Form: 10-K405

Annual report [Sections 13 and 15(d), S-K Item 405]

March 27, 2002

 

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-K

(Mark One)

ý                                 Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the fiscal year ended December 30, 2001

OR

o                                 Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission File Number:  0–21660

 

PAPA JOHN’S INTERNATIONAL, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

61-1203323

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification Number)

 

 

 

2002 Papa John’s Boulevard

Louisville, Kentucky  40299-2334

(Address of principal executive offices)

 

 

 

(502) 261–7272

(Registrant’s telephone number, including area code)

 

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

 

 

(Name of each exchange

(Title of Each Class)

 

on which registered)

None

 

None

 

 

 

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

Common Stock, $.01 par value

 

The NASDAQ Stock Market

 

          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   ý                                            No   o

 

          Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S–K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10–K or any amendment to this Form 10–K.  ý

 

          As of March 15, 2002 there were 20,900,240 shares of the Registrant’s Common Stock outstanding.  The aggregate market value of the shares of Registrant’s Common Stock held by non-affiliates of the Registrant at such date was $359,922,797 based on the last sale price of the Common Stock on March 15, 2002 as reported by The NASDAQ Stock Market.  For purposes of the foregoing calculation only, all directors and executive officers of the Registrant have been deemed affiliates.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of Part III are incorporated by reference to the Registrant’s Proxy Statement for the Annual Meeting of Stockholders to be held May 16, 2002.


TABLE OF CONTENTS

 

 

 

PART I

 

 

 

Item 1.

Business

 

Item 2.

Properties

 

Item 3.

Legal Proceedings

 

Item 4.

Submission of Matters to a Vote of Security Holders

 

 

PART II

 

 

Item 5.

Market for Registrant’s Common Equity

 

 

and Related Stockholder Matters

 

Item 6.

Selected Financial Data

 

Item 7.

Management’s Discussion and Analysis of

 

 

Financial Condition and Results of Operations

 

Item 7A.

Quantitative and Qualitative Disclosures about Market Risk

 

Item 8.

Financial Statements and Supplementary Data

 

Item 9.

Changes in and Disagreements with Accountants

 

on Accounting and Financial Disclosure

 

 

PART III

 

 

Item 10.

Directors and Officers of the Registrant

 

Item 11.

Executive Compensation

 

Item 12.

Security Ownership of Certain Beneficial Owners

 

 

and Management

 

Item 13.

Certain Relationships and Related Transactions

 

 

PART IV

 

 

Item 14.

Exhibits, Financial Statement Schedules and

 

 

Reports on Form 8–K

 

 



PART I

 

Item 1.  Business

 

General

 

Papa John’s International, Inc. (referred to as the “Company”, “Papa John’s” or in the first person notations of “we”, “us” and “our”) operates and franchises pizza delivery and carry-out restaurants under the trademark “Papa John’s” domestically in 47 states, the District of Columbia and nine international markets, and under the trademark “Perfect Pizza” in the United Kingdom. The first Company-owned Papa John’s restaurant opened in 1985 and the first franchised restaurant opened in 1986. We acquired Perfect Pizza Holdings Limited (referred to as “Perfect Pizza” and “Papa John’s UK”) in 1999 as part of our plan to develop restaurants internationally (see Business - Expansion). At December 30, 2001, there were 2,729 Papa John’s restaurants in operation, consisting of 611 Company-owned and 2,118 franchised restaurants. Additionally, there were 193 Perfect Pizza restaurants in operation, consisting of three Company-owned and 190 franchised restaurants.

 

Strategy

 

Our goal is to build the strongest brand loyalty of all pizzerias internationally. To accomplish this goal, we have developed a strategy designed to achieve high levels of customer satisfaction and repeat business, as well as to establish recognition and acceptance of the Papa John’s brand.  The key elements of our strategy include:

 

Focused Menu.  Papa John’s restaurants offer a focused menu of high-quality pizza, breadsticks and cheesesticks.  Papa John’s traditional crust pizza is prepared using fresh dough (never frozen), cheese made from 100% real mozzarella, fresh-packed pizza sauce made from vine-ripened tomatoes (not from concentrate) and a proprietary mix of savory spices, and a choice of high-quality meat and vegetable toppings. Papa John’s thin crust pizza is made with a par-baked crust and the same high-quality toppings. We believe our focused menu creates a strong identity in the marketplace, while also simplifying operations at our restaurants.

 

Efficient Operating System. We believe our operating and distribution systems, restaurant layout and designated delivery areas result in lower restaurant operating costs and improved food quality, and promote superior customer service. Our Quality Control Center (“QC Centers”) system takes advantage of volume purchasing of food and supplies, and provides consistency and efficiencies of scale in dough production.  This eliminates the need for each restaurant to order food from multiple vendors and commit substantial labor and other resources to dough preparation.  Because Papa John’s restaurants have a focused menu and specialize in delivery and carry-out services, each team member can concentrate on a well-defined function in preparing and delivering the customer’s order.

 

Commitment to Team Member Training and Development.  We are committed to the development and motivation of our team members through training programs, incentive compensation and opportunities for advancement.  Team member training programs are conducted for corporate team members, and offered to our franchisees at training centers across the United States. We offer performance-based financial incentives to restaurant team members at various levels. Our growth also provides significant opportunities for advancement. We believe these factors create an entrepreneurial spirit throughout Papa John’s, resulting in a positive work environment and motivated, customer-oriented team members.

 

Marketing.  Our restaurant-level marketing programs target the delivery area of each restaurant, making extensive use of targeted print materials in direct mail and store-to-door couponing. Local marketing

 

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efforts also include a variety of community-oriented activities with schools, sports teams and other organizations. In markets where Papa John’s has a significant presence, local marketing efforts are supplemented with radio and television advertising.  Four national television campaigns aired in 2001.


Franchise System. We are committed to developing a strong franchise system by attracting experienced operators, allowing them to expand in a controlled manner and monitoring their compliance with our high standards. We seek to attract franchisees with experience in multi-unit restaurant operations and with the financial resources and management capability to open multiple locations.  To ensure consistent food quality, each domestic franchisee is required to purchase dough and spice mix from our QC Centers and purchase all other supplies from our QC Centers or approved suppliers. QC Centers outside the U.S. may be operated by franchisees pursuant to license agreements. We devote significant resources to provide Papa John’s franchisees with assistance in restaurant operations, management training and team member training, marketing, site selection and restaurant design.

 

 Unit Economics

 

We believe our unit economics are exceptional.  In 2001, the 573 domestic Company-owned restaurants included in the most recent quarter’s comparable restaurant base generated average annual sales, based on a 52-week year, of $739,000, average cash flow (operating income plus depreciation) of $142,000 and average restaurant operating income of $113,000 (or 15.3% of average sales).

 

The average cash investment for the 20 domestic Company-owned restaurants opened during the 2001 fiscal year, exclusive of land, was approximately $273,000. We expect the average cash investment for the 10 to 15 Company-owned restaurants expected to open in 2002 to be approximately $275,000.

 

Expansion

 

A total of 207 Papa John’s restaurants were opened during 2001, consisting of 20 Company-owned and 187 franchised restaurants, while 97 Papa John’s restaurants closed during 2001, consisting of 17 Company-owned and 80 franchised. During 1999, we acquired Perfect Pizza, an operator and franchisor of 206 delivery and carry-out pizza restaurants in the United Kingdom (see “Note 3” of “Notes to Consolidated Financial Statements”). During 2001, three Perfect Pizza restaurants were opened (one corporate and two franchised), eight franchised restaurants were closed, and we converted seven franchised-owned Perfect Pizza restaurants to Papa John’s units. The conversion of Perfect Pizza restaurants to Papa John’s will continue during the next three to four years.

 

During 2002, we plan to open approximately 10 to 15 Company-owned restaurants domestically and expect franchisees to open approximately 140 to 185 restaurants (95 to 130 domestically and 45 to 55 internationally). We also expect approximately 50 to 100 restaurants, primarily franchised, to close during 2002.  Domestic unit expansion is expected to spread throughout markets across the United States.  International expansion in 2002 is planned primarily in Central and South America, Europe, the Middle East and the United Kingdom. The Company also plans to pursue franchisees throughout the Asia/Pacific Rim region.

 

The ability of the Papa John’s system to open new restaurants is affected by a number of factors, many of which are beyond our control and the control of our franchisees.  These factors include, among other things, selection and availability of suitable restaurant and QC Center sites, increases in food, paper or labor costs, negotiation of suitable lease or financing terms, constraints on permitting and construction of restaurants, cost of equipment, increased cost of utilities and insurance, and the hiring, training and retention of management and other personnel.  International development is impacted by additional

 

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factors, including economic and political environments, the ability to source food and other products economically, and currency regulations and fluctuations. Accordingly, there can be no assurance that the Papa John’s system will be able to meet planned growth targets or open restaurants in markets now targeted for expansion.

 

Our Company-owned expansion strategy is to cluster restaurants in targeted markets, thereby increasing consumer awareness and enabling us to take advantage of operational, distribution and advertising efficiencies. Our experience in developing markets indicates that market penetration through the opening of multiple restaurants within a particular market results in increased average restaurant sales in that market. We have co-developed markets with some franchisees or divided markets among franchisees, and will continue to utilize market co-development in the future.  In determining which new markets to develop, we consider many factors, including the size of the market, demographics and population trends, competition, and availability and costs of real estate. Before entering a new market, we analyze detailed information concerning these factors and each market is toured and evaluated by a member of our development team.

 

Menu

 

Papa John’s restaurants offer a focused menu of high-quality pizza, breadsticks and cheesesticks, as well as canned or bottled soft drinks.  Papa John’s traditional crust pizza is prepared using fresh dough (never frozen), and our thin crust pizza is made with a prepared crust.  Papa John’s pizzas are made from spring wheat flour, cheese made from 100% real mozzarella, fresh-packed pizza sauce made with vine-ripened tomatoes (not from concentrate) and a proprietary mix of savory spices, and a choice of high-quality meat and vegetable toppings.  Fresh onions, green peppers and baby portabella mushrooms can be purchased from the QC Center system, which delivers twice weekly. Each traditional crust pizza is served with a container of our special garlic sauce and two pepperoncinis, and each thin crust pizza is served with a container of special seasonings and two pepperoncinis. We believe our focused menu helps create a strong identity among consumers and simplifies operations, resulting in lower restaurant operating costs, improved food quality and consistency and superior customer service.  Additionally, we may from time to time test product variations or new products. Ice cream and chicken wings are two such products tested in various markets during 2001.

 

Restaurant Design and Site Selection

 

Backlit awnings, neon window designs and other visible signage characterize the exterior of most Papa John’s restaurants.  A typical domestic Papa John’s restaurant averages 1,100 to 1,600 square feet and a typical international Papa John’s restaurant averages 900 to 1,400 square feet. Papa John’s restaurants are designed to facilitate a smooth flow of food orders through the restaurant.  The layout includes specific areas for order taking, pizza preparation and routing, resulting in simplified operations, lower training and labor costs, increased efficiency and improved consistency and quality of food products.  The typical interior of a Papa John’s restaurant has a vibrant red and white color scheme with green striping, and includes a bright menu board, custom counters and a carry-out customer area.  The counters are designed to allow customers to watch the team members slap out the dough and put sauce and toppings on pizzas.

 

We consider the location of a restaurant to be important and therefore devote significant resources to the investigation and evaluation of potential sites. The site selection process includes a review of trade area demographics, target population density, household income levels and competitive factors.  A member of our development team inspects each potential domestic Company-owned or franchised restaurant location and the surrounding market before a site is approved. Our restaurants are typically located in strip shopping centers or freestanding buildings that provide visibility, curb appeal and accessibility. Our

 

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restaurant design may be configured to fit a wide variety of building shapes and sizes, which increases the number of suitable locations for our restaurants.

 

During the past several years, an increasing number of freestanding restaurants have been opened in the Papa John’s system. We seek either existing buildings suitable for conversion, or locations suitable for the construction of our prototype restaurant.  Freestanding buildings generally provide more signage and better visibility, accessibility and parking.  We believe that these locations improve Papa John’s image and brand awareness. At year-end, freestanding units represented approximately 23% of domestic Company-owned restaurants. We expect this ratio to remain fairly constant in future years. We also own 11 multi-bay units (where we lease excess space to third party tenants); we do not expect to significantly increase the number of these units.

