Our ability to open and operate new restaurants is subject to factors beyond our control.
Our growth strategy depends in large part on our ability and the ability of our franchisees to timely and efficiently open new restaurants and to operate these restaurants on a profitable basis. Delays or failures in opening new restaurants could materially and adversely affect our planned growth. The success of our planned expansion will depend upon numerous factors, many of which are beyond our control, including the following:
| • | our ability to identify, and secure an adequate supply of, available and suitable restaurant sites; | ||
| • | availability and retention of qualified operating personnel; | ||
| • | increases in minimum wage and other operating costs cost; | ||
| • | shortages in raw food products and volatility of commodity prices; |
| • | consumer preferences, spending patterns and demographic trends; | ||
| • | securing required governmental approvals and permits; | ||
| • | competition in our markets and competitive discounting; | ||
| • | availability of capital; and | ||
| • | the possibility of unforeseen events affecting our industry generally and in the Southeastern region of the United States in particular. |
The locations of our Company-owned and franchised restaurants are critical to our success.
Our success is dependent on our ability to identify and secure suitable locations for our Company-owned and franchised restaurants. Factors we typically review in considering any potential restaurant locations include traffic count, speed of traffic, convenient access, size and configuration, demographics and density of population, visibility and cost, as well as potential competition and sales and traffic counts of national and regional chain restaurants operating in the area. The sales performance and guest counts for our restaurants may be adversely affected in the event one or more of our competitors opens new restaurants in close proximity to our locations.
Our business is dependent on the availability and retention of qualified operating personnel.
Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified managerial and other employees. Qualified individuals needed to fill these positions are in short supply in some areas. The inability to recruit and retain these individuals may delay the planned openings of new restaurants or result in high employee turnover in existing restaurants, which could harm our business. Additionally, competition for qualified employees could require us to pay higher wages to attract sufficient employees, which could result in higher labor costs. Most of our employees are paid on an hourly basis. These employees are paid in accordance with applicable minimum wage regulations. Accordingly, any increase in the minimum wage, whether state or federal, could have a material adverse impact on our business.
Our operations are susceptible to the cost of and changes in food availability.
Our profitability depends in part on our ability to anticipate and react to changes in food costs. Various factors beyond our control, including adverse weather conditions, governmental regulation, production, availability, recalls of food products and seasonality may affect our food costs or cause a disruption in our supply chain. Beef and chicken represent a significant portion of our food purchases. Changes in the price or availability of chicken or beef could materially adversely affect our profitability. We cannot predict whether we will be able to anticipate and react to changing food costs by adjusting our purchasing practices and menu prices, and a failure to do so could adversely affect our operating results.
Changes in consumer preferences could negatively impact our results of operations.
Our menu features made-to-order gourmet 100% Black Angus hamburgers and chicken sandwiches, fresh salads, chili and other special entrees as well as hand-dipped milkshakes, fresh-made lemonade and fresh-baked cobbler. Our continued success depends, in part, upon the popularity of these foods in the quick serve restaurant market. The fast food industry is characterized by the frequent introduction of new products, accompanied by substantial promotional campaigns. In recent years, numerous companies in the fast food industry have introduced products positioned to capitalize on growing consumer preference for food products which are upscale and are, or are perceived to be, healthful, nutritious, low in calories and low in fat content. Our success will depend in part on our ability to anticipate and respond to changing consumer preferences, tastes and eating and purchasing habits, as well as other factors affecting the food service industry, including new market entrants and demographic changes.
Health concerns relating to the consumption of beef or chicken could negatively impact our results of operations.
Like other restaurant chains, consumer preferences could be affected by health concerns about the avian influenza, also known as bird flu, or the consumption of beef, or negative publicity concerning food quality, illness and injury generally, such as negative publicity concerning E. coli, “mad cow” or “foot-and-mouth” disease or the publication of government or industry findings concerning food products served by us. This negative publicity may
adversely affect demand for our food and could result in a decrease in guest traffic to our restaurants.
