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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

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

 

For the quarterly period ended October 1, 2012

 

OR

 

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

 

For the transition period from           to         

 

Commission File No. 000-50052

 

COSÌ, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

06-1393745

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

1751 Lake Cook Road

Deerfield, Illinois 60015

(Address of principal executive offices) (Zip Code)

 

(847) 597-8800

(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 o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o

 

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

 

Large accelerated filer o

Accelerated filer o

Non-Accelerated filer o

Smaller reporting company x

 

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

 

Number of shares of Common Stock, $.01 par value, outstanding as of November 8, 2012: 73,113,069

 

 

 



Table of Contents

 

COSI, INC.

 

Index to Form 10-Q

For the nine-month period ended October 1, 2012

 

 

 

Page Number

 

 

 

PART I. FINANCIAL INFORMATION

 

 

 

 

Item 1.

Financial Statements (Unaudited)

 

 

 

 

 

Consolidated Balance Sheets — as of October 1, 2012 and January 2, 2012

3

 

 

 

 

Consolidated Statements of Operations and Comprehensive Loss — Three and nine-month periods ended October 1, 2012 and September 26, 2011

4

 

 

 

 

Consolidated Statement of Stockholders’ Equity — Nine-month period ended October 1, 2012

5

 

 

 

 

Consolidated Statements of Cash Flows — Nine-month periods ended October 1, 2012 and September 26, 2011

6

 

 

 

 

Notes to Condensed Consolidated Financial Statements

7-11

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

12-27

 

 

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

28

 

 

 

Item 4.

Controls and Procedures

28

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

29

 

 

 

Item 1A.

Risk Factors

29

 

 

 

Item 5.

Exhibits

29

 

 

 

SIGNATURES

30

 

 

 

EXHIBIT INDEX

31

 

 

 

CERTIFICATIONS

32-34

 

2



Table of Contents

 

PART I.  FINANCIAL INFORMATION

 

Item 1.  Financial Statements

Cosi, Inc.

Consolidated Balance Sheets

As of October 1, 2012 and January 2, 2012

(dollars in thousands)

 

 

 

October 1, 2012

 

January 2, 2012

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

16,319

 

$

7,222

 

Accounts receivable, net

 

642

 

598

 

Notes receivable, current portion

 

347

 

448

 

Inventories

 

751

 

717

 

Prepaid expenses and other current assets

 

522

 

1,480

 

Total current assets

 

18,581

 

10,465

 

 

 

 

 

 

 

Furniture and fixtures, equipment and leasehold improvements, net

 

10,781

 

12,359

 

Notes receivable, net of current portion

 

643

 

762

 

Other assets

 

1,104

 

1,119

 

Total assets

 

$

31,109

 

$

24,705

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

2,797

 

$

3,717

 

Accrued expenses

 

7,311

 

9,733

 

Deferred franchise revenue

 

61

 

61

 

Current portion of other long-term liabilities

 

148

 

195

 

Total current liabilities

 

10,317

 

13,706

 

 

 

 

 

 

 

Deferred franchise revenue

 

1,963

 

2,098

 

Other long-term liabilities, net of current portion

 

2,858

 

3,383

 

Total liabilities

 

15,138

 

19,187

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common stock - $.01 par value; 100,000,000 shares authorized, 73,113,219 and 52,967,365 shares issued, respectively

 

731

 

530

 

Additional paid-in capital

 

296,403

 

283,746

 

Treasury stock, 239,543 shares at cost

 

(1,198

)

(1,198

)

Accumulated deficit

 

(279,965

)

(277,560

)

Total stockholders’ equity

 

15,971

 

5,518

 

Total liabilities and stockholders’ equity

 

$

31,109

 

$

24,705

 

 

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

 

3



Table of Contents

 

Cosi, Inc.

Consolidated Statements of Operations and Comprehensive Loss

For the Three and Nine Months Ended October 1, 2012 and September 26, 2011

(dollars in thousands, except share and per share data)

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

October 1,

 

September 26,

 

October 1,

 

September 26,

 

 

 

2012

 

2011

 

2012

 

2011

 

 

 

(Unaudited)

 

(Unaudited)

 

(Unaudited)

 

(Unaudited)

 

Revenues:

 

 

 

 

 

 

 

 

 

Restaurant net sales

 

$

23,620

 

$

24,468

 

$

72,863

 

$

73,586

 

Franchise fees and royalties

 

739

 

868

 

2,477

 

2,356

 

Total revenues

 

24,359

 

25,336

 

75,340

 

75,942

 

 

 

 

 

 

 

 

 

 

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

Cost of food and beverage

 

5,559

 

5,761

 

16,934

 

17,013

 

Restaurant labor and related benefits

 

8,547

 

8,957

 

25,949

 

26,714

 

Occupancy and other restaurant operating expenses

 

7,670

 

7,777

 

23,311

 

23,453

 

 

 

21,776

 

22,495

 

66,194

 

67,180

 

General and administrative expenses

 

2,986

 

3,311

 

8,694

 

9,759

 

Depreciation and amortization

 

894

 

1,090

 

2,794

 

3,180

 

Provision for losses on asset impairments and disposals

 

10

 

44

 

37

 

199

 

Lease termination expense and closed store costs

 

56

 

5

 

54

 

70

 

Gain on sale of assets

 

 

(108

)

 

(149

)

Total costs and expenses

 

25,722

 

26,837

 

77,773

 

80,239

 

 

 

 

 

 

 

 

 

 

 

Operating loss

 

(1,363

)

(1,501

)

(2,433

)

(4,297

)

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

 

 

 

(1

)

Other income

 

9

 

10

 

28

 

33

 

 

 

 

 

 

 

 

 

 

 

Net loss and comprehensive loss

 

$

(1,354

)

$

(1,491

)

$

(2,405

)

$

(4,265

)

 

 

 

 

 

 

 

 

 

 

Per Share Data:

 

 

 

 

 

 

 

 

 

Loss per share, basic and diluted

 

$

(0.02

)

$

(0.03

)

$

(0.04

)

$

(0.08

)

 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

68,497,212

 

51,421,168

 

57,186,170

 

51,345,112

 

 

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

 

4



Table of Contents

 

Cosi, Inc.

Consolidated Statement of Stockholders’ Equity

For the Nine Months Ended October 1, 2012

(unaudited)

(dollars in thousands, except share data)

 

 

 

Common Stock

 

Treasury Stock

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

 

 

 

 

 

 

Number of

 

 

 

Paid In

 

Number of

 

 

 

Accumulated

 

 

 

 

 

Shares

 

Amount

 

Capital

 

Shares

 

Amount

 

Deficit

 

Total

 

Balance, January 2, 2012

 

52,967,365

 

$

530

 

$

283,746

 

239,543

 

$

(1,198

)

$

(277,560

)

$

5,518

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock (1)

 

20,026,844

 

200

 

12,360

 

 

 

 

 

 

 

12,560

 

Forfeiture of restricted stock

 

(53,400

)

(1

)

1

 

 

 

 

 

 

 

 

Stock-based compensation

 

172,410

 

2

 

296

 

 

 

 

 

 

 

298

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

(2,405

)

(2,405

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, October 1, 2012

 

73,113,219

 

731

 

296,403

 

239,543

 

(1,198

)

(279,965

)

15,971

 

 


(1) The additional paid-in capital includes the proceeds, net of issuance costs, from the shareholder rights offering and related private placement to directors and officers of the Company

 

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

 

5



Table of Contents

 

Cosi, Inc.

