UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

 

 

 

Commission File Number 0-18859

 

 

SONIC CORP.

(Exact name of registrant as specified in its charter)

 

 

Registrant’s telephone number, including area code:   (405) 280-7654

 

 

Indicate by check mark whether the Registrant (1) has filed all reports required by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for the shorter period that the Registrant has had to file the reports), and (2) has been subject to the filing requirement for the past 90 days.
Yes  ý.  No o.

 

As of May 31, 2002, the Registrant had 40,402,788 shares of common stock issued and outstanding (excluding 8,030,201 shares of common stock held as treasury stock).

 

SONIC CORP.

Index

 

 

PART I.  FINANCIAL INFORMATION			Page Number
Item 1.	Financial Statements
	Condensed Consolidated Balance Sheets at May 31, 2002 and August 31, 2001		3
	Condensed Consolidated Statements of Income for the three months and nine months ended May 31, 2002 and 2001		4
	Condensed Consolidated Statements of Cash Flows for the nine months ended May 31, 2002 and 2001		5
	Notes to Condensed Consolidated Financial Statements		6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		9
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		15
PART II.  OTHER INFORMATION
Item 1.	Legal Proceedings		16
Item 2.	Changes in Securities		16
Item 3.	Defaults Upon Senior Securities		16
Item 4.	Submission of Matters to a Vote of Security Holders		16
Item 5.	Other Information		16
Item 6.	Exhibits and Reports on Form 8-K		16

 

 

SONIC CORP.

 

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

 

ASSETS		(Unaudited) May 31, 2002			August 31, 2001
Current assets:
Cash and cash equivalents		$	8,477		$	6,971
Accounts and notes receivable, net		11,703			12,142
Other current assets		4,987			4,416
Total current assets		25,167			23,529
Property, equipment and capital leases		399,150			354,874
Less accumulated depreciation and amortization		(96,619		)	(81,676		)
Property, equipment and capital leases, net		302,531			273,198
Goodwill, net		46,187			38,850
Trademarks, trade names and other intangible assets, net		6,817			6,980
Investment in deferred financing leases and noncurrent portion of notes receivable		14,595			14,523
Other assets, net		845			920
Intangibles and other assets, net		68,444			61,273
Total assets		$	396,142		$	358,000
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	13,511		$	8,052
Deposits from franchisees		543			1,020
Accrued liabilities		18,286			15,499
Income taxes payable		2,859			1,210
Obligations under capital leases and long-term debt due within one year		1,082			1,083
Total current liabilities		36,281			26,864
Obligations under capital leases due after one year		12,231			12,801
Long-term debt due after one year		109,274			108,972
Other noncurrent liabilities		7,596			8,644
Contingencies (Note 2)
Stockholders’ equity:
Preferred stock, par value $.01; 1,000,000 shares authorized; none outstanding		—			—
Common stock, par value $.01; 100,000,000 shares authorized; 48,432,989 shares issued (47,870,847 shares issued at August 31, 2001)		484			479
Paid-in capital		85,785			78,267
Retained earnings		219,984			188,434
		306,253			267,180
Treasury stock, at cost; 8,030,201 common shares (7,544,018 shares at August 31, 2001)		(75,493		)	(66,461		)
Total stockholders’ equity		230,760			200,719
Total liabilities and stockholders’ equity		$	396,142		$	358,000

 

See accompanying notes.

 

3

 

 

SONIC CORP.