We are subject to government regulation that may adversely hinder or impact the growth of our business.
We are subject to Federal Trade Commission regulation and several state laws which regulate the offer and sale of franchises. The Company is also subject to state laws that regulate substantive aspects of the franchisor — franchisee relationship. The FTC’s Trade Regulation Rule on Franchising requires the Company to furnish to prospective franchisees a franchise offering circular containing information prescribed by the rule. State laws that regulate the offer and sale of franchises and the franchisor — franchisee relationship presently exist in a substantial number of states.
Each company-operated and franchised restaurant is subject to licensing and regulation by a number of governmental authorities, which may include health, sanitation, safety, fire, building and other agencies in the state or municipality in which the restaurant is located. Difficulties in obtaining or failure to obtain the required licenses or approvals could delay or prevent the development of a new restaurant in a particular area. The Company is also subject to federal and state environmental regulations. More stringent and varied requirements of local governmental bodies with respect to zoning, land use and environmental factors could delay or prevent the development of a new restaurant in a particular area.
State and federal labor laws that govern the relationship with employees of our company-owned and franchised restaurants, such as minimum wage requirements, overtime and working conditions and citizenship requirements. Significant numbers of the food service and preparation personnel at our restaurants are paid at rates governed by the federal minimum wage. Accordingly, further increases in the minimum wage would increase our labor costs and may have an adverse effect on the Company’s operating margins.
Our success depends on our ability to compete effectively in the quick service restaurant industry.
The restaurant industry, particularly the fast food segment, is highly competitive with respect to price, service, food quality and location. We compete with numerous well-established competitors possessing substantial financial, marketing, personnel and other resources. In addition, we compete with national, regional and local fast food chains, many of which specialize in or offer quick serve hamburger and chicken products. We also expect to face competition from a broad range of other restaurants and food service establishments. Many of the Company’s competitors have achieved significant national, regional and local brand name and product recognition and engage in extensive advertising and promotional programs, both generally and in response to efforts by additional competitors to enter new markets or introduce new products.
We compete primarily based on the quality of our food and guest service, rather than price. We implemented menu price increases of approximately 2% effective in June 2004 and October 2004 in order to partially offset increased costs of beef and other operating expenses. Although we have not experienced significant consumer resistance to our past price increases, we cannot provide assurance that these or other future price increases will not deter guests from visiting our restaurants in favor of lower-price competitors.
If our franchisees cannot develop new restaurants, our growth and success may be impeded.
Our ability to grow is dependent on the development of franchised restaurants pursuant to existing area development agreements and franchise agreements, as well as the pursuit of additional franchised restaurants pursuant to new area development agreements and franchise agreements. Under our current form of area development agreement, franchisees must develop a predetermined number of restaurants in their area according to a schedule that lasts for the term of their development agreement. The Company may revoke an area development agreement of any franchisee that is unsuccessful in meeting its projected development schedule. The Company anticipates the termination of at least six area development agreements, which relate to the development of up to 66 stores, during 2006 due to lack of required development under the agreements.
Our expansion into new markets may present increased risks due to our unfamiliarity with the area.
Some of our new restaurants will be located in areas where we have little or no meaningful experience and where there is the lack of market awareness of the Back Yard Burgers ® brand. Those markets may have competitive conditions, consumer tastes and discretionary spending patterns that are different from our existing markets, which may cause our new restaurants to be less successful than restaurants in our existing markets.
The acquisition of existing restaurants from our franchisees may have an adverse impact on our operating results or financial condition.
We may seek to selectively acquire existing restaurants from our franchisees who are seeking an exit strategy. To do so, we would need to identify suitable acquisition candidates, negotiate acceptable acquisition terms and obtain appropriate financing. Future acquisitions of existing restaurants from our franchisees could result in the incurrence of contingent liabilities and impairment charges related to goodwill and other intangible assets, any of which could harm our business, results of operations and financial condition.