Consolidated Statements of Cash Flows

For the Nine Months Ended October 1, 2012 and September 26, 2011

(dollars in thousands)

 

 

 

October 1,
2012

 

September 26,
2011

 

 

 

(Unaudited)

 

(Unaudited)

 

Cash flows from operating activities:

 

 

 

 

 

Net loss

 

$

(2,405

)

$

(4,265

)

Adjustments to reconcile net loss to net cash used in operating activities

 

 

 

 

 

Depreciation and amortization

 

2,794

 

3,180

 

Gain on sale of assets

 

 

(149

)

Non-cash portion of asset impairments and disposals

 

37

 

199

 

Provision for bad debts

 

26

 

76

 

Stock-based compensation expense

 

298

 

319

 

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(70

)

(67

)

Notes receivable

 

220

 

265

 

Inventories

 

(34

)

17

 

Prepaid expenses and other current assets

 

958

 

1,040

 

Other assets

 

15

 

28

 

Accounts payable and accrued expenses

 

(3,549

)

(524

)

Deferred franchise revenue

 

(135

)

(88

)

Lease termination reserve

 

(27

)

(111

)

Other liabilities

 

(518

)

(997

)

Net cash used in operating activities

 

(2,390

)

(1,077

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Capital expenditures

 

(1,073

)

(1,368

)

Proceeds from sale of assets

 

 

244

 

Net cash used in investing activities

 

(1,073

)

(1,124

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Proceeds from issuance of common stock

 

12,780

 

 

Common stock issuance costs

 

(220

)

 

Net cash provided by financing activities

 

12,560

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

9,097

 

(2,201

)

Cash and cash equivalents, beginning of period

 

7,222

 

10,307

 

Cash and cash equivalents, end of period

 

$

16,319

 

$

8,106

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

Cash paid for:

 

 

 

 

 

Corporate franchise and income taxes

 

$

79

 

$

55

 

 

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

 

6



Table of Contents

 

COSI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

Note 1 — Basis of Presentation

 

We have prepared the accompanying unaudited condensed consolidated financial statements in accordance with the requirements of Form 10-Q and, therefore, they do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”).  In our opinion, the financial statements reflect all adjustments that are necessary for a fair presentation of the results of operations for the periods shown. All such adjustments are of a normal recurring nature. In preparing financial statements in conformity with U.S. GAAP, we must make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures at the date of the financial statements and during the reporting period. Actual results could differ from those estimates.

 

As used in this quarterly report on Form 10-Q, unless the context requires otherwise, the terms “we,” “our,” “Company” or “Cosi” refer to Cosi, Inc. and its consolidated subsidiaries.

 

The balance sheet at January 2, 2012 has been derived from audited financial statements at that date but does not include all of the information and footnotes required by U.S. GAAP for complete financial statements.

 

The results for the three and nine months ended October 1, 2012 and September 26, 2011 are not indicative of the results for the full fiscal year.

 

This report should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended January 2, 2012, as filed with the Securities and Exchange Commission (“SEC”).

 

There have been no material changes to our significant accounting policies and estimates from the information provided in Note 1 of our consolidated financial statements included in our Form 10-K for the fiscal year ended January 2, 2012.

 

Note 2 — Stock-Based Compensation Expense

 

A summary of non-cash, stock-based compensation expense is as follows:

 

 

 

For the Three Months Ended

 

For the Nine Months Ended

 

 

 

(in thousands)

 

(in thousands)

 

 

 

October 1,
2012

 

September 26,
2011

 

October 1,
2012

 

September 26,
2011

 

Restricted stock compensation expense, net of forfeitures

 

96

 

68

 

298

 

319

 

Total non-cash, stock-based compensation expense, net of forfeitures

 

$

96

 

$

68

 

$

298

 

$

319

 

 

As of October 1, 2012, there was approximately $0.7 million of total unrecognized compensation expense related to restricted stock shares granted under the Cosi, Inc. 2005 Omnibus Long-Term Incentive Plan (the “2005 Plan”). The expense related to these grants is being recognized on a straight-line basis from the date of each grant through fiscal 2016.

 

We did not grant any shares of restricted stock to employees during the nine months ended October 1, 2012. During the same period, we converted 365,000 previously issued restricted stock units into shares of our common stock. In the nine months ended September 26, 2011, we granted and issued 98,000 restricted stock shares and 100,000 restricted stock units to key employees. The vesting of these grants occurs as follows: (i) 20% of the stock shares and stock units vested on the grant date, and (ii) an additional 20% of the stock shares and stock units vest on each

 

7



Table of Contents

 

COSI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) — continued

 

anniversary of the grant date provided that at each such date the employee continues to be employed by the Company. The value of the shares for the grants made during fiscal 2011, based on the closing price of our common stock on the date of the grants, was approximately $0.3 million.

 

In the three months ended October 1, 2012 and September 26, 2011, 44,900 shares and 200,000 units, respectively, of previously issued restricted common stock were forfeited. The value of these forfeitures, based on the closing price of our common stock on the date of the grants, was approximately $0.1 and $0.2 million in the three months ended October 1, 2012 and September 26, 2011, respectively. During the nine months ended October 1, 2012 and September 26, 2011, 53,400 and 42,000 shares, respectively, of previously issued restricted stock shares were forfeited. The value of these forfeited shares, based on the closing price of our common stock on the date of the grants, was approximately $0.1 and $0.02 million in the nine months ended October 1, 2012 and September 26, 2011, respectively. The accompanying consolidated statements of operations for the nine months ended October 1, 2012 and September 26, 2011 reflect the reversal of approximately $0.01 and $0.06 million, respectively, of previously amortized costs related to forfeited shares and units of common stock.

 

In the nine months ended October 1, 2012 and September 26, 2011, we issued 172,410 and 110,620 shares, respectively, of our restricted stock to members of the Board of Directors pursuant to the 2005 Plan. These shares had an aggregate value of approximately $0.2 and $0.1 million, respectively, and vested upon issuance.

 

Stock-based compensation expense relating to restricted stock of approximately $0.1 million is included in the accompanying consolidated statement of operations for each of the quarters ended October 1, 2012 and September 26, 2011. For the nine months ended October 1, 2012 and September 26, 2011, stock-based compensation expense relating to restricted stock grants is approximately $0.3 million, in each of the quarters presented.

 

Note 3 — Earnings Per Share

 

 

 

For the Three Months Ended

 

For the Nine Months Ended

 

 

 

(net loss in thousands)

 

(net loss in thousands)

 

 

 

October 1,
2012

 

September 26,
2011

 

October 1,
2012

 

September 26,
2011

 

Net loss and comprehensive loss

 

$

(1,354

)

$

(1,491

)

$

(2,405

)

$

(4,265

)

Shares:

 

 

 

 

 

 

 

 

 

Weighted average number of shares outstanding

 

68,497,212

 

51,421,168

 

57,186,170

 

51,345,112

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted loss per share

 

$

(0.02

)

$

(0.03

)

$

(0.04

)

$

(0.08

)

 

Basic and diluted earnings per share is calculated by dividing the net income or loss by the weighted-average common shares outstanding during each period presented. As of October 1, 2012 and September 26, 2011, there were, respectively, 1,111,050 and 188,800 unvested restricted shares of common stock outstanding and 157,009 and 447,228 out-of-the-money stock options to purchase shares of common stock. The unvested restricted shares meet the requirements for participating securities but were not included in the computation of basic and diluted earnings per share because we incurred a net loss in all periods presented and, hence, the impact would be anti-dilutive. The outstanding out-of-the-money stock options to purchase shares of common stock at October 1, 2012 and September 26, 2011 also meet the requirements for participating securities but were not included in the computation since they were out-of-the-money.

 

Note 4 — Asset Impairments

 

In accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification Topic 360 (ASC Topic 360), Property, Plant & Equipment, we evaluate possible impairments at the individual restaurant

 

8



Table of Contents

 

COSI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) — continued

 

level periodically and record an impairment loss whenever we determine impairment factors are present. We consider a history of poor financial operating performance to be the primary indicator of potential impairment for individual restaurant locations. We determine whether a restaurant location is impaired based on expected undiscounted cash flows, generally for the remainder of the lease term, and then determine the impairment charge based on discounted cash flows for the same period.

 

Restaurants are not considered for impairment during the period before they enter the comparable restaurant base, unless specific circumstances warrant otherwise.

 

We did not record any asset impairment charges during the nine months ended October 1, 2012. During the same period of fiscal 2011, we recorded an asset impairment charge of approximately $0.1 million related to one underperforming restaurant in the northeast region.

