pbpb-10q_20180930.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

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

For the Quarterly Period Ended September 30, 2018

OR

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

For the Transition Period from                      to                     

Commission File Number: 001-36104

 

Potbelly Corporation

(Exact name of registrant as specified in its charter)

 

 

 

 

 

Delaware

 

36-4466837

(State or Other Jurisdiction of

Incorporation)

 

(IRS Employer

Identification Number)

111 N. Canal Street, Suite 850

Chicago, Illinois 60606

(Address, including Zip Code, of Principal Executive Offices)

Registrant’s telephone number, including area code: (312) 951-0600

 

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      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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes      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

 

  

  

Smaller reporting company

 

 

 

 

 

 

 

 

 

Emerging growth company

 

 

 

 

 

 

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. 

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

Common stock, $0.01 Par Value – 24,844,824 shares as of October 28, 2018

 

 

 

 

 


Potbelly Corporation and Subsidiaries

Table of Contents

 

 

 

 

 

Page

PART I.

 

FINANCIAL INFORMATION

 

 

 

 

 

 

Item 1.

 

Financial Statements

 

3

 

 

 

 

 

 

Condensed Consolidated Balance Sheets

 

3

 

 

 

 

 

 

Condensed Consolidated Statements of Operations

 

4

 

 

 

 

 

 

Condensed Consolidated Statements of Equity

 

5

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows

 

6

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements

 

7

 

 

 

 

Item 2.

 

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

 

13

 

 

 

 

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

 

21

 

 

 

 

Item 4.

 

Controls and Procedures

 

21

 

 

 

 

PART II.

 

OTHER INFORMATION

 

 

 

 

 

 

Item 1.

 

Legal Proceedings

 

22

 

 

 

 

Item 1A.

 

Risk Factors

 

22

 

 

 

 

Item 2.

 

Unregistered Sale of Equity Securities and Use of Proceeds

 

22

 

 

 

 

Item 6.

 

Exhibits

 

23

 

 

 

 

 

 

Signature

 

24

 

2


PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

 

Potbelly Corporation and Subsidiaries

Condensed Consolidated Balance Sheets

(amounts in thousands, except share and par value data, unaudited)

 

 

 

September 30,

 

 

December 31,

 

 

 

2018

 

 

2017

 

Assets

 

 

 

 

 

 

 

 

Current assets

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

26,711

 

 

$

25,530

 

Accounts receivable, net of allowances of $124 and $129 as of September 30, 2018

   and December 31, 2017, respectively

 

 

5,353

 

 

 

5,087

 

Inventories

 

 

3,459

 

 

 

3,525

 

Prepaid expenses and other current assets

 

 

10,980

 

 

 

11,061

 

Total current assets

 

 

46,503

 

 

 

45,203

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

 

94,237

 

 

 

103,859

 

Indefinite-lived intangible assets

 

 

3,404

 

 

 

3,404

 

Goodwill

 

 

2,222

 

 

 

2,222

 

Deferred income taxes, noncurrent

 

 

12,612

 

 

 

11,202

 

Deferred expenses, net and other assets

 

 

7,064

 

 

 

4,840

 

Total assets

 

$

166,042

 

 

$

170,730

 

 

 

 

 

 

 

 

 

 

Liabilities and Equity

 

 

 

 

 

 

 

 

Current liabilities

 

 

 

 

 

 

 

 

Accounts payable

 

$

3,380

 

 

$

3,903

 

Accrued expenses

 

 

23,597

 

 

 

23,273

 

Accrued income taxes

 

 

 

 

 

176

 

Total current liabilities

 

 

26,977

 

 

 

27,352

 

 

 

 

 

 

 

 

 

 

Deferred rent and landlord allowances

 

 

22,998

 

 

 

22,987

 

Other long-term liabilities

 

 

5,983

 

 

 

3,153

 

Total liabilities

 

 

55,958

 

 

 

53,492

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

 

