:
- the financial and operating performance of our retail operations
- our ability to achieve and maintain profitability over time
- our ability to perform within the terms of our amended credit agreement
- the successful execution of our growth strategies
- the impact of competition
- the availability of working capital
Foreseeable risks and uncertainties are described elsewhere in this report
and in detail under "Item 1 Business -- Risk Factors and Trends Affecting
Diedrich Coffee and Its Business." You are cautioned not to place undue reliance
on these forward-looking statements, which reflect management's analysis only as
of the date of this annual report. We undertake no obligation to publicly
release the results of any revision of the forward-looking statements. Unless
otherwise indicated, "we," "us," "our" and similar terms refer to Diedrich
Coffee, Inc.
PART I
ITEM 1: BUSINESS.
OVERVIEW
Diedrich Coffee, Inc. is a specialty coffee roaster, wholesaler and
retailer. We sell brewed, espresso-based and various blended beverages primarily
made from our own fresh roasted premium coffee beans, as well as light food
items, whole bean coffee and accessories, through our Company operated and
franchised retail locations. We also sell whole bean and ground coffees on a
wholesale basis through a network of distributors in the Office Coffee Service
("OCS") market, and to other wholesale customers including restaurant chains and
other retailers. Our brands include Diedrich Coffee, Gloria Jean's Coffees,
Coffee People and Coffee Plantation. As of June 27, 2001, we owned and operated
87 retail locations and franchised 286 other retail locations under these
brands, for a total of 373 retail coffee outlets. Although the specialty coffee
industry is presently dominated by a single company, which operates or licenses
over ten times the number of retail outlets we do, we are one of the nation's
largest specialty coffee retailers with annual system-wide revenue in excess of
$150 million. Our retail units are located in 37 states and 11 foreign
countries. We also have over 375 wholesale accounts with OCS distributors, chain
and independent restaurants, and others. In addition, we operate a large coffee
roasting facility in central California that supplies freshly roasted coffee to
our retail locations and wholesale accounts.
Our Gloria Jean's mall based coffee stores offer an extensive variety of
the finest quality flavored whole bean coffees, as well as an assortment of
coffee related merchandise, accessories, porcelain novelties and gift items, in
addition to coffee-based beverages. The critical components for each of our
retail locations include high quality, freshly roasted coffee and superior
customer service by knowledgeable employees.
Our Diedrich Coffee brand is differentiated from other specialty coffee
companies by roasting our coffee beans with experience gained over three
generations by the Diedrich family. Our roasting recipes take into account the
specific variety, origin and physical characteristics of each coffee bean to
maximize its unique
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flavor. In addition, we seek to differentiate our coffeehouses by offering our
customers a broad line of superior tasting coffee products and a high level of
personalized customer service. Our coffeehouses offer a warm, friendly
environment specifically designed to encourage guests to enjoy their favorite
beverages while lingering with friends and business associates, or relaxing
alone in comfort. Ample seating is augmented by sofas and comfortable chairs to
create intimate nooks for meeting and relaxing. Many of our coffeehouses feature
local musicians providing live entertainment certain evenings during the week.
COMPANY BACKGROUND
Our predecessor company, Carl E. Diedrich & Sons commenced operations in
Orange County, California in 1972 and changed its name to Diedrich Coffee when
its first retail store opened. We incorporated in California in 1985. The
company remained a small, family operated business with only three retail
locations until 1992, but grew rapidly from 1992 to 1996 through construction of
new Diedrich coffeehouses in Orange County, and the acquisition of coffeehouses
operated under other brands in Houston, Denver and San Diego which were
converted into Diedrich Coffee units. In August 1996, we reincorporated under
Delaware law as Diedrich Coffee, Inc., and completed an initial public offering
of our common stock in September 1996.
During 1997, we experienced difficulties managing the rapid growth of the
several preceding years, and a new senior management team was recruited. We
restructured our operations in November 1997, and in 1998 we adopted a strategy
to grow our business nationally through franchising arrangements with large area
developers. We subsequently executed ten franchise area development agreements
which called for the development of 447 Diedrich Coffee coffeehouses throughout
the United States. In July 1999, we acquired Coffee People, including its Gloria
Jean's division, which makes us one of the current leaders in the mall coffee
store segment with 291 coffee stores. Due to the challenges of assimilating a
much larger company and integrating the operations of both companies into a
single organization, as well as the unanticipated closure of a number of Gloria
Jean's franchises and the failure of Diedrich Coffee's franchise area developers
to meet their development schedules, we experienced significant financial
difficulties during the first year following the acquisition.
In September 2000, we negotiated an amendment to our bank credit agreement
which, among other things, accelerated the maturity date of all of our bank debt
to September 2002, and necessitated the sale of certain of our assets and a
careful reevaluation of our previous growth strategy. During May 2001, we raised
additional capital to improve our liquidity and repay bank debt via a private
placement of our stock with a group of new and existing investors.
INDUSTRY OVERVIEW
Specialty coffee sales as a percentage of total coffee sales in the United
States have been increasing steadily. According to the National Coffee
Association, sales of specialty coffee grew from approximately 17% to almost 30%
of total coffee sales in the United States from 1989 through 1997. According to
the National Coffee Association's more recent 2000 study, 54% of Americans drink
coffee every day, representing 110 million daily drinkers. On average, they
drink 3.1 cups per day. This latest study also indicated that past year
consumption of coffee and gourmet coffee has reached 79% of the U.S. adult
population, an all time high. According to the National Coffee Association, 20
million American adults drink gourmet coffee beverages every day.
The U.S. coffee market consists of two distinct product categories:
- commercial ground roast, mass-merchandised coffee
- specialty coffees, which include gourmet coffees (premium grade arabica
coffees sold in whole bean and ground form) and premium coffees (upscale
coffees mass-marketed by the leading coffee companies)
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Diedrich Coffee believes that several factors have contributed to the
increase in demand for gourmet coffee including:
- greater consumer awareness of gourmet coffee as a result of its
increasing availability;
- increased quality differentiation over commercial grade coffees by
consumers;
- increased demand for all premium food products, including gourmet coffee,
where the differential in price from the commercial brands is small
compared to the perceived improvement in product quality and taste; and
- ease of preparation of gourmet coffees resulting from the increased use
of automatic drip coffee makers and home espresso machines.
DIEDRICH COFFEE'S BUSINESS MODEL
Our business objective is a logical extension of our Mission Statement,
which states: "We sell great coffee." Therefore, our objective is to sell
coffee, without compromising our commitment to quality. We buy only the finest
quality green coffee beans available, fresh roast them with our proprietary
recipes and subject them to a rigorous internal quality control process. We
ensure that care is taken at each and every step of the production and
distribution process to preserve that quality.
We principally sell all of our coffee through two distribution channels,
and strive to target our Company resources to increase efficiency and
profitability while growing the business within this framework. These two
distribution channels are our retail outlets and wholesale distribution. While
each of these channels has different customers, cost structures, overhead
requirements, competitors and other fundamental differences, we believe our
commitment to quality is essential to successful growth in both of these areas.
One of these two broad distribution channels, retail outlets, is further
comprised of both Company operated locations and franchised locations. Because
there are some important financial distinctions between the two types of
operations, we break each out separately for a total of three "business
segments" for financial reporting purposes. Nonetheless, we believe it is also
helpful to look at our business from the broader perspective of our two
fundamental distribution channels, retail outlets and wholesale distribution.
Important financial information for each of our business segments can be found
beginning on page F-1.
RETAIL OUTLETS
Our retail outlet distribution channel can be divided into two
sub-channels, each with its own distinct business model including differences in
revenue and cost structure, overhead, and capital requirements. These two retail
sub-channels are Company operated retail outlets and franchised retail outlets.
We view retail outlets as a single distribution channel, despite the differences
noted above, primarily because our retail customers do not make any distinction
between Company and franchise operated locations. The critical success factors
are therefore the same for each type of retail location, whether Company
operated or franchised -- quality of product, service and atmosphere. The
economic model and cost structures are also the same for each type of location
at the retail unit level, notwithstanding their different direct financial
impacts on us in our roles as both an operator and franchisor of retail outlets.
Furthermore, the potential contribution of any given outlet, as measured by the
amount of roasted coffee produced through our roasting plant, is the same.
Presently, our largest brand is Gloria Jean's and over 93% of Gloria Jean's
retail units are franchised. Our Diedrich Coffee brand has a higher
concentration of Company operated units, with 65% of retail locations operated
by the Company. Retail coffee outlets operated under two other brands which we
own, Coffee People and Coffee Plantation, are 100% Company operated at this
time. We are currently in the process of divesting our Coffee Plantation
business, as discussed below under the heading "Recent Developments," on page
17.
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A table summarizing the relative sizes of each of our brands on a unit
count basis, and changes in unit count for each over the past fiscal two years,
is included below.
<Table>
<Caption>
FISCAL 2000 ACTIVITY FISCAL 2001 ACTIVITY
---------------------------------------------------------------- ------------------------------------------
NET TRANSFERS NET TRANSFERS
UNITS AT BETWEEN THE UNITS AT BETWEEN UNITS AT
JUNE 30, COMPANY AND JUNE 28, COMPANY AND JUNE 27,
1999 ACQUIRED OPENED CLOSED FRANCHISE(A) 2000 OPENED CLOSED FRANCHISE(B) 2001
-------- -------- ------ ------ ------------- -------- ------ ------ ------------- --------
GLORIA JEAN'S BRAND
Company Operated... -- 26 1 (6) 1 22 -- (3) -- 19
Franchise -
Domestic......... -- 214 9 (28) (1) 194 7 (24) -- 177
Franchise -
International.... -- 39 28 (5) -- 62 40 (7) -- 95
-- --- -- --- -- --- -- --- -- ---
Subtotal Gloria
Jean's........... -- 279 38 (39) -- 278 47 (34) -- 291
-- --- -- --- -- --- -- --- -- ---
DIEDRICH COFFEE BRAND
Company Operated... 39 -- 2 (2) -- 39 -- (6) (7) 26
Franchise -
Domestic......... 2 -- 1 -- -- 3 6 (2) 7 14
-- --- -- --- -- --- -- --- -- ---
Subtotal Diedrich.. 41 -- 3 (2) -- 42 6 (8) -- 40
OTHER BRANDS
Company Operated... -- 39 5 (3) -- 41 1 -- -- 42
-- --- -- --- -- --- -- --- -- ---
TOTAL.............. 41 318 46 (44) -- 361 54 (42) -- 373
== === == === == === == === == ===
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(A) This number is the net impact of 8 Company operated Gloria Jeans stores
transferred to franchisees during the year, and 9 franchised Gloria Jeans
stores transferred from franchisees to the Company.
(B) This number is the net impact of 9 Company operated Diedrich Coffee
coffeehouses transferred to franchisees during the year, and 2 franchised
operated coffeehouses transferred from franchisees to the Company.
We recognize the tremendous importance of our brands to our success in both
the retail and wholesale areas of our business. We therefore devote considerable
energy to maintaining distinct brand identities. Our brands are differentiated
by coffees offered, other product categories offered, format and type of retail
location, advertising messages and trade dress.
Gloria Jean's Coffees
Gloria Jean's is one of the leaders in specialty grade, flavored coffee in
the mall coffee store segment with 291 coffee stores in 37 states and 11 foreign
countries. Gloria Jean's coffee stores are located across the United States
almost exclusively in high traffic shopping malls. As a mall coffee store,
Gloria Jean's consumer traffic pattern is driven by mall hours and the mall
dynamic; Gloria Jean's is busiest on weekends and holidays. The typical Gloria
Jean's coffee store is staffed with a manager and a staff of 12 to 15 part-time
hourly employees from which the operating shifts are filled. Gloria Jean's
outlets tend to open earlier than most mall stores, but in general, operating
hours reflect mall hours. Internationally, Gloria Jean's may be found both in
malls and on street front locations, along with other non-traditional venues. In
addition to coffee beverages and fresh roasted whole bean coffees, Gloria Jeans'
carries a wide selection of gift items and coffee accessories, and a small
selection of bakery items to complement beverage sales. The stores sell more
than 65 varieties of flavored and non-flavored coffees. Currently, more than 50%
of the sales mix is comprised of beverage sales.
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The success of a Gloria Jean's coffee store depends on three critical
components: product quality, selection, and service.
Product Quality. Gloria Jean's was a pioneer in developing high quality,
flavored, specialty coffees, and continues to be a leader in the sale of
flavored coffees today. Gloria Jean's flavored coffees begin with a top quality
single-origin coffee that is roasted and then coated with proprietary
flavorings.
Product Selection. In the mall environment, the shopping experience is
integral to a coffee store, and sales of whole bean coffee and coffee-related
merchandise tend to represent a large percentage of the sales mix. Having as
many as 40 varieties of flavored coffees, a wide variety of hot and cold
beverages, and a good selection of gift items is important. A major benefit of
mall retailing is its captive consumer base. The primary function of Gloria
Jean's marketing is to entice consumers with eye-catching signage and window
displays. A large selection of items helps to attract both new and repeat
customers. Once inside a mall, consumers are unlikely to leave to purchase
coffee, refreshments or gifts similar to those offered by Gloria Jean's. Mall
employees are also captive consumers and represent an important component of our
customer base.
Service. Friendly and efficient customer service is always critical in any
retail setting, and is especially important in the mall environment, where
shoppers are often in a hurry, and have many choices. Because of the tendency
for repeat customers, it is essential that customers receive excellent service.
Diedrich Coffee Coffeehouses
Our typical Diedrich Coffee neighborhood coffeehouse is staffed with 1 or 2
managers and a staff of 10 to 15 part-time hourly employees from which the
operating shifts are filled. Additionally, local entertainment is used on the
weekends to enhance the neighborhood atmosphere. The hours for each coffeehouse
are established based upon location and customer demand, but typically are from
6:00 a.m. to 11:00 p.m.
In addition to coffee beverages and fresh roasted whole bean coffees, all
of our Diedrich Coffee coffeehouses offer a limited selection of light food
items such as bagels, croissants and pastries and dessert items, such as cookies
and cakes, to complement beverage sales. Our coffeehouses sell more than twenty
different selections of regular and decaffeinated roasted whole bean coffees,
and they carry select coffee-related merchandise items. The success of a
Diedrich Coffee retail coffeehouse depends upon three critical components:
product quality, service and ambiance.
Product Quality. We are the only specialty coffee retailer whose founder,
Martin Diedrich, comes from three generations of experience in the specialty
coffee industry. Mr. Diedrich, Vice Chairman and Chief Coffee Officer, is
intimately involved in the daily business of sourcing, tasting and roasting
coffees. He is also directly involved in "Coffee University," our training
program for coffeehouse team members. Due to Mr. Diedrich's unique background
and experience, we are able to identify and secure exceptional coffees and roast
them to perfection.
Service. Our coffeehouses deliver specific consumer benefits that address
a wide range of otherwise unmet needs in the suburban neighborhoods of America.
As a neighborhood coffeehouse, we are the non-alcoholic answer to the corner
pub. Our employees greet regular customers by name and acknowledge all patrons
by name at the point of drink pick-up. While a large percentage of coffeehouse
business is quick morning coffee pick-up, where speed is an important aspect of
our overall service, our coffeehouses place a greater emphasis on hospitality
and customer interaction to encourage development of strong afternoon and
evening business. This is complemented by our selection of desserts, pastries
and quality, non-caffeinated beverages. Surveys and customer comments indicate
that patrons are treated as part of the Diedrich Coffee community and frequently
visit the coffeehouse.
Ambiance. Our coffeehouses are specifically designed to encourage guests
to linger with friends and business associates, or to relax alone in comfort.
Ample seating is augmented with sofas and comfortable chairs to create intimate
nooks for meeting and relaxing. A weekly entertainment schedule is provided to
encourage patrons to revisit on weekend evenings. A signature element of our
full size coffeehouses is a coffee bar where customers can sit at a barstool and
watch the barista prepare espresso-based drinks, similar to the way patrons in
traditional pubs and taverns interact with the bartender and other customers at
the bar.
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Wholesale Distribution
We presently have over 375 wholesale accounts not affiliated with our
retail locations, which purchase coffee from us under both the Diedrich Coffee
and Gloria Jean's brands. Our current wholesale accounts are in the OCS market,
chain restaurants, independent restaurants and other hospitality industry
accounts and specialty retailers. Additionally, our franchise agreements require
both Diedrich Coffee and Gloria Jean's franchisees to purchase substantially all
of their coffee from us.
OCS Market
We primarily sell our premium coffees to OCS distributors in whole bean and
ground coffee form, for use in traditional coffee brewing equipment found in
most office environments. Near the end of fiscal 2000, we entered into a
Licensing Agreement with Keurig, Inc. whereby we utilize Keurig's patented
single-serve coffee brewing technology and its existing extensive distribution
channels within the OCS market. During fiscal 2001, our first year using the
Keurig system, we sold over 13 million individual serving "K-cups" of both
Diedrich Coffee and Gloria Jean's coffee through this distribution channel.
Chain Restaurants
As specialty coffee has grown in overall popularity, restaurant customers
are demanding a high quality cup of coffee to supplement a fine meal. Our chain
accounts include Ruby's Restaurants, Ruth's Chris Steakhouse (California and
Arizona locations), and Islands Restaurants. We not only supply coffee to these
customers, but also approve their equipment and train their employees to ensure
that the quality of coffee served meets our rigorous quality standards. It is
common for our chain restaurant wholesale customers to specify in their menus
that they serve our Diedrich Coffee or Gloria Jean's Coffee, providing us with
additional exposure to the restaurants' patrons.
Other Unaffiliated Wholesale Accounts
We also supply coffee on a wholesale basis to a number of smaller, often
independent operators in the restaurant and hospitality industries and specialty
retailers. These wholesale accounts are typically in the same geographic areas
where our retail outlets have created strong brand awareness and demand. We are
careful to balance the benefit of new wholesale accounts near our existing
retail outlets against the risk of "cannibalization" of these units. This risk
can be successfully managed. Many of our wholesale accounts, such as hotels,
restaurants, golf course snack bars and airport concessions have their own
"captive" customer base. In such cases, the risk of cannibalization is minimal,
since a customer would not likely stop their activity in such locations to visit
one of our coffeehouses or mall based coffee stores for a beverage, and then
return to their previous activity at those wholesale customer locations.
Additionally, if sales conflicts arise as we develop new retail locations in the
future, we can cease selling to pre-existing wholesale accounts.
GROWTH STRATEGY
RETAIL SEGMENT GROWTH. Future growth in our retail segment will be
primarily through the development by franchisees of new Gloria Jean's mall
coffee stores and Diedrich Coffee coffeehouses. This development is expected to
occur both domestically and internationally for Gloria Jean's, and domestically
for Diedrich Coffee. No development of new Company operated locations under any
of our brands is planned at this time, and the sales of existing Company
operated retail locations, as in the case of our Coffee Plantation business
divestiture in Phoenix (see "Recent Developments"), is expected to result in a
decrease in the size of our Company store operations base in the future.
GLORIA JEAN'S FRANCHISE GROWTH
Since the acquisition of Gloria Jean's in 1999, we have made a number of
modifications to Gloria Jean's franchising business model to strengthen the
Gloria Jean's system. A new form of franchise agreement was adopted which
incorporated many provisions common in other successful franchise systems.
Franchisees are now required to obtain their own master leases directly from
mall owners, rather than subleasing their
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locations from Gloria Jean's. Franchisees are required to hire their own
architects and contractors to develop new Gloria Jean's locations to approved
specifications. While we feel that these and other changes to Gloria Jean's
franchising model will result in a stronger Gloria Jean's franchise system, they
may result in slower domestic franchise growth in the near term.
Gloria Jean's has been very successful establishing coffeehouses
internationally through Area Development Agreements, and has added a net of 56
new international franchise units during the past two fiscal years.
International franchisees operated 95 Gloria Jean's retail locations in 11
countries at June 27, 2001, and we anticipate continued strong growth
internationally through existing Area Development Agreements during fiscal 2002.
We will also seek to execute new Area Development Agreements and Master
Franchise Agreements in order to expand Gloria Jean's international penetration
in additional countries in the future.
DIEDRICH COFFEE FRANCHISE GROWTH
Our franchise growth strategy for the Diedrich Coffee brand is to attract
experienced franchise developers who will develop new retail coffeehouses,
kiosks and carts in existing markets, initially in southern California,
Colorado, and Texas markets. We intend to utilize area development agreements
with new franchise operators, who would be required to commit to build three or
more coffeehouses. This represents a change from our previous franchise
development strategy for Diedrich Coffee. The previous strategy was to recruit
developers who would commit to develop a large number of units, typically 50 or
more, in broad, exclusive geographic regions across the country. Since September
1998 we had announced the execution of ten franchise area development agreements
that called for the development of 447 coffeehouses. During fiscal 2001, we
subsequently terminated eight of these area development agreements, which
effectively reduced the remaining number of franchise Diedrich Coffee
coffeehouses committed to be developed in the future to 46. We anticipate that
one of the two existing development agreements will be amended during fiscal
2002, resulting in commitments for approximately 14 new franchise locations from
these two agreements rather than 46. These figures do not reflect commitments
related to any new franchise development agreements we may execute during fiscal
2002.
WHOLESALE DISTRIBUTION GROWTH. We have taken significant steps to build our
wholesale sales organization over the past two years, and we are actively
seeking new distribution channels for our products. We intend to pursue
continued growth within our OCS wholesale business by expanding the number of
distributors who carry our Keurig Premium Coffee Systems(TM) lines of coffees
and our whole bean and ground coffee product lines as well. We also offer our
coffees on our internet website, and believe that this channel of distribution
has significant long term growth potential.
FRANCHISE SUPPORT PROGRAMS
We provide a variety of support services to our franchisees. These services
include:
- training
- business consultation
- marketing
- product sourcing
- volume purchase savings
We have established an intensive training program for our franchisees,
which includes training on in-store operations, coffee knowledge, merchandising,
buying, controls and accounting. Management works closely with franchisee
representatives on issues that affect the operations of stores. Franchisees are
surveyed regularly to provide feedback on subjects that affect the operations of
their stores.
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MARKETING
Our primary marketing strategy is to develop the Gloria Jean's and the
Diedrich Coffee brand through penetration of new and existing markets via
franchise growth. The wholesale segment's sales of our branded products in the
office coffee service market, chain restaurants and other venues also helps
ensure the visibility of our brands. Our marketing efforts are based upon the
belief that the proprietary roast recipes and our commitment to quality and
freshness deliver a distinctive advantage in our products. We use word-of-mouth,
local store marketing and the inviting atmosphere of our coffeehouses and mall
coffee stores to drive brand awareness and comparable store sales growth. We
also conduct in-store coffee tastings, provide brewed coffee at local
neighborhood events, and donate coffee to local charities to increase brand
awareness and product trial in the communities where our coffeehouses and mall
coffee stores are located.
PRODUCT SUPPLY AND ROASTING
SOURCING
Coffee beans are an agricultural product grown commercially in over fifty
countries in tropical regions of the world. The price and supply of coffee are
subject to significant volatility. There are many varieties of coffee and a
range of quality grades within each variety. Although the broader coffee market
generally treats coffee as a fungible commodity, the specialty coffee industry
focuses on the highest grades of coffee. We purchase premium grade arabica
coffee beans that we believe to be the best available from each producing
region.