 

Note 5 — Lease Termination Costs

 

We did not incur any lease termination costs in the three months ended October 1, 2012 and September 26, 2011. Future store closings, if any, resulting from our decision to close underperforming locations prior to their scheduled lease expiration dates may result in additional lease termination charges. For all exit activities, we estimate our likely liability under contractual leases for restaurants that have been closed. Such estimates have affected the amount and timing of charges to operating results and are impacted by management’s judgments about the time it may take to find a suitable subtenant or assignee, or the terms under which a termination of the lease agreement may be negotiated with the landlord. We recognize costs associated with exit or disposal activities when they are incurred, rather than at the date of a commitment to an exit or disposal plan.

 

Note 6 — Contingencies

 

From time to time, we are a defendant in litigation arising in the ordinary course of our business.  As of the date of this report, there are no legal proceedings that would require accrual or disclosure under ASC 450.

 

Regaining Compliance with The Nasdaq’s Market Value of Listed Securities Standard

 

On August 8, 2012, we received notice from the Listing Qualifications Department of The Nasdaq Stock Market that we have regained compliance with The Nasdaq Listing Standards by curing the market value of listed securities deficiency. The notification letter states that for the 10 consecutive business days, from July 25, 2012 to August 7, 2012, the Company’s market value of listed securities has been $50,000,000 or greater.

 

Notice of Delisting or Failure to Satisfy a Continued Listing Rule or Standard

 

As previously disclosed, on May 25, 2012, the Company received a notice from the Listing Qualifications Department (the “Staff”) of The Nasdaq Stock Market (“NASDAQ”) indicating that Cosi’s common stock (the “Common Stock”) did not meet the continued listing requirement for the NASDAQ Capital Market as set forth in NASDAQ Listing Rule 5450(a)(1) (the “Rule”) because the closing bid price of the Common Stock for the preceding 30 business days had been below $1.00 per share. The Company was granted 180 calendar days, until November 21, 2012, to regain compliance with the Rule.

 

The Company will not regain compliance within the 180-day period and accordingly, the Company anticipates receiving written notification from the Staff (the “Staff Determination”) stating that the Common Stock would be subject to delisting from The NASDAQ Capital Market unless the Company appeals the Staff Determination by requesting a hearing before the NASDAQ Listing Qualifications Panel (the “Panel”) to review the Staff’s Determination.

 

9



Table of Contents

 

COSI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) — continued

 

The Company intends to appeal the Staff Determination by requesting a hearing. The Company anticipates the hearing request will suspend any action with respect to the Staff Determination and allow the continued listing of the Company’s Common Stock on The NASDAQ Capital Market until the Panel renders a decision subsequent to the hearing. In our appeal, the Company intends to present a plan to regain compliance with the Rule and request that the Panel allow the Company additional time within which to regain compliance.  There can be no assurance that the Panel will accept the Company’s plan and grant the Company’s request for continued listing. If the Panel’s decision denies the Company’s request for continued listing, the Company may also appeal that decision, which would not stay a delisting decision.

 

Other Events

 

Pursuant to the employment agreement with Carin Stutz, Chief Executive Officer and President, and in connection with the September 21, 2012 sale of Ms. Stutz’ primary residence in Dallas, TX, the Company has been released from its contractual obligation to purchase the Executive’s residence prior to December 31, 2012.

 

Note 7 — Income Taxes

 

We have recorded a full valuation allowance to reduce our deferred tax assets related primarily to net operating loss carryforwards. Our determination of the valuation allowance is based on an evaluation of whether it is more likely than not that we will be able to utilize the net operating loss carryforwards, based on the Company’s operating results. A positive adjustment to income will be recorded in future years if we determine that we could realize these deferred tax assets.

 

As of October 1, 2012, we had net operating loss (“NOL”) carryforwards of approximately $208.8 million for U.S. federal income tax purposes. Under the Internal Revenue Code, an “ownership change” with respect to a corporation can significantly limit the amount of pre-ownership change NOLs and certain other tax assets that the corporation may utilize after the ownership change to offset future taxable income, possibly reducing the amount of cash available to the corporation to satisfy its obligations. An ownership change generally would occur if the aggregate stock ownership of holders of at least 5% of our stock increases by more than 50 percentage points over the preceding three year period. We do not believe that the rights offering that we filed during our first quarter of fiscal 2010 has triggered an ownership change. In addition, a limitation would not have an impact on our consolidated financial statements as we have recorded a valuation allowance for the entire amount of our deferred tax assets. The purchase of shares of our common stock pursuant to the rights offering and private placement of common stock that we completed during the third quarter of fiscal 2012 may trigger an ownership change with respect to our common stock (see Note 8).

 

We adopted ASC 740-10, Income Taxes, which prescribes a comprehensive financial statement model of how a company should recognize, measure, present and disclose uncertain tax positions that the company has taken or expects to take in its income tax returns. The standard requires that only income tax benefits that meet the “more likely than not” recognition threshold be recognized or continue to be recognized on the effective date. Initial recognition amounts would have been reported as a cumulative effect of a change in accounting principle.

 

Should the Company need to accrue interest or penalties on uncertain tax positions, it would recognize the interest as interest expense and the penalties as a general and administrative expense.

 

Due to our unexpired NOLs, Cosi could be subject to IRS income tax examination for the tax year 1996 and all subsequent years. We could also be subject to state income tax examinations in certain states where we have unexpired NOLs.

 

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COSI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) — continued

 

Note 8 — Rights Offering and Private Placement of Common Stock

 

On July 9, 2012, we completed a shareholders’ rights offering to our shareholders of record as of May 24, 2012. We issued a total of 19,661,844 shares of our $0.01 par value common stock at a subscription price of $0.65 per share. Of those shares, our executive officers and outside directors purchased an aggregate of 2,534,323 shares of our $0.01 par value common stock, at a subscription price of $0.65 per share, through a private placement, based on the number of shares that would have been available to them had they executed their basic and oversubscription privilege in the rights offering. We received net proceeds of approximately $12.6 million from the rights offering and the private placement of common stock which we intend to use for growth and general corporate purposes, which may include, but are not limited to, working capital and capital expenditures.

 

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Item 2:        MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our financial condition and results of operations for the fiscal quarters ended October 1, 2012 and September 26, 2011 should be read in conjunction with “Selected Consolidated Financial Data” and our audited consolidated financial statements and the notes to those statements that are in our 2011 Annual Report on Form 10-K. Our discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth under “Cautionary Note Regarding Forward-Looking Statements” below and elsewhere in this Quarterly Report.

 

OVERVIEW

 

System-wide restaurants:

 

 

 

For the Three Months Ended

 

 

 

October 1, 2012

 

September 26, 2011

 

 

 

Company-
Owned

 

Franchise

 

Total

 

Company-
Owned

 

Franchise

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restaurants at beginning of period

 

79

 

54

 

133

 

81

 

59

 

140

 

New restaurants opened

 

 

 

 

 

 

 

Restaurants permanently closed

 

2

 

2

 

4

 

1

 

1

 

2

 

Restaurants at end of period

 

77

 

52

 

129

 

80

 

58

 

138

 

 

 

 

For the Nine Months Ended

 

 

 

October 1, 2012

 

September 26, 2011

 

 

 

Company-
Owned

 

Franchise

 

Total

 

Company-
Owned

 

Franchise

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restaurants at beginning of period

 

80

 

56

 

136

 

83

 

59

 

142

 

New restaurants opened

 

 

1

 

1

 

 

 

 

 

 

Restaurants permanently closed

 

3

 

5

 

8

 

3

 

1

 

4

 

Restaurants at end of period

 

77

 

52

 

129

 

80

 

58

 

138

 

 

As of October 1, 2012, there were 77 Company-owned and 52 franchised restaurants operating in 16 states, the District of Columbia, and the United Arab Emirates (“UAE”). During the three months ended October 1, 2012, we closed two Company-owned restaurants at the expiration of their leases. In addition, two franchised restaurants closed during the quarter and another one closed subsequent to it.

 

Our restaurants offer innovative, savory, made-to-order products featuring our authentic hearth-baked crackly crust signature Cosi® bread and fresh distinctive ingredients. We maintain a pipeline of new menu offerings that are introduced seasonally through limited time offerings to keep our products relevant to our target customers. Our menu features high-quality sandwiches, freshly-tossed salads, breakfast wraps, Cosi® Squagels®, hot melts, flatbread pizzas, S’mores and other desserts, and a variety of coffees along with other soft drink beverages, bottled beverages including premium still and sparkling water, teas, alcoholic beverages, and other specialty coffees and beverages. Our restaurants offer lunch and afternoon coffee in a counter-service format, with most offering breakfast and/or dinner and dessert menus as well.