Our restaurants are located primarily in the Southeast region of the United States and, as a result, we are sensitive to economic and other trends and developments in this region.
As of December 31, 2005, our operations included 44 company-operated restaurants and 127 franchised restaurants in the Southeast region of the United States, primarily in the states of Alabama, Arkansas, Florida, Georgia, Mississippi, Missouri and Tennessee. As a result, we are particularly susceptible to adverse trends and economic conditions in this region, including its labor market. In addition, given our geographic concentration, negative publicity regarding any of our restaurants in the Southeastern United States could have a material adverse effect on our business and operations, as could other regional occurrences such as local strikes, energy shortages or increases in energy prices, droughts, earthquakes, fires or other natural disasters.
Our franchisees could take actions that could harm our business.
Franchisees are independent contractors and are not our employees. We provide training and support to franchisees; however, franchisees operate their restaurants as independent businesses. Consequently, the quality of franchised restaurant operations may be diminished by any number of factors beyond our control. Moreover, franchisees may not successfully operate restaurants in a manner consistent with our standards and requirements, or may not hire and train qualified managers and other restaurant personnel. Our image and reputation, and the image and reputation of other franchisees, may suffer materially and system-wide sales could significantly decline if our franchisees do not operate successfully.
If we are not able to transition the role of CEO to a qualified person, our business could suffer.
Our growth in the past has depended on the services and performance of Lattimore M. Michael, our Chairman and Chief Executive Officer. We recently announced that we would separate the roles of Chairman and CEO and that, upon retaining an individual to serve as President and CEO of the Company, Mr. Michael would resign from his position as CEO. Our future performance will depend on our ability to recruit and retain an individual to serve as President and CEO of the Company. Competition for qualified executives is intense. The inability to attract additional qualified personnel as needed could materially harm our business.
Our future success depends on our ability to protect our proprietary information.
Our business prospects will depend in part on our ability to develop favorable consumer recognition of the Back Yard Burgers ® name and logo. Although Back Yard Burgers ® and the kettle and flame logo are federally registered trademarks with the United States Patent and Trademark Office, our trademarks could be infringed in ways that leave us without redress.
A significant increase in litigation could have a material adverse effect on our results of operations, financial condition and business prospects.
As a member of the restaurant industry, we are sometimes the subject of complaints or litigation from guests alleging illness, injury or other food quality, health or operational concerns. Adverse publicity resulting from these allegations could harm our restaurants, regardless of whether the allegations are valid or whether we are liable. We are subject to the same risks of adverse publicity resulting from these sorts of allegations even if the claim involves one of our franchisees.
Restaurant Operations
Restaurant Locations . The following tables set forth the number of restaurants located in each market of the Company’s system at December 31, 2005.
