Sadot Group Inc. quarterly report, Q2 FY2019

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Business context and reporting period

Muscle Maker, Inc. (the filing registrant; not Sadot Group Inc. as stated in the request metadata) filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2019. It operated the Muscle Maker Grill restaurant business, with seven company-owned and 30 franchised restaurants at quarter-end. The filing describes a franchisor and restaurant operator focused on healthier fast-casual food.

Financial performance and position

  • Second-quarter revenue: $1.38 million, down 10.0% from $1.54 million in Q2 2018. Company restaurant sales fell 13.3% to $816,000; franchise royalties and fees rose to $529,000. The prior-year period included $94,000 of technology revenue from CTI, sold in May 2018.
  • Second-quarter results: Operating loss was $561,000 versus $1.17 million; net loss was $1.54 million versus $2.36 million. Net loss per share was $0.15 versus $0.29. Interest expense rose to $466,000 from $89,000; debt-discount amortization was $518,000.
  • First-half revenue and results: Revenue was $2.57 million, down 28.2% from $3.58 million. Operating loss improved to $1.37 million from $2.71 million, and net loss to $3.03 million from $5.55 million. Net loss per share was $0.29 versus $0.68.
  • Margins and costs: Q2 food and beverage costs were 35.1% of company restaurant sales, labor 41.6%, rent 10.9%, and other restaurant operating costs 17.0%. Management attributed lower total expenses and losses mainly to prior store closures and lower corporate overhead; lower sales also reflected store closures.
  • Cash flow: First-half operating cash use was $2.01 million, versus $1.31 million in 2018; investing cash use was $286,000, including $306,000 of property and equipment purchases. Financing provided $5.35 million, principally from convertible-note proceeds. Cash increased to $3.41 million from $358,000 at December 31, 2018.
  • Liquidity and debt: Working-capital deficiency was $2.58 million, compared with $3.92 million at year-end. Total liabilities were $12.34 million and stockholders’ deficit was $4.57 million. Convertible notes, including related-party and Former Parent notes, had a reported carrying value of $7.93 million, net of discounts; related-party other notes payable were $91,000. The company reported $6.35 million of current liabilities.

Changes, outlook, risks, and unusual items

  • Management and the auditor identified substantial doubt about the company’s ability to continue as a going concern. The filing says ongoing operations and planned expansion require additional capital; financing beyond the disclosed subsequent note issuance was not committed. Failure to obtain funds could lead to cost reductions, delayed development, liability extensions, asset sales, reduced operations, or creditor protection.
  • The company issued or arranged substantial high-cost convertible financing: 15% senior secured notes and 12% secured convertible notes, generally maturing 18 months after issuance, with conversion terms and warrants that could dilute shareholders. The 12% notes are secured by substantially all Muscle Maker USA assets. The filing reports approximately $7.68 million of these offerings as of the filing date and an additional $175,000 raised after quarter-end.
  • The company adopted Topic 606 in Q1 2019, changing franchise-fee recognition to a straight-line basis over franchise agreement terms. Adoption increased deferred revenue and accumulated deficit by $568,540. The filing also describes accelerated franchise-fee recognition associated with closures and terminations. Management reported it had not completed its ASC 606 implementation process and could not disclose the quantitative impact of adoption on the financial statements.
  • A prior-period correction addressed an immaterial Q1 2019 stock-compensation calculation error: common stock and compensation expense had each been overstated by $133,051. No restatement was made; the correction was recorded in Q2.
  • Management gave no quantified revenue, earnings, or cash-flow guidance. It said it expects continued operating and net losses, ongoing working-capital needs, and may seek financing to fund operations and expansion. It cited food, labor, rent, and third-party delivery costs as operating pressures.
  • Disclosure controls were deemed ineffective due to multiple material weaknesses, including inadequate written procedures, insufficient accounting resources, weaknesses in communication of transaction information, and deficiencies in IT controls. Management nevertheless stated the interim financial statements fairly present the company’s financial position and results in all material respects.
  • Contingencies include $271,179 of accrued unpaid past sales taxes and multiple landlord, contractor, and other claims or settlements. The filing reports a $171,035 default judgment related to a note and several settlement payment plans. A major food supplier represented 84% of purchases for the first half of 2019. One franchise location closed after quarter-end.
  • Subsequent events included 290,000 restricted shares and a $75,000 fee for an advisory consulting agreement, additional consulting shares, and board compensation partly payable in shares. These transactions add potential dilution.

Most important facts for investors to verify

  1. Confirm the registrant identity and filing-period match: the supplied filing is for Muscle Maker, Inc., not Sadot Group Inc.
  2. Assess going-concern funding needs, cash burn, and whether additional financing was obtained on terms that avoid excessive dilution or restrictive liens and covenants.
  3. Review the conversion and reset provisions, collateral, maturity dates, interest burden, and warrant coverage of outstanding notes; reconcile stated principal amounts to carrying values net of debt discounts.
  4. Track restaurant closures, franchisee counts, same-store performance, and whether franchise-fee revenue recognized under Topic 606 is recurring or affected by closures and terminations.
  5. Review remediation of the disclosed material weaknesses and the status of ASC 606 implementation, including any further corrections.
  6. Verify payment status and potential exposure from sales taxes, judgments, landlord settlements, and other claims, and monitor supplier concentration.
  7. Quantify actual and potential share dilution from convertible debt, warrants, consulting awards, executive incentives, and board compensation.