 

We are currently eligible to offer franchises in 46 states and the District of Columbia. We offer franchises to area developers and individual franchise operators. The initial franchise fee, payable to us, for both an area developer and an individual franchise operator, is $40,000 for the first restaurant and $35,000 for each additional restaurant.

 

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We believe that offering Cosi® franchised restaurants to area developers and individual franchisees offers the prospects of strong financial returns. By franchising, we believe we will be able to increase the presence of our restaurants in various markets throughout the country and generate additional revenue without the large upfront capital commitments and risk associated with opening Company-owned restaurants.

 

We believe that incorporating a franchising and area developer model into our strategy will position us to maximize the market potential for the Cosi® brand and concept consistent with our available capital, and we expect that Company-owned restaurants (restaurants that we own as opposed to franchised restaurants) will always be an important part of our new restaurant growth.

 

We also continue to explore strategic opportunities with our Cosi Pronto® (our grab-and-go concept) and full-service concepts in educational establishments, airports, train stations and other public venues that meet our operating and financial criteria.

 

Recent Developments

 

Regaining Compliance with The Nasdaq’s Market Value of Listed Securities Standard

 

On August 8, 2012, we received notice from the Listing Qualifications Department of The Nasdaq Stock Market that we have regained compliance with The Nasdaq Listing Standards by curing the market value of listed securities deficiency. The notification letter states that for the 10 consecutive business days, from July 25, 2012 to August 7, 2012, the Company’s market value of listed securities has been $50,000,000 or greater.

 

Rights Offering and Private Placement of Common Stock

 

On July 9, 2012, we completed a shareholders’ rights offering to our shareholders of record as of May 24, 2012. We issued a total of 19,661,844 shares of our $0.01 par value common stock at a subscription price of $0.65 per share. As part of the rights offering, our executive officers and outside directors purchased an aggregate of 2,534,323 shares of our $0.01 par value common stock, at a subscription price of $0.65 per share, through a private placement, based on the number of shares that would have been available to them had they executed their basic and oversubscription privilege in the rights offering. We received net proceeds of approximately $12.6 million from the rights offering and the private placement of common stock which we intend to use for growth and general corporate purposes, which may include, but are not limited to, working capital and capital expenditures.

 

Notice of Delisting or Failure to Satisfy a Continued Listing Rule or Standard

 

As previously disclosed, on May 25, 2012, the Company received a notice from the Listing Qualifications Department (the “Staff”) of The Nasdaq Stock Market (“NASDAQ”) indicating that Cosi’s common stock (the “Common Stock”) did not meet the continued listing requirement for the NASDAQ Capital Market as set forth in NASDAQ Listing Rule 5450(a)(1) (the “Rule”) because the closing bid price of the Common Stock for the preceding 30 business days had been below $1.00 per share. The Company was granted 180 calendar days, until November 21, 2012, to regain compliance with the Rule.

 

The Company will not regain compliance within the 180-day period and accordingly, the Company anticipates receiving written notification from the Staff (the “Staff Determination”) stating that the Common Stock would be subject to delisting from The NASDAQ Capital Market unless the Company appeals the Staff Determination by requesting a hearing before the NASDAQ Listing Qualifications Panel (the “Panel”) to review the Staff’s Determination.

 

The Company intends to appeal the Staff Determination by requesting a hearing. The Company anticipates the hearing request will suspend any action with respect to the Staff Determination and allow the continued listing of the Company’s Common Stock on The NASDAQ Capital Market until the Panel renders a decision subsequent to the

 

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hearing. In our appeal, the Company intends to present a plan to regain compliance with the Rule and request that the Panel allow the Company additional time within which to regain compliance.  There can be no assurance that the Panel will accept the Company’s plan and grant the Company’s request for continued listing. If the Panel’s decision denies the Company’s request for continued listing, the Company may also appeal that decision, which would not stay a delisting decision.

 

Other Events

 

Pursuant to the employment agreement with Carin Stutz, Chief Executive Officer and President, and in connection with the September 21, 2012 sale of Ms. Stutz’ primary residence in Dallas, TX, the Company has been released from its contractual obligation to purchase the Executive’s residence prior to December 31, 2012.

 

Critical Accounting Policies

 

Our discussion and analysis of our consolidated financial condition and results of operations is based upon the consolidated financial statements and notes to the consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of the consolidated financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period.

 

We believe the application of our accounting policies, and the estimates inherently required therein, are reasonable and generally accepted for companies in the restaurant industry. We believe that the following addresses the more critical accounting policies used in the preparation of our consolidated financial statements and requires management’s most difficult and subjective judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. There have been no material changes in the application of our most critical accounting policies and estimates, judgments and assumptions during the third quarter of fiscal 2012.

 

Long Lived Assets: ASC 360-10-35 Property, Plant, & Equipment requires management judgments regarding the future operating and disposition plans for marginally-performing assets, and estimates of expected realizable values for assets to be sold. The application of this standard has affected the amount and timing of charges to operating results that have been significant in recent years. We evaluate possible impairment at the individual restaurant level periodically and record an impairment loss whenever we determine impairment factors are present. We consider a history of poor financial operating performance to be the primary indicator of potential impairment for individual restaurant locations. We determine whether a restaurant location is impaired based on expected undiscounted cash flows, generally for the remainder of the lease term, and then determine the impairment charge based on discounted cash flows for the same period.  Restaurants are not considered for impairment during the “ramp-up” period before they enter the comparable restaurant base, unless specific circumstances warrant otherwise.

 

Lease Termination Charges: ASC 420-10-30 Exit or Disposal Cost Obligations requires companies to recognize a liability for the costs associated with an exit or disposal activity when the liability is incurred, rather than at the time of a commitment to an exit or disposal plan. For all exit activities, we estimate our likely liability under contractual leases for restaurants that have been closed. Such estimates have affected the amount and timing of charges to operating results and are impacted by management’s judgments about the time it may take to find a suitable subtenant or assignee, or the terms under which a termination of the lease agreement may be negotiated with the landlord.

 

Accounting for Lease Obligations: In accordance with ASC 840-10-25 Leases, we recognize rent expense on a straight-line basis over the lease term commencing on the date we take possession. We include any rent escalations, rent abatements during the construction period and any other rent holidays in our straight-line rent expense calculation.

 

Landlord Allowances: In accordance with ASC 840-10-25 Leases, we record landlord allowances as deferred rent in other long-term liabilities on the consolidated balance sheets and amortize them on a straight-line basis over the term of the related leases.

 

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Stock-Based Compensation Expense:  In accordance with ASC 718-10-25 Compensation — Stock Compensation we recognize stock-based compensation expense according to the fair value recognition provision, which generally requires, among other things, that all employee share-based compensation be measured using a fair value method and that all the resulting compensation expense be recognized in the financial statements.

 

We measure the estimated fair value of our granted stock options using a Black-Scholes pricing model and of our restricted stock based on the fair market value of a share of registered stock on the date of grant. The weighted average fair values of the stock options granted through 2005, the last time we issued stock options, were determined using the Black-Scholes option-pricing model.

 

Income Taxes: We have recorded a full valuation allowance to reduce our deferred tax assets that relate primarily to net operating loss carry-forwards. Our determination of the valuation allowance is based on an evaluation of whether it is more likely than not that we will be able to utilize the net operating loss carry-forwards based on the Company’s operating results. A positive adjustment to income will be recorded in future years if we determine that we could realize these deferred tax assets.

 

Revenue

 

Restaurant Net Sales: Our Company-owned restaurant sales are composed almost entirely of food and beverage sales. We record revenue at the time of the purchase of our products by our customers.

 

Franchise Fees and Royalties: Franchise fees and royalties includes fees earned from franchise agreements entered into with area developers and franchise operators, as well as royalties received based on sales generated at franchised restaurants. We recognize the franchise fee in the period in which a franchise location opens or when fees are forfeited as a result of a termination of an area developer agreement. We recognize franchise royalties in the period in which sales are made by our franchise operators.