 

All of the equipment, fixtures and smallwares needed to open a Papa John’s restaurant are available for purchase through us. We also provide layout and design services and recommendations for subcontractors, signage installers and telephone systems to Papa John’s franchisees.  Although not required to do so, substantially all Papa John’s franchisees purchase most of their equipment from us.

 

Quality Control Centers; Strategic Supply Chain Management

 

Our domestic QC Centers, comprised of eleven regional production and distribution centers, supply pizza dough, food products, paper products, smallwares and cleaning supplies twice weekly to each restaurant. This system enables us to monitor and control product quality and consistency, while lowering food costs. Our full-service QC Centers are located in Louisville, Kentucky; Dallas, Texas; Pittsburgh, Pennsylvania; Orlando, Florida; Raleigh, North Carolina; Jackson, Mississippi; Denver, Colorado; Rotterdam, New York; Portland, Oregon, Des Moines, Iowa; and Phoenix, Arizona. The QC Center system capacity is continually evaluated in relation to planned restaurant growth, and facilities are developed or upgraded as operational or economic conditions warrant.

 

We owned a full-service international QC Center in Cambridge, Canada that closed in the fourth quarter of 2001 due to franchise restaurant closings and a reduced development outlook in its service area. Our subsidiary, Papa John’s UK, owns a distribution center in the United Kingdom that will be converted to a full-service commissary during late 2002. The primary difference between a full-service QC Center and a distribution center is that full-service QC Centers produce fresh pizza dough in addition to providing other food and paper products used in our restaurants. International full-service QC Centers, licensed to franchisees, are located in Canada, Mexico, Honduras, Saudi Arabia, Alaska, Puerto Rico, Costa Rica, Venezuela, and Guatemala. We expect future international QC Centers to be licensed to franchisees; however, we may open Company-owned QC Centers at our discretion. We also have the right to acquire licensed QC Centers from our international licensees in certain circumstances.

 

We set quality standards for all products used in our restaurants and designate approved outside suppliers of food and paper products that meet our quality standards.  In order to ensure product quality and consistency, all of our restaurants are required to purchase proprietary spice mix and dough from our QC Centers. Franchisees may purchase other goods directly from our QC Centers or approved suppliers. National purchasing agreements with most of our suppliers generally result in volume discounts to us, allowing us to sell products to our restaurants at prices that we believe are below those generally available in the marketplace. Within our domestic QC Center system, products are distributed to restaurants by refrigerated trucks leased and operated by us or transported by a dedicated logistics company.

 

PJ Food Service, our wholly-owned subsidiary that operates our domestic Company-owned QC Centers, has a purchasing arrangement with a third-party entity formed at the direction of the Franchise Advisory

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Council (see Franchise Program — Franchise Advisory Council) for the sole purpose of reducing cheese price volatility.  Under this arrangement, PJ Food Service purchases cheese at a fixed quarterly price based in part on historical average cheese prices.  Gains and losses incurred by the selling entity are passed to the commissary via adjustments to the selling price over time.  Ultimately PJ Food Service purchases cheese at a price approximating the actual average market price, but with more predictability and less volatility than the previous purchasing method. See “Note 11” of “Notes to Consolidated Financial Statements” for additional information.

 

Marketing Programs

 

All Company-owned and franchised Papa John’s restaurants within a developed market are required to join an advertising cooperative (“Co-op”).  Each member restaurant contributes a percentage of sales to the Co-op for market-wide programs, such as radio, television and print advertising.  The rate of contribution and uses of the monies collected are determined by a majority vote of the Co-op’s members.  The restaurant-level and Co-op marketing efforts are supported by print and electronic advertising materials that are produced by the Papa John’s Marketing Fund, Inc., a non-profit corporation (the “Marketing Fund”).  The Marketing Fund produces and buys air time for Papa John’s national television commercials, in addition to other brand-building activities, such as consumer research. All domestic Company-owned and franchised Papa John’s restaurants are required to contribute a percentage of sales to the Marketing Fund. The contribution percentage was 1.25% throughout 2001 and is expected to be the same rate throughout 2002.

 

Restaurant-level marketing programs target the delivery area of each restaurant, making extensive use of targeted print materials in direct mail and store-to-door couponing.  The local marketing efforts also include a variety of community-oriented activities with schools, sports teams and other organizations.  In markets in which Papa John’s has a significant presence, local marketing efforts are supplemented with radio and television advertising.

 

We provide both Company-owned and franchised restaurants with catalogs for the purchase of uniforms and promotional items and pre-approved print marketing materials. We also provide direct marketing services to Company-owned and franchised restaurants using customer information gathered by our proprietary point-of-sale technology (see Company Operations — Point of Sale Technology).

 

We have developed a system by which all domestic customers are able to place orders on-line via the internet. We receive a fee, based on on-line sales, from domestic franchisees for this service.

 

Company Operations

 

Restaurant Personnel.  A typical Papa John’s restaurant employs a restaurant manager, one or two assistant managers and approximately 20 to 25 hourly team members, most of whom work part-time. The manager is responsible for the day-to-day operation of the restaurant and maintaining Company-established operating standards.  The operating standards and other resources are contained in a comprehensive operations manual supplied to each restaurant and updated regularly. We seek to hire experienced restaurant managers and staff, provide comprehensive training on operations and managerial skills, and motivate and retain them by providing opportunities for advancement and performance-based financial incentives.

 

We employ area supervisors, each of whom has responsibility for overseeing three to six Company-owned restaurants. We also employ operations vice presidents and district managers who oversee area supervisors and managers within their respective markets. These team members are eligible to earn performance-based financial incentives.

 

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Training and Education. We have a department dedicated to training and developing team members, as well as assisting with new restaurant openings. We have full-time training coordinators for our markets and regional training directors located strategically across the country. We provide an on-site training team three days before and three days after the opening of any Company-owned or franchised restaurant requesting assistance.  Each operations vice president, district manager, area supervisor and restaurant manager completes our management training program and on-going development programs in which instruction is given on all aspects of our systems and operations.  The programs include classroom instruction and hands-on training at an operating Papa John’s restaurant or at Company-certified training centers. Our training includes new team member orientation, in-store and delivery training, core management skills training, new product or program implementation and ongoing developmental programs.

 

Point of Sale Technology.  Point of sale technology (our proprietary PROFIT SystemTM) is in place in substantially all Company-owned and franchised restaurants. We believe this technology facilitates faster and more accurate ordertaking and pricing, reduces paperwork and allows the restaurant manager to better monitor and control food and labor costs. We believe the PROFIT System enhances restaurant-level marketing capabilities through the development of a database containing information on customers and their buying habits with respect to our products.  Polling capabilities allow us to obtain restaurant-operating information, thereby improving the speed, accuracy and efficiency of restaurant-level reporting.

 

Reporting.  Managers at Company-owned restaurants evaluate daily reports of sales, cash deposits and operating costs.  Physical inventories of all food and beverage items are taken nightly. Our area supervisors prepare weekly operating projections for each of the restaurants under their supervision.

 

Hours of Operations.  Our domestic restaurants are open seven days a week, typically from 11:00 a.m. to 12:30 a.m. Monday through Thursday, 11:00 a.m. to 1:30 a.m. on Friday and Saturday and 12:00 noon to 11:30 p.m. on Sunday.

 

Franchise Program

 

General. We continue to attract many franchisees with significant restaurant experience. We consider our franchisees to be a vital part of our system’s continued growth and believe our relationship with our franchisees is excellent.  As of December 30, 2001, there were 2,118 franchised Papa John’s restaurants operating in 47 states, the District of Columbia, and nine international markets, and 190 franchised Perfect Pizza restaurants operating in the United Kingdom. We have development agreements with our domestic franchisees for approximately 312 additional franchised restaurants committed to open through 2006 and agreements for 320 additional international franchised restaurants to open through 2006. There can be no assurance that all of these restaurants will be opened or that the development schedule set forth in the development agreements will be achieved. Formal development agreements for franchised Perfect Pizza restaurants do not exist and we do not plan to open any new Perfect Pizza units. Our plan is to attract new franchisees, as well to work with existing franchisees, to open new Papa John’s restaurants in the United Kingdom.  During the 2001 fiscal year, 187 (139 domestic and 48 international) franchised Papa John’s restaurants were opened, and two Perfect Pizza franchised restaurants were opened.

 

Approval.  Franchisees are approved on the basis of the applicant’s business background, restaurant operating experience and financial resources. We generally seek franchisees that will enter into development agreements for multiple restaurants.  We seek franchisees that have restaurant experience or, in the case of franchisees that do not have restaurant experience, we require the franchisee to hire a

 

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full-time operator who has either an equity interest or the right to acquire an equity interest in the franchise operation.

 

Development and Franchise Agreements. We enter into development agreements with our domestic franchisees for the opening of a specified number of restaurants within a defined period of time and specified geographic area.  Under our current standard development agreement, the franchisee is required to pay, at the time of signing the agreement, a non-refundable fee of $5,000 per restaurant covered by the development agreement.  This amount is credited against the standard $20,000 franchise fee payable to us upon signing the franchise agreement for a specific location.  Generally, a franchise agreement is executed when a franchisee secures a location.

 

Our current standard domestic franchise agreement provides for a term of ten years (with one ten-year renewal option) and payment to us of a royalty fee of 4% of sales.  The current agreement, as well as substantially all existing franchise agreements, permits us to increase the royalty fee up to 5% of sales after the agreement has been in effect for three years.  However, the royalty fee cannot be increased to an amount greater than the percentage royalty fee then in effect for new franchisees.

 

We have the right to terminate a franchise agreement for a variety of reasons, including a franchisee’s failure to make payments when due or failure to adhere to our policies and standards.  Many state franchise laws limit the ability of a franchisor to terminate or refuse to renew a franchise.

 

We opened our first franchised restaurant outside the United States in 1998.  Beginning in 2001, we changed the definition of international markets to be all markets outside the contiguous United States.  In international markets, we enter into either a development agreement or a master franchise agreement with a franchisee for the opening of a specified number of restaurants within a defined period of time and specified geographic area.  Under a master franchise agreement, the franchisee has the right to subfranchise a portion of the development to one or more subfranchisees approved by us.  Under our current standard international development agreement (except for Hawaii and Alaska in which the terms are the same as domestic restaurants), the franchisee is required to pay total fees of $25,000 per restaurant, $5,000 at the time of signing the agreement, and $20,000 when the restaurant opens or the agreed-upon development date, whichever comes first.  Under our current master franchise agreement, the master franchisee is required to pay total fees of $25,000 per restaurant owned and operated by the master franchisee, under the same terms as for the development agreement, and $15,000 for each subfranchised restaurant, $5,000 at the time of signing the agreement and $10,000 when the restaurant opens or the agreed-upon development date, whichever comes first.

 

Our current standard international master franchise and development agreements provide for payment to us of a royalty fee of 5% of sales (including sales by subfranchised restaurants), with no provision for increase.  The remaining terms applicable to the operation of individual restaurants are substantially equivalent to the terms of our standard domestic franchise agreement.

 

We franchise restaurants in the United Kingdom under Perfect Pizza franchise agreements, which were in effect at the time of our acquisition in 1999. These franchise agreements differ from our standard international franchise agreements in many respects, although with few material differences. A principal difference is the term of the agreement, which is five years. The franchisee fee is £10,000 (approximately $14,500 at an exchange rate of $1.45 as of December 30, 2001), and the royalty rate of 5% is the same as in our standard international agreements. The Perfect Pizza system has been developed principally through franchising of individual restaurants to single location franchisees. Thus, the system has no equivalent to our development agreements or master franchise agreements.

 

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We have entered into a limited number of development and franchise agreements for non-traditional restaurant units. These agreements generally cover venues or areas not originally targeted for development and have terms differing from the standard agreement.  These agreements have not had a significant impact on our revenues or earnings.

 

Franchise Restaurant Development. We provide assistance to Papa John’s franchisees in selecting sites, developing restaurants and evaluating the physical specifications for typical restaurants.  Each franchisee is responsible for selecting the location for its restaurants but must obtain our approval of restaurant design and location based on accessibility and visibility of the site and targeted demographic factors, including population, density, income, age and traffic. We provide design plans, fixtures and equipment for most franchisee locations.

 

Franchisee Loan Program. We have a program under which selected franchisees can borrow funds principally for use in the construction and development of their restaurants. Loans made under the program typically bear interest at fixed or floating rates (ranging from 4.5% to 9.5% at December 30, 2001, with an average of 6.0%) and are secured by the fixtures, equipment and signage (and where applicable, the land) of the restaurant and the ownership interests in the franchisee. At December 30, 2001, loans outstanding under the franchise loan program totaled $17.6 million, net of estimated allowance for doubtful collection of certain notes. We do not plan to significantly expand the franchisee loan program. See “Note 7” of “Notes to Consolidated Financial Statements” for additional information.

 

We have a commitment to lend up to $7.6 million to BIBP Commodities, Inc. (“BIBP”), an independent franchisee-owned corporation. At December 30, 2001, no amounts were outstanding from BIBP. See “Note 11” of “Notes to Consolidated Financial Statements” for additional information.

 

Franchise Insurance Program.  We provide our franchisees an opportunity to purchase various insurance policies, such as non-owned automobile and workers compensation, through our insurance agency, Risk Services Corp.  In October 2000, we established a captive insurance company located in Bermuda, RSC Insurance Services, Ltd., to accommodate this business. We have specific and aggregate reinsurance to limit the exposure to the captive insurance company. See “Note 8” of “Notes to Consolidated Financial Statements” for additional information.

 

Franchise Training and Support.  Every franchisee is required to have a principal operator approved by us who satisfactorily completes our required training program and who devotes his or her full business time and efforts to the operation of the franchisee’s restaurants.  Each franchise restaurant manager is also required to complete our Company-certified management training program. We provide an on-site training crew three days before and three days after the opening of a franchisee’s first two restaurants. Ongoing supervision of training is monitored by the corporate franchise training team. Multi-unit franchisees are encouraged to hire a full-time training coordinator certified to deliver Company-approved programs in order to train new team members and management candidates for their restaurants. Our area franchise directors maintain open communication with the franchise community, relaying operating and marketing information and new ideas between franchisees and us.

 

Franchise Operations.  All franchisees are required to operate their Papa John’s restaurants in compliance with our policies, standards and specifications, including matters such as menu items, ingredients, materials, supplies, services, fixtures, furnishings, decor and signs.  Each franchisee has full discretion to determine the prices to be charged to its customers.

 

Franchise Advisory Council. We have a Franchise Advisory Council that consists of Company and franchisee representatives.  The Advisory Council and subcommittees hold regular meetings to discuss new marketing ideas, operations, growth and other relevant issues.

 

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Reporting.  We collect weekly and monthly sales and other operating information from Papa John’s franchisees.  We have agreements with most Papa John’s domestic franchisees permitting us to electronically debit the franchisees’ bank accounts for the payment of royalties, Marketing Fund contributions and QC Center purchases. This system significantly reduces the resources needed to process receivables, improves cash flow and virtually eliminates past-due accounts related to these items. During 2002, we plan to expand this payment collection methodology to other areas, including printing and promotional items. Franchisees generally are required to purchase and install the Papa John’s PROFIT System in their restaurants (see Company Operations — Point of Sale Technology).

 

Competition

 

The restaurant industry is intensely competitive with respect to price, service, location and food quality, and there are many well-established competitors with substantially greater financial and other resources than Papa John’s. Competitors include a large number of international, national and regional restaurant chains, as well as local pizza operators. Some of our competitors have been in existence for a substantially longer period than us and may be better established in the markets where our restaurants are, or may be, located. Within the pizza segment of the restaurant industry, we believe our primary competitors are the international pizza chains, including Pizza Hut, Domino’s and Little Caesars, and several regional chains. A change in the pricing or other marketing strategies of one or more of our competitors could have an adverse impact on our sales and earnings.

 

Changes in consumer tastes, national, regional or local economic conditions, demographic trends, traffic patterns and the type, number and location of competing restaurants often affect the restaurant business.  In addition, factors such as inflation and economic recession, increased cheese and other commodity costs, fuel costs, labor and benefits costs, utility costs and the lack of experienced management and hourly team members may adversely affect the restaurant industry in general and our restaurants in particular.

 

With respect to the sale of franchises, we compete with many franchisors of restaurants and other business concepts.  In general, there is also active competition for management personnel and attractive commercial real estate sites suitable for our restaurants.

 

Government Regulation

 

We, along with our franchisees, are subject to various federal, state and local laws affecting the operation of our respective businesses.  Each Papa John’s restaurant is subject to licensing and regulation by a number of governmental authorities, which include health, safety, sanitation, building and fire agencies in the state or municipality in which the restaurant is located.  Difficulties in obtaining, or the failure to obtain, required licenses or approvals could delay or prevent the opening of a new restaurant in a particular area. Our full-service QC Centers are licensed and subject to regulation by state and local health and fire codes, and the operation of our trucks is subject to Department of Transportation regulations. We are also subject to federal and state environmental regulations.

 

We are subject to Federal Trade Commission (“FTC”) regulation and various state laws regulating the offer and sale of franchises.  Several state laws also regulate substantive aspects of the franchisor-franchisee relationship.  The FTC requires us to furnish to prospective franchisees a franchise offering circular containing prescribed information. Substantive state laws that regulate the franchisor-franchisee relationship presently exist in a

 

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substantial number of states, and bills have been introduced in Congress from time to time which would provide for federal regulation of the franchisor-franchisee relationship in certain respects.  The state laws often limit, among other things, the duration and scope of non-competition provisions and the ability of a franchisor to terminate or refuse to renew a franchise. Some foreign countries also have disclosure requirements and other laws regulating franchising and the franchisor-franchisee relationship.  As we expand internationally, we will be subject to applicable laws in each jurisdiction where franchised units are established.

 

We are also subject to the Americans with Disabilities Act of 1990, which, among other things, may require renovations to restaurants to meet federally mandated requirements. The cost of these renovations is not expected to be material.  Further government initiatives could adversely affect Papa John’s as well as the restaurant industry.

 

Trademarks

 

Our rights in our principal trademarks and service marks are a significant part of our business. We are the owner of the federal registration of the trademark “Papa John’s.” We have also registered “Pizza Papa John’s and design” (our logo), “Better Ingredients. Better Pizza.” and “Pizza Papa John’s Better Ingredients. Better Pizza. and design” as trademarks and service marks. We also own federal registrations for several ancillary marks, principally advertising slogans. We have also applied to register our primary trademark, “Pizza Papa John’s and design,” in more than 90 foreign countries and the European Community. The “Perfect Pizza” trademark is also registered in the United Kingdom. We are aware of the use by other persons in certain geographical areas of names and marks which are the same as or similar to our marks. It is our policy to pursue registration of our marks whenever possible and to oppose vigorously any infringement of our marks.  See “Item 3. Legal Proceedings” and “Note 4” of “Notes to Consolidated Financial Statements” for additional information.

 

Employees

 

As of December 30, 2001, we employed 16,336 persons, of whom approximately 14,097 were restaurant team members, 725 were restaurant management and supervisory personnel, 619 were corporate personnel and 895 were commissary and support services personnel.  Most restaurant team members work part-time and are paid on an hourly basis.  None of our team members is covered by a collective bargaining agreement. We consider our team member relations to be excellent.

 

Forward-Looking Statements

 

This Form 10-K contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Act”), including information within Management’s Discussion and Analysis of Financial Condition and Results of Operations.  The following cautionary statements are being made pursuant to the provisions of the Act and with the intention of obtaining the benefits of the “safe harbor” provisions of the Act.  Although we believe that our expectations are based on reasonable assumptions, actual results may differ materially from those in the forward-looking statements as a result of various factors, including but not limited to, the following:

 

1.         The ability of the Papa John’s system to continue to expand through the opening of new restaurants is affected by a number of factors, many of which are beyond our control. These factors include, among other things, selection and availability of suitable restaurant locations, increases in food, paper, labor and insurance costs, negotiation of suitable lease or financing terms, constraints on permitting and construction of restaurants, higher than anticipated construction costs, and the hiring, training and retention of management and other personnel.  Accordingly, there can be no assurance that system-wide,

 

 

10



 

Papa John’s will be able to meet planned growth targets, open restaurants in markets now targeted for expansion, or continue to operate in existing markets.

 

2.         The restaurant industry is intensely competitive with respect to price, service, location and food quality, and there are many well-established competitors with substantially greater financial and other resources than the Papa John’s system.  Some of these competitors have been in existence for a substantially longer period than Papa John’s and may be better established in the markets where restaurants operated by us or our franchisees are, or may be, located.  A change in the pricing or other marketing or promotional strategies of one or more of our major competitors could have an adverse impact on sales and earnings of our system-wide restaurant operations.

 

3.         An increase in the cost of cheese or other commodities could adversely affect the profitability of our system-wide restaurant operations. Cheese, which has historically represented 35% to 40% of our food cost and other commodities are subject to seasonal fluctuations, weather, availability, demand and other factors that are beyond our control. Additionally, sustained increases in fuel and utility costs could adversely affect profitability of our restaurant and QC Center businesses.

 

4.         Changes in consumer taste, demographic trends, traffic patterns and the type, number and location of competing restaurants could adversely affect our restaurant business.

 

5.         System-wide restaurant operations are subject to federal and state laws governing such matters as wages, working conditions, citizenship requirements and overtime.  A significant number of hourly personnel employed by our franchisees and us are paid at rates related to the federal minimum wage.  Accordingly, further increases in the minimum wage will increase labor costs for our system-wide operations. Additionally, labor shortages in various markets could result in higher required wage rates.

 

6.         Our international operations are subject to a number of additional factors, including international economic and political conditions, currency regulations and fluctuations, differing cultures and consumer preferences, diverse government regulations and structures, availability and cost of land and construction, ability to source high quality ingredients and other commodities in a cost-effective manner, and differing interpretation of the obligations established in franchise agreements with international franchisees. Accordingly, there can be no assurance that our international operations will achieve or maintain profitability or meet planned growth rates.

 

7.       Our planned conversion of Perfect Pizza restaurants to Papa John’s restaurants over the next three to four years represents the first time we have attempted to expand the Papa John’s brand in this manner.  There can be no assurance that all conversion issues will be identified and successfully addressed in a timely, cost-effective manner or that the existing Perfect Pizza market share can be successfully converted to Papa John’s.

 

11



 

Item 2.  Properties

 

As of December 30, 2001, there were 2,729 Papa John’s restaurants and 193 Perfect Pizza restaurants system-wide.

 

 

 

 

Number of

Company-owned Papa John’s Restaurants

 

Restaurants

Colorado

54

 

Florida

37

 

Georgia

67

 

Illinois

4

 

Indiana

40

 

Kentucky

41

 

Maryland

49

 

Minnesota

45

 

Missouri

18

 

New Jersey

21

 

New Mexico

12

 

North Carolina

53

 

Ohio

20

 

Pennsylvania

2

 

South Carolina

4

 

Tennessee

29

 

Texas

85

 

Virginia

20

 

 

 

 

Total Domestic Company-owned Papa John’s Restaurants

601

 

United Kingdom

10

 

 

 

 

Total Company-owned Papa John’s Restaurants

611

 

 

12



 

 

Number of

Domestic Franchised Papa John’s Restaurants

 

 

Restaurants

Alabama

61

 

Arizona

59

 

Arkansas

15

 

California

176

 

Colorado

4

 

Connecticut

1

 

Delaware

11

 

Florida

201

 

Georgia

58

 

Idaho

8

 

Illinois

83

 

Indiana

82

 

Iowa

23

 

Kansas

28

 

Kentucky

49

 

Louisiana

48

 

Maine

5

 

Maryland

28

 

Michigan

62

 

Minnesota

10

 

Mississippi

22

 

Missouri

38

 

Montana

9

 

Nebraska

18

 

Nevada

19

 

New Jersey

8

 

New Mexico

8

 

New York

29

 

North Carolina

60

 

North Dakota

6

 

Ohio

139

 

Oklahoma

26

 

Oregon

24

 

Pennsylvania

77

 

Rhode Island

5

 

South Carolina

47

 

South Dakota

9

 

Tennessee

65

 

Texas

132

 

Utah

27

 

Virginia

88

 

Washington

48

 

West Virginia

21

 

Wisconsin

42

 

Wyoming

4

 

Washington, D.C.