ROASTING
We employ a roasting process that varies based upon the variety, quality,
origin and physical characteristics of the coffee beans being roasted. Our
master roasters, under the supervision of Martin Diedrich, are responsible for
the green coffee bean roasting process. They are craftsmen who employ our
proprietary roasting formulas while adjusting the formula to take into account
the specific attributes of each coffee bean being roasted. Each coffee bean
contains aromatic oils and flavor characteristics that develop from the soil,
climate and environment where the bean is grown. The skilled roast master
determines and carefully controls the roasting conditions in an effort to
maximize the flavor potential of each batch of coffee. The roast master hears
how the roast pops, smells the developing aroma and identifies the right shades
of color. He draws upon experience and knowledge to properly adjust airflow,
time and temperature while the roast is in progress in order to optimize each
roast.
FRESHNESS
We are committed to serving our customers beverages and whole bean products
from freshly roasted coffee beans. Our coffee is delivered to our retail
locations and wholesale customers promptly to guarantee the freshness of each
cup of coffee or package of whole coffee beans sold.
COMPETITION
The specialty coffee market is intensely competitive and highly fragmented.
With low barriers to entry, competition in the industry is expected to increase
from national and regional chains, as well as local specialty coffee stores. We
compete directly against all other premium coffee roasters, wholesalers and
retailers, including other brands of coffeehouses, and mall coffee stores,
restaurant and beverage outlets that serve coffee, and a growing number of
espresso kiosks, stands, and carts. In addition, we compete to draw consumers of
standard or commercial coffee to premium coffee. Our whole bean coffee competes
directly against specialty coffees sold at retail through supermarket, specialty
retailers and a growing number of specialty coffee stores. We believe that our
customers choose among retailers primarily on the basis of product quality,
service, coffeehouse ambiance, convenience and, to a lesser extent, on price.
We compete with a growing number of specialty coffee retailers including
Starbucks, Coffee Beanery, Caribou, Barnie's, Tully's, New World Coffee &
Bagels, Peet's Coffee and many others. The attractiveness of the gourmet
specialty coffeehouse market may draw additional competitors with substantially
greater
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financial, marketing and operating resources than us. A number of nationwide
coffee manufacturers, such as Kraft General Foods, Proctor & Gamble, and Nestle,
distribute coffee products in supermarkets and convenience stores, which may
serve as substitutes for our coffees. Other specialty coffee companies including
Starbucks, Seattle's Best Coffee, Bucks County, Brothers Gourmet Coffees and
Green Mountain Coffee Roasters, sell whole bean coffees in supermarkets and
variety and discount stores.
OTHER FACTORS
The performance of individual coffeehouse or mall coffee stores may also be
affected by factors such as traffic patterns and the type, number and proximity
of competing coffeehouses or mall coffee stores. In addition, factors such as
inflation, increased coffee bean, food, labor and employee benefit costs and the
availability of experienced management and hourly employees may also adversely
affect the specialty coffee retail business in general and our coffeehouses and
mall coffee stores in particular.
SEASONALITY
Historically, we have experienced variations in sales from
quarter-to-quarter due to the peak November-December Holiday Season, as well as
from a variety of other factors, including, but not limited to, general economic
trends, the cost of green coffee, competition, marketing programs, weather and
special or unusual events.
INTELLECTUAL PROPERTY
We own several trademarks and service marks that have been registered with
the United States Patent and Trademark Office, including Diedrich Coffee(R),
Gloria Jean's(R), Coffee People(R), Coffee Plantation(R), Motor Moka(R), Aero
Moka(R), Wiener Melange Blend(R), Harvest Peak(R) and Flor de Apanas(R), as well
as other slogans, product names, design marks and logos. In addition, we have
applications pending with the United States Patent and Trademark Office for a
number of additional marks. We also own registrations and have applications
pending in numerous foreign countries for the protection of the Diedrich Coffee
and Coffee People trademark and service mark. These trademark registrations can
generally be renewed as long as we continue to use the marks protected by the
registrations. The Diedrich Coffee trademark is material to our business. We
also own a number of common law service marks and trademarks in the United
States including "Gloria Jean's Coffee Bean." We have also received trademark
and service mark protection for the name Coffee People and related marks in
Canada and Japan. We own copyrights on our promotional materials, coffeehouse
graphics and operational and training materials. We do not believe that any of
these copyrights, valuable as they are, are material to our business.
EMPLOYEES
At June 27, 2001, we employed 1,357 people, 559 of whom were employed
full-time. None of our employees are represented by a labor union and no
employees are currently covered by collective bargaining agreements. We consider
our relations with our employees to be good. We regularly review our employee
benefits, training and other aspects of employment to attract and to retain
valuable employees and managers.
GOVERNMENT REGULATION
In addition to the laws and regulations relating to the food service
industry, we are subject to Federal Trade Commission, or FTC, regulation and
state laws that regulate the offer and sale of franchises as well as the
franchise relationship.
The FTC's Trade Regulation Rule relating to Disclosure Requirements and
Prohibitions Concerning Franchising and Business Opportunity Ventures generally
requires us to give prospective franchisees a franchise offering circular
containing information prescribed by the rule.
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A number of states have laws that regulate the offer and sale of franchises
and the franchisor-franchisee relationship. These laws generally require
registration of the franchise offering with state authorities before making
offers or sales and regulate the franchise relationship by, for example:
- prohibiting interference with the right of free association among
franchisees;
- prohibiting discrimination in fees and charges;
- regulating the termination of the relationship by requiring "good cause"
to exist as a basis for the termination, advance notice to the franchisee
of the termination, and an opportunity to cure a default;
- requiring repurchase of inventories in some circumstances;
- restricting nonrenewal by the franchiser;
- limiting restrictions on transfers or inheritance of the franchisee's
interests; and
- regulating placement of competing units that might adversely affect the
franchisee's results.
Failure to comply with these laws may adversely affect us.
Any changes to the FTC rule or state franchise laws, or future court or
administrative decisions, however, could affect our franchise business.
There are also extensive federal, state and local government regulations
relating to the development and operation of food service outlets, including
laws and regulations relating to:
- building and seating requirements
- the preparation and sale of food
- cleanliness
- safety in the workplace
- accommodations for the disabled
Our relationship with our employees is also subject to regulation, such as:
- minimum wage requirements
- anti-discrimination laws
- overtime and working conditions
- citizenship requirements
RISK FACTORS AND TRENDS AFFECTING DIEDRICH COFFEE AND ITS BUSINESS
We must repay approximately $5.5 million in bank debt by September 2002. If we
are not able to successfully manage our repayment strategy, or if we are unable
to maintain compliance with our revised financial covenants, our lender may
declare us to be in default and exercise its contractual remedies.
We announced in June 2000 that we failed to meet certain financial
covenants under the Credit Agreement for our term loan and revolving credit
facility. On September 26, 2000, we entered into a First Amendment to Credit
Agreement with our lender to amend the terms of our Credit Agreement. The
amendment requires us to repay the debt in full by September 1, 2002. To pay off
the loan in 2002, we may need to obtain new financing which may not be readily
available to us at that time. If we are unable to obtain new financing, we will
likely need to sell additional assets to meet the terms of the Credit Agreement.
There is no assurance that we will be able to sell such assets on the timetables
or for the values anticipated.
In addition to the required payment changes, the First Amendment to Credit
Agreement, and the subsequent Second Amendment to Credit Agreement entered into
on February 26, 2001, each amend the
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financial covenants contained in the Credit Agreement. If we are unable to
comply with the terms of our revised financial covenants, our lender may declare
a default and immediately accelerate the due date of our outstanding loans. If
we are unable to repay our outstanding loans when asked to do so by the lender,
the lender may exercise any one or more of the remedies available to it,
including foreclosing on the assets pledged to support the facility, which
includes virtually all of our assets. The lender may also require our
subsidiaries to repay amounts outstanding because each of our subsidiaries is a
co-borrower under the amendments to the Credit Agreement.
Historical losses may continue and, as a result, the price of our common stock
may be negatively affected.
Diedrich Coffee had a net loss of $3,988,000 for the fiscal year ended June
27, 2001, a net loss of $22,424,000 for the fiscal year ended June 28, 2000, and
net losses of $2,562,000, $9,113,000 and $986,000 for the fiscal years ended
January 1999, 1998 and 1997, respectively. Despite the acquisition of Coffee
People and the implementation of a strategic plan during fiscal 1999 that
included growing Diedrich Coffee through franchise area development agreements,
we have not become profitable. We may continue to sustain net losses for the
foreseeable future. We may never achieve profitability.
If we are not able to grow our business, the results of our operations and our
financial condition may be adversely impacted.
As of June 27, 2001, we operated 68 Diedrich Coffee, Coffee People or
Coffee Plantation retail locations, which we managed on a day-to-day basis, and
had 14 franchised Diedrich Coffee coffeehouse locations. We also had 291 Gloria
Jean's retail locations, of which 272 were franchised. Our Gloria Jean's retail
locations are principally located in malls. To grow, we must:
- attract single and multi- store franchisees for our Gloria Jean's brand
in the United States, and multi-store franchisees and franchise area
developers internationally
- continue to upgrade products and programs at Gloria Jean's
- expand wholesale sales of Diedrich Coffee and Gloria Jean's
- attract franchise area developers for Diedrich Coffee in the United
States and internationally
- obtain (or have our franchise area developers obtain) suitable sites at
acceptable costs in highly competitive real estate markets
- hire, train and retain qualified personnel
- integrate newly franchised or corporate locations into existing product
distribution
- improve inventory control, marketing and information systems
- impose and maintain strict quality control from green coffee acquisition
to the fresh cup of brewed coffee in a customer's hand
Implementation of our growth strategy may divert management's attention
from other aspects of our business and place a strain on management, operational
and financial resources, and accounting systems. Future inability to grow our
business may adversely affect the results of our operations and our financial
condition.
If we are unable to obtain acceptable financing, it could have a material
adverse effect on our growth strategies and our ability to continue operations.
In order to achieve our anticipated growth and the expansion of our
wholesale and retail business we may need to incur debt or issue additional
stock in public or private financings. If additional funds are raised through
the issuance of stock, dilution to stockholders may result. If additional funds
are raised through the incurrence of debt, these debt instruments will likely
contain restrictive financial, maintenance and security
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covenants, which could have a material adverse effect on our business, financial
condition and results of operations. This additional financing may not be
available on terms satisfactory to us.
Growth of our international operations may be adversely affected by factors
outside of our control.
We have 95 Gloria Jean's franchised stores located outside of the United
States and its territories. As part of our growth strategy, we will be seeking
franchise developers internationally for Gloria Jean's stores. As a result, our
business and operations will be increasingly subject to the risk of changes in
economic conditions and, to a lesser extent, changes in social and political
conditions inherent in foreign operations, including changes in U.S. laws and
regulations relating to foreign trade and investment. In addition, consumer
tastes vary from region to region, and consumers located in the regions in which
we intend to expand our retail operations may not be as receptive to specialty
coffees as consumers in existing markets.
Our growth through franchise area development may not occur as rapidly as we
currently anticipate.
Our ability to recruit, retain and contract with qualified franchise area
developers has become, and will continue to be, important to our operations as
we expand. In addition, the coffeehouses contemplated in existing franchise area
development agreements may not open on the anticipated development schedule. Our
franchisees are dependent upon the availability of adequate sources of financing
on acceptable terms in order to meet their development obligations, and the
credit markets for such franchise financing have historically been somewhat
volatile. Prospective franchise lenders have historically been cautious in their
approach to financing smaller or newer, less established retail brands vis-a-vis
larger and more established franchised systems. Such financing may not be
available to our franchised area developers, or only available upon
disadvantageous terms. Our franchise development strategy may not enhance our
results of operations. Failure to execute on our strategy to grow through
franchise area development would harm our business, financial condition and
results of operations.
Our revenue could be adversely affected if our franchisees experience business
or operational difficulties.
Should our franchisees encounter business or operational difficulties,
anticipated revenue from franchise fees, including royalties and product sales
to franchisees could be adversely affected. These adverse results could also
affect our ability to sell additional franchises. If our revenue from
franchisees decreases, results of our operations may be adversely impacted.
Our operating results may fluctuate significantly, which could have a negative
effect on the price of our common stock.
Our operating results will fluctuate from quarter to quarter as the result
of a number of factors, including:
- fluctuations in prices of unroasted coffee
- labor costs for our hourly and management personnel, including increases
in federal or state minimum wage requirements
- the number, timing, mix and cost of coffeehouse and mall coffee store
openings, franchises, acquisitions or closings
- comparable store sales results
- changes in consumer preferences
- the level of competition from existing or new competitors in the
specialty coffee industry
From time to time in the future, our operating results likely will fall
below the expectations of investors and public market securities analysts.
Quarterly fluctuations, for any reason, could cause our stock price to decline.
Also, our business is subject to seasonal fluctuations. The December holiday
season generally experiences the highest sales. In contrast, hot weather tends
to depress sales of hot coffee and espresso drinks,
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especially unseasonably warm weather. Consequently, we will continue to
experience significant fluctuations in quarterly results.
In addition, if we were to open additional Company owned-coffee houses in
the future, we would incur significant pre-opening expenses, and the new
coffeehouses would likely experience an initial period of operating losses. As a
result, the opening of a significant number of Company-owned coffeehouses in a
single period would have an adverse effect on our results of operations. Due to
the foregoing, we believe that period-to-period comparisons of our historical or
future operating results are not necessarily meaningful and such comparisons
should not be relied upon as indicators of future performance.
If we fail to remain in compliance with Nasdaq's continued listing requirements,
our stock may be removed from listing on the Nasdaq quotation system and may not
qualify for listing on any stock exchange, in which case it may be difficult to
find a market in our stock.
If our stock is no longer traded on a national trading market it may be
more difficult for you to sell shares that you own, and the price of the stock
may be negatively affected. Currently our securities are traded on The Nasdaq
National Market. Nasdaq has certain continued listing requirements, including
minimum trading price and shareholder equity requirements. Previously, we have
received notice from Nasdaq that our stock price fell below the minimum trading
price. In addition, we were notified that we were not in compliance with
Nasdaq's former net tangible asset requirement. While we have since come back
into compliance with all of the Nasdaq listing requirements, it is possible that
we will fall out of compliance with one or more of the Nasdaq continued listing
criteria at some point in the future. Failure to comply with any one of several
Nasdaq requirements may cause our stock to be removed from listing on Nasdaq.
Should this happen, we may not be able to secure listing on other exchanges or
quotation systems. This would have a negative effect on the price and liquidity
of our stock.
The loss of key personnel or our inability to attract and retain qualified
personnel could significantly disrupt our business.
Our continued success largely will depend on the efforts and abilities of
our executive officers and other key employees. The loss of services of these
individuals could disrupt operations. Although Diedrich Coffee has employment
agreements with several of its executive officers, any of its executive officers
can terminate his or her employment if he or she chooses to do so. In addition,
our success and the success of our franchisees will depend upon our and their
ability to attract and retain highly motivated, well-qualified retail operators
and other management personnel, as well as a sufficient number of qualified
employees. Qualified individuals needed to fill these positions are in short
supply in some geographic areas. Our inability to recruit and retain such
individuals may delay the planned openings of new retail locations or result in
higher employee turnover in existing retail locations, which could have a
material adverse effect on our business or results of operations.
Our industry is highly competitive and we may not have the resources to compete
effectively.
With low barriers to entry, competition in the industry is expected to
increase from national and regional chains, franchise operators and local
specialty coffee stores. Our whole bean coffees compete directly against
specialty coffees sold at retail through supermarkets, specialty retailers,
variety and discount stores and a growing number of specialty coffee stores.
Many specialty coffee companies including Starbucks, Seattle's Best Coffee,
Bucks County, Brothers Gourmet Coffees and Green Mountain Coffee Roasters, sell
whole bean coffees through these channels. In our sale of coffee beverages and
espresso drinks, we compete directly against all other specialty grade coffee
roasters, coffeehouses, espresso/coffee bars and mall coffee stores, as well as
against restaurant and beverage outlets that serve coffee and a growing number
of espresso stands, carts and stores. Our competition at this level includes a
growing number of specialty coffee retailers including Starbucks, Seattle's Best
Coffee, Barnie's, Coffee Beanery Ltd., Caribou, Peet's Coffee, Tully's Coffee
and many others. The attractiveness of the gourmet specialty coffeehouse market
may draw additional competitors with substantially greater financial, marketing
and operating resources than us. In addition, we compete to draw consumers of
standard or commercial coffee, and consumers of substitute coffee products
manufactured
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by a number of nationwide coffee manufacturers, such as Kraft General Foods,
Proctor & Gamble and Nestle, to specialty grade coffee.
We believe that our customers choose among retailers primarily on the basis
of product quality, service, coffeehouse ambiance, convenience and, to a lesser
extent, on price. The performance of individual coffeehouses or mall coffee
stores may also be affected by factors such as traffic patterns and the type,
number and proximity of competing coffeehouses or mall coffee stores. In
addition, factors such as inflation, increased coffee bean, food, labor and
employee benefit costs and the availability of experienced management and hourly
employees may also adversely affect the specialty coffee retail business in
general and our coffeehouses and mall coffee stores in particular.
Our lack of diversification may affect business if demand is reduced.
Our business is primarily centered on one product: fresh specialty grade
coffee. To date, our operations have been limited to primarily the purchase and
roasting of green coffee beans and the sale of whole bean coffee, coffee
beverages and espresso drinks through our franchise coffee stores, coffeehouses
and wholesale coffee and mail order businesses. Any decrease in demand for
coffee would have a material adverse effect on our business, operating results
and financial condition.
Our Company-operated retail locations are concentrated in the western region of
the united states, and therefore our business is subject to fluctuations if
adverse business conditions occur in that region.
Our Company-operated retail locations are primarily located in the Western
Region of the United States. Accordingly, we are susceptible to fluctuations in
our business caused by adverse economic or other conditions in this region,
including natural or other disasters. In addition, some of our competitors have
many more retail locations than we do. Consequently, adverse economic or other
conditions in a region, a decline in the profitability of several existing
retail locations or the introduction of several unsuccessful new retail
locations in a geographic area could have a more significant effect on our
results of operations than would be the case for a company with a larger number
of retail locations or with more geographically dispersed retail locations.
Our supply costs may be higher than we expect because of fluctuations in
availability and cost of unroasted coffee.
Increases in the price of green coffee, or the unavailability of adequate
supplies of green coffee of the quality we seek, whether due to the failure of
its suppliers to perform, conditions in coffee-producing countries, or
otherwise, could have a material adverse effect on our results of operations. We
depend upon both outside brokers and our direct contacts with exporters and
growers in countries of origin for our supply of green coffee. Coffee supply and
price are subject to significant volatility beyond our control. Although most
coffee trades in the commodity market, coffee of the quality we seek tends to
trade on a negotiated basis at a substantial premium above commodity coffee
pricing, depending upon the origin, supply and demand at the time of purchase.
Supply and price can be affected by multiple factors in the producing countries,
including weather, political and economic conditions. In addition, green coffee
prices have been affected in the past, and may be affected in the future, by the
actions of certain organizations and associations, such as the International
Coffee Organization or the Association of Coffee Producing Countries. These
organizations have historically attempted to establish commodity price controls
of green coffee through agreements establishing export quotas or restricting
coffee supplies worldwide. These organizations, or others, may succeed in
raising green coffee prices. Should this happen, we may not be able to maintain
our gross margins by raising prices without affecting demand.
Power shortages in California could substantially and adversely effect our
business and results of operations.
We rely on a continuous power supply in the operation of our business.
California is in the midst of an energy crisis that could disrupt our operations
and increase our expenses. In the event of an acute power shortage, California
has on some occasions implemented, and may in the future continue to implement,
rolling
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blackouts throughout California. We currently have no alternate sources of power
in the event of a blackout. If blackouts interrupt our power supply, we would be
temporarily unable to continue operations at our facilities. Any interruption of
our ability to roast our coffee or continue operations at our facilities could
damage our reputation, harm our ability to retain existing customers and to
obtain new customers, and could result in lost revenue, any of which could
substantially harm our business and results of operations.
We could be subject to adverse publicity or claims from our guests.
We may be the subject of complaints or litigation from guests alleging
beverage and food-related illness, injuries suffered on the premises or other
quality, health or operational concerns. Adverse publicity resulting from such
allegations may materially adversely affect us, regardless of whether such
allegations are true or whether we are ultimately held liable. We may also be
the subject of complaints or allegations from current, former or prospective
employees from time-to-time. A lawsuit or claim could result in an adverse
decision against us that could have a material adverse effect on our business,
financial condition and results of operations.
Changes in consumer preferences or discretionary spending could negatively
affect our results.
Our retail locations offer specialty coffee beans, brewed coffee beverages,
espresso-based beverages, blended drinks and light food items served in a casual
setting. Our continued success depends, in part, upon the popularity of these
types of coffee-based beverages and this style of casual dining. Shifts in
consumer preferences away from our coffee-based beverages or casual setting
could materially adversely affect our future profitability. Also, our success
depends to a significant extent on numerous factors affecting discretionary
consumer spending, including economic conditions, disposable consumer income and
consumer confidence. Adverse changes in these factors could reduce guest traffic
or impose practical limits on pricing, either of which could adversely affect
our business, financial condition, operating results and cash flows.
We may not be able to renew leases or control rent increases at our retail
locations.
All but 1 of our 87 Company-operated coffeehouses are presently on leased
premises. Gloria Jean's stores are generally leased by an indirect subsidiary of
Coffee People, although in most cases, the franchisees pay their rent directly
to their landlord. Upon the expiration of some of these leases, there is no
automatic renewal or option to renew. Consequently, these leases may not be
renewed. If they are renewed, rents may increase substantially. Either of these
events could adversely affect us. Other leases are subject to renewal at fair
market value, which could involve substantial rent increases, or are subject to
renewal with scheduled rent increases, which could result in rents being above
fair market value.
Our failure or inability to enforce our trademarks and trade names could
adversely affect our efforts to establish brand equity.
Our ability to successfully expand our concepts will depend in part on our
ability to maintain "brand equity" through the use of our trademarks, service
marks, trade dress and other proprietary intellectual property, including our
name and logos. We currently hold a number of trademarks and service marks
related to our brands. Some or all of our rights related to our intellectual
property may not be enforceable, even if registered, against any prior users of
similar intellectual property or our competitors who seek or intend to utilize
similar intellectual property in areas where we operate or intend to conduct
operations. If we fail to enforce our intellectual property rights, we may be
unable to capitalize on our efforts to maintain brand equity. It is possible
that we will encounter claims from prior users of similar intellectual property
in areas where we operate or intend to conduct operations, including foreign
countries. Claims from prior users could limit our operations and possibly cause
us to pay damages or licensing fees to a prior user or registrant of similar
intellectual property.
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Future changes in minimum wage requirements could adversely affect our business,
financial condition, results of operations or cash flows.
A number of our employees are subject to various minimum wage requirements.
Many of our employees work in retail locations located in California and receive
salaries equal to the California minimum wage. The minimum wage in California is
$6.25 per hour and is expected to increase to $6.75 per hour in January 2002.