| Company-operated: | Franchised: | |||||
| Number of | Number of | |||||
| Core Markets | Restaurants | Core Markets | Restaurants | |||
Memphis, TN Area |
28 | Kansas City, MO Area | 12 | |||
Little Rock, AR Area |
7 | Atlanta, GA Area | 9 | |||
Nashville, TN Area |
5 | Birmingham, AL Area | 4 | |||
Gulf Coast, FL Area |
4 | Charlotte, NC Area | 4 | |||
| Jackson, MS Area | 4 | |||||
| Knoxville, TN Area | 4 | |||||
| Hickory, NC Area | 3 | |||||
Total |
44 | Memphis, TN Area | 3 | |||
| Orlando, FL Area | 3 | |||||
| Tulsa, OK Area | 3 | |||||
| Chattanooga, TN Area | 2 | |||||
| Lexington, KY Area | 2 | |||||
| Little Rock, AR Area | 2 | |||||
| Paducah, KY Area | 2 | |||||
| State College, PA Area | 2 | |||||
| Tallahassee, FL Area | 2 | |||||
| Waco, TX Area | 2 | |||||
| Other Markets (1) | ||||||
| Georgia | 8 | |||||
| Mississippi | 8 | |||||
| Alabama | 7 | |||||
| Kentucky | 7 | |||||
| Missouri | 6 | |||||
| North Carolina | 5 | |||||
| Louisiana | 4 | |||||
| South Carolina | 4 | |||||
| Arkansas | 2 | |||||
| Indiana | 2 | |||||
| Tennessee | 2 | |||||
| Florida | 1 | |||||
| Illinois | 1 | |||||
| Kansas | 1 | |||||
| Nebraska | 1 | |||||
| Ohio | 1 | |||||
| Oklahoma | 1 | |||||
| Pennsylvania | 1 | |||||
| Texas | 1 | |||||
| Virginia | 1 | |||||
| Total | 127 | |||||
| (1) | The “Other Markets” portion of the table reflects the total number of restaurants located in such markets by state. Other markets for the restaurants range from small towns to large cities where franchisees have only one restaurant. |
Restaurant Openings and Closings . The following table presents an activity summary of the company-operated and franchised restaurants during the periods presented.
| Year Ended | ||||||||||||||||
| December 31, | January 1, | January 3, | December 28, | |||||||||||||
| 2005 | 2005 | 2004 | 2002 | |||||||||||||
Restaurants |
||||||||||||||||
Company-operated |
||||||||||||||||
Open at beginning of period |
42 | 42 | 42 | 37 | ||||||||||||
Opened during period |
1 | 2 | 1 | 5 | ||||||||||||
Converted to Company |
4 | 0 | 0 | 1 | ||||||||||||
Converted to Franchise |
0 | (1 | ) | 0 | 0 | |||||||||||
Closed during period |
(3 | ) | (1 | ) | (1 | ) | (1 | ) | ||||||||
Open at end of period |
44 | 42 | 42 | 42 | ||||||||||||
Franchised (a) |
||||||||||||||||
Open at beginning of period |
114 | 90 | 77 | 67 | ||||||||||||
Opened during period |
32 | 31 | 19 | 15 | ||||||||||||
Converted to Company |
(4 | ) | 0 | 0 | (1 | ) | ||||||||||
Converted to Franchise |
0 | 1 | 0 | 0 | ||||||||||||
Closed during period |
(15 | ) (b) | (8 | ) | (6 | ) | (4 | ) | ||||||||
Open at end of period |
127 | 114 | 90 | 77 | ||||||||||||
Total Restaurants |
171 | 156 | 132 | 119 | ||||||||||||
| (a) | As of March 24, 2006, five franchised restaurants opened since December 31, 2005, one each in Athens, AL, Cherokee, NC, Milledgeville, GA, Denham Springs, LA and Rogers, AR and one franchised restaurant closed in Kingsport, TN. One Company-operated restaurant in Tupelo, MS was sold in January 2006 and will continue to be operated as a franchised restaurant, and one Company-operated restaurant in Memphis, TN was closed and sold in March 2006. | |
| (b) | Includes the closing of all 9 co-branded restaurants with Taco Bell. |
Site Selection . The Company believes that the location of a restaurant is critical to its success. Management inspects each potential restaurant site prior to final selection of the site. In evaluating particular sites, the Company considers various criteria including traffic count, speed of traffic, convenient access, size and configuration, demographics and density of population, visibility and cost. The Company also reviews potential competition and the sales and traffic counts of national and regional chain restaurants operating in the area. A majority of both company-operated and franchised restaurants are located on leased land.
Restaurant Design and Service . Restaurants with a single drive-thru and indoor dining are built to Company-approved specifications. There are some existing double drive-thru restaurants without indoor dining; however, the additional development of this facility type has been discontinued.