 

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(in thousands, except per share data)

 

 

		(Unaudited)						(Unaudited)
		Three months ended May 31,						Nine months ended May 31,
		2002			2001			2002			2001
Revenues:
Company-owned restaurant sales		$	92,280		$	75,270		$	231,356		$	181,450
Franchised restaurants:
Franchise royalties		16,816			14,041			43,219			38,099
Franchise fees		930			1,032			2,658			2,819
Other		1,265			1,296			2,963			3,484
		111,291			91,639			280,196			225,852
Cost and expenses:
Company-owned restaurants:
Food and packaging		23,594			19,277			60,770			47,526
Payroll and other employee benefits		25,839			20,799			66,575			51,703
Other operating expenses		15,539			12,862			43,484			34,467
		64,972			52,938			170,829			133,696
Selling, general and administrative		8,729			8,109			24,173			22,014
Depreciation and amortization		6,611			6,209			19,305			17,195
Minority interest in earnings of restaurants		5,106			4,199			9,817			7,875
Provision for impairment of long-lived assets		604			348			1,171			348
		86,022			71,803			225,295			181,128
Income from operations		25,269			19,836			54,901			44,724
Interest expense		1,807			1,801			5,398			4,859
Interest income		(271		)	(261		)	(776		)	(779		)
Net interest expense		1,536			1,540			4,622			4,080
Income before income taxes		23,733			18,296			50,279			40,644
Provision for income taxes		8,841			6,815			18,729			15,140
Net income		$	14,892		$	11,481		$	31,550		$	25,504
Net income per share — basic		$	.37		$	.29		$	.79		$	.64
Net income per share — diluted		$	.35		$	.27		$	.75		$	.61

 

See accompanying notes.

 

4

 

SONIC CORP.

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

 

		(Unaudited)
		Nine months ended May 31,
		2002			2001
Cash flows from operating activities:
Net income		$	31,550		$	25,504
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		19,305			17,195
Other		1,260			405
Increase in operating assets		(503		)	(2,526		)
Increase (decrease) in operating liabilities		7,787			(522		)
Total adjustments		27,849			14,552
Net cash provided by operating activities		59,399			40,056
Cash flows from investing activities:
Purchases of property and equipment		(38,262		)	(41,459		)
Acquisition of businesses, net of cash received		(20,475		)	(28,061		)
Other		2,774			1,674
Net cash used in investing activities		(55,963		)	(67,846		)
Cash flows from financing activities:
Payments on long-term debt		(88,051		)	(154,092		)
Proceeds from long-term borrowings		88,290			177,305
Purchases of treasury stock		(9,032		)	(380		)
Proceeds from exercise of stock options		7,523			4,761
Other		(660		)	(530		)
Net cash (used in) provided by financing activities		(1,930		)	27,064
Net increase (decrease) in cash and cash equivalents		1,506			(726		)
Cash and cash equivalents at beginning of period		6,971			3,477
Cash and cash equivalents at end of period		$	8,477		$	2,751

 

See accompanying notes.

 

5

 

SONIC CORP.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(in thousands, except per share data)

 

Note 1

 

The unaudited Condensed Consolidated Financial Statements include all adjustments, consisting of normal, recurring accruals which Sonic Corp. (the “Company”) considers necessary for a fair presentation of the financial position and the results of operations for the indicated periods.  In certain situations, these accruals, including franchise royalties, are based on more limited information at interim reporting dates than at the Company’s fiscal year end due to the abbreviated reporting period.  Actual results may differ from these estimates.  The notes to the condensed consolidated financial statements should be read in conjunction with the notes to the consolidated financial statements contained in the Company’s Form 10-K for the fiscal year ended August 31, 2001.  The results of operations for the nine months ended May 31, 2002, are not necessarily indicative of the results to be expected for the full year ending August 31, 2002.

 

During fiscal year 2001, the Company acquired a net of 50 existing franchise restaurants, including 35 restaurants located in the Tulsa, Oklahoma market, from franchisees and other minority investors.  The acquisitions have been accounted for under the purchase method of accounting, with the results of operations of these restaurants included with that of the Company’s commencing January 1, 2001.  See Note 5 of Notes to Consolidated Financial Statements in the Company’s Form 10-K for the fiscal year ended August 31, 2001, for more information regarding the acquisitions.

 

Note 2

 

The Company is involved in various legal proceedings and has certain unresolved claims pending.  The Company’s ultimate liability, if any, for the aggregate amounts claimed cannot be determined at this time.  Management believes that all claims currently pending are either adequately covered by insurance or would not have a material adverse effect on the Company’s business or financial condition.