Additionally, the minimum wage in Oregon rose to $6.50 per hour in January 1999.
There can be no assurance that similar increases will not be implemented in
these or other jurisdictions in which we operate or seek to operate. There can
be no assurance that we will be able to pass additional increases in labor costs
through to our guests in the form of price adjustments and, accordingly, such
minimum wage increases could have a material adverse effect on our business,
financial condition, results of operations or cash flows.
Compliance with health, franchising and other government regulations applicable
to us could have a material adverse effect on our business, financial condition,
and results of operations.
Each retail location and roasting facility is and will be subject to
licensing and reporting requirements by numerous governmental authorities. These
governmental authorities include federal, state and local health, environmental,
labor relations, sanitation, building, zoning, fire, safety and other
departments relating to the development and operation of retail locations. Our
activities are also subject to the Americans with Disabilities Act and related
regulations, which prohibit discrimination on the basis of disability in public
accommodations and employment. Changes in any or all of these laws or
regulations could have a material adverse effect on our business, financial
condition and results of operations. Delays or failures in obtaining or
maintaining required construction and operating licenses, permits or approvals
could delay or prevent the opening of new retail locations or could materially
and adversely affect the operation of existing retail locations. In addition, we
may not be able to obtain necessary variances or amendments to required
licenses, permits or other approvals on a cost-effective and timely basis in
order to construct and develop retail locations in the future.
We are also subject to federal regulation and certain foreign and state
laws that govern the offer and sale of franchises and the franchisor-franchisee
relationship. Many foreign and state franchise laws impose substantive
requirements on franchise agreements, including limitations on noncompetition
provisions and on provisions concerning the termination or nonrenewal of a
franchise. Some foreign countries and states require companies to register
certain materials before franchises can be offered or sold in that country or
state. The failure to obtain or retain licenses or registration approvals to
sell franchises could delay or preclude franchise sales and otherwise adversely
affect our business, financial condition and results of operations.
Additionally, any franchise law violations may give existing and future
franchisees a basis to bring claims against Diedrich Coffee. Franchise law
violation claims could include unfair business practices, negligent
misrepresentation, fraud, and statutory franchise investment and/or relationship
violations. Remedies may include damages and/or rescission of the franchise
agreement by the franchisee. These claims may already exist and their assertion
against us could adversely affect our business, financial condition, and results
of operations.
RECENT DEVELOPMENTS
During June 2001, we entered into a letter of intent to sell eight of our
coffeehouses in Phoenix, Arizona, along with related intangible assets including
the "Coffee Plantation" trademarks and trade name. Under the terms of the sale,
which is anticipated to close before the end of October 2001, the buyers will
also assume operation of four additional coffeehouses on a sublease basis, with
an option to purchase them in the future at a predetermined price. Other terms
of the transaction include the right for us to continue using the Coffee
Plantation trademarks on a royalty-free basis for our five remaining Company
operated Coffee Plantation locations. The buyers will also execute a long term
exclusive supply agreement which provides, among other things, that we will be
their wholesale supplier of roasted coffee for the units noted above and any
other new Coffee Plantation units they may acquire or develop during the term of
the agreement, and committing the buyers to certain minimum levels of coffee
purchases annually.
As described more fully in the Notes to the accompanying Consolidated
Financial Statements, we recorded an asset impairment charge of $1,536,251
during the fourth quarter of fiscal 2001 in order to reduce
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the carrying value of these assets to their fair values, net of estimated
disposal costs, as well as a charge of $232,000 to reflect the net present value
of our remaining lease obligations.
ITEM 2. PROPERTIES.
OFFICE SPACE
We lease approximately 57,285 square feet of office space for
administrative offices, warehousing, and training facilities in Irvine,
California. The lease for this facility expires in October 2003. We currently
lease approximately 9,400 square feet of office space in Beaverton, Oregon,
though we have sublet this lease, which expires in February 2004. Until December
2000, we also leased 1,888 square feet of office space in Tempe, Arizona for our
regional offices. This lease was on a month-to-month basis. We also have a
60,000 square foot roasting facility located in Castroville, California that is
leased through December 31, 2005, with an additional renewal option term of 7
years.
We believe that our facilities are generally adequate for our current
needs, and that suitable additional production and administrative space will be
available as needed for the foreseeable future.
COMPANY-OWNED LOCATIONS
In addition, as of June 27, 2001, we were a party to various leases for a
total of 86 Company operated retail locations. We closed 9 retail locations in
fiscal 2001, 11 retail locations in fiscal 2000, 2 retail locations and a Denver
warehouse in fiscal 1999 and 11 retail locations in fiscal 1998. Our
Company-operated retail locations on leased premises are subject to varying
arrangements specified in property specific leases. For example, some of the
leases require a flat rent, subject to regional cost-of-living increases, while
others are based upon a percentage of gross sales. In addition, certain of these
leases expire in the near future, and there is no automatic renewal or option to
renew. No assurance can be given that leases can be renewed, or if renewed, that
rents will not increase substantially, both of which would adversely affect us.
Other leases are subject to renewal at fair market value, which could involve
substantial increases or are subject to renewal with a scheduled rent increase,
which could result in rents being above fair market value.
We currently own the land and buildings in Portland, Oregon at which one of
our Company-operated Coffee People Oregon drive through espresso bars are
operated, and an additional vacant parcel of land behind this location.
FRANCHISED STORES
All of our Gloria Jean's locations are operated on leased premises, most
situated in regional malls, 196 of which are located in the United States and 95
of which are located in foreign countries. A majority of the leased premises
presently occupied by domestic Gloria Jean's franchised outlets are leased by
us, and we have entered into sublease agreements with the franchisee on a cost
pass-through basis. Gloria Jean's, however, remains obligated under the lease in
all such cases. In the future, franchisees will in most cases be required to
enter into master leases directly with the mall owner, as well as in the case of
renewals of existing location leases as they come up for renewal. Gloria Jean's
stores are designed to accommodate locations in various sizes, ranging from 170
square foot kiosk outlets (which sell principally coffee drinks and other
beverages) to 2,000 square foot full service stores.
ITEM 3. LEGAL PROCEEDINGS.
In the ordinary course of our business, we may become involved in legal
proceedings from time to time. As of September 24, 2001, we were not a party to
any material pending legal proceedings.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
On May 7, 2001 we held a special meeting of stockholders to consider the
following actions:
- To approve an amendment to our certificate of incorporation to increase
the number of authorized shares of our common stock from 25,000,000
shares to 35,000,000 shares. Our shareholders approved this amendment,
with 3,321,759 votes cast for the amendment, 197,899 votes cast against
the amendment and 7,460 votes withheld.
- To approve the sale to a series of investors of 8,000,000 shares of our
common stock at $0.75 per share and the issuance of warrants to purchase
an additional 2,000,000 shares of our common stock at an initial exercise
price of $1.20 per share. Our shareholders approved this sale, with
3,333,678 votes cast for the amendment, 187,364 votes cast against the
amendment, and 6,076 votes withheld.
- To effect a decrease in the number of issued and outstanding shares of
our common stock by means of a one-for-four reverse stock split to be
effected after the issuance and sale of our shares described above, and
to proportionately decrease our authorized shares of common stock. This
proposal was approved by our shareholders, with 8,925,941 votes cast for
the amendment, 130,266 votes cast against the amendment and 9,045 votes
withheld.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our common stock is reported on the Nasdaq National Market System under the
symbol "DDRX." The following table sets forth, for the periods indicated, the
range of high and low trading prices for our common stock as reported on the
Nasdaq National Market System. We changed our fiscal year end in July 1999 from
the Wednesday before January 31 to the Wednesday before June 30. This table
restates the quarters as if the change in fiscal year occurred in July 1998.
<Table>
<Caption>
PRICE RANGE(1)
---------------
PERIOD HIGH LOW
------ ------ ------
FISCAL YEAR ENDED JUNE 28, 2000
Twelve Weeks Ended September 22, 1999..................... $26.50 $16.75
Twelve Weeks Ended December 15, 1999...................... 22.75 16.0
Twelve Weeks Ended March 8, 2000.......................... 18.25 14.25
Sixteen Weeks Ended June 28, 2000......................... 15.25 8.75
FISCAL YEAR ENDED JUNE 27, 2001
Twelve Weeks Ended September 20, 2000..................... 11.50 5.25
Twelve Weeks Ended December 13, 2000...................... 7.88 1.00
Twelve Weeks Ended March 7, 2001.......................... 5.62 1.00
Sixteen Weeks Ended June 27, 2001......................... 5.04 2.00
FISCAL YEAR ENDED JUNE 26, 2002
Twelve Weeks Ended September 19, 2001..................... 4.11 2.47
</Table>
---------------
(1) On May 9, 2001, Diedrich Coffee effected a one-for-four reverse stock split
by filing an amendment to its certificate of incorporation. The reverse
stock split resulted in every four shares of our outstanding common stock
being converted automatically into one share of common stock. Our stock
began trading on The Nasdaq National Market on a post-reverse stock split
basis on May 11, 2001. All per share amounts have been adjusted for the
reverse stock split.
At September 21, 2001, there were 5,161,279 shares outstanding and 708
stockholders of record of our common stock. We have not paid dividends on our
common stock and do not anticipate paying dividends in the foreseeable future.
On May 8, 2001, Diedrich Coffee completed the sale of 8,000,000 shares
(pre-reverse split) of its common stock, at a price of $0.75 per share, and the
issuance of warrants to purchase 2,000,000 shares (pre-reverse split) of its
common stock, at an initial exercise price of $1.20 per share, to a series of
investors including Sequoia Enterprises, L.P., of which Diedrich Coffee's
chairman, Paul C. Heeschen, is the general partner and a number of entities of
which Westcliff Capital Management, LLC is the general partner or investment
advisor. The sale of the stock and warrants was not registered in reliance on
Rule 506, promulgated under Regulation D pursuant to the Securities Act of 1933,
as amended because the purchasers were all accredited investors, within the
meaning of Rule 506. The gross proceeds to Diedrich Coffee from the equity
investment were $6.0 million. Diedrich Coffee paid $3.6 million of the proceeds
to its lender to reduce outstanding indebtedness. After the payment of
approximately $520,000 in transaction expenses, the remainder of the proceeds
were used for current obligations and working capital.
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22
ITEM 6. SELECTED FINANCIAL DATA.
In an effort to align our fiscal year with that of Coffee People, which we
acquired on July 7, 1999, we changed our year end from a fiscal year ending the
Wednesday before January 31 to a fiscal year ending on the Wednesday before June
30. Accordingly, the selected financial data below includes information as of
and for the twenty-two weeks ended June 30, 1999 and as of and for the
twenty-six weeks ended July 29, 1998, in addition to the last four fiscal years.
The following selected financial data may not be indicative of our future
results of operations and should be read in conjunction with "Item 7
Management's Discussion and Analysis of Financial Condition and Results of
Operations" beginning on page 22 and should be read in conjunction with our
consolidated financial statements and related notes.
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED TWENTY-SIX YEAR ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27, WEEKS ENDED JANUARY 28,
2001 2000 1999 1999 JULY 29, 1998 1998
---------- ---------- ----------- ----------- ------------- -----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS
DATA:
Net Revenue:
Retail Sales......... $46,925 $ 48,308 $ 8,786 $21,248 $10,629 $20,760
Wholesale and
other.............. 18,545 19,081 1,467 2,767 1,324 2,222
Franchise revenue.... 6,770 6,813 109 200 -- --
------- -------- ------- ------- ------- -------
Total........... 72,240 74,202 10,362 24,215 11,953 22,982
------- -------- ------- ------- ------- -------
Costs and expenses:
Cost of sales and
related occupancy
costs.............. 35,705 38,112 4,600 10,849 5,395 11,458
Operating expenses... 20,827 20,671 3,795 8,887 4,852 10,737
Depreciation and
amortization....... 4,445 4,331 1,212 1,941 944 1,785
General and
administrative
expenses........... 11,232 16,058 2,013 4,790 2,088 4,006
Provision for asset
impairment and
restructuring
costs.............. 2,867 16,370 799 -- -- 3,902
(Gain)/Loss on asset
disposals.......... (173) (24) 4 4 -- --
------- -------- ------- ------- ------- -------
Total........... 74,903 95,518 12,423 26,471 13,279 31,888
------- -------- ------- ------- ------- -------
Operating loss............ (2,663) (21,316) (2,061) (2,256) (1,326) (8,906)
Interest expense and
other, net.............. (1,289) (1,089) (285) (302) (177) (205)
------- -------- ------- ------- ------- -------
Loss before income
taxes................... (3,952) (22,405) (2,346) (2,558) (1,503) (9,111)
Income tax expense
(benefit)............... 36 19 3 4 (4) 1
------- -------- ------- ------- ------- -------
Net loss.................. $(3,988) $(22,424) $(2,349) $(2,562) $(1,507) $(9,112)
======= ======== ======= ======= ======= =======
Basic and diluted loss per
common share(A)......... $ (1.16) (7.19) (1.52) (1.73) (1.04) (6.76)
======= ======== ======= ======= ======= =======
</Table>
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23
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED TWENTY-SIX YEAR ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27, WEEKS ENDED JANUARY 28,
2001 2000 1999 1999 JULY 29, 1998 1998
---------- ---------- ----------- ----------- ------------- -----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
BALANCE SHEET DATA:
Working capital
(deficiency)......... $ (820) $ (4,216) $(2,122) $ (655) $ (549) $ (959)
Total assets............ 31,891 40,330 11,465 12,736 13,026 13,948
Long-term debt and
obligations under
capital leases, less
current portion...... 4,219 10,252 2,739 2,783 3,020 2,817
Total stockholders'
equity............... 16,613 15,122 3,779 6,027 6,604 6,835
</Table>
---------------
(A) All share and per share information has been adjusted to reflect our
one-for-four reverse stock split which was effective May 9, 2001.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Diedrich Coffee is a specialty coffee roaster, wholesaler and retailer. We
sell brewed, espresso-based and various blended beverages, as well as light food
items, whole bean coffee and accessories, through our Company operated and
franchised retail locations. We also sell whole bean and ground coffees on a
wholesale basis through a network of distributors in the Office Coffee Service
("OCS") market, and to other wholesale customers including restaurant chains and
other retailers. Our brands include Diedrich Coffee, Gloria Jean's, Coffee
People and Coffee Plantation. As of June 27, 2001, we owned and operated 87
retail locations and franchised 286 other retail locations under these brands,
for a total of 373 retail coffee outlets. Although the specialty coffee industry
is presently dominated by a single company, which operates or licenses over ten
times the number of retail outlets we do, we are one of the nation's largest
specialty coffee retailers with annual system-wide revenue in excess of $150
million. Our retail units are located in 37 states and 11 foreign countries. We
also have over 375 wholesale accounts with OCS distributors, chain and
independent restaurants, and others. In addition, we operate a large coffee
roasting facility in central California that supplies freshly roasted coffee to
our retail locations and wholesale accounts.
Our predecessor company, Carl E. Diedrich & Sons, commenced operations in
Orange County, California in 1972 and changed its name to Diedrich Coffee when
its first retail store opened. Diedrich Coffee incorporated in California in
1985. The company remained a small, family operated business with only three
retail locations until 1992, but grew rapidly from 1992 to 1996 through
construction of new Diedrich Coffee coffeehouses in Orange County, and the
acquisition of coffeehouses operated under other brands in Houston, Denver and
San Diego which were converted into Diedrich Coffee units. In August 1996, we
reincorporated under Delaware law as Diedrich Coffee, Inc. and completed an
initial public offering of our common stock in September 1996.
During 1997, we experienced difficulties managing the rapid growth of the
several preceding years, and a new senior management team was recruited. We
restructured our operations in November 1997, and in 1998 we adopted a strategy
to grow our business nationally through franchising arrangements with large area
developers. We subsequently executed ten franchise area development agreements
which called for the development of 447 Diedrich Coffee coffeehouses throughout
the United States. As of June 27, 2001, only two of these area development
agreements remained representing commitments for 46 new Diedrich Coffee
coffeehouses. We anticipate that one of these agreements will be amended during
fiscal year 2002, which would reduce the number of coffeehouse commitments under
these agreements to approximately 14 new coffeehouses.
On July 7, 1999, we acquired Coffee People, Inc. Under the terms of that
transaction, former Coffee People stockholders received $23.0 million in cash
and 1.5 million shares of our common stock. The acquisition was funded from the
proceeds of an offering of 4.6 million shares of our common stock, as well as a
22
24
new bank credit agreement entered into at that time which included a $12 million
term loan. The brands acquired as a result of the merger include Gloria Jean's,
one of the leaders in the mall coffee store segment with coffee stores in 37
states and 11 foreign countries, Coffee People, based primarily in Portland,
Oregon, and Coffee Plantation, based primarily in Phoenix, Arizona.
We experienced significant challenges assimilating Coffee People, a much
larger company, and integrating the operations of both companies into a single
organization. This occurred for several reasons, including the closure by Gloria
Jean's franchisees of a significantly higher than expected number of franchise
stores during the first year following the acquisition. Our Diedrich Coffee
franchise area developers failed to meet their development schedules during this
same period of time. The combination of these franchise unit shortfalls in both
of our primary brands led to significant revenue, profit and cash flow
shortfalls compared to the levels we had projected when negotiating the terms of
our bank credit agreement in 1999, including repayment schedules and financial
covenants. As a result of these and other challenges we experienced significant
financial difficulties during fiscal 2000.
On September 26, 2000, we executed an amendment to our bank credit
agreement which, among other things, accelerated the maturity date of all of our
bank debt to September 2002, and necessitated the sale of certain of our assets
to meet amended terms and covenants, including term loan principal payments
required prior to the amended maturity date. On September 27, 2000, our prior
President and Chief Executive Officer retired and was replaced by J. Michael
Jenkins. Mr. Jenkins has over 30 years of experience in the restaurant industry,
having served as Chief Executive Officer and Chairman of the Steak & Ale
restaurant chain, Executive Vice President of Marriott Corporation's Bob's Big
Boy chain, President and Chief Executive Officer of the T.G.I. Friday's
restaurant chain, President and Chief Executive Officer of Metromedia
Steakhouses, Chief Executive Officer of El Chico Restaurants, Chief Executive
Officer of Vicorp Restaurants and Chief Executive Officer of Boston Chicken.
Upon his arrival, Mr. Jenkins immediately conducted a careful review of the
strengths and deficiencies of the Company, in order to identify and implement a
prioritized action plan to resolve our liquidity problems. Several significant
changes were made as a result of that review, including the immediate
termination of development activities and leases for eight of nine new Company
operated coffeehouses previously planned to open during fiscal 2001,
cancellation of plans to expand a repositioning test for our Gloria Jean's brand
in a different retail format and under a modified brand name, and the immediate
cessation of all non-essential capital and overhead expenditures.
During October 2000, we were notified by Nasdaq that we failed to meet a
requirement for continued listing of our common stock on the Nasdaq National
Market. On January 9, 2001, we announced a restructuring plan which included the
relocation of Gloria Jean's administrative support center from central
California to Diedrich Coffee's home office in Orange County, California. The
plan also included the elimination of 31 support center positions, the planned
closure of four existing locations and the recording of a $780,000 restructuring
and asset impairment charge during the third fiscal quarter as a result of these
actions.
On January 18, 2001, we were notified by Nasdaq of our failure to meet a
second requirement for continued listing of our stock. Our Board of Directors
determined that it would be in our existing stockholder's best interest for the
Company to seek an equity infusion, and on January 26, 2001, we retained an
investment banking firm to assist us in the process of raising additional equity
capital. Our management subsequently met with a number of potential investors
who had expressed interest in investing in the Company and who had executed
strict confidentiality agreements, including trading prohibitions. As a result
of this process, in February 2001, a Special Committee of our Board of Directors
approved and we entered into a letter of intent with a group of new and current
investors for a sale of newly issued shares of our common stock and warrants.
On May 7, 2001, a special stockholder's meeting was held and our
stockholders approved this transaction, as well as a one-for-four reverse stock
split and an increase in the number of authorized shares of stock of the
Company. Under the terms of the transaction, we sold 8,000,000 shares (pre-stock
split) of common stock at $0.75 per share, for gross proceeds of $6 million. The
investors also received warrants to purchase an additional 2,000,000 shares
(pre-stock split) in the future at $1.20 per share (pre-stock split),
exercisable for ten years, as well as registration rights requiring the Company
to register all shares to be sold under the
23
25
transaction. After the repayment of $3.6 million of bank debt from the proceeds
of the offering, and approximately $520,000 of associated transaction costs, we
retained net proceeds of approximately $1.9 million. The cash conservation
measures noted above in conjunction with this equity infusion and related debt
reduction significantly improved the financial condition of the Company, and on
April 18, 2001, we were notified by Nasdaq that we met all requirements for
continued listing of our stock.
RESULTS OF OPERATIONS
The following table sets forth the percentage relationship to total revenue
of certain items included in the Company's consolidated statements of operations
for the periods indicated:
<Table>
<Caption>
TWENTY-TWO TWENTY-SIX
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED WEEKS ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27, JULY 28,
2001 2000 1999 1999 1999
---------- ---------- ----------- ----------- -----------
Net Revenue:
Retail Sales..................... 65.0% 65.1% 84.8% 87.8% 88.9%
Wholesale and Other.............. 25.6 25.7 14.2 11.4 11.1
Franchise revenue................ 9.4 9.2 1.0 0.8 0.0
----- ----- ----- ----- -----
Total.................... 100.0% 100.0% 100.0% 100.0% 100.0%
----- ----- ----- ----- -----
Cost and Expenses:
Cost of sales and related
occupancy costs............... 49.4% 51.4% 44.5% 44.8% 45.1%
Operating expenses............... 28.8 27.9 36.6 36.7 40.6
Depreciation and amortization.... 6.2 5.8 11.7 8.0 7.9
General and administrative
expenses...................... 15.5 21.6 19.4 19.8 17.5
Provision for asset impairment
and restructuring costs....... 3.9 22.1 7.7 -- 0.0
(Gain)/Loss on asset disposals... (0.2) 0.0 0.0 0.0 0.0
----- ----- ----- ----- -----
Total.................... 103.6% 128.6% 119.9% 109.3% 111.1%
----- ----- ----- ----- -----
Operating loss..................... (3.6)% (28.6)% (19.9)% (9.3)% (11.1)%
Interest expense and other, net.... (1.8) (1.5) (2.7) (1.3) (1.5)
----- ----- ----- ----- -----
Loss before income taxes........... (5.4) (30.1) (22.6) (10.6) (12.6)
Income tax expense................. 0.1 0.0 0.1 0.0 0.0
----- ----- ----- ----- -----
Net loss........................... (5.5)% (30.1)% (22.7)% (10.6)% (12.6)%
===== ===== ===== ===== =====
</Table>
COFFEE PEOPLE ACQUISITION. On July 7, 1999, we acquired Coffee People in a
transaction that was accounted for using the purchase method of accounting.
Accordingly, the assets acquired and liabilities assumed were recorded as of
their fair values on that date. The results of operations for the years ended
June 27, 2001 and June 28, 2000 differ significantly from all prior periods
presented because of this acquisition.
