Note 21 — Acquisitions and Divestitures

Acquisition of Krispy Kreme Shops

On April 23, 2015, we entered into several legal arrangements with a franchisee, which included an asset purchase agreement and management agreement, whereby we agreed to operate the franchisee's Krispy Kreme shop in Little Rock, Arkansas as a Company store. We paid $312,000 in cash for specific assets of the shop and have accounted for the transaction as the acquisition of a business. The acquired shop had fiscal 2015 sales of approximately $2.7 million. The allocation of the purchase price was as follows: $252,000 to property and equipment, $27,000 to inventory, $137,000 to reacquired franchise rights and $104,000 to a liability, related to a lease that included an unfavorable term compared to the market, which will be amortized over the remaining life of the lease agreement. Our results of operations, computed on a pro forma basis assuming the acquisition had been consummated at the beginning of the current and prior year periods, are not materially different from our historical results of operations and, accordingly, have been omitted. The acquired business's revenues and earnings for periods subsequent to the acquisition are not material to our consolidated financial statements.

On June 17, 2014, we acquired the business and operating assets of our franchisee in Birmingham, Alabama, consisting of four Krispy Kreme shops that had fiscal 2014 sales of approximately $9 million. The acquired assets also include the seller's franchise rights for 13 counties in Alabama. The total consideration was approximately $7.5 million cash. In connection with the acquisition, we entered into leases with the seller for three of the shops and assumed a lease with an unrelated party on the fourth shop.

We recorded charges to earnings related to the acquisition of $431,000 in the quarter ended August 3, 2014. The charges include $343,000 for the settlement of the pre-existing franchise contract between us and the franchisee, certain terms of which were unfavorable, from our point of view, to current market terms. The charge was determined by discounting to present value as of the acquisition date the excess of royalties on the acquired business's sales at our current prevailing royalty rates over the lower royalties otherwise payable by the former franchisee pursuant to the terminated franchise agreement. The discount rate used reflected both the time value of money and the level of risk associated with achievement of the related cash flows. We also expensed transaction costs related to the acquisition of $88,000.

The cost of the acquired business was allocated as follows:

	(In thousands)
Purchase price allocated to:
Working capital, exclusive of cash	$	(5	)
Property and equipment		710
Reacquired franchise rights associated with the Company Stores segment		3,853
Goodwill associated with the Company Stores segment		2,594
	$	7,152

Amounts allocated to reacquired franchise rights are being amortized by charges to earnings on a straight-line basis through March 2020, which was the expiration date of the terminated franchise agreement. All of the goodwill recognized in the acquisition for financial reporting purposes is expected to be deductible for income tax purposes.

The results of operations of the acquired business subsequent to the acquisition had no material effect on our consolidated results of operations. Our results of operations for the year ended February 2, 2014, computed on a pro forma basis assuming the acquisition had been consummated at the beginning of those periods, would not be materially different from our historical results of operations and, accordingly, have been omitted.

In December 2013, we acquired the land, building and doughnut-making equipment at a facility in Illinois that had fiscal 2014 sales of approximately $3 million. The aggregate purchase price for the facility was approximately $1.6 million cash, all of which was allocated to property and equipment. The facility was being operated as a Krispy Kreme shop pursuant to a management agreement approved by us between the facility's former owner and one of our franchisees. The management agreement was terminated in connection with our acquisition of the facility, and was replaced by an operating agreement between us and the franchisee. Pursuant to the operating agreement, we agreed to permit the franchisee to continue to operate the facility for its account through June 2014 in exchange for monthly rental payments, and the payment of amounts based on the facility's sales equivalent to the amounts that would be payable to us if the facility were subject to a franchise agreement. We assumed operation of the facility for our own account in July 2014. Our results of operations for the year ended February 2, 2014, computed on a pro forma basis assuming the acquisition had been consummated at the beginning of those periods, would not be materially different from our historical results of operations and, accordingly, have been omitted.

Acquisition of Franchise Rights

In fiscal 2016, we acquired the franchise rights to develop certain CPG channels of trade from certain of our franchisees for approximately $1.6 million. These transactions represented business acquisitions and the purchase price of each transaction has been allocated to reacquired franchise rights. These reacquired franchise rights will be amortized over the terms of the reacquired franchise agreements.

Asset Divestitures

On September 9, 2014, we refranchised our retail shop in Rockville, Maryland to a new franchisee for approximately $1.8 million cash. We realized a gain of $1.2 million on the refranchising transaction. The refranchising included the execution of a development agreement pursuant to which the new franchisee has agreed to develop an additional 20 retail Krispy Kreme shops in Virginia, Washington, DC and Maryland over the next seven years.

On July 11, 2013, we refranchised three Company-owned stores in the Dallas market to a new franchisee. The aggregate purchase price for the assets was $681,000 cash. The three stores had total sales of approximately $7.0 million in fiscal 2013, of which approximately 45% represented CPG sales. The franchise agreements with the new franchisee did not include CPG sales rights. We recorded a gain of $876,000 on the refranchising transaction. The gain includes approximately $462,000 related to the sale of equipment, and approximately $414,000 related to the reversal of accrued rent expense related to a store lease assigned to the franchisee where we were relieved of the primary lease obligation. We leased the other two stores, which we owned, to the franchisee. In connection with the refranchising, we executed a development agreement with the franchisee to develop 15 additional Krispy Kreme locations in the market through fiscal 2019. In October 2014, the franchisee purchased from us the two stores it previously leased for $2.1 million cash, which approximated the properties' aggregate carrying value.

On February 22, 2013, we refranchised three stores in the Kansas/Missouri market to a new franchisee who was a former employee of ours. We closed a fourth store in the market in January 2013 in anticipation of the transaction. The aggregate purchase price of the assets was approximately $1.1 million, evidenced by a 7% promissory note payable in installments equal to 3.5% of the stores' sales beginning in February 2013. The four stores had total sales of approximately $9 million in fiscal 2013. We did not record a significant gain or loss on this refranchising transaction. This promissory note was paid in full during fiscal 2016.

On September 27, 2012, we sold to one of our franchisees the leasehold interests and certain other assets, including rights under franchise agreements, of three Krispy Kreme stores operated by the franchisee. We acquired the leasehold interests and other assets related to the three stores from the franchisee in August 2006 for $2.9 million cash. After our acquisition of the assets, the franchisee continued to operate the stores for its own account pursuant to an operating agreement between us and the franchisee. The aggregate purchase price of the three stores and the related assets in the September 2012 transaction was approximately $3.6 million, of which approximately $360,000 was paid in cash at closing. The balance of the purchase price was evidenced by a promissory note in the approximate amount of $3.2 million, payable in monthly installments of approximately $51,000, including interest, beginning in November 2012, and a final installment of the remaining principal balance on October 1, 2017. The carrying value of the divested assets was approximately $1.9 million. Because the initial investment made by the franchisee to acquire the assets was less than the 20% minimum amount of the purchase price required by GAAP to recognize a gain on the sale, we initially deferred recognition of the $1.7 million gain, and such deferred gain was reflected as a reduction in the carrying value of the note receivable. Subsequently, we reported the principal and interest payments received from the franchisee as a reduction of the carrying value of the note. During the third quarter of fiscal 2014, the cumulative investment made by the franchisee to acquire the assets first exceeded the required 20% of the purchase price and, accordingly, we recognized the deferred gain of $1.7 million. In addition, coincident with the recognition of the deferred gain, we recognized approximately $210,000 of interest income for interest payments received from the franchisee which initially were reported as a reduction in the carrying value of the note.