In some circumstances, restaurants may be constructed via the conversion of buildings used previously by other concepts, including other restaurants. The restaurants range in size from 820 square feet (double drive-through) to 4,000 square feet. The restaurants also include Company-approved interior and exterior decor, equipment, fixtures, furnishings, signs, parking and site improvements. The restaurants have a highly visible, distinctive and uniform look that is intended to appeal to customers of all ages.
Prior to 1994, the Company operated and franchised predominately double drive-thru restaurants without indoor dining. Since that time, the Company has added a number of indoor dining facilities to its operations, including the retrofitting of many existing double drive-thru restaurants to include indoor dining. At December 31, 2005, the number of restaurants with indoor dining was 36 company-operated facilities and 118 franchised facilities.
It is the Company’s objective to serve customers within 60 seconds of their arrival at the drive-thru window. Each restaurant has a computerized point-of-sale system which displays each individual item ordered on a monitor in front of the food and drink preparers. This enables the preparers to begin filling an order before the order is completed and totaled, and thereby increases the speed of service to the customer and the number of sales per hour. The restaurants are generally open from 12 to 15 hours per day, seven days a week, for lunch, dinner and late-night snacks and meals.
Supplies . The Company and its franchisees purchase their food, beverages and supplies from Company-approved suppliers. All products must meet standards and specifications set by the Company. Management constantly monitors the quality of the food, beverages and supplies provided to the restaurants. The Company has been successful in negotiating price concessions from suppliers for bulk purchases of food and paper supplies used by the restaurants. The Company believes that these arrangements have achieved cost savings, improved food quality and consistency and helped decrease volatility of food and supply costs for the restaurants. All essential food and beverage products are available or, upon short notice, could be made available from alternate qualified suppliers.
Management and Employees . Each company-operated restaurant employs approximately 25 employees, many of whom work part-time. The management staff of a typical restaurant operated by the Company consists of a general manager and two assistant managers. Each company-operated restaurant unit supervisor reports directly to a district manager. The district managers are able to provide close, hands-on management of each company-operated restaurant since they have responsibility for only five to eight restaurants. Each district manager reports directly to the director of operations.
Supervision and Training . The Company believes that training and personnel development are crucial to its success. The Company’s training program is an intensive four-week program consisting of both in-store and classroom training. The in-store training stresses food quality, fast, friendly customer service, restaurant cleanliness, and proper management operations of a quick service restaurant. The classroom training consists of such topics as food safety and sanitation, employment laws and regulations, interviewing and hiring of employees, and systems to control both food and labor costs. Prior to opening, each restaurant must have a minimum of three trained and certified managers that have successfully completed the Company training program.
Advertising and Promotion . Marketing promotions are planned by the Company’s national marketing committee made up of Company employees and selected franchisee representatives from the Back Yard Burgers, Inc. franchisee association’s board of directors. The five franchisees are elected to two-year terms by the franchise association. These franchisees also serve as officers of the franchise association for the two-year term as well. Production of some marketing materials is paid for through a national advertising fund, which collects 1% of taxable sales from each franchisee and company-operated restaurant. Of that 1%, approximately 50% goes toward the creation of marketing tools such as advertising copy for use on local radio and television, ad slicks, four-color art, design and other collateral pieces and marketing expenses and approximately 50% goes toward testing new products and systems, market research, improvements in operating methods and techniques or for other such purposes that the Company deems to be in the interest of improving operations and earnings of restaurants.
Restaurant Reporting . Each restaurant has a computerized point-of-sale system monitored by the management of the restaurant. With this system, managers are able to monitor sales, labor, customer counts and other pertinent information every 30 minutes that the restaurant is open. This information allows a manager to better control labor utilization, inventories and operating costs. For company-operated restaurants, management monitors sales, food and labor costs, product mix, inventories and customer counts on a weekly basis and profit and loss statements and balance sheets on a monthly basis.