5

 

 

 

 

Total Domestic Franchised Papa John’s Restaurants

1,988

 

 

13



 

 

Number of

International Franchised Papa John’s Restaurants

 

 

Restaurants

Alaska

3

 

Canada

5

 

Costa Rica

9

 

Guatemala

8

 

Hawaii

15

 

Honduras

4

 

Mexico

29

 

Puerto Rico

9

 

Saudi Arabia

13

 

Venezuela

20

 

United Kingdom

15

 

 

 

 

Total International Franchised Papa John’s Restaurants

130

 

 

Effective January 1, 2001, for restaurant unit purposes, “domestic” operations includes only those units located in the contiguous United States.

 

Most Papa John’s restaurants are located in leased space.  The initial term of most restaurant leases is five years or less with most leases providing for one or more options to renew for at least one additional term. Virtually all of our leases specify a fixed annual rent. Generally, the leases are triple net leases, which require us to pay all, or a portion of the cost of insurance, taxes and utilities.  Certain leases further provide that the lease payments may be increased annually, with a small number of escalations based on changes in the Consumer Price Index.

 

Approximately 145 Company-owned restaurants are located in buildings we own on land either owned or leased by us.  These restaurants range from 1,200 to 2,200 square feet. Eleven of the restaurants are located in multi-bay facilities we own. These multi-bay facilities contain from 2,800 to 5,000 square feet, and the space not utilized by the Papa John’s restaurant in each facility is leased or held for lease to third party tenants.

 

We have 218 restaurants located in the United Kingdom (190 franchised and three Company-owned Perfect Pizza restaurants and 10 Company-owned and 15 franchised Papa John’s restaurants). In addition to leasing the 13 Company-owned restaurant sites, we lease and sublease to franchisees 170 of the 205 franchised restaurant sites. The initial lease terms on the Company and franchised sites are generally 10 to 15 years. The initial lease terms of the franchisee subleases are generally five to ten years.

 

Information with respect to our leased QC Centers and other facilities as of December 30, 2001 is set forth below.

 

Facility

 

Square Footage

Jackson, MS

 

30,000

Raleigh, NC

 

27,000

Denver, CO

 

32,000

Phoenix, AZ

 

57,000

Des Moines, IA

 

31,000

Rotterdam, NY

 

45,000

Portland, OR

 

37,000

Pittsburgh, PA

 

52,000

 

14



 

We own approximately five acres in Orlando on which our 63,000 square foot full-service commissary is located, and eight acres in Dallas on which our 77,500 square foot full-service commissary is located. In addition, the Company owns approximately 72 acres in Louisville, Kentucky with a 42,000 square foot building housing our printing operations and a 247,000 square foot building, approximately 30% to 40% of which accommodates the Louisville QC Center operation and promotional division. The remainder of the building houses our corporate offices.

 

The Papa John’s UK management team is located in 6,000 square feet of leased office space in London with a remaining lease term of 14 years. Papa John’s UK owns a distribution center located in a 30,000 square foot facility that will be converted to a full-service commissary during 2002.

 

Item 3. Legal Proceedings

 

In August 1998, Pizza Hut, Inc. filed suit against us in the United States District Court for the Northern District of Texas, claiming that our “Better Ingredients. Better Pizza.” slogan constituted false and deceptive advertising in violation of the Lanham Trademark Act. In November 1999, the jury returned a verdict that our “Better Ingredients. Better Pizza.” slogan was false and deceptive. On January 3, 2000, the court announced its judgment, awarding Pizza Hut $468,000 in damages and ordering us to cease all use of the “Better Ingredients. Better Pizza.” slogan. Under the judge’s order, we were to cease using the slogan in print and broadcast advertising, phase out printed promotional materials and other items containing the slogan and remove the slogan from restaurant signage, all according to deadlines specified by the court. We initially estimated that the pre-tax costs of complying with the court’s order and certain related costs could have approximated $12.0 to $15.0 million, of which $6.1 million was recorded as pre-tax charges against 1999 earnings.  We filed an appeal of the verdict and the court’s order and a motion for stay of the court’s order pending outcome of the appeal.

 

On January 21, 2000, the United States Court of Appeals for the Fifth Circuit granted a stay of the District Court judgment pending our appeal.   Oral arguments related to the appeal were held on April 5, 2000. On September 19, 2000, the Fifth Circuit vacated the District Court’s judgment in its entirety and remanded the case to the District Court for entry of judgment in favor of Papa John’s.  On December 18, 2000, Pizza Hut filed a Petition for Writ of Certiorari with the United States Supreme Court. On March 19, 2001, the United States Supreme Court denied Pizza Hut’s Petition for Writ of Certiorari.  For the 2000 fiscal year, we incurred an additional $1.0 million of pre-tax charges, which is included in the $20.9 million of special charges recorded in 2000 related to this issue. No costs related to this issue were incurred during 2001.  See “Note 4” of “Notes to Consolidated Financial Statements” for additional information.

 

We are also subject to claims and legal actions in the ordinary course of our business. We believe that all such claims and actions currently pending against us are either adequately covered by insurance or would not have a material adverse effect on us if decided in a manner unfavorable to us.

 

Item 4.  Submission of Matters to a Vote of Security Holders

 

                Not applicable.

 

15



EXECUTIVE OFFICERS OF THE REGISTRANT

 

Set forth below are the executive officers of Papa John’s, together with their ages as of January 1, 2002, their positions and the years in which they first became an officer:

 

Name

 

Age

 

Position

 

First Elected Executive Officer

John H. Schnatter

 

40

 

Founder, Chairman of the Board, Chief Executive Officer and President

 

1985

Robert J. Wadell

 

46

 

President of PJ Food Service, Inc. and Chief Operating Officer

 

1990

Charles W. Schnatter

 

39

 

Senior Vice President, Chief Development Officer and Secretary

 

1991

Mary Ann Palmer

 

44

 

Senior Vice President and Chief Resource Officer

 

1999

Julie Larner

 

42

 

Senior Vice President, Chief Administrative Officer and Treasurer

 

2001

Michael R. Cortino

 

45

 

Senior Vice President of Corporate Operations

 

2000

J. David Flanery

 

44

 

Vice President of Finance and Corporate Controller

 

1994

Timothy C. O’Hern

 

38

 

Vice President of Global Development

 

2001

Richard J. Emmett

 

46

 

Senior Vice President and General Counsel

 

1992

Christopher J. Sternberg

 

36

 

Vice President, Office of the Chairman

 

2001

William M. Van Epps

 

53

 

Managing Director, International

 

2002

 

John Schnatter created the Papa John’s concept and founded Papa John’s in 1985.  He has served as Chairman of the Board and Chief Executive Officer since 1990, and from 1985 to 1990, served as President, a position to which he was reappointed in January 2001.  He has also been a franchisee since 1986.

 

Robert Wadell has served as Chief Operating Officer since February 2001 and as President of PJ Food Service, Inc. since 1995, after having served as Vice President of our QC Center Operations from 1990 to 1995.

 

Charles Schnatter has served as Chief Development Officer since February 2001 and Secretary since 1991. Mr. Schnatter also held the position of General Counsel from 1991 to March 2002; he has been a Senior Vice President since 1993. From 1988 to 1991, he was an attorney with Greenebaum Doll & McDonald PLLC, Louisville, Kentucky, a law firm, which provides legal services to us. Charles Schnatter has been a franchisee since 1989.

 

16



 

Mary Ann Palmer has served as Senior Vice President and Chief Resource Officer since February 2001.  Ms. Palmer served as Vice President, People Department from 1999 to 2001 and Vice President of Education and Training from 1997 to 1999. From 1996 to 1997, Ms. Palmer held the position of Senior Counsel in our legal department. Prior to joining Papa John’s, Ms. Palmer practiced law as a partner with the law firm, Wyatt, Tarrant & Combs.

 

Julie Larner has served as Senior Vice President, Chief Administrative Officer and Treasurer since February 2001, responsible for Finance, Information Systems and Office Services.  Ms. Larner has been with Papa John’s since 1992 serving as controller for PJ Food Service, Inc. from 1992 to 1997 and its Vice President of Finance and Administration since 1998.

 

Mike Cortino has served as Senior Vice President of Corporate Operations since May 2000 after having served as Vice President of Operations Support since November 1999.  Prior to joining Papa John’s, Mr. Cortino served five years as Vice President of Corporate Operations for AFC Enterprises — Church’s Chicken Brand and ten years as a market manager and other positions with Taco Bell.

 

David Flanery has served as Vice President of Finance since 1995 after having joined Papa John’s in 1994 as Corporate Controller.  From 1979 to 1994, Mr. Flanery was with Ernst & Young LLP in a variety of positions, most recently as Audit Senior Manager.  Mr. Flanery is a licensed Certified Public Accountant.

 

Tim O’Hern has served as Vice President of Global Development since February 2001 after having served as Vice President of U.S. Development since March 1997. From December 1996 to March 1997, Mr. O’Hern held the position of Director of Franchise Development. Mr. O’Hern joined Papa John’s in November 1995 as a construction manager.  Prior to joining Papa John’s, Mr. O’Hern owned his own business and has been a franchisee since 1993.

 

Richard Emmett was promoted to Senior Vice President and General Counsel in March 2002, after serving as Senior Vice President and Senior Counsel since March 1997. Mr. Emmett also served as Senior Vice President of Development from August 1996 to March 1997. From 1992 to 1996, Mr. Emmett held the position of Vice President and Senior Counsel.  From 1983 to 1992, Mr. Emmett was an attorney with the law firm of Greenebaum Doll & McDonald PLLC, having become a partner of the firm in 1989.  Mr. Emmett has been a franchisee since 1992.

 

Chris Sternberg served as Vice President, Investor Relations from February 2001 to March 2002. Mr. Sternberg has held the position of Vice President, Office of the Chairman since July 2000, after serving as Vice President, Corporate Communications from 1997 to 2000. Mr. Sternberg joined the Company in 1994 as Assistant Counsel in our Legal Department.  From 1990 to 1994, he was an attorney with Greenebaum Doll & McDonald PLLC, Louisville, Kentucky.

 

William Van Epps has served as Managing Director, International since September 2001. Prior to joining Papa John’s, Mr. Van Epps served for two years as President, International Division of Yorkshire Global Restaurants, responsible for the international development of Long John Silver’s and A&W restaurants. From 1993 to 1999, he served in several positions with AFC Enterprises, including President of its International Division.  From 1988 to 1993, he was Vice President, Marketing and International for Western Sizzlin, Inc.

 

17



 

John and Charles Schnatter are brothers.  There are no other family relationships among the executive officers and other key personnel.

 

18



 

PART II

 

Item 5.    Market for Registrant’s Common Equity and Related Stockholder Matters

 

Our common stock trades on the NASDAQ National Market tier of The NASDAQ Stock Market under the symbol PZZA. As of March 15, 2002, there were approximately 904 record holders of common stock. The following table sets forth for the quarters indicated the high and low closing sales prices of our common stock, as reported by The NASDAQ Stock Market.

 

2001

 

 

High

 

Low

 

First Quarter

 

$

24.63

 

$

20.88

 

Second Quarter

 

29.32

 

22.63

 

Third Quarter

 

26.05

 

23.79

 

Fourth Quarter

 

28.73

 

24.62

 

 

 

 

 

 

 

2000

 

 

 

 

 

 

First Quarter

 

$

34.88

 

$

22.38

 

Second Quarter

 

33.16

 

21.63

 

Third Quarter

 

26.28

 

20.81

 

Fourth Quarter

 

27.38

 

19.63

 

 

 

 

 

 

 

 

Since our initial public offering of common stock in 1993, we have not paid dividends on our common stock, and have no plans to do so in the foreseeable future.

 

Item 6. Selected Financial Data

 

The selected financial data presented on the following page for each of the years in the five-year period ended December 30, 2001 was derived from our audited consolidated financial statements. The selected financial data should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and Notes thereto included in Item 7 and Item 8, respectively, of this Form 10-K.