CHANGE IN FISCAL YEAR. In an effort to align our fiscal year with that of
Coffee People, which we acquired on July 7, 1999, we changed our year end from a
fiscal year ending on the Wednesday before January 31 to a fiscal year ending on
the Wednesday before June 30. Accordingly, the following results of operations
include a discussion for the year ended June 28, 2000 compared to the year ended
January 27, 1999. In addition, the following results of operations include a
discussion of the 22-week transition period ended June 30, 1999 compared to the
26 weeks ended June 29, 1998, as the seasonal nature of the Company's business
does now allow for a meaningful comparison of annualized results for the
twenty-two week period ended June 30, 1999, to the fiscal year ended June 28,
2000.
24
26
YEAR ENDED JUNE 27, 2001 COMPARED TO YEAR ENDED JUNE 28, 2000
TOTAL REVENUE. Total revenue for the year ended June 27, 2001 decreased by
$1,962,000, or 2.6%, to $72,240,000 from $74,202,000 for the year ended June 28,
2000. Retail sales revenue for the year ended June 27, 2001 decreased by
$1,383,000, or 2.9%, to $46,925,000 from $48,308,000 for the year ended June 28,
2000. This decrease is the net impact of a $1,410,000 increase in retail sales
resulting from an increase in the number of Company store operating weeks versus
the earlier period, which was more than offset by a 5.7% decrease in comparable
store sales over the same period of time. Note that the number of operating
weeks for Company stores was higher during fiscal 2001 versus fiscal 2000
despite the fact that there were fewer Company stores at the end of the later
period. This resulted from the relative timing of openings and closings of
Company stores in each of the two years. For example, a Gloria Jean's store
transferred from franchise to Company operations near the end of fiscal 2000;
therefore, while it represented one Company store at the end of both periods, it
contributed 52 weeks of Company store operations during fiscal 2001 versus only
8 weeks in fiscal 2000, or an increase of 44 Company store operating weeks in
fiscal 2001 versus the earlier period. A summary of Company and franchise retail
unit activity for both fiscal 2001 and 2000 can be found under the caption
"Business -- Diedrich Coffee's Business Model -- Retail Outlets" above.
Wholesale revenue for the year ended June 27, 2001 decreased by $536,000, or
2.9%, to $18,545,000 from $19,081,000 for the year ended June 28, 2000. The
decrease was primarily attributable to the closure of 33 franchised locations
during the current year, as these franchised units previously purchased their
roasted coffee from us, and we record the sale of roasted coffee to our
franchisees in wholesale revenue. The decrease in whole bean coffee sales to our
franchisees was largely offset by an increase in revenue received from
unaffiliated wholesale customers, which increased $3,727,000, or 93.1%, to
$7,731,000 during the year ended June 27, 2001 from $4,004,000 during the year
ended June 28, 2000. Franchise revenue decreased by $43,000, or less than 1%, to
$6,770,000 for the year ended June 27, 2001 from $6,813,000 for the year ended
June 28, 2000. Franchise revenue consists of initial franchise fees, franchisee
renewal fees, area development fees and royalties received on sales at
franchised locations. The slight reduction in franchise revenue in fiscal 2001
versus fiscal 2000 is the net impact of an increase in international area
development fees which was more than offset by a reduction in franchise
royalties and other franchise revenue, as discussed in the table under Revenue
Recognition in Note 1 to the attached Consolidated Financial Statements. The
royalty reduction resulted from fewer domestic franchise operating weeks versus
the prior year, the unfavorable impact of which more than offset the favorable
impact from an increase in the number of international franchise unit operating
weeks. International franchise units have a lower average royalty rate than do
domestic franchise units.
COST OF SALES AND RELATED OCCUPANCY COSTS. Cost of sales and related
occupancy costs for the year ended June 27, 2001 decreased 6.3% to $35,705,000
from $38,112,000 for the year ended June 28, 2000. On a margin basis, Cost of
sales and related occupancy costs decreased to 49.4 % of total revenue during
fiscal 2001 versus 51.4% during fiscal 2000. This 2.0 margin basis point
improvement was primarily caused by a reduction in rent expense associated with
franchise units as a percentage of franchise revenue during fiscal 2001 versus
fiscal 2000. Gloria Jean's incurs rent expense on one of its franchise units
when a franchisee defaults on their sublease obligations. The balance of the
margin improvement principally resulted from a decrease in cost of sales in the
wholesale business as a percentage of wholesale revenue, due to a change in the
relative size of various wholesale business components between the two periods.
Early in fiscal 2001 the Company began outsourcing the distribution to its
franchisees of merchandise, paper cups, napkins, and most other non-coffee
items, which have a lower margin than coffee. Sales of such items to franchisees
are recorded in wholesale revenue.
OPERATING EXPENSES. Operating expenses for the year ended June 27, 2001
increased by 0.8% to $20,826,000, from $20,671,000 for the year ended June 28,
2000. On a margin basis, operating expenses increased to 28.8% of revenue during
fiscal 2001 versus 27.9% during fiscal 2000. This unfavorable 0.9 margin basis
point change is due to unfavorable changes versus fiscal 2000 in the
relationship of operating costs for Company retail units, most notably labor and
utilities, to the retail sales from those locations, and resulted primarily from
the 5.7% comparable store sales decrease versus fiscal 2000 noted above. Labor,
utilities and certain other operating expenses in a retail unit are semi-fixed,
rather than completely variable based upon volume, and therefore represent a
higher percentage of revenue when retail sales in existing locations decline.
25
27
DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased by
$114,000 to $4,445,000 for the year ended June 27, 2001, or 6.2% of revenue,
from $4,331,000 for the year ended June 28, 2000, or only 5.8% of revenue. The
increase was primarily due to an increase in goodwill amortization expense,
resulting from a reduction in the amortization period for goodwill. During
fiscal 2000, all goodwill associated with the Coffee People acquisition was
amortized based upon an assumed 40 year useful life. Beginning in fiscal 2001,
the estimated useful lives of goodwill components were reevaluated and assigned
30 year or 10 year remaining useful lives, depending upon whether they related
to franchise operations acquired or Company store operations acquired,
respectively. In addition, the increase in Company store operating weeks versus
fiscal 2000 because of unit count changes, as noted above, resulted in
additional depreciation expense versus the prior year pertaining to Company
operated coffeehouses.
ASSET IMPAIRMENT AND RESTRUCTURING COSTS. Asset impairment and
restructuring costs decreased to $2,867,000 for the year ended June 27, 2001
from $16,370,000 for the year ended June 28, 2000. During fiscal 2001, the
Company recorded asset impairment charges of $1,536,000 for twelve Coffee
Plantation stores located in Arizona and $181,000 relating to property in
Portland which is being held for sale, and $455,000 in impairment charges
associated with four Company and one franchise operated locations. A charge of
$232,000 was also recorded to reflect the net present value of our remaining
lease obligations on 4 of the 12 Arizona locations. In addition, $298,000 in
severance costs associated with the relocation of Gloria Jean's support center
and the related elimination of a number of administrative positions, and
$165,000 in estimated lease termination costs for the planned closure of four
under-performing Company operated locations, were recorded in fiscal 2001.
During the year ended June 28, 2000, the Company recorded $16,370,000 in asset
impairment and restructuring charges due to the write-down of goodwill
associated with the Coffee People acquisition.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expense
decreased by $4,826,000, or 30.1%, to $11,232,000 for the year ended June 27,
2001 from $16,058,000 for the year ended June 28, 2000. As a percentage of total
revenue, general and administrative expenses decreased to 15.5% during fiscal
2001 from 21.6% for fiscal 2000. This decrease was the result of several
factors. First, significant non-recurring overhead expenses associated with the
initial integration of the Coffee People acquisition were incurred in fiscal
2000, the first fiscal year following the acquisition. In addition, significant
expenses were incurred in fiscal 2000 in conjunction with the recruitment of a
number of new senior management personnel to support anticipated rapid national
expansion of the Diedrich Coffee franchise system, including recruitment and
relocation costs. Such integration and staffing expenses were not significant in
fiscal 2001. Second, during October 2000, the Company implemented a number of
measures specifically intended to reduce overhead, and in January 2001 announced
a restructuring plan which included the consolidation of its previously separate
support centers for Diedrich Coffee and Gloria Jean's, as well as the closure of
division field offices in Portland, Oregon and Phoenix, Arizona, and the
elimination of 31 overhead positions. Approximately one half of the expected
annualized savings from these measures were realized during fiscal 2001,
representing favorable overhead expense comparisons versus fiscal 2000.
INTEREST EXPENSE AND OTHER, NET. Interest expense and other, net,
increased to $1,289,000 for the year ended June 27, 2001 from $1,089,000 for the
year ended June 28, 2000. The increase is primarily due to a reduction in
interest income in fiscal 2001 versus fiscal 2000. The Company had sizable cash
reserves on deposit in interest bearing accounts during the first two quarters
of fiscal 2000, immediately following receipt of cash proceeds from a public
stock offering and new bank term loan which financed the Coffee People
acquisition, and to a lesser degree, during the last two months of fiscal 2001
following an equity infusion in May 2001. Average cash balances deposited in
interest bearing accounts were therefore higher during fiscal 2000 than in
fiscal 2001, as were average interest rates earned on such cash balances.
INCOME TAX EXPENSE. Net operating losses generated in the years ended June
27, 2001 and June 28, 2000 resulted in no federal income tax liability and only
a nominal amount of state income tax expense for those periods. Due to the
uncertainty of future taxable income, deferred tax assets resulting from these
net operating losses have been fully reserved. The slight fluctuation in expense
between fiscal 2001 versus fiscal 2000 is due to changes in state income taxes
owed in conjunction with the portfolio of Company operated Gloria Jean's units,
which are located in a variety of states. As of June 27, 2001, a net operating
loss for federal
26
28
income tax purposes of $28,000,000 is available to be utilized against future
taxable income for years through fiscal 2014, subject to possible annual
limitations pertaining to change in ownership rules under the Internal Revenue
Code.
YEAR ENDED JUNE 28, 2000 COMPARED TO YEAR ENDED JANUARY 27, 1999
TOTAL REVENUE. Total revenue for the year ended June 28, 2000, which
represents the first fiscal year of operations after the acquisition of Coffee
People on July 7, 1999, increased 206.4% to $74,202,000 from $24,215,000 for the
year ended January 27, 1999, which was the last full fiscal year of Diedrich
Coffee prior to the acquisition. $49,330,000 of this increase was due to the
acquisition of Coffee People. Excluding this amount, revenue increased $657,000,
or 2.7% on a comparable basis. Retail sales revenue for the year ended June 28,
2000 increased 127.4% to $48,308,000 from $21,248,000 for the year ended January
27, 1999. $27,186,000 of this revenue increase was due to Diedrich
Coffee-operated retail coffeehouses in Oregon and Arizona and mall-based Gloria
Jean's coffee stores added during the acquisition. Excluding this amount, retail
sales revenue decreased slightly by $125,000, or by 0.6%. This resulted from the
timing of the closure of two Diedrich Coffee coffeehouses early in fiscal 2000,
which had a slightly greater negative impact than the combined positive impact
of two new Company operated Diedrich Coffee units opened near the end of the
year, and positive Diedrich Coffee comparable store sales of 4.2% during the
year. Wholesale and mail order revenue for the year ended June 28, 2000
increased 590% to $19,081,000 from $2,767,000 for the year ended January 27,
1999. $15,334,000 of this increase was due to the addition of the Gloria Jean's
franchisee operations, which purchase roasted coffee from Diedrich Coffee.
Excluding this amount, wholesale revenue increased $980,000, or 35.4%, due to an
increase in Diedrich Coffee's chain restaurant wholesale customers as compared
to the earlier period. Diedrich Coffee realizes a normal wholesale profit margin
on its sale of roasted coffee beans to its Gloria Jean's franchisees, and this
revenue and related contribution are recorded in the wholesale division's
operating results. Franchise revenue increased to $6,813,000 for the year ended
June 28, 2000 from $200,000 for the year ended January 27, 1999. $6,810,000 of
this increase was due to the acquisition of the primarily franchise operated
Gloria Jean's brand. Excluding this amount, franchise revenue was essentially
flat compared to the prior period, as only one new Diedrich Coffee franchise
unit opened near the end of the fiscal year. Franchise revenue consists
primarily of initial franchise fees, franchise renewal fees, area development
fees and royalties received on revenue generated at franchised locations. As of
June 28, 2000, we had 3 franchised Diedrich Coffee locations, 194 franchised
Gloria Jean's mall coffee stores and 62 international Gloria Jean's franchise
units, compared with 2 franchised Diedrich Coffee locations and no franchised
Gloria Jean's locations as of January 27, 1999.
COST OF SALES AND RELATED OCCUPANCY COSTS. Cost of sales and related
occupancy costs for the year ended June 28, 2000 increased 251% to $38,112,000
from $10,849,000 for the year ended January 27, 1999. $26,272,000 of this
increase was due to the acquisition of Coffee People. Excluding this amount,
cost of sales and related occupancy expense for Diedrich Coffee increased by
$992,000, or 9.1%, on a comparable basis. Excluding the effect of the Coffee
People acquisition, cost of sales and related occupancy costs for the Company's
retail segment increased to 41.7% of retail sales revenue in the year ended June
28, 2000 from 40.5% of retail sales revenue in the year ended January 27, 1999,
as occupancy costs increased due to the opening of two stores unrelated to the
acquisition, as well as for several locations under construction during the
year. Excluding the effect of the Coffee People acquisition, cost of sales and
related occupancy for the Company's wholesale segment decreased to 80.9% of
wholesale revenue during the year ended June 28, 2000 from 81.5% of wholesale
revenue during the year ended January 27, 1999. Excluding the effects of the
Coffee People acquisition, there were no cost of sales and related occupancy
costs for the Company's franchise segment in either the fiscal years ended June
28, 2000 or January 27, 1999.
OPERATING EXPENSES. For the year ended June 28, 2000 operating expenses,
as a percentage of total revenue, decreased to 27.9% of revenue, from 36.7% for
the year ended January 27, 1999. This reduction was primarily attributable to
the large increase in the wholesale revenue base as a result of the acquisition
of Coffee People. The 590% wholesale revenue increase from fiscal 1999 to fiscal
2000 resulted largely from the sale of roasted coffee to Gloria Jean's
franchisees after the acquisition. Meanwhile, operating expenses
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associated with wholesale distribution increased only 113%. Excluding the impact
of the Coffee People acquisition, operating expenses as a percentage of total
revenue remained almost unchanged, increasing to 36.9% for fiscal 2000 compared
to 36.7% for the year ended January 27, 1999.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased to
$4,331,000 for the year ended June 28, 2000 from $1,941,000 for the year ended
January 27, 1999. The increase was primarily due to the addition of Coffee
People depreciable assets and the amortization of goodwill associated with the
acquisition of Coffee People. As a percentage of total revenue, depreciation and
amortization decreased to 5.8% for the year ended June 28, 2000 in comparison to
8.0% for the year ended January 27, 1999, because of the relatively higher
percentage of Coffee People's business in the franchise and wholesale areas
compared to Diedrich Coffee's, which was skewed more to Company operated
coffeehouses. Franchising and wholesaling are less capital intensive than
operating Company owned retail locations.
ASSET IMPAIRMENT AND RESTRUCTURING COSTS. Asset impairment and
restructuring costs were $16,370,000 for the year ended June 28, 2000. The
charge was primarily attributable to the write-down of goodwill associated with
the Coffee People acquisition.
GENERAL AND ADMINISTRATIVE EXPENSES. As a percentage of total revenue,
general and administrative expenses increased to 21.6% for the year ended June
28, 2000, the first fiscal year following the acquisition of Coffee People,
compared to 19.8% for the year ended January 27, 1999 for Diedrich Coffee on a
stand-alone basis. This unfavorable comparison of 1.8 margin basis points is the
net effect of several offsetting factors; favorable overhead efficiencies
resulting from the consolidation, which were more than offset by nonrecurring
integration expenses and a number of overhead expenses incurred staffing up
Diedrich Coffee's franchise development and operations support structure in
anticipation of rapid national expansion by franchise area developers, as well
as the fact that the acquired Company had significantly higher overhead costs as
a percentage of revenue in several support functions. The acquisition resulted
in a number of efficiencies for the combined Company in terms of its ability to
leverage fixed and semi-fixed overhead, expressed as a percentage of revenue,
compared to Diedrich Coffee's respective pre-acquisition figures on a
stand-alone basis. The most significant examples of this were as follows:
Chairman and Chief Executive Officer overhead expense improved to only 1.0% of
revenue during fiscal 2000 for the combined Company, an improvement of 2.2
margin basis points from 3.2% of revenue for Diedrich Coffee alone for fiscal
1999. This resulted from Chairman and Chief Executive Officer overhead expense
dollars remaining substantially the same for the combined Company as they had
been for Diedrich Coffee alone, while combined Company revenue more than tripled
compared to Diedrich Coffee's pre-acquisition level. Similarly, accounting and
finance overhead expenses improved 0.9 margin basis points to 2.8% of revenue in
fiscal 2000 from 3.7% in fiscal 1999, because the combined Company had
substantially similar overhead expenses for its Chief Financial Officer,
controller and audit fees during fiscal 2000 as Diedrich Coffee alone had spent
on these expenses before the acquisition, while revenue increased by a factor of
three. Overhead expenses associated with being a publicly traded Company,
including Directors and Officers insurance premiums and certain legal expenses,
improved 0.7 margin basis points to 0.9% of revenue during fiscal 2000 from 1.6%
in fiscal 1999 for this same reason (Diedrich Coffee and Coffee People were each
publicly traded companies prior to the acquisition). More than offsetting these
efficiencies were certain nonrecurring integration related overhead expenses
totaling approximately 1.2 % of revenue in fiscal 2000. In addition, Coffee
People had historically spent a higher percentage of revenue than Diedrich in
several overhead expense areas including information systems, real estate and
construction, and field operations and multi-unit supervision. Since Coffee
People prior to the acquisition was roughly twice the size of Diedrich on a
revenue basis, the combined Company's cost structure is more heavily weighted to
resemble Coffee People's.
INTEREST EXPENSE AND OTHER, NET. Interest expense and other, net increased
to $1,316,000 for the year ended June 28, 2000 from $385,000 for the year ended
January 27, 1999. The increase is primarily due to bank debt incurred in
connection with the acquisition of Coffee People.
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TWENTY-TWO WEEKS ENDED JUNE 30, 1999 COMPARED WITH THE TWENTY-SIX WEEKS ENDED
JULY 29, 1998
TOTAL REVENUE. Total revenue of $10,362,000 for the twenty-two weeks ended
June 30, 1999 was 13.3% lower than total revenue of $11,953,000 for the
twenty-six weeks ended July 29, 1998, as lower retail sales from Diedrich
coffeehouses in the 1999 period more than offset increases in wholesale revenue
and franchise revenue in the 1999 period as compared to the 1998 period. Retail
sales revenue of $8,786,000 for the twenty-two weeks ended June 30, 1999 was
17.3% lower than retail sales revenue of $10,629,000 for the twenty-six weeks
ended July 29, 1998, despite an increase in comparable store sales versus the
earlier period, due to fewer weeks in the 1999 period and fewer Company operated
coffeehouses open. Subsequent to July 29, 1998, but before the end of the
twenty-two week period in 1999, four Company operated coffeehouses were closed,
and another two were sold to a franchisee, resulting in $684,000 of the
unfavorable revenue variance during the 1999 period as compared to the 1998
period. This reduction in the number of Diedrich Coffee operated units was
partially mitigated by $87,000 of retail sales from two new Company
coffeehouses, which were opened toward the end of the twenty-two week period
ended June 30, 1999. As of June 30, 1999, Diedrich Coffee operated 39 retail
locations, compared to 43 Diedrich Coffee operated locations at July 29, 1998.
Comparable store sales increased 3.4% for the twenty-two weeks ended June 30,
1999 on a comparable year-over-year basis due to improved target marketing
programs. All of this 3.4% increase represented and increase in transactions and
favorable menu mix trade-ups, as no price increases were taken during the
period. Wholesale and other revenue for the twenty-two weeks ended June 30, 1999
increased 10.9% to $1,468,000 from $1,324,000 for the twenty-six weeks ended
July 29, 1998, despite the fewer number of weeks in the 1999 period, due to
continued focus on growing this segment of the business. Franchise revenue were
$109,000 for the twenty-two weeks ended June 30, 1999, compared with $0 during
the twenty-six weeks ended July 29, 1998, as Diedrich Coffee had two franchise
units in the 1999 period but none in the 1998 period.
COST OF SALES AND RELATED OCCUPANCY COSTS. Cost of sales and related
occupancy costs for the twenty-two weeks ended June 30, 1999 decreased to
$4,600,000, compared to $5,395,000 for the twenty-six weeks ended July 29, 1998.
As a percentage of total revenue, cost of sales and related occupancy costs
decreased by 0.7 margin basis points, to 44.4% for the 1999 period from 45.1%
for the 1998 period. This decrease as a percentage of revenue was due to an
increase in wholesale and franchise revenue when comparing the two periods,
notwithstanding the shorter length of the 1999 period, but a simultaneous
decrease in retail sales from Company coffeehouses largely attributable to the
fewer weeks in the 1999 period. Occupancy costs like rent are typically
associated with Company operated retail outlets much more so than with wholesale
or franchise activities.
OPERATING EXPENSES. For the twenty-two weeks ended June 30, 1999,
operating expenses as a percentage of total revenue decreased to 36.6% from
40.6% for the twenty-six weeks ended July 29, 1998. Though costs increased as a
result of new training programs implemented at the store level, and due to
inventory write-offs, these additional costs were more than offset by the
increase in wholesale revenue as we placed an increased emphasis on adding new
chain restaurant accounts.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased to
$1,212,000 for the twenty-two weeks ended June 30, 1999 from $944,000 for the
twenty-six weeks ended July 29, 1998. The increase is primarily due to the
accelerated depreciation taken on a closed coffeehouse.
GENERAL AND ADMINISTRATIVE EXPENSES. For the twenty-two weeks ended June
30, 1999, general and administrative expenses, as a percentage of total revenue,
increased to 19.4% from 17.5% for the twenty-six weeks ended July 29, 1998. This
increase was primarily a result of an increase in overhead expenses associated
with due diligence and other facilitative measures associated with the pending
Coffee People acquisition.
INTEREST EXPENSE. Interest expense increased to $283,000 for the
twenty-two weeks ended June 30, 1999 from $197,000 for the twenty-six weeks
ended July 29, 1998. The increase is related to a acceleration of non-cash
interest related to the fair market value of the warrants, relating to the note
payable with Amre Youness, a former director of Diedrich Coffee.
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LIQUIDITY AND CAPITAL RESOURCES
We had a working capital deficit, as of June 27, 2001, of $820,000 compared
to a deficit of $4,216,000 at June 28, 2000. Cash used in operating activities
totaled $213,000 for the year ended June 27, 2001 as compared to cash used in
operating activities of $672,000 for the year ended June 28, 2000. This
improvement is the net result of many factors more fully enumerated in the
consolidated statements of cash flows in the accompanying consolidated financial
statements, including significant reductions in accounts receivable and
inventory levels during the current fiscal year.