 

Gift Card Sales: We offer our customers the opportunity to purchase gift cards at our restaurants and through our website. Customers can purchase these cards at varying dollar amounts. At the time of purchase by the customer, we record a gift card liability for the face value of the card purchased. We recognize the revenue and reduce the gift card liability when the gift card is redeemed. We do not reduce our recorded liability for potential non-use of purchased gift cards.

 

COMPARABLE RESTAURANT SALES

 

In calculating comparable restaurant sales, we include a restaurant in the comparable restaurant base after it has been in operation for 15 full months. We remove from the comparable restaurant base for the period any restaurant that is temporarily shut down for remodeling during that period. As of October 1, 2012 and September 26, 2011, there were 77 and 80 restaurants in our comparable restaurant base, respectively.

 

Costs and Expenses

 

Cost of Food and Beverage. Cost of food and beverage is composed of food and beverage costs. Food and beverage costs are variable and fluctuate with sales volume.

 

Restaurant Labor and Related Benefits. The costs of restaurant labor and related benefits include direct hourly and management wages, bonuses, payroll taxes, health insurance and all other fringe benefits.

 

Occupancy and Other Restaurant Operating Expenses. Occupancy and other restaurant operating expenses include direct restaurant-level operating expenses, including the cost of paper and packaging, supplies, repairs and maintenance, utilities, rent and related occupancy costs.

 

General and Administrative Expenses. General and administrative expenses include all corporate and administrative functions that support our restaurants and provide an infrastructure to operate our business. Components of these expenses include executive management costs; supervisory and staff salaries; non-field stock-based compensation

 

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expense; non-field bonuses and related taxes and employee benefits; travel; information systems; training; support center rent and related occupancy costs; and professional and consulting fees. The salaries, bonuses and employee benefits costs included as general and administrative expenses are generally more fixed in nature and do not vary directly with the number of restaurants we operate. Stock-based compensation expense includes the charges related to recognizing the fair value of stock options and restricted stock as compensation for awards to certain key employees and non-employee directors, except the costs related to stock-based compensation for restaurant employees which are included in restaurant labor and related benefits.

 

Depreciation and Amortization. Depreciation and amortization principally relates to restaurant assets.

 

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Table of Contents

 

RESULTS OF OPERATIONS

 

Our operating results for the three and nine months ended October 1, 2012 and September 26, 2011, expressed as a percentage of total revenues (except where otherwise noted), were as follows:

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

October 1,
2012

 

September 26,
2011

 

October 1,
2012

 

September 26,
2011

 

 

 

 

 

 

 

 

 

 

 

Revenues:

 

 

 

 

 

 

 

 

 

Restaurant net sales

 

97.0

%

96.6

%

96.7

%

96.9

%

Franchise fees and royalties

 

3.0

 

3.4

 

3.3

 

3.1

 

Total revenue

 

100.0

 

100.0

 

100.0

 

100.0

 

Cost and expenses:

 

 

 

 

 

 

 

 

 

Cost of food and beverage (1)

 

23.5

 

23.5

 

23.2

 

23.1

 

Restaurant labor and related benefits (1)

 

36.2

 

36.6

 

35.6

 

36.3

 

Occupancy and other restaurant operating expenses (1)

 

32.5

 

31.8

 

32.0

 

31.9

 

 

 

92.2

 

91.9

 

90.8

 

91.3

 

General and administrative expenses

 

12.3

 

13.1

 

11.5

 

12.9

 

Depreciation and amortization

 

3.7

 

4.3

 

3.7

 

4.2

 

Provision for losses on asset impairments and disposals

 

 

0.2

 

 

0.3

 

Lease termination expense and closed store costs

 

0.2

 

 

0.1

 

 

Gain on sale of assets

 

 

(0.4

)

 

(0.2

)

Total costs and expenses

 

105.6

 

105.9

 

103.2

 

105.7

 

Operating loss

 

(5.6

)

(5.9

)

(3.2

)

(5.7

)

Other income

 

 

 

 

0.1

 

Net loss and comprehensive loss

 

(5.6

)%

(5.9

)%

(3.2

)%

(5.6

)%

 


(1)         These are expressed as a percentage of restaurant net sales versus all other items expressed as a percentage of total revenues

 

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Table of Contents

 

Restaurant Net Sales

 

 

 

Restaurant net sales

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

23,620

 

97.0

%

Three months ended September 26, 2011

 

$

24,468

 

96.6

%

 

 

 

(in thousands)

 

as a % of total
revenues

 

Nine months ended October 1, 2012

 

$

72,863

 

96.7

%

Nine months ended September 26, 2011

 

$

73,586

 

96.9

%

 

Restaurant net sales: Restaurant net sales decreased 3.5%, or approximately $0.8 million, in the three months ended October 1, 2012, as compared to the same period of fiscal 2011, due to an approximately $0.6 million, or 2.5%, decrease in net sales in our comparable restaurant base, as well as an approximately $0.2 million decrease in net sales related to Company-owned restaurants closed during and after the third quarter of fiscal 2011. The decrease in comparable restaurant net sales was comprised of 3.2% decrease in transactions, partially offset by a 0.7% increase in average check price.

 

In the nine months ended October 1, 2012, restaurant net sales deceased 1.0%, or approximately $0.7 million, as compared to the same period of fiscal 2011, due to a decrease of approximately $1.2 million in net sales related to Company-owned restaurant closed during and after the first quarter of fiscal 2011, partially offset by an increase of approximately $0.5 million, or 0.6%, in net sales in our comparable restaurant base. The increase in comparable restaurant net sales was comprised of 0.5% increase in average check price and 0.1% increase in transactions.

 

Franchise Fees and Royalties

 

 

 

Franchise fees and royalties

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

739

 

3.0

%

Three months ended September 26, 2011

 

$

868

 

3.4

%

 

 

 

(in thousands)

 

as a % of total
revenues

 

Nine months ended October 1, 2012

 

$

2,477

 

3.3

%

Nine months ended September 26, 2011

 

$

2,356

 

3.1

%

 

Franchise fees and royalties: The decrease of approximately $0.1 million in the three months ended October 1, 2012, is primarily due to the franchise fee recognized during the 2011 third quarter resulting from a cancelled area development agreement as well as the one-time royalties adjustment during the same period of 2011. The increase in the nine months ended October 1, 2012 is primarily due to the franchise fees recognized during the second quarter of fiscal 2012 resulting from two cancelled area development agreements.

 

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Costs and Expenses

 

 

 

Cost of food and beverage

 

 

 

(in thousands)

 

as a % of restaurant
net sales

 

Three months ended October 1, 2012

 

$

5,559

 

23.5

%

Three months ended September 26, 2011

 

$

5,761

 

23.5

%

 

 

 

(in thousands)

 

as a% of restaurant
net sales

 

Nine months ended October 1, 2012

 

$

16,934

 

23.2

%

Nine months ended September 26, 2011

 

$

17,013

 

23.1

%

 

Cost of food and beverage: Cost of food and beverage, as a percentage of restaurant net sales, was comparable in the three months ended October 1, 2012 and September 26, 2011 and only slightly higher in the nine months of fiscal 2012 due primarily to higher costs of certain commodities, including poultry, and the impact on total menu mix of an increase in sales of breakfast daypart items and salads which carry a higher cost of goods as a percentage of net sales, partially offset by the favorable impact of menu price increases.

 

 

 

Restaurant labor and related benefits

 

 

 

(in thousands)

 

as a % of restaurant
net sales

 

Three months ended October 1, 2012

 

$

8,547

 

36.2

%

Three months ended September 26, 2011

 

$

8,957

 

36.6

%

 

 

 

(in thousands)

 

as a % of restaurant
net sales

 

Nine months ended October 1, 2012

 

$

25,949

 

35.6

%

Nine months ended September 26, 2011

 

$

26,714

 

36.3

%

 

Restaurant labor and related benefits: The decrease in restaurant labor and related benefits, as a percentage of restaurant net sales, in the three months ended October 1, 2012 is due primarily to savings realized from better deployment of labor hours during peak and non-peak hours of operation, partially offset by the unfavorable impact on labor of the decrease in comparable net restaurant sales, as well as higher healthcare-related benefits expense during the quarter.