 

 

19



 

Selected Financial Data

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended (1)

 

 

 

Dec. 30,

 

Dec. 31,

 

Dec. 26,

 

Dec. 27,

 

Dec. 28,

 

 

 

2001

 

2000

 

1999

 

1998

 

1997

 

System-wide Restaurant Sales

 

(In thousands, except per share data)

 

Domestic: Company-owned

 

$

445,849

 

$

456,637

 

$

394,636

 

$

344,089

 

$

262,272

 

Domestic: Franchised

 

1,301,124

 

1,212,369

 

1,031,277

 

812,005

 

605,337

 

International: Franchised

 

40,115

 

17,723

 

6,803

 

177

 

—

 

United Kingdom: Company-owned (2)

 

4,471

 

4,305

 

455

 

—

 

—

 

United Kingdom: Franchised (2)

 

59,611

 

60,578

 

5,175

 

—

 

—

 

Total

 

$

1,851,170

 

$

1,751,612

 

$

1,438,346

 

$

1,156,271

 

$

867,609

 

Income Statement Data

 

 

 

 

 

 

 

 

 

 

 

Domestic revenues:

 

 

 

 

 

 

 

 

 

 

 

Restaurant sales

 

$

445,849

 

$

456,637

 

$

394,636

 

$

344,089

 

$

262,272

 

Franchise royalties

 

50,768

 

47,145

 

40,567

 

32,120

 

23,875

 

Franchise and development fees

 

2,927

 

5,559

 

6,511

 

5,325

 

5,162

 

Commissary sales

 

387,049

 

351,255

 

306,909

 

255,083

 

184,407

 

Equipment and other sales

 

52,730

 

53,233

 

53,078

 

45,404

 

39,952

 

International revenues:

 

 

 

 

 

 

 

 

 

 

 

Royalties and franchise and development fees

 

5,895

 

5,302

 

1,063

 

131

 

—

 

Restaurant and commissary sales (2)

 

26,014

 

25,546

 

2,561

 

—

 

—

 

Total revenues

 

971,232

 

944,677

 

805,325

 

682,152

 

515,668

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income (3)

 

82,783

 

57,389

 

72,484

 

53,688

 

35,437

 

Investment income

 

1,958

 

1,943

 

3,384

 

4,100

 

4,196

 

Interest expense

 

(8,857

)

(7,746

)

(151

)

(643

)

(296

)

Income before income taxes and cumulative effect

 

 

 

 

 

 

 

 

 

 

 

of a change in accounting principle

 

75,884

 

51,586

 

75,717

 

57,145

 

39,337

 

Income tax expense

 

28,639

 

19,762

 

28,431

 

22,181

 

15,772

 

Income before cumulative effect of a change in

 

 

 

 

 

 

 

 

 

 

 

accounting principle

 

47,245

 

31,824

 

47,286

 

34,964

 

23,565

 

Cumulative effect of accounting change, net of tax (4)

 

—

 

—

 

—

 

(2,603

)

—

 

Net income

 

$

47,245

 

$

31,824

 

$

47,286

 

$

32,361

 

$

23,565

 

Basic earnings per common share:

 

 

 

 

 

 

 

 

 

 

 

Income before cumulative effect of a change in

 

 

 

 

 

 

 

 

 

 

 

accounting principle

 

$

2.09

 

$

1.29

 

$

1.57

 

$

1.18

 

$

.81

 

Cumulative effect of accounting change, net of tax (4)

 

—

 

—

 

—

 

(.09

)

—

 

Basic earnings per common share

 

$

2.09

 

$

1.29

 

$

1.57

 

$

1.09

 

$

.81

 

Earnings per common share — assuming dilution:

 

 

 

 

 

 

 

 

 

 

 

Income before cumulative effect of a change in

 

 

 

 

 

 

 

 

 

 

 

accounting principle

 

$

2.08

 

$

1.28

 

$

1.52

 

$

1.15

 

$

.79

 

Cumulative effect of accounting change, net of tax (4)

 

—

 

—

 

—

 

(.09

)

—

 

Earnings per common share — assuming dilution

 

$

2.08

 

$

1.28

 

$

1.52

 

$

1.06

 

$

.79

 

Basic weighted average shares outstanding

 

22,600

 

24,703

 

30,195

 

29,537

 

29,044

 

Diluted weighted average shares outstanding

 

22,753

 

24,907

 

31,080

 

30,455

 

29,720

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet Data

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

387,439

 

$

395,658

 

$

372,051

 

$

319,724

 

$

253,413

 

Total debt

 

105,310

 

146,607

 

6,233

 

8,420

 

5,905

 

Stockholders’ equity

 

195,632

 

166,321

 

292,133

 

254,170

 

206,996

 

 

 

 

 

 

 

 

 

 

 

 

 


(1)          We operate on a 52-53 week fiscal year ending on the last Sunday of December of each year.  The 2001, 1999, 1998, and 1997 fiscal years consisted of 52 weeks and the 2000 fiscal year consisted of 53 weeks.

 

(2) We purchased Perfect Pizza in November 1999.

 

20



 

(3) Operating income for 2000 includes special charges of $20.9 million as well as a provision for uncollectible notes receivable of $4.2 million.  Operating income for 1999 includes special charges of $6.1 million.  See “Note 4” of Notes to Consolidated Financial Statements and “Item 3. Legal Proceedings.”

 

(4) Reflects the cumulative effect on income and earnings per share of a change in accounting principle, net of tax, as required by Statement of Position 98-5 “Reporting the Costs of Start-Up Activities”.

 

Item 7.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Introduction

 

Papa John’s International, Inc. (referred to as the “Company,” “Papa John’s” or in the first person notations of “we,” “us” and “our”) began operations in 1985 with the opening of the first Papa John’s restaurant in Jeffersonville, Indiana. At December 30, 2001, there were 2,729 Papa John’s restaurants in operation, consisting of 611 Company-owned and 2,118 franchised, and 193 Perfect Pizza restaurants in the United Kingdom (consisting of three Company-owned and 190 franchised). Our revenues are principally derived from retail sales of pizza to the general public by Company-owned restaurants, franchise royalties, sales of franchise and development rights, sales to franchisees of food and paper products, restaurant equipment, printing and promotional items, risk management services, and information systems and related services used in their operations.

 

We intend to continue to expand the number of domestic and international restaurants. New unit openings in 2001 were 210 as compared to 369 in 2000. Several factors impacted this reduction in unit openings including the competitive sales environment, operating margin pressures due to increased wages, commodity pricing and other costs and the overall economic environment including franchisees’ access to capital. The rate of future unit expansion will also be impacted by these and other factors. Unit closings in 2001 were 105 as compared to 38 in 2000. The increased closings were due to many of the same factors impacting 2001 unit openings and the rate of future closings will also be impacted by these and other factors.

 

We believe our strategy has allowed us to continue to enjoy strong average sales from our Company-owned restaurants even with a very competitive market environment. Our expansion strategy is to cluster restaurants in targeted markets, thereby increasing consumer awareness and enabling us to take advantage of operational, distribution and advertising efficiencies.  Average sales for the Company’s most recent quarter’s comparable base restaurants decreased to $739,000 for 2001 (52-week year), from $782,000 for 2000 (53-week year), as compared to $754,000 for 1999 (52-week year).  Average sales volumes in new markets are generally lower than in those markets in which we have established a significant market position.

 

The comparable annual sales for Company-owned restaurants decreased 2.9% in 2001, and increased 3.0% in 2000 and 3.5% in 1999.  The decrease in comparable sales during 2001 reflects an increased competitive market, as well as a decrease in our advertising expenditures as we concentrated on improving restaurant operations.

 

Approximately 47% of our revenues for 2001 and 45% of our revenues for 2000 and 1999, were derived from the sale to franchisees of food and paper products, restaurant equipment, printing and promotional items, risk management services and information systems equipment and software and related services by us, our commissary subsidiary, PJ Food Service, Inc., our support services subsidiary, Papa John’s Support Services, Inc., our insurance subsidiaries, RSC Insurance Services, Ltd. and Risk Services Corp. and our United Kingdom subsidiary, Papa John’s UK. We believe that, in addition to supporting both

 

21



 

Company and franchised growth, these subsidiaries contribute to product quality and consistency and restaurant profitability throughout the Papa John’s system.

 

We continually strive to obtain high-quality sites with good access and visibility, and to enhance the appearance and quality of our restaurants. We believe that these factors improve our image and brand awareness. The average cash investment for the 20 domestic Company-owned restaurants opened during 2001, exclusive of land, increased to approximately $273,000 from $268,000 for the 42 units opened in 2000. We expect the average cash investment for restaurants opening in 2002 to be approximately $275,000.

 

Our fiscal year ends on the last Sunday in December of each year.  All fiscal years presented consist of 52 weeks, except for the 2000 fiscal year, which consists of 53 weeks.

 

Results of Operations and Critical Accounting Policies and Estimates

 

The results of operations are based on the preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States.  The preparation of consolidated financial statements requires management to select accounting policies for critical accounting areas as well as estimates and assumptions that affect the amounts reported in the consolidated financial statements.  Significant changes in assumptions and/or conditions in our critical accounting policies could materially impact the operating results.  We have identified the following accounting policies and related judgements as critical to understanding the results of our operations.

 

We establish reserves for uncollectible accounts and notes receivable based on overall receivable aging levels and a specific evaluation of accounts and notes for franchisees with known financial difficulties.

 

The recoverability of long-lived and intangible assets (i.e., goodwill) is evaluated annually or more frequently if an impairment indicator exists.  We consider several indicators in assessing if impairment has occurred, including historical financial performance, operating trends and our future operating plans. If impairment indicators exist, we evaluate on an operating unit basis (e.g. an individual restaurant) whether impairment exists on the basis of undiscounted expected future cash flows before interest for the expected remaining life of the operating unit.  Recorded values that are not expected to be recovered through undiscounted cash flows are written down to current value, which is generally determined from estimated discounted future cash flows for assets held for use or net realizable value for assets held for sale. If these estimates or their related assumptions change in the future, we may be required to record initial or increased impairment charges for these assets.

 

The Company’s insurance programs for worker’s compensation, general liability, owned and non-owned automobiles and health insurance coverage provided to our employees, and the captive insurance program provided to our franchisees are self-insured up to certain individual and aggregate reinsurance levels. Claims in excess of self-insurance levels are fully insured. Losses are accrued based upon estimates of the aggregate retained liability for claims incurred using certain actuarial projections and our claims loss experience. Estimated insurance claims losses could be significantly affected should the frequency or ultimate cost of claims significantly differ from historical trends.

 

Accounting Changes

 

In June 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 141 (SFAS 141), Business Combinations. SFAS 141 requires all business combinations initiated after June 30, 2001, to be accounted for using the purchase method of accounting. SFAS 141 also specifies criteria for the recognition of identifiable intangible assets separately from

 

22



goodwill. We will apply the provisions of SFAS 141 to all future business combinations. No significant impact occurred with the adoption of SFAS 141 on July 1, 2001.

 

In June 2001, the FASB issued Statement of Financial Accounting Standards No. 142 (SFAS 142), Goodwill and Other Intangible Assets, effective for fiscal years beginning after December 15, 2001. With the adoption of SFAS 142, companies will no longer amortize goodwill and intangible assets with indefinite useful lives. Instead, goodwill and intangible assets with indefinite useful lives will be subject to an annual review for impairment. Other intangible assets will continue to be amortized over their useful lives and reviewed for impairment.

 

As of December 30, 2001, our balance sheet included $48.3 million of goodwill, net of accumulated amortization of $8.2 million. The adoption of SFAS 142 will result in a reduction of approximately $2.8 million in amortization expense beginning in 2002. Proforma earnings per common share, assuming dilution, for 2001 will be reported as $2.15 effective with the adoption of SFAS 142. Management does not expect the results of the impairment review, which is to be performed in accordance with the provisions of SFAS 142, to have a material impact on the Company’s consolidated financial statements.

 

In 2001, the FASB issued Statement of Financial Accounting Standards No. 144 (SFAS 144), Accounting for the Impairment or Disposal of Long-Lived Assets, effective for the Company in fiscal year 2002. SFAS 144 supersedes Statement of Financial Accounting Standards No. 121 (SFAS 121), Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, Reporting the Results of Operations — Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions. SFAS 144 requires one accounting model to be used for long-lived assets to be disposed of by sale, whether previously held or used or newly acquired, and it broadens the presentation of discontinued operations to include more disposal transactions. We do not expect the adoption of SFAS 144 to have a significant impact on our results of operations or our financial statement presentation.

 

23



The following tables set forth the percentage relationship to total revenues, unless otherwise indicated, of certain income statement data, and certain restaurant data for the years indicated.

 

 

 

Year Ended

 

 

 

Dec. 30,

 

Dec. 31,

 

Dec. 26,

 

 

 

2001

 

2000

 

1999

 

Income Statement Data:

 

 

 

 

 

 

 

Domestic revenues:

 

 

 

 

 

 

 

Restaurant sales

 

45.9

%

48.3

%

49.0

%

Franchise royalties

 

5.2

 

5.0

 

5.0

 

Franchise and development fees

 

0.3

 

0.6

 

0.8

 

Commissary sales

 

39.9

 

37.2

 

38.2

 

Equipment and other sales

 

5.4

 

5.6

 

6.6

 

International revenues:

 

 

 

 

 

 

 

Royalties and franchise and development fees

 

0.6

 

0.6

 

0.1

 

Restaurant and commissary sales

 

2.7

 

2.7

 

0.3

 

Total revenues

 

100.0

 

100.0

 

100.0

 

Costs and expenses:

 

 

 

 

 

 

 

Domestic restaurant cost of sales (1)

 

24.8

 

24.4

 

25.4

 

Domestic restaurant operating expenses (1)

 

56.6

 

56.4

 

54.7

 

Domestic commissary, equipment and other expenses (2)

 

89.8

 

89.7

 

90.6

 

International operating expenses (3)

 

83.6

 

84.9

 

81.6

 

General and administrative expenses

 

7.2

 

7.7

 

6.8

 

Special charges (4)

 

—

 

2.3

 

0.8

 

Provision for uncollectible notes receivable (5)

 

0.1

 

0.4

 

—

 

Pre-opening and other general expenses

 

0.4

 

0.2

 

0.4

 

Depreciation and amortization

 

3.6

 

3.6

 

3.1

 

Total costs and expenses

 

91.5

 

93.9

 

91.0

 

Operating income

 

8.5

 

6.1

 

9.0

 

Other (expense) income

 

(0.7

)

(0.6

)

0.4

 

Income before income taxes

 

7.8

 

5.5

 

9.4

 

Income tax expense

 

2.9

 

2.1

 

3.5

 

Net income

 

4.9

%

3.4

%

5.9

%

 

 

 

 

 

 

 

 

 

24



 

 

 

Year Ended

 

 

 

Dec. 30,

 

Dec. 31,

 

Dec. 26,

 

 

 

2001

 

2000

 

1999

 

 

 

 

 

 

 

 

 

Restaurant Data:

 

 

 

 

 

 

 

Percentage (decrease) increase in comparable Company-owned restaurant sales (6)

 

(2.9%

)

3.0

%

3.5

%

Number of Company-owned restaurants included in the respective year’s

 

 

 

 

 

 

 

most recent quarter’s comparable restaurant base

 

573

 

534

 

492

 

Average sales for Company-owned restaurants included in the year’s most

 

 

 

 

 

 

 

recent comparable restaurant base (7)

 

$

739,000

 

$

782,000

 

$

754,000

 

 

 

 

 

 

 

 

 

Papa John’s Restaurant Progression:

 

 

 

 

 

 

 

U.S. Company-owned:

 

 

 

 

 

 

 

Beginning of period

 

631

 

573

 

514

 

Opened

 

20

 

42

 

36

 

Closed

 

(17

)

(2

)

(1

)

Acquired from franchisees

 

16

 

25

 

28

 

Sold to franchisees

 

(49

)

(7

)

(6

)

Restated (8)

 

—

 

—

 

2

 

End of period

 

601

 

631

 

573

 

International Company-owned:

 

 

 

 

 

 

 

Beginning of period

 

10

 

—

 

—

 

Opened

 

—

 

2

 

—

 

Converted (9)

 

—

 

8

 

—

 

End of period

 

10

 

10

 

—

 

U.S. franchised:

 

 

 

 

 

 

 

Beginning of period

 

1,902

 

1,681

 

1,365

 

Opened

 

139

 

271

 

345

 

Closed

 

(72

)

(32

)

(8

)

Acquired from Company

 

49

 

7

 

6

 

Sold to Company

 

(16

)

(25

)

(28

)

Restated (8)

 

—

 

—

 

1

 

Reclassification (10)

 

(14

)

—

 

—

 

End of period

 

1,988

 

1,902

 

1,681

 

International franchised:

 

 

 

 

 

 

 

Beginning of period

 

69

 

26

 

6

 

Opened

 

45

 

42

 

20

 

Opened — UK

 

3

 

1

 

—

 

Closed

 

(8

)

—

 

—

 

Converted (9)

 

7

 

—

 

—

 

Reclassification (10)

 

14

 

—

 

—

 

End of period

 

130

 

69

 

26

 

Total restaurants — end of period

 

2,729

 

2,612

 

2,280

 

 

 

 

 

 

 

 

 

 

25



 

 

 

 

Year Ended

 

 

 

Dec. 30,

 

Dec. 31,

 

Dec. 26,

 

 

 

2001

 

2000

 

1999

 

 

 

 

 

 

 

 

 

Perfect Pizza Restaurant Progression:  (11)

 

 

 

 

 

 

 

Company-owned

 

 

 

 

 

 

 

Beginning of period

 

3

 

12

 

15

 

Opened

 

1

 

—

 

—

 

Closed

 

—

 

(1

)

—

 

Acquired from franchisees

 

—

 

1

 

—

 

Sold to franchisees

 

(1

)

(1

)

(3

)

Converted (9)

 

—

 

(8

)

—

 

End of period

 

3

 

3

 

12

 

Franchised

 

 

 

 

 

 

 

Beginning of period

 

202

 

194

 

190

 

Opened

 

2

 

11

 

1

 

Closed

 

(8

)

(3

)

—

 

Acquired from company

 

1

 

1

 

3

 

Sold to company

 

—

 

(1

)

—

 

Converted (9)

 

(7

)

—

 

—

 

End of period

 

190

 

202

 

194

 

Total restaurants — end of period

 

193

 

205

 

206

 


(1)                      As a percentage of Domestic Restaurant sales.

(2)                      As a percentage of Domestic Commissary sales and Equipment and other sales on a combined basis.

(3)                      As a percentage of International Restaurant and commissary sales.

(4)                      See “Item 3. Legal Proceedings” and “Note 4” of “Notes to Consolidated Financial Statements.”

(5)                      See “Note 7” of “Notes to Consolidated Financial Statements.”

(6)                      Includes only Company-owned restaurants open throughout the periods being compared.

(7)                      Year 2001 and 1999 are 52-week years and 2000 is based on a 53-week year.

(8)                      Non-traditional units previously opened but not included in restaurant progression.

(9)                      Represents Perfect Pizza restaurants converted to Papa John’s restaurants.

(10)                Represents the reclassification of 11 Hawaii units and 3 Alaska units opened prior to 2001 from domestic franchising to international franchising. Effective January 1, 2001, for restaurant unit purposes, “domestic” operations includes only those units located in the contiguous United States.

(11)                We purchased Perfect Pizza on November 29, 1999.

 

2001 Compared to 2000

 

Revenues. Total revenues increased 2.8% to $971.2 million in 2001, from $944.7 million in 2000.

 

Domestic Company-owned restaurant sales decreased 2.4% to $445.8 million in 2001, from $456.6 million in 2000. This decrease was primarily due to a 2.9% comparable sales decrease in 2001 along with 2000 having 53 weeks while 2001 was a 52-week year (a 1.9% decrease in operating weeks), partially offset by a 4.0% increase in equivalent units. “Equivalent units” represents the number of restaurants open at the beginning of a given period, adjusted for restaurants opened, closed, acquired or sold during the period on a weighted average basis.

 

Domestic franchise sales increased 7.3% to $1.30 billion in 2001, from $1.21 billion in 2000. This increase primarily resulted from a 10.1% increase in the number of equivalent franchised domestic restaurants open in 2001 compared to 2000 and a 1.2% comparable sales increase in 2001, partially offset

 

26



 

by the 1.9% decrease in operating weeks in 2001. Domestic franchise royalties increased 7.7% to $50.8 million in 2001, from $47.1 million in 2000, due to the increase in domestic franchise sales previously described.

 

The comparable sales base and average weekly sales for 2001 and 2000 for domestic Company-owned and domestic franchised restaurants consisted of the following:

 

 

 

Year Ended

 

Year Ended

 

 

 

December 30, 2001

 

December 31, 2000

 

 

 

Company

 

Franchise

 

Company

 

Franchise

 

Total units (end of year)

 

601

 

1,988

 

631

 

1,902

 

Equivalent units

 

619

 

1,931

 

596

 

1,764

 

Comparable sales base units

 

551

 

1,559

 

498

 

1,281

 

Comparable sales base percentage

 

89.0

%

80.7

%

83.6

%

72.6

%

Average weekly sales — comparable units

 

$

14,296

 

$

13,554

 

$

14,917

 

$

13,836

 

Average weekly sales — other units

 

$

10,198

 

$

10,456

 

$

12,167

 

$

10,670

 

Average weekly sales — all units

 

$

13,844

 

$

12,957

 

$

14,466

 

$

12,969

 

 

Domestic franchise and development fees were $2.9 million for 2001 compared to $5.6 million for 2000 due primarily to 139 domestic franchise unit openings in 2001 as compared to 271 in 2000.

 

Domestic commissary, equipment and other sales increased 8.7% to $439.8 million in 2001, from $404.5 million in 2000, resulting primarily from the increase in domestic franchise sales as previously noted, as well as an increase in the prices of cheese and certain other commodities.

 

International revenues consist of the Papa John’s UK operations which are denominated in British Pounds Sterling and converted to U.S. dollars (90.5% of total 2001 international revenues), and combined revenues from operations in eight other international markets denominated in U.S. dollars. Total international revenues increased 3.4% to $31.9 million in 2001 compared to $30.8 million in 2000 (8.9% prior to the unfavorable impact of exchange rates) due primarily to an increase in the number of equivalent international franchise units open in 2001 compared to the 2000 period.

 

Costs and Expenses.  The restaurant-operating margin for domestic Company-owned units was 18.6% in 2001 compared to 19.2% in 2000, consisting of the following differences:

 

•                  Cost of sales was 0.4% higher in 2001 due primarily to higher cheese costs. The cost of cheese, representing approximately 35% to 40% of food cost, and other commodities are subject to significant price fluctuations caused by weather, availability, demand and other factors. Most of the factors affecting the cost of cheese are beyond our control (see “Item 1. Business - Quality Control Centers: Strategic Supply Chain Management” and “Note 11” of “Notes to Consolidated Financial Statements”).

•                  Salaries and benefits were 1.5% higher in 2001 due primarily to increased wage rates.

•                  Advertising and related costs were 1.2% lower ($6.4 million) in 2001 due to overall spending reductions given the current economic environment.

•                  Occupancy costs were 0.6% higher in 2001 due primarily to increased utility and rent costs.

 

27



 

•                  Other operating expenses were 0.7% lower in 2001 primarily due to improved cost controls in mileage reimbursement and bad debt expense. Other operating expenses include an allocation of the QC Centers’ operating expenses equal to 3.0% of Company-owned restaurant sales in order to assess a portion of the costs of dough production and food and equipment purchasing and storage to Company-owned restaurants.

 

Domestic commissary, equipment and other margin was 10.2% in 2001 compared to 10.3% in 2000. Cost of sales decreased to 73.7% in 2001 compared to 75.2% in 2000, primarily resulting from operational improvements and the impact of increased revenues from expanded insurance and other services provided in 2001 with no corresponding cost of sales. Salaries and benefits and other operating costs as a percentage of sales increased to 16.1% in 2001 from 14.4% in 2000 primarily as a result of the costs related to expanded insurance and other services provided to franchisees in 2001.

 

International operating margin increased to 16.4% in 2001 from 15.1% in 2000 with the improvement primarily in Company-owned restaurant operations in the United Kingdom.

 

General and administrative expenses decreased to 7.2% of revenues for 2001 compared to 7.7% of revenues in 2000. The decrease reflects our ongoing efforts to control costs primarily through organizational efficiencies resulting from our management restructuring in 2001.

 

The special charges of $20.9 million incurred in 2000 related principally to the impairment or closing of certain restaurants, impairment of certain technology assets, closing of field offices and related severance as well as advertising litigation expense (see “Item 3. Legal Proceedings” and “Note 4” of the “Notes to Consolidated Financial Statements”). The special charges resulted in a write-down of asset carrying value of $16.0 million and the establishment of accrued liabilities for cash payments of $4.9 million, including $1.0 million of litigation costs associated with the “Better Ingredients. Better Pizza” lawsuit with Pizza Hut. At December 30, 2001, the remaining accrued liability related to the special charge was $1.4 million, which relates to future lease payments for closed or abandoned sites.

 

The impairment of the restaurant and other corporate assets in 2000 reduced depreciation and amortization in 2001 approximately $2.1 million as compared to 2000.  The closing of the 20 field offices and the severance and exit costs reduced salaries and operating expenses approximately $900,000 in 2001 as compared to 2000.

 

The provision for uncollectible franchisee notes receivable was $537,000 in 2001 compared to $4.2 million in 2000. The provision for 2001 was based on our evaluation of specific franchisee notes receivable, the franchisees’ operating results and the estimated underlying collateral value of the restaurant’s assets. Substantially all of the reserve at December 31, 2000 related to notes receivable with a related party franchisee, which was written off during 2001 without any additional impact on earnings (see “Note 7” of the “Notes to Consolidated Financial Statements”).

 

Pre-opening and other general expenses increased to $3.5 million in 2001 from $2.2 million in 2000.  Pre-opening costs of $246,000, relocation costs of $906,000, impairment losses of $556,000 and net losses on restaurant and other asset dispositions of $555,000 were included in the 2001 amount. Pre-opening costs of $1.1 million, relocation costs of $1.3 million and net gains on restaurant and other asset dispositions of $200,000 were included in the 2000 amount. The 2001 amount also includes costs related to franchise support initiatives undertaken during 2001.

 

Depreciation and amortization was $35.2 million and $34.2 million in 2001 and 2000, respectively, or 3.6% of revenues for both years, including goodwill amortization of $2.8 million for 2001 and $2.9 million for 2000. The adoption of SFAS 142 will result in a reduction of approximately $2.8 million in

 

28



 

amortization expense beginning in 2002 (see “Note 2” of the “Notes to Consolidated Financial Statements”).

 

Net Interest.  Net interest expense was $6.9 million in 2001 compared to $5.8 million in 2000 due to an increase in the average debt balance outstanding for 2001 incurred by the Company to fund our share repurchase program, partially offset by lower effective interest rates. The average interest rate on our debt was 6.6% in 2001 compared to 7.1% in 2000.

 

Income Tax Expense. The effective income tax rate was 37.7% in 2001 compared to 38.3% in 2000 due primarily to effective state and local tax planning strategies.

 

Operating Income and Earnings per Common Share.  Operating income in 2001 was $82.8 million, or 8.5% of total revenues, compared to $57.4 million, or 6.1% of total revenues in 2000. The increase in 2001 operating income as a percentage of sales was principally due to the impact of the special charges recorded in 2000 ($20.9 million), a decrease in the provision for uncollectible notes receivable ($3.7 million), and a decrease in general and administrative expenses ($2.9 million). These increases in operating income were partially offset by a decrease in restaurant operating margin.

 

Diluted earnings per share were $2.08 in 2001 compared to $1.28 in 2000. In December 1999, the Company began a repurchase program for its common stock.  Through December 30, 2001, a total of 8.9 million shares were repurchased under this program.  The repurchase of the Company’s common shares resulted in an increase in diluted earnings per share of approximately $0.11 in 2001 as compared to 2000.

 

2000 Compared to 1999

 

On November 29, 1999, our wholly owned subsidiary, Papa John’s UK, acquired Perfect Pizza Holdings Limited, which, at the time of acquisition, operated and franchised 206 restaurants in the United Kingdom (see “Note 3” of “Notes to Consolidated Financial Statements”). The Consolidated Statements of Income contain financial results for Papa John’s UK for the full year in 2000 (reflecting total revenues of $28.7 million and operating income of $1.4 million) and financial results only for the month of December in 1999 (reflecting total revenues of $2.9 million and operating income of $332,000).

 

Revenues. Total revenues increased 17.3% to $944.7 million in 2000, from $805.3 million in 1999.

 

Domestic Company-owned restaurant sales increased 15.7% to $456.6 million in 2000, from $394.6 million in 1999. This increase was primarily due to a 13.2% increase in the number of equivalent Company-owned restaurants open during 2000 as compared to 1999. Also, comparable sales increased 3.0% over 1999 and 2000 contained 53 weeks as compared to 52 weeks in 1999 (a 1.9% increase in operating weeks).

 

Domestic franchise sales increased 17.6% to $1.21 billion in 2000, from $1.03 billion in 1999. This increase primarily resulted from a 16.9% increase in the number of equivalent franchised domestic restaurants open during 2000 compared to 1999. Also, comparable sales for franchised restaurants increased 2.1% in 2000 and 2000 included the favorable impact of the above noted increase in operating weeks. Domestic franchise royalties increased 16.2% to $47.1 million in 2000, from $40.6 million in 1999. This increase resulted from the increase in domestic franchise sales previously described.

 

29



The comparable sales base and average weekly sales for 2000 and 1999 for domestic Company-owned and domestic franchised restaurants consisted of the following:

 

 

 

Year Ended

 

Year Ended

 

 

 

December 31, 2000

 

December 26, 1999

 

 

 

Company

 

Franchise

 

Company

 

Franchise

 

Total units (end of year)

 

631

 

1,902

 

573

 

1,681

 

Equivalent units

 

596

 

1,764

 

526

 

1,500

 

Comparable sales base units

 

498

 

1,281

 

416

 

1,034

 

Comparable sales base percentage

 

83.6

%

72.6

%

79.1

%

68.9

%

Average weekly sales — comparable units

 

$

14,917

 

$

13,836

 

$

14,886

 

$

14,028

 

Average weekly sales — other units

 

$

12,167

 

$

10,670

 

$

12,687

 

$

11,441

 

Average weekly sales — all units

 

$

14,466

 

$

12,969

 

$

14,426

 

$

13,225

 

 

Domestic franchise and development fees decreased 14.6% to $5.6 million in 2000, from $6.5 million in 1999 due primarily to 74 fewer domestic unit openings in 2000 compared to 1999.  The decrease in franchise unit openings was partially offset by an increase in average fees per restaurant opening.

 

Domestic commissary, equipment and other sales increased 12.4% to $404.5 million in 2000, from $360.0 million in 1999. This increase was primarily the result of the previously mentioned increase in the number of equivalent franchise restaurants and franchise comparable sales, partially offset by lower cheese sales prices.

 

International revenues consist of Papa John’s UK operations (92.9% of total 2000 international revenues), and combined revenues from operations in nine other international markets. The increase in revenues in 2000 as compared to 1999 is due to 1999 operations reflecting one month of Papa John’s UK financial results compared to a full year in 2000.

 

Costs and Expenses.  The restaurant-operating margin for domestic Company-owned units was 19.2% in 2000 compared to 19.9% in 1999, consisting of the following differences:

 

•                  Cost of sales was 1.0% lower in 2000 compared to 1999 due to a decrease in cheese costs, partially offset by an increase in certain other commodity costs.

•                  Salaries and benefits were 0.9% higher in 2000 compared to 1999 due to higher wage rates in response to increasing labor cost pressures.

•                  Advertising and related costs remained consistent as a percentage of restaurant sales at 9.1% for both 2000 and 1999.

•                  Occupancy costs were 0.1% higher in 2000 compared to 1999 due to higher utility and rental costs.

•                  Other operating expenses were 0.7% higher in 2000 compared to 1999. The increase in other operating expenses as a percentage of restaurant sales was primarily due to an increase in mileage reimbursement for drivers, sponsorship fees and the provision for potentially uncollectible accounts receivable.

 

Domestic commissary, equipment and other margin was 10.3% in 2000 compared to 9.4% in 1999. Cost of sales decreased to 75.2% in 2000 from 76.3% in 1999, principally due to lower commodity costs, primarily resulting from lower cheese costs.  Salaries and benefits and other operating costs as a percentage of sales increased to 14.4% in 2000 from 14.3% in 1999. This increase primarily reflects the

 

30



 

lower cheese prices in 2000 as compared to 1999, partially offset by the leverage of fixed expenses against a higher sales base.

 

International operating expenses in 2000 are substantially comprised of the Papa John’s UK operations acquired in November 1999.

 

General and administrative expenses increased to 7.7% of revenues for 2000 compared to 6.8% of revenues in 1999.  This increase is primarily due to the cost of additional support services, such as field marketing, training and international development, required for our expanded operations as well as the addition of Papa John’s UK.

 

As previously discussed, during 2000, the Company incurred $20.9 million of special charges, which consisted of a write-down of asset carrying value of $16.0 million and the establishment of accrued liabilities for cash payments of $4.9 million. See “Item. 3 Legal Proceedings” and “Note 4” of “Notes to Consolidated Financial Statements” for additional information.

 

The provision for uncollectible notes receivable relates to a reserve of $4.2 million in 2000 (none in 1999) for franchisee notes receivable. We concluded the reserve was necessary due to certain franchisees’ deteriorating economic performance and underlying collateral value of the restaurant’s assets. Substantially all of the reserve related to a related party franchisee notes receivable, which was written-off during 2001 without any additional impact on earnings (see “Note 7” of the “Notes to Consolidated Financial Statements”).

 

Pre-opening and other general expenses decreased to $2.2 million in 2000 from $3.4 million in 1999.  Pre-opening costs of $1.1 million, relocation costs of $1.3 million and net gains on restaurant and other asset dispositions of $200,000 were included in the 2000 amount, as compared to pre-opening costs of $759,000, relocation costs of $1.3 million and net losses on restaurant and other asset dispositions of $1.4 million in 1999.

 

Depreciation and amortization was $34.2 million (3.6% of revenues) in 2000 compared to $24.8 million  (3.1% of revenues) in 1999. The increase in 2000 is primarily due to a full year of depreciation on the corporate headquarters facility and a full year of goodwill amortization on the Papa John’s UK acquisition, compared to only a partial year impact of each of these items in 1999, as well as the goodwill amortization related to restaurants purchased during 2000.  The purchase of Papa John’s UK in November 1999 resulted in $30.9 million of goodwill.  Total goodwill amortization for the Company was $2.9 million in 2000 compared to $1.1 million in 1999.

 

Net Interest.  Net interest expense was $5.8 million in 2000 compared to net interest income of $3.2 million in 1999, due to the cash used and debt incurred to fund the share repurchase program. The average interest rate on our debt was 7.1% in 2000 compared to 6.6% in 1999.

 

Income Tax Expense. The effective income tax rate increased to 38.3% in 2000 compared to 37.6% for 1999, due primarily to the sale of certain tax-exempt investments during the fourth quarter of 1999 to fund the Papa John’s UK acquisition and to begin funding the share repurchase program.

 

Operating Income and Earnings per Common Share.  Operating income in 2000 was $57.4 million, or 6.1% of total revenues, as compared to $72.5 million or 9.0% of total revenues. The decline in 2000 operating income, as compared to 1999, was principally due to special charges of $20.9 million recorded during 2000 as compared to $6.1 million in 1999, an increase in the provision for uncollectible notes receivable of $4.2 million in 2000, a decrease in the restaurant operating margin and the previously mentioned increase in general and administrative expenses.

 

31



 

Diluted earnings per share were $1.28 in 2000 compared to $1.52 in 1999. The decrease is due to the special charges recorded in 2000, partially offset by the common stock repurchase that began in December 1999.  Through December 31, 2000, a total of 7.6 million shares were repurchased under this program.  The repurchase of the Company’s common shares resulted in an $0.11 increase in the diluted earnings per share for 2000 as compared to 1999.

 

Liquidity and Capital Resources

 

Cash flow from operations for 2001 increased to $96.4 million from $76.7 million in 2000 due primarily to changes in deferred income taxes and other working capital, principally a reduction in inventory levels.

 

Cash flow from operations for 2000 decreased to $76.7 million from $89.6 million in 1999 primarily due to an increase in working capital requirements, principally changes in deferred income taxes, increases in inventory levels (including accumulation of hot bag inventory for continued installation in franchise restaurants during 2001), changes in accounts payable and accrued expense levels and a decrease in tax benefits related to the exercise of non-qualified stock options.

 

We require capital primarily for the development, acquisition and maintenance of restaurants, new or replacement QC Centers and Support Services facilities and equipment, the enhancement of corporate systems and facilities and the funding of franchisee loans. Additionally, we began a common stock repurchase program in December 1999. During 2001, common stock repurchases of $29.4 million, capital expenditures of $31.5 million and net repayments on debt of $41.3 million were primarily funded by cash flow from operations, proceeds from stock option exercises, proceeds from restaurant divestitures, the liquidation of investments and available cash and cash equivalents.

 

Total 2002 capital expenditures are expected to be approximately $38.0 million to $40.0 million, about one-half of which is for the development, relocation or remodeling of restaurants, and about one-half of which is for QC Centers, Support Services and corporate requirements. During 2002, we plan to open approximately 10 to 15 new domestic Company-owned restaurants.

 

Additionally, we may fund up to $7.6 million to BIBP under an existing loan commitment (see “Note 11” of “Notes to Consolidated Financial Statements”). As of December 30, 2001, we had loans to franchisees, net of allowance for doubtful accounts, of $17.6 million. We do not have any additional loan funding commitments related to existing franchisee loans and we do not expect to fund significant amounts related to any new loans we may extend. We have guaranteed up to $2.0 million of external bank borrowings by BIBP and up to $3.0 million of borrowings by the Marketing Fund as of December 30, 2001. We do not anticipate any losses from these guarantees.

 

The Board of Directors has authorized up to $275.0 million for the share repurchase program through December 29, 2002. At December 30, 2001, a total of 8.9 million shares have been repurchased for $217.3 million at an average price of $24.54 per share since the repurchase program started in 1999 (approximately 1.2 million shares in 2001, 6.4 million shares in 2000 and 1.3 million shares in 1999). Subsequent to year-end (through March 15, 2002), we acquired an additional 1.3 million shares at an aggregate cost of $35.2 million. As of March 15, 2002, approximately $22.5 million of common stock remains available for repurchase under this authorization.

 

The Company expects to fund the planned capital expenditures and any additional share repurchases for the next twelve months from operating cash flow and the remaining availability under our $200.0 million unsecured revolving line of credit.  The Company’s debt, which is primarily due to the share repurchase program, was $105.3 million at December 30, 2001 compared to $146.6 million at December 31, 2000.

 

32



 

The line of credit expires in March 2003. We do not anticipate any problems in renewing the line of credit for periods subsequent to March 2003.

 

Through December 2001, we earned approximately $7.1 million ($1.1 million in both 2001 and 2000, $2.9 million in 1999 and $2.0 million in previous years) of an expected $13.0 million in incentives under the Kentucky Jobs Development Act in connection with the relocation of the corporate offices. We expect to earn the remaining $5.9 million of such incentives through 2007.

 

Contractual obligations and payments as of December 30, 2001 due by year are as follows (in thousands):

 

 

 

Payments Due by Period

 

 

 

Less than

 

 

 

 

 

After

 

 

 

 

 

1 Year

 

1 — 3 Years

 

4 — 5 Years

 

5 Years

 

Total

 

Contractual Obligations:

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

$

225

 

$

485

 

$

—

 

$

—

 

$

710

 

Revolving line of credit

 

—

 

104,600

 

—

 

—

 

104,600

 

Total debt

 

225

 

105,085

 

—

 

—

 

105,310

 

Operating leases

 

20,690

 

35,217

 

23,081

 

24,832

 

103,820

 

Total contractual obligations

 

$

20,915

 

$

140,302

 

$

23,081

 

$

24,832

 

$

209,130

 

 

We have certain other commercial commitments where payment is contingent upon the occurrence of certain events. Such commitments include the following by year (in thousands):

 

 

 

Amount of Commitment Expiration Per Period

 

 

 

Less than

 

 

 

 

 

After

 

 

 

 

 

1 Year

 

1 — 3 Years

 

4 — 5 Years

 

5 Years

 

Total

 

Other Commercial Commitments:

 

 

 

 

 

 

 

 

 

 

 

Loan commitment

 

$

—

 

$

7,600

 

$

—

 

$

—

 

$

7,600

 

Standby letters of credit

 

7,868

 

—

 

—

 

—

 

7,868

 

Guarantees

 

2,000

 

3,000

 

—

 

—

 

5,000

 

Total other commercial commitments

 

$

9,868

 

$

10,600

 

$

—

 

$

—

 

$

20,468

 

 

See “Notes 5, 11 and 12” of “Notes to Consolidated Financial Statements” for additional information related to contractual and other commitments.

 

Impact of Inflation

 

We do not believe inflation has materially affected earnings during the past three years. Substantial increases in costs, particularly food, labor, benefits, utilities and fuel costs, could have a significant impact on us.

 

33



 

Forward-Looking Statements

 

Certain information contained in this annual report, particularly information regarding future financial performance and plans and objectives of management, is forward-looking. Certain factors could cause actual results to differ materially from those expressed in forward-looking statements. These factors include, but are not limited to, our ability and the ability of our franchisees to obtain suitable locations and financing for new restaurant development; the hiring, training, and retention of management and other personnel; competition in the industry with respect to price, service, location, and food quality; an increase in food cost due to seasonal fluctuations, weather, and demand; changes in consumer tastes and demographic trends; changes in federal and state laws, such as increases in minimum wage; and risks inherent to international development, including operational or market risks associated with the planned conversion of Perfect Pizza restaurants to Papa John’s in the United Kingdom.

 

Item 7A.  Quantitative and Qualitative Disclosures about Market Risk

 

The Company’s debt at December 30, 2001 is principally comprised of a $104.6 million outstanding principal balance on the $200.0 million unsecured revolving line of credit. The interest rate on the revolving line of credit is variable and is based on the London Interbank Offered Rate (LIBOR). The interest rate on the revolving line of credit was 2.37% as of December 30, 2001. In March 2000, we entered into a $100.0 million interest rate collar, which is effective until March 2003. The collar establishes a 6.36% floor and a 9.50% ceiling on the LIBOR base rate on a no-fee basis. As a result of the collar, the effective interest rate on the line of credit was 6.66% as of December 30, 2001. An increase in the interest rate of 100 basis points on the debt balance outstanding as of December 30, 2001, which would be mitigated by the interest rate collar based on present interest rates, would increase interest expense approximately $46,000 annually.

 

During 2001, the Company entered into an interest rate swap agreement that provides for a fixed rate of 5.31%, as compared to LIBOR, on $100.0 million of floating rate debt from March 2003 to March 2004, reducing to a notional value of $80.0 million from March 2004 to March 2005, and reducing to a notional value of $60.0 million in March 2005 with an expiration date of March 2006.

 

Substantially all of our business is transacted in U.S. dollars. Accordingly, foreign exchange rate fluctuations do not have a significant impact on the Company.

 

Cheese, representing approximately 35% to 40% of our food cost, is subject to seasonal fluctuations, weather, availability, demand and other factors that are beyond our control. We have entered into a purchasing arrangement with a third-party entity formed at the direction of the Franchise Advisory Council for the sole purpose of reducing cheese price volatility. Under this arrangement, we are able to purchase cheese at a fixed price per pound throughout a given quarter, based in part on historical average cheese prices. Gains and losses incurred by the selling entity are used as a factor in determining adjustments to the selling price over time. As a result, for any given quarter, the established price paid by the Company may be less than or greater than the prevailing average market price. Over the long term, we expect to purchase cheese at a price approximating the actual average market price, with less short-term volatility.  See “Note 11” of “Notes to Consolidated Financial Statements” for further information.  The Company does not generally make use of financial instruments to hedge commodity prices, partly because of the arrangement with BIBP.

 

34



 

Item 8.  Financial Statements and Supplementary Data

 

 

 

 

 

 

 

 

 

 

Papa John’s International, Inc. and Subsidiaries

 

 

 

 

Consolidated Statements of Income

 

 

 

 

 

 

 

Year Ended

 

 

 

December 30,

 

December 31,

 

December 26,

 

 

 

2001

 

2000

 

1999

 

Domestic revenues:

 

(In thousands, except per share amounts)

 

Restaurant sales

 

$

445,849

 

$

456,637

 

$

394,636

 

Franchise royalties

 

50,768

 

47,145

 

40,567

 

Franchise and development fees

 

2,927

 

5,559

 

6,511

 

Commissary sales

 

387,049

 

351,255

 

306,909

 

Equipment and other sales

 

52,730

 

53,233

 

53,078

 

International revenues:

 

 

 

 

 

 

 

Royalties and franchise and development fees

 

5,895

 

5,302

 

1,063

 

Restaurant and commissary sales

 

26,014

 

25,546

 

2,561

 

Total revenues

 

971,232

 

944,677

 

805,325

 

Costs and expenses:

 

 

 

 

 

 

 

Domestic restaurant expenses:

 

 

 

 

 

 

 

Cost of sales

 

110,632

 

111,609

 

100,261

 

Salaries and benefits

 

130,882

 

127,318

 

106,713

 

Advertising and related costs

 

35,297

 

41,729

 

36,008

 

Occupancy costs

 

25,326

 

23,248

 

19,541

 

Other operating expenses

 

60,721

 

65,074

 

53,463

 

 

 

362,858

 

368,978

 

315,986

 

Domestic commissary, equipment and other expenses:

 

 

 

 

 

 

 

Cost of sales

 

323,954

 

304,338

 

274,613

 

Salaries and benefits

 

30,124

 

27,682

 

23,719

 

Other operating expenses

 

41,053

 

30,736

 

27,702

 

 

 

395,131

 

362,756

 

326,034

 

International operating expenses

 

21,739

 

21,700

 

2,090

 

General and administrative expenses

 

69,487

 

72,402

 

54,386

 

Special charges

 

—

 

20,922

 

6,104

 

Provision for uncollectible notes receivable

 

537

 

4,200

 

—

 

Pre-opening and other general expenses

 

3,521

 

2,158

 

3,414

 

Depreciation and amortization

 

35,176

 

34,172

 

24,827

 

Total costs and expenses

 

888,449

 

887,288

 

732,841

 

Operating income

 

82,783

 

57,389

 

72,484

 

Other income (expense):

 

 

 

 

 

 

 

Investment income

 

1,958

 

1,943

 

3,384

 

Interest expense

 

(8,857

)

(7,746

)

(151

)

Income before income taxes

 

75,884

 

51,586

 

75,717

 

Income tax expense

 

28,639

 

19,762

 

28,431

 

Net income

 

$

47,245

 

$

31,824

 

$

47,286

 

 

 

 

 

 

 

 

 

Basic earnings per common share

 

$

2.09

 

$

1.29

 

$

1.57

 

Earnings per common share — assuming dilution

 

$

2.08

 

$

1.28

 

$

1.52

 

 

 

 

 

 

 

 

 

Basic weighted average shares outstanding

 

22,600

 

24,703

 

30,195

 

Diluted weighted average shares oustanding

 

22,753

 

24,907

 

31,080

 

 

 

 

 

 

 

 

 

Supplemental data:

 

 

 

 

 

 

 

Revenues — affiliates

 

$

114,616

 

$

116,770

 

$

102,863

 

Other income — affiliates

 

660

 

920

 

314

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

 

 

 

 

 

 

 

35



Papa John's International, Inc. and Subsidiaries

Consolidated Balance Sheets

 

 

 

December 30,

 

December 31,

 

 

 

2001

 

2000

 

 

 

(Dollars in thousands, except per share amounts)

 

Assets