 

Note 3

 

The following table sets forth the computation of basic and diluted earnings per share:

 

		Three months ended May 31,						Nine months ended May 31,
		2002			2001			2002			2001
Numerator:
Net income		$	14,892		$	11,481		$	31,550		$	25,504
Denominator:
Weighted average shares outstanding — basic		40,298			39,925			40,103			39,736
Effect of dilutive employee stock options		2,132			1,859			2,056			1,847
Weighted average shares — diluted		42,430			41,784			42,159			41,583
Net income per share — basic		$	.37		$	.29		$	.79		$	.64
Net income per share — diluted		$	.35		$	.27		$	.75		$	.61

 

6

 

Note 4

 

The Company elected to early adopt Statement No. 142, “Goodwill and Other Intangible Assets,” effective September 1, 2001.  The following tables disclose what reported net income would have been for the three months and nine months ended May 31, 2002 and 2001 exclusive of amortization expense (including any related tax effects) recognized in those periods related to goodwill and intangible assets that are no longer being amortized.  Similarly adjusted per-share amounts have also been presented.

 

 

		Three months ended May 31,						Nine months ended May 31,
		2002			2001			2002			2001
Net income:
Reported net income		$	14,892		$	11,481		$	31,550		$	25,504
Add back: Goodwill amortization		—			378			—			813
Add back: Trademarks and trade names Amortization		—			35			—			104
Adjusted net income		$	14,892		$	11,894		$	31,550		$	26,421
Net income per share — basic:
Reported net income		$	.37		$	.29		$	.79		$	.64
Goodwill amortization		—			.01			—			.02
Trademarks and trade names amortization		—			—			—			—
Adjusted net income		$	.37		$	.30		$	.79		$	.66
Net income per share — diluted:
Reported net income		$	.35		$	.27		$	.75		$	.61
Goodwill amortization		—			.01			—			.02
Trademarks and trade names amortization		—			—			—			—
Adjusted net income		$	.35		$	.28		$	.75		$	.63

 

Note 5

 

Effective April 1, 2002, the Company acquired 23 existing franchise restaurants located in the Wichita, Kansas market from franchisees and various minority investors.  The Company’s cash acquisition cost, prior to post-closing adjustments, of approximately $19.3 million consisted of real estate ($10.5 million), equipment ($1.7 million), the drive-ins’ operating assets ($0.1 million) and goodwill ($7.0 million).  The Company funded the acquisition through cash flow rom operations and its existing line of credit facility.  The results of operations of these restaurants have been included with that of the Company’s commencing April 1, 2002.

 

7

 

Note 6

 

Certain amounts have been reclassified on the condensed consolidated financial statements to conform to the fiscal year 2002 presentation.

 

Note 7

 

In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”  SFAS No. 144 requires that an impairment loss be recognized only if the carrying amount of a long-lived asset is not recoverable from its undiscounted cash flows and that the measurement of any impairment loss be the difference between the carrying amount and the fair value of the asset.  Adoption of SFAS No. 144 is required for financial statements for periods beginning after December 15, 2001.  The Company is evaluating the provisions of SFAS No. 144 and believes the adoption of this new standard will not have a material impact on its consolidated financial position or results of operation.

 

8

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

This Form 10-Q contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  Forward-looking statements represent the Company’s expectations or beliefs concerning future events, including the following: any statements regarding future sales or expenses, any statements regarding the continuation of historical trends, and any statements regarding the sufficiency of the Company’s working capital and cash generated from operating and financing activities for the Company’s future liquidity and capital resource needs.  Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” and similar expressions are intended to identify forward-looking statements.  The Company cautions that those statements are further qualified by important economic and competitive factors that could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, risks of the restaurant industry, including a highly competitive industry and the impact of changes in consumer spending patterns, consumer tastes, local, regional and national economic conditions, weather, demographic trends, traffic patterns, employee availability and cost increases.  In addition, the opening and success of new restaurants will depend on various factors, including the availability of suitable sites for new restaurants, the negotiation of acceptable lease or purchase terms for new locations, permitting and regulatory compliance, the ability of the Company and its franchisees to manage the anticipated expansion and hire and train personnel, the financial viability of the Company’s franchisees, particularly multi-unit operators, and general economic and business conditions.  Accordingly, such forward-looking statements do not purport to be predictions of future events or circumstances and may not be realized.