 

 

Common stock, $0.01 par value—authorized 200,000,000 shares; outstanding

   25,102,339 and 24,999,688 shares as of September 30, 2018 and December 31,

   2017, respectively

 

 

329

 

 

 

318

 

Additional paid-in-capital

 

 

432,329

 

 

 

421,657

 

Treasury stock, held at cost, 7,804,519 and 6,831,508 shares as of

   September 30, 2018, and December 31, 2017, respectively

 

 

(97,792

)

 

 

(85,262

)

Accumulated deficit

 

 

(225,195

)

 

 

(219,990

)

Total stockholders’ equity

 

 

109,671

 

 

 

116,723

 

Non-controlling interest

 

 

413

 

 

 

515

 

Total stockholders' equity

 

 

110,084

 

 

 

117,238

 

 

 

 

 

 

 

 

 

 

Total liabilities and equity

 

$

166,042

 

 

$

170,730

 

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

3


Potbelly Corporation and Subsidiaries

Condensed Consolidated Statements of Operations

(amounts in thousands, except share and per share data, unaudited)

 

 

 

For the 13 Weeks Ended

 

 

For the 39 Weeks Ended

 

 

 

September 30,

 

 

September 24,

 

 

September 30,

 

 

September 24,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sandwich shop sales, net

 

$

106,238

 

 

$

105,327

 

 

$

317,866

 

 

$

313,568

 

Franchise royalties and fees

 

 

758

 

 

 

800

 

 

 

2,394

 

 

$

2,394

 

Total revenues

 

 

106,996

 

 

 

106,127

 

 

 

320,260

 

 

 

315,962

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sandwich shop operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of goods sold, excluding depreciation

 

 

28,455

 

 

 

28,405

 

 

 

83,730

 

 

 

83,703

 

Labor and related expenses

 

 

32,376

 

 

 

31,187

 

 

 

96,367

 

 

 

93,213

 

Occupancy expenses

 

 

15,076

 

 

 

14,354

 

 

 

44,787

 

 

 

42,792

 

Other operating expenses

 

 

13,357

 

 

 

12,464

 

 

 

38,650

 

 

 

36,349

 

General and administrative expenses

 

 

10,087

 

 

 

12,104

 

 

 

35,715

 

 

 

33,375

 

Depreciation expense

 

 

5,847

 

 

 

6,315

 

 

 

17,531

 

 

 

18,960

 

Pre-opening costs

 

 

109

 

 

 

336

 

 

 

245

 

 

 

955

 

Impairment and loss on disposal of property and equipment

 

 

4,386

 

 

 

1,536

 

 

 

8,467

 

 

 

5,762

 

Total expenses

 

 

109,693

 

 

 

106,701

 

 

 

325,492

 

 

 

315,109

 

Income (loss) from operations

 

 

(2,697

)

 

 

(574

)

 

 

(5,232

)

 

 

853

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

54

 

 

 

32

 

 

 

109

 

 

 

101

 

Income (loss) before income taxes

 

 

(2,751

)

 

 

(606

)

 

 

(5,341

)

 

 

752

 

Income tax expense (benefit)

 

 

(909

)

 

 

(487

)

 

 

(1,111

)

 

 

252

 

Net income (loss)

 

 

(1,842

)

 

 

(119

)

 

 

(4,230

)

 

 

500

 

Net income attributable to non-controlling interest

 

 

119

 

 

 

121

 

 

 

285

 

 

 

195

 

Net income (loss) attributable to Potbelly Corporation

 

$

(1,961

)

 

$

(240

)

 

$

(4,515

)

 

$

305

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss) per common share attributable to common

   stockholders:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

(0.08

)

 

$

(0.01

)

 

$

(0.18

)

 

$

0.01

 

Diluted

 

$

(0.08

)

 

$

(0.01

)

 

$

(0.18

)

 

$

0.01

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

25,369,281

 

 

 

24,959,023

 

 

 

25,355,174

 

 

 

25,030,951

 

Diluted

 

 

25,369,281

 

 

 

24,959,023

 

 

 

25,355,174

 

 

 

25,857,083

 

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

4


Potbelly Corporation and Subsidiaries

Condensed Consolidated Statements of Equity

(amounts in thousands, except share data, unaudited)

 

 

 

Common Stock

 

 

Treasury

 

 

 

 

 

 

Additional

Paid-In-

 

 

Accumulated

 

 

Non-

Controlling

 

 

 

 

 

 

 

Shares

 

 

Amount

 

 

Stock

 

 

Warrants

 

 

Capital

 

 

Deficit

 

 

Interest

 

 

Total Equity

 

Balance at December 25, 2016

 

 

25,139,127

 

 

$

309

 

 

$

(72,321

)

 

$

909

 

 

$

407,622

 

 

$

(213,034

)

 

$

751

 

 

$

124,236

 

Net income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

305

 

 

 

195

 

 

 

500

 

Stock-based compensation plans

 

 

168,930

 

 

 

2

 

 

 

 

 

 

 

 

 

1,179

 

 

 

 

 

 

 

 

 

1,181

 

Exercise of stock warrants

 

 

241,704

 

 

 

2

 

 

 

 

 

 

(909

)

 

 

2,879

 

 

 

 

 

 

 

 

 

1,972

 

Repurchases of common

   stock

 

 

(745,496

)

 

 

 

 

 

(8,853

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(8,853

)

Distributions to non-

   controlling interest

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(354

)

 

 

(354

)

Contributions from non-

   controlling interest

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

11

 

 

 

11

 

Amortization of

   stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

3,263

 

 

 

 

 

 

 

 

 

3,263

 

Balance at September 24, 2017

 

 

24,804,265

 

 

$

313

 

 

$

(81,174

)

 

$

 

 

$

414,943

 

 

$

(212,729

)

 

$

603

 

 

$

121,956

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at December 31, 2017

 

 

24,999,688

 

 

$

318

 

 

$

(85,262

)

 

$

 

 

$

421,657

 

 

$

(219,990

)

 

$

515

 

 

$

117,238

 

Cumulative impact of Topic

   606 at 1/1/2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(690

)

 

 

 

 

 

(690

)

Net income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(4,515

)

 

 

285

 

 

 

(4,230

)

Stock-based compensation plans

 

 

1,075,662

 

 

 

11

 

 

 

 

 

 

 

 

 

8,156

 

 

 

 

 

 

 

 

 

8,167

 

Repurchases of common

   stock

 

 

(964,240

)

 

 

 

 

 

(12,414

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(12,414

)

Contributions from non-

   controlling interest

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

20

 

 

 

20

 

Distributions to non-

   controlling interest

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(407

)

 

 

(407

)

Treasury shares used for

    stock-based plans

 

 

(8,771

)

 

 

 

 

 

(116

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(116

)

Amortization of

   stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,516

 

 

 

 

 

 

 

 

 

2,516

 

Balance at September 30, 2018

 

 

25,102,339

 

 

$

329

 

 

$

(97,792

)

 

$

 

 

$

432,329

 

 

$

(225,195

)

 

$

413

 

 

$

110,084

 

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

5


Potbelly Corporation and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(amounts in thousands, unaudited)

 

 

 

For the 39 Weeks Ended

 

 

 

September 30,

 

 

September 24,

 

 

 

2018

 

 

2017

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net income (loss)

 

$

(4,230

)

 

$

500

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation

 

 

17,531

 

 

 

18,960

 

Deferred income tax

 

 

(98

)

 

 

 

Deferred rent and landlord allowances

 

 

12

 

 

 

1,924

 

Amortization of stock compensation expense

 

 

2,516

 

 

 

3,263

 

Excess tax deficiency from stock-based compensation

 

 

651

 

 

 

292

 

