10-Q 1 form10-q.htm

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2018

 

OR

 

[  ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission file number 001-38250

 

 

FAT Brands Inc.

(Exact name of registrant as specified in its charter)

 

Delaware   08-2130269

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

9720 Wilshire Blvd., Suite 500

Beverly Hills, CA 90212

(Address of principal executive offices, including zip code)

 

(310) 402-0600

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [  ]

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [  ]

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer [  ] Accelerated filer [  ]
       
Non-accelerated filer [  ] (Do not check if a smaller reporting company) Smaller reporting company [X]
       
Emerging growth company [X]    

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [X]

 

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes [  ] No [X]

 

As of November 13, 2018, there were 11,529,891 shares of common stock outstanding.

 

 

 

   
 

 

FAT BRANDS INC.

QUARTERLY REPORT ON FORM 10-Q

September 30, 2018

 

TABLE OF CONTENTS

 

PART I. FINANCIAL INFORMATION  
Item 1. Financial Statements (Unaudited) 1
     
  FAT Brands Inc. and Subsidiaries:  
  Consolidated Balance Sheets 1
  Consolidated Statements of Operations 2
  Consolidated Statement of Stockholders’ Equity 3
  Consolidated Statement of Cash Flows 4
  Notes to Consolidated Financial Statements 5
     
  Fatburger North America:  
  Balance Sheets 29
  Statements of Operations 30
  Statement of Stockholder’s Equity 31
  Statements of Cash Flows 32
  Notes to Financial Statements 33
     
  Buffalo’s Franchise Concept Inc. and Subsidiary  
  Consolidated Balance Sheets 40
  Consolidated Statements of Operations 41
  Consolidated Statement of Stockholder’s Equity 42
  Consolidated Statements of Cash Flows 43
  Notes to Consolidated Financial Statements 44
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 52
Item 3. Quantitative and Qualitative Disclosures About Market Risk 66
Item 4. Controls and Procedures 67
     
PART II. OTHER INFORMATION  
Item 1. Legal Proceedings 67
Item 1A. Risk Factors 68
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 69
Item 3. Defaults Upon Senior Securities 70
Item 4. Mine Safety Disclosures 70
Item 5. Other Information 70
Item 6. Exhibits 71
     
SIGNATURES 72

 

   
 

 

PART I — FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS (Unaudited)

 

FAT BRANDS INC.

CONSOLIDATED BALANCE SHEETS

(dollars in thousands, except share data)

 

    September 30, 2018   December 31, 2017
      (Unaudited)       (Audited)  
Assets                
Current assets                
Cash   $ 1,859     $ 32  
Accounts receivable, net of allowance for doubtful accounts of $689 and $679, respectively     2,230       918  
Trade notes receivable, net of allowance for doubtful accounts of $17       83       77  
Other current assets     774       153  
Total current assets     4,946       1,180  
                 
Notes receivable – noncurrent, net of allowance for doubtful accounts of $17     2,461       346  
Due from affiliates     12,998       7,963  
Deferred income taxes     1,771       937  
Goodwill     8,110       7,356  
Other intangible assets, net     21,867       11,011  
Other assets     404       7  
Buffalo’s creative and advertising fund     -         436  
Total assets   $ 52,557     $ 29,236  
                 
Liabilities and Stockholders’ Equity                
Liabilities                
Accounts payable   $ 3,352     $ 2,439  
Deferred income     1,136       1,772  
Accrued expenses     2,507       1,761  
Accrued advertising     164       348  
Accrued interest payable     671       405  
Dividend payable on mandatorily redeemable preferred shares     321       -  
Current portion of long-term debt     55       -  
Total current liabilities     8,206       6,725  
                 
Deferred income - noncurrent     6,638       1,941  
Long-term debt, net     14,938       -  
Mandatorily redeemable preferred shares, net     14,175       -  
Deferred dividend payable on mandatorily redeemable preferred shares     126       -  
Notes payable to FCCG     -         18,125  
Buffalo’s creative and advertising fund-contra     -         436  
Total liabilities     44,083       27,227  
                 
Commitments and contingencies (Note 17)                
                 
Stockholders’ equity                
Common stock, $.0001 par value; 25,000,000 shares authorized; 11,353,014 and 10,000,000 shares issued and outstanding at September 30, 2018 and December 31, 2017, respectively     10,867       2,622  
Accumulated deficit     (2,393 )     (613 )
Total stockholders’ equity     8,474       2,009  
Total liabilities and stockholders’ equity   $ 52,557     $ 29,236  

 

The accompanying notes are an integral part of these consolidated financial statements.

 

1
 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(dollars in thousands, except share data)

 

For the Thirteen and Thirty-nine Weeks Ended September 30, 2018 (Unaudited)

 

   Thirteen Weeks  Thirty-nine Weeks
       
Revenue          
Royalties  $3,370   $8,802 
Franchise fees   1,343    2,041 
Store opening fees   100    205 
Advertising fees   1,038    2,264 
Management fees   13    45 
Total revenue   5,864    13,357 
           
General and administrative expenses          
Compensation and employee benefits   1,495    4,285 
Travel and entertainment   177    503 
Professional fees   513    1,071 
Advertising expense   1,038    2,264 
Other   532    1,357 
Total general and administrative expenses   3,755    9,480 
           
Income from operations   2,109    3,877 
           
Non-operating income (expense)          
Interest expense, net   (991)   (1,427)
Interest expense related to mandatorily redeemable preferred shares   (437)   (515)
Depreciation and amortization   (120)   (193)
Other expense, net   (352)   (355)
Total non-operating expense   (1,900)   (2,490)
           
Income before taxes   209    1,387 
           
Income tax expense   199    495 
           
Net income  $10   $892 
           
Basic income per common share  $0.00   $0.08 
Basic weighted average shares outstanding   11,317,679    10,498,931 
Diluted income per common share  $0.00   $0.08 
Diluted weighted average shares outstanding   11,334,620    10,507,281 
Cash dividends declared per common share  $0.00   $0.24 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

2
 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(dollars in thousands, except share data)

 

    Common Stock           
    Shares    Par value    

Additional paid-in

capital

    Total    Accumulated Deficit    Total 
                               
Balance at December 31, 2017   10,000,000   $1   $2,621   $2,622   $(613)  $2,009 
                               
Cumulative-effect adjustment from adoption of ASU 2014-09, Revenue from Contracts with Customers   -    -    -    -    (2,672)   (2,672)
Net income   -    -    -    -    892    892 
Dividends on common stock   -    -    (2,551)   (2,551)   -    (2,551)
Issuance of common stock in lieu of director fees payable   52,254    -    420    420    -    420 
Issuance of common stock in payment of related party note   989,395    -    7,272    7,272    -    7,272 
Issuance of common stock in lieu of dividend payable to FCCG   311,365    -    1,920    1,920    -    1,920 
Issuance of warrants to purchase common stock   -    -    774    774    -    774 
Stock offering costs   -    -    (50)   (50)        (50)
Value of common stock beneficial conversion feature of Series A-1 Preferred Stock   -    -    90    90    -    90 
Share-based compensation   -    -    370    370    -    370 
                               
Balance at September 30, 2018 (unaudited)   11,353,014   $1   $10,866   $10,867   $(2,393)  $8,474 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

3
 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENT OF CASH FLOWS

(dollars in thousands)

For the Thirty-nine Weeks Ended September 30, 2018 (Unaudited)

  

Cash flows from operating activities   
Net income  $892 
Adjustments to reconcile net income to net cash provided by operations:     
Deferred income taxes   (22)
Depreciation and amortization   193 
Share-based compensation   370 
Accretion of long-term debt   413 
Accretion of Series A and Series A-1 Mandatorily Redeemable Preferred Shares   18 
Change in:     
Accounts receivable   (805)
Trade notes receivable   64 
Prepaid expenses   (362)
Accounts payables and accrued expense   1,033 
Accrued advertising   (475)
Accrued interest payable   259 
Dividend payable on mandatorily redeemable preferred shares   447 
Deferred income   (1,665)
Total adjustments   (532)
Net cash provided by operating activities   360 
      
Cash flows from investing activities     
 Payments made in connection with acquisition, net   (7,677)
Additions to property and equipment   (139)
Net cash used in investing activities   (7,816)
      
Cash flows from financing activities     
Issuance of mandatorily redeemable preferred shares and associated warrants, net   7,984 
Proceeds from borrowings and associated warrants, net of issuance costs   17,096 
Repayments of borrowings   (10,853)
Change in due from affiliates   (4,262)
Dividends paid in cash   (632)
Other   (50)
Net cash provided by financing activities   9,283 
      
Net increase in cash   1,827 
Cash at beginning of period   32 
Cash at end of period  $1,859 
      
Supplemental disclosures of cash flow information:     
Cash paid for interest  $1,551 
Cash paid for income taxes  $184 
      
Supplemental disclosure of non-cash financing and investing activities:     
Dividends reinvested in common stock  $1,920 
Note payable to FCCG converted to common and preferred stock  $9,272 
Director fees converted to common stock  $420 
Income taxes payable offset against amounts due from affiliates  $74 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

4
 

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

NOTE 1. ORGANIZATION AND RELATIONSHIPS

 

FAT Brands Inc. (the “Company”) was formed on March 21, 2017 as a wholly-owned subsidiary of Fog Cutter Capital Group Inc. (“FCCG”). On October 20, 2017, the Company completed an initial public offering and issued additional shares of common stock representing 20 percent of its ownership (the “Offering”). The Company’s common stock trades on the Nasdaq Capital Market under the symbol “FAT.”

 

The Company did not begin operations until October 20, 2017. As a result, prior year comparative results are not presented in the accompanying statement of operations and statement of cash flows.