 

Results of Operations

 

The Company derives its revenues primarily from Company-owned restaurant sales and royalty fees from franchisees.  The Company also receives revenues from initial franchise fees, area development fees, and the selling and leasing of signs and real estate.  Costs of Company-owned restaurant sales and minority interest in earnings of restaurants relate directly to Company-owned restaurant sales.  Other expenses, such as depreciation, amortization, and general and administrative expenses, relate to both Company-owned restaurant operations, as well as the Company’s franchising operations.  The Company’s revenues and expenses are directly affected by the number and sales volumes of Company-owned restaurants.  The Company’s revenues and, to a lesser extent, expenses also are affected by the number and sales volumes of franchised restaurants.  Initial franchise fees and franchise royalties are directly affected by the number of franchised restaurant openings.

 

The following table sets forth the percentage relationship to total revenues, unless otherwise indicated, of certain items included in the Company’s statements of income.  The table also sets forth certain restaurant data for the periods indicated.

 

9

 

PERCENTAGE RESULTS OF OPERATIONS

 

 

		Three months ended May 31,					Nine months ended May 31,
		2002		2001			2002			2001
INCOME STATEMENT DATA:
Revenues:
Company-owned restaurant sales		82.9	%	82.2		%	82.6		%	80.3		%
Franchised restaurants:
Franchise royalties		15.1		15.3			15.4			16.9
Franchise fees		0.8		1.1			0.9			1.3
Other		1.2		1.4			1.1			1.5
		100.0	%	100.0		%	100.0		%	100.0		%
Cost and expenses:
Company-owned restaurants (1):
Food and packaging		25.6	%	25.6		%	26.2		%	26.2		%
Payroll and other employee benefits		28.0		27.6			28.8			28.5
Other operating expenses		16.8		17.1			18.8			19.0
		70.4	%	70.3		%	73.8		%	73.7		%
Selling, general and administrative		7.8		8.8			8.6			9.7
Depreciation and amortization		5.9		6.8			6.9			7.6
Minority interest in earnings of restaurants (1)		5.5		5.6			4.2			4.3
Provision for impairment of long-lived assets		0.5		0.4			0.4			0.2
Income from operations		22.7		21.6			19.6			19.8
Net interest expense		1.4		1.7			1.6			1.8
Net income		13.4	%	12.5		%	11.3		%	11.3		%
RESTAURANT OPERATING DATA:
RESTAURANT COUNT (2):
Company-owned restaurants:
Core-markets		349		295			349			295
Developing markets		90		85			90			85
All markets		439		380			439			380
Franchise restaurants		2,032		1,913			2,032			1,913
System-wide restaurants		2,471		2,293			2,471			2,293
SALES DATA ($ in thousands):
System-wide sales		$ 604,440		$	543,264		$	1,567,180		$	1,389,365
Percentage increase (3)		11.3	%	13.7		%	12.8		%	9.5		%
Average sales per restaurant:
Company-owned		$ 217		$	209		$	566		$	544
Franchise		256		247			674			642
System-wide		248		240			653			624
Change in comparable restaurant sales (4):
Company-owned restaurants:
Core markets		3.2	%	5.9		%	3.5		%	1.1		%
Developing markets		(1.0	)	1.0			(1.6		)	(2.0		)
All markets		2.4		4.9			2.6			0.5
Franchise		3.2		4.7			4.2			0.7
System-wide		3.1		4.8			4.0			0.7

 

(1)  As a percentage of Company-owned restaurant sales.

(2)  Number of restaurants open at end of period.