Net cash provided by investing activities for the year ended June 27, 2001
totaled $162,000, primarily due to the fact that proceeds received from the sale
of property and equipment were slightly greater than capital expenditures for
property and equipment. Net cash provided by financing activities totaled
$170,000. This consists of $5,536,000 in net proceeds received from the issuance
of 8,000,000 shares (pre-reverse split) of our common stock, net of $5,366,000
in principal payments on long term debt and capital lease obligations for the
year ended June 27, 2001.
On July 7, 1999, we completed an offering of 4,930,000 shares (including an
over-allotment option). All of the shares of common stock were sold on behalf of
Diedrich Coffee, of which 330,000 shares of common stock were sold pursuant to
the exercise of the underwriters' over-allotment option. The net proceeds of the
offering, after deducting approximately $4.1 million in underwriters'
commissions and related expenses, were approximately $25.4 million.
On July 7, 1999, we entered into a Credit Agreement with BankBoston, N.A.
(subsequently merged into Fleet National Bank) secured by pledges of all of our
assets and our subsidiaries' stock and which provided for a $12 million term
loan and a $3 million revolving credit facility. We used the proceeds of the
term loan to repay existing indebtedness and to pay expenses related to the
acquisition of Coffee People. The term loan provided for principal repayment
based upon a five year amortization, with quarterly principal payments of
$666,667 and quarterly interest payments based upon a formula described below.
We established the revolving credit facility for future flexibility to remodel
existing Company-owned coffeehouses, develop new Company coffeehouses, and for
general corporate purposes. We have not drawn down any borrowings under the
revolving credit facility since it was established, although it presently has
$210,000 of outstanding Letters of Credit backed by the revolving credit
facility. Amounts outstanding under the Credit Agreement bear interest, at our
option, at Fleet's base rate plus 1.25% or an adjusted Eurodollar rate plus
3.0%.
Due to problems with the Gloria Jean's unit acquired from Coffee People,
including the closure of 39 Gloria Jean's locations, 6 of which were Company
owned, in the year subsequent to the acquisition, we announced on June 29, 2000
that we expected to be in default under our Credit Agreement because of our
inability to meet certain financial covenants. We simultaneously announced that
on June 27, 2000, we entered into a Letter Agreement with Fleet National Bank
under which the bank agreed to extend the due date of the June 30, 2000
quarterly principal payment until July 31, 2000, and to forbear until July 31,
2000 from exercising any of its rights and remedies arising from financial
covenant defaults. We subsequently made the July 31, 2000 principal payment as
required on the extended due date, and on August 17, 2000 we entered into an
extension of the June 27, 2000 Letter Agreement which extended through September
30, 2000 the bank's forbearance from exercising any of its default remedies.
On September 26, 2000, we entered into a First Amendment to Credit
Agreement with Fleet National Bank to amend certain terms of the original Credit
Agreement. The First Amendment to Credit Agreement provides, among other things,
for a significant reduction in required minimum principal amortization payments
going forward, an acceleration in the maturity date of all amounts owed under
the Credit Agreement, an agreement between the parties as to certain assets
intended to be sold as well as the allocation of future net asset sale proceeds
between us and the bank, the introduction of an additional event of default
under the Agreement, a reduction in the overall amount of the revolving credit
facility and certain new restrictions governing use of the facility, and a
modification of the financial covenants and our ability to obtain new third
party debt going forward. The interest rate and the timing of (quarterly)
interest payments under the original Credit Agreement remain unchanged under the
First Amendment to Credit Agreement.
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Specifically, under the terms of the First Amendment to Credit Agreement,
no further principal payments on the term loan were required from August 1, 2000
until January 31, 2001. We began making principal payments of $25,000 per month
starting February 1, 2001, which increased to $100,000 per month beginning July
1, 2001. Continued minimum monthly payments of $100,000 are required until all
amounts owed under the Credit Agreement are repaid. The First Amendment to
Credit Agreement accelerated the final maturity date of all remaining amounts
owed under the credit Agreement to September 1, 2002. In addition, we and the
bank identified certain assets that could be sold without interfering with the
our growth strategy, including two pieces of owned real property under existing
Company retail locations, which will be leased back from the buyer, a third
parcel of owned real property, presently undeveloped, and certain Company
operated coffeehouses outside of our core southern California market that could
be refranchised. Under the terms of the First Amendment to Credit Agreement, the
bank will receive 50% of the net proceeds from any such asset sales. In January
2001, the first two pieces of owned real property were sold in a sale-leaseback
transaction for $415,000, $208,000 of which was remitted to Fleet National Bank.
In May 2001 three Company-operated coffeehouses in Texas were sold for
$1,025,000, of which $448,500 was remitted directly to Fleet National Bank. In
addition, in May 2001, 8,000,000 shares (pre-reverse split) of our common stock
were sold for gross proceeds of $6,000,000. Out of the proceeds received from
this stock issuance, $3,600,000 was remitted to Fleet National Bank. The
proceeds received from all of the asset sales noted above were applied solely to
our note payable principal balance.
The amendment also introduced an additional event of default under the
Agreement. The amendment specified that a materially adverse change in our
financial condition (or of any of our subsidiaries), as determined by the bank
in its sole and exclusive discretion, is defined as an event of default. Under
any event of default, the bank may declare all amounts owed immediately due and
payable. Additional changes to the Credit Agreement under the terms of the First
Amendment to Credit Agreement include a reduction in the revolving credit
facility, which we had previously been unable to access because of the covenant
defaults, from a $3,000,000 limit to $1,293,000 and a restriction that the
reduced facility be used only to back up existing and future standby Letters of
Credit. The First Amendment to Credit Agreement preserves our ability to obtain
third party financing for capital projects and maintenance capital, and
increases our flexibility to obtain subordinated debt as a source of additional
working capital. Under the First Amendment to Credit Agreement the bank waived
the previous financial covenant defaults, and agreed to new financial covenant
ratios going forward based upon updated financial information and projections
prepared by us. In addition to resetting such ratios in the financial covenants
as contained in the original Credit Agreement, the parties agreed to a new
covenant under the First Amendment to Credit Agreement which committed us to
achieving certain minimum levels of cumulative principal repayments in addition
to amounts reflected in the new minimum monthly principal payment obligations
discussed above: $283,333 by March 2001; $708,333 by June 30, 2001; and
$1,619,900 by September 30, 2001. Such incremental principal repayments and the
scheduled minimum monthly amounts described above were generated primarily from
the net proceeds paid to the bank from the above mentioned asset sales and stock
issuance. We met our payment obligation with respect to both the $283,000 that
was due by March 31, 2001 and the $708,000 that was due by June 30, 2001. In
addition, as of June 27, 2001, we had already met our payment obligation with
respect to the $1,619,900 required to be paid by September 30, 2001.
We believe that cash from operations and asset sales will be sufficient to
satisfy our working capital needs at the anticipated operating levels, including
our obligations under our Credit Agreement modified as described above, for the
next twelve months.
EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes
accounting and reporting standards for derivative instruments, including
derivative instruments embedded in other contracts, and hedging activities. We
adopted SFAS 133, as amended by SFAS 137 and SFAS 138, on June 29, 2001 and the
adoption did not have a material impact on our consolidated results of
operations or financial position.
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In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101 ("SAB101") "Revenue Recognition in Financial
Statements." This Staff Accounting Bulletin summarizes certain of the staff
views in applying generally accepted accounting principles to revenue
recognition in financial statements. We adopted SAB101, as amended, in the
fourth fiscal quarter of fiscal 2001. The adoption of SAB101 did not have a
material impact on our consolidated results of operations.
In July 2001, the FASB issued Statement No. 141, "Business Combinations"
and Statement No. 142, "Goodwill and Other Intangible Assets." Statement No. 141
requires that the purchase method of accounting be used for all business
combination initiated after June 30, 2001 as well as all purchase method
business combination completed after June 30, 2001. Statement No. 141 also
specifies criteria intangible assets acquired in a purchase method business
combination must meet to be recognized and reported apart from goodwill.
Statement No. 142 will also require that intangible assets with estimable useful
lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment in accordance with FAS
Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of."
We intend to adopt the provisions of Statement No. 141 and Statement No.
142 in the first quarter of fiscal 2002.
In connection with Statement No. 142's transitional goodwill impairment
evaluation, the Statement will require us to perform an assessment of whether
there is an indication that goodwill is impaired as of the date of adoption. To
accomplish this, we must identify our reporting units and determine the carrying
value of each reporting unit by assigning the assets and liabilities, including
the existing goodwill and intangible assets, to those reporting units as of the
date of adoption. We will then have up to six months from the date of adoption
to determine the fair value of each reporting unit and compare it to the
reporting unit's carrying amount. To the extent a reporting unit's carrying
amount exceeds its fair value, an indication exists that the reporting unit's
goodwill may be impaired and we must perform the second step of the transitional
impairment test. In the second step, we must compare the implied fair value of
the reporting unit's goodwill, determined by allocating the reporting unit's
fair value to all of its assets (recognized and unrecognized) and liabilities in
a matter similar to a purchase price allocation in accordance with Statement No.
141 to its carry amount, both of which would be measured as of the date of
adoption. This second step is required to be completed as soon as possible, but
no later than the end of the year of adoption. Any transitional impairment loss
will be recognized as the cumulative effect of a change in accounting principle
in our statement of operations.
As of the date of adoption, we expect to have unamortized goodwill in the
amount of $12,300,000, all of which will be subject to the transition provisions
of Statement Nos. 141 and 142. The impact in fiscal year 2002 of adopting
Statement No. 142 will be to eliminate amortization of goodwill. Such goodwill
amortization totaled $803,000 for the fiscal year 2001.
OTHER MATTERS
Seasonality and Quarterly Results
Our business is subject to seasonal fluctuations as well as economic trends
that affect retailers in general. Historically, our net sales have not been
realized proportionately in each quarter, with net sales being the highest
during the second fiscal quarter, which includes the December holiday season.
Hot weather tends to reduce sales. Quarterly results are affected by the timing
of the opening of new stores, which may not occur as anticipated due to events
outside our control. As a result of these factors, and of the other
contingencies and risk factors described elsewhere in this report, the financial
results for any individual quarter may not be indicative of the results that may
be achieved in a full fiscal year.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
MARKET RISK SENSITIVE ITEMS ENTERED INTO FOR TRADING PURPOSES
None.
MARKET RISK SENSITIVE ITEMS ENTERED INTO FOR OTHER THAN TRADING PURPOSES
We have exposure to market risk from two primary sources -- interest rate
risk and commodity price risk.
Interest Rate Risk
We are exposed to market risk from changes in interest rates on our
outstanding bank debt. At June 27, 2001, the Company had $5,544,000 in bank debt
that was tied to changes in short term interest rates. At year end, the interest
rate was the "adjusted Eurodollar rate" plus 3%. The rate can be fixed over
periods ranging from one to six months, at the Company's discretion. At June 27,
2001, a hypothetical 100 basis point increase in the adjusted Eurodollar rate
would result in additional interest expense of $55,000 on an annualized basis.
Commodity Price Risk
Green coffee, the principal raw material for our products, is subject to
significant price fluctuations caused by multiple factors, including weather,
political, and economic conditions. To date, we have not used commodity based
financial instruments to hedge coffee or any other commodity. However, to ensure
an adequate supply of coffee, we do enter into agreements to purchase green
coffee in the future that may or may not be fixed as to price. At June 27, 2001,
we had such commitments totaling $2,358,282 (for 1,900,135 pounds of green
coffee), all of which were fixed as to price. These commitments represent
approximately 45% to 50% of our anticipated green coffee requirements for fiscal
2002. We are exposed to price risk on the remaining 50% to 55% of our green
coffee requirements. In theory, assuming we require approximately 2,000,000
additional pounds of green coffee during fiscal 2002 for which no price has yet
been fixed, each $0.01 per pound increase in the price of green coffee could
result in $20,000 of additional cost. However, since the price we pay for green
coffee is negotiated with suppliers, we believe commodity market prices for
coffee would have to increase significantly, as much as $0.25 per pound, before
suppliers would increase prices to us. Further, we believe there will continue
to be a high probability of maintaining a strong correlation between increases
in green coffee prices and the final selling prices of our products.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and supplementary data required by this item are
set forth at the end of this Annual Report on Form 10-K beginning on page F-1.
ITEM 9. CHANGES IN AND DISCUSSIONS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this item is incorporated herein by reference
from the portions of the definitive Proxy Statement captioned "Election of
Directors," "Compensation of Executive Officers," and "Section 16(a) Beneficial
Ownership Reporting Compliance."
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item is incorporated herein by reference
from the portions of the Definitive Proxy Statement captioned "Compensation of
Executive Officers" and "Director Compensation."
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35
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this item is incorporated herein by reference
from the portion of the Definitive Proxy Statement captioned "Security Ownership
of Certain Beneficial Owners and Management."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item is incorporated herein by reference
from the portion of the Definitive Proxy Statement captioned "Certain
Transactions Regarding Diedrich Coffee."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) 1. Financial Statements.
The financial statements required to be filed hereunder are set forth at
the end of this Report beginning on page F-1.
2. Exhibits.
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
2.1 Agreement and Plan of Merger dated as of March 16, 1999, by
and among Diedrich Coffee, CP Acquisition Corp., a wholly
owned subsidiary of Diedrich Coffee, and Coffee People(1)
3.1 Restated Certificate of Incorporation of the Company, dated
May 11, 2001(2)
3.2 Bylaws of the Company(3)
4.1 Purchase Agreement for Series A Preferred Stock dated as of
December 11, 1992 by and among Diedrich Coffee, Martin R.
Diedrich, Donald M. Holly, SNV Enterprises and D.C.H.,
L.P.(3)
4.2 Purchase Agreement for Series B Preferred Stock dated as of
June 29, 1995 by and among Diedrich Coffee, Martin R.
Diedrich, Steven A. Lupinacci, Redwood Enterprises VII, L.P.
and Diedrich Partners I, L.P.(3)
4.3 Specimen Stock Certificate(3)
4.4 Form of Conversion Agreement in the connection with the
conversion of Series A and Series B Preferred Stock into
Common Stock(3)
4.5 Form of Lock-up Letter Agreement among The Second Cup, Ltd.
and Diedrich Coffee, Inc.(4)
4.6 Voting Agreement and Irrevocable Proxy dated as of March 16,
1999 by and among Diedrich Coffee, Inc., D.C.H., L.P., Peter
Churm, Martin R. Diedrich, Lawrence Goelman, Paul C.
Heeschen, John E. Martin, Timothy J. Ryan, and Second Cup
USA Holdings Ltd.(4)
4.7 Registration Rights Agreement, dated May 8, 2001(2)
4.8 Form of Warrant, dated May 8, 2001(2)
10.1 Form of Indemnification Agreement(3)
10.2 Amended and Restated Diedrich Coffee 1996 Stock Incentive
Plan(5)
10.3 Diedrich Coffee 1996 Non-Employee Directors Stock Option
Plan(3)
10.4 Agreement of Sale dated as of February 23, 1996 by and among
Diedrich Coffee (as purchaser) and Brothers Coffee Bars,
Inc. and Brothers Gourmet Coffees, Inc. (as sellers)(3)
10.5 Letter agreement by and between the Company and John E.
Martin appointing Mr. Martin Chairman of the Board, dated as
of November 17, 1997(6)
10.6 Stock Option Plan and Agreement by and between the company
and John E. Martin granting Mr. Martin the option to
purchase up to 850,000 shares of the Common Stock of the
Company, dated as of November 17, 1997(6)
10.7 Common Stock Purchase Agreement by and between the company
and John E. Martin under which Mr. Martin agrees to purchase
333,333 shares of the Common Stock of the Company, dated as
of November 17, 1997(6)
</Table>
34
36
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.8 Employment Agreement by and between the Company and Timothy
J. Ryan retaining Mr. Ryan as Chief Executive Officer, dated
as of November 17, 1997(6)
10.9 Stock Option Plan and Agreement by and between the company
and Timothy J. Ryan granting Mr. Ryan up to 600,000 shares
of the Common Stock of the Company, dated as of November 17,
1997(6)
10.10 Common Stock Purchase Agreement by and between the Company
and Timothy J. Ryan under which Mr. Ryan agrees to purchase
16,667 shares of the Common Stock of the Company, dated as
of November 17, 1997(6)
10.11 Form of Warrant Agreement made in favor of Nuvrty, Inc., the
Ocean Trust and the Grandview Trust(7)
10.12 Form of Common Stock and Option Purchase Agreement with
Franchise Mortgage Acceptance Company dated as of April 3,
1998(8)
10.13 Employment Agreement with Catherine Saar dated June 11,
1998(9)
10.14 Form of Franchise Agreement(10)
10.15 Form of Area Development Agreement(10)
10.16 Form of Employment Agreement with Martin R. Diedrich dated
June 29, 2001*
10.17 Credit Agreement, dated as of July 7, 1999, by and among
BankBoston, N.A., Diedrich Coffee and its subsidiaries(11)
10.18 Security Agreement, dated as of July 7, 1999, by and among
BankBoston, N.A., Diedrich Coffee(11)
10.19 Securities Pledge Agreement, dated as of July 7, 1999, by
and among BankBoston, N.A., Diedrich Coffee and its
subsidiaries(11)
10.20 Trademark Security Agreement, dated as of July 7, 1999, by
and among BankBoston, N.A., Diedrich Coffee and its
subsidiaries(11)
10.21 Form of Term Note made in favor of BankBoston, N.A.(11)
10.22 Form of Revolving Note made in favor of BankBoston, N.A.(11)
10.23 Employment Agreement with Matt McGuinness dated effective
March 13, 2000(12)
10.24 First Amendment to Credit Agreement dated as of September
26, 2000(12)
10.25 Second Amendment to Credit Agreement dated as of February
26, 2001(13)
10.26 Letter Agreement re: employment with J. Michael Jenkins
dated September 22, 2000(12)
10.27 Letter Agreement re: employment with Carl Mount dated
October 29, 1999(14)
10.28 Letter Agreement re: employment with Edward A. Apffel dated
May 25, 2000(14)
10.30 Diedrich Coffee, Inc. 2000 Non-Employee Directors Stock
Option Plan(15)
10.31 Stock Option Plan and Agreement with J. Michael Jenkins,
dated September 22, 2000(16)
10.32 Diedrich Coffee, Inc. 2000 Equity Incentive Plan(16)
10.33 Common Stock and Warrant Purchase Agreement, dated March 14,
2001(17)
21.1 List of Subsidiaries(12)
23.1 The Report on Schedule and Consent of Independent Auditors*
</Table>
---------------
* Filed with this Form 10-K
(1) Previously filed as Appendix A to Diedrich Coffee's Registration Statement
on Form S-4, filed with the Securities and Exchange Commission on April 23,
1999.
(2) Previously filed as an exhibit to Diedrich Coffee's Current Report on Form
8-K, filed with the Securities and Exchange Commission on May 16, 2001.
(3) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-1 (No. 333-08633), as amended, as declared effective by the
Securities and Exchange Commission on September 11, 1996.
35
37
(4) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-4, filed with the Securities and Exchange Commission on April 23,
1999.
(5) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended September 22, 1999, filed with the
Securities and Exchange Commission on November 5, 1999.
(6) Previously filed as an exhibit to Diedrich Coffee's Current Report on Form
8-K, filed with the Securities and Exchange Commission on November 25,
1997.
(7) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended October 29, 1997, filed with the Securities
and Exchange Commission on December 11, 1997.
(8) Previously filed as an exhibit to Diedrich Coffee's Annual Report on Form
10-K for the fiscal year ended January 28, 1998.
(9) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended July 29, 1998, filed with the Securities and
Exchange Commission on September 10, 1998.
(10) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended April 28, 1999, filed with the Securities
and Exchange Commission on December 11, 1998.
(11) Incorporated by reference to Diedrich Coffee's Transition Report on Form
10-Q for the period from January 28, 1999 to June 30, 1999, filed with the
Securities and Exchange Commission on August 16, 1999.
(12) Previously filed as an exhibit to Diedrich Coffee's annual report on Form
10-K for the fiscal year ended June 28, 2000.
(13) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended March 7, 2001, filed with the Securities and
Exchange Commission on April 23, 2001.
(14) Previously filed as an exhibit to Diedrich Coffee's Report on Form 10-Q for
the period ended September 20, 2000, filed with the Securities and Exchange
Commission on November 6, 2000.
(15) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-8, filed with the Securities and Exchange Commission on November
21, 2000.
(16) Previously filed as an exhibit to Diedrich Coffee's Report on Form 10-Q for
the period ended December 13, 2000, filed with the Securities and Exchange
Commission on January 29, 2001.
(17) Previously filed as an exhibit to the Definitive Proxy Statement, filed
with the Securities and Exchange Commission on April 12, 2001.
(b) Reports on Form 8-K.
On May 16, 2001, we filed a Current Report on Form 8-K to report the
completion of the sale of approximately 2,000,000 (post-stock split) shares of
common stock and warrants to purchase an additional 500,000 shares (post-stock
split) of common stock. We also reported therein that a reverse one-for-four
stock split was effected on May 9, 2001.
36
38
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
DIEDRICH COFFEE, INC.
September 25, 2001 By: /s/ J. MICHAEL JENKINS
------------------------------------
J. Michael Jenkins
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<Table>
<Caption>
SIGNATURE TITLE DATE
--------- ----- ----
/s/ PAUL C. HEESCHEN Chairman of the Board of September 25, 2001
------------------------------------------------ Directors
Paul C. Heeschen
/s/ J. MICHAEL JENKINS President and Chief Executive September 25, 2001
------------------------------------------------ Officer (Principal Executive
J. Michael Jenkins Officer)
/s/ MATTHEW MCGUINNESS Executive Vice President and September 25, 2001
------------------------------------------------ Chief Financial Officer
Matthew McGuinness (Principal Financial and
Accounting Officer)
/s/ MARTIN R. DIEDRICH Chief Coffee Officer, Vice September 25, 2001
------------------------------------------------ Chairman of the Board of
Martin R. Diedrich Directors and Secretary
/s/ LAWRENCE GOELMAN Director September 25, 2001
------------------------------------------------
Lawrence Goelman
/s/ PETER CHURM Director September 25, 2001
------------------------------------------------
Peter Churm
</Table>
37
39
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<Table>
<Caption>
PAGE
----
Independent Auditors' Report................................ F-2
Consolidated Balance Sheets................................. F-3
Consolidated Statements of Operations....................... F-4
Consolidated Statements of Stockholders' Equity............. F-5
Consolidated Statements of Cash Flows....................... F-6
Notes to Consolidated Financial Statements.................. F-7
Schedule II -- Valuation and Qualifying Accounts............ F-26
</Table>
F-1
40
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Diedrich Coffee, Inc.:
We have audited the accompanying consolidated balance sheets of Diedrich
Coffee, Inc. and subsidiaries as of June 27, 2001 and June 28, 2000, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the years ended June 27, 2001 and June 28, 2000, the twenty-two weeks
ended June 30, 1999, and the year ended January 27, 1999. 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 auditing standards generally
accepted in the United States of America. 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 Diedrich
Coffee, Inc. and subsidiaries as of June 27, 2001 and June 28, 2000, and the
results of their operations and their cash flows for the years ended June 27,
2001 and June 28, 2000, the twenty-two weeks ended June 30, 1999, and the year
ended January 27, 1999, in conformity with accounting principles generally
accepted in the United States of America.