 

On July 3, 2018, the Company completed the acquisition of Hurricane AMT, LLC, a Florida limited liability company (“Hurricane”), for a purchase price of $12,500,000. Hurricane is the franchisor of Hurricane Grill & Wings and Hurricane BTW Restaurants.

 

At September 30, 2018, FCCG controlled a significant voting majority of the Company.

 

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Nature of operations – FAT Brands Inc. is a multi-brand franchising company specializing in fast casual restaurant concepts around the world through its subsidiaries: Fatburger, Buffalo’s, Hurricane and Ponderosa. Each subsidiary licenses the right to use its brand name and provides franchisees with operating procedures and methods of merchandising. Upon signing a franchise agreement, the franchisor is committed to provide training, some supervision and assistance, and access to operations manuals. As needed, the franchisor will also provide advice and written materials concerning techniques of managing and operating the restaurants.

 

Fatburger restaurants serve a variety of freshly made-to-order Fatburgers, Turkeyburgers, Chicken Sandwiches, Veggieburgers, French fries, onion rings, soft-drinks and milkshakes.

 

Buffalo’s grants franchises for the operation of casual dining restaurants (Buffalo’s Southwest Cafés) and quick service restaurants outlets (Buffalo’s Express). These restaurants specialize in the sale of Buffalo-Style chicken wings, chicken tenders, burgers, ribs, wrap sandwiches, and salads.

 

Hurricane restaurants have a tropical, laid-back vibe and are known for jumbo fresh wings with more than 35 signature sauces and rubs. Hurricane Grill & Wings’ menu includes Hurricane’s Garlic & Parmesan fries, tasty salads, seafood entrees and fresh ½ pound burgers. The brand’s signature Rum Bar with over 21 premium rums leads its tropical drinks menu, along with a wide selection of craft beers and wines.

 

Ponderosa and Bonanza Steakhouses offer guests a high-quality buffet and broad array of great tasting, affordably-priced steak, chicken and seafood entrées. Buffets at Ponderosa and Bonanza Steakhouses feature a large variety of all you can eat salads, soups, appetizers, vegetables, breads, hot main courses and desserts. Bonanza Steak & BBQ operates full service steakhouses with fresh farm-to-table salad bar, including a menu showcase of USDA flame-grilled steaks, house-smoked BBQ and contemporized interpretations of traditional American classics.

 

5
 

 

The Company also co-brands its franchise concepts. These co-branded restaurants sell products of multiple affiliated brands and share back-of-the-house facilities.

 

The Company operates on a 52-week calendar and its fiscal year ends on the Sunday closest to December 31. Consistent with the industry practice, the Company measures its stores’ performance based upon 7-day work weeks. Using the 52-week cycle ensures consistent weekly reporting for operations and ensures that each week has the same days, since certain days are more profitable than others. The use of this fiscal year means a 53rd week is added to the fiscal year every 5 or 6 years. In a 52-week year, all four quarters are comprised of 13 weeks. In a 53-week year, one extra week is added to the fourth quarter. The year 2018 will be a 52-week year.

 

Principles of consolidation – The accompanying consolidated financial statements include the accounts of the Company and its subsidiaries: Fatburger, Buffalo’s and Ponderosa. The accounts of Hurricane have been included since its acquisition by the Company on July 3, 2018. Intercompany accounts have been eliminated in consolidation.

 

Use of estimates in the preparation of the consolidated financial statements – The preparation of the consolidated 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 consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates include the determination of fair values of certain financial instruments for which there is no active market, the allocation of basis between assets sold and retained, and valuation allowances for notes receivable and accounts receivable. Estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

Financial Statement Reclassification – Certain account balances from prior periods have been reclassified in these condensed consolidated financial statements to conform to current period classifications.

 

Cash and Cash Equivalents – The Company considers all highly liquid debt instruments with initial maturities of three months or less to be cash equivalents.

 

Accounts receivable – Accounts receivable are recorded at the invoiced amount and are stated net of an allowance for doubtful accounts. The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in the existing accounts receivable. The allowance is based on historical collection data and current franchisee information. Account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote.

 

Trade notes receivable – Trade notes receivable are created when an agreement to settle a delinquent franchisee receivable account is reached and the entire balance is not immediately paid. Generally, trade notes receivable include personal guarantees from the franchisee. The notes are made for the shortest time frame negotiable and will generally carry an interest rate of 6% to 7.5%. Reserve amounts on the notes are established based on the likelihood of collection.

 

Goodwill and other intangible assets – Intangible assets are stated at the estimated fair value at the date of acquisition and include goodwill, trademarks, and franchise agreements. Goodwill and other intangible assets with indefinite lives, such as trademarks, are not amortized but are reviewed for impairment annually or more frequently if indicators arise. All other intangible assets are amortized over their estimated weighted average useful lives, which range from nine to twenty-five years. Management assesses potential impairments to intangible assets at least annually, or when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recovered. Judgments regarding the existence of impairment indicators and future cash flows related to intangible assets are based on operational performance of the acquired businesses, market conditions and other factors.

 

Income taxes – Effective October 20, 2017, the Company entered into a Tax Sharing Agreement with FCCG that provides that FCCG will, to the extent permitted by applicable law, file consolidated federal, California and Oregon (and possibly other jurisdictions where revenue is generated, at FCCG’s election) income tax returns with the Company and its subsidiaries. The Company will pay FCCG the amount that its tax liability would have been had it filed a separate return. As such, the Company accounts for income taxes as if it filed separately from FCCG.

 

6
 

 

The Company accounts for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on the differences between financial reporting and tax reporting bases of assets and liabilities and are measured using enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. Realization of deferred tax assets is dependent upon future earnings, the timing and amount of which are uncertain.

 

We utilize a two-step approach to recognize and measure uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained upon tax authority examination, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon the ultimate settlement.

 

Franchise fees and royalty revenue – Franchise fee revenue from the sale of individual franchises is recognized over the term of the individual franchise agreement. Unamortized non-refundable deposits collected in relation to the sale of franchises are recorded as deferred franchise fees. In addition to franchise fee revenue, the Company collects a royalty ranging from 0.75% to 6% of gross sales from restaurants operated by franchisees. Royalties are recorded as revenue as the related sales are made by the franchisees. Any royalties received prior to the related sales are deferred and recognized when earned. Costs relating to continuing franchise support are expensed as incurred.

 

Store opening fees – The Company recognizes store opening fees of $45,000 and $60,000 for domestic and international stores, respectively, from the up-front fees collected from franchisees. The remaining balance of the up-front fees are then amortized as franchise fees over the life of the franchise agreement. If the fees collected are less than the respective store opening fee amounts, the full up-front fees are recognized at opening. The $45,000 and $60,000 are based on out-of-pocket costs to the Company for each store opening and are primarily comprised of labor expenses associated with training, store design, and supply chain setup. International fees recognized are higher due to the additional cost of travel.

 

Advertising – The Company requires advertising payments from franchisees based on a percent of net sales. The Company also receives, from time to time, payments from vendors that are to be used for advertising. Advertising funds collected are required to be spent for specific advertising purposes. Advertising revenue and associated expense is recorded on the statement of operations. Assets and liabilities associated with the related advertising fees are consolidated on the Company’s balance sheet.

 

Share-based compensation – The Company has a stock option plan which provides for options to purchase shares of the Company’s common stock. Options issued under the plan may have a variety of terms as determined by the Board of Directors including the option term, the exercise price and the vesting period. Options granted to employees and directors are valued at the date of grant and recognized as an expense over the vesting period in which the options are earned. Cancellations or forfeitures are accounted for as they occur. Stock options issued to non-employees as compensation for services are accounted for based upon the estimated fair value of the stock option. The Company recognizes this expense over the period in which the services are provided. Management utilizes the Black-Scholes option-pricing model to determine the fair value of the stock options issued by the Company. See Note 14 for more details on the Company’s share-based compensation.

 

Earnings per share – The Company reports basic earnings per share in accordance with FASB ASC 260, “Earnings Per Share”. Basic earnings per share is computed using the weighted average number of common shares outstanding during the reporting period. Diluted earnings per share is computed using the weighted average number of common shares outstanding plus the effect of dilutive securities during the reporting period.

 

Recently Adopted Accounting Standards

 

In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-09, Revenue from Contracts With Customers (Topic 606), requiring an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods and services to customers. The updated standard replaces most existing revenue recognition guidance in U.S. GAAP. These standards became effective for the Company on January 1, 2018.

 

7
 

 

These standards require that the transaction price received from customers be allocated to each separate and distinct performance obligation. The transaction price attributable to each separate and distinct performance obligation is then recognized as the performance obligations are satisfied as specified in the contract. The agreements for services provided by the Company related to upfront fees received from franchisees (such as initial or renewal fees) do not currently contain separate and distinct performance obligations from the franchise right and thus those upfront fees will be recognized as revenue over the term of each respective franchise agreement. Previously, we recognized upfront franchise fees such as initial and renewal fees when the related services have been provided, which is when a store opened for initial fees and when renewal options became effective for renewal fees. These standards require any unamortized portion of fees received prior to adoption be presented in the consolidated balance sheet as a contract liability.

 

The new standards also had an impact on transactions previously not included in the Company’s revenues and expenses such as franchisee contributions to and subsequent expenditures from advertising arrangements we have with our franchisees. The Company did not previously include these contributions and expenditures in its consolidated statements of operations or cash flows. Under the new standards, the Company will recognize advertising fees and the related expense in its consolidated statements of operations or cash flows. The Company will also consolidate the assets and liabilities related to advertising funds on its balance sheet.

 

These standards will not impact the recognition of our sales-based royalties from franchisees, which is generally our largest source of revenue. We have implemented internal controls related to the recognition and presentation of the Company’s revenues under these new standards.