(3)  Represents percentage increase from the comparable period in the prior year.

(4)  Represents percentage increase (decrease) for restaurants open in both the current and prior year.

 

10

 

Comparison of the Third Fiscal Quarter of 2002 to the Third Fiscal Quarter of 2001.

 

Total revenues increased 21.4% to $111.3 million in the third fiscal quarter of 2002 from $91.6 million in the third fiscal quarter of 2001.  Company-owned restaurant sales increased 22.6% to $92.3 million in the third fiscal quarter of 2002 from $75.3 million in the third fiscal quarter of 2001.  Of the $17.0 million increase in Company-owned restaurant sales, $15.3 million was due to the net addition of 127 Company-owned restaurants since the beginning of fiscal year 2001 ($15.8 million from the addition of 61 newly constructed restaurants and 75 acquired restaurants since the beginning of fiscal year 2001 less $0.5 million from nine stores sold or closed during the same period).  Sales increases of 2.4% by stores open the full reporting periods of fiscal years 2002 and 2001 accounted for $1.7 million of the increase.  The Company expects to achieve its targeted rate of increase for same-store sales of 2% to 4% for the balance of the fiscal year as a result of sales driving initiatives including increased media spending, continued focus on new products, and the impact of expanding the Company’s breakfast program to additional markets during March and April 2002.

 

Franchise royalties increased 19.8% to $16.8 million in the third fiscal quarter of 2002, compared to $14.0 million in the third fiscal quarter of 2001.  The Company expects royalty revenues to grow between $7.0 to $8.0 million for fiscal year 2002 as a result of continued volume increases, new store openings, ongoing license conversions and the automatic step-up feature contained in many older license agreements.  Franchise fees decreased 9.9% as 33 franchise drive-ins opened in the third fiscal quarter of 2002 compared to 36 in the same period of fiscal year 2001.

 

Other income remained flat in the third fiscal quarter of 2002 compared to the third fiscal quarter of 2001.  The Company expects other income of $0.8 million to $0.9 million in the fourth quarter of fiscal year 2002.

 

Restaurant cost of operations, as a percentage of Company-owned restaurant sales, was 70.4% in the third fiscal quarter of 2002, compared to 70.3% in the third fiscal quarter of 2001.  Food and packaging costs, as a percentage of Company-owned restaurant sales, remained relatively flat decreasing four basis points as a result of lower unit level costs for several items including beef and dairy costs.  Looking forward, the Company expects food and packaging costs to remain relatively flat for the next few quarters.

 

Payroll and employee benefits, as a percentage of Company-owned restaurant sales, increased 37 basis points as a result of ongoing investment in store-level labor.  The Company plans to continue to invest heavily in store-level labor as a part of its commitment to outstanding customer service in addition to an increase in training and store-level management for the rollout of the breakfast program.  The Company expects these factors to increase labor costs in future quarters by 25 to 50 basis points on a year-over-year basis.

 

Other operating expenses, as a percentage of Company-owned restaurant sales, decreased 25 basis points primarily due to the leverage of higher sales volumes.  The Company expects continued benefit from higher sales volumes and lower utility costs to produce a 25 basis point improvement in other operating expenses during the last quarter of fiscal year 2002.  Overall, the Company anticipates that favorable food costs and the leverage of operating at higher volumes

 

11

 

will offset the continued investment in store-level labor to produce relatively flat restaurant-level margins in the fourth quarter of fiscal year 2002 compared to the same period in fiscal year 2001.  The Company expects this trend to continue into the first quarter of fiscal year 2003.

 

Selling, general and administrative expenses decreased, as a percentage of total revenues, to 7.8% in the third fiscal quarter of 2002, compared with 8.8% in the third fiscal quarter of 2001.  The Company anticipates that selling, general and administrative expenses will grow by 10% to 12% during the fourth quarter of fiscal year 2002 and fiscal year 2003 on a year-over-year basis.

