UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended March 29, 2020

 

OR

 

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

 

Commission file number 001-38250

 

 

FAT Brands Inc.

(Exact name of registrant as specified in its charter)

 

Delaware		82-1302696
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

 

9720 Wilshire Blvd., Suite 500

Beverly Hills, CA 90212

(Address of principal executive offices, including zip code)

 

(310) 319-1850

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class		Trading Symbol		Name of each exchange on which registered
Common Stock, $0.0001 par value per share		FAT		The Nasdaq Stock Market LLC

 

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

 

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

 

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

 

Large accelerated filer	[  ]	Accelerated filer	[  ]
Non-accelerated filer	[X]	Smaller reporting company	[X]
Emerging growth company	[X]

 

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

 

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

 

As of May 22, 2020, there were 11,894,895 shares of common stock outstanding.

 

 

 

EXPLANATORY NOTE

 

On May 13, 2020, FAT Brands Inc. (the “Company”, “we” and “our”) filed a Current Report on Form 8-K with the U.S. Securities and Exchange Commission (the “SEC”) indicating its reliance on the SEC order issued on March 4, 2020 (Release No. 34-88318) under Section 36 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), granting exemptions from specified provisions of the Exchange Act and certain rules thereunder, as amended and superseded by Release No. 34-88465 issued on March 25, 2020 (collectively, the “Order”).

 

The Company filed the Form 8-K indicating its intension to rely on the Order permitting extensions in filings due to circumstances related to the novel coronavirus pandemic (“COVID-19”). As stated in the Form 8-K, the Company required additional time to finalize its Quarterly Report on Form 10-Q as of and for the quarter ended March 29, 2020, (the “Quarterly Report”) by the original deadline of May 13, 2020 due to the outbreak of, and local, state and federal governmental responses to, COVID-19. The Company’s operations have experienced disruptions due to the circumstances surrounding the COVID-19 pandemic including, but not limited to, suggested and mandated social distancing and shelter-in-place orders. The COVID-19-related shelter-in-place orders and resulting office closures have severely limited access to our facilities by our financial reporting and accounting staff and the staff of our auditor, and thus impacted the Company’s ability to fulfill required quarterly review processes and procedures on a timely basis.

 

In light of the impact of the factors described above, the Company was unable to compile and review certain information required in order to permit it to timely file the Quarterly Report by May 13, 2020, the original filing deadline, without unreasonable effort or expense. The Company relied on the Order in furnishing the Form 8-K by the original filing deadline of the Quarterly Report.

 

 

FAT BRANDS INC.

QUARTERLY REPORT ON FORM 10-Q

March 29, 2020

 

TABLE OF CONTENTS

 

PART I.	FINANCIAL INFORMATION	4
Item 1.	Financial Statements (Unaudited)	4
	FAT Brands Inc. and Subsidiaries:
	Consolidated Balance Sheets (Unaudited)	4
	Consolidated Statements of Operations (Unaudited)	5
	Consolidated Statements of Stockholders’ Equity (Unaudited)	6
	Consolidated Statements of Cash Flows (Unaudited)	7
	Notes to Consolidated Financial Statements (Unaudited)	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	39
Item 4.	Controls and Procedures	39
PART II.	OTHER INFORMATION	40
Item 1.	Legal Proceedings	40
Item 1A.	Risk Factors	41
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	41
Item 3.	Defaults Upon Senior Securities	41
Item 4.	Mine Safety Disclosures	41
Item 5.	Other Information	41
Item 6.	Exhibits	42
SIGNATURES		43

 

 

PART I — FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS (Unaudited)

 

FAT BRANDS INC.

CONSOLIDATED BALANCE SHEETS

(dollars in thousands, except share data)

 

		March 29, 2020				December 29, 2019
						(Audited)
Assets
Current assets
Cash		$	4,626			$	25
Restricted cash			688				-
Accounts receivable, net of allowance for doubtful accounts of $116 and $595, as of March 29, 2020 and December 29, 2019, respectively			2,288				4,144
Trade notes receivable, net of allowance for doubtful accounts of $37, as of March 29, 2020 and December 29, 2019, respectively			267				262
Assets classified as held for sale			5,077				5,128
Other current assets			962				929
Total current assets			13,908				10,488
Non-current restricted cash			400				-
Notes receivable – noncurrent, net of allowance for doubtful accounts of $86 and $112, as of March 29, 2020 and December 29, 2019, respectively			1,774				1,802
Due from affiliates			31,904				25,967
Deferred income taxes			2,350				2,032
Operating lease right of use assets			722				860
Goodwill			10,912				10,912
Other intangible assets, net			29,520				29,734
Other assets			705				755
Total assets		$	92,195			$	82,550
Liabilities and Stockholders’ Equity
Liabilities
Current liabilities
Accounts payable		$	7,036			$	7,183
Deferred income, current portion			930				895
Accrued expenses			5,414				6,013
Accrued advertising			754				762
Accrued interest payable			295				1,268
Dividend payable on preferred shares (includes amounts due to related parties of $186 and $149 as of March 29, 2020 and December 29, 2019, respectively)			1,767				1,422
Liabilities related to assets classified as held for sale			3,299				3,325
Current portion of operating lease liability			167				241
Current portion of long-term debt			659				24,502
Total current liabilities			20,321				45,611
Deferred income – noncurrent			5,551				5,247
Acquisition purchase price payable			4,134				4,504
Preferred shares, net			15,425				15,327
Deferred dividend payable on preferred shares (includes amounts due to related parties of $114 and $99 as of March 29, 2020 and December 29, 2019, respectively)			728				628
Operating lease liability, net of current portion			593				639
Long-term debt, net of current portion			42,435				5,216
Other liabilities			-				-
Total liabilities			89,187				77,172
Commitments and contingencies (Note 17)
Stockholders’ equity
Common stock, $.0001 par value; 25,000,000 shares authorized; 11,876,659 and 11,860,299 shares issued and outstanding at March 29, 2020 and December 29, 2019, respectively			11,414				11,414
Accumulated deficit			(8,406	)			(6,036	)
Total stockholders’ equity			3,008				5,378
Total liabilities and stockholders’ equity		$	92,195			$	82,550

 

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

 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(dollars in thousands, except per share data)

 

For the thirteen weeks ended March 29, 2020 and March 31, 2019 (Unaudited)

 

		2020				2019
Revenue
Royalties		$	3,309			$	3,463
Franchise fees			175				313
Store opening fees			-				105
Advertising fees			931				976
Other income			8				16
Total revenue			4,423				4,873
Costs and expenses
General and administrative expense			3,531				2,714
Advertising expense			931				976
Refranchising loss			539				518
Total costs and expenses			5,001				4,208
(Loss) income from operations			(578	)			665
Other expense
Interest expense, net of interest income of $718 and $415 due from affiliates during the thirteen weeks ended March 29, 2020 and March 31, 2019, respectively			(1,622	)			(1,686	)
Interest expense related to preferred shares			(452	)			(431	)
Other (expense) income, net			(16	)			24
Total other expense, net			(2,090	)			(2,093	)
Loss before income tax expense (benefit)			(2,668	)			(1,428	)
Income tax expense (benefit)			(298	)			(718	)
Net loss		$	(2,370	)		$	(710	)
Basic and diluted loss per common share		$	(0.20	)		$	(0.06	)
Basic and diluted weighted average shares outstanding			11,868,842				11,636,433

 

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

 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(dollars in thousands, except share data)

Unaudited

 

For the thirteen weeks ended March 29, 2020

 

		Common Stock
										Additional
						Par				paid-in								Accumulated
		Shares				value				capital				Total				deficit				Total
Balance at December 29, 2019			11,860,299			$	1			$	11,413			$	11,414			$	(6,036	)		$	5,378
Net income			-				-				-				-				(2,370	)			(2,370	)
Issuance of common stock in lieu of director fees payable			16,360				-				75				75				-				75
Share-based compensation			-				-				15				15				-				15
Correction of recorded conversion rights associated with Series A-1 preferred shares			-								(90	)			(90	)			-				(90	)
Balance at March 29, 2020			11,876,659			$	1			$	11,413			$	11,414			$	(8,406	)		$	3,008

 

For the thirteen weeks ended March 31, 2019

 

		Common Stock
										Additional
						Par				paid-in								Accumulated
		Shares				value				capital				Total				deficit				Total
Balance at December 30, 2018			11,546,589			$	1			$	10,756			$	10,757			$	(5,018	)		$	5,739
Net loss			-				-				-				-				(710	)			(710	)
Common stock dividend			245,376				-				-				-				-				-
Cash paid in lieu of fractional shares			-				-				(2	)			(2	)			-				(2	)
Issuance of common stock in lieu of director fees payable			15,384				-				90				90				-				90
Share-based compensation			-				-				81				81				-				81
Balance at March 31, 2019			11,807,349			$	1			$	10,925			$	10,926			$	(5,728	)		$	5,198

 

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

 

 

FAT BRANDS INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(dollars in thousands)

 

For the thirteen weeks ended March 29, 2020 and March 31, 2019 (Unaudited)

 

		2020				2019
Cash flows from operating activities
Net loss		$	(2,370	)		$	(710	)
Adjustments to reconcile net loss to net cash used in operations:
Deferred income taxes			(318	)			100
Depreciation and amortization			232				131
Share-based compensation			15				81
Change in operating right of use assets			183				27
Accretion of loan fees and interest			241				1,032
Accretion of preferred shares			7				16
Accretion of purchase price liability			130				54
Provision for (recovery of) bad debts			162				(91	)
Change in:
Accounts receivable			44				(206	)
Trade notes receivable			-				16
Prepaid expenses			(33	)			(443	)
Other			43				(51	)
Accounts payable and accrued expense			(670	)			1,244
Accrued advertising			(8	)			(536	)
Accrued interest receivable from affiliate			(718	)			(415	)
Tax Sharing Agreement liability			(121	)			(467	)
Accrued interest payable			(973	)			(1,541	)
Dividend payable on preferred shares			444				162
Deferred income			339				(266	)
Total adjustments			(1,001	)			(1,153	)
Net cash used in operating activities			(3,371	)			(1,863	)
Cash flows from investing activities
Change in due from affiliates			(5,091	)			(1,400	)
Proceeds from sale of refranchised restaurants			1,650				-
Payments received on loans receivable			46				-
Purchases of property and equipment			(18	)			(23	)
Net cash used in investing activities			(3,413	)			(1,423	)
Cash flows from financing activities
Proceeds from borrowings and associated warrants, net of issuance costs			37,271				19,725
Repayments of borrowings			(24,149	)			(16,400	)
Payments made on acquisition purchase price liability			(500	)			-
Change in operating lease liabilities			(149	)			-
Dividends paid in cash			-				(2	)
Net cash provided by financing activities			12,473				3,323
Net increase in cash and restricted cash			5,689				37
Cash and restricted cash at beginning of period			25				653
Cash and restricted cash at end of period		$	5,714			$	690
Supplemental disclosures of cash flow information:
Cash paid for interest		$	1,571			$	2,748
Cash paid for income taxes		$	13			$	50
Supplemental disclosure of non-cash financing and investing activities:
Director fees converted to common stock		$	75			$	90
Income taxes receivable offset against amounts due from affiliates		$	(121	)		$	(467	)

 

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

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

NOTE 1. ORGANIZATION AND RELATIONSHIPS

 

Organization and Nature of Business

 

FAT Brands Inc. (the “Company”) was formed on March 21, 2017 as a wholly owned subsidiary of Fog Cutter Capital Group Inc. (“FCCG”). On October 20, 2017, the Company completed an initial public offering and issued additional shares of common stock representing 20 percent of its ownership (the “Offering”). The Company’s common stock trades on the Nasdaq Capital Market under the symbol “FAT.” As of March 29, 2020, FCCG continues to control a significant voting majority of the Company.

 

The Company is a multi-brand franchisor specializing in fast casual and casual dining restaurant concepts around the world. As of March 29, 2020, the Company owns and franchises eight restaurant brands: Fatburger, Buffalo’s Cafe, Buffalo’s Express, Hurricane Grill & Wings, Ponderosa Steakhouses, Bonanza Steakhouses, Yalla Mediterranean and Elevation Burger. Combined, as of March 29, 2020, these brands have over 370 locations and more than 200 under development.

 

The Company licenses the right to use its brand names and provides franchisees with operating procedures and methods of merchandising. Upon signing a franchise agreement, the franchisor is committed to provide training, some supervision and assistance, and access to operations manuals. As needed, the franchisor will also provide advice and written materials concerning techniques of managing and operating the restaurants.

 

COVID-19

 

In March 2020, the World Health Organization declared the outbreak of a novel coronavirus (COVID-19) as a pandemic, which continues to spread throughout the United States and other countries. As a result, Company franchisees have temporarily closed some retail locations, reduced or modified store operating hours, adopted a “to-go” only operating model, or a combination of these actions. These actions have reduced consumer traffic, all resulting in a negative impact to Company revenues. While the disruption to our business from the COVID-19 pandemic is currently expected to be temporary, there is a great deal of uncertainty around the severity and duration of the disruption, and also the longer-term effects on our business and economic growth and consumer demand in the U.S. and worldwide. The effects of COVID-19 may materially adversely affect our business, results of operations, liquidity and ability to service our existing debt, particularly if these effects continue in place for a significant amount of time.

 

Liquidity

 

The Company recognized a loss from operations of $578,000 during the thirteen weeks ended March 29, 2020 and income from operations of $665,000 for the thirteen weeks ended March 31, 2019, respectively. The Company recognized net losses of $2,370,000 and $710,000 during the thirteen weeks ended March 29, 2020 and March 31, 2019, respectively. The reduction in earnings is primarily due to reductions in revenues due to COVID-19 coupled with higher general and administrative costs.