Asset impairment, store closure and disposal of property and equipment

 

 

8,666

 

 

 

5,922

 

Amortization of debt issuance costs

 

 

28

 

 

 

28

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable, net

 

 

(516

)

 

 

(1,422

)

Inventories

 

 

65

 

 

 

54

 

Prepaid expenses and other assets

 

 

(2,015

)

 

 

(2,650

)

Accounts payable

 

 

(201

)

 

 

699

 

Accrued and other liabilities

 

 

244

 

 

 

798

 

Net cash provided by operating activities:

 

 

22,653

 

 

 

28,368

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Purchases of property and equipment

 

$

(16,722

)

 

$

(23,526

)

Net cash used in investing activities:

 

 

(16,722

)

 

 

(23,526

)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from exercise of stock options

 

$

8,167

 

 

$

1,181

 

Proceeds from exercise of stock warrants

 

 

 

 

 

1,972

 

Employee taxes on certain stock-based payment arrangements

 

 

(116

)

 

 

 

Treasury stock repurchases

 

 

(12,414

)

 

 

(8,853

)

Contributions from non-controlling interest

 

 

20

 

 

 

11

 

Distributions to non-controlling interest

 

 

(407

)

 

 

(354

)

Net cash used in financing activities:

 

 

(4,750

)

 

 

(6,043

)

 

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

 

1,181

 

 

 

(1,201

)

Cash and cash equivalents at beginning of period

 

 

25,530

 

 

 

23,379

 

Cash and cash equivalents at end of period

 

$

26,711

 

 

$

22,178

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

 

 

 

 

Income taxes paid

 

$

249

 

 

$

3,346

 

Interest paid

 

 

85

 

 

 

73

 

Supplemental non-cash investing and financing activities:

 

 

 

 

 

 

 

 

Unpaid liability for purchases of property and equipment

 

$

1,178

 

 

$

2,752

 

 

See accompanying notes to the unaudited condensed consolidated financial statements

 

 

6


 

Potbelly Corporation and Subsidiaries

Notes to Unaudited Condensed Consolidated Financial Statements (unaudited)

 

(1) Organization and Other Matters

Business

Potbelly Corporation (the “Company” or “Potbelly”), through its wholly owned subsidiaries, owns or operates more than 400 company-owned shops in the United States. Additionally, Potbelly franchisees operate more than 50 shops domestically, in the Middle East, Canada and India.

Basis of Presentation

The unaudited condensed consolidated financial statements and notes herein should be read in conjunction with the audited consolidated financial statements of Potbelly Corporation and its subsidiaries and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017. The unaudited condensed consolidated financial statements included herein have been prepared by the Company without audit, pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (the “SEC”) regarding interim financial reporting. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) have been condensed or omitted pursuant to the SEC rules and regulations. In the opinion of management, all adjustments, which are of a normal and recurring nature (except as otherwise noted), that are necessary to present fairly the Company’s financial position as of September 30, 2018 and December 31, 2017, its statement of operations for the 13 and 39 weeks ended September 30, 2018 and September 24, 2017 and its statement of cash flows for the 39 weeks ended September 30, 2018 and September 24, 2017 have been included. The consolidated statements of operations for the interim periods presented herein are not necessarily indicative of the results to be expected for the full year.

The Company does not have any components of other comprehensive income recorded within its consolidated financial statements and therefore, does not separately present a statement of comprehensive income in its condensed consolidated financial statements.

Principles of Consolidation

The unaudited condensed consolidated financial statements include the accounts of Potbelly Corporation; its wholly owned subsidiary, Potbelly Illinois, Inc. (“PII”); PII’s wholly owned subsidiaries, Potbelly Franchising, LLC and Potbelly Sandwich Works, LLC (“LLC”); seven of LLC’s wholly owned subsidiaries and LLC’s seven joint ventures, collectively, the “Company.” All intercompany balances and transactions have been eliminated in consolidation. For consolidated joint ventures, non-controlling interest represents a non-controlling partner’s share of the assets, liabilities and operations related to the seven joint venture investments. The Company has ownership interests ranging from 51-80% in these consolidated joint ventures.