/s/ KPMG LLP
Orange County, California
September 7, 2001
F-2
41
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
------------ ------------
ASSETS (NOTE 6)
Current assets:
Cash...................................................... $ 3,062,994 $ 2,943,554
Accounts receivable, less allowance for doubtful accounts
of $2,007,388 at June 27, 2001 and $1,137,971 at June
28, 2000................................................ 1,717,515 2,359,015
Inventories (Note 2)...................................... 2,843,224 4,327,011
Assets held for sale (Note 15)............................ 1,694,420 --
Prepaid expenses.......................................... 232,246 382,193
Income taxes receivable................................... -- 16,232
------------ ------------
Total current assets........................................ 9,550,399 10,028,005
Property and equipment, net (Notes 3 and 11)................ 9,364,098 15,455,807
Costs in excess of net assets acquired, net of amortization
of $1,422,700 at June 27, 2001 and $745,309 at June 28,
2000 (Notes 4 and 11)..................................... 12,250,448 14,184,306
Other assets................................................ 726,137 661,736
------------ ------------
Total assets................................................ $ 31,891,082 $ 40,329,854
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current installments of obligations under capital leases
(Note 8)................................................ $ 271,640 $ 390,699
Current installments of long-term debt (Note 6)........... 2,040,354 1,075,000
Accounts payable.......................................... 2,239,091 6,393,029
Accrued compensation...................................... 1,954,589 1,612,572
Accrued expenses (Note 7)................................. 1,140,720 1,926,162
Franchisee deposits....................................... 647,700 662,974
Deferred franchise fee income............................. 704,353 796,500
Provision for store closure............................... 1,371,609 1,386,772
------------ ------------
Total current liabilities................................... 10,370,056 14,243,708
------------ ------------
Obligations under capital leases, excluding current
installments (Note 8)..................................... 716,079 659,865
Long term debt, excluding current installments (Note 6)..... 3,503,147 9,591,667
Deferred rent............................................... 689,183 713,025
------------ ------------
Total liabilities........................................... $ 15,278,465 $ 25,208,265
Stockholders' Equity:
Common stock, $0.01 par value; authorized 8,750,000 shares;
issued and outstanding 5,154,217 shares at June 27, 2001
and 3,154,217 at June 28, 2000............................ 51,542 31,542
Additional paid-in capital.................................. 58,106,337 52,647,039
Accumulated deficit......................................... (41,545,262) (37,556,992)
------------ ------------
Total stockholders' equity................................ 16,612,617 15,121,589
Commitments and contingencies (Notes 8 and 15)............ -- --
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................. $ 31,891,082 $ 40,329,854
============ ============
</Table>
See accompanying notes to consolidated financial statements.
F-3
42
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED
JUNE 27, 2001 JUNE 28, 2000 JUNE 30, 1999 JAN. 27, 1999
------------- ------------- ------------- -------------
Net Revenue:
Retail sales.......................... $46,924,586 $ 48,308,679 $ 8,785,689 $21,248,462
Wholesale and other................... 18,544,815 19,080,791 1,467,555 2,766,741
Franchise revenue..................... 6,770,192 6,812,690 108,913 200,000
----------- ------------ ----------- -----------
Total......................... 72,239,593 74,202,160 10,362,157 24,215,203
----------- ------------ ----------- -----------
Cost and Expenses:
Cost of sales and related occupancy
costs.............................. 35,704,827 38,112,814 4,599,969 10,849,387
Operating expenses.................... 20,826,484 20,670,713 3,794,813 8,887,224
Depreciation and amortization......... 4,444,974 4,330,671 1,211,971 1,941,020
General and administrative expenses... 11,232,244 16,057,679 2,012,860 4,789,561
Provision for asset impairment and
restructuring costs................ 2,867,167 16,370,201 798,551 --
(Gain)/loss on asset disposals........ (173,420) (23,500) 4,543 3,784
----------- ------------ ----------- -----------
Total......................... 74,902,276 95,518,578 12,422,707 26,470,976
----------- ------------ ----------- -----------
Operating loss.......................... (2,662,683) (21,316,418) (2,060,550) (2,255,773)
Interest expense........................ (1,341,709) (1,316,091) (282,937) (384,544)
Interest and other income (expense),
net................................... 52,650 227,501 (2,283) 81,699
----------- ------------ ----------- -----------
Loss before income tax provision........ (3,951,742) (22,405,008) (2,345,770) (2,558,618)
Income tax provision.................... 36,528 18,569 2,800 3,690
----------- ------------ ----------- -----------
Net loss................................ $(3,988,270) $(22,423,577) $(2,348,570) $(2,562,308)
=========== ============ =========== ===========
Net loss per share -- basic and
diluted............................... $ (1.16) $ (7.19) $ (1.52) $ (1.73)
=========== ============ =========== ===========
Weighted average shares
outstanding -- basic and diluted...... 3,436,064 3,119,852 1,543,233 1,483,572
=========== ============ =========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-4
43
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<Table>
<Caption>
COMMON STOCK ADDITIONAL
------------------- PAID-IN- ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
--------- ------- ----------- ------------ ------------
Balance, January 29, 1998...... 1,435,413 $14,354 $16,971,609 $(10,150,496) $ 6,835,467
Common stock issued............ 50,000 500 1,274,500 -- 1,275,000
Exercise of options and
warrants..................... 56,415 564 478,672 -- 479,236
Amortization of options........ -- -- 29,507 (29,507) --
Net loss....................... -- -- -- (2,562,308) (2,562,308)
--------- ------- ----------- ------------ ------------
Balance, January 27, 1999...... 1,541,828 15,418 18,754,288 (12,742,311) 6,027,395
Exercise of options and
warrants..................... 1,556 16 (16) -- --
Amortization of options........ -- -- 17,961 (17,961) --
Warrants issued in connection
with debt (Note 6)........... -- -- 100,542 -- 100,542
Net loss....................... -- -- -- (2,348,570) (2,348,570)
--------- ------- ----------- ------------ ------------
Balance, June 30, 1999......... 1,543,384 15,434 18,872,775 (15,108,842) 3,779,367
Exercise of options and
warrants..................... 3,333 33 38,299 -- 38,332
Acquisition of Coffee People
and proceeds from secondary
offering, net (Note 4)....... 1,607,500 16,075 33,711,392 -- 33,727,467
Amortization of options........ -- -- 24,573 (24,573) --
Net loss....................... -- -- -- (22,423,577) (22,423,577)
--------- ------- ----------- ------------ ------------
Balance, June 28, 2000......... 3,154,217 31,542 52,647,039 (37,556,992) 15,121,589
Exercise of options and
warrants.....................
Amortization of options........
Issuance of stock, net (Note
9)........................... 2,000,000 20,000 5,459,298 -- 5,479,298
Net loss....................... -- -- -- (3,988,270) (3,988,270)
--------- ------- ----------- ------------ ------------
Balance, June 27, 2001......... 5,154,217 $51,542 $58,106,337 $(41,545,262) $ 16,612,617
========= ======= =========== ============ ============
</Table>
See accompanying notes to consolidated financial statements.
F-5
44
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
TWENTY-TWO
YEAR YEAR WEEKS YEAR
ENDED ENDED ENDED ENDED
JUNE 27, JUNE 28, JUNE 30, JAN. 27,
2001 2000 1999 1999
----------- ------------ ----------- -----------
Cash flows from operating activities:
Net loss.................................................. $(3,988,270) $(22,423,577) $(2,348,570) $(2,562,308)
Adjustments to reconcile net loss to cash used in
operating activities:
Depreciation and amortization........................... 4,444,974 4,330,671 1,211,971 1,941,020
Amortization of loan fees............................... 281,156 79,364 -- --
Provision for bad debt.................................. 1,101,992 566,299 2,004 7,304
Provision for asset impairment and restructuring........ 2,867,167 16,370,201 798,551 --
(Gain)/loss on disposal of assets....................... (173,420) (23,500) 4,543 3,784
Early retirement of note payable........................ -- -- 100,542 --
Changes in operating assets and liabilities, net of
acquisitions:
Accounts receivable..................................... (460,492) (410,898) (74,256) (189,327)
Inventories............................................. 1,449,884 485,692 (152,813) 95,683
Prepaid expenses........................................ 149,947 339,715 35,880 (31,600)
Income taxes receivable................................. 16,233 1,454 -- 24,842
Other assets............................................ (315,950) 89,902 (44,965) 12,392
Accounts payable........................................ (4,243,938) 1,668,881 563,258 210,701
Accrued compensation.................................... 342,017 (173,476) (69,469) 165,614
Accrued expenses........................................ (1,140,534) (1,955,796) (158,054) (73,236)
Provision for store closure............................. (412,202) (334,872) -- --
Deferred franchise fees income and franchisee
deposits.............................................. (67,421) 638,323 -- --
Deferred rent........................................... (63,842) 79,292 13,683 47,634
----------- ------------ ----------- -----------
Net cash used in operating activities....................... (212,699) (672,325) (117,695) (347,497)
----------- ------------ ----------- -----------
Cash flows from investing activities:
Capital expenditures for property and equipment........... (1,764,348) (3,422,810) (407,219) (1,675,860)
Proceeds from disposal of property and equipment.......... 1,961,000 107,479 -- 148,785
Issuance of note receivable............................... (35,000) -- (40,000) --
Acquisitions, net of cash acquired........................ -- (21,215,377) (1,039,766) --
----------- ------------ ----------- -----------
Net cash provided by (used in) investing activities......... 161,652 (24,530,708) (1,486,985) (1,527,075)
----------- ------------ ----------- -----------
Cash flows from financing activities:
Proceeds from notes payable............................... -- -- 1,000,000 --
Payments on notes payable................................. -- -- (44,057) --
Payments on long-term debt................................ (5,123,166) (8,475,024) -- --
Payments on capital lease obligations..................... (242,845) (884,493) -- (86,964)
Proceeds from issuance of common stock, net of fees
paid.................................................... 5,536,498 25,350,799 -- 1,275,000
Proceeds from issuance of debt, net of issuance costs..... -- 11,603,181 -- --
Proceeds from stock options exercised..................... -- -- -- 479,236
----------- ------------ ----------- -----------
Net cash provided by financing activities................... 170,487 27,594,463 955,943 1,667,272
----------- ------------ ----------- -----------
Net increase (decrease) in cash............................. 119,440 2,391,430 (648,737) (207,300)
Cash at beginning of year................................... 2,943,554 552,124 1,200,861 1,408,161
----------- ------------ ----------- -----------
Cash at end of year......................................... $ 3,062,994 $ 2,943,554 $ 552,124 $ 1,200,861
=========== ============ =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest................................................ $ 1,252,764 $ 1,038,810 $ 133,313 $ 299,670
=========== ============ =========== ===========
Income Taxes............................................ $ 20,295 $ 18,569 $ 2,800 $ 3,690
=========== ============ =========== ===========
Non-cash transactions
Accrued stock issuance costs............................ $ 57,200 -- -- --
Issuance of common stock to acquire Coffee People....... -- $ 8,415,000 -- --
Equipment purchased under capital leases................ $ 180,000 $ -- $ -- $ 54,127
=========== ============ =========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-6
45
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND PRACTICES
BUSINESS
Diedrich Coffee, Inc. is a specialty coffee roaster, wholesaler, retailer
and franchiser whose brands include Diedrich Coffee, Coffee People, Coffee
Plantation and Gloria Jean's. The Company, as of June 27, 2001, owns and
operates 87 retail locations and is the franchiser of 286 retail locations. The
retail units are located in 37 states and 11 foreign countries. The Company also
has over 400 wholesale accounts with businesses and restaurant chains. In
addition, the Company operates a large coffee roasting facility in central
California that supplies freshly roasted coffee beans to its retail locations
and to its wholesale accounts.
BASIS OF PRESENTATION AND CHANGE IN FISCAL YEAR
The consolidated financial statements include the accounts of Diedrich
Coffee, Inc. and its wholly owned subsidiaries (the "Company"). All significant
intercompany transactions are eliminated. In order to align its fiscal year with
that of Coffee People, Inc. ("Coffee People"), which the Company acquired on
July 7, 1999 (Note 4), the Company changed its fiscal year end from a fiscal
year ending the Wednesday before January 31 to a fiscal year ending the
Wednesday before June 30. Accordingly, the transition period statements of
operations, stockholders' equity and cash flows for the twenty-two weeks ended
June 30, 1999 are not necessarily comparable to the accompanying years ended
June 27, 2001, June 28, 2000 or January 27, 1999 nor are they indicative of a
full year's results of operations.
The unaudited results of operations for the twenty-six weeks ended July 29,
1998 are summarized in the following table:
<Table>
<Caption>
TWENTY-SIX
WEEKS ENDED
JULY 29, 1998
-------------
(UNAUDITED)
Net revenue................................................. $11,952,876
Operating loss.............................................. $(1,326,353)
Interest expense............................................ $ 197,254
Income tax expense.......................................... $ 3,690
Net loss.................................................... $(1,506,891)
Net loss per share, basic and diluted....................... $ (1.04)
</Table>
The unaudited cash flows for the twenty-six weeks ended July 29, 1998 are
summarized in the following table:
<Table>
<Caption>
TWENTY-SIX
WEEKS ENDED
JULY 29, 1998
--------------
(UNAUDITED)
Net cash used in operating activities....................... $ (828,243)
Net cash used in investing activities....................... (811,542)
Net cash provided by financing activities................... 1,233,249
----------
Net decrease in cash........................................ (406,536)
Cash at beginning of period................................. 1,408,161
----------
Cash at end of period....................................... $1,001,625
==========
</Table>
F-7
46
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INVENTORIES
Inventories are stated at the lower of cost or market. The cost for
inventories is determined using the first-in, first-out method.
PROPERTY AND DEPRECIATION
Property and equipment, including assets under capital leases are recorded
at cost. Depreciation is calculated using the straight-line method over
estimated useful lives of five to seven years. Property and equipment held under
capital leases and leasehold improvements are amortized using the straight-line
method over the shorter of their estimated useful lives or the term of the
related leases.
Major remodels and improvements are capitalized. Maintenance and repairs
that do not improve or extend the life of the respective assets are charged to
expense as incurred.
DEFERRED FINANCING COSTS
Costs related to the issuance of debt are deferred and amortized using a
method which approximates the effective interest method as a component of
interest expense over the terms of the respective debt issues.
STORE PRE-OPENING COSTS
Direct and incremental costs prior to the opening of a coffeehouse location
are expensed as incurred.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of cash, accounts receivable, notes receivable, income
tax receivable, accounts payable, accrued compensation and accrued expenses
approximate fair value because of the short-term maturity of these financial
instruments. The Company believes the carrying amount of the Company's long-
term debt approximates fair value because the interest rates on this instrument
is subject to change with market interest rates and other terms and conditions
are consistent with terms currently available to the Company.
RENT EXPENSE
Certain lease agreements provide for scheduled rent increases during the
lease terms or for rental payments commencing on a date other than the date of
initial occupancy. Rent expense is recorded on a straight-line basis over the
respective terms of the leases.
INCOME TAXES
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 carryforwards. 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.
NET INCOME (LOSS) PER COMMON SHARE
"Basic" earnings per share represents net earnings divided by the weighted
average shares outstanding, excluding all potentially dilutive common shares.
"Diluted" earnings per-share, reflects the dilutive effect of all potentially
dilutive common shares.
F-8
47
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
On May 9, 2001, the Company filed an amendment to its certificate of
incorporation that caused each four outstanding shares of its common stock to be
converted into one share of its common stock (see Note 9). All share and per
share amounts have been adjusted for this reverse stock split.
COSTS IN EXCESS OF NET ASSETS ACQUIRED
Costs in excess of net assets acquired are amortized on a straight-line
basis over the expected periods to be benefited. The Company assesses the
recoverability of this intangible asset by determining whether the amortization
of the balance over its remaining life can be recovered through undiscounted
future operating cash flows of the acquired operation. The amount of goodwill
impairment, if any, is measured based on projected discounted future operating
cash flows using a discount rate reflecting the Company's average cost of funds.
The assessment of the recoverability of goodwill will be impacted if estimated
future operating cash flows are not achieved.
Through the year ended June 28, 2000, the Company amortized these costs
over a 40-year period. In connection with the fourth quarter of fiscal year 2000
impairment charge taken against costs in excess of net assets acquired (see Note
11), management changed the related amortization periods from 40 years to 30
years for the Gloria Jean's division and 10 years for both the Coffee People and
Coffee Plantation divisions. Such revised amortization periods, which became
effective in the first quarter of fiscal year 2001, reflect management's best
estimate of the underlying periods of recoverability of the costs in excess of
net assets acquired. The impact of this change in accounting estimate was to
increase fiscal year 2001 goodwill amortization by approximately $454,000.
STOCK OPTION PLANS
The Company applies the intrinsic value-method of accounting prescribed by
Accounting Principals Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees," and related interpretations, in accounting for employee options.
As such, compensation expense would generally be recorded on the date of grant
only if the current market price of the underlying stock exceeded the exercise
price. SFAS No. 123, "Accounting for Stock-Based Compensation," established
accounting and disclosure requirements using a fair value-based method of
accounting for stock-based employee compensation plans. As allowed by SFAS No.
123, the Company has elected to continue to apply the intrinsic value-based
method of accounting described above, and has adopted the disclosure
requirements of SFAS No. 123.
IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF
The Company accounts for long-lived assets in accordance with the
provisions of SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to Be Disposed Of." This Statement requires that
long-lived assets 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 measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Assets to be disposed
of are reported at the lower of the carrying amount or fair value less costs to
sell.
REVENUE RECOGNITION
Retail and wholesale sales are recorded when payment is tendered at point
of sale for retail, and upon shipment of product for wholesale. Initial
franchise fees are recognized when a franchised coffeehouse begins operations,
at which time the Company has performed its obligations related to such fees.
Fees received pursuant to area development agreements, which grant the right to
develop franchised restaurants in future periods in specific geographic areas,
are deferred and recognized on a pro rata basis as the franchised
F-9
48
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
coffeehouses subject to the development agreements begin operations. Both
initial franchise fees and area development fees are collectively referred to as
"Front end fees" in the table below, since each is collected (if applicable)
before the franchised location begins operation, and both types of fees are
nonrefundable. Area development fees typically apply in the case of
international franchise development, whereas initial franchise fees apply
primarily in the case of domestic franchise development. Franchise royalties are
recognized as earned, based upon a percentage of a franchise coffeehouse sales
over time.
The following table details the various components included in franchise
revenue:
<Table>
<Caption>
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
---------- ---------- -------- -----------
Royalties.............................. $5,375,995 $5,428,568 $ 16,913 $ --
Front End Fees......................... 851,528 707,462 92,000 200,000
Other.................................. 542,669 676,660 -- --
---------- ---------- -------- --------
Total.................................. $6,770,192 $6,812,690 $108,913 $200,000
========== ========== ======== ========
</Table>
SHIPPING AND HANDLING COSTS
Shipping and handling costs are included as a component of cost of sales
and related occupancy costs. A corresponding amount is billed to our wholesale
customers, and is included as a component of wholesale and other revenue.
ADVERTISING AND PROMOTION COSTS
Advertising costs are expensed as incurred. Promotion costs, or advertising
events, are charged to expense in the period of the promotional event. During
the years ended June 27, 2001 and June 28, 2000, the twenty-two weeks ended June
30, 1999, and the year ended January 27, 1999, $695,000, $1,355,000, $384,000,
and $583,000, respectively, was charged to operating expenses. Coupons and other
sales discounts are accounted for as reductions of revenue.
STORE CLOSURES
The estimated cost associated with closing under-performing stores is
accrued in the period in which the store is identified for closure by management
under a plan of termination. Such costs primarily include the estimated cost to
terminate a lease.
<Table>
<Caption>
AMOUNTS
FROM CHARGED CASH
BEG BALANCE ACQUISITION TO EXPENSE PAYMENTS END BALANCE
----------- ----------- ---------- --------- -----------
Provision for Store Closure
Year ended June 28, 2000............ $ -- $972,554 $865,867 $(451,649) $1,386,772
Year ended June 27, 2001............ $1,386,772 $ -- $947,394 $(962,557) $1,371,609
</Table>
For the year ended June 27, 2001, amounts charged to expense are included
as components of provision for asset impairment and restructuring costs
($397,039) and cost of sales and related occupancy costs ($550,355). For the
year ended June 28, 2000, amounts charged to expense are included as components
of cost of sales and related occupancy costs.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America 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
F-10
49
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
RECLASSIFICATIONS
Certain reclassifications have been made to prior periods to conform to the
2001 presentation.
2. INVENTORIES
Inventories consist of the following:
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
---------- ----------
Unroasted coffee............................................ $ 716,500 $1,371,009
Roasted coffee.............................................. 733,146 789,816
Accessory and specialty items............................... 316,270 750,667
Other food, beverage and supplies........................... 1,077,308 1,415,519
---------- ----------
$2,843,224 $4,327,011
========== ==========
</Table>
3. PROPERTY AND EQUIPMENT
Property and equipment is summarized as follows:
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
------------ -----------
Land...................................................... $ 190,000 $ 786,000
Buildings................................................. 388,480 745,000
Leasehold improvements.................................... 6,345,027 8,386,504
Equipment................................................. 11,543,738 12,116,252
Furniture and fixtures.................................... 1,011,455 1,197,133
Construction in progress.................................. 165,023 307,089
------------ -----------
19,643,723 23,537,978
Accumulated depreciation and amortization................. (10,279,625) (8,082,171)
------------ -----------
$ 9,364,098 $15,455,807
============ ===========
</Table>
Property held under capitalized leases in the amount of $732,641 and
$552,641 at June 27, 2001 and June 28, 2000, respectively, is included in
equipment. Accumulated amortization of such equipment amounted to $445,804 at
June 27, 2001, and $318,715 at June 28,2000.
4. ACQUISITION OF COFFEE PEOPLE, INC.
On July 7, 1999, the Company acquired Coffee People pursuant to an
Agreement and Plan of Merger. The acquisition was affected through the merger of
CP Acquisition Corp., an indirect wholly owned subsidiary of the Company, with
and into Coffee People. As a result of the acquisition, each share of Coffee
People common stock was converted into the right to receive $2.11 in cash and
0.035 shares of the Company's common stock, resulting in a total of 375,000
shares of Company common stock being issued at a fair value of $8,415,000. At
the time of the acquisition, Coffee People owned 65 retail stores and franchised
253 retail stores in 36 states and 7 foreign countries under the names Gloria
Jean's, Coffee People and Coffee Plantation.
F-11
50
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company, in recording the fair value of assets acquired and liabilities
assumed, has made certain estimates. These estimates consist primarily of
recording property and equipment at estimated fair value. The acquisition has
been accounted for as a purchase.
The assets acquired, including the costs in excess of net assets acquired,
and liabilities assumed in the acquisition of Coffee People are summarized in
the following table.