 

The Company adopted ASU 2014-09 on January 1, 2018 using the modified retrospective method, in which the cumulative effect of applying the standard would be recognized at the date of initial application. An adjustment to increase deferred revenue in the amount of $3,482,000 was established on the date of adoption relating to fees received through December 31, 2017 that would have been deferred and recognized over the term of each respective franchise store agreement if the new guidance had been applied in the past. A deferred tax asset of $810,000 related to this contract liability was also established on the date of adoption. These adjustments had the effect of increasing beginning accumulated deficit by approximately $2,672,000.

 

Adopting the new accounting standards for revenue affected several financial statement line items for the thirty-nine weeks ended September 30, 2018. The following tables provide the affected amounts as reported in these Unaudited Consolidated Financial Statements compared with what they would have been if the previous accounting guidance had remained in effect.

 

As of September 30, 2018 (in thousands)

 

   Amounts As Reported  Amounts Under Previous Accounting Guidance
Unaudited Consolidated Balance Sheet:          
Cash  $1,859   $1,405 
Accounts receivable  $2,230   $1,642 
Other current assets  $774   $760 
Due from affiliates  $12,998   $12,804 
Deferred income taxes  $1,771   $959 
Buffalo’s Creative and Advertising Fund  $-     $356 
Buffalo’s Creative and Advertising Fund - Contra  $-     $356 
Accounts payable  $3,352   $2,482 
Deferred income  $7,774   $4,555 
Accrued expenses  $2,507   $2,117 
Accrued advertising  $164   $515 
Accumulated deficit  $(2,393)  $(324)

 

8
 

 

For the thirty-nine weeks ended September 30, 2018 (in thousands except per share data)

 

   As Reported  Amounts Under Previous Accounting Guidance
Unaudited Consolidated Statement of Operations:          
Franchise fees and store opening fees  $2,246   $1,643 
Advertising fees  $2,264   $-   
Advertising expense  $2,264   $-   
Net income  $892   $289 
Earnings per common share - basic  $0.08   $0.03 
Earnings per common share - diluted  $0.08   $0.03 

 

For the thirty-nine weeks ended September 30, 2018 (in thousands)

 

   As Reported   Amounts Under Previous Accounting Guidance 
Unaudited Consolidated Statement of Cash Flows:          
Net income  $892   $289 
Adjustments to reconcile net income to net cash provided by operating activities:          
Accounts receivable  $(805)  $(724)
Deferred income  $(1,665)   842 
Accounts payable and accrued expenses  $1,033   $399 
Accrued advertising  $(475)  $167 
Increase in due from affiliates  $(4,262)  $(4,841)

 

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The new guidance is intended to reduce diversity in practice in how transactions are classified in the statement of cash flows. This ASU is effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2017. The adoption of this standard did not have a material impact on the Company’s consolidated financial statements.

 

9
 

 

Recently Issued Accounting Standards

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), requiring a lessee to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases with a lease term of more than twelve months. Leases will continue to be classified as either financing or operating, with classification affecting the recognition, measurement and presentation of expenses and cash flows arising from a lease. This ASU is effective for interim and annual period beginning after December 15, 2018 and requires a modified retrospective approach to adoption for lessees related to capital and operating leases existing at, or entered into after, the earliest comparative period presented in the financial statements, with certain practical expedients available. The adoption of this standard is not expected to have a material impact on the Company’s consolidated financial statements. The primary effect of adopting this ASU will be to record assets and obligations for the Company’s operating leases.

 

In June 2018, the FASB issued ASU No.2018-07, Compensation- Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting. The amendments in this update expand the scope of Topic 718 to include share-based payment transactions for acquiring goods and services from nonemployees. Prior to this update, Top 718 applied only to share-based transactions to employees. Consistent with the accounting requirements for employee share-based payment awards, nonemployee share-based payment awards within the scope of Topic 718 are measured at grant-date fair value of the equity instruments that an entity is obligated to issue when the good has been delivered or the service has been rendered and any other conditions necessary to earn the right to benefit from the instruments have been satisfied. The amendments in the update are effective for public business entities form fiscal years beginning after December 15, 2018, including interim periods within that fiscal year. Early adoption is permitted, but no earlier than an entity’s adoption date of Topic 606. The adoption of this accounting standard is not expected to have a material effect on the Company’s consolidated financial statements.

 

In July 2018, the FASB issued ASU 2018-09, Codification Improvements. This ASU makes amendments to multiple codification Topics. The transition and effective date guidance is based on the facts and circumstances of each amendment. Some of the amendments in this ASU do not require transition guidance and will be effective upon issuance of this ASU. However, many of the amendments in this ASU do have transition guidance with effective dates for annual periods beginning after December 15, 2018. The Company is currently assessing the effect that this ASU will have on its financial position, results of operations, and disclosures.

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement.” This ASU adds, modifies and removes several disclosure requirements relative to the three levels of inputs used to measure fair value in accordance with Topic 820, “Fair Value Measurement.” This guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within that fiscal year. Early adoption is permitted. The Company is currently assessing the effect that this ASU will have on its financial position, results of operations, and disclosures.

 

NOTE 3. HURRICANE ACQUISITION

 

On July 3, 2018, the Company completed the acquisition of Hurricane AMT, LLC, a Florida limited liability company (“Hurricane”), for a purchase price of $12,500,000. Hurricane is the franchisor of Hurricane Grill & Wings and Hurricane BTW Restaurants. The purchase price of $12,500,000 was delivered through the payment of $8,000,000 in cash and the issuance to the Sellers of $4,500,000 of equity units of the Company valued at $10,000 per unit, or a total of 450 units. Each unit consists of (i) 100 shares of the Company’s newly designated Series A-1 Fixed Rate Cumulative Preferred Stock (the “Series A-1 Preferred Stock”) and (ii) a warrant to purchase 125 shares of the Company’s Common Stock at $8.00 per share (the “Hurricane Warrants”). The Company also entered into a Registration Rights Agreement with the Sellers under which the Company agreed to prepare and file a registration statement with the Securities and Exchange Commission (“SEC”) to register for resale the Series A-1 Preferred Stock and shares of Common Stock issuable upon exercise of the Hurricane Warrants and upon conversion of the Series A-1 Preferred Stock.

 

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Holders of Series A-1 Preferred Stock will be entitled to receive cumulative dividends on the $100.00 per share stated liquidation preference of the Series A-1 Preferred Stock, in the amount of cash dividends at a rate of 6.0% per year. Upon (i) the five-year anniversary of the initial issuance date (July 3, 2023), or (ii) the earlier liquidation, dissolution or winding-up of the Company (the “Series A-1 Mandatory Redemption Date”), the holders of Series A-1 Preferred Stock will be entitled to cash redemption of their shares in an amount equal to $100.00 per share plus any accrued and unpaid dividends. In addition, prior to the Series A-1 Mandatory Redemption Date, the Company may optionally redeem the Series A-1 Preferred Stock, in whole or in part, at par plus any accrued and unpaid dividends.

 

Holders of Series A-1 Preferred Stock may also optionally cause the Company to redeem all or any portion of their shares of Series A-1 Preferred Stock beginning any time after the two-year anniversary of the initial issuance date for an amount equal to $100.00 per share plus any accrued and unpaid dividends, which amount may be settled in cash or Common Stock of the Company, at the option of the holder. If a holder elects to receive Common Stock, shares will be issued as payment for redemption at the rate of $12.00 per share of Common Stock.

 

Fees and expenses related to the Hurricane acquisition totaled approximately $206,000 consisting primarily of professional fees, all of which are classified as other expenses in the accompanying consolidated statement of operations. These fees and expenses were funded through cash on hand and proceeds from borrowings. The allocation of consideration to the net tangible and intangible assets acquired is presented in the table below (in thousands):

 

Cash  $358 
Accounts receivable   389 
Notes receivable   2,184 
Other current assets   760 
Intangible assets   11,020 
Goodwill   754 
Accounts payable and accrued expenses   (723)
Deferred franchise fees   (1,885)
Other liabilities   (357)
Total net identifiable assets  $12,500 

 

 

The following table provides information regarding the revenue and earnings of Hurricane included in the accompanying consolidated financial statements since July 3, 2018 (in thousands):

 

   Hurricane
Revenues     
Royalties  $825 
Franchise fees   16 
Advertising fees   480 
      
Total revenues   1,321 
      
Expenses     
General and administrative   1,192 
      
Income from operations   129 
      
Other expense   (133)
      
Loss before income tax benefit   (4)
      
Income tax benefit   (1)
      
Net loss  $(3)

 

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The following unaudited pro forma information presents the revenue and earnings of Hurricane as if it had been acquired on January 1, 2018 (the beginning of the Company’s fiscal year) through September 30, 2018 (in thousands):

 

  

Pro Forma

Hurricane

Revenues     
Royalties  $2,519 
Franchise fees   48 
Advertising fees   1,362 
      
Total revenues   3,929 
      
Expenses     
General and administrative   4,310 
      
Loss from operations   (381)
      
Other expense   (263)
      
Loss before income tax benefit   (644)
      
Income tax benefit   (180)
      
Net loss  $(464)

 

The unaudited pro forma income statement reflects actual results of Hurricane for the thirty-nine weeks ended September 30, 2018 with the following adjustments:

 

  Revenue – The unaudited pro forma income statement presents franchise fee revenue and advertising revenue in accordance with ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”). As a non-public company, Hurricane was not required to adopt ASU 2014-09 until its 2019 fiscal year. However, had the Acquisition occurred on January 1, 2018, Hurricane would have adopted ASU 2014-09 on that date.
   
 

Selling, general and administrative expenses – Prior to the Acquisition, Hurricane incurred costs associated with a closed, company owned restaurant. These expenses have been eliminated in the pro forma adjustments since the Acquisition did not include the company owned restaurant.

 

The pro forma adjustments include advertising expenses in accordance with ASU 2014-09.