 

Depreciation and amortization expense increased 6.5% or $0.4 million in the third fiscal quarter of 2002 over the comparable quarter in 2001.  The increase in depreciation resulted primarily from new drive-in development and store acquisitions.  The Company adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” effective September 1, 2001 which resulted in a reduction in amortization expense of $0.7 million in the third fiscal quarter of 2002 as compared to the third fiscal quarter of 2001, excluding any related tax effects.  See Note 4 of Notes To Condensed Consolidated Financial Statements for additional information regarding the impact of adopting Statement No. 142.  Including the acquisition of 23 stores in the Wichita, Kansas market, the Company expects depreciation and amortization to be approximately $7.0 million in the fourth quarter of fiscal year 2002.

 

During the third fiscal quarter of 2002, one drive-in in a developing market became impaired under the guidelines of FAS 121 — “Accounting for the Impairment of Long-Lived Assets” and estimates were revised on two stores which were previously impaired under FAS 121.  As a result, a provision for impairment of long-lived assets of $0.6 million was recorded for the drive-in’s carrying cost in excess of its estimated fair value.  The Company continues to perform quarterly analyses of certain underperforming restaurants.   It is reasonably possible that the estimate of future cash flows associated with these restaurants may change in the near future resulting in the need to write-down assets associated with one or more of these restaurants to fair value.

 

Minority interest in earnings of restaurants increased 21.6% to $5.1 million as the Company’s minority partners shared in the increased restaurant-level profits.  However, minority interest as a percentage of Company-owned restaurant sales decreased to 5.5% in the third fiscal quarter of 2002, compared to 5.6% in the third fiscal quarter of 2001.  Looking forward, the Company believes minority interest, as a percentage of Company-owned restaurant sales, will remain flat or increase slightly in the fourth quarter of fiscal year 2002 as compared to the same period in fiscal year 2001.

 

Income from operations increased 27.4% to $25.3 million in the third fiscal quarter of 2002 from $19.8 million in the third fiscal quarter of 2001 due primarily to the growth in revenues and other matters discussed above.

 

Net interest expense remained flat at $1.5 million in the third fiscal quarter of 2002 as compared to the third fiscal quarter of 2001.  The Company expects net interest expense to remain flat or decrease slightly for the balance of fiscal year 2002 as a result of strong cash flow from operations.

 

12

 

Provision for income taxes reflects an effective federal and state tax rate of 37.25% for the third fiscal quarter of 2002, consistent with the same period in fiscal year 2001.

 

Net income increased 29.7% over the comparable period in 2001.  Diluted earnings per share increased to $.35 per share in the third fiscal quarter of 2002, compared to $.27 per share in the third fiscal quarter of 2001, for an increase of 29.6%.

 

Comparison of the First Three Fiscal Quarters of 2002 to the First Three Fiscal Quarters of 2001.

 

Total revenues increased 24.1% to $280.2 million in the first three fiscal quarters of 2002 from $225.9 million in the first three fiscal quarters of 2001.  Company-owned restaurant sales increased 27.5% to $231.4 million in the first three fiscal quarters of 2002 from $181.5 million in the first three fiscal quarters of 2001.  Of the $49.9 million increase, $45.6 million was due to the net addition of 127 Company-owned restaurants since the beginning of fiscal year 2001 ($47.3 million from the addition of 61 newly constructed restaurants and 75 acquired restaurants since the beginning of fiscal year 2001 less $1.7 million from nine stores sold or closed during the same period).  Average sales increases of approximately 2.6% by stores open the full reporting periods of fiscal year 2002 and 2001 accounted for $4.3 million of the increase.  Franchise royalties increased 13.4% to $43.2 million in the first three fiscal quarters of 2002, compared to $38.1 million in the first three fiscal quarters of 2001.    Franchise fees decreased 5.7% as 91 franchise drive-ins opened in the first three fiscal quarters of 2002 as compared to 101 in the first three fiscal quarters of 2001.  However, the average franchise fee increased as a greater percentage of stores opened under the newest form of license agreement, which has a higher franchise fee and royalty rate.