Franchise Operations
Strategy. In addition to the development of company-operated restaurants, the Company will continue to emphasize the development of additional franchised restaurants expected to be opened pursuant to existing area development agreements and franchise agreements as well as the pursuit of additional franchised restaurants pursuant to new area development agreements and franchise agreements. The Company believes that it has attracted a committed and enthusiastic group of franchisees as a result of the strength of its concepts and operating strategies. The Company will continue to promote the development of franchised restaurants in existing markets enabling franchisees to increase overall spending on advertising to drive guest traffic and minimize distribution costs.
Franchisee Support Services . The Company maintains a staff of six well-trained and experienced franchised field consultants whose only responsibilities are to help train and assist franchisees in opening new restaurants and to monitor the operations of existing restaurants. These services are provided as part of the Company’s franchise program. Upon the opening of a new franchised restaurant, the Company sends an opening team to the restaurant to assist the franchisee during the first several days that the restaurant is open. This management team works in the restaurant to monitor compliance with the Company’s standards as to quality of product and service.
Each franchise field consultant supervises franchised restaurants in defined geographic areas. Presently, the Company has one franchise field consultant for each 21 restaurants. That ratio will increase as existing franchisees develop new stores within existing territories. Each franchise field consultant has been fully trained by the Company to assist franchisees in implementing the operating procedures and policies of the Company once a restaurant is open. As part of these services, the franchise service representative rates the restaurant’s hospitality, food quality, speed of service and cleanliness and maintenance of facilities. The franchisees receive a written report of the findings and, if any deficiencies are noted, recommended procedures to be followed to correct such deficiencies. In addition, the consultant assists in developing business and marketing plans, as well as assisting in the training and development of the franchisee’s staff.
The Company also provides construction support services to its franchisees. All site plans must be approved by the Company before construction or site improvements begin. These plans include information detailing building location, internal traffic patterns and curb cuts, location of utilities, walkways, driveways, signs and parking lots and a complete landscape plan. The Company also approves all plans and specifications for the restaurant building to ensure uniformity of design of the building and the site improvements. The Company’s personnel also visit the site during construction, to meet with the franchisees and verify that all Company standards are met.
Advertising and Promotion . Franchisees are required to participate in seasonal promotions, which are supported by television, radio, newspaper, banners, point-of-purchase materials and other local store marketing activities. The Company’s marketing manual outlines advertising and public relations promotions as well as new store opening information, grand opening information, trade area surveys and describes how to write a marketing plan and budget for the franchisee’s area. Marketing is supported by a staff consisting of two field marketing managers who coordinate plans and implementation with a national advertising agency. Approved suppliers are set up to facilitate such things as uniforms and collateral materials.
Area Development and Franchise Agreements . In addition to offering single unit franchise agreements, the Company also promotes franchisees to enter into area development agreements. The area development agreement grants to the franchisee the exclusive right to develop and open a specified number of restaurants within a period of time and in a defined geographic territory and thereafter to operate each restaurant in accordance with the terms and conditions of the franchise agreement. The franchise agreement grants an exclusive license at a specified location to operate a restaurant in accordance with the Back Yard Burgers system and to utilize the Company’s trademarks, service marks and other rights of the Company relating to the sale of its menu items. The term of a franchise agreement is 10 years, renewable for successive five year periods, if certain conditions pertaining to such renewal are met, including the payment of a $1,000 renewal fee.
Each area development agreement establishes the number of restaurants the franchisee is to construct and open in the territory during the term of the area development agreement after considering many factors, including the residential, commercial and industrial characteristics of the area, geographic factors, population of the area and the previous experience of the franchisee. The franchisee’s development schedule for the restaurants is set forth in the area development agreement. As of December 31, 2005, the Company had entered into franchise agreements and area development agreements with certain franchisees that require them to open or have under construction a minimum of 300 restaurants by the end of August 31, 2013. Of the 127 franchised restaurants open as of December 31, 2005, 106 were being operated under area development agreements by multiple unit franchisees and 21 were being operated under single franchise agreements by single unit franchisees. The Company may revoke an area development agreement of any franchisee that is unsuccessful in meeting its projected development schedule. During the past three years, the Company has exercised its right to terminate eight area development agreements, which related to the development of up to 19 stores, for lack of performance by multiple unit franchisees with respect to their projected development schedules. None of these agreements were terminated during 2005; however, the Company does anticipate the termination of at least six agreements, which relate to the development of up to 66 stores, during 2006 due to lack of required development under the agreements. The total deferred fees associated with these agreements (net of sales commissions) are approximately $189,000, of which the company will recognize a portion or all upon termination of these agreements. The Company believes that its overall experience with franchisees who commit to develop restaurants under franchise agreements and area development agreements has been favorable, although there can be no assurance that future performance by franchisees under these agreements will be successful.
The franchise agreement and area development agreement require that the franchisee submit information regarding proposed restaurant sites to the Company for its review. The Company does not arrange or make any provisions for financing the development of restaurants by its franchisees. Each franchisee is required to purchase all fixtures, equipment, inventory, products, ingredients, materials and other supplies used in the operation of its restaurants from approved suppliers, all in accordance with the Company’s specifications. The Company provides a training program for management personnel of its franchisees. Under the terms of the franchise agreement, the Company has adopted standards of quality, service and food preparation for franchised restaurants. Each franchisee is required to comply with all of the standards for restaurant operations as published from time to time in the Company’s operations manual.
The Company may terminate a franchise agreement for several reasons, including among others, the franchisee’s bankruptcy or insolvency, default in the payment of royalties or advertising fees to the Company, failure to maintain standards set forth in the franchise agreement or operations manual, material violation of any law, ordinance or governmental rule or regulation or cessation of business. In such event, the Company may also elect to terminate a multiple unit franchisee’s area development agreement.
Franchise Fees and Royalties . Under the current franchise agreement, each franchisee is generally required to pay a franchise fee of $25,000. If a franchisee purchases franchise development rights in an area pursuant to an area development agreement, the franchisee must pay $25,000 for the first restaurant and agree to pay a franchise fee of $22,000 for each additional restaurant covered under the agreement. With respect to the area development agreement, the amount of the fee varies depending upon the number of restaurants the Company estimates can be developed within the territory. Upon signing the area development agreement, the franchisee will pay to the Company a franchise fee of $25,000 for the first restaurant, plus a $5,000 (per restaurant) area development fee (to be credited toward the subsequent $22,000 franchise fees(s)) for subsequent restaurants covered under the area development agreement. For example, for a franchisee whose area development agreement requires the development of five restaurants, the franchise fee will be $25,000 for the first restaurant and the area development fee will by $20,000, and the franchise fee will be $17,000 ($22,000 less $5,000) for each of the next four restaurants for an aggregate total of $113,000. Each franchisee is also generally required to pay the Company a weekly royalty of 4% of the restaurant’s taxable sales and to pay 1% of the restaurant’s weekly taxable sales to the Company’s national advertising fund. Each restaurant is required to spend not less than 2% of the restaurant’s taxable sales on local store marketing.
Competition
Restaurant Operations. The restaurant industry, particularly the fast food segment, is highly competitive with respect to price, service, food quality and location and there are numerous well-established competitors possessing substantially greater financial, marketing, personnel and other resources than the Company. The Company believes that its primary direct competitors consist of McDonald’s Corp., Burger King Corp., Wendy’s International, Inc. and Chik-Fil-A. In addition, there are other national, regional and local fast food chains, many of which specialize in or offer quick serve hamburger and chicken products. The Company can also be expected to face competition from a broad range of other restaurants and food service establishments. Many of the Company’s competitors have achieved significant national, regional and local brand name and product recognition and engage in extensive advertising and promotional programs, both generally and in response to efforts by additional competitors to enter new markets or introduce new products. In addition, the fast food industry is characterized by the frequent introduction of new products, accompanied by substantial promotional campaigns. In recent years, numerous companies in the fast food industry have introduced products positioned to capitalize on growing consumer preference for food products which are upscale and are, or are perceived to be, healthful, nutritious, low in calories and low in fat content. It can be expected that the Company will be subject to competition from companies whose products or marketing strategies address these consumer preferences. In addition, the market for suitable restaurant locations is highly competitive in that fast food companies, major restaurant companies and non-food companies compete for prime real estate sites.
Franchise Operations . In addition to its restaurant operations, the Company competes with fast food chains, major restaurant chains and other franchisors for franchisees. Many franchisors, including those in the restaurant industry, have greater market recognition and greater financial, marketing and human resources.
Trademarks and Service Marks
The Company believes its trademarks and service marks have significant value and are important to its marketing efforts. The Company has registered the name “Back Yard Burgers” and the kettle and flame design as service marks with the United States Patent and Trademark Office. The Company’s policy is to pursue registration of its marks whenever possible and to oppose vigorously any infringement of its marks.
Government Regulations
The Company is subject to Federal Trade Commission regulation and several state laws which regulate the offer and sale of franchises. The Company is also subject to state laws that regulate substantive aspects of the franchisor — franchisee relationship. The FTC’s Trade Regulation Rule on Franchising requires the Company to furnish to prospective franchisees a franchise offering circular containing information prescribed by this rule.
State laws that regulate the offer and sale of franchises and the franchisor — franchisee relationship presently exist in a substantial number of states. Such laws generally require registration of the franchise offering with state authorities and regulate the franchise relationship by, for example, requiring the franchisor to deal with its franchisees in good faith, prohibiting interference with the right of free association among franchisees, limiting the imposition of standards of performance on a franchisee and regulating discrimination against franchisees in charges, royalties or fees. Although such laws may restrict a franchisor in the termination of a franchise agreement by, for example, requiring “good cause” to exist as a basis for the termination, advance notice to the franchisee of the termination, an opportunity to cure a default and a repurchase of inventory or other compensation, these provisions have not had a significant effect on the Company’s franchise operations. The Company is not aware of any pending franchise legislation which in its view is likely to affect significantly the operations of the Company. The Company believes that its operations comply in all material respects with rules and the applicable state franchise laws.
Each company-operated and franchised restaurant is subject to licensing and regulation by a number of governmental authorities, which may include health, sanitation, safety, fire, building and other agencies in the state or municipality in which the restaurant is located. Difficulties in obtaining or failure to obtain the required licenses or approvals could delay or prevent the development of a new restaurant in a particular area. The Company is subject to federal and state environmental regulations, but these regulations have not had a material effect on the
Company’s operations. More stringent and varied requirements of local governmental bodies with respect to zoning, land use and environmental factors could delay or prevent the development of a new restaurant in a particular area.
The Company is also subject to state and federal labor laws that govern its relationship with its employees, such as minimum wage requirements, overtime and working conditions and citizenship requirements. Significant numbers of the Company’s food service and preparation personnel are paid at rates governed by the federal minimum wage. Accordingly, further increases in the minimum wage would increase the Company’s labor costs and may have an adverse effect on the Company’s operating margins.
Employees
As of March 1, 2006, the Company employed approximately 1,000 persons in its restaurant operations, 36 of whom are corporate personnel, 124 of whom are restaurant management and supervisory personnel and the remainder of whom are hourly restaurant personnel. Of the 36 corporate employees, 14 are in management positions and 22 are administrative or office employees.
Available Information
The Company maintains an internet website at www.backyardburgers.com. The Company makes available free of charge under the section “Investor Relations” of its website links to its annual reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K, and all amendments to any of those reports, as soon as reasonably practicable after providing such reports to the Securities and Exchange Commission.