<Table>
Fair value of tangible assets acquired...................... $ 14,883,493
Costs in excess of net assets acquired...................... 29,743,746
Liabilities assumed at fair value........................... (13,957,096)
Common stock issued......................................... (8,415,000)
------------
Net cash paid for acquisition............................. 22,255,143
Cash acquired in acquisition................................ 1,761,333
------------
Cash paid for acquisition................................. $ 24,016,476
============
</Table>
In conjunction with the transaction, the Company acquired 31 corporate
owned Gloria Jean's stores, of which 14 continue to operate as corporate owned
Gloria Jean's stores, 12 have been sold to Gloria Jean's franchisees, and 5 were
closed as of June 28, 2000. Under the provisions of Emerging Issues Task Force
87-11 Allocation of Purchase Price to Assets to Be Sold, the Company has
excluded the operating results of the 17 stores from the consolidated statement
of operations for the year ended June 28, 2000. The total revenue excluded from
the Company's consolidated statement of operations for the year ended June 28,
2000 totaled $1,654,117, and the related net losses totaled $393,691. Such net
losses have been charged against the reserve for disposal of stores. During the
fourth quarter of the year ended June 28, 2000, the Company decided to keep
seven of the stores that were originally designated to be disposed of. In
accordance with Emerging Issues Task Force 90-6 Accounting for Certain Events
Not Addressed in Issue No. 87-11 Relating to Acquired Operating Unit to Be Sold,
the Company reversed the results of operations of these seven stores out of the
reserve and included the results of operations for the first, second and third
quarter in the consolidated statement of operations for the year ended June 28,
2000. The impact of the reversal on total revenue in the fourth quarter for the
year ended June 28, 2000 was $1,155,101 and the impact on the statement of
operations was an additional net loss of $115,632.
The following table presents selected unaudited pro forma results of
operations for the Company, assuming the Coffee People acquisition had occurred
on July 1, 1998. The unaudited pro forma results of operations do not include
the operating results of the 17 Gloria Jean's Company-owned stores to be closed
or disposed of. The pro forma results of operations are not indicative of the
results of operations of the combined companies that would have occurred had the
acquisition occurred on July 1, 1998, nor are they indicative of future
operating results.
<Table>
<Caption>
FORTY-EIGHT WEEKS
ENDED JUNE 30,
1999
-----------------
Total revenue............................................... $ 77,806,061
Net loss.................................................... $(17,317,405)
Net loss per share -- basic & diluted....................... $ (5.50)
Weighted average shares outstanding -- basic & diluted...... 3,150,733
</Table>
The above pro forma results include the forty-eight weeks ended June 30,
1999 for Diedrich Coffee and fifty-two weeks ended June 26, 1999 for Coffee
People.
F-12
51
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5. NOTE PAYABLE
On April 6, 1999, the Company entered into a $1,000,000 loan agreement and
security agreement with Amre Youness, a former director of the Company. All
outstanding principal was due and payable on April 6, 2000. The loan was secured
by the assets of the Company with interest accruing and paid monthly at prime
rate plus 3%. In connection with the loan agreement, the Company issued warrants
to Mr. Youness to purchase 17,500 shares of the Company's common stock at a
price of $22.50 per share. The fair value of the warrants was estimated to be
$100,000. In connection with the acquisition of Coffee People (note 4), the loan
was repaid on July 8, 1999. As a result of the early repayment, the Company
accelerated amortization of the discount attributable to the warrant fair values
resulting in an approximate $100,000 non-cash charge to interest expense during
the twenty-two weeks ended June 30, 1999.
6. DEBT
Long-term debt consists of the following:
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
---------- -----------
FLEET NATIONAL BANK
Note payable bearing interest at a rate of 7.08% as of June
27, 2001 and payable in monthly installments of $100,000.
Due September 1, 2002. Note is secured by the assets of
the Company and its subsidiaries' stock................... $5,543,501 $10,666,667
Less: current installments.................................. 1,200,000 1,075,000
Less: 50% of proceeds from planned asset sales (Note 15),
which are reflected as current installments............... 840,354 --
---------- -----------
Long-term debt, excluding current installments.............. $3,503,147 $ 9,591,667
========== ===========
</Table>
On July 7, 1999, the Company entered into a Credit Agreement with
BankBoston, N.A. (subsequently merged into Fleet National Bank) secured by
pledges of all of the Company's assets and its subsidiaries' stock and which
provided for a $12 million term loan and a $3 million revolving credit facility.
The term loan provided for principal repayment based upon a five year
amortization, with quarterly principal payments of $666,667 and quarterly
interest payments based upon a formula described below. The Company has not
drawn down any borrowings under the revolving credit facility since it was
established, although it presently has $210,000 of outstanding Letters of Credit
backed by the revolving credit facility. Amounts outstanding under the Credit
Agreement bear interest, at the Company's option, at Fleet's base rate plus
1.25% or an adjusted Eurodollar rate plus 3.0%. At June 27, 2001, the adjusted
Eurodollar rate was 7.08%.
Due to problems with the Gloria Jean's units acquired from Coffee People,
including the closure of 39 Gloria Jean's locations, six of which were Company
operated, in the year subsequent to the acquisition, the Company announced on
June 29, 2000 that it expected to be in default under its Credit Agreement
because of the Company's inability to meet certain financial covenants. The
Company simultaneously announced that on June 27, 2000, it had entered into a
Letter Agreement with Fleet National Bank under which the bank agreed to extend
the due date of the June 30, 2000 quarterly principal payment until July 31,
2000, and to forbear until July 31, 2000 from exercising any of its rights and
remedies arising from financial covenant defaults. The Company subsequently made
the July 31, 2000 principal payment as required on the extended due date, and on
August 17, 2000 it entered into an extension of the June 27, 2000 Letter
Agreement which extended through September 30, 2000 the bank's forbearance from
exercising any of its default remedies.
On September 26, 2000, the Company entered into a First Amendment to Credit
Agreement with Fleet National Bank to amend certain terms of the original Credit
Agreement. The First Amendment to Credit
F-13
52
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Agreement provides, among other things, for a significant reduction in the
required minimum principal amortization payments going forward, an acceleration
in the maturity date of all amounts owed under the Credit Agreement, an
agreement between the parties as to certain assets intended to be sold as well
as the allocation of future net asset sale proceeds between the Company and the
bank, the introduction of an additional event of default under the Agreement, a
reduction in the overall amount of the revolving credit facility and certain new
restrictions governing use of the facility, and a modification of the financial
covenants going forward.
Specifically, under the terms of the First Amendment to Credit Agreement,
no further principal payments on the term loan were required from August 1, 2000
until January 31, 2001. The Company began making principal payments of $25,000
per month starting February 1, 2001, which increased to $100,000 per month
beginning July 1, 2001. Continued minimum monthly payments of $100,000 are
required until all amounts owed under the Credit Agreement are repaid. The First
Amendment to Credit Agreement accelerates the maturity date of all remaining
amounts owed under the credit Agreement to September 1, 2002. In addition, the
Company and the bank identified certain assets that could be sold without
interfering with the Company's growth strategy, including two pieces of owned
real property under existing Company retail locations, a third parcel of owned
real property, presently undeveloped, and certain Company operated coffeehouses
outside of its core southern California market that could be refranchised. Under
the terms of the First Amendment to Credit Agreement, the bank is to receive 50%
of the net proceeds from any such asset sales. In January 2001, the first two
pieces of owned real property were sold in a sale-leaseback transaction for
$415,000, $208,000 of which was remitted to Fleet National Bank. In May 2001
three Company-operated coffeehouses in Texas were sold for $1,025,000, of which
$448,500 was remitted directly to Fleet National Bank. In addition, in May 2001
8,000,000 shares of the Company's common stock were sold for $6,000,000. Out of
the net proceeds received from this stock issuance, $3,600,000 was remitted to
Fleet National Bank The proceeds received from all of the above three sales were
applied solely to the Company's principal note payable balance.
The interest rate and the timing of quarterly interest payments under the
original Credit Agreement remain unchanged under the First Amendment to Credit
Agreement.
The amendment also introduced an additional event of default under the
Agreement. The amendment specifies that a materially adverse change in the
financial condition of the Company (or any of its subsidiaries), as determined
by the bank in its sole and exclusive discretion, is defined as an event of
default. Under any event of default, the bank may declare all amounts owed
immediately due and payable. Additional changes under the terms of the First
Amendment to Credit Agreement include a reduction in the revolving credit
facility, which the Company had previously been unable to access because of the
covenant defaults, from a $3,000,000 limit to $1,293,000, and a restriction that
the reduced facility be used only to back up existing and future standby Letters
of Credit. The First Amendment to Credit Agreement preserves the Company's
ability to obtain third party financing for capital projects and maintenance
capital, and increases its flexibility to obtain subordinated debt as a source
of additional working capital. Under the First Amendment to Credit Agreement the
bank waived the previous financial covenant defaults, and agreed to new
financial covenant ratios going forward based upon updated financial information
and projections prepared by the Company. In addition to resetting such ratios in
the financial covenants as contained in the original Credit Agreement, the
parties agreed to a new covenant under the First Amendment to Credit Agreement
which commits the Company to achieving certain predetermined minimum levels of
cumulative principal repayments in addition to amounts already paid to date in
fiscal 2001 or reflected in the new go forward minimum monthly principal payment
obligations discussed above: $283,333 by March 2001; $708,333 by June 30, 2001;
and $1,619,900 by September 30, 2001. Such incremental principal repayments
(above the scheduled minimum monthly amounts described above) were generated
primarily from the 50% of net proceeds paid to the bank from the above mentioned
asset sales and the issuance of new equity.
F-14
53
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
On September 30, 1997 the Company entered into a promissory note, term loan
agreement and security agreement with Nuvrty, Inc., a Colorado corporation
controlled by Amre Youness, a former director of the Company (the "Nuvrty Loan
Documents"). All outstanding principal and accrued interest was due and payable
on September 30, 2002. The loan was secured by the assets of the Company and
provided for borrowings up to $1,000,000 with interest accruing and paid monthly
at the prime rate plus 3 1/2%. The Company borrowed the full amount under the
loan. In connection with the acquisition of Coffee People (note 4), the Company
repaid the loan on July 8, 1999.
In connection with the Nuvrty Loan Documents, the Company issued a warrant
to Nuvrty to purchase 85,000 shares of the Company's common stock at a price of
$9.00 per share. The warrants are exercisable immediately and expire on
September 30, 2003.
On October 16, 1997 the Company entered into promissory notes, term loan
agreements and security agreements with the Ocean and Grandview Trusts on terms
identical to those entered into with Nuvrty, Inc. The Ocean Trust Loan Documents
and the Grandview Trust Loan Documents provided for borrowing up to $750,000
from each Trust. Interest on advances was payable monthly at the prime rate plus
3%. The Company borrowed $750,000 under each facility. All outstanding principal
and accrued interest was due and payable to each of the Ocean and Grandview
Trusts on October 16, 2002. In connection with the acquisition of Coffee People
(note 4), the Company repaid the long-term debt on July 8, 1999.
In connection with the Ocean Trust Loan Documents and the Grandview Trust
Loan Documents the Company issued warrants to each Trust respectively to
purchase 63,750 shares of the Company's common stock at a price of $9.00 per
share. The warrants are exercisable immediately and expire on the later of
October 16, 2003 or one year following payment in full of the respective loans.
The fair value of the warrants associated with all the above debt was
insignificant.
Maturities of long-term debt for years subsequent to June 27, 2001 are as
follows:
<Table>
<Caption>
FISCAL YEAR
-----------
2002........................................................ $2,040,354
2003........................................................ 3,503,147
----------
Total long-term debt........................................ $5,543,501
==========
</Table>
7. ACCRUED EXPENSES
The following table sets forth details of accrued expenses:
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
---------- ----------
Accrued severance and relocation costs...................... $ 151,264 $ 548,346
Due to franchisee trust accounts............................ 335,511 377,605
Accrued interest............................................ 45,689 239,252
Accrued professional fees................................... 109,725 180,000
Other accrued expenses...................................... 498,531 580,959
---------- ----------
Total accrued expenses...................................... $1,140,720 $1,926,162
========== ==========
</Table>
F-15
54
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth details of accrued severance and relocation:
<Table>
<Caption>
AMOUNTS
CHARGED
FROM TO CASH
BEG BALANCE ACQUISITION EXPENSE PAYMENTS END BALANCE
----------- ----------- --------- ----------- -----------
Accrued severance and
relocation:
Year ended June 28,
2000.................... $ -- $1,254,947 $538,346 $ 1,244,947 $548,346
Year ended June 27,
2001.................... $548,346 $ -- $372,368 $ (769,450) $151,264
</Table>
For the year ended June 27, 2001, amounts charged to expense are included
as components of provision for asset impairment and restructuring costs
($297,891) and general and administrative expenses ($74,477). For the year ended
June 28, 2000, amounts charged to expense are included as components of general
and administrative expenses.
Accrued severance and relocation costs include estimated costs associated
with the relocation of the administrative support center for the Company's
Gloria Jean's division to the Company's home office in Irvine, California,
severance expenses resulting from the elimination of thirty-one administrative
positions, and the closure of certain under-performing Company operated
locations during the fiscal year ended June 27, 2001.
8. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
As of June 27, 2001, the Company leases warehouse and office space in
Irvine, California, Castroville, California, Tempe, Arizona, and Beaverton,
Oregon, as well as 106 retail locations expiring at various dates through
October 2013. The leases for 5 of the coffeehouse locations are guaranteed by an
officer/director of the Company. Certain of the coffeehouse leases require the
payment of property taxes, normal maintenance and insurance on the properties
and additional rents based on percentages of sales in excess of various
specified retail sales levels. Contingent rent expense was insignificant for all
periods presented.
Future minimum lease payments under non-cancelable operating leases and
capital leases as of June 27, 2001 are as follows:
<Table>
<Caption>
NON-CANCELABLE
YEAR ENDING JUNE OPERATING LEASES CAPITAL LEASES
---------------- ---------------- --------------
2002..................................................... $ 4,110,591 $ 392,607
2003..................................................... 3,658,669 274,302
2004..................................................... 3,301,258 223,484
2005..................................................... 2,853,331 179,984
2006..................................................... 2,163,384 92,390
Thereafter............................................... 3,642,957 207,000
----------- ----------
$19,730,190 1,369,767
-----------
Less amount representing interest........................ 382,048
----------
Present value of minimum lease payments (8% to 15%)...... 987,719
Less current installments................................ 271,640
----------
Obligations under capital leases, excluding current
installments........................................... $ 716,079
==========
</Table>
F-16
55
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Rent expense under operating leases approximated $7,034,000, $7,886,000,
$811,000, and $2,070,000 for the years ended June 27, 2001 and June 28, 2000,
for the twenty-two weeks ended June 30, 1999, and for the year ended January 27,
1999, respectively.
PURCHASE COMMITMENTS
As of June 27, 2001, the Company had entered into fixed price purchase
contracts for unroasted coffee aggregating approximately $2,358,282. Such
contracts are generally short-term in nature, and the Company believes that
their cost approximates fair market value.
CONTINGENCIES
In the ordinary course of its business, the Company may become involved in
legal proceedings from time to time. As of September 25, 2001, the Company is
not aware of any pending legal proceedings which in the opinion of management,
based in part on advice from legal counsel, would significantly adversely affect
the Company's financial position or results of operations.
9. STOCKHOLDERS' EQUITY
In June 1995, one executive officer was granted options to purchase 32,838
shares of the Company's common stock at $5.80 per share, the estimated fair
value of the common stock on the grant date. The options became exercisable upon
the occurrence of certain events, including the initial public offering and a
change in control (as defined). In May 1997, the Company and the executive
agreed to terms under which 13,042 options were forfeited and the expiration
date for the remaining 19,796 was changed to March 12, 1999. During the year
ended January 27, 1999, the remaining 19,796 options were exercised.
In July 1996, the Company adopted the 1996 Stock Incentive Plan (the
"Incentive Plan"), which authorized the granting of a variety of stock-based
incentive awards, including incentive and nonstatutory stock options. A total of
193,750 shares have been reserved for issuance under the Incentive Plan. The
stockholders approved at the 1997 annual meeting of stockholders, an increase of
75,000 shares reserved for issuance pursuant to the Incentive Plan. The
Incentive Plan is administered by a committee of the Board of Directors, who
determine the recipients and terms of the awards granted. Under the Incentive
Plan, options to purchase common stock may be granted with an exercise price
below the market value of such stock on the grant date.
In July 1996, the Company adopted the 1996 Non-Employee Directors Stock
Option Plan (the "Directors Plan"), which authorizes the granting of
non-qualified stock options to independent directors. A total of 31,250 shares
have been reserved for issuance under the Directors Plan. Pursuant to the
Directors Plan, each non-employee director receives certain automatic grants of
options, which generally vest over two years. All non-employee director options
have a term of ten years and an exercise price equal to the fair market value of
the Company's common stock on the date of grant.
In August 1996, one executive officer was granted options to purchase
30,000 shares of the Company's common stock at an exercise price equal to the
initial public offering price per share. The options become exercisable as
follows: (a) 25,000 share options vest monthly over three years at the rate of
30% in the first year, 30% in the second year and 40% in the third year, (b)
2,500 share options of which 1,250 options vest immediately upon the
commencement of employment and the remaining 1,250 options vest monthly over the
first six months of employment and (c) 2,500 share options which fully vest 65
days after the commencement of employment. On September 24, 1997 the Company and
the executive agreed to revise the exercise price of these options to $12.00 per
share (the closing price of the Company's stock on that date). In January 1998,
the Company and the executive agreed to terms under which the employee retained
the 15,625 options vested under the foregoing schedule and to grant the right to
an additional 4,375 shares vesting on August 31, 1998.
F-17
56
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The expiration date of these options was changed to November 1, 1998. The
remaining 10,000 options listed on the foregoing schedule were canceled.
On April 25, 1997, the Company's Board of Directors approved the 1997
Non-Employee Director's Stock Option Plan for options for 2,500 shares each were
granted to two non-employee directors. These options have an exercise price of
$11.00, became vested on April 25, 1998 and expire on April 25, 2007.
On November 18, 1997, Mr. John E. Martin joined the Company's Board of
Directors as Chairman. The Company and Mr. Martin entered into an agreement
under which Mr. Martin would be granted the option to purchase 212,500 shares of
the common stock of the Company subject to stockholder approval. Mr. Martin and
the Company also agreed to terms under which Mr. Martin would purchase 83,333
shares at $12.00 per share in the Company pursuant to a private sales of
restricted stock.
On November 18, 1997, Mr. Timothy J. Ryan joined the Company as Diedrich
Coffee's President and Chief Executive Officer. Subject to stockholder approval,
the Company entered into a performance based Stock Option Plan and Agreement
under which Mr. Ryan would be granted the option to purchase up to 150,000
shares of the common stock of the Company and Mr. Ryan would purchase 4,167
shares at $12.00 per share in the Company pursuant to a private sale of
restricted stock.
On January 22, 1998 the stockholders of the Company approved the stock
option plans and agreements with John Martin and Timothy Ryan. On January 28,
1998 Messrs. Martin and Ryan completed their respective private purchases of
Company stock of $1,000,000 and $50,000, respectively.
On March 30, 1998 the Company agreed to a private placement of 50,000
shares of the Company's common stock to Franchise Mortgage Acceptance Company
("FMAC") at a price of $25.50 (the stock's closing sale price for that day on
the Nasdaq National Market). In addition, FMAC also received an option to
purchase 25,000 additional shares of the Company's common stock; this option
could have been exercised in increments of 6,250 shares or more and expired on
April 3, 2000. The exercise prices of this option are as follows: 12,500 shares
are exercisable at $40.00 per share and $50.00 per share respectively. This
transaction was completed on April 3, 1998, at which time Mr. John E. Martin
served as Chairman of Diedrich Coffee, Inc. and served on the Board of Directors
of FMAC.
On July 7, 1999, the Company completed a secondary offering of 1,232,500
shares (including an over-allotment option). All of the shares of common stock
were sold on behalf of the Company, of which 82,500 shares of common stock were
sold pursuant to the exercise of the underwriters' over-allotment option. The
net proceeds of the offering to the Company, after deducting approximately $4.1
million in underwriters' commissions and related expenses, were approximately
$25.4 million.
Effective September 22, 2000, the Company granted J. Michael Jenkins,
Diedrich Coffee's President and Chief Executive Officer, the option to purchase
up to 125,000 shares of the Company's common stock. The options granted to Mr.
Jenkins are exercisable at a price of $7.00 per share, in four equal
installments on each of the first four anniversary dates of September 22, 2000.
On October 20, 2000, the Company's board of directors authorized the
adoption of the Diedrich Coffee 2000 Equity Incentive Plan and the concurrent
discontinuation of option grants under the Company's Amended and Restated 1996
Stock Incentive Plan and the Company's 1996 Non-Employee Directors Stock Option
Plan. A total of 187,500 shares of the Company's common stock may be issued
under the 2000 Equity Incentive Plan.
On October 20, 2000, the Company's board of directors adopted the Diedrich
Coffee, Inc. 2000 Non-Employee Directors Stock Option Plan. This plan provides
for a one-time grant of an option to purchase 2,000 shares of the Company's
common stock to three of its non-employee directors, Messrs. Churm, Goelman and
Heeschen. Each option granted under the 2000 Non-Employee Directors Stock Option
Plan is
F-18
57
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
effective as of October 20, 2000 and has a term of ten years. The options will
vest and become exercisable on October 20, 2001, at an exercise price of $5.36
per share.
On March 14, 2001, the Company's board of directors approved and adopted an
amendment to the certificate of incorporation, subject to stockholder approval,
to increase the authorized number of shares of common stock from 6,250,000 to
8,750,000.
On May 8, 2001, the Company sold 2,000,000 shares of its common stock and
issued warrants to purchase an additional 500,000 shares of common stock. The
net proceeds to the Company from this sale, after deducting approximately
$520,000 in stock issuance costs, were $5,479,000.
On May 9, 2001, the Company filed an amendment to its certificate of
incorporation that caused each four outstanding shares of its common stock to be
converted into one share of its common stock. All share and per share amounts
have been adjusted for this reverse stock split.