Fiscal Year

The Company uses a 52/53-week fiscal year that ends on the last Sunday of the calendar period. Approximately every five or six years a 53rd week is added. Fiscal year 2018 consists of 52 weeks and 2017 consisted of 53 weeks. The fiscal quarters ended September 30, 2018 and September 24, 2017 each consisted of 13 weeks.

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Significant estimates include amounts for long-lived assets and income taxes. Actual results could differ from those estimates.

 

7


 

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers.” The pronouncement was issued to clarify the principles for recognizing revenue and to develop a common revenue standard and disclosure requirements for U.S. GAAP and International Financial Reporting Standards (IFRS). In addition, the FASB issued ASU 2016-08, ASU 2016-10 and ASU 2016-12 in March 2016, April 2016 and May 2016, respectively, to help provide interpretive clarifications on the new guidance in Accounting Standards Codification (ASC) Topic 606. Potbelly adopted the standard effective January 1, 2018 using the modified retrospective method applied to contracts that were not completed as of the date of adoption. The adoption does not have a material impact on sandwich shop sales, but impacted the recognition of franchise revenue and gift card breakage. Potbelly licenses intellectual property and trademarks to franchisees through franchise arrangements. As part of these agreements, Potbelly receives an initial franchise fee payment, which historically was recognized as revenue when the shop opened. Under the new guidance, these franchise fees are considered highly dependent upon and interrelated with the franchise right granted in the franchise agreement. As such, these franchise fees are recognized over the contractual term of the franchise agreement. Effective for the annual period beginning January 1, 2018, initial franchise fees are recognized as revenue over the contractual term. Potbelly sells gift cards to customers and records the sale as a liability. The liability is released once the card is redeemed. Historically, a portion of these gift card sales were not redeemed by the customer (“breakage”) and Potbelly would recognize breakage two years after the period of sale. Effective for the annual period beginning January 1, 2018, expected breakage is recognized as customers redeem the gift cards. Upon adoption of the standard, Potbelly’s accumulated deficit increased by $0.7 million (net of tax). The franchise revenue adjustment impacted accrued expenses, other long-term liabilities and deferred income taxes. The breakage adjustment impacted accrued expenses and deferred income taxes. For the 13 weeks ended September 30, 2018, revenue recognized was $0.1 million higher than it would have been under the previous methodology, and for the 39 weeks ended September 30, 2018, revenue recognized was $0.3 million higher than it would have been under the previous methodology.

In February 2016, the FASB issued ASU No. 2016-02, “Leases,” which will replace the existing guidance in ASC 840, “Leases.” The pronouncement requires a dual approach for lessee accounting under which a lessee would account for leases as finance leases or operating leases. Both finance leases and operating leases will result in the lessee recognizing a right-of-use asset and a corresponding lease liability. For finance leases, the lessee would recognize interest expense and amortization of the right-of-use asset, while for operating leases, the lessee would recognize a straight-line total lease expense. The pronouncement is effective for fiscal years beginning after December 15, 2018, including annual and interim periods thereafter. In July 2018, the FASB issued Accounting Standards Update No. 2018-11 “Leases (Topic 842):  Targeted Improvements” (“ASU 2018-11”), which permits companies to initially apply the new leases standard at the date of adoption and not restate periods prior to adoption. The Company plans to adopt ASU 2018-11. The Company is currently evaluating the impact of ASU 2016-02 and anticipates it will be able to complete its analysis of all potential impacts of the standard, implement any system and process changes that might be necessary and educate the appropriate employees with respect to the new standard in order to effectively adopt the standard beginning in the first quarter of 2019.

(2) Revenue

Potbelly primarily earns revenue at a point in time through sales at our sandwich shop locations and records such revenue net of sales-related taxes collected from customers. The payment on these sales is due at the time of the customer’s purchase. The Company also receives royalties from franchisees on their respective sales, which are recognized at the point in time the sale is made and invoiced weekly. Potbelly also records revenue from sales over time related to upfront franchise fees, gift card redemptions and breakage. For the 39 weeks ended September 30, 2018, revenue recognized from all revenue sources on point in time sales was $319.8 million, and revenue recognized from sales over time was $0.5 million.

Franchise Revenue

Potbelly licenses intellectual property and trademarks to franchisees through franchise agreements. As part of these franchise agreements, Potbelly receives an upfront payment from the franchisee, which the Company recognizes over the term of the franchise agreement. The Company records a contract liability for the unearned portion of the upfront franchise payments.

Gift Card Redemptions / Breakage Revenue

Potbelly sells gift cards to customers, records the sale as a contract liability and recognizes the associated revenue as the gift card is redeemed. A portion of these gift cards are not redeemed by the customer, which is recognized by the Company as revenue as a percentage of customers gift card redemptions. The expected breakage amount recognized is determined by a historical data analysis on gift card redemption patterns.

8


 

Contract Liabilities

As described above, the Company records current and noncurrent contract liabilities for upfront franchise fees as well as gift cards. There are no other contract liabilities or contract assets recorded by the Company. The opening and closing balances of the Company’s current and noncurrent contract liabilities from contracts with customers were as follows:

 

 

 

Current Contract

Liability

 

 

Noncurrent Contract

Liability

 

 

 

(Thousands)

 

 

(Thousands)

 

Beginning balance as of January 1, 2018

 

$

(2,325

)

 

$

(2,144

)

Ending balance as of September 30, 2018

 

 

(1,375

)

 

 

(1,809

)

Decrease in contract liability

 

$

(950

)

 

$

(335

)

 

The aggregate value of remaining performance obligations on outstanding contracts was $3.2 million as of September 30, 2018. The decrease in the liability during the 39 weeks ended September 30, 2018 was a result of gift card redemptions offset by purchases of new gift cards and recognition of franchise fees. The Company expects to recognize revenue related to contract liabilities as follows (in thousands), which may vary based upon franchise activity as well as gift card redemption patterns:

 

Years Ending

 

Amount

 

2018

 

$

692

 

2019

 

 

752

 

2020

 

 

212

 

2021

 

 

206

 

2022

 

 

199

 

Thereafter

 

 

1,123

 

Total revenue recognized

 

$

3,184

 

 

For the 13 and 39 weeks ended September 30, 2018, the amount of revenue recognized related to the January 1, 2018 liability ending balance was $0.3 million and $1.8 million, respectively. This revenue related to the recognition of gift card redemptions and upfront franchise fees. For the 39 weeks ended September 30, 2018, the Company did not recognize any revenue from obligations satisfied (or partially satisfied) in prior periods.

(3) Fair Value Measurement

The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and all other current liabilities approximate fair values due to the short maturities of these balances.

The Company assesses potential impairments to its long-lived assets, which includes property and equipment, on a quarterly basis or whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. Shop-level assets are grouped at the individual shop-level for the purpose of the impairment assessment. Recoverability of an asset is measured by a comparison of the carrying amount of an asset to its estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of the asset group exceeds its estimated undiscounted future cash flows, an impairment charge is recognized as the amount by which the carrying amount of the asset exceeds the fair value of the asset. The fair value of the shop assets was determined using the discounted future cash flow method of anticipated cash flows through the shop’s lease-end date using fair value measurement inputs classified as Level 3. Level 3 inputs are derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. After performing a periodic review of the Company’s shops during the 13 weeks and 39 weeks ended September 30, 2018, it was determined that indicators of impairment were present for certain shops as a result of continued underperformance. The Company performed an impairment analysis related to these shops and recorded an impairment charge of $4.4 million and $8.5 million for the 13 and 39 weeks ended September 30, 2018, respectively. The Company recorded an impairment charge of $1.5 million and $5.8 million for the 13 and 39 weeks ended September 24, 2017, respectively. Included within the impairment charge for the 13 and 39 weeks ended September 24, 2017, impairment charges of $0.7 million were recorded in relation to Hurricane Harvey, with insurance recoveries of $0.7 million also recorded within the same caption.

9


 

(4) Earnings (Loss) Per Share

Basic and diluted income per common share attributable to common stockholders were calculated using the weighted average number of common shares outstanding for the period. Diluted income per common share attributable to common stockholders is computed by dividing the income allocated to common stockholders by the weighted average number of fully diluted common shares outstanding. In periods of a net loss, no potential common shares are included in diluted shares outstanding as the effect is anti-dilutive. For the 13 and 39 weeks ended September 30, 2018, the Company had a loss per share, and therefore shares were excluded for potential stock option exercises.

The following table summarizes the earnings (loss) per share calculation:

 

 

 

For the 13 Weeks Ended

 

 

For the 39 Weeks Ended

 

 

 

September 30,

 

 

September 24,

 

 

September 30,

 

 

September 24,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Net income (loss) attributable to Potbelly Corporation

 

$

(1,961

)

 

$

(240

)

 

$

(4,515

)

 

$

305

 

Weighted average common shares outstanding-basic

 

 

25,369,281

 

 

 

24,959,023

 

 

 

25,355,174

 

 

 

25,030,951

 

Plus: Effect of potential stock options exercise

 

 

 

 

 

 

 

 

 

 

 

770,965

 

Plus: Effect of potential warrant exercise

 

 

 

 

 

 

 

 

 

 

 

55,167

 

Weighted average common shares outstanding-diluted

 

 

25,369,281

 

 

 

24,959,023

 

 

 

25,355,174

 

 

 

25,857,083

 

Income (loss) per share available to common stockholders-basic

 

$

(0.08

)

 

$

(0.01

)

 

$

(0.18

)

 

$

0.01

 

Income (loss) per share available to common stockholders-diluted

 

$

(0.08

)

 

$

(0.01

)

 

$

(0.18

)

 

$

0.01

 

Potentially dilutive shares that are considered anti-dilutive:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common share options

 

 

2,050,503

 

 

 

4,012,073

 

 

 

2,569,808

 

 

 

1,151,317

 

 

(5) Income Taxes

In accordance with ASC 740, each interim period is considered an integral part of the annual period and tax expense or benefit is measured using an estimated annual effective tax rate.  An enterprise is required, at the end of each interim reporting period, to make its best estimate of the annual effective tax rate for the full fiscal year and use that rate to provide for income taxes on a current year-to-date basis.  However, when a reliable estimate of the annual effective tax rate cannot be made, the actual effective tax rate for the year-to-date period may be the best estimate of the annual effective tax rate. For the 13 and 39 weeks ended September 30, 2018, the actual year-to-date effective tax rate was used to compute the income tax benefit as a reliable estimate of the annual estimated tax rate cannot be made as nominal changes in projected income or loss result in a significant variance in our estimated effective tax rate. The effective tax rate differed from the federal statutory rate primarily due to the impact of ASU 2016-09, state income taxes, federal and state tax credits and certain discrete items.

 

On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (the “Tax Act”) was enacted into law making significant changes to the U.S. tax code, including: (1) reducing the U.S. federal corporate tax rate from 35 percent to 21 percent; (2) implementing bonus depreciation that will allow for full expensing of qualified property; (3) implementing limitations on the deductibility of certain executive compensation; and (4) changing rules related to uses and limitations of net operating loss carryforwards created in tax years beginning after December 31, 2017.

 

On that same date, the SEC staff also issued Staff Accounting Bulletin (SAB) 118, which provides guidance on accounting for the tax effects of the Tax Act. SAB 118 provides a measurement period that should not extend beyond one year from the Tax Act enactment date for companies to complete the accounting under ASC 740. A company must reflect the income tax effects of those aspects of the Tax Act for which accounting under ASC 740 is complete. To the extent that a company’s accounting for certain income tax effects of the Tax Act is incomplete, but it is able to determine a reasonable estimate, it must record a provisional estimate in the financial statements.

 

At September 30, 2018, the Company has not completed the accounting for the tax effects of enactment of the Tax Act; however, the Company made a reasonable estimate of the effects and booked a provisional tax expense adjustment in the fiscal year 2017, the period in which the legislation was enacted. During the 13 and 39 weeks ended September 30, 2018, there have been no adjustments made to the provisional amounts previously recorded related to the enactment of the Tax Act.

10


 

(6) Capital Stock

On May 8, 2018, the Company announced that its Board of Directors authorized a stock repurchase program for up to $65.0 million of its outstanding common stock, replacing the Company’s previous $30.0 million share repurchase program. The current program permits the Company, from time to time, to purchase shares in the open market (including in pre-arranged stock trading plans in accordance with the guidelines specified in Rule 10b5-1 under the Securities Exchange Act of 1934, as amended) or in privately negotiated transactions.  The number of common shares actually repurchased, and the timing and price of repurchases, will depend upon market conditions, Securities and Exchange Commission requirements and other factors. Purchases may be started or stopped at any time without prior notice depending on market conditions and other factors.  For the 39 weeks ended September 30, 2018, the Company repurchased 959,240 shares of its common stock for approximately $12.3 million under the new stock repurchase program and had repurchased 5,000 shares of its common stock for approximately $0.1 million under the previous share repurchase program, including cost and commission, in open market transactions.  Repurchased shares are included as treasury stock in the condensed consolidated balance sheets and the condensed consolidated statements of equity.

On June 14, 2018, the Company registered 1,000,000 additional shares of its common stock, par value $0.01, reserved for issuance under the Amended and Restated 2013 Long-Term Incentive Plan. As a result, the total number of shares registered under the 2013 Long-Term Incentive Plan is 3,500,000.

(7) Stock-Based Compensation

Stock options are awarded under the 2013 Long-Term Incentive Plan to eligible employees and certain non-employee members of the Board of Directors. On June 14, 2018, the Company registered an additional 1,000,000 shares of its common stock reserved for issuance under the 2013 Long-Term Incentive Plan and brings the total number of shares registered under the plan to 3,500,000. The fair value of stock options is determined using the Black-Scholes option pricing model. The weighted average fair value of options granted during the 39 weeks ended September 30, 2018 was $5.24 per share, as estimated using the following weighted average assumptions: expected life of options – 6.25 years; volatility – 35.39%; risk-free interest rate – 2.85%; and dividend yield – 0.00%. The Company used the simplified method for determining the expected life of the options. The expected volatility of the options was calculated using the Company’s historical data.

 

A summary of activity for the 39 weeks ended September 30, 2018 is as follows:

 

Options

 

Shares

(Thousands)

 

 

Weighted

Average

Exercise

Price

 

 

Aggregate

Intrinsic

Value

(Thousands)

 

 

Weighted

Average

Remaining

Term

(Years)

 

Outstanding—December 31, 2017

 

 

3,309

 

 

$

10.71

 

 

$

7,699

 

 

 

4.90

 

Granted

 

 

102

 

 

 

13.05

 

 

 

 

 

 

 

 

 

Exercised

 

 

(984

)

 

 

8.30

 

 

 

 

 

 

 

 

 

Canceled

 

 

(347

)

 

 

13.61

 

 

 

 

 

 

 

 

 

Outstanding—September 30, 2018

 

 

2,080

 

 

$

11.60

 

 

$

3,615

 

 

 

5.60

 

Exercisable—September 30, 2018

 

 

1,573