 

On March 6, 2020, the Company completed a whole-business securitization (the “Securitization”) through the creation of a bankruptcy-remote issuing entity, FAT Brands Royalty I, LLC (“FAT Royalty”) in which FAT Royalty issued new notes (the “Securitization Notes”) pursuant to an indenture and the supplement thereto (collectively, the “Indenture”). Net proceeds from the issuance of the Securitization Notes were $37,314,000, which consisted of the combined face amount of $40,000,000, net of discounts of $246,000 and debt offering costs of $2,440,000 (See Note 10). A portion of the proceeds from the Securitization was used to repay the remaining $26,771,000 in outstanding balance under the Loan and Security Agreement and to pay the Securitization debt offering costs. The remaining proceeds from the Securitization will be used for working capital.

 

Subsequent to March 29, 2020, as a result of COVID-19, the Company received proceeds from the Payroll Protection Program administered by the Small Business Administration. These loan proceeds relate to FAT Brands Inc. as well as five restaurant locations that are part of the Company’s refranchising program.

 

While the Company expects COVID-19 to negatively impact its business, results of operations, and financial position, the related financial impact cannot be reasonably estimated at this time. However, the Company believes that the working capital from the Securitization combined with receipts collected from the limited operations of its franchisees, and disciplined management of the Company’ operating expenses will be sufficient for the twelve months of operations following the issuance of this Form 10-Q.

 

 

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

Nature of operations –Each franchising subsidiary licenses the right to use its brand name and provides franchisees with operating procedures and methods of merchandising. Upon signing a franchise agreement, the franchisor is committed to provide training, some supervision and assistance, and access to operations manuals. As needed, the franchisor will also provide advice and written materials concerning techniques of managing and operating the restaurants.

 

The Company operates on a 52-week calendar and its fiscal year ends on the last Sunday of the calendar year. Consistent with the industry practice, the Company measures its stores’ performance based upon 7-day work weeks. Using the 52-week cycle ensures consistent weekly reporting for operations and ensures that each week has the same days, since certain days are more profitable than others. The use of this fiscal year means a 53^rd week is added to the fiscal year every 5 or 6 years. In a 52-week year, all four quarters are comprised of 13 weeks. In a 53-week year, one extra week is added to the fourth quarter. Both fiscal 2020 and 2019 are 52-week years.

 

Principles of consolidation – The accompanying consolidated financial statements include the accounts of the Company and its subsidiaries. The accounts of Yalla Mediterranean have been included since its acquisition on December 3, 2018. The operations of Elevation Burger have been included since its acquisition on June 19, 2019. Intercompany accounts have been eliminated in consolidation.

 

Use of estimates in the preparation of the consolidated financial statements – The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates include the determination of fair values of certain financial instruments for which there is no active market, the allocation of basis between assets acquired, sold or retained, and valuation allowances for notes receivable and accounts receivable. Estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

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

 

Credit and Depository Risks – Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and accounts receivable. Management reviews each of its customer’s financial conditions prior to entry into a franchise or other agreement and believes that it has adequately provided for any exposure to potential credit losses. As of March 29, 2020, accounts receivable, net of allowance for doubtful accounts, totaled $2,288,000 with no customer representing more than 10% of that amount. As of December 29, 2019, the Company had two customers each representing 20% of accounts receivable, net of allowance for doubtful accounts.

 

The Company maintains cash deposits in national financial institutions. From time to time the balances for these accounts exceed the Federal Deposit Insurance Corporation’s (“FDIC”) insured amount. Balances on interest bearing deposits at banks in the United States are insured by the FDIC up to $250,000 per account. As of March 29, 2020, the Company had uninsured deposits in the amount of $4,938,000. As of December 29, 2019, the Company had no accounts with a combined uninsured balance.

 

Restricted Cash – The Company has restricted cash consisting of funds required to be held in trust in connection with the Company’s Securitization. Current portion of restricted cash at March 29, 2020. consisted of $688,000 of funds required to be held in trust in connection with the Company’s securitized debt with no similar balances as of December 29, 2019. Non-current restricted cash of $400,000 at March 29, 2020, represents interest reserves required to be set aside for the duration of the securitized debt with no similar balances as of December 29, 2019.

 

 

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

 

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

 

Assets classified as held for sale – Assets are classified as held for sale when the Company commits to a plan to sell the asset, the asset is available for immediate sale in its present condition and an active program to locate a buyer at a reasonable price has been initiated. The sale of these assets is generally expected to be completed within one year. The combined assets are valued at the lower of their carrying amount or fair value, net of costs to sell and included as current assets on the Company’s consolidated balance sheet. Assets classified as held for sale are not depreciated. However, interest attributable to the liabilities associated with assets classified as held for sale and other related expenses are recorded as expenses in the Company’s consolidated statement of operations.

 

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

 

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

 

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

 

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

 

Franchise Fees: The franchise arrangement is documented in the form of a franchise agreement. The franchise arrangement requires the Company to perform various activities to support the brand that do not directly transfer goods and services to the franchisee, but instead represent a single performance obligation, which is the transfer of the franchise license. The services provided by the Company are highly interrelated with the franchise license and are considered a single performance obligation. Franchise fee revenue from the sale of individual franchises is recognized over the term of the individual franchise agreement. Unamortized non-refundable deposits collected in relation to the sale of franchises are recorded as deferred franchise fees.

 

 

The franchise fee may be adjusted at management’s discretion or in a situation involving store transfers. Deposits are non-refundable upon acceptance of the franchise application. In the event a franchisee does not comply with their development timeline for opening franchise stores, the franchise rights may be terminated, and franchise fee revenue is recognized for non-refundable deposits.

 

Store opening fees – Prior to September 29, 2019, the Company recognized store opening fees in the amount of $35,000 to $60,000 from the up-front fees collected from franchisees upon store opening. The amount of the fee was dependent on brand and location (domestic versus international stores). The remaining balance of the up-front fees were then amortized as franchise fees over the life of the franchise agreement. If the fees collected were less than the respective store opening fee amounts, the full up-front fees were recognized at store opening. The store opening fees were based on out-of-pocket costs to the Company for each store opening and are primarily comprised of labor expenses associated with training, store design, and supply chain setup. International fees recognized were higher due to the additional cost of travel.

 

During the fourth quarter of 2019, the Company performed a study of other public company restaurant franchisors’ application of ASC 606 and determined that a preferred, alternative industry application exists in which the store opening fee portion of the franchise fees is amortized over the life of the franchise agreement rather than at milestones of standalone performance obligations in the franchise agreements. In order to provide financial reporting consistent with other franchise industry peers, the Company applied this preferred, alternative application of ASC 606 during the fourth quarter of 2019 on a prospective basis. As a result of the adoption of this preferred accounting treatment under ASC 606, the Company discontinued the recognition of store opening fees upon store opening and began accounting for the entire up-front deposit received from franchisees as described above in Franchise Fees. A cumulative adjustment to store opening fees and franchise fees was recorded in the fourth quarter of 2019 for store opening fees recognized during the first three quarters of 2019. (See “Immaterial Adjustments Related to Prior Periods”, below.)

 

Royalties – In addition to franchise fee revenue, we collect a royalty calculated as a percentage of net sales from our franchisees. Royalties range from 0.75% to 6% and are recognized as revenue when the related sales are made by the franchisees. Royalties collected in advance of sales are classified as deferred income until earned.

 

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

 

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

 

Earnings per share – The Company reports basic earnings or loss per share in accordance with FASB ASC 260, “Earnings Per Share”. Basic earnings per share is computed using the weighted average number of common shares outstanding during the reporting period. Diluted earnings per share is computed using the weighted average number of common shares outstanding plus the effect of dilutive securities during the reporting period. Any potentially dilutive securities that have an anti-dilutive impact on the per share calculation are excluded. During periods in which the Company reports a net loss, diluted weighted average shares outstanding are equal to basic weighted average shares outstanding because the effect of all potentially dilutive securities would be anti-dilutive.

 

 

The Company declared a stock dividend on February 7, 2019 and issued 245,376 shares of common stock in satisfaction of the stock dividend (See Note 16). Unless otherwise noted, earnings per share and other share-based information for 2019 and 2018 have been adjusted retrospectively to reflect the impact of the stock dividend.

 

Immaterial Adjustments Related to Prior Periods

 

During the fourth quarter of 2019, the Company identified two immaterial potential adjustments to its previously issued financial statements. These potential adjustments are (1) its assessment of the Series A-1 Fixed Rate Cumulative Preferred Stock and (2) its treatment of the store opening component of its franchise fees under ASC 606.

 

Based on its assessment of the Series A-1 Fixed Rate Cumulative Preferred Stock, the Company determined that an error occurred in the analysis of the rights that the holders of the Series A-1 Fixed Rate Cumulative Preferred Stock have with respect to the conversion of the securities into shares of the Company’s common stock. In our reassessment, the conversion rights did not represent a beneficial conversion feature as we had initially concluded at the time of issuance.

 

The Company originally adopted ASC 606 on January 1, 2018. During the fourth quarter of 2019, the Company performed a study of other public company restaurant franchisors’ application of ASC 606 and determined that a preferred, alternative industry application exists in which the store opening fee portion of the franchise fees is amortized over the life of the franchise agreement rather than at milestones of standalone performance obligations in the franchise agreements. In order to provide financial reporting consistent with other franchise industry peers, the Company applied this preferred, alternative application of ASC 606 during the fourth quarter of 2019 on a prospective basis.

 

In accordance with SEC Staff Accounting Bulletin (“SAB”) No. 99, Materiality, codified in ASC 250 (“ASC 250”), Presentation of Financial Statements, and SAB 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Consolidated Statements of Income, Balance Sheets, Shareholders Equity and Cash Flows, also codified in ASC 250, management assessed the materiality of (1) the error in its treatment of the beneficial conversion feature related to the Series A-1 Fixed Rate Cumulative Preferred Stock and (2) the adoption of the preferential accounting treatment under ASC 606. Based on such analysis of quantitative and qualitative factors, the Company has determined that neither the error nor the adoption of the preferential accounting treatment under ASC 606, in aggregate or individually, were material to any of the reporting periods affected, and no amendments to previously filed 10-Q or 10-K reports with the SEC are required.

 

Recently Adopted Accounting Standards

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement.” This ASU adds, modifies and removes several disclosure requirements relative to the three levels of inputs used to measure fair value in accordance with Topic 820, “Fair Value Measurement.” The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

The FASB issued ASU No. 2018-15, Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40). The new guidance reduces complexity for the accounting for costs of implementing a cloud computing service arrangement and aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

The FASB issued ASU 2019-12, Simplifying the Accounting for Income Taxes: This standard removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. It also adds guidance in certain areas, including the recognition of franchise taxes, recognition of deferred taxes for tax goodwill, allocation of taxes to members of a consolidated group, computation of annual effective tax rates related to enacted changes in tax laws, and minor improvements related to employee stock ownership plans and investments in qualified affordable housing projects accounted for using the equity method. The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

 

NOTE 3. ACQUISITIONS AND SIGNIFICANT TRANSACTIONS

 

Acquisition of Elevation Burger

 

On June 19, 2019, the Company completed the acquisition of EB Franchises, LLC, a Virginia limited liability company, and its related companies (collectively, “Elevation Burger”) for a purchase price of up to $10,050,000. Elevation Burger is the franchisor of Elevation Burger restaurants, with 44 locations in the U.S. and internationally.

 

The purchase price consists of $50,000 in cash, a contingent warrant to purchase 46,875 shares of the Company’s common stock at an exercise price of $8.00 per share (the “Elevation Warrant”), and the issuance to the Seller of a convertible subordinated promissory note (the “Elevation Note”) with a principal amount of $7,509,816, bearing interest at 6.0% per year and maturing in July 2026. The Elevation Warrant is only exercisable in the event that the Company merges with FCCG. The Seller Note is convertible under certain circumstances into shares of the Company’s common stock at $12.00 per share. In connection with the purchase, the Company also loaned $2,300,000 in cash to the Seller under a subordinated promissory note (the “Elevation Buyer Note”) bearing interest at 6.0% per year and maturing in August 2026. The balance owing to the Company under the Elevation Buyer Note may be used by the Company to offset amounts owing to the Seller under the Elevation Note under certain circumstances. In addition, the Seller will be entitled to receive earn-out payments of up to $2,500,000 if Elevation Burger realizes royalty fee revenue in excess of certain amounts. As of the date of the acquisition, the fair market value of this contingent consideration totaled $531,000. As of March 29, 2020 and December 29, 2019, the contingent purchase price payable totaled $656,000 and $633,000, respectively, which includes the accretion of interest expense at an effective interest rate of 18%.

 

The purchase documents contain customary representations and warranties of the Seller and provides that the Seller will, subject to certain limitations, indemnify the Company against claims and losses incurred or suffered by the Company as a result of, among other things, any inaccuracy of any representation or warranty of the Seller contained in the purchase documents.

 

The preliminary assessment of the fair value of the net assets and liabilities acquired by the Company for the acquisition of Elevation Burger was estimated at $7,193,000. The allocation of the consideration to the preliminary valuation of net tangible and intangible assets acquired is presented in the table below (in thousands):

 

Cash		$	10
Other assets			558
Intangible assets			7,140
Goodwill			521
Current liabilities			(91	)
Deferred franchise fees			(758	)
Other liabilities			(187	)
Total net identifiable assets		$	7,193

 

The assessment of fair value is preliminary and is based on information that was available to management and through the end of the fiscal quarter. If additional information becomes available to management related to assets acquired or liabilities assumed subsequent to this preliminary assessment of fair value but not later than one year after the date of the acquisition, measurement period adjustments will be recorded in the period in which they are determined, as if they had been completed at the acquisition date. Descriptions of the Company’s assessment of impairment related to COVID-19 of the goodwill and other intangible assets acquired in this acquisition are located in Note 6.

 

 

Yalla Mediterranean Transactions

 

On December 3, 2018, the Company entered into an Intellectual Property Purchase Agreement and License (the “IP Agreement”), and Master Transaction Agreement (the “Master Agreement”) with Yalla Mediterranean, LLC (“Yalla Med”), under which the Company agreed to acquire the intellectual property of the restaurant business of Yalla Mediterranean, LLC (the “Yalla Business”) and to acquire in the future seven restaurants currently owned by Yalla Med. Yalla Med owns and operates a fast-casual restaurant business under the brand name “Yalla Mediterranean,” specializing in fresh and healthy Mediterranean menu items, with seven upscale fast casual restaurants located in Northern and Southern California.

 

The Company, through a subsidiary, acquired the intellectual property used in connection with the Yalla Business pursuant to the IP Agreement. Under the terms of the IP Agreement, the purchase price for the intellectual property will be paid in the form of an earn-out, calculated as the greater of $1,500,000 or 400% of Yalla Income, which includes gross franchise royalties as well as other items, as defined in the IP Agreement. The seller can require the Company to pay the purchase price in up to two installments during the ten-year period following the acquisition. At the time of the acquisition, the purchase price recorded for the intellectual property was $1,790,000. As of March 29, 2020, and December 29, 2019, the purchase price payable totaled $2,239,000 and $2,154,000, respectively, which includes the accretion of interest expense at an effective interest rate of 19%.

 

Additionally, pursuant to the Master Agreement, the Company agreed to acquire the assets, agreements and other properties of each of the seven existing Yalla Mediterranean restaurants during a marketing period specified in the Master Agreement (the “Marketing Period”). The purchase price will be the greater of $1,000,000 or the sum of (i) the first $1,750,000 of gross sale proceeds received from the sale of the Yalla Mediterranean restaurants to franchisee/purchasers, plus (ii) the amount, if any, by which fifty percent (50%) of the net proceeds (after taking into consideration operating income or loss and transaction costs and expenses) from the sale of the Yalla Mediterranean restaurants exceeds $1,750,000. At the time of the acquisition, the purchase price recorded for the net tangible assets relating to the seven existing Yalla Mediterranean restaurants was $1,700,000. During the first quarter of 2020, the Company made a $500,000 payment against the acquisition price. As of March 29, 2020, and December 29, 2019, the purchase price payable totaled $1,239,000 and $1,718,000, respectively, which includes the accretion of interest expense at an effective interest rate of 5.4%.

 

The Company also entered into a Management Agreement under which its subsidiary will manage the operations of the seven Yalla Mediterranean restaurants and market them for sale to franchisees during the Marketing Period. Once a franchisee/purchaser has been identified, Yalla Med will transfer legal ownership of the specific restaurant to the Company’s subsidiary, which will then transfer the restaurant to the ultimate franchisee/purchaser who will own and operate the location. During the term of the Management Agreement, the Company’s subsidiary is responsible for operating expenses and has the right to receive operating income from the restaurants.

 

Based on the structure of the transactions outlined in the Master Agreement, the IP Agreement, and the Management Agreement, the Company has accounted for the transactions as a business combination under ASC 805.

 

The preliminary allocation of the total consideration recognized of $3,490,000 to the net tangible and intangible assets acquired in the Yalla Business is presented in the table below (in thousands):

 

Cash		$	82
Accounts receivable			77
Inventory			95
Other assets			90
Property and equipment			2,521
Intangible assets			1,530
Goodwill			263
Accounts payable and accrued expenses			(1,168	)
Total net identifiable assets		$	3,490

 

Descriptions of the Company’s assessment of impairment related to COVID-19 of the goodwill and other intangible assets acquired in this transaction are located in Note 6.

 

 

nOTE 4. REFRANCHISING

 

As part of its ongoing franchising efforts, the Company may, from time to time, make opportunistic acquisitions of operating restaurants in order to convert them to franchise locations or acquire existing franchise locations to resell to another franchisee across all of its brands.

 

During the first quarter of 2019, the Company met all of the criteria requiring that certain assets used in the operation of certain restaurants be classified as held for sale. As a result, the following assets have been classified as held for sale on the accompanying consolidated balance sheet as of March 29, 2020 (in thousands):

 

		March 29, 2020
Property, plant and equipment		$	1,910
Operating lease right of use assets			3,167
Total		$	5,077

 

Operating lease liabilities related to the assets classified as held for sale in the amount of $3,299,000, have been classified as current liabilities on the accompanying consolidated balance sheet as of March 29, 2020.

 

During the thirteen weeks ended March 29, 2020, the operating restaurants incurred restaurant costs and expenses, net of revenue of $539,000, compared to $518,000 in the prior period. There were no sales of refranchised restaurants by the Company during the thirteen weeks ended March 29, 2020 or March 31, 2019.

 

During the fiscal year ended December 29, 2019, a franchisee had entered into an agreement with the Company by which it agreed to sell two existing franchised locations to the Company for its refranchising program. Additionally, during the fiscal year, the Company had completed transactions to sell the two locations to new owners. During the thirteen weeks ended March 29, 2020, as a result of COVID-19, the locations acquired from the existing franchisee became unavailable. The Company is evaluating the impact of the event and determining which existing operating restaurants will be used as a replacement for the new owners (See Note 20).

 

Note 5. NOTES RECEIVABLE

 

Notes receivable consist of trade notes receivable and the Elevation Buyer Note.

 

Trade notes receivable are created when a settlement is reached relating to a delinquent franchisee account and the entire balance is not immediately paid. Trade notes receivable generally include personal guarantees from the franchisee. The notes are made for the shortest time frame negotiable and will generally carry an interest rate of 6% to 7.5%. Reserve amounts, on the notes, are established based on the likelihood of collection. As of March 29, 2020, and December 29, 2019, these trade notes receivable totaled $250,000, which was net of reserves of $123,000.

 

The Elevation Buyer Note was funded in connection with the purchase of Elevation Burger (See Note 3). The Company loaned $2,300,000 in cash to the Seller under a subordinated promissory note bearing interest at 6.0% per year and maturing in August 2026. This Note is subordinated in right of payment to all indebtedness of the Seller arising under any agreement or instrument to which the Seller or any of its affiliates is a party that evidences indebtedness for borrowed money that is senior in right of payment to the Elevation Buyer Note, whether existing on the effective date of the Elevation Buyer Note or arising thereafter. The balance owing to the Company under the Elevation Buyer Note may be used by the Company to offset amounts owing to the Seller under the Elevation Note under certain circumstances. As part of the total consideration for the Elevation acquisition, the Elevation Buyer Note was recorded at a carrying value of $1,903,000, which was net of a discount of $397,000. As of March 29, 2020, and December 29, 2019, the balance of the Elevation Note was $1,790,000 and $1,814,000, which was net of a discount of $330,000 and $352,000, respectively. During the thirteen weeks ended March 29, 2020, the Company recognized $53,000 in interest income, with no comparable activity in 2019.

 

 

Note 6. GOODWILL and other intangible assets

 

Goodwill

 

Goodwill consists of the following (in thousands):

 

		March 29, 2020				December 29, 2019
Goodwill:
Fatburger		$	529			$	529
Buffalo’s			5,365				5,365
Hurricane			2,772				2,772
Ponderosa			1,462				1,462
Yalla			263				263
Elevation Burger			521				521
Total goodwill		$	10,912			$	10,912

 

Other Intangible Assets

 

Other intangible assets consist of trademarks and franchise agreements that were classified as identifiable intangible assets at the time of the brands’ acquisition by the Company or by FCCG prior to FCCG’s contribution of the brands to the Company at the time of the initial public offering (in thousands):

 

		March 29, 2020				December 29, 2019
Trademarks:
Fatburger		$	2,135			$	2,135
Buffalo’s			27				27
Hurricane			6,840				6,840
Ponderosa			7,230				7,230
Yalla			1,530				1,530
Elevation Burger			4,690				4,690
Total trademarks			22,452				22,452
Franchise agreements:
Hurricane – cost			4,180				4,180
Hurricane – accumulated amortization			(563	)			(482	)
Ponderosa – cost			1,640				1,640
Ponderosa – accumulated amortization			(251	)			(243	)
Elevation Burger – cost			2,450				2,450
Elevation Burger – accumulated amortization			(388	)			(263	)
Total franchise agreements			7,068				7,282
Total Other Intangible Assets		$	29,520			$	29,734

 

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

 

Fiscal year:
2020		$	718
2021			932
2022			932
2023			932
2024			932
Thereafter			2,622
Total		$	7,068

 

 

In response to the adverse effects of COVID-19, we considered whether goodwill and other intangible assets needed to be evaluated for impairment as of March 29, 2020, specifically related to goodwill and the trademark assets. Given the uncertainty regarding the severity, duration and long-term effects of COVID-19, making estimates of the fair value of these assets at this time is significantly affected by assumptions related to ongoing operations including but not limited to the timing of lifting of restrictions on restaurant operating hours, in-house dining limitations or other restrictions that largely limited restaurants to take-out and delivery sales, customer engagement with our brands, the short-term and long-term impact on consumer discretionary spending, and overall global economic conditions. We considered the available facts and made qualitative and quantitative assessments and judgments for what we believed represent reasonably possible outcomes. Although the fair values of certain assets have declined since the time that the most recent annual impairment tests were conducted, we concluded it is more likely than not that neither goodwill nor tradename assets were impaired as of March 29, 2020. However, COVID-19 pandemic events will continue to evolve over time and the negative effects on the operations of our franchisees could prove to be worse than we currently estimate and lead us to record non-cash goodwill or other intangible asset impairment charges in the future periods.

 

Note 7. DEFERRED INCOME

 

Deferred income is as follows (in thousands):

 

		March 29, 2020				December 29, 2019
Deferred franchise fees		$	5,730			$	5,417
Deferred royalties			377				422
Deferred advertising revenue			374				303
Total		$	6,481			$	6,142

 

Note 8. Income Taxes

 

Effective October 20, 2017, the Company entered into a Tax Sharing Agreement with FCCG that provides that FCCG will, to the extent permitted by applicable law, file consolidated federal, California and Oregon (and possibly other jurisdictions where revenue is generated, at FCCG’s election) income tax returns with the Company and its subsidiaries. The Company will pay FCCG the amount that its current tax liability would have been had it filed a separate return. To the extent the Company’s required payment exceeds its share of the actual combined income tax liability (which may occur, for example, due to the application of FCCG’s net operating loss carryforwards), the Company will be permitted, in the discretion of a committee of its board of directors comprised solely of directors not affiliated with or having an interest in FCCG, to pay such excess to FCCG by issuing an equivalent amount of its common stock in lieu of cash, valued at the fair market value at the time of the payment. An inter-company receivable of approximately $26,854,000 due from FCCG and its affiliates will be applied first to reduce excess income tax payment obligations to FCCG under the Tax Sharing Agreement.

 

For financial reporting purposes, the Company has recorded a tax benefit calculated as if the Company files its tax returns on a stand-alone basis. The amount receivable from FCCG determined by this calculation of $121,000 was added to amounts due from FCCG as of March 29, 2020. (See Note 12.)

 

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

 

		March 29, 2020				December 29, 2019
Deferred tax assets (liabilities)
Deferred income		$	1,642			$	1,353
Reserves and accruals			208				208
Intangibles			(791	)			(614	)
Deferred state income tax			(105	)			(91	)
Tax credits			358				244
Share-based compensation			192				192
Fixed assets			(137	)			(137	)
Net operating loss carryforwards			1,023				894
Other			(40	)			(17	)
Total		$	2,350			$	2,032

 

 

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

 

		Thirteen Weeks Ended March 29, 2020				Thirteen Weeks Ended March 31, 2019
Current
Federal		$	(118	)		$	(467	)
State			24				(175	)
Foreign			114				(182	)
			20				(824	)
Deferred
Federal			(249	)			30
State			(69	)			76
			(318	)			106
Total income tax expense (benefit)		$	(298	)		$	(718	)

 

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

 

		Thirteen Weeks Ended				Thirteen Weeks Ended
		March 29, 2020				March 31, 2019
Tax benefit at statutory rate		$	(590	)		$	(300	)
State and local income taxes			(38	)			(78	)
Foreign taxes			121				(183	)
Tax credits			(121	)			183
Dividends on preferred stock			280				(327	)
Other			50				(13	)
Total income tax expense (benefit)		$	(298	)		$	(718	)

 

As of March 29, 2020, the Company’s subsidiaries’ annual tax filings for the prior three years are open for audit by Federal and for the prior four years for state tax agencies. The Company is the beneficiary of indemnification agreements from the prior owners of the subsidiaries for tax liabilities related to periods prior to its ownership of the subsidiaries. Management evaluated the Company’s overall tax positions and has determined that no provision for uncertain income tax positions is necessary as of March 29, 2020.

 

NOTE 9. LEASES

 

The Company has recorded eight operating leases for corporate offices and for certain restaurant properties that are in the process of being refranchised. The Company is not a guarantor to the leases for the restaurant locations. The leases have remaining lease terms ranging from four months to 7.5 years. Five of the leases also have options to extend the term for 5 to 10 years. The Company recognized lease expense of $352,000 and $347,000 for the thirteen weeks ended March 29, 2020 and March 31, 2019, respectively. The weighted average remaining lease term of the operating leases (not including optional lease extensions) at March 29, 2020 was 5.7 years.

 

 

Operating lease right of use assets and operating lease liabilities relating to the operating leases are as follows (in thousands):

 

		March 29, 2020				December 29, 2019
Right of use assets		$	3,889			$	4,076
Lease liabilities		$	4,059			$	4,206

 

The operating lease right of use assets and operating lease liabilities include obligations relating to the optional term extensions available on the five restaurant leases based on management’s intention to exercise the options. At adoption of ASC 842, the discount rate used to calculate the carrying value of the right of use assets and lease liabilities was 15.9% as this was consistent with our incremental borrowing rate at the time.

 

The contractual future maturities of the Company’s operating lease liabilities as of March 29, 2020, including anticipated lease extensions, are as follows (in thousands):

 

Fiscal year:
2020		$	797
2021			870
2022			898
2023			924
2024			684
Thereafter			4,881
Total lease payments			9,054
Less imputed interest			4,995
Total		$	4,059

 

Supplemental cash flow information for the fiscal year ended March 29, 2020 related to leases is as follows (in thousands):

 

Cash paid for amounts included in the measurement of operating lease liabilities:
Operating cash flows from operating leases		$	312
Operating lease right of use assets obtained in exchange for new lease obligations:
Operating lease liabilities		$	-

 

Note 10. DEBT

 

Loan and Security Agreement

 

On January 29, 2019, the Company as borrower, and its subsidiaries and affiliates as guarantors, entered into a Loan and Security Agreement (the “Loan and Security Agreement”) with The Lion Fund, L.P. and The Lion Fund II, L.P. (collectively, “Lion”). Pursuant to the Loan and Security Agreement, the Company borrowed $20.0 million from Lion, and utilized the proceeds to repay the existing $16.0 million term loan from FB Lending, LLC plus accrued interest and fees, and provide additional general working capital to the Company.

 

The term loan under the Loan and Security Agreement was due to mature on June 30, 2020. Interest on the term loan accrued at an annual fixed rate of 20.0% and was payable quarterly. The Company was allowed to prepay all or a portion of the outstanding principal and accrued and unpaid interest under the Loan and Security Agreement at any time upon prior notice to Lion without penalty, other than a make-whole provision providing for a minimum of six months’ interest. The Company was required to prepay all or a portion of the outstanding principal and accrued unpaid interest under the Loan and Security Agreement in connection with certain dispositions of assets, extraordinary receipts, issuances of additional debt or equity, or a change of control of the Company.

 

 

In connection with the Loan and Security Agreement, the Company issued to Lion a warrant to purchase up to 1,167,404 shares of the Company’s Common Stock at $0.01 per share (the “Lion Warrant”), exercisable only if the amounts outstanding under the Loan and Security Agreement were not repaid in full prior to October 1, 2019. If the Loan and Security Agreement was repaid in full prior to October 1, 2019, the Lion Warrant would be terminated in its entirety.

 

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

 

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

 

On the issuance date, the Company evaluated the allocation of the proceeds between the Loan and Security Agreement and the Lion Warrant based on the relative fair values of each. Since the Lion Warrant only was to become effective if the amounts outstanding under the Loan and Security Agreement were not repaid in full prior to October 1, 2019, no value was assigned to it as of the grant date. The Company intended to refinance the debt prior to the beginning of the exercise period of the Lion Warrant.

 

On June 19, 2019, the Company amended its existing loan facility with Lion. The Company entered into a First Amendment to Loan and Security Agreement (the “First Amendment”), which amended the Loan and Security Agreement originally dated January 29, 2019. Pursuant to the First Amendment, the Company increased its borrowings by $3,500,000 in order to fund the Elevation Buyer Note in connection with the acquisition of Elevation, acquire other assets and pay fees and expenses of the transactions. The First Amendment also added the acquired Elevation-related entities as guarantors and loan parties.

 

On July 24, 2019, the Company entered into a first amendment to the Lion Warrant, which extended the date on which the Lion Warrant was initially exercisable from October 1, 2019 to June 30, 2020, which coincided with the maturity date of the loans made under the Loan Agreement. The Lender Warrant was only exercisable if the amounts outstanding under the Loan Agreement were not repaid in full prior to the Exercise Date.

 

The Company agreed to pay the Lenders an extension fee of $500,000 in the form of an increase in the principal amount loaned under the Loan and Security Agreement, and on July 24, 2019 entered into a second amendment to the Loan Agreement (the “Second Amendment”) to reflect this increase. Under the Second Amendment, the parties also agreed to amend the Loan and Security Agreement to provide for a late fee of $400,000 payable if the Company failed to make any quarterly interest payment by the fifth business day after the end of each fiscal quarter.

 

From January 6, 2020 through February 21, 2020, the Company entered into a series of amendments to the Lion Loan and Security Agreement (the “Third Through Seventh Amendments”), which granted five successive extensions of the due date for the payment of the quarterly interest payment which was originally due January 6, 2020 (the “January Quarterly Interest”). The final result of the Third Through Seventh Amendments, extended the due date for the payment of the January Quarterly Interest payment to March 13, 2020. The Company agreed to pay Lion a total extension fee of $650,000 with the interest payment. Upon payment of the January Quarterly Interest and the extension fee, Lion agreed to waive other late fees which may accrue relating to the payment and waive any default or event of default relating to the conversion of EB Franchises, LLC from a Virginia limited liability company to a Delaware limited liability company.

 

 

On March 6, 2020, the Company repaid the Lion Loan and Security Agreement in full by making a total payment of approximately $26,771,000. This consisted of $24,000,000 in principle, approximately $2,120,000 in accrued interest and $651,000 in penalties and fees. As a result of the prepayment, the Lion Warrant was cancelled in its entirety.

 

The Company recognized interest expense on the Loan and Security Agreement of $1,783,000 for the thirteen weeks ended March 29, 2020, which includes $212,000 for amortization of all unaccreted debt offering costs at the time of the repayment and $650,000 in penalties and fees, representing an effective interest rate of 44.3%. The Company recognized interest expense on the Loan and Security Agreement of $720,000 for the thirteen weeks ended March 31, 2019, which included $32,000 for amortization of debt offering costs, representing an effective interest rate of 20.9%.

 

Elevation Note

 

On June 19, 2019, the Company completed the acquisition of Elevation Burger. A portion of the purchase price included the issuance to the Seller of a convertible subordinated promissory note (the “Elevation Note”) with a principal amount of $7,509,816, bearing interest at 6.0% per year and maturing in July 2026. The Elevation Note is convertible under certain circumstances into shares of the Company’s common stock at $12.00 per share. In connection with the valuation of the acquisition of Elevation Burger, the Elevation Note was recorded on the financial statements of the Company at $6,185,000, which is net of a loan discount of $1,295,000 and debt offering costs of $30,000. As of March 29, 2020, the carrying value of the Elevation Note was $5,772,000 which is net of the loan discount of $1,078,000 and debt offering costs of $63,000. The Company recognized interest expense relating to the Elevation Note during the thirteen weeks ended March 29, 2020 in the amount of $189,000, which included amortization of the loan discount of $71,000 and amortization of $3,000 in debt offering costs, with no comparable activity in the first quarter of 2019. The effective interest rate for the Elevation Note during the thirteen weeks ended March 29, 2020 was 13.1%.

 

The Company is required to make fully amortizing payments of $110,000 per month during the term of the Elevation Note. The Elevation Note is a general unsecured obligation of Company and is subordinated in right of payment to all indebtedness of the Company arising under any agreement or instrument to which Company or any of its Affiliates is a party that evidences indebtedness for borrowed money that is senior in right of payment. FCCG has guaranteed payment of the Elevation Note.

 

Securitization

 

On March 6, 2020, the Company completed a whole-business securitization (the “Securitization”) through the creation of a bankruptcy-remote issuing entity, FAT Brands Royalty I, LLC (“FAT Royalty”) in which FAT Royalty issued new notes (the “Securitization Notes”) pursuant to an indenture and the supplement thereto (collectively, the “Indenture”).

 

The new notes consist of the following:

 

Note

Public Rating

Seniority

Issue Amount

Coupon

First Call Date

Final Legal Maturity Date

A-2

BB

Senior

$

20,000,000

6.50

%

4/27/2021

4/27/2026

B-2

B

Senior Subordinated

$

20,000,000

9.00

%

4/27/2021

4/27/2026

 

Net proceeds from the issuance of the Securitization Notes were $37,314,000, which consists of the combined face amount of $40,000,000, net of discounts of $246,000 and debt offering costs of $2,440,000. The discount and offering costs will be accreted as additional interest expense over the expected term of the Securitization Notes.

 

A portion of the proceeds from the Securitization was used to repay the remaining $26,771,000 in outstanding balance under the Loan and Security Agreement with Lion and to pay Securitization debt offering costs. The remaining proceeds from the Securitization will be used for working capital.

 

 

While the Securitization Notes are outstanding, scheduled payments of principal and interest are required to be made on a quarterly basis. It is expected that the Securitization Notes will be repaid prior to the Final Legal Maturity Date, with the anticipated repayment date occurring in January 2023 for the A-2 Notes and October 2023 for the B-2 Notes (the “Anticipated Repayment Dates”). If the Company has not repaid or refinanced the Securitization Notes prior to the applicable Anticipated Repayment Date, additional interest expense will begin to accrue and all additional proceeds will be trapped for full amortization, as defined in the Indenture.

 

In connection with the Securitization, FAT Royalty and each of the FAT Brands Franchising Entities (as defined in the Indenture) entered into a Management Agreement with the Company, dated as of the Closing Date (the “Management Agreement”), pursuant to which the Company agreed to act as manager of FAT Royalty and each of the FAT Brands Franchise Entities. The Management Agreement provides for a management fee payable monthly by FAT Royalty to the Company in the amount of $200,000, subject to three percent (3%) annual increases (the “Management Fee”). The primary responsibilities of the manager are to perform certain franchising, distribution, intellectual property and operational functions on behalf of the FAT Brands Franchise Entities pursuant to the Management Agreement.

 

The Notes are secured by substantially all of the assets of FAT Royalty, including the equity interests in the FAT Brands Franchising Entities. The restrictions placed on the Company’s subsidiaries require that the Company’s principal and interest obligations have first priority, after the payment of the Management Fee and certain other FAT Royalty expenses (as defined in the Indenture), and amounts are segregated monthly to ensure appropriate funds are reserved to pay the quarterly principal and interest amounts due. The amount of monthly cash flow that exceeds the required monthly debt service is generally remitted to the Company. Once the required obligations are satisfied, there are no further restrictions, including payment of dividends, on the cash flows of the subsidiaries. As of March 29, 2020, the Company was in compliance with these covenants.

 

The Notes have not been and will not be registered under the Securities Act or the securities laws of any jurisdiction. No Notes or any interest or participation thereof may be reoffered, resold, pledged or otherwise transferred unless such Note meets certain requirements as described in the Indenture.

 

The Notes are subject to certain financial and non-financial covenants, including a debt service coverage ratio calculation, as defined in the Indenture. In the event that certain covenants are not met, the Notes may become partially or fully due and payable on an accelerated schedule. In addition, the Company may voluntarily prepay, in part or in full, the Notes in accordance with the provisions in the Indenture.

 

As of March 29, 2020, the recorded balance of the Securitization Notes was $37,309,000, which is net of debt offering costs of $2,450,000 and original issue discount of $241,000. The Company recognized interest expense on the Securitization Notes of $288,000 for the thirteen weeks ended March 29, 2020, which includes $33,000 for amortization of debt offering costs and $5,000 for amortization of the original issue discount. The effective interest rate of the Securitization Notes was 9.3% for the thirteen weeks ended March 29, 2020.

 

Note 11. PREFERRED STOCK

 

Series B Cumulative Preferred Stock

 

On October 3 and October 4, 2019, the Company completed the initial closing of its continuous public offering (the “Series B Preferred Offering”) of up to $30,000,000 of units (the “Series B Units”) at $25.00 per Series B Unit, with each Series B Unit comprised of one share of 8.25% Series B Cumulative Preferred Stock (“Series B Preferred Stock”) and 0.60 warrants (the “Series B Warrants”) to purchase common stock at $8.50 per share, exercisable for five years.

 

The offering includes up to 1,200,000 shares of Series B Preferred Stock and Series B Warrants initially exercisable to purchase up to an aggregate of 720,000 shares of our common stock. The shares of Series B Preferred Stock and Series B Warrants will be issued separately but can only be purchased together in the Series B Preferred Offering. Each Warrant will be immediately exercisable and will expire on the five-year anniversary of the date of issuance.

 

The Company will pay cumulative dividends on the Series B Preferred Stock from and including the date of original issuance in the amount of $2.0625 per share each year, which is equivalent to 8.25% of the $25.00 liquidation preference per share. Dividends on the Series B Preferred Stock will be payable quarterly in arrears based on the Company’s fiscal quarters.

 

 

The Company may not redeem the Series B Preferred Stock before the first anniversary of the initial issuance date. After the first anniversary of the initial issuance date the Company has the option to redeem the Series B Preferred Stock, in whole or in part, for cash plus any accrued and unpaid dividends to the date of redemption at the following redemption price per share:

 

	●	After the first anniversary and on or prior to the second anniversary at $27.50 per share
	●	After the second anniversary and on or prior to the third anniversary at $26.125 per share
	●	After the third anniversary at $25.00 per share

 

The Series B Preferred Stock will mature on the five-year anniversary of the initial issuance date or the earlier liquidation, dissolution or winding-up of the Company. Upon maturity, the holders of Series B Preferred Stock will be entitled to receive cash redemption of their shares in an amount equal to $25.00 per share plus any accrued and unpaid dividends.

 

Holders of Series B Preferred Stock have the option to cause the Company to redeem all or any portion of their Series B Preferred Stock following the first anniversary of the initial issuance date for cash at the following redemption prices per share, plus any accrued and unpaid dividends:

 

	●	After the first anniversary and on or prior to the second anniversary at $22.00 per share
	●	After the second anniversary and on or prior to the third anniversary at $22.50 per share
	●	After the third anniversary and on or prior to the fourth anniversary at $23.00 per share
	●	After the fourth anniversary at $25.00 per share

 

The rights of holders of Series B Preferred Stock to receive their liquidation preference also will be subject to the proportionate rights of our Series A Fixed Rate Cumulative Preferred Stock and any other class or series of our capital stock ranking in parity with the Series B Preferred Stock as to liquidation.

 

As of March 29, 2020, there were 57,140 shares of Series B Preferred Stock outstanding.

 

The Company classified the Series B Preferred Stock as long-term debt because it contains an unconditional obligation requiring the Company to redeem the instruments at the maturity date or upon the election of the holders as described above in cash. The associated Series B Warrants have been recorded as additional paid-in capital. On the issuance date, the Company allocated the proceeds between the Series B Preferred Stock and the Series B Warrants based on the relative fair values of each.

 

As of March 29, 2020, the net Series B Preferred Stock balance was $1,090,000 including an unaccreted debt discount of $15,000 and unamortized debt offering costs of $324,000. The Company recognized interest expense on the Series B Preferred Stock of $48,000 for the fiscal quarter ended March 29, 2020, which includes accretion expense of the debt discount of $1,000 and amortization of debt offering costs of $19,000. The effective interest rate for the Series B Preferred Stock for 2020 was 17.7%.

 

Series A Fixed Rate Cumulative Preferred Stock

 

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

 

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

 

 

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

 

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

 

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

 

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

 

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

 

As of March 29, 2020, there were 100,000 shares of Series A Preferred stock outstanding, issued in the following two transactions:

 

(i)

On June 7, 2018, the Company entered into a Subscription Agreement for the issuance and sale (the “Offering”) of 800 units (the “Units”), with each Unit consisting of (i) 100 shares of the Company’s newly designated Series A Fixed Rate Cumulative Preferred Stock (the “Series A Preferred Stock”) and (ii) warrants (the “Series A Warrants”) to purchase 127 shares of the Company’s Common Stock at $7.83 per share. The sales price of each Unit was $10,000, resulting in gross proceeds to the Company from the initial closing of $8,000,000 and the issuance of 80,000 shares of Series A Preferred Stock and Series A Warrants to purchase 102,125 shares of common stock (the “Subscription Warrants”).

 

(ii)

On June 27, 2018, the Company entered into a Note Exchange Agreement, as amended, under which it agreed with FCCG to exchange all but $950,000 of the remaining balance of the Company’s outstanding Promissory Note issued to the FCCG on October 20, 2017, in the original principal amount of $30,000,000 (the “Note”). At the time, the Note had an estimated outstanding balance of principal plus accrued interest of $10,222,000 (the “Note Balance”). On June 27, 2018, $9,272,053 of the Note Balance was exchanged for shares of capital stock of the Company and warrants in the following amounts (the “Exchange Shares”):

 

	●	$2,000,000 of the Note Balance was exchanged for 200 Units consisting of 20,000 shares of Series A Fixed Rate Cumulative Preferred Stock of the Company at $100 per share and Series A Warrants to purchase 25,530 of the Company’s common stock at an exercise price of $7.83 per share (the “Exchange Warrants”); and
	●	$7,272,053 of the Note Balance was exchanged for 1,010,420 shares of Common Stock of the Company, representing an exchange price of $7.20 per share, which was the closing trading price of the Common Stock on June 26, 2018.

 

 

The Company classifies the Series A Preferred Stock as long-term debt because it contains an obligation to issue a variable number of common shares for a fixed monetary amount. As of March 29, 2020, the net Series A Preferred Stock balance was $9,919,000 which is net of an unaccreted debt discount of $71,000 and unamortized debt offering costs of $10,000.

 

The Company recognized interest expense on the Series A Preferred Stock of $355,000 for the thirteen weeks ended March 29, 2020, which includes accretion expense of $6,000 and $1,000 for the amortization of debt offering costs, representing an effective interest rate of 14.3%. The Company recognized interest expense on the Series A Preferred Stock of $354,000 for the thirteen weeks ended March 31, 2019, which includes accretion expense of $5,000 as well as $1,000 for the amortization of debt offering costs, representing an effective interest rate of 14.2%%.

 

Series A-1 Fixed Rate Cumulative Preferred Stock

 

On July 3, 2018, the Company filed with the Secretary of State of the State of Delaware a Certificate of Designation of Rights and Preferences of Series A-1 Fixed Rate Cumulative Preferred Stock (the “Series A-1 Certificate of Designation”), designating a total of 200,000 shares of Series A-1 Fixed Rate Cumulative Preferred Stock (the “Series A-1 Preferred Stock”). As of March 29, 2020, there were 45,000 shares of Series A-1 Preferred Stock issued and outstanding. The Series A-1 Certificate of Designation contains the following terms pertaining to the Series A-1 Preferred Stock:

 

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

 

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

 

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

 

Holders of Series A-1 Preferred Stock may also optionally cause the Company to redeem all or any portion of their shares of Series A-1 Preferred Stock beginning any time after the two-year anniversary of the initial issuance date for an amount equal to $100.00 per share plus any accrued and unpaid dividends, which amount may be settled in cash or Common Stock of the Company, at the option of the holder. If a holder elects to receive Common Stock, shares will be issued as payment for redemption at the rate of $11.75 per share of Common Stock.

 

As of March 29, 2020, there were 45,000 shares of Series A-1 Preferred Stock outstanding.

 

The Company classifies the Series A-1 Preferred Stock as long-term debt because it contains an obligation to issue a variable number of common shares for a fixed monetary amount.

 

As of March 29, 2020, the net Series A-1 Preferred Stock balance was $4,415,000 which is net of an unaccreted debt discount of $62,000 and unamortized debt offering costs of $23,000.

 

The Company recognized interest expense on the Series A-1 Preferred Stock of $50,000 for the thirteen weeks ended March 29, 2020, which was net of an adjustment to the debt discount in the amount of $19,000 as well as $2,000 for the amortization of debt offering costs, representing an effective interest rate of 4.6%. The Company recognized interest expense on the Series A-1 Preferred Stock of $77,000 for the thirteen weeks ended March 31, 2019, which included recognized accretion expense of $8,000, as well as $2,000 for the amortization of debt offering costs, representing an effective interest rate of 6.9%.

 

 

The issuance of the Series A Preferred Stock and Series A-1 Preferred Stock was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”) pursuant to the exemption for transactions by an issuer not involving any public offering under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D of the Securities Act and in reliance on similar exemptions under applicable state laws. Each of the investors in the Offering represented that it is an accredited investor within the meaning of Rule 501(a) of Regulation D and was acquiring the securities for investment only and not with a view towards, or for resale in connection with, the public sale or distribution thereof. The securities were offered without any general solicitation by the Company or its representatives.

 

Note 12. Related Party Transactions

 

Due from Affiliates

 

On April 24, 2020, the Company entered into an Intercompany Revolving Credit Agreement with FCCG (“Intercompany Agreement”). The Company had previously extended credit to FCCG pursuant to a certain Intercompany Promissory Note (the “Original Note”), dated October 20, 2017, with an initial principal balance of $11,906,000. Subsequent to the issuance of the Original Note, the Company and certain of its direct or indirect subsidiaries made additional intercompany advances in the aggregate amount of $10,523,000. Pursuant to the Intercompany Agreement, the revolving credit facility bears interest at a rate of 10% per annum, has a five-year term with no prepayment penalties, and has a maximum capacity of $35,000,000. All additional borrowings under the Intercompany Agreement are subject to the approval of the Board of Directors, in advance, on a quarterly basis and may be subject to other conditions as set forth by the Company. The initial balance under the Intercompany Agreement totaled $21,067,000 including the balance of the Original Note, borrowings subsequent to the Original Note, accrued and unpaid interest income, and other adjustments through December 29, 2019. As of March 29, 2020, the balance receivable under the Intercompany Agreement was $26,854,000.

 

During the thirteen weeks ended March 29, 2020, the Company recorded a receivable from FCCG in the amount of $121,000 under the Tax Sharing Agreement, which was added to the intercompany receivable. During the thirteen weeks ended March 31, 2019, the Company recorded a receivable from FCCG in the amount of $467,000 under the Tax Sharing Agreement. (See Note 8).

 

Effective July 5, 2018, the Company made a preferred capital investment in Homestyle Dining LLC, a Delaware limited liability corporation (“HSD”) in the amount of $4.0 million (the “Preferred Interest”). FCCG owns all of the common interests in HSD. The holder of the Preferred Interest is entitled to a 15% priority return on the outstanding balance of the investment (the “Preferred Return”). Any available cash flows from HSD on a quarterly basis are to be distributed to pay the accrued Preferred Return and repay the Preferred Interest until fully retired. On or before the five-year anniversary of the investment, the Preferred Interest is to be fully repaid, together with all previously accrued but unpaid Preferred Return. FCCG has unconditionally guaranteed repayment of the Preferred Interest in the event HSD fails to do so. As of March 29, 2020, the balance receivable, including accrued and unpaid interest income, under the Preferred Interest was $5,050,000.

 

Series B Cumulative Preferred Stock

 

On October 3 and October 4, 2019, the Company completed the initial closing of its continuous public offering (the “Series B Preferred Offering”) of up to $30,000,000 of units (the “Series B Units”) at $25.00 per Series B Unit, with each Series B Unit comprised of one share of 8.25% Series B Cumulative Preferred Stock (“Series B Preferred Stock”) and 0.60 warrants (the “Series B Warrants”) to purchase common stock at $8.50 per share, exercisable for five years. At the initial closing of the Preferred Offering, the Company completed the sale of 43,080 Series B Units for gross proceeds of $1,077,000.

 

As of March 29, 2020, the following reportable related persons participated in the initial closing of the Company’s Preferred Offering:

 

 

	●	Andrew Wiederhorn, the Company’s Chief Executive Officer, acquired 20,000 Series B Units for $500,000 comprised of 20,000 shares of Series B Preferred Stock and 12,000 Series B Warrants to purchase 12,000 shares of the Company’s Common Stock at $8.50 per share, and
	●	Squire Junger, a member of the Company’s Board of Directors, acquired 5,000 Series B Units for $125,000 comprised of 5,000 shares of Series B Preferred Stock and 3,000 Series B Warrants to purchase 3,000 shares of the Company’s Common Stock at $8.50 per share.
	●	In aggregate, Mr. Wiederhorn, Mr. Junger, and other related parties acquired 33,000 Series B Units for $825,000 comprised of 33,000 shares of Series B Preferred Stock and 19,800 Series B Warrants to purchase 19,800 shares of the Company’s Common Stock at $8.50 per share.

 

Note 13. SHAREHOLDERS’ EQUITY

 

As of March 29, 2020, and December 29, 2019, the total number of authorized shares of common stock was 25,000,000, and there were 11,876,659 and 11,860,299 shares of common stock outstanding, respectively.

 

Below are the changes to the Company’s common stock during the thirteen weeks ended March 29, 2020:

 

●

On February 11, 2020, the Company issued a total of 16,360 shares of common stock at a value of $4.585 per share to the non-employee members of the board of directors as consideration for accrued directors’ fees.

 

Note 14. SHARE-BASED COMPENSATION

 

Effective September 30, 2017, the Company adopted the 2017 Omnibus Equity Incentive Plan (the “Plan”). The Plan is a comprehensive incentive compensation plan under which the Company can grant equity-based and other incentive awards to officers, employees and directors of, and consultants and advisers to, FAT Brands Inc. and its subsidiaries. The Plan provides a maximum of 1,021,250 shares available for grant.

 

All of the stock options issued by the Company to date have included a vesting period of three years, with one-third of each grant vesting annually. The Company’s stock option activity for fiscal year ended March 29, 2020 can be summarized as follows:

 

		Number of Shares				Weighted Average Exercise Price				Weighted Average Remaining Contractual Life (Years)
Stock options outstanding at December 29, 2019			722,481			$	8.45				8.2
Grants			-			$	-				-
Forfeited			(44,250	)		$	8.01				8.5
Expired			-			$	-				-
Stock options outstanding at March 29, 2020			678,231			$	8.48				8.2
Stock options exercisable at March 29, 2020			318,271			$	9.88				7.9

 

 

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

 

			Including Non-Employee Options
Expected dividend yield			4.00% - 10.43	%
Expected volatility			30.23% - 31.73	%
Risk-free interest rate			1.52% - 2.85	%
Expected term (in years)			5.50 – 5.75

 

The Company recognized share-based compensation expense in the amount of $15,000 and $81,000, respectively, during the thirteen weeks ended March 29, 2020 and March 31, 2019. As of March 29, 2020, there remains $104,000 of related share-based compensation expense relating to non-vested grants, which will be recognized over the remaining vesting period, subject to future forfeitures.

 

Note 15. WARRANTS

 

As of March 29, 2020, the Company had issued the following outstanding warrants to purchase shares of its common stock:

 

	●	Warrants issued on October 20, 2017 to purchase 81,700 shares of the Company’s stock granted to the selling agent in the Company’s initial public offering (the “Common Stock Warrants”). The Common Stock Warrants are exercisable commencing April 20, 2018 through October 20, 2022. The exercise price for the Common Stock Warrants is $14.69 per share, and the Common Stock Warrants were valued at $124,000 at the date of grant. The Common Stock Warrants provide that upon exercise, the Company may elect to redeem the Common Stock Warrants in cash by paying the difference between the applicable exercise price and the then-current fair market value of the common stock.
	●	Warrants issued on June 7, 2018 to purchase 102,125 shares of the Company’s common stock at an exercise price of $7.83 per share (the “Subscription Warrants”). The Subscription Warrants were issued as part of the Subscription Agreement (see Note 11). The Subscription Warrants were valued at $87,000 at the date of grant. The Subscription Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.

 

	●	Warrants issued on June 27, 2018 to purchase 25,530 shares of the Company’s common stock at an exercise price of $7.83 per share (the “Exchange Warrants”). The Exchange Warrants were issued as part of the Exchange (See Note 11). The Exchange Warrants were valued at $25,000 at the date of grant. The Exchange Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
	●	Warrants issued on July 3, 2018 to purchase 57,439 shares of the Company’s common stock at an exercise price of $7.83 per share (the “Hurricane Warrants”). The Hurricane Warrants were issued as part of the acquisition of Hurricane. The Hurricane Warrants were valued at $58,000 at the date of grant. The Hurricane Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
	●	Warrants issued on July 3, 2018 to purchase 509,604 shares of the Company’s common stock at an exercise price of $7.20 per share (the “Lender Warrant”). The Lender Warrant was issued as part of the $16 million credit facility with FB Lending, LLC (See Note 10). The Lender Warrant was valued at $592,000 at the date of grant. The Lender Warrant may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.
	●	Warrants issued on July 3, 2018 to purchase 66,691 shares of the Company’s common stock at an exercise price of $7.20 per share (the “Placement Agent Warrants”). The Placement Agent Warrants were issued to the placement agents of the $16 million credit facility with FB Lending, LLC (See Note 10). The Placement Agent Warrants were valued at $78,000 at the date of grant. The Placement Agent Warrants may be exercised at any time or times beginning on the issue date and ending on the five-year anniversary of the issue date.

 

	●	Warrants issued on June 19, 2019, in connection with the acquisition of Elevation Burger (See Note 3), to purchase 46,875 shares of the Company’s common stock at an exercise price of $8.00 per share (the “Elevation Warrant”), exercisable for a period of five years, but only in the event of a merger of the Company and FCCG, commencing on the second business day following the potential merger and ending on the five year anniversary thereafter, at which time the Elevation Warrant shall terminate The Elevation Warrants were not valued at the date of grant due to the contingency relating to their exercise.
	●	Warrants issued between October 3, 2019 and December 29, 2019, in connection with the sale of Series B Units (See Note 11), to purchase 34,284 shares of the Company’s common stock at an exercise price of $8.50 per share (the “Series B Warrants”), exercisable for a period of five years from October 3, 2019. The outstanding Series B Warrants were valued at $21,000 at the date of grant.

 

 

The Company’s warrant activity for the thirteen weeks ended March 29, 2020 is as follows:

 

			Number of Shares				Weighted Average Exercise Price				Weighted Average Remaining Contractual Life (Years)
Warrants outstanding at December 29, 2019				2,091,652			$	3.57				4.2
Grants				-				-				-
Exercised				-				-				-
Forfeited				(1,167,404	)		$	0.01				5.0
Expired				-				-				-
Warrants outstanding at March 29, 2020				924,248			$	8.08				3.3
Warrants exercisable at March 29, 2020				877,373			$	8.08				3.2

 

The range of assumptions used to establish the value of the warrants using the Black-Scholes valuation model are as follows:

 

			Warrants
Expected dividend yield			4.00% - 6.63	%
Expected volatility			30.23% - 31.73	%
Risk-free interest rate			0.99% - 1.91	%
Expected term (in years)			3.80 - 5.00

 

Note 16. DIVIDENDS ON COMMON STOCK

 

Our Board of Directors did not declare a dividend during the thirteen weeks ended March 29, 2020.

 

The Company declared a stock dividend on February 7, 2019 equal to 2.13% on its common stock, representing the number of shares equal to $0.12 per share of common stock based on the closing price as of February 6, 2019. The stock dividend was paid on February 28, 2019 to stockholders of record as of the close of business on February 19, 2019. The Company issued 245,376 shares of common stock at a per share price of $5.64 in satisfaction of the stock dividend. No fractional shares were issued, instead the Company paid stockholders cash-in-lieu of shares.

 

Note 17. Commitments and Contingencies

 

Litigation

 

Eric Rojany, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC708539, and Daniel Alden, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC716017.

 

 

On June 7, 2018, FAT Brands, Inc., Andrew Wiederhorn, Ron Roe, James Neuhauser, Edward H. Rensi, Marc L. Holtzman, Squire Junger, Silvia Kessel, Jeff Lotman, Fog Cutter Capital Group Inc., and Tripoint Global Equities, LLC (collectively, the "Original Defendants") were named as defendants in a putative securities class action lawsuit entitled Rojany v. FAT Brands, Inc., Case No. BC708539 (the "Rojany Case"), in the Superior Court of the State of California, County of Los Angeles. On July 31, 2018, the Rojany Case was designated as complex, pursuant to Rule 3.400 of the California Rules of Court, and assigned the matter to the Complex Litigation Program. On August 2, 2018, the Original Defendants were named defendants in a second putative class action lawsuit, Alden v. FAT Brands, Case No. BC716017 (the "Alden Case"), filed in the same court. On September 17, 2018, the Rojany and Alden Cases were consolidated under the Rojany Case number. On October 10, 2018, plaintiffs Eric Rojany, Daniel Alden, Christopher Hazelton-Harrington and Byron Marin ("Plaintiffs") filed a First Amended Consolidated Complaint against FAT Brands, Inc., Andrew Wiederhorn, Ron Roe, James Neuhauser, Edward H. Rensi, Fog Cutter Capital Group Inc., and Tripoint Global Equities, LLC (collectively, "Defendants"), thereby removing Marc L. Holtzman, Squire Junger, Silvia Kessel and Jeff Lotman as defendants. On November 13, 2018, Defendants filed a Demurrer to First Amended Consolidated Complaint. On January 25, 2019, the Court sustained Defendants’ Demurrer to First Amended Consolidated Complaint with Leave to Amend in Part. Plaintiffs filed a Second Amended Consolidated Complaint on February 25, 2019. On March 27, 2019, Defendants filed a Demurrer to the Second Amended Consolidated Complaint. On July 31, 2019, the Court sustained Defendants’ Demurrer to the Second Amended Complaint in Part, narrowing the scope of the case. Defendants filed their Answer to the Second Amended Consolidated Complaint on November 12, 2019. On January 29, 2020, Plaintiffs filed a Motion for Class Certification. Plaintiffs’ Motion for Class Certification is fully briefed, and the hearing on Plaintiffs’ Motion for Class Certification is set for September 10, 2020. Defendants dispute Plaintiffs’ allegations and will continue to vigorously defend themselves in this litigation.

 

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

 

On August 24, 2018, the Original Defendants were named as defendants in a putative securities class action lawsuit entitled Vignola v. FAT Brands, Inc., Case No. 2:18-cv-07469-PSG-PLA, in the United States District Court for the Central District of California. On October 23, 2018, Charles Jordan and David Kovacs (collectively, "Lead Plaintiffs") moved to be appointed lead plaintiffs, and the Court granted Lead Plaintiffs’ motion on November 16, 2018. On January 15, 2019, Lead Plaintiffs filed a First Amended Class Action Complaint against the Original Defendants. The allegations and claims for relief asserted in Vignola are substantively identical to those asserted in the Rojany Case. Defendants filed a Motion to Dismiss First Amended Class Action Complaint, or, in the Alternative, to Stay the Action In Favor of a Prior Pending Action. On June 14, 2019, the Court denied Defendants’ motion to stay but granted Defendants’ motion to dismiss the First Amended Class Action Complaint, with Leave to Amend. Lead Plaintiffs filed a Second Amended Class Action Complaint on August 5, 2019. On September 9, 2019, Defendants’ filed a Motion to Dismiss the Second Amended Class Action Complaint. On December 17, 2019, the Court granted Defendants’ Motion to Dismiss the Second Amended Class Action Complaint in Part, Without Leave to Amend. The allegations remaining in Vignola are substantively identical to those remaining in the Rojany Case. Defendants filed their Answer to the Second Amended Class Action Complaint on January 14, 2020. On December 27, 2019, Lead Plaintiffs filed a Motion for Class Certification. By order entered March 16, 2020, the Court denied Lead Plaintiffs’ Motion for Class Certification. By order entered April 1, 2020, the Court set various deadlines for the case, including a fact discovery cut-off of December 29, 2020, expert discovery cut-off of February 23, 2021 and trial date of March 30, 2021. Defendants dispute Lead Plaintiffs’ allegations and will continue to vigorously defend themselves in this litigation

 

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

 

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

 

 

Operating Leases

 

The Company leases corporate headquarters located in Beverly Hills, California comprising 6,137 square feet of space, pursuant to a lease that expires on September 29, 2025, as well as an additional 2,915 square feet of space pursuant to a lease amendment that expires on February 29, 2024. The Company leases 1,775 square feet of space in Plano, Texas for pursuant to a lease that expires on March 31, 2021. As part of the acquisition of Elevation Burger, the Company assumed a lease of 5,057 square feet of space in Falls Church, Virginia that expires on December 31, 2020. The Company subleases approximately 2,500 square feet of this lease to an unrelated third party. The Company is not a guarantor to the leases of the Yalla restaurants that are being refranchised.

 

The Company believes that all existing facilities are in good operating condition and adequate to meet current and foreseeable needs.

 

Note 18. geographic information AND MAJOR FRANCHISEES

 

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

 

		Thirteen Weeks Ended March 29, 2020				Thirteen Weeks Ended March 31, 2019
United States		$	3,709			$	4,011
Other countries			714				862
Total revenues		$	4,423			$	4,873

 

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

 

During the thirteen weeks ended March 29, 2020 and March 31, 2019, no individual franchisee accounted for more than 10% of the Company’s revenues.

 

NOTE 19. OPERATING SEGMENTS

 

With minor exceptions, the Company’s operations are comprised exclusively of franchising a growing portfolio of restaurant brands. This growth strategy is centered on expanding the footprint of existing brands and acquiring new brands through a centralized management organization which provides substantially all executive leadership, marketing, training and accounting services. While there are variations in the brands, the nature of the Company’s business is fairly consistent across its portfolio. Consequently, management assesses the progress of the Company’s operations as a whole, rather than by brand or location which become more significant as the number of brands has increased.

 

As part of its ongoing franchising efforts, the Company will, from time to time, make opportunistic acquisitions of operating restaurants in order to convert them to franchise locations. During the refranchising period, the Company may operate the restaurants.

 

The Company’s chief operating decision maker (“CODM”) is the Chief Executive Officer. The CODM reviews financial performance and allocates resources at an overall level on a recurring basis. Therefore, management has determined that the Company has one operating and reportable segment.

 

NOTE 20. SUBSEQUENT EVENTS

 

Pursuant to FASB ASC 855, Management has evaluated all events and transactions that occurred from March 29, 2020 through the date of issuance of these financial statements. During this period, the Company did not have any significant subsequent events other than those described below:

 

Refranchising

 

During the fiscal year ended December 29, 2019, a franchisee had entered into an agreement with the Company by which it agreed to sell two existing franchised locations to the Company for its refranchising program. Additionally, during the fiscal year, the Company had completed transactions to sell the two locations to new owners. Subsequent to March 29, 2020, as a result of COVID-19, the locations acquired from the existing franchisee became unavailable. The Company is evaluating the impact of the event and determining which existing operating restaurants will be used as a replacement for the new owners (See Note 4).

 

Payroll Protection Program Loans

 

Subsequent to March 29, 2020, as a result of COVID-19, the Company received proceeds from the Payroll Protection Program administered by the Small Business Administration. These loan proceeds totaled $1.5 million and relate to FAT Brands Inc. as well as five restaurant locations that are part of the Company’s refranchising program.

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our results of operations, financial condition and liquidity and capital resources should be read in conjunction with our financial statements and related notes for the thirteen weeks ended March 29, 2020 and March 31, 2019, as applicable. Certain statements made or incorporated by reference in this report and our other filings with the Securities and Exchange Commission, in our press releases and in statements made by or with the approval of authorized personnel constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and are subject to the safe harbor created thereby. Forward-looking statements reflect intent, belief, current expectations, estimates or projections about, among other things, our industry, management’s beliefs, and future events and financial trends affecting us. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “may,” “will” and variations of these words or similar expressions are intended to identify forward-looking statements. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. Although we believe the expectations reflected in any forward-looking statements are reasonable, such statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors, including but not limited to, COVID-19. These differences can arise as a result of the risks described in the section entitled “Item 1A. Risk Factors” in our Annual Report on Form 10-K filed on April 28, 2020 “Item 1A. Risk Factors” and elsewhere in this report, as well as other factors that may affect our business, results of operations, or financial condition. Forward-looking statements in this report speak only as of the date hereof, and forward-looking statements in documents incorporated by reference speak only as of the date of those documents. Unless otherwise required by law, we undertake no obligation to publicly update or revise these forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks and uncertainties, we cannot assure you that the forward-looking statements contained in this report will, in fact, transpire.

 

COVID-19

 

In March 2020, the World Health Organization declared the outbreak of a novel coronavirus (COVID-19) as a pandemic, which continues to spread throughout the United States and other countries. As a result, Company franchisees have temporarily closed some retail locations, reduced or modified store operating hours, adopted a “to-go” only operating model, or a combination of these actions. These actions have reduced consumer traffic, all resulting in a negative impact to Company revenues. While the disruption to our business from the COVID-19 pandemic is currently expected to be temporary, there is a great deal of uncertainty around the severity and duration of the disruption, and also the longer-term effects on our business and economic growth and consumer demand in the U.S. and worldwide. The effects of COVID-19 may materially adversely affect our business, results of operations, liquidity and ability to service our existing debt, particularly if these effects continue in place for a significant amount of time. As additional information becomes available regarding the potential impact and the duration of the negative financial effects of the current pandemic, the Company may determine that an impairment adjustment to the recorded value of trademarks, goodwill and other intangible assets may be necessary.

 

Executive Overview

 

Business overview

 

FAT Brands Inc., formed in March 2017 as a wholly owned subsidiary of Fog Cutter Capital Group, Inc. (“FCCG”), is a leading multi-brand restaurant franchising company that develops, markets, and acquires predominantly fast casual restaurant concepts around the world. On October 20, 2017, we completed an initial public offering and issued additional shares of common stock representing 20 percent of our ownership (the “Offering”). As of March 29, 2020, FCCG continues to control a significant voting majority of the Company.

 

 

As a franchisor, we generally do not own or operate restaurant locations, but rather generate revenue by charging franchisees an initial franchise fee as well as ongoing royalties. This asset light franchisor model provides the opportunity for strong profit margins and an attractive free cash flow profile while minimizing restaurant operating company risk, such as long-term real estate commitments or capital investments. Our scalable management platform enables us to add new stores and restaurant concepts to our portfolio with minimal incremental corporate overhead cost, while taking advantage of significant corporate overhead synergies. The acquisition of additional brands and restaurant concepts as well as expansion of our existing brands are key elements of our growth strategy.

 

As of March 29, 2020, the Company owns eight restaurant brands: Fatburger, Buffalo’s Cafe, Buffalo’s Express, Hurricane Grill & Wings, Ponderosa and Bonanza Steakhouses, Elevation Burger and Yalla Mediterranean, that have over 370 locations.

 

Operating segments

 

With minor exceptions, our operations are comprised exclusively of franchising a growing portfolio of restaurant brands. Our growth strategy is centered on expanding the footprint of existing brands and acquiring new brands through a centralized management organization which provides substantially all executive leadership, marketing, training and accounting services. While there are variations in the brands, the nature of our business is fairly consistent across our portfolio. Consequently, our management assesses the progress of our operations as a whole, rather than by brand or location, which has become more significant as the number of brands has increased.

 

Our chief operating decision maker (“CODM”) is our Chief Executive Officer. Our CODM reviews financial performance and allocates resources at an overall level on a recurring basis. Therefore, management has determined that the Company has one operating and reportable segment.

 

Results of Operations

 

We operate on a 52-week or 53-week fiscal year ending on the last Sunday of the calendar year. In a 52-week fiscal year, each quarter contains 13 weeks of operations. In a 53-week fiscal year, each of the first, second and third quarters includes 13 weeks of operations and the fourth quarter includes 14 weeks of operations, which may cause our revenue, expenses and other results of operations to be higher due to an additional week of operations. The 2020 and 2019 fiscal years are each 52-week years.

 

Results of Operations of FAT Brands Inc.

 

The following table summarizes key components of our combined results of operations for the thirteen weeks ended March 29, 2020 and March 31, 2019. The results of Elevation Burger were not included in the operations for the thirteen weeks ended March 31, 2019 because that subsidiary was acquired by the Company subsequent to that date.

 

(In thousands)

 

		For the thirteen weeks ended
		March 29, 2020				March 31, 2019
Statement of operations data:
Revenues
Royalties		$	3,309			$	3,463
Franchise fees			175				313
Store opening fees			-				105
Advertising fees			931				976
Other revenue			8				16
Total revenues			4,423				4,873
Costs and expenses
General and administrative expenses			3,531				2,714
Advertising expenses			931				976
Refranchising restaurant costs and expenses, net of revenue			539				518
Costs and expenses			5,001				4,208
(Loss) income from operations			(578	)			665
Other expense, net			(2,090	)			(2,093	)
Loss before income tax (benefit) expense			(2,668	)			(1,428	)
Income tax (benefit) expense			(298	)			(718	)
Net loss		$	(2,370	)		$	(710	)

 

 

Net Loss - Net loss for the thirteen weeks ended March 29, 2020 totaled $2,370,000 consisting of revenues of $4,423,000 less costs and expenses of $5,001,000, other expense of $2,090,000 and income tax benefit of 298,000. Net loss for the thirteen weeks ended March 31, 2019 totaled $710,000 consisting of revenues of $4,873,000 less costs and expenses of $4,208,000, other expense of $2,093,000 and income tax benefit of $718,000.

 

Revenues - Revenues consist of royalties, franchise fees, advertising fees and management fees. We had revenues of $4,423,000 for the thirteen weeks ended March 29, 2020 compared to $4,873,000 for the thirteen weeks ended March 31, 2019. The decrease of $450,000 reflects the beginning negative effects of the COVID-19 pandemic on royalties from restaurant sales and the adoption of a preferred application of ASC 606 related to the recognition of franchise and store opening fees (See Note 2 in the accompanying financial statements).

 

Costs and Expenses – Costs and expenses consist primarily of general and administrative costs, advertising expense and refranchising restaurant operating costs, net of associated sales. Our costs and expenses increased from $4,208,000 in the first quarter of 2019 to $5,001,000 in the first quarter of 2020.

 

For the thirteen weeks ended March 29, 2020, our general and administrative expenses totaled $3,531,000. For the thirteen weeks ended March 31, 2019, our general and administrative expenses totaled $2,714,000. The increase in the amount of $817,000 was primarily the result of increases in compensation expenses and public company expenses. Amortization of franchise agreements acquired in connection with Elevation Burger also contributed to the increase in general and administrative expenses.

 

During the first quarter of 2020, our refranchising efforts resulted in restaurant operating costs and expenses, net of associated sales in the amount of $539,000 compared to $518,000 during the comparable period of 2019.

 

Advertising expenses totaled $931,000 during the thirteen weeks ended March 29, 2019 compared to $976,000 during the first quarter of 2019. These expenses generally correspond to the advertising fees recorded as revenue.

 

Other Expense – Other expense for the thirteen weeks ended March 29, 2020 totaled $2,090,000 compared to $2,093,000 for the period ended March 31, 2019. These expenses consisted primarily of net interest expense of $2,074,000 and $2,117,000 for the 2020 and 2019 periods, respectively.

 

Income Tax Benefit – We recorded an income tax benefit in the amount of $298,000 for the thirteen weeks ended March 29, 2020 and an income tax benefit of $718,000 for the thirteen weeks ended March 31, 2019. These tax results were based on a net loss before taxes of 2,668,000 and $1,428,000 for the thirteen weeks ended March 29, 2020 and March 31, 2019, respectively. Non-deductible expenses, such as accrued and paid dividends on preferred stock, reduced the benefit for the current period as a percentage of pre-tax loss.

 

Liquidity and Capital Resources

 

Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund business operations, acquisitions, and expansion of franchised restaurant locations and for other general business purposes. In addition to our cash on hand, our primary sources of funds for liquidity during the thirteen weeks ended March 29, 2020 consisted of cash provided by borrowings.

 

 

We are involved in a world-wide expansion of franchise locations, which will require significant liquidity, primarily from our franchisees. If real estate locations of sufficient quality cannot be located and either leased or purchased, the timing of restaurant openings may be delayed. Additionally, if we or our franchisees cannot obtain capital sufficient to fund this expansion, the timing of restaurant openings may be delayed.

 

We also plan to acquire additional restaurant concepts. These acquisitions typically require capital investments in excess of our normal cash on hand. We would expect that future acquisitions will necessitate financing with additional debt or equity transactions. If we are unable to obtain acceptable financing, our ability to acquire additional restaurant concepts may be negatively impacted.

 

As of March 29, 2020, we had cash and restricted cash of $5,714,000. On March 6, 2020, the Company completed a whole-business securitization (the “Securitization”) through the creation of a bankruptcy-remote issuing entity, FAT Brands Royalty I, LLC (“FAT Royalty”) in which FAT Royalty issued new notes (the “Securitization Notes”) pursuant an indenture and the supplement thereto (collectively, the “Indenture”). Net proceeds from the issuance of the Securitization Notes were $37,314,000, which consists of the combined face amount of $40,000,000, net of discounts of $246,000 and debt offering costs of $2,440,000 (See “Liquidity” in Note 1. Organization and Relationship in the accompanying consolidated financial statements). A portion of the proceeds from the Securitization was used to repay the remaining $26,771,000 in outstanding balance under the Loan and Security Agreement and to pay the debt offering costs related to the Securitization. The remaining proceeds from the Securitization will be used for working capital. We expect that the working capital from the Securitization combined with receipts collected from the limited operations of our franchisees due to COVID-19 and the disciplined management of the Company’s operating expenses will be sufficient to meet our current liquidity needs.

 

Subsequent to March 29, 2020, as a result of COVID-19, the Company received proceeds from the Payroll Protection Program administered by the Small Business Administration. These loan proceeds totaled $1.5 million and relate to FAT Brands Inc. as well as five restaurant locations that are part of the Company’s refranchising program.

 

Comparison of Cash Flows

 

Our cash and restricted cash balance was $5,714,000 as of March 29, 2020, compared to $25,000 as of December 29, 2019.

 

The following table summarize key components of our consolidated cash flows for the thirteen weeks ended March 29, 2020 and March 31, 2019:

 

(In thousands)

For the Fiscal Years Ended

 

		March 29, 2020				March 31, 2019
Net cash used in operating activities		$	(3,371	)		$	(1,863	)
Net cash used in investing activities			(3,413	)			(1,423	)
Net cash provided by financing activities			12,473				3,323
Increase in cash flows		$	5,689			$	37

 

Operating Activities

 

Net cash used in operating activities was $3,371,000 during the thirteen weeks ended March 29, 2020 compared to $1,863,000 for the same period of 2019. Our net loss in 2020 was $2,370,000 compared to a net loss in 2019 of $710,000. The adjustments to reconcile these net losses to net used in operating activities were $1,001,000 in 2020 compared to $1,153,000 in 2019. The primary components of the adjustments included:

 

	●	A $670,000 negative adjustment to cash due to a decrease in accounts payable and accrued expenses of $659,000 compared to an increase of $1,244,000 in 2019;
	●	A positive adjustment to cash due to accretion expense related to each of the following: (i) the term loan, (ii) the preferred shares, and (iii) the acquisition purchase price payables totaling $378,000 compared to $1,102,000 in 2019;
	●	A positive adjustment to cash due to an increase in dividends payable on preferred stock of $444,000 compared to $162,000 in 2019;
	●	A positive adjustment to cash due to an increase in deferred income of $339,000 compared to a decrease of $266,000 in 2019; and
	●	A negative adjustment to cash due to an increase in accrued interest income due from an affiliate in the amount of $718,000 in 2020 compared to $467,000 in the 2019 period;
	●	A negative adjustment to cash due to a decrease in accrued interest payable of $973,000 compared to a decrease of $1,541,000 in 2019.

 

 

Investing Activities

 

Net cash used in investing activities totaled $3,413,000 during the thirteen weeks ended March 29, 2020 compared to a decrease of $1,423,000 during the same period of 2019. During 2020, we made advances to affiliates in the amount of $5,091,000 compared to advances of $1,400,000 during 2019. We also received proceeds from the sale of a refranchised location in the amount of $1,650,000 during the first quarter of 2020.

 

Financing Activities

 

Net cash from financing activities totaled $12,473,000 during the thirteen weeks ended March 29, 2020 compared to $3,323,000 during the same period of 2019. Proceeds from borrowings were $17,546,000 higher in 2020 than in 2019. Our repayments of borrowings were $7,749,000 higher in 2020 than in 2019.

 

Dividends

 

Our Board of Directors did not declare a dividend during the thirteen weeks ended March 29, 2020.

 

On February 7, 2019, our Board of Directors declared a stock dividend equal to 2.13% on its common stock, representing the number of shares equal to $0.12 per share of common stock based on the closing price as of February 6, 2019. The stock dividend was paid on February 28, 2019 to stockholders of record as of the close of business on February 19, 2019. The Company issued 245,376 shares of common stock at a per share price of $5.64 in satisfaction of the stock dividend. No fractional shares were issued, instead the Company paid stockholders cash totaling $1,670 for fractional interests based on the market value of the common stock on the record date.

 

The declaration and payment of future dividends, as well as the amount thereof, are subject to the discretion of our Board of Directors. The amount and size of any future dividends will depend upon our future results of operations, financial condition, capital levels, cash requirements and other factors. There can be no assurance that we will declare and pay dividends in future periods.

 

Securitization

 

On March 6, 2020, we completed a whole-business securitization (the “Securitization”) through the creation of a bankruptcy-remote issuing entity, FAT Brands Royalty I, LLC (“FAT Royalty”) in which FAT Royalty issued new notes (the “Securitization Notes”) pursuant to an indenture and the supplement thereto (collectively, the “Indenture”).

The new notes consist of the following:

 

Note

Public Rating

Seniority

Issue Amount

Coupon

First Call Date

Final Legal Maturity Date

A-2

BB

Senior

$

20,000,000

6.50

%

4/27/2021

4/27/2026

B-2

B

Senior Subordinated

$

20,000,000

9.00

%

4/27/2021

4/27/2026

 

Net proceeds from the issuance of the Securitization Notes were $37,314,000, which consists of the combined face amount of $40,000,000, net of discounts of $246,000 and debt offering costs of $2,440,000. The discount and offering costs will be accreted as additional interest expense over the expected term of the Securitization Notes.

 

A portion of the proceeds from the Securitization was used to repay the remaining $26,771,000 in outstanding balance under the Loan and Security Agreement with Lion and to pay the Securitization debt offering costs. The remaining proceeds from the Securitization will be used for working capital.

 

 

In connection with the Securitization, FAT Royalty and each of the FAT Brands Franchising Entities (as defined in the Indenture) entered into a Management Agreement with the Company, dated as of the Closing Date, pursuant to which the Company agreed to act as manager of the Issuer and each of the FAT Brands Franchise Entities. The Management Agreement provides for a Management Fee payable monthly by FAT Royalty to the Company in the amount of $200,000, subject to three percent (3%) annual increases. The primary responsibilities of the manager are to perform certain franchising, distribution, intellectual property and operational functions on behalf of the FAT Brands Franchise Entities pursuant to the Management Agreement.

 

While the Securitization Notes are outstanding, scheduled payments of principal and interest are required to be made on a quarterly basis. It is expected that the Securitization Notes will be repaid prior to the Final Legal Maturity Date, with the anticipated repayment date occurring in January 2023 for the A-2 Notes and October 2023 for the B-2 Notes (the “Anticipated Repayment Dates”). If the Company has not repaid or refinanced the Securitization Notes prior to the applicable Anticipated Repayment Date, additional interest expense will begin to accrue and all additional proceeds will be trapped for full amortization, as defined in the Indenture.

 

The Notes are secured by substantially all of the assets of FAT Royalty, including the equity interests in the FAT Brands Franchising Entities. The restrictions placed on the Company’s subsidiaries require that the Company’s principal and interest obligations have first priority, after the payment of the Management Fee and certain other FAT Royalty expenses (as defined in the Indenture), and amounts are segregated monthly to ensure appropriate funds are reserved to pay the quarterly principal and interest amounts due. The amount of monthly cash flow that exceeds the required monthly debt service is generally remitted to the Company. Once the required obligations are satisfied, there are no further restrictions, including payment of dividends, on the cash flows of the subsidiaries.