 

The decrease in labor and related benefits, as a percentage of restaurant net sales, in the nine months ended October 1, 2012 is due primarily to savings realized from better deployment of labor hours during peak and non-peak hours of operation as well as the favorable impact on labor of the increase in comparable net restaurant sales, partially offset by higher payroll taxes.

 

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Table of Contents

 

 

 

Occupancy and other restaurant
operating expenses

 

 

 

(in thousands)

 

as a % of restaurant
net sales

 

Three months ended October 1, 2012

 

$

7,670

 

32.5

%

Three months ended September 26, 2011

 

$

7,777

 

31.8

%

 

 

 

(in thousands)

 

as a% of restaurant
net sales

 

Nine months ended October 1, 2012

 

$

23,311

 

32.0

%

Nine months ended September 26, 2011

 

$

23,453

 

31.9

%

 

Occupancy and other restaurant operating expenses: The increase in occupancy and other restaurant operating expenses in the three months ended October 1, 2012, as a percentage of restaurant net sales, is due primarily to the unfavorable effect on fixed occupancy-related costs of the decrease in comparable net restaurant sales, as well as the higher credit card fees resulting from greater usage and an increase in rates, partially offset by the lower costs for repairs and maintenance of existing Company-owned restaurants and the savings realized on restaurant merchandizing materials.

 

The slight increase in occupancy and other restaurant operating expenses in the nine months ended October 1, 2012, as a percentage of restaurant net sales, is due primarily to the increase in paper and packaging costs resulting from both a year-over-year increase in catering sales as a percentage of total sales and the higher costs for resin-based packaging, as well as the higher credit card fees resulting from greater usage and an increase in rates.

 

 

 

General and administrative expenses

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

2,986

 

12.3

%

Three months ended September 26, 2011

 

$

3,311

 

13.1

%

 

 

 

(in thousands)

 

as a% of total
revenues

 

Nine months ended October 1, 2012

 

$

8,694

 

11.5

%

Nine months ended September 26, 2011

 

$

9,759

 

12.9

%

 

General and administrative expenses: The decrease in general and administrative expenses in the three and nine months ended October 1, 2012 of approximately $0.3 million and $1.1 million, respectively, is due primarily to lower costs for marketing materials and advertising media expenses, as well as lower third-party professional and board fees, partially offset by the cost of certain relocation expenses in connection with the CEO appointment earlier in the year.

 

 

 

Depreciation and amortization

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

894

 

3.7

%

Three months ended September 26, 2011

 

$

1,090

 

4.3

%

 

 

 

(in thousands)

 

as a% of total
revenues

 

Nine months ended October 1, 2012

 

$

2,794

 

3.7

%

Nine months ended September 26, 2011

 

$

3,180

 

4.2

%

 

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Depreciation and amortization: The decrease in depreciation and amortization expense in the three and nine months ended October 1, 2012 is due primarily to the impact of impairments of approximately $0.3 million recorded during and subsequent to the first quarter of fiscal 2011, as well as the continued depreciation and amortization of our comparable restaurant base.

 

 

 

Provision for losses on asset impairments
and disposals

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

10

 

0.0

%

Three months ended September 26, 2011

 

$

44

 

0.2

%

 

 

 

(in thousands)

 

as a% of total
revenues

 

Nine months ended October 1, 2012

 

$

37

 

0.0

%

Nine months ended September 26, 2011

 

$

199

 

0.3

%

 

Provision for losses on asset impairments and disposals: In the three and nine months ended October 1, 2012, the provisions for losses on asset impairments and disposals were immaterial and related to the closing of two Company-owned restaurants. In the same periods of fiscal 2011, we recorded a provision for losses on asset impairments and disposals related to the closing of two Company-owned restaurants and the impairment of assets at one underperforming location.

 

 

 

Lease termination expense and closed
store costs

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

56

 

0.2

%

Three months ended September 26, 2011

 

$

5

 

0.0

%

 

 

 

(in thousands)

 

as a% of total
revenues

 

Nine months ended October 1, 2012

 

$

54

 

0.1

%

Nine months ended September 26, 2011

 

$

70

 

0.0

%

 

Lease termination and closed store costs: The lease termination and closed store costs in the three and nine months ended October 1, 2012 relate to the closing of Company-owned restaurants. During the same periods in fiscal 2011, we recorded a lease termination expense associated with our exercise of an option in the lease to surrender part of the office space at our Corporate Headquarters during the fourth quarter of fiscal 2010 and costs associated with an early exit agreement at one restaurant.

 

 

 

Gain on sale of assets

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

 

 

Three months ended September 26, 2011

 

$

108

 

0.4

%

 

 

 

(in thousands)

 

as a% of total
revenues

 

Nine months ended October 1, 2012

 

$

 

 

Nine months ended September 26, 2011

 

$

149

 

0.2

%

 

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Gain on sale of assets: The gain on sale of assets in the three and nine months ended September 26, 2011 is related to the sale of a liquor licenses. We did not recognize gain on sale of assets during the three and nine months ended October 1, 2012.

 

 

 

Other income

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

9

 

0.0

%

Three months ended September 26, 2011

 

$

10

 

0.0

%

 

 

 

(in thousands)

 

as a % of total
revenues

 

Nine months ended October 1, 2012

 

$

28

 

0.0

%

Nine months ended September 26, 2011

 

$

33

 

0.0

%

 

Other income: The other income recognized in the three and nine months ended October 1, 2012 and September 26, 2011 is related to the discounting of the long-term portion of a note receivable.

 

 

 

Net loss and comprehensive loss

 

 

 

(in thousands)

 

as a % of total
revenues

 

Three months ended October 1, 2012

 

$

(1,354

)

(5.6

)%

Three months ended September 26, 2011

 

$

(1,491

)

(5.9

)%

 

 

 

(in thousands)

 

as a % of total
revenues

 

Nine months ended October 1, 2012

 

$

(2,405

)

(3.2

)%

Nine months ended September 26, 2011

 

$

(4,265

)

(5.6

)%

 

Net loss and comprehensive loss: The reduction in net loss in the three and nine months ended October 1, 2012 by approximately $0.1 million and $1.9 million, respectively, is primarily due to the decrease in general and administrative expenses by approximately $0.3 million and $1.1 million, respectively, the decrease in labor costs resulting from better deployment of labor hours, as well as the lower depreciation expense, partially offset by the unfavorable effect on fixed occupancy-related costs of the decrease in comparable net restaurant sales, as well as the higher paper and packaging costs in the nine months of the current fiscal year.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash and cash equivalents were approximately $16.3 million on October 1, 2012, compared to $7.2 million on January 2, 2012. We had positive working capital of approximately $8.3 million on October 1, 2012, compared to negative working capital of $3.2 million on January 2, 2012. The increase in working capital is primarily due to the proceeds from the shareholder rights offering and the private placement of shares to our executive officers and outside directors (see Note 8), the year-over-year improvement in our operating loss, net of depreciation and other non-cash expenses, partially offset by payments made for capital expenditures during the year. Our principal requirements for cash in the remainder of 2012 will be for working capital needs and capital expenditures and maintenance of our existing restaurants.

 

Net cash used in operating activities in the nine months ended October 1, 2012 was approximately $2.4 million compared to $1.1 million in the nine months ended September 26, 2011. The increase was primarily the result of an

 

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unfavorable timing difference in the payment of current payroll obligations caused by a shift in the payroll calendar which resulted in one additional payroll during the nine months of fiscal 2012 when compared to the same period in fiscal 2011, as well as the timing of payments on certain vendor obligations and annual insurance premiums, partially offset by the $1.4 million year-over-year improvement in our operating loss net of depreciation and other non-cash expenses.

 

Net cash used in investing activities in the nine months ended October 1, 2012 and September 26, 2011 was comparable at approximately $1.1 million and was primarily the result of capital expenditures for existing Company-owned restaurants.

 

Net cash provided by financing activities of approximately $12.6 million was from the proceeds associated with the shareholder rights offering and the private placement of shares to our executive officers and outside directors.

 

Although we do not currently have any signed agreements to open additional Company-owned restaurants during the remainder of fiscal 2012, we are searching out and assessing opportunities to develop new Company-owned locations in existing markets. We do expect to incur capital costs associated with the maintenance of existing Company-owned restaurants during fiscal 2012. As we currently have no credit facility or available line of credit, we expect to fund any required restaurant capital maintenance costs on existing Company-owned restaurants from cash and cash equivalents on hand, expected cash flows generated by existing Company-owned restaurants, and expected franchise fees and royalties.

 

We believe that our current cash and cash equivalents, the expected cash flows from Company-owned restaurant operations, and the expected franchise fees and royalties will be sufficient to fund our cash requirements for working capital needs and capital improvements and maintenance of existing restaurants for the next twelve months and for new Company-owned restaurant development, if any. Our conclusion is based on our expected performance for fiscal 2012 and current levels of cash and cash equivalents and includes a sensitivity analysis that projects varying levels of decline in consumer demand. The range of levels selected was based on our reasonable expectation of demand given the seasonality of our historical performance and the potential impact the current economic environment may have on consumer spending. In analyzing our capital cash outlays during the nine months of fiscal years 2012 and 2011, 96.4% and 84.4%, respectively, of our capital expenditures were spent on improvements and repairs and maintenance associated with existing Company-owned restaurants. The balance of the capital cash outlays was spent on information technology related projects.

 

If our Company-owned restaurants do not generate the cash flow levels that we expect, if new franchised restaurants do not open according to our expectations, if we do not generate the franchise fees and royalties that we currently expect, if we incur significant unanticipated cash requirements beyond our normal liquidity needs, or if we experience other unforeseen circumstances, then, in order to fund our cash requirements, we may have to cease new Company-owned restaurant development efforts and may have to effect further labor reductions in general and administrative support functions, seek to sell certain Company-owned locations to franchisees and/or other third parties, seek other sources of  financing or take other actions necessitated by the impact of such unanticipated circumstances.

 

There can be no assurance that we will be able to obtain such financing or sell Company-owned locations to franchisees or other third parties or that we will be able to do so in a timely manner and on acceptable terms to meet our requirements. Given the continued instability in the credit and financial markets, it may be difficult for the Company to obtain additional financing and for franchisees to obtain the financing necessary to open restaurants or to acquire Company-owned locations. An inability to access additional sources of liquidity to fund our cash needs could materially adversely affect our financial condition and results of operations.

 

If internally generated cash flow from our restaurants does not meet our expectations, our business, results of operations and financial condition could be materially adversely affected.

 

Our cash resources, and therefore our liquidity, are highly dependent upon the level of internally generated cash from operations and upon future financing transactions. Although we believe that we have sufficient liquidity to fund our working capital requirements for the next twelve months, if cash flows from our existing restaurants or cash flows from new restaurants that we open or from franchise fees and royalties do not meet our expectations or are otherwise

 

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insufficient to satisfy our cash needs, we may have to seek additional financing from external sources to continue funding our operations or reduce or cease our plans to open or franchise new restaurants. We cannot predict whether such financing will be available on terms acceptable to us, or at all.

 

We may need additional capital in the future and it may not be available on acceptable terms.

 

Our business has in the past required, and may continue to require, significant additional capital  to, among other things, fund our operations, increase the number of Company-owned or franchised restaurants, expand the range of services we offer and finance future acquisitions and investments. There is no assurance that financing will be available on terms acceptable to us, or at all. Our ability to obtain additional financing will be subject to a number of factors, including market conditions, our operating performance and investor sentiment. These factors may make the timing, amount, terms and conditions of additional financings unattractive to us. If we are unable to raise additional capital, our business, results of operations and financial condition could be materially adversely affected.

 

We have entered into agreements that create contractual obligations.  These obligations will have an impact on future liquidity and capital resources. The table below presents a summary of these obligations as of October 1, 2012:

 

 

 

Payments Due by Period

 

 

 

(in thousands)

 

 

 

 

 

 

 

Due

 

Due

 

Due

 

 

 

Total

 

Due

 

Fiscal 2013

 

Fiscal 2015

 

After

 

Description

 

Obligations

 

Fiscal 2012

 

to Fiscal 2014

 

to Fiscal 2016

 

Fiscal 2016

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases (1)

 

47,702

 

3,250

 

22,299

 

14,078

 

8,075

 

Other long-term liabilities (2)

 

224

 

18

 

206

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total contractual cash obligations

 

$

47,926

 

$

3,268

 

$

22,505

 

$

14,078

 

$

8,075

 

 


(1)            Amounts shown are net of an aggregate $0.7 million of sub-lease rental income due under non-cancelable subleases and include aggregate accrued contractual lease increases of approximately $2.3 million, which are included in other long-term liabilities in the attached consolidated balance sheets.

 

(2)           These amounts are related to contractual obligations for lease termination agreements and for an obligation related to a legal settlement. These obligations are non-interest bearing and are included in other long-term liabilities in the attached consolidated balance sheets.

 

We are obligated under non-cancelable operating leases for our restaurants and our administrative offices. Lease terms are generally ten years with renewal options and generally require us to pay a proportionate share of real estate taxes, insurance and common area and other operating costs. Some restaurant leases provide for contingent rental payments which are not included in the above table.

 

Certain of our lease agreements provide for scheduled rent increases during the lease term or for rental payments to commence at a date other than the date of initial occupancy. Rent expense is recognized on a straight-line basis over the term of the respective lease from the date we take possession. Our obligation with respect to these scheduled rent increases has been presented as a long-term liability in “Other liabilities” in the accompanying consolidated balance sheets and totaled approximately $2.3 million and $2.8 million as of October 1, 2012 and September 26, 2011, respectively.

 

Certain of our leases also provide for landlord contributions to offset a portion of the cost of our leasehold improvements. These allowances are recorded as deferred liabilities and amortized on a straight-line basis as a reduction to rent expense over the term of the related leases. Included in “Other liabilities” in the accompanying consolidated balance sheets as of October 1, 2012 and September 26, 2011 were landlord allowances of approximately $0.5 million and $0.7 million, respectively.

 

As of October 1, 2012, the Company had outstanding approximately $0.2 million in standby letters of credit, which

 

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were provided as security deposits for certain of the lease obligations. The letters of credit are fully secured by cash deposits or marketable securities held in accounts at the issuing banks and are not available for withdrawal by the Company. These amounts are included as a component of “Other assets” in the accompanying consolidated balance sheets.

 

During fiscal 2009, we entered into a settlement agreement involving a customer claim alleging damages under the Americans with Disabilities Act with regard to access at our restaurants. The settlement requires us to pay $0.08 million in the aggregate in non-interest bearing quarterly installments commencing in fiscal 2010 through fiscal 2012. The remaining amount of this settlement of approximately $0.01 million is included in “Other liabilities” in the accompanying October 1, 2012 balance sheet.

 

Purchase Commitments

 

We have agreements with some of the nation’s largest food, paper, and beverage manufacturers in the industry. This enables us to provide our restaurants with high quality proprietary food products and non-food items at competitive prices. We source and negotiate prices directly with these suppliers and distribute these products to our restaurants primarily through a national network that consists of some of the nation’s largest independent distributors. These primary suppliers and independent distributors have parallel facilities and systems to minimize the risk of any disruption of our supply chain. We do not utilize a commissary system. Our inventory control system allows each restaurant to place orders electronically with our master distributor and then transmits the invoices electronically to our accounts payable system.

 

We have an agreement with Distribution Market Advantage, Inc. (“Distribution Marketing Advantage”) that provides us access to a national network of independent distributors. Under this agreement the independent distributors supply us with approximately 79% of our food and paper products, primarily under pricing agreements that we negotiate directly with the suppliers. This agreement was renegotiated and has been extended through December 2013.

 

We have a long-term beverage marketing agreement with the Coca-Cola Company. We received a marketing allowance under this agreement, which is being recognized as a reduction to expense ratably based on actual products purchased. Effective January 1, 2011, the beverage marketing agreement with the Coca-Cola Company was amended to provide for additional products as well as higher marketing allowances based on purchases.

 

In October 2010, we entered into an agreement to purchase all contracted coffee products through a single supplier, Royal Cup Coffee, Inc. This agreement expires in October 2015.

 

Self-Insurance

 

We have a self-insured group health insurance plan. We are responsible for all covered claims to a maximum limit of $100,000 per participant and an additional aggregating maximum limit of $50,000 for the plan year. Benefits paid in excess of these limits are reimbursed to the plan under our stop-loss policy. In addition, we have an aggregate stop-loss policy whereby our liability for total claims submitted cannot exceed a pre-determined dollar factor based upon, among other things, past years’ claims experience, actual claims paid, the number of plan participants and monthly accumulated aggregate deductibles. During the first nine months of fiscal years 2012 and 2011, we did not exceed this pre-determined maximum. For our 2012 plan year, the pre-determined dollar amount is $1.8 million. The balance in the self-insurance reserve account as of October 1, 2012 and September 26, 2011 was approximately $0.1 million and $0.2 million, respectively.

 

CAUTIONARY NOTE REGARDING FORWARD LOOKING STATEMENTS

 

We caution that any forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) contained or incorporated by reference in this Form 10-Q or made by our management involve risks and uncertainties and are subject to change based on various important factors, many of which may be beyond our control. Accordingly, our future performance and financial results may differ materially from those expressed or implied in any such forward-looking statements. For these statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Any such forward-looking

 

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Table of Contents

 

statements are subject to risks and uncertainties, including, without limitation, those described in Item 1A of our Annual Report on Form 10-K for the fiscal year ended January, 2, 2012. If any of these risks or uncertainties actually occurs, our business, financial condition or operating results could be materially and adversely affected, and the trading price of our common stock could decline. We do not undertake to publicly update or revise our forward-looking statements even if our future changes make it clear that any projected results expressed or implied therein will not be realized.

 

Listed below are just some of the factors that would impact our forward looking statements:

 

·                                          the cost of our principal food products and supply and delivery shortages or interruptions;

 

·                                          labor shortages or increased labor costs;

 

·              changes in demographic trends and consumer tastes and preferences, including changes resulting from concerns over nutritional or safety aspects of beef, poultry, produce or other foods or the effects of food-borne illnesses, such as E.coli, “mad cow disease” and avian influenza or “bird flu;”

 

·                                          competition in our markets, both in our existing business and locating suitable restaurant sites;

 

·                                          our operation and execution in new and existing markets;

 

·                                          expansion into new markets, including foreign countries;

 

·                                          our ability to attract and retain qualified franchisees and our franchisees’ ability to open restaurants on a timely basis;

 

·                                          our ability to locate suitable restaurant sites in new and existing markets and negotiate acceptable lease terms;

 

·                                          the rate of our internal growth, and our ability to generate increased revenue from our new and existing restaurants;

 

·                                          our ability to generate positive cash flow from  existing and new restaurants;

 

·                                          fluctuations in our quarterly results due to seasonality;

 

·                                          increased government regulation and our ability to secure required governmental approvals and permits;

 

·                                          our ability to create customer awareness of our restaurants in new markets;

 

·                                          the reliability of our customer and market studies;

 

·                                          cost effective and timely planning, design and build-out of new restaurants;

 

·                                          our ability to recruit, train and retain qualified corporate and restaurant personnel and management;

 

·                                          market saturation due to new restaurant openings;

 

·                                          inadequate protection of our intellectual property;

 

·                                          our ability to obtain additional capital and financing on acceptable terms;

 

·                                          adverse weather conditions, which impact customer traffic at our restaurants; and

 

·                                          adverse economic conditions.

 

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Table of Contents

 

The words “believe,” “may,” “will,” “should,” “anticipate,” “estimate,” “expect,” “intend,” “objective,” “seek,” “plan,” “strive,” “project” or similar words, or the negatives of these words, identify forward-looking statements. We qualify any forward-looking statements entirely by these cautionary factors.

 

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Table of Contents

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Interest Rate Risk

 

Our market risk exposures are related to our cash and cash equivalents and interest that we may pay on debt. We have no derivative financial commodity instruments. We invest our excess cash in investment grade, highly liquid, short-term investments. These investments are not held for trading or other speculative purposes. Changes in interest rates affect the investment income we earn on our investments and, therefore, impact our cash flows and results of operations. As of October 1, 2012, we held no short-term investments and, as a result, a hypothetical one percentage point interest change from those in effect during the third quarter of fiscal 2012 would not have resulted in a fluctuation of interest income. In the third quarter of fiscal years 2012 and 2011, interest income was immaterial.

 

Foreign Currency Risk

 

As of the third quarter of fiscal 2012, all of our transactions are conducted, and our accounts denominated, in U.S. dollars. Accordingly, we are not exposed to foreign currency risk.

 

Inflation

 

The primary inflationary factors affecting our business are food and labor costs. Some of our food costs are subject to fluctuations in commodity prices. Volatility in the commodity markets such as the wheat and dairy markets can have an adverse impact on our results from operations. Some of our hourly personnel at our restaurants are paid at rates based on the applicable minimum wage, and increases in the minimum wage will directly affect our labor costs. Many of our leases require us to pay taxes, maintenance, repairs, insurance, and utilities, all of which are generally subject to inflationary increases. Historically, inflation has not had a material impact on our results of operation.

 

Item 4. Controls and Procedures

 

Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our “disclosure controls and procedures” as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the fiscal year covered by this report. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective (i) to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) to ensure that information required to be disclosed by us in the reports that we submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure.

 

There have been no changes in our internal controls over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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Table of Contents

 

Part II.  OTHER INFORMATION

 

Item 1:        LEGAL PROCEEDINGS

 

From time to time, we are a defendant in litigation arising in the ordinary course of our business. As of the date of this report, there are no legal proceedings pending which, at this time, are expected to have a material adverse effect if decided against the Company.

 

Item 1A:  RISK FACTORS

 

In addition to the other information set forth in this report, the factors discussed in “Part I.  Item 1A.  Risk Factors” in our Annual Report on Form 10-K for our 2011 fiscal year could materially affect the Company’s business, financial condition or operating results. There have been no material changes in our risk factors since our Annual Report on Form 10-K for the year ended January 2, 2012.

 

Item 5:  EXHIBITS

 

(a)                                 Exhibits:

 

Exhibit Number

 

Description

 

 

 

Exhibit 31.1

 

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

Exhibit 31.2

 

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

Exhibit 32.1

 

Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

101         The following financial information, formatted in Extensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheet as of October 1, 2012 and January 2, 2012, (ii) Consolidated Statements of Operations and Comprehensive Loss for the three and nine months ended October 1, 2012 and September 26, 2011, (iii) Consolidated Statements of Cash Flows for the nine months ended October 1, 2012 and September 26, 2011; and (iv) Notes to Consolidated Financial Statements. In accordance with Regulation S-T, the XBRL-related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall be deemed to be “furnished” and not “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be deemed part of a registration statement, prospectus or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filings.

 

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Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.

 

COSI, INC.

 

 

Date: November 15, 2012

By: /s/ CARIN L. STUTZ

 

Carin L. Stutz

 

President, Chief Executive Officer, and

 

Director

 

 

 

 

Date: November 15, 2012

By: /s/ WILLIAM KOZIEL

 

William Koziel

 

Chief Financial Officer (chief accounting officer)

 

Treasurer and Secretary

 

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Table of Contents

 

EXHIBIT INDEX

 

Exhibit 31.1

 

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

Exhibit 31.2

 

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

Exhibit 32.1

 

Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

101         The following financial information, formatted in Extensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheet as of October 1, 2012 and January 2, 2012, (ii) Consolidated Statements of Operations and Comprehensive Loss for the three and nine months ended October 1, 2012 and September 26, 2011, (iii) Consolidated Statements of Cash Flows for the nine months ended October 1, 2012 and September 26, 2011; and (iv) Notes to Consolidated Financial Statements. In accordance with Regulation S-T, the XBRL-related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall be deemed to be “furnished” and not “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be deemed part of a registration statement, prospectus or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filings.

 

31