   
  Interest expense, net – The pro forma interest expense has been adjusted to exclude actual Hurricane interest expense incurred prior to the Acquisition. All interest-bearing liabilities were paid off at the Acquisition date.
   
  Depreciation and amortization – The pro forma adjustments include the amortization of the intangible asset relating to acquired franchise agreements over their average remaining term of 13 years.
   
  Income tax benefit – The tax benefit of the pro forma net loss is calculated using an effective tax rate of 28%. Upon acquisition, Hurricane became subject to the Tax Sharing Agreement with FCCG.

 

Had the Company owned Hurricane as of January 1, 2018, the unaudited pro forma consolidated net income of the Company would have been a loss of approximately $98,000 instead of net income of $892,000. This pro forma loss includes the additional financing carrying costs (net of tax benefits) in the amount of $529,000 that would have been incurred by FAT Brands had the acquisition been consummated as of January 1, 2018.

 

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Note 4. NOTES RECEIVABLE

 

Prior to the acquisition by the Company, Hurricane had paid certain expenses on behalf of a former related party of Hurricane. As of September 30, 2018, the amount owed to Hurricane for these advances was $2,163,000. The advances are non-interest bearing and are due on demand.

 

Additionally, trade notes receivable are created when the settlement of a delinquent franchisee receivable account is reached and the entire balance is not immediately paid. Notes receivable generally include personal guarantees from the franchisee. The notes are made for the shortest time frame negotiable and will generally carry an interest rate of 6% to 7.5%. Reserve amounts, on the notes, are established based on the likelihood of collection. As of September 30, 2018, these trade notes receivable totaled $381,000, which is net of reserves of $34,000.

 

Note 5. GOODWILL

 

Goodwill consists of the following (in thousands):

 

   September 30, 2018  December 31, 2017
Goodwill:          
Fatburger  $529   $529 
Buffalo’s   5,365    5,365 
Hurricane   754    - 
Ponderosa   1,462    1,462 
Total goodwill  $8,110   $7,356 

 

Note 6. OTHER INTANGIBLE ASSETS

 

Intangible assets consist of the following (in thousands):

 

   September 30, 2018  December 31, 2017
Trademarks:          
Fatburger  $2,135   $2,135 
Buffalo’s   27    27 
Hurricane   6,840    - 
Ponderosa   7,230    7,230 
Total trademarks   16,232    9,392 
           
Franchise agreements:          
Hurricane – cost   4,180    - 
Hurricane – accumulated amortization   (80)   - 
Ponderosa – cost   1,640    1,640 
Ponderosa – accumulated amortization   (105)   (21)
Total franchise agreements   5,635    1,619 
Total  $21,867   $11,011 

 

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The expected future amortization of the Company’s capitalized franchise agreements is as follows (in thousands):

 

Fiscal year:   
2018   $107 
2019    432 
2020    432 
2021    432 
2022    432 
Thereafter    3,800 
Total   $5,635 

 

Note 7. DEFERRED INCOME

 

Deferred income is as follows (in thousands):

 

   September 30, 2018   December 31, 2017 
         
Deferred franchise fees  $7,062   $2,781 
Deferred royalties   712    932 
Total  $7,774   $3,713 

 

Note 8. Income Taxes

 

Effective October 20, 2017, the Company entered into a Tax Sharing Agreement with FCCG that provides that FCCG will, to the extent permitted by applicable law, file consolidated federal, California and Oregon (and possibly other jurisdictions where revenue is generated, at FCCG’s election) income tax returns with the Company and its subsidiaries. The Company will pay FCCG the amount that its current tax liability would have been had it filed a separate return. To the extent the Company’s required payment exceeds its share of the actual combined income tax liability (which may occur, for example, due to the application of FCCG’s net operating loss carryforwards), the Company will be permitted, in the discretion of a committee of its board of directors comprised solely of directors not affiliated with or having an interest in FCCG, to pay such excess to FCCG by issuing an equivalent amount of its common stock in lieu of cash, valued at the fair market value at the time of the payment. An inter-company receivable of approximately $12,998,000 due from FCCG and its affiliates will be applied first to reduce excess income tax payment obligations to FCCG under the Tax Sharing Agreement.

 

For financial reporting purposes, the Company has recorded a tax provision calculated as if the Company files its tax returns on a stand-alone basis. The amount payable to FCCG determined by this calculation of $74,000 was offset against amounts due from FCCG as of September 30, 2018 (See Note 12).

 

Deferred taxes reflect the net effect of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for calculating taxes payable on a stand-alone basis. Significant components of the Company’s deferred tax assets and liabilities are as follows (in thousands):

 

   September 30, 2018   December 31, 2017 
Deferred tax assets (liabilities)          
Deferred income  $1,872   $882 
Reserves and accruals   426    451 
Intangibles   (538)   (372)
Deferred state income tax   (62)   (25)
Other   73    1 
Total  $1,771   $937 

 

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Components of the income tax provision are as follows (in thousands):

 

   Thirty-nine Weeks 
   Ended
September 30, 2018
 
Current     
Federal  $        49 
State   142 
Foreign   318 
    509 
Deferred     
Federal   78 
State   (92)
    (14)
Total income tax provision  $495 

 

Income tax provision related to continuing operations differ from the amounts computed by applying the statutory income tax rate of 21% to pretax income as follows (in thousands):

 

   Thirty-nine
Weeks Ended
September 30, 2018
 
     
Tax provision at statutory rate          21%
State and local income taxes   3%
Foreign taxes   2%
Share based compensation   11%
Other   (1)%
Total income tax provision   36%

 

As of September 30, 2018, the Company’s subsidiaries’ annual tax filings for the prior three years are open for audit by Federal and for the prior four years for state tax agencies. The Company is the beneficiary of indemnification agreements from the prior owners of the subsidiaries for tax liabilities related to periods prior to its ownership of the subsidiaries. Management evaluated the Company’s overall tax positions and has determined that no provision for uncertain income tax positions is necessary as of September 30, 2018.

 

Note 9. DEBT

 

Senior Secured Redeemable Debentures

 

On April 27, 2018, the Company established a credit facility with TCA Global Credit Master Fund, LP (“TCA”). The Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with TCA, pursuant to which TCA agreed to lend the Company up to $5,000,000 through the purchase of Senior Secured Redeemable Debentures issued by the Company (the “Debentures”).

 

A total of $2,000,000 was funded by TCA in connection with the initial closing on April 27, 2018, and the Company issued to TCA an initial Debenture with a face amount of $2,000,000, maturing on October 27, 2019 and bearing interest at the rate of 15% per annum. The Company had the right to prepay the Debentures, in whole or in part, at any time prior to maturity without penalty. The Debentures required interest only payments during the first four months, followed by fully amortizing payments for the balance of the term. The Company paid a commitment fee of 2% of issued Debentures for the facility and agreed to pay an investment banking fee of $170,000 upon maturity of the Debentures. The Company used the net proceeds for working capital purposes and repayment of other indebtedness.

 

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The amounts borrowed under the Purchase Agreement were guaranteed by the Company’s operating subsidiaries and by FCCG, pursuant to a Guaranty Agreement in favor of TCA. The Company’s obligations under the Debentures were also secured by a Security Agreement, granting TCA a security interest in substantially all of its assets. In addition, FCCG’s obligations under the Guaranty Agreement were secured by a pledge in favor of TCA of certain shares of common stock that Fog Cutter holds in the Company. During the term of the Purchase Agreement, the Company was prohibited from incurring additional indebtedness, with customary exceptions for ordinary course financing arrangements and subordinated indebtedness.

 

The entire balance of the Debenture was paid in full on July 3, 2018, and the credit facility was terminated.

 

The Company recognized interest expense of $12,000 for the thirteen and $62,000 for the thirty-nine weeks ended September 30, 2018. Additionally, the Company recognized debt offering costs of $130,000 for the thirteen and $143,000 for the thirty-nine weeks ended September 30, 2018. Also, the Company recognized the investment banking fee of $170,000 upon repayment on July 3, 2018.

 

Term Loan

 

On July 3, 2018, the Company as borrower, and certain of the Company’s direct and indirect subsidiaries and affiliates as guarantors, entered into a new Loan and Security Agreement (the “Loan Agreement”) with FB Lending, LLC (the “Lender”). Pursuant to the Loan Agreement, the Company borrowed $16.0 million in a term loan (“Term Loan”) from the Lender. The Company used a portion of the loan proceeds to fund (i) the cash payment of $8.0 million to the members of Hurricane and closing costs in connection with the acquisition of Hurricane, and (ii) to repay borrowings of $2.0 million plus interest and fees owing under the Company’s existing loan facility with TCA Global Credit Master Fund, LP. The Company intends to use the remaining proceeds for additional acquisitions and general working capital purposes.

 

The new term loan under the Loan Agreement matures on June 30, 2020. Interest on the term loan accrues at an annual fixed rate of 15.0%. The Company may prepay all or a portion of the outstanding principal and accrued unpaid interest under the Loan Agreement at any time upon prior notice to the Lender, subject to a prepayment penalty of 10% in the first year and 5% in the second year of the term loan. The Company is required to prepay all or a portion of the outstanding principal and accrued unpaid interest under the Loan Agreement in connection with certain dispositions of assets, extraordinary receipts, issuances of additional debt or equity, or a change of control of the Company. In connection with the Loan Agreement, the Company also issued warrants to purchase up to 499,000 shares of the Company’s Common Stock at $7.35 per share to the Lender (the “Lender Warrant”). Warrants were also issued to certain loan placement agents to purchase 65,306 shares of the Company’s common stock at $7.35 per share (the “Placement Agent Warrants”). (See Note 15)

 

As security for its obligations under the Loan Agreement, the Company granted a lien on substantially all of its assets to the Lender. In addition, certain of the Company’s direct and indirect subsidiaries and affiliates entered into a Guaranty (the “Guaranty”) in favor of the Lender, pursuant to which they guaranteed the obligations of the Company under the Loan Agreement and granted as security for their guaranty obligations a lien on substantially all of their assets.