 

The Notes have not been and will not be registered under the Securities Act or the securities laws of any jurisdiction. No Notes or any interest or participation thereof may be reoffered, resold, pledged or otherwise transferred unless such Note meets certain requirements as described in the Indenture.

 

The Notes are subject to certain financial and non-financial covenants, including a debt service coverage ratio calculation, as defined in the Indenture. In the event that certain covenants are not met, the Notes may become partially or fully due and payable on an accelerated schedule. In addition, the Company may voluntarily prepay, in part or in full, the Notes in accordance with the provisions in the Indenture.

 

Capital Expenditures

 

As of March 29, 2020, we do not have any material commitments for capital expenditures.

 

Critical Accounting Policies and Estimates

 

Franchise Fees: The franchise arrangement is documented in the form of a franchise agreement. The franchise arrangement requires us to perform various activities to support the brand that do not directly transfer goods and services to the franchisee, but instead represent a single performance obligation, which is the transfer of the franchise license. The services provided by us are highly interrelated with the franchise license and are considered a single performance obligation. Franchise fee revenue from the sale of individual franchises is recognized over the term of the individual franchise agreement. Unamortized non-refundable deposits collected in relation to the sale of franchises are recorded as deferred franchise fees.

 

The franchise fee may be adjusted at management’s discretion or in a situation involving store transfers. Deposits are non-refundable upon acceptance of the franchise application. In the event a franchisee does not comply with their development timeline for opening franchise stores, the franchise rights may be terminated, and franchise fee revenue is recognized for non-refundable deposits.

 

Store opening fees – Prior to September 29, 2019, we recognized store opening fees in the amount of $35,000 to $60,000 from the up-front fees collected from franchisees upon store opening. The amount of the fee was dependent on brand and location (domestic versus international stores). The remaining balance of the up-front fees were then amortized as franchise fees over the life of the franchise agreement. If the fees collected were less than the respective store opening fee amounts, the full up-front fees were recognized at store opening. The store opening fees were based on our out-of-pocket costs for each store opening and are primarily comprised of labor expenses associated with training, store design, and supply chain setup. International fees recognized were higher due to the additional cost of travel.

 

 

During the fourth quarter of 2019, we performed a study of other public company restaurant franchisors’ application of ASC 606 and determined that a preferred, alternative industry application exists in which the store opening fee portion of the franchise fees is amortized over the life of the franchise agreement rather than at milestones of standalone performance obligations in the franchise agreements. In order to provide financial reporting consistent with other franchise industry peers, we applied this preferred, alternative application of ASC 606 during the fourth quarter of 2019 on a prospective basis. As a result of the adoption of this preferred accounting treatment under ASC 606, we discontinued the recognition of store opening fees upon store opening and began accounting for the entire up-front deposit received from franchisees as described above in Franchise Fees. A cumulative adjustment to store opening fees and franchise fees was recorded in the fourth quarter of 2019 for store opening fees recognized during the first three quarters of 2019. (See “Immaterial Adjustments Related to Prior Periods”, in Note 2 of the accompanying financial statements.)

 

Royalties: In addition to franchise fee revenue, we collect a royalty calculated as a percentage of net sales from our franchisees. Royalties range from 0.75% to 6% and are recognized as revenue when the related sales are made by the franchisees. Royalties collected in advance of sales are classified as deferred income until earned.

 

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

 

Goodwill and other intangible assets: Goodwill and other intangible assets with indefinite lives, such as trademarks, are not amortized but are reviewed for impairment annually, or more frequently if indicators arise. No impairment has been identified as of March 29, 2020.

 

Assets classified as held for sale – Assets are classified as held for sale when we commit to a plan to sell the asset, the asset is available for immediate sale in its present condition and an active program to locate a buyer at a reasonable price has been initiated. The sale of these assets is generally expected to be completed within one year. The combined assets are valued at the lower of their carrying amount or fair value, net of costs to sell and included as current assets on the Company’s consolidated balance sheet. Assets classified as held for sale are not depreciated. However, interest attributable to the liabilities associated with assets classified as held for sale and other expenses continue to be recorded as expenses in the Company’s consolidated statement of operations.

 

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

 

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

 

Share-based compensation: We have a stock option plan which provides for options to purchase shares of our common stock. For grants to employees and directors, we recognize an expense for the value of options granted at their fair value at the date of grant over the vesting period in which the options are earned. Cancellations or forfeitures are accounted for as they occur. Fair values are estimated using the Black-Scholes option-pricing model. For grants to non-employees for services, we revalue the options each reporting period while the services are being performed. The adjusted value of the options is recognized as an expense over the service period. See Note 14 in our consolidated financial statements for more details on our share-based compensation.

 

Use of estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reported periods. Actual results could differ from those estimates.

 

 

Recently Adopted Accounting Standards

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement.” This ASU adds, modifies and removes several disclosure requirements relative to the three levels of inputs used to measure fair value in accordance with Topic 820, “Fair Value Measurement.” The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

The FASB issued ASU No. 2018-15, Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40). The new guidance reduces complexity for the accounting for costs of implementing a cloud computing service arrangement and aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

The FASB issued ASU 2019-12, Simplifying the Accounting for Income Taxes: This standard removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. It also adds guidance in certain areas, including the recognition of franchise taxes, recognition of deferred taxes for tax goodwill, allocation of taxes to members of a consolidated group, computation of annual effective tax rates related to enacted changes in tax laws, and minor improvements related to employee stock ownership plans and investments in qualified affordable housing projects accounted for using the equity method. The Company adopted this ASU on December 30, 2019. The adoption of this standard did not have a material effect on the Company’s financial position, results of operations or cash flows.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Not Required.

 

ITEM 4. CONTROLS AND PROCEDURES

 

Evaluation of disclosure controls and procedures

 

Our Chief Executive Officer and our Chief Financial Officer, after evaluating the effectiveness of the Company’s “disclosure controls and procedures” (as defined in the Securities and Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)) as of March 29, 2020, have concluded that our disclosure controls and procedures were effective and designed to ensure that material information relating to us and our combined subsidiaries is accumulated and communicated to our management to allow timely decisions regarding required disclosure.

 

We do not expect that our disclosure controls and procedures will prevent all error and all fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedures are met. Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. We considered these limitations during the development of its disclosure controls and procedures and will continually reevaluate them to ensure they provide reasonable assurance that such controls and procedures are effective.

 

Changes in internal control over financial reporting

 

There were no significant changes in our internal control over financial reporting in connection with an evaluation that occurred during the thirteen weeks ended March 29, 2020 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

 

 

PART II — OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

 

Eric Rojany, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC708539, and Daniel Alden, et al. v. FAT Brands Inc., et al., Superior Court of California for the County of Los Angeles, Case No. BC716017.

 

On June 7, 2018, FAT Brands, Inc., Andrew Wiederhorn, Ron Roe, James Neuhauser, Edward H. Rensi, Marc L. Holtzman, Squire Junger, Silvia Kessel, Jeff Lotman, Fog Cutter Capital Group Inc., and Tripoint Global Equities, LLC (collectively, the "Original Defendants") were named as defendants in a putative securities class action lawsuit entitled Rojany v. FAT Brands, Inc., Case No. BC708539 (the "Rojany Case"), in the Superior Court of the State of California, County of Los Angeles. On July 31, 2018, the Rojany Case was designated as complex, pursuant to Rule 3.400 of the California Rules of Court, and assigned the matter to the Complex Litigation Program. On August 2, 2018, the Original Defendants were named defendants in a second putative class action lawsuit, Alden v. FAT Brands, Case No. BC716017 (the "Alden Case"), filed in the same court. On September 17, 2018, the Rojany and Alden Cases were consolidated under the Rojany Case number. On October 10, 2018, plaintiffs Eric Rojany, Daniel Alden, Christopher Hazelton-Harrington and Byron Marin ("Plaintiffs") filed a First Amended Consolidated Complaint against FAT Brands, Inc., Andrew Wiederhorn, Ron Roe, James Neuhauser, Edward H. Rensi, Fog Cutter Capital Group Inc., and Tripoint Global Equities, LLC (collectively, "Defendants"), thereby removing Marc L. Holtzman, Squire Junger, Silvia Kessel and Jeff Lotman as defendants. On November 13, 2018, Defendants filed a Demurrer to First Amended Consolidated Complaint. On January 25, 2019, the Court sustained Defendants’ Demurrer to First Amended Consolidated Complaint with Leave to Amend in Part. Plaintiffs filed a Second Amended Consolidated Complaint on February 25, 2019. On March 27, 2019, Defendants filed a Demurrer to the Second Amended Consolidated Complaint. On July 31, 2019, the Court sustained Defendants’ Demurrer to the Second Amended Complaint in Part, narrowing the scope of the case. Defendants filed their Answer to the Second Amended Consolidated Complaint on November 12, 2019. On January 29, 2020, Plaintiffs filed a Motion for Class Certification. Plaintiffs’ Motion for Class Certification is fully briefed, and the hearing on Plaintiffs’ Motion for Class Certification is set for September 10, 2020. Defendants dispute Plaintiffs’ allegations and will continue to vigorously defend themselves in this litigation.

 

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

 

On August 24, 2018, the Original Defendants were named as defendants in a putative securities class action lawsuit entitled Vignola v. FAT Brands, Inc., Case No. 2:18-cv-07469-PSG-PLA, in the United States District Court for the Central District of California. On October 23, 2018, Charles Jordan and David Kovacs (collectively, "Lead Plaintiffs") moved to be appointed lead plaintiffs, and the Court granted Lead Plaintiffs’ motion on November 16, 2018. On January 15, 2019, Lead Plaintiffs filed a First Amended Class Action Complaint against the Original Defendants. The allegations and claims for relief asserted in Vignola are substantively identical to those asserted in the Rojany Case. Defendants filed a Motion to Dismiss First Amended Class Action Complaint, or, in the Alternative, to Stay the Action In Favor of a Prior Pending Action. On June 14, 2019, the Court denied Defendants’ motion to stay but granted Defendants’ motion to dismiss the First Amended Class Action Complaint, with Leave to Amend. Lead Plaintiffs filed a Second Amended Class Action Complaint on August 5, 2019. On September 9, 2019, Defendants’ filed a Motion to Dismiss the Second Amended Class Action Complaint. On December 17, 2019, the Court granted Defendants’ Motion to Dismiss the Second Amended Class Action Complaint in Part, Without Leave to Amend. The allegations remaining in Vignola are substantively identical to those remaining in the Rojany Case. Defendants filed their Answer to the Second Amended Class Action Complaint on January 14, 2020. On December 27, 2019, Lead Plaintiffs filed a Motion for Class Certification. By order entered March 16, 2020, the Court denied Lead Plaintiffs’ Motion for Class Certification. By order entered April 1, 2020, the Court set various deadlines for the case, including a fact discovery cut-off of December 29, 2020, expert discovery cut-off of February 23, 2021 and trial date of March 30, 2021. Defendants dispute Lead Plaintiffs’ allegations and will continue to vigorously defend themselves in this litigation.

 

 

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

 

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

 

ITEM 1A. RISK FACTORS

 

You should carefully consider the factors discussed in Part I, Item 1A. “Risk Factors” and elsewhere in our Annual Report on Form 10-K filed on April 28, 2020, which could materially affect our business, financial condition, cash flows or future results. There have been no material changes in such factors discussed in our Annual Report. The risks described in our Annual Report are not the only risks facing our company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or future results.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

Common Stock

 

On February 11, 2020, the Company issued a total of 16,360 shares of common stock at a value of $4.585 per share to the non-employee members of the board of directors as consideration for accrued directors’ fees. The issuance of these shares to the directors are exempt from registration under the Securities Act in reliance on Section 4(a)(2) of the Securities Act and Rule 506 promulgated under Regulation D under the Securities Act as transactions by an issuer not involving a public offering. The directors acquired the securities for investment only and not with a view to or for sale in connection with any distribution thereof.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4. MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5. OTHER INFORMATION

 

On May 25, 2020, Marc Holtzman resigned from the Board of Directors of the Company. Mr. Holtzman informed the Company that he resigned for personal reasons and to pursue other business opportunities, and not as a result of a disagreement with any Company operations, policies or practices.

 

 

ITEM 6. EXHIBITS

 

Exhibit				Incorporated By Reference to						Filed
Number		Description		Form		Exhibit		Filing Date		Herewith
4.1		Base Indenture, dated March 6, 2020, by and between FAT Brands Royalty I, LLC, and UMB Bank, N.A., as trustee and securities intermediary.		8-K		4.1		03/12/2020
4.2		Series 2020-1 Supplement to Base Indenture, dated March 6, 2020, by and between FAT Brands Royalty I, LLC, and UMB Bank, N.A., as trustee.		8-K		4.2		03/12/2020
10.1		Management Agreement, dated March 6, 2020, by and among FAT Brands Inc., FAT Brands Royalty I, LLC, each of the Franchise Entities, and the Trustee.		8-K		10.2		03/12/2020
10.2		Intercompany Revolving Credit Agreement, dated April 24, 2020, by and between FAT Brands Inc. and Fog Cutter Capital Group, Inc.		10-K		10.11		04/28/2020
31.1		Chief Executive Officer Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002								X
31.2		Chief Financial Officer Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002								X
32.1		Certifications of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002								X
101.INS		XBRL Instance Document								X (Furnished)
101.SCH		XBRL Taxonomy Extension Schema Document								X (Furnished)
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document								X (Furnished)
101.DEF		XBRL Taxonomy Extension Definition Linkbase Document								X (Furnished)
101.LAB		XBRL Taxonomy Extension Label Linkbase Document								X (Furnished)
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document								X (Furnished)

 

 

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.

 

	FAT BRANDS INC.
May 28, 2020	By	/s/ Andrew A. Wiederhorn
		Andrew A. Wiederhorn
		President and Chief Executive Officer
		(Principal Executive Officer)
May 28, 2020	By	/s/ Rebecca D. Hershinger
		Rebecca D. Hershinger
		Chief Financial Officer
		(Principal Financial and Accounting Officer)