Business Context and Reporting Period
Rave Restaurant Group, Inc. operates and franchises Pizza Inn and Pie Five restaurants and distributes food and supplies to franchisees. This unaudited Form 10-Q covers the 13 weeks ended September 27, 2015, compared with the 13 weeks ended September 28, 2014. The company was a smaller reporting company.
At September 27, 2015, the system included 31 company-owned units, 208 domestic franchised units, and 71 international franchised units. Pie Five domestic units increased to 68, while Pizza Inn domestic units declined to 171.
Key Financial Metrics
| Metric | Q1 FY2016 | Q1 FY2015 | Change |
|---|---|---|---|
| Revenue | $14.536 million | $11.306 million | 28.6% increase |
| Cost of sales | $12.350 million | $9.614 million | 28.5% increase |
| Approximate gross margin | 15.0% | 15.0% | Broadly stable |
| Loss from continuing operations | $0.520 million | $0.238 million | Worsened |
| Net loss | $0.557 million | $0.266 million | Worsened |
| Basic and diluted loss per share | $0.05 | $0.03 | Loss increased |
| Adjusted EBITDA | $0.228 million | $0.203 million | 12.3% increase |
| Cash flow from operations | $0.743 million | $(0.742) million | $1.485 million improvement |
| Capital expenditures | $3.564 million | $0.530 million | Significant increase |
Revenue comprised $8.639 million of food and supply sales, $1.273 million of franchise revenue, and $4.624 million of company-owned restaurant sales. The approximate pretax loss margin was 5.4%, and the approximate net loss margin was 3.8%.
Cash and cash equivalents were $3.916 million at September 27, 2015, down from $5.958 million at June 28, 2015. Current assets were $9.365 million versus current liabilities of $5.013 million. The filing reports no bank debt at quarter-end after repayment of the company’s credit facilities in the prior fiscal year.
Total assets were $24.919 million and total shareholders’ equity was $17.477 million. Accounts receivable were $3.357 million, net of a $0.272 million allowance for bad debts. The company reported deferred tax assets totaling approximately $2.9 million and believes they are fully realizable through future taxable income and reversal of temporary differences.
Material Changes Versus the Prior Comparable Period
- Revenue increased 28.6%, primarily from growth in Pie Five franchisee activity, additional company-owned Pie Five restaurants, and higher food and supply sales.
- Company-owned restaurant sales increased 64.0% to $4.624 million, while company-owned restaurant losses before taxes increased to $0.663 million from $0.101 million at the segment level.
- Pre-opening expenses rose to $0.432 million from $0.035 million, principally due to additional company-owned Pie Five restaurants under development.
- General and administrative expenses increased to $1.569 million from $1.109 million, and franchise expenses increased to $0.859 million from $0.715 million, reflecting additional personnel and resources supporting growth.
- Interest expense declined to $1 thousand from $107 thousand because bank debt had been repaid.
- Operating cash flow improved to $0.743 million from negative $0.742 million, partly because the distribution model shifted system-wide inventory responsibility from Norco to third-party distributors.
- Capital expenditures increased to $3.564 million, primarily for new company-owned Pie Five restaurants, causing cash to decline by $2.042 million during the quarter.
- Pie Five system-wide retail sales increased 163.3% to $11.105 million, driven largely by unit growth; average weekly sales declined 4.0% to $14,686, while comparable-store retail sales increased 1.5%.
- Pizza Inn domestic retail sales declined 4.0% to $22.459 million, and comparable-store retail sales declined 1.1%. Eight domestic Pizza Inn units closed during the quarter.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
Management stated that the accelerated opening of Pie Five units is expected to continue as previously executed franchise development agreements produce new franchised stores and the company develops additional company-owned stores. No specific earnings or revenue guidance was provided.
Management believes cash on hand, operating cash flow, and proceeds from the 2014 at-the-market offering will be sufficient to fund operations for the next 12 months. Through September 27, 2015, that offering had generated aggregate net proceeds of $7.9 million from the sale of 825,763 shares.
Key risks include continued losses at company-owned Pie Five restaurants, declining Pizza Inn comparable sales, substantial capital requirements for restaurant expansion, dependence on future taxable income to realize deferred tax assets, franchisee credit and collection risk, and potential impairment or inventory write-downs. The company also relies on management estimates for receivables, long-lived assets, taxes, inventory, and legal contingencies.
Discontinued operations generated a $0.037 million loss, related to two closed company-owned Pizza Inn locations in Texas. The company is subject to ordinary-course legal claims and believes they are insured or would not have a material adverse effect. A related-party advisory agreement with an entity controlled by the chairman provides for quarterly fees of $50,000 plus potential additional fees, subject to financial covenant compliance.
Management concluded that disclosure controls and procedures were effective as of September 27, 2015, and reported no material changes in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether Pie Five unit growth can translate into sustainable positive store-level and consolidated profitability despite lower average weekly sales and higher pre-opening costs.
- The pace and funding of planned company-owned restaurant openings and the resulting capital expenditure and cash-burn requirements.
- The company’s ability to maintain liquidity while operating with no bank debt but declining cash balances.
- Whether the $2.9 million deferred tax asset remains fully realizable given continuing operating losses.
- Trends in Pizza Inn domestic comparable-store sales and the effect of continued unit closures.
- The impact of the revised distribution model on revenue, margins, working capital, and future operating cash flow.
- Potential dilution from the ATM offering, outstanding stock options, and additional equity financing.