 

The Loan Agreement contains customary affirmative and negative covenants, including covenants that limit or restrict the Company’s ability to, among other things, incur other indebtedness, grant liens, merge or consolidate, dispose of assets, pay dividends or make distributions, in each case subject to customary exceptions. The Loan Agreement also includes customary events of default that include, among other things, non-payment, inaccuracy of representations and warranties, covenant breaches, events that result in a material adverse effect (as defined in the Loan Agreement), cross default to other material indebtedness, bankruptcy, insolvency and material judgments. The occurrence and continuance of an event of default could result in the acceleration of the Company’s obligations under the Loan Agreement and an increase in the interest rate by 5.0% per annum.

 

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On the issuance date, the Company allocated the proceeds between Term Loan and the Lender Warrant based on the relative fair values of each. The aggregate values assigned upon issuance of each component were as follows (in thousands):

 

  

Warrants

(equity component)

  

Term Loan

(debt component)

   Total 
Gross proceeds  $571   $15,429   $16,000 
Issuance costs   -    760    760 
Net proceeds  $571   $14,669   $15,240 
                
Balance sheet impact at issuance:               
Long-term debt, net of discount and offering costs  $-   $14,669   $14,669 
Additional paid-in capital  $571   $-   $571 

  

As of September 30, 2018, the total principal amount due under the gross Term Loan was $16,000,000. As of the same date, the net Term Loan balance was $14,938,000, which includes an unaccreted debt discount of $397,000 associated with the warrants and unamortized debt offering costs of $665,000.

 

The Company recognized interest expense on the Term Loan of $664,000 for the thirteen and thirty-nine weeks ended September 30, 2018 as well as $174,000 in accretion expense for the thirteen and thirty-nine weeks ended September 30, 2018, and $95,000 for amortization of debt offering costs for the thirteen and thirty-nine weeks ended September 30, 2018.

 

Note 10. NOTE PAYABLE To FCCG

 

Effective October 20, 2017, FCCG contributed two of its operating subsidiaries, Fatburger and Buffalo’s, to the Company in exchange for an unsecured promissory note with a principal balance of $30,000,000, bearing interest at a rate of 10.0% per annum, and maturing in five years (the “Related Party Debt”). The contribution was consummated pursuant to a Contribution Agreement between the Company and FCCG. Approximately $19,778,000 of the note payable to FCCG was subsequently repaid, reducing the balance to $10,222,000 at June 26, 2018. On June 27, 2018, the Company entered into the Note Exchange Agreement, as amended, under which it agreed with FCCG to exchange $9,272,053 of the remaining balance of the Company’s outstanding Related Party Debt for shares of capital stock of the Company in the following amounts:

 

  $2,000,000 of the Related Party Debt balance was exchanged for 20,000 shares of Series A Fixed Rate Cumulative Preferred Stock of the Company at $100 per share and warrants to purchase 25,000 of the Company’s common stock with an exercise price of $8.00 per share; and
     
  A portion of the remaining Related Party Debt balance of $7,272,053 was exchanged for 989,395 shares of Common Stock of the Company, representing an exchange price of $7.35 per share, which was the closing trading price of the Common Stock on June 26, 2018.

 

Following the exchange, the remaining balance of the Related Party Debt was $950,000. As of September 30, 2018, the Related Party Debt had been repaid in full.

 

The transactions described above were exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”) pursuant to the exemption for transactions by an issuer not involving any public offering under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D of the Securities Act and in reliance on similar exemptions under applicable state laws.

 

The Company recognized interest expense on the note payable to FCCG of $24,000 for the thirteen weeks ended September 30, 2018 and $888,000 for the thirty-nine weeks ended September 30, 2018, respectively.

 

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Note 11. MANDaTORilY REDEEMABLE PREFERRED STOCK

 

Series A Fixed Rate Cumulative Preferred Stock

 

On June 8, 2018, the Company filed a Certificate of Designation of Rights and Preferences of Series A Fixed Rate Cumulative Preferred Stock with the Secretary of State of the State of Delaware (the “Certificate of Designation”), designating a total of 100,000 shares of Series A Preferred Stock. The Certificate of Designation contains the following terms pertaining to the Series A Preferred Stock:

 

Dividends - Holders of Series A Preferred Stock will be entitled to receive cumulative dividends on the $100.00 per share stated liquidation preference of the Series A Preferred Stock, in the amount of (i) cash dividends at a rate of 9.9% per year, plus (ii) deferred dividends equal to 4.0% per year, payable on the Mandatory Redemption Date (defined below).

 

Voting Rights - As long as any shares of Series A Preferred Stock are outstanding and remain unredeemed, the Company may not, without the majority vote of the Series A Preferred Stock, (a) alter or change adversely the rights, preferences or voting power given to the Series A Preferred Stock, (b) enter into any merger, consolidation or share exchange that adversely affects the rights, preferences or voting power of the Series A Preferred Stock, (c) authorize or increase any other series or class of stock that has rights senior to the Series A Preferred Stock, or (d) waive or amend the dividend restrictions in Sections 3(d) or 3(e) of the Certificate of Designation. The Series A Preferred Stock will not have any other voting rights, except as may be provided under applicable law.

 

Liquidation and Redemption - Upon (i) the five-year anniversary of the initial issuance date (June 8, 2023), or (ii) the earlier liquidation, dissolution or winding-up of the Company (the “Series A Mandatory Redemption Date”), the holders of Series A Preferred Stock will be entitled to cash redemption of their shares in an amount equal to $100.00 per share plus any accrued and unpaid dividends.

 

In addition, prior to the Series A Mandatory Redemption Date, the Company may optionally redeem the Series A Preferred Stock, in whole or in part, at the following redemption prices per share, plus any accrued and unpaid dividends:

 

  (i) On or prior to June 30, 2021: $115.00 per share.
     
  (ii) After June 30, 2021 and on or prior to June 30, 2022: $110.00 per share.
     
  (iii) After June 30, 2022: $100.00 per share.

 

Holders of Series A Preferred Stock may also optionally cause the Company to redeem all or any portion of their shares of Series A Preferred Stock beginning any time after the two-year anniversary of the initial issuance date for an amount equal to $100.00 per share plus any accrued and unpaid dividends, which amount may be settled in cash or Common Stock of the Company, at the option of the holder. If a holder elects to receive Common Stock, the shares will be issued based on the 20-day volume weighted average price of the Common Stock immediately preceding the date of the holder’s redemption notice.

 

On June 7, 2018, the Company entered into a Subscription Agreement for the issuance and sale (the “Offering”) of 800 units (the “Units”), with each Unit consisting of (i) 100 shares of the Company’s newly designated Series A Fixed Rate Cumulative Preferred Stock (the “Series A Preferred Stock”) and (ii) warrants (the “Series A Warrants”) to purchase 125 shares of the Company’s Common Stock at $8.00 per share. The sales price of each Unit was $10,000, resulting in gross proceeds to the Company from the initial closing of $8,000,000 and the issuance of 80,000 shares of Series A Preferred Stock and Series A Warrants to purchase 100,000 shares of common stock (the “Subscription Warrants”).

 

On June 27, 2018, the Company entered into a Note Exchange Agreement, as amended, under which it agreed with FCCG to exchange all but $950,000 of the remaining balance of the Company’s outstanding Promissory Note issued to the FCCG on October 20, 2017, in the original principal amount of $30,000,000 (the “Note”). At the time, the Note had an estimated outstanding balance of principal plus accrued interest of $10,222,000 (the “Note Balance”).

 

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On June 27, 2018, $9,272,053 of the Note Balance was exchanged for shares of capital stock of the Company and warrants in the following amounts (the “Exchange Shares”):

 

 

$2,000,000 of the Note Balance was exchanged for 200 Units consisting of 20,000 shares of Series A Fixed Rate Cumulative Preferred Stock of the Company at $100 per share and Series A Warrants to purchase 25,000 of the Company’s common stock at an exercise price of $8.00 per share (the “Exchange Warrants”); and

     
  $7,272,053 of the Note Balance was exchanged for 989,395 shares of Common Stock of the Company, representing an exchange price of $7.35 per share, which was the closing trading price of the Common Stock on June 26, 2018.

 

The Company classified the Series A Preferred Stock as long-term debt because it contains an unconditional obligation requiring the Company to redeem the instruments at $100.00 per share on the Mandatory Redemption Date. The Series A Warrants have been recorded as additional paid-in capital. On the issuance date, the Company allocated the proceeds between the Series A Preferred Stock and the Series A Warrants based on the relative fair values of each. The aggregate values assigned upon issuance of each component were as follows (amounts in thousands, except price per unit):

 

  

Series A Warrants

(equity

component)

  

Mandatorily Redeemable

Series A Preferred Stock (debt component)

   Total 
Subscription Agreement:               
Gross proceeds  $87   $7,913   $8,000 
Issuance costs   -    15    15 
Net proceeds   87    7,898    7,985 
Exchange Shares:   25    1,975    2,000 
Total proceeds  $112   $9,873   $9,985 
                
Subscription price per unit  $108.75   $9,891.25   $10,000 
                
Balance sheet impact at issuance:               
Long-term debt, net of debt discount and offering costs  $-   $9,873   $9,873 
Additional paid-in capital  $112   $-   $112 

 

As of September 30, 2018, the net Series A Preferred Stock balance was $9,881,000 including an unaccreted debt discount of $104,000 associated with the warrants and unamortized debt offering costs of $15,000.

 

The Company recognized interest expense on the Series A Preferred Stock of $352,000 and $430,000 for the thirteen and thirty-nine weeks ended September 30, 2018, respectively. Also, the Company recognized accretion expense on the Series A Preferred Stock of $6,000 and $8,000 for the thirteen and thirty-nine weeks ended September 30, 2018, respectively, as well as, $1,000 during the thirteen and thirty-nine weeks ended September 30, 2018 for the amortization of debt offering costs.

 

Each of these stock issuances was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”) pursuant to the exemption for transactions by an issuer not involving any public offering under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D of the Securities Act and in reliance on similar exemptions under applicable state laws. Each of the investors in the Offering represented that it is an accredited investor within the meaning of Rule 501(a) of Regulation D and was acquiring the securities for investment only and not with a view towards, or for resale in connection with, the public sale or distribution thereof. The securities were offered without any general solicitation by the Company or its representatives.

 

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Series A-1 Fixed Rate Cumulative Preferred Stock

 

On July 3, 2018, the Company filed with the Secretary of State of the State of Delaware a Certificate of Designation of Rights and Preferences of Series A-1 Fixed Rate Cumulative Preferred Stock (the “Series A-1 Certificate of Designation”), designating a total of 200,000 shares of Series A-1 Fixed Rate Cumulative Preferred Stock (the “Series A-1 Preferred Stock”). The Series A-1 Certificate of Designation contains the following terms pertaining to the Series A-1 Preferred Stock:

 

Dividends. Holders of Series A-1 Preferred Stock will be entitled to receive cumulative dividends on the $100.00 per share stated liquidation preference of the Series A-1 Preferred Stock, in the amount of cash dividends at a rate of 6.0% per year.

 

Voting Rights. As long as any shares of Series A-1 Preferred Stock are outstanding and remain unredeemed, the Company may not, without the majority vote of the Series A-1 Preferred Stock, (a) materially and adversely alter or change the rights, preferences or voting power given to the Series A-1 Preferred Stock, (b) enter into any merger, consolidation or share exchange that materially and adversely affects the rights, preferences or voting power of the Series A-1 Preferred Stock, or (c) waive or amend the dividend restrictions in Sections 3(d) or 3(e) of the Certificate of Designation. The Series A-1 Preferred Stock will not have any other voting rights, except as may be provided under applicable law.

 

Liquidation and Redemption. Upon (i) the five-year anniversary of the initial issuance date (July 3, 2023), or (ii) the earlier liquidation, dissolution or winding-up of the Company (the “Series A-1 Mandatory Redemption Date”), the holders of Series A-1 Preferred Stock will be entitled to cash redemption of their shares in an amount equal to $100.00 per share plus any accrued and unpaid dividends. In addition, prior to the Mandatory Redemption Date, the Company may optionally redeem the Series A-1 Preferred Stock, in whole or in part, at par plus any accrued and unpaid dividends.

 

Holders of Series A-1 Preferred Stock may also optionally cause the Company to redeem all or any portion of their shares of Series A-1 Preferred Stock beginning any time after the two-year anniversary of the initial issuance date for an amount equal to $100.00 per share plus any accrued and unpaid dividends, which amount may be settled in cash or Common Stock of the Company, at the option of the holder. If a holder elects to receive Common Stock, shares will be issued as payment for redemption at the rate of $12.00 per share of Common Stock.

 

On July 3, 2018, in connection with the acquisition of Hurricane, the Company agreed to issue $4,500,000 of equity units of the Company valued at $10,000 per unit, or a total of 450 units. Each unit consists of (i) 100 shares of the Company’s newly designated Series A-1 Preferred Stock and (ii) a warrant to purchase 125 shares of the Company’s Common Stock at $8.00 per share (the “Hurricane Warrants”). The Company also entered into a Registration Rights Agreement with the Sellers under which the Company agreed to prepare and file a registration statement with the Securities and Exchange Commission to register for resale the Series A-1 Preferred Stock and shares of Common Stock issuable upon exercise of the Hurricane Warrants and upon conversion of the Series A-1 Preferred Stock.

 

20
 

 

The Company classified the Series A-1 Preferred Stock as long-term debt because it contains an unconditional obligation requiring the Company to redeem the instruments at $100.00 per share on the Series A-1 Mandatory Redemption Date. The associated Hurricane Warrants have been recorded as additional paid-in capital. On the issuance date, the Company allocated the proceeds between the Series A-1 Preferred Stock and the Hurricane Warrants based on the relative fair values of each. In addition, because the effective conversion price of the Series A-1 Preferred Stock is lower than the contractual conversion price, the Company also recorded a beneficial conversion feature to additional paid in capital. The aggregate values assigned upon issuance of each component were as follows (amounts in thousands, except price per unit):

 

   Conversion Feature (equity component)  

Hurricane

Warrants (equity component)
   Mandatorily Redeemable Series A-1 Preferred Stock (debt component)   Total 
Hurricane Acquisition:                    
Gross proceeds  $90   $91   $4,319   $4,500 
Issuance costs   -     -     35    35 
Net proceeds  $90   $91   $4,284   $4,465 
                     
Subscription price per unit  $201.07   $201.07   $9,597.86   $10,000 
                     
Balance sheet impact at issuance:                    
Long-term debt, net of debt discount and offering costs  $-   $-   $4,284   $4,284 
Additional paid-in capital  $90   $91   $-   $181 

 

As of September 30, 2018, the net Series A-1 Preferred Stock balance was $4,294,000 including an unaccreted debt discount of $173,000 associated with the warrants and beneficial conversion feature and unamortized debt offering costs of $33,000.

 

The Company recognized interest expense on the Series A-1 Preferred Stock of $67,500 for the thirteen and thirty-nine weeks ended September 30, 2018. Also, the Company recognized accretion expense on the Series A-1 Preferred Stock of $7,600 for the thirteen and thirty-nine weeks ended September 30, 2018, as well as, $1,700 during the thirteen and thirty-nine weeks ended September 30, 2018 for the amortization of debt offering costs.

 

Each of these stock issuances was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”) pursuant to the exemption for transactions by an issuer not involving any public offering under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D of the Securities Act and in reliance on similar exemptions under applicable state laws. Each of the investors in the Offering represented that it is an accredited investor within the meaning of Rule 501(a) of Regulation D and was acquiring the securities for investment only and not with a view towards, or for resale in connection with, the public sale or distribution thereof. The securities were offered without any general solicitation by the Company or its representatives.

 

Note 12. Related Party Transactions

 

The Company had open accounts with affiliated entities under the common control of FCCG resulting in net amounts due to the Company of $12,998,000 as of September 30, 2018. Beginning October 20, 2017, the receivable from FCCG bears interest at a rate of 10% per annum. During the thirteen and thirty-nine weeks ended September 30, 2018, $230,000 and $711,000, respectively, of accrued interest income was added to the balance of the receivable from FCCG.

 

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The balance of Due From Affiliates includes a preferred capital investment in Homestyle Dining LLC, a Delaware limited liability corporation (“HSD”) in the amount of $4 million made effective July 5, 2018 (the “Preferred Interest”). FCCG owns all of the common interests in HSD.

 

The holder of the Preferred Interest is entitled to a 15% priority return on the outstanding balance of the investment (the “Preferred Return”). Any available cash flows from HSD on a quarterly basis are to be distributed to pay the accrued Preferred Return and repay the Preferred Interest until fully retired.

 

On or before the five-year anniversary of the investment, the Preferred Interest is to be fully repaid, together with all previously accrued but unpaid Preferred Return. FCCG has unconditionally guaranteed repayment of the Preferred Interest in the event HSD fails to do so.

 

Prior to the Offering, the Company’s operations were insignificant other than structuring the Offering. During this time, FCCG provided executive administration and accounting services for the Company. The Company reimbursed FCCG for out-of-pocket costs associated with these services, but there was no allocation of FCCG’s overhead costs. Effective with the Offering, the Company assumed all direct and indirect administrative functions relating to its business.

 

During the thirty-nine weeks ended September 30, 2018, the Company recognized payables to FCCG in the amount of $74,000 for use of FCCG’s net operating losses for tax purposes (See Note 8).

 

Note 13. SHAREHOLDERS’ EQUITY

 

As of September 30, 2018, the total number of authorized shares of common stock was 25,000,000. As of September 30, 2018, and December 31, 2017, there were 11,353,014 and 10,000,000 shares of common stock outstanding, respectively.

 

Below are the changes to the Company’s common stock during the thirty-nine weeks ended September 30, 2018:

 

  On April 16, 2018, the Company issued 153,600 shares of common stock at a value of $6.25 per share to FCCG in lieu of cash for payment of common stock dividends (See Note 16).
     
  On June 15, 2018, the Company issued a total of 41,772 shares of common stock at a value of $7.90 per share to the non-employee members of the board of directors as consideration for accrued directors’ fees.
     
  One June 27, 2018, the Company and FCCG agreed to exchange $7,272,053 of an outstanding promissory note due to FCCG from the Company for 989,395 shares of Common Stock at a value of $7.35 per share. (See Note 10).
     
  On July 16, 2018, the Company issued 157,765, shares of common stock at a value of $6.085 per share to FCCG in lieu of cash for payment of common stock dividends (See Note 16).
     
  On September 20, 2018, the Company issued a total of 10,482 shares of common stock at a value of $8.59 per share to the non-employee members of the board of directors as consideration for accrued directors’ fees.

 

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Note 14. Stock OPTIONS

 

Effective September 30, 2017, the Company adopted the 2017 Omnibus Equity Incentive Plan (the “Plan”). The Plan is a comprehensive incentive compensation plan under which the Company can grant equity-based and other incentive awards to officers, employees and directors of, and consultants and advisers to, FAT Brands Inc. and its subsidiaries. The Plan provides a maximum of 1,000,000 shares available for grant.

 

All of the stock options issued by the Company to date have included a vesting period of three years, with one-third of each grant vesting annually. The Company’s stock option activity for the thirty-nine weeks ended September 30, 2018 can be summarized as follows:

 

   Number of Shares   Weighted Average
Exercise Price
   Weighted Average Remaining Contractual
Life (Years)
 
Stock options outstanding at December 31, 2017   362,500   $12.00    9.31 
Grants   50,000  

$

10.00    9.6 
Forfeited   (30,000)  $12.00    - 
Expired   -   $-    - 
Stock options outstanding at September 30, 2018   382,500   $11.74    9.1 
Stock options exercisable at September 30, 2018   -           

 

The assumptions used in the Black-Scholes valuation model to record the stock-based compensation are as follows:

 

    Including
Non-Employee Options
 
Expected dividend yield   4.00% - 7.49%
Expected volatility   31.73%
Risk-free interest rate   1.60% - 2.85%
Expected term (in years)   5.50 – 9.06 

 

The Company recognized share-based compensation expense in the amount of $125,000 and $370,000 during the thirteen and thirty-nine weeks ended September 30, 2018. There remains $355,000 of related share-based compensation expense relating to these non-vested grants, which will be recognized over the remaining vesting period, subject to future forfeitures.

 

Note 15. WARRANTS

 

From the Offering through September 30, 2018, the Company has issued the following outstanding warrants to purchase shares of its common stock:

 

  Warrants issued on October 20, 2017 to purchase 80,000 shares of the Company’s stock granted to the selling agent in the Company’s initial public offering (the “Common Stock Warrants”). The Common Stock Warrants are exercisable commencing April 20, 2018 through October 20, 2022. The exercise price for the Common Stock Warrants is $15 per share, and the Common Stock Warrants are valued at $124,000. The Common Stock Warrants provide that upon exercise, the Company may elect to redeem the Common Stock Warrants in cash by paying the difference between the applicable exercise price and the then-current fair market value of the common stock.
     
  Warrants issued on June 7, 2018 to purchase 100,000 shares of the Company’s common stock at $8.00 per share (the “Subscription Warrants”). The Subscription Warrants were issued as part of the Subscription Agreement (see Note 11). The Subscription Warrants are valued at $87,000. The Subscription Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
     

 

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  Warrants issued on June 27, 2018 to purchase 25,000 shares of the Company’s common stock at $8.00 per share (the “Exchange Warrants”). The Exchange Warrants were issued as part of the Exchange (See Notes 10 and 11). The Exchange Warrants are valued at $25,000. The Exchange Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
     
  Warrants issued on July 3, 2018 to purchase 56,250 shares of the Company’s common stock at $8.00 per share (the “Hurricane Warrants”). The Hurricane Warrants were issued as part of the acquisition of Hurricane (See Notes 3 and 11). The Hurricane Warrants are valued at $58,000. The Hurricane Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
     
 

Warrants issued on July 3, 2018 to purchase 499,000 shares of the Company’s common stock at $7.35 per share (the “Lender Warrant”). The Lender Warrant was issued as part of the $16 million credit facility with FB Lending, LLC (See Note 9). The Lender Warrant is valued at $592,000. The Lender Warrant may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.

     
  Warrants issued on July 3, 2018 to purchase 65,306 shares of the Company’s common stock at $7.35 per share (the “Placement Agent Warrants”). The Placement Agent Warrants were issued to the placement agents of the $16 million credit facility with FB Lending, LLC (See Note 9). The Placement Agent Warrants are valued at $78,000. The Placement Agent Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.

 

The Company’s warrant activity for the thirty-nine weeks ended September 30, 2018 is as follows:

 

   Number of Shares   Weighted Average
Exercise Price
   Weighted Average Remaining Contractual
Life (Years)
 
Warrants outstanding at December 31, 2017   80,000   $15.00    4.06 
Grants   745,556   $7.51    4.75 
Exercised   -   $-    - 
Forfeited   -   $-    - 
Expired   -   $-    - 
Warrants outstanding at September 30, 2018   825,556   $8.23    4.68 
Warrants exercisable at September 30, 2018   825,556           

 

The weighted average fair value of the warrants granted from the Offering through September 30, 2018 and the assumptions used in the Black-Scholes valuation model are as follows:

 

   Warrants  
Expected dividend yield   4.00% - 6.63 %
Expected volatility   31.73 %
Risk-free interest rate   0.99% - 1.91 %
Expected term (in years)   5.00  

 

Note 16. DIVIDENDS ON COMMON STOCK

 

The Company’s Board of Directors has declared the following quarterly dividends on common stock during the thirty-nine weeks ended September 30, 2018:

 

Declaration Date  Record Date  Payment Date  Dividend Per Share   Amount of Dividend 
February 8, 2018  March 30, 2018  April 16, 2018  $0.12   $1,200,000 
June 27, 2018  July 6, 2018  July 16, 2018  $0.12    1,351,517 
              $2,551,517 

 

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Subsequently, on October 8, 2018, the Company declared a cash dividend on its common stock in the amount of $0.12 per share. The dividend was payable on October 31, 2018 to shareholders of record on October 18, 2018.

 

On each dividend payment date, FCCG elected to reinvest all, or a portion of, its dividend from its common shares of the Company at the closing market price of the shares on the payment date. As a result, on April 16, 2018, the Company issued 153,600 shares of common stock to FCCG at a price of $6.25 per share in satisfaction of $960,000 dividend payable. On July 16, 2018, the Company issued 157,765 shares of common stock to FCCG at a price of $6.085 per share in satisfaction of $960,000 dividend payable. On October 31, 2018, FCCG elected to reinvest its dividend for all 9,300,760 shares into newly issued common shares of the Company at the closing market price of common stock on the payment date. The Company issued 176,877 shares of common stock to FCCG at a price of $6.31 per share in satisfaction of the $1,116,091 dividend payable.

 

The issuance of these shares to FCCG was exempt from registration under the Securities Act in reliance on Section 4(a)(2) of the Securities Act and Rule 506 promulgated under Regulation D under the Securities Act as transactions by an issuer not involving a public offering. FCCG acquired the securities for investment only and not with a view to or for sale in connection with any distribution thereof.

 

Note 17. Commitments and Contingencies

 

Litigation

 

Eric Rojany, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC708539.

 

On June 7, 2018, Eric Rojany filed a complaint, personally and on behalf of all others similarly situated, against the Company, Andrew Wiederhorn, Ron Roe, Fog Cutter Capital Group, Inc., Tripoint Global Equities, LLC and members of the Company’s board of directors. The complaint asserts claims under Sections 12(a)(2) and 15 of the Securities Act of 1933, alleging that the defendants are responsible for false and misleading statements and omitted material facts in connection with the Company’s initial public offering, which resulted in declines in the price of the Company’s common stock. The plaintiff stated that he intends to certify the complaint as a class action and is seeking compensatory damages in an amount to be determined at trial. The Company and other defendants dispute the allegations of the lawsuit and intend to vigorously defend against the claims.

 

Daniel Alden, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC716017.

 

On August 2, 2018, Daniel Alden and others filed a complaint, personally and on behalf of all others similarly situated, against the Company, Andrew Wiederhorn, Ron Roe, Fog Cutter Capital Group, Inc., Tripoint Global Equities, LLC and members of the Company’s board of directors. The complaint asserts claims under Sections 12(a)(2) and 15 of the Securities Act of 1933, alleging that the defendants are responsible for false and misleading statements and omitted material facts in connection with the Company’s initial public offering, which resulted in declines in the price of the Company’s common stock. The plaintiff stated that he intends to certify the complaint as a class action and is seeking compensatory damages in an amount to be determined at trial. The Company and other defendants dispute the allegations of the lawsuit and intend to vigorously defend against the claims.

 

On September 13, 2018, counsel to all parties in Rojany and Alden stipulated to the consolidation of Rojany and Alden under the Rojany case number. On September 17, 2018, the Court in Rojany confirmed that the two actions were related and ordered that Alden be transferred to the judge presiding over Rojany.

 

On October 10, 2018, plaintiffs in these actions filed a consolidated amended complaint (“CAC”). Pursuant to the Court’s order on September 17, 2018, defendants shall have until November 13, 2018 to file a response to the CAC. The Court scheduled the hearing for defendants’ anticipated demurrer to the CAC for January 11, 2019. The Court also continued a stay of discovery in the action, pending its ruling on defendants’ anticipated demurrer.

 

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Adam Vignola, et al. v. FAT Brands Inc., et al., United States District Court for the Central District of California, Case No. 2:18-cv-07469.

 

On August 24, 2018, Adam Vignola filed a complaint, personally and on behalf of all others similarly situated, against the Company, Andrew Wiederhorn, Ron Roe, Fog Cutter Capital Group, Inc., Tripoint Global Equities, LLC and members of the Company’s board of directors. The complaint asserts claims under Sections 12(a)(2) and 15 of the Securities Act of 1933, alleging that the defendants are responsible for false and misleading statements and omitted material facts in connection with the Company’s initial public offering, which resulted in declines in the price of the Company’s common stock. The plaintiff stated that he intends to certify the complaint as a class action and is seeking compensatory damages in an amount to be determined at trial. The Company and other defendants dispute the allegations of the lawsuit and intend to vigorously defend against the claims.

 

On October 23, 2018, Charles Jordan and David Kovacs filed a motion for appointment as lead plaintiffs and approval of choice of counsel. On the same day, Randy Siade filed a motion for appointment as lead plaintiff and approval of choice of counsel. The hearing date for these motions was set for November 26, 2018. On November 1, 2018, Randy Siade withdrew his motion for appointment as lead plaintiff and approval of choice of counsel. All discovery and other proceedings in this action are currently stayed by operation of the Private Securities Litigation Reform Act of 1995.

 

P&K Food Market, Inc. vs. Buffalo’s Franchise Concepts, Inc., Fog Cutter Capital Group, Shaun Curtis, Andy Wiederhorn et al., Superior Court of California for the County of Los Angeles, Case No. 18STLC09534.

 

On July 13, 2018, P&K Food Market, Inc. (“P&K”) filed a complaint against Buffalo’s Franchise Concepts, Inc., Fog Cutter Capital Group, Shaun Curtis, and Andy Wiederhorn for Breach of Contract, Fraudulent Misrepresentation and Unlawful Offer and Sale of Franchise By Means of Untrue Statements or Omissions of Material Fact Under Cal. Corp. Code §§31201; 31202; 31300; and 31301. The case was filed in connection with the sale of an affiliate-owned “Buffalo’s Café” restaurant located in Palmdale, California. The lawsuit seeks general damages, special damages, punitive damages, restitution, interest, costs and attorneys’ fees and costs related to the alleged unlawful sale of the Palmdale restaurant. The franchisor and related parties intend to vigorously defend the allegations.

  

The Company is obligated to indemnify its officers and directors to the extent permitted by applicable law in connection with the above actions, and has insurance for such individuals, to the extent of the limits of the applicable insurance policies and subject to potential reservations of rights. The Company is also obligated to indemnify Tripoint Global Equities, LLC under certain conditions relating to the Rojany, Vignola and Alden matters. These proceedings are in their early stages and the Company is unable to predict the ultimate outcome of these matters. There can be no assurance that the defendants will be successful in defending against these actions.

 

The Company is involved in other claims and legal proceedings from time-to-time that arise in the ordinary course of business. The Company does not believe that the ultimate resolution of these actions will have a material adverse effect on its business, financial condition, results of operations, liquidity or capital resources.

 

Operating Leases

 

The Company leases corporate headquarters located in Beverly Hills, California comprising 5,478 square feet of space, pursuant to a lease that expires on April 30, 2020.

 

We believe that all our existing facilities are in good operating condition and adequate to meet our current and foreseeable needs.

 

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Note 18. geographic information AND MAJOR FRANCHISEES

 

Revenues by geographic area are as follows (in thousands):

 

   Thirteen Weeks
Ended
September 30, 2018
   Thirty-nine Weeks Ended
September 30, 2018
 
United States  $4,155   $9,798 
Other countries   1,709    3,559 
Total revenues  $5,864   $13,357 

 

Revenues are shown based on the geographic location of our licensee restaurants. All our assets are located in the United States.

 

During the thirteen and thirty-nine weeks ended September 30, 2018, no individual franchisee accounted for more than 10% of the Company’s revenues.

 

NOTE 19. OPERATING SEGMENTS

 

Operating segments consist of (i) franchising operations conducted through Fatburger, (ii) franchising operations conducted through Buffalo’s, (iii) franchising operations conducted through Ponderosa and (iv) franchising operations conducted through Hurricane. Each segment operates with its own management and personnel, with additional centralized support from the Company. The actual cost of the support provided by the Company is allocated to each operating segment. The following is a summary of each of the operating segments for the thirty-nine weeks ended September 30, 2018 (dollars in thousands):

 

   Fatburger   Buffalo’s   Ponderosa   Hurricane   Combined 
                     
Revenues                         
Royalties  $3,948   $1,000   $3,029   $825   $8,802 
Franchise fees   1,884    113    28    16    2,041 
Store opening fees   205    -    -    -    205 
Advertising fees   879    436    469    480    2,264 
Management fees   45    -    -    -    45 
Total revenues   6,961    1,549    3,526    1,321    13,357 
                          
Expenses                         
General and administrative   3,279    1,053    2,795    1,192    8,319 
                          
Income from operations   3,682    496    731    129    5,038 
                          
Other income (expense)   183    444    (78)   (133)   416 
                          
Income (loss) before income tax expense  $3,865   $940   $653   $(4)  $5,454 

 

Reconciliation to consolidated net income (in thousands)

 

   Thirty-nine
Weeks Ended
September 30, 2018
 
     
Combined segment net income before taxes  $5,454 
Corporate general and administrative expenses   (1,161)
Corporate other expense, net   (2,906)
Income tax expense   (495)
Net income  $892 

 

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NOTE 20. SUBSEQUENT EVENTS

 

Pursuant to FASB ASC 855, Management has evaluated all events and transactions that occurred from September 30, 2018 through the date of issuance of these financial statements. During this period, the Company did not have any significant subsequent events, except as disclosed below:

 

Dividend Payable

 

On October 8, 2018, the Company declared a cash dividend on its common stock in the amount of $0.12 per share. The dividend was payable on October 31, 2018 to shareholders of record on October 18, 2018.

 

On October 31, 2018, FCCG was entitled to receive a cash dividend from the Company which had been declared on October 8, 2018. FCCG elected to reinvest its dividend from its 9,300,760 common shares in the amount of $1,116,091 in newly issued common shares of the Company at $6.31 per share, which was the closing market price of the shares on that date. As a result, the Company issued 176,877 shares of common stock to FCCG in satisfaction of the dividend payable.

 

The issuance of the shares to FCCG described above was exempt from registration under the Securities Act in reliance on Section 4(a)(2) of the Securities Act and Rule 506 promulgated under Regulation D under the Securities Act as transactions by an issuer not involving a public offering. FCCG acquired the securities for investment only and not with a view to or for sale in connection with any distribution thereof. (See Note 16).

 

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FATBURGER NORTH AMERICA, INC.

 

Balance Sheets

September 30, 2018 and December 31, 2017

 

   September 30, 2018   December 31, 2017 
    (unaudited)    (audited) 
Assets          
Current assets          
Cash  $-   $- 
Accounts receivable, net   983,181    472,430 
Other current assets   8,652    8,358 
Total current assets   991,833    480,788 
           
Due from affiliates   8,353,080    7,172,833 
           
Deferred income taxes   1,535,972    1,037,728 
           
Trademarks   2,134,800    2,134,800 
           
Goodwill   529,400    529,400 
Total assets  $13,545,085   $11,355,549 
           
Liabilities and Stockholder’s Equity          
Current liabilities          
Deferred income  $1,027,905   $1,732,249 
Accounts payable   1,062,852    1,452,668 
Accrued advertising   514,578    348,454 
Accrued expenses   1,076,782    868,828 
           
Total current liabilities   3,682,117    4,402,199 
           
Deferred income – noncurrent   4,047,961    1,605,500 
           
Total liabilities   7,730,078    6,007,699 
           
Commitments and contingencies (Note 6)          
           
Stockholder’s equity          
Common stock, $.01 par value, 1,000 shares authorized, issued and outstanding   10    10 
Additional paid-in capital   3,500,000    3,500,000 
Retained earnings (accumulated deficit)   2,314,997    1,847,840
           
Total stockholder’s equity   5,815,007    5,347,850 
           
Total liabilities and stockholder’s equity  $13,545,085   $11,355,549 

 

The accompanying notes are integral part of these financial statements.

 

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FATBURGER NORTH AMERICA, INC.

 

Statements of Income

For the Thirty-nine weeks ended September 30, 2018 and September 24, 2017

 

   Thirteen Weeks Ended   Thirty-nine Weeks Ended 
   September 30, 2018   September 24, 2017   September 30, 2018   September 24, 2017 
   (unaudited)   (unaudited)   (unaudited)   (unaudited) 
Revenues                    
Royalties  $1,317,435   $1,204,909   $3,948,486   $3,580,104 
Franchise fees   1,214,373    530,000    1,883,536    1,683,326 
Store opening fees   100,000    -    204,748    - 
Advertising fees   268,748    -    879,432    - 
Management fees   12,500    16,651    45,000    46,651 
                     
Total revenues   2,913,056    1,751,560    6,961,202    5,310,081 
                     
General and administrative expenses                    
General and administrative   703,675    552,283    2,399,766    1,847,742 
Advertising expense   268,748    -    879,432    - 
                     
Total general and administrative expenses   972,423    552,283    3,279,198    1,847,742 
                     
Income from operations   1,940,632    1,199,277    3,682,004    3,462,339 
                     
Non-operating income (expense)                    
Interest income   41,822    -    205,521    - 
Depreciation and amortization   (4,866)   (4,098)   (13,499)   (4,098)
Other   (5,860)   (23,560)   (8,839)   (23,560)
Total non-operating income (expense)   31,096    (27,658)   183,183    (27,658)
                     
Income before taxes   1,971,728    1,171,619    3,865,187    3,434,681 
                     
Income tax expense   422,774    443,939    872,779    1,264,156 
                     
Net income  $1,548,955   $727,680   $2,992,408   $2,170,525 
                     
Net income per common share - Basic  $1,549   $728   $2,992   $2,171 
                     
Shares used in computing net income per common share   1,000    1,000    1,000    1,000 

 

The accompanying notes are integral part of these financial statements.

 

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FATBURGER NORTH AMERICA, INC.

 

Statement of Stockholder’s Equity

For the Thirty-nine Weeks Ended September 30, 2018

 

   Common Stock   Additional Paid-In   Retained Earnings /
(Accumulated
     
   Shares   Amount   Capital   Deficit)   Total 
                     
Balance at December 31, 2017   1,000   $10   $3,500,000   $1,847,840  $5,347,850 
                          
Cumulative-effect adjustment from adoption of ASU 2014-09, Revenue from Contracts with Customers   -    -    -    (2,525,251)   (2,525,251)
                          
Net income   -    -    -    2,992,408    2,992,408 
                          
Balance at September 30, 2018 (unaudited)   1,000   $10   $3,500,000   $2,314,997   $5,815,007 

 

The accompanying notes are an integral part of these financial statements.

 

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FATBURGER NORTH AMERICA, INC.

 

Statements of Cash Flows

For the Thirty-nine Weeks Ended September 30, 2018 and September 24, 2017

 

   Thirty-nine Weeks Ended 
   September 30, 2018   September 24, 2017 
   (unaudited)   (unaudited) 
Cash flows from operating activities          
Net income  $2,992,408   $2,170,525 
Adjustments to reconcile net income to net cash provided b