Information regarding the Company's stock option plan is summarized below:
<Table>
<Caption>
WEIGHTED
AVERAGE
EXERCISE
OPTIONS PRICE
--------- --------
Number of options authorized for future grant............... 1,500
=========
Outstanding at January 28, 1998............................. 496,046 $21.92
Granted................................................... 77,025 $31.24
Exercised................................................. (41,250) $ 9.04
Forfeited................................................. (17,504) $12.80
---------
Outstanding at January 27, 1999............................. 514,317 $24.68
Granted................................................... 37,500 $23.56
Exercised................................................. (4,375) $12.00
Forfeited................................................. (1,050) $27.28
---------
Outstanding at June 30, 1999................................ 546,392 $24.68
Granted................................................... 158,189 $19.36
Exercised................................................. (3,333) $11.48
Forfeited................................................. (115,642) $27.08
---------
Outstanding at June 28, 2000................................ 585,606 $22.88
Granted................................................... 324,375 $ 5.12
Exercised................................................. -- $ 0.00
Forfeited................................................. (53,056) $20.79
---------
Outstanding at June 27, 2001................................ 856,925 $16.29
=========
Weighted-average fair value of options granted:
Year ended January 27, 1999............................... $ 17.16
Twenty-Two weeks ended June 30, 1999...................... $ 13.40
Year ended June 28, 2000.................................. $ 16.60
Year ended June 27, 2001.................................. $ 4.26
</Table>
F-19
58
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<Table>
<Caption>
OPTIONS
---------
Options exercisable:
At January 27, 1999....................................... 292,288
At June 30, 1999.......................................... 314,911
At June 28, 2000.......................................... 283,745
At June 27, 2001.......................................... 314,587
</Table>
The following table summarizes information about stock options outstanding
on June 27, 2001:
<Table>
<Caption>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------- -------------------------
WEIGHTED WEIGHTED WEIGHTED
NUMBER AVERAGE AVERAGE NUMBER AVERAGE
RANGE OF OUTSTANDING AT REMAINING EXERCISE EXERCISABLE AT EXERCISE
EXERCISE PRICE JUNE 27, 2001 LIFE (YEARS) PRICE JUNE 27, 2001 PRICE
-------------- -------------- ------------ -------- -------------- --------
$ 3.80-$10.99 324,375 9.36 $ 5.12 0 $ 0.00
$11.00-$15.99 221,250 5.95 $14.31 200,539 $14.35
$16.00-$23.99 123,025 7.16 $20.46 91,026 $19.93
$24.00-$35.99 102,025 6.58 $31.08 18,022 $27.69
$36.00-$49.99 86,250 6.32 $39.97 5,000 $39.50
------- ------ ------- ------
856,925 $16.29 314,587 $ 4.26
======= ====== ======= ======
</Table>
Pro forma net loss and pro forma net loss per share, as if the fair
value-based method has been applied in measuring compensation cost for
stock-based awards:
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
----------- ------------ ----------- -----------
PRO FORMA
Net Loss.............................. $(4,911,332) $(23,481,650) $(2,778,604) $(3,082,569)
Basic and diluted loss per share...... $ (1.43) $ (7.53) $ (1.80) $ (2.08)
</Table>
The fair values of the options granted were estimated using the
Black-Scholes option-pricing model based on the following weighted average
assumptions:
<Table>
<Caption>
TWENTY-TWO YEAR
YEAR ENDED YEAR ENDED WEEKS ENDED ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
---------- ---------- ----------- -----------
Risk free interest rate................ 4.82% 6.28% 5.67% 4.5%
Expected Life.......................... 6 years 6 years 6 years 6 years
Expected volatility.................... 182% 72% 48% 53%
Expected dividend yield................ 0% 0% 0% 0%
</Table>
F-20
59
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. INCOME TAXES
The components of the income tax expense are as follows:
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
---------- ---------- ----------- -----------
Current:
Federal...................................... $ -- $ -- $ -- $ --
State........................................ 36,528 18,569 2,800 3,690
------- ------- ------ ------
36,528 18,569 2,800 3,690
------- ------- ------ ------
Deferred:
Federal...................................... -- -- -- --
State........................................ -- -- -- --
------- ------- ------ ------
$36,528 $18,569 $2,800 $3,690
======= ======= ====== ======
</Table>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
and income tax purposes. The significant components of deferred tax assets and
liabilities are as follows:
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
------------ ------------
Deferred tax assets:
Net operating loss carryforwards....................... $ 10,438,581 $ 9,113,494
Intangible assets...................................... 732,321 520,245
Depreciation........................................... 1,251,906 441,563
Property and equipment impairment...................... 1,695,384 2,131,425
Accrued expenses....................................... 1,201,308 642,034
Restructure and store closure accruals................. 462,067 486,664
AMT credit............................................. 27,244 27,244
Other.................................................. 88,918 100,922
------------ ------------
Total gross deferred tax assets.......................... 15,897,729 13,463,591
Less valuation allowance................................. (15,897,729) (13,463,591)
------------ ------------
Deferred tax liabilities................................. -- --
------------ ------------
Net deferred tax assets.................................. $ -- $ --
============ ============
</Table>
F-21
60
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A reconciliation of the statutory Federal income tax rate with the
Company's effective income tax expense (benefit) rate is as follows:
<Table>
<Caption>
YEAR YEAR TWENTY-TWO YEAR
ENDED ENDED WEEKS ENDED ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
-------- -------- ----------- -----------
Federal statutory rate...................... (34.0)% (34.0)% (34.0)% (34.0)%
State income taxes, net of Federal
benefit................................... (5.57) (3.34) (3.74) (1.6)
Goodwill and other non-deductible costs..... (13.0) 2.66 (0.21) (2.8)
Valuation allowance......................... 26.56 34.6 38.07 38.6
----- ----- ----- -----
0.92% 0.08% 0.12% 0.2
===== ===== ===== =====
</Table>
As of June 27, 2001, the Company had net operating loss (NOL) carryforwards
of approximately $28,000,000 and $18,600,000 for Federal and state purposes,
respectively. The Federal NOL is available to offset future federal taxable
income through 2021, and the state NOL is available to offset future state
taxable income through 2006. The utilization of certain NOL carryforwards could
be limited due to restriction imposed under Federal and state laws upon a change
in ownership.
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 projections for future taxable income over the
periods which the deferred tax assets are deductible, management believes that
it is not likely that the Company will realize the benefits of these deductible
differences and thus has recorded a valuation allowance against the entire
deferred tax asset.
11. IMPAIRMENT AND RESTRUCTURING CHARGES
The Company recorded an asset impairment charge of $1,855,000 during its
fourth quarter of fiscal 2001. $1,536,000 of the charge relates to twelve Coffee
Plantation stores located in Phoenix, Arizona, eight of which are classified as
held for sale at June 27, 2001 (see Note 15). The book values of the eight units
held for sale have been written down to reflect the anticipated net proceeds.
The other four locations are planned to be subleased (see Note 15), and the book
values of the stores' assets have been adjusted downward to reflect management's
best estimate of their remaining fair market values. $181,000 of the impairment
charge relates to other assets being held for sale (see Note 15). The charge
reflects management's best estimate of the eventual net proceeds. The remaining
fourth quarter impairment charge of $138,000 represents a reduction in the
carrying value of two underperforming company operated locations, one franchised
location, and the write off of initial development costs of one planned location
which will not be opened. Additionally, the Company recorded a charge of
$232,000 to reflect the net present value of future cash outflows the Company
expects to incur for the remaining lease obligations on the four Arizona
locations which the Company plans to sublease.
The Company recorded a charge of $780,000 during its third quarter of
fiscal 2001 for asset impairment and restructuring costs. This charge included
severance costs of $298,000 associated with the relocation of the administrative
support center for the Company's Gloria Jean's division to its home office in
Irvine, California, plus the elimination of a number of administrative
positions, estimated lease termination costs of $165,000 for the planned closure
of four underperforming Company operated locations during the next twelve
months, and related asset impairment charges of $317,000.
F-22
61
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In the fourth quarter of the year ended June 28, 2000, the Company
evaluated the recoverability of the carrying value of its long-lived assets,
including intangibles of all its divisions. Considerable management judgement is
necessary to estimate future cash flow. As a result of this evaluation, the
Company determined that Gloria Jean's estimated future cash flows were
insufficient to recover the carrying value of certain of Gloria Jean's
long-lived assets. Accordingly, the Company adjusted the carrying value of
Gloria Jean's long-lived assets, primarily costs in excess of net assets
acquired, resulting in a noncash impairment charge of approximately $14,818,000
against costs in excess of net assets acquired and an additional $343,000
against property and equipment. The Company also recorded an impairment charge
for its Diedrich Coffee division in the amount of $423,000 and for its Coffee
People and Coffee Plantation divisions in the amount of $786,000. Total asset
impairment charges recorded in the fourth quarter of the year ended June 28,
2000 were $16,370,000.
12. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted loss
per share:
<Table>
<Caption>
TWENTY-TWO
YEAR ENDED YEAR ENDED WEEKS ENDED YEAR ENDED
JUNE 27, JUNE 28, JUNE 30, JANUARY 27,
2001 2000 1999 1999
----------- ------------ ----------- -----------
NUMERATOR:
Net loss.............................. $(3,988,270) $(22,423,577) $(2,348,570) $(2,562,308)
=========== ============ =========== ===========
DENOMINATOR:
Basic weighted average common shares
outstanding........................ 3,436,064 3,119,852 1,543,233 1,483,572
Effect of dilutive securities......... -- -- -- --
----------- ------------ ----------- -----------
Diluted weighted average common shares
outstanding........................ 3,436,064 3,119,852 1,543,233 1,483,572
=========== ============ =========== ===========
Basic and diluted loss per share........ $ (1.16) $ (7.19) $ (1.52) $ (1.73)
</Table>
For the years ended June 27, 2001 and June 28, 1000, the twenty-two weeks
ended June 30, 1999, and the year ended January 27, 1999, employee stock options
of 856,925, 585,606, 546,392, 514,317, respectively, and warrants of 730,000,
230,000, 230,000, and 212,500 (as described in notes 5, 6, and 9), were not
included in the computation of diluted earnings per share as their impact would
have been anti-dilutive.
13. SEGMENT INFORMATION
The Company has three reportable segments which include retail operations,
wholesale operations and franchise operations. The Company evaluates performance
of its operating segments based on income before provision for asset impairment
and restructuring costs, income taxes, interest expense, depreciation and
amortization, and general and administrative expenses.
Summarized financial information concerning the Company's reportable
segments is shown in the following table. The other total assets consist of
corporate cash, costs in excess of net assets acquired and corporate property,
plant and equipment. The other component of segment profit before tax includes
corporate
F-23
62
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
general and administrative expenses, provision for asset impairment and
restructuring costs, depreciation and amortization expense and interest expense.
<Table>
<Caption>
RETAIL WHOLESALE FRANCHISE
OPERATIONS OPERATIONS OPERATIONS OTHER TOTAL
----------- ----------- ---------- ------------ -----------
YEAR ENDED JUNE 27, 2001
Total Revenue............... $46,924,586 $18,544,815 $6,770,192 $ -- $72,239,593
Interest expense............ 65,065 -- 90,430 1,186,214 1,341,709
Depreciation and
amortization.............. 2,639,234 677,699 307,697 820,344 4,444,974
Segment profit (loss) before
tax....................... 3,008,014 3,403,496 5,235,596 (15,598,848) (3,951,742)
Total assets as of June 27,
2001...................... $ 9,915,702 $ 3,680,563 $ 350,331 $ 17,944,486 $31,891,082
YEAR ENDED JUNE 28, 2000
Total Revenue............... $48,308,679 $19,080,791 $6,812,690 $ -- $74,202,160
Interest expense............ 63,928 -- 142,729 1,109,434 1,316,091
Depreciation and
amortization.............. 2,238,234 668,691 745,309 678,437 4,330,671
Segment profit (loss) before
tax....................... 4,258,544 2,796,386 4,505,925 (33,965,863) (22,405,008)
Total assets as of June 28,
2000...................... $13,679,086 $ 2,139,241 $ 549,713 $ 23,961,814 $40,329,854
TWENTY-TWO WEEKS ENDED JUNE
30, 1999
Total Revenue............... $ 8,785,689 $ 1,467,555 $ 108,913 $ -- $10,362,157
Interest expense............ 30,050 -- -- 252,887 282,937
Depreciation and
amortization.............. 1,000,016 59,907 -- 152,048 1,211,971
Segment profit (loss) before
tax....................... 967,614 (228,251) 108,913 (3,194,046) (2,345,770)
YEAR ENDED JANUARY 27, 1999
Total Revenue............... $21,248,462 $ 2,766,741 $ 200,000 $ -- $24,215,203
Interest expense............ 81,391 -- -- 303,153 384,544
Depreciation and
amortization.............. 1,491,510 115,747 -- 333,763 1,941,020
Segment profit (loss) before
tax....................... 2,827,708 (237,765) 200,000 (5,348,561) (2,558,618)
</Table>
F-24
63
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
The quarterly results of operations for the years ended June 27, 2001 and
June 28, 2000 were as follows:
<Table>
<Caption>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Year Ended June 27, 2001:
Total revenue....................................... $16,872 $19,400 $15,838 $ 20,130
Operating income (loss)............................. (763) 532 (305) (2,127)
Net (loss) income................................... (1,112) 164 (632) (2,408)
Net income (loss) per share......................... (0.36) 0.04 (0.20) (0.59)
Year Ended June 28, 2000:
Total revenue....................................... $16,199 $19,046 $16,670 $ 22,288
Operating income (loss)............................. (169) 922 324 (22,393)
Net (loss) income................................... (389) 599 79 (22,713)
Net income (loss) per share......................... (0.12) 0.20 0.04 (7.20)
</Table>
Quarterly operating results are not necessarily representative of
operations for a full year for various reasons, including seasonal nature of our
business, which may affect sales volume and food costs. For the years ended June
27, 2001 and June 28, 2000, all quarters have 12 week accounting periods, except
the fourth quarter, which has a 16 week accounting period.
The Company recorded asset impairment charges of $2,087,000 and $16,370,000
during the fourth quarters of the years ended June 27, 2001 and June 28, 2000,
respectively (see note 11).
15. ASSETS HELD FOR SALE
During June 2001, the Company entered into a letter of intent to sell eight
of our coffeehouses in Phoenix, Arizona, along with related intangible assets
including the "Coffee Plantation" trademarks and tradename. Under the terms of
the sale, which is anticipated to close before the end of October 2001, the
buyers will also assume operation of four additional coffeehouses on a sublease
basis, with an option to purchase them in the future at a predetermined price.
Other terms of the transaction include the right for the Company to continue
using the Coffee Plantation trademarks on a royalty-free basis for our five
remaining Company operated Coffee Plantation locations. The buyers will also
execute a long term exclusive supply agreement which provides, among other
things, that we will be their wholesale supplier of roasted coffee for the units
noted above (and any other new Coffee Plantation units they may acquire or
develop during the term of the agreement), and committing the buyers to certain
minimum levels of coffee purchases annually.
All of the net assets relating to these stores have been reclassified to
Assets Held for Sale as of June 27, 2001. In addition, Assets Held for Sale
includes a piece of land located in Oregon, which the Company currently has for
sale.
<Table>
<Caption>
JUNE 27, JUNE 28,
2001 2000
---------- --------
Phoenix assets held for sale................................ $1,534,420 $ --
Oregon assets held for sale................................. 160,000 --
---------- ----
Total assets held for sale.................................. $1,694,420 $ --
========== ====
</Table>
F-25
64
DIEDRICH COFFEE, INC. AND SUBSIDIARIES
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
<Table>
<Caption>
ADDITIONAL
BALANCE AT PROVISIONS BALANCE AT
BEGINNING OF OBTAINED IN ACCOUNTS END OF
PERIOD PROVISIONS ACQUISITIONS WRITTEN OFF PERIOD
------------ ---------- ------------ ----------- ----------
ALLOWANCE FOR BAD DEBT:
Year ended January 27, 1999.... $ 22,134 $ 7,304 $ -0- $ -0- $ 29,438
========== ========== ========== ========= ==========
Twenty-two weeks ended June 30,
1999........................ $ 29,438 $ 2,004 $ -0- $ -0- $ 31,442
========== ========== ========== ========= ==========
Year ended June 28, 2000....... $ 31,442 $ 566,299 $1,313,661 $(773,431) $1,137,971
========== ========== ========== ========= ==========
Year ended June 27, 2001....... $1,137,971 $1,101,992 $ -0- $(232,575) $2,007,388
========== ========== ========== ========= ==========
</Table>
F-26
65
DIEDRICH COFFEE, INC.
INDEX TO EXHIBITS
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
2.1 Agreement and Plan of Merger dated as of March 16, 1999, by
and among Diedrich Coffee, CP Acquisition Corp., a wholly
owned subsidiary of Diedrich Coffee, and Coffee People(1)
3.1 Restated Certificate of Incorporation of the Company, dated
May 11, 2001(2)
3.2 Bylaws of the Company(3)
4.1 Purchase Agreement for Series A Preferred Stock dated as of
December 11, 1992 by and among Diedrich Coffee, Martin R.
Diedrich, Donald M. Holly, SNV Enterprises and D.C.H.,
L.P.(3)
4.2 Purchase Agreement for Series B Preferred Stock dated as of
June 29, 1995 by and among Diedrich Coffee, Martin R.
Diedrich, Steven A. Lupinacci, Redwood Enterprises VII, L.P.
and Diedrich Partners I, L.P.(3)
4.3 Specimen Stock Certificate(3)
4.4 Form of Conversion Agreement in the connection with the
conversion of Series A and Series B Preferred Stock into
Common Stock(3)
4.5 Form of Lock-up Letter Agreement among The Second Cup, Ltd.
and Diedrich Coffee, Inc.(4)
4.6 Voting Agreement and Irrevocable Proxy dated as of March 16,
1999 by and among Diedrich Coffee, Inc., D.C.H., L.P., Peter
Churm, Martin R. Diedrich, Lawrence Goelman, Paul C.
Heeschen, John E. Martin, Timothy J. Ryan, and Second Cup
USA Holdings Ltd.(4)
4.7 Registration Rights Agreement, dated May 8, 2001(2)
4.8 Form of Warrant, dated May 8, 2001(2)
10.1 Form of Indemnification Agreement(3)
10.2 Amended and Restated Diedrich Coffee 1996 Stock Incentive
Plan(5)
10.3 Diedrich Coffee 1996 Non-Employee Directors Stock Option
Plan(3)
10.4 Agreement of Sale dated as of February 23, 1996 by and among
Diedrich Coffee (as purchaser) and Brothers Coffee Bars,
Inc. and Brothers Gourmet Coffees, Inc. (as sellers)(3)
10.5 Letter agreement by and between the Company and John E.
Martin appointing Mr. Martin Chairman of the Board, dated as
of November 17, 1997(6)
10.6 Stock Option Plan and Agreement by and between the company
and John E. Martin granting Mr. Martin the option to
purchase up to 850,000 shares of the Common Stock of the
Company, dated as of November 17, 1997(6)
10.7 Common Stock Purchase Agreement by and between the company
and John E. Martin under which Mr. Martin agrees to purchase
333,333 shares of the Common Stock of the Company, dated as
of November 17, 1997(6)
10.8 Employment Agreement by and between the Company and Timothy
J. Ryan retaining Mr. Ryan as Chief Executive Officer, dated
as of November 17, 1997(6)
10.9 Stock Option Plan and Agreement by and between the company
and Timothy J. Ryan granting Mr. Ryan up to 600,000 shares
of the Common Stock of the Company, dated as of November 17,
1997(6)
10.10 Common Stock Purchase Agreement by and between the Company
and Timothy J. Ryan under which Mr. Ryan agrees to purchase
16,667 shares of the Common Stock of the Company, dated as
of November 17, 1997(6)
10.11 Form of Warrant Agreement made in favor of Nuvrty, Inc., the
Ocean Trust and the Grandview Trust(7)
10.12 Form of Common Stock and Option Purchase Agreement with
Franchise Mortgage Acceptance Company dated as of April 3,
1998(8)
10.13 Employment Agreement with Catherine Saar dated June 11,
1998(9)
</Table>
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66
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.14 Form of Franchise Agreement(10)
10.15 Form of Area Development Agreement(10)
10.16 Form of Employment Agreement with Martin R. Diedrich dated
June 29, 2001*
10.17 Credit Agreement, dated as of July 7, 1999, by and among
BankBoston, N.A., Diedrich Coffee and its subsidiaries(11)
10.18 Security Agreement, dated as of July 7, 1999, by and among
BankBoston, N.A., Diedrich Coffee(11)
10.19 Securities Pledge Agreement, dated as of July 7, 1999, by
and among BankBoston, N.A., Diedrich Coffee and its
subsidiaries(11)
10.20 Trademark Security Agreement, dated as of July 7, 1999, by
and among BankBoston, N.A., Diedrich Coffee and its
subsidiaries(11)
10.21 Form of Term Note made in favor of BankBoston, N.A.(11)
10.22 Form of Revolving Note made in favor of BankBoston, N.A.(11)
10.23 Employment Agreement with Matt McGuinness dated effective
March 13, 2000(12)
10.24 First Amendment to Credit Agreement dated as of September
26, 2000(12)
10.25 Second Amendment to Credit Agreement dated as of February
26, 2001(13)
10.26 Letter Agreement re: employment with J. Michael Jenkins
dated September 22, 2000(12)
10.27 Letter Agreement re: employment with Carl Mount dated
October 29, 1999(14)
10.28 Letter Agreement re: employment with Edward A. Apffel dated
May 25, 2000(14)
10.30 Diedrich Coffee, Inc. 2000 Non-Employee Directors Stock
Option Plan(15)
10.31 Stock Option Plan and Agreement with J. Michael Jenkins,
dated September 22, 2000(16)
10.32 Diedrich Coffee, Inc. 2000 Equity Incentive Plan(16)
10.33 Common Stock and Warrant Purchase Agreement, dated March 14,
2001(17)
21.1 List of Subsidiaries(12)
23.1 The Report on Schedule and Consent of Independent Auditors*
</Table>
---------------
* Filed with this Form 10-K
(1) Previously filed as Appendix A to Diedrich Coffee's Registration Statement
on Form S-4, filed with the Securities and Exchange Commission on April 23,
1999.
(2) Previously filed as an exhibit to Diedrich Coffee's Current Report on Form
8-K, filed with the Securities and Exchange Commission on May 16, 2001.
(3) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-1 (No. 333-08633), as amended, as declared effective by the
Securities and Exchange Commission on September 11, 1996.
(4) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-4, filed with the Securities and Exchange Commission on April 23,
1999.
(5) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended September 22, 1999, filed with the
Securities and Exchange Commission on November 5, 1999.
(6) Previously filed as an exhibit to Diedrich Coffee's Current Report on Form
8-K, filed with the Securities and Exchange Commission on November 25,
1997.
(7) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended October 29, 1997, filed with the Securities
and Exchange Commission on December 11, 1997.
(8) Previously filed as an exhibit to Diedrich Coffee's Annual Report on Form
10-K for the fiscal year ended January 28, 1998.
(9) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended July 29, 1998, filed with the Securities and
Exchange Commission on September 10, 1998.
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67
(10) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended April 28, 1999, filed with the Securities
and Exchange Commission on December 11, 1998.
(11) Incorporated by reference to Diedrich Coffee's Transition Report on Form
10-Q for the period from January 28, 1999 to June 30, 1999, filed with the
Securities and Exchange Commission on August 16, 1999.
(12) Previously filed as an exhibit to Diedrich Coffee's annual report on Form
10-K for the fiscal year ended June 28, 2000.
(13) Previously filed as an exhibit to Diedrich Coffee's Quarterly Report on
Form 10-Q for the period ended March 7, 2001, filed with the Securities and
Exchange Commission on April 23, 2001.
(14) Previously filed as an exhibit to Diedrich Coffee's Report on Form 10-Q for
the period ended September 20, 2000, filed with the Securities and Exchange
Commission on November 6, 2000.
(15) Previously filed as an exhibit to Diedrich Coffee's Registration Statement
on Form S-8, filed with the Securities and Exchange Commission on November
21, 2000.
(16) Previously filed as an exhibit to Diedrich Coffee's Report on Form 10-Q for
the period ended December 13, 2000, filed with the Securities and Exchange
Commission on January 29, 2001.
(17) Previously filed as an exhibit to the Definitive Proxy Statement, filed
with the Securities and Exchange Commission on April 12, 2001.
S-3