 

Restaurant cost of operations, as a percentage of Company-owned restaurant sales, was 73.8% in the first three fiscal quarters of 2002 compared to 73.7% in the first three fiscal quarters of 2001.  Food and packaging costs, as a percentage of Company-owned restaurant sales, remained relatively flat as lower than expected beef costs and a moderation in dairy costs were offset by increased discounting from standard menu prices.  Payroll and employee benefits, as a percentage of Company-owned restaurant sales, increased 29 basis points as a result of an increase in average wage rates, increased investment in store-level labor as a part of the Company’s commitment to outstanding customer service, and an increase in training and store-level management for the rollout of the breakfast program.  Other operating expenses, as a percentage of Company-owned restaurant sales, decreased 20 basis points primarily as a result of the leverage of higher sales volumes and improvements in utility costs.  Minority interest in earnings of restaurants decreased, as a percentage of Company-owned restaurant sales, to 4.2% in the first three fiscal quarters of 2002, compared to 4.3% in the first three fiscal quarters of 2001.

 

Selling, general and administrative expenses decreased, as a percentage of total revenues, to 8.6% in the first three fiscal quarters of 2002, compared with 9.7% in the first three fiscal quarters of 2001 as a result of the leverage of operating at higher sales volumes.  Depreciation and amortization expense increased 12.3% or $2.1 million in the first three fiscal quarters of 2002 over the comparable quarters in 2001.  The increase in depreciation resulted primarily from new drive-in development and store acquisitions in the third fiscal quarter of 2002.  The

 

13

 

Company adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” effective September 1, 2001 which resulted in a reduction in amortization expense of $1.5 million in the first three fiscal quarters of 2002 as compared to the first three fiscal quarters of 2001, excluding any related tax effects.

 

During the first three fiscal quarters of 2002, two drive-ins in developing markets became impaired under the guidelines of FAS 121 — “Accounting for the Impairment of Long-Lived Assets” and estimates were revised on two stores which were previously impaired under FAS 121.  As a result, a provision for impairment of long-lived assets of $1.2 million was recorded for the drive-in’s carrying cost in excess of its estimated fair value.  The Company continues to perform quarterly analyses of certain underperforming restaurants.   It is reasonably possible that the estimate of future cash flows associated with these restaurants may change in the near future resulting in the need to write-down assets associated with one or more of these restaurants to fair value.

 

Income from operations increased 22.8% to $54.9 million in the first three fiscal quarters of 2002 from $44.7 million in the first three fiscal quarters of 2001 due primarily to the growth in revenues and other matters discussed above.

 

Net interest expense in the first three fiscal quarters of 2002 increased $0.5 million over the first three fiscal quarters of 2001.  This increase was the result of additional borrowings to fund, in part, acquisitions, capital additions and share repurchases made during the first fiscal quarter of 2002.

 

Provision for income taxes reflects an effective federal and state tax rate of 37.25% for the first three fiscal quarters of 2002, consistent with the same period in fiscal year 2001.

 

Net income increased 23.7% over the comparable period in 2001.  Diluted earnings per share increased to $.75 per share in the first three fiscal quarters of 2002, compared to $.61 per share in the first three fiscal quarters of 2001, for an increase of 23.0%.

 

Liquidity and Sources of Capital

 

Net cash provided by operating activities increased by $19.3 million or 48.3% during the first three fiscal quarters of 2002 as compared to the same period in fiscal 2001, primarily as the result of an increase in operating profit before depreciation and the timing of payments to advertising funds, coops and taxing authorities.

 

During the first three fiscal quarters of 2002, the Company opened 27 newly constructed restaurants and acquired a net of 20 existing restaurants from franchisees.  The Company funded total capital additions for the first three fiscal quarters of 2002 of $58.7 million (which included the cost of newly opened restaurants, restaurants under construction, acquired restaurants, new equipment for existing restaurants, and other general expenditures) from cash generated by operating activities and long-term borrowings.  During the nine months ended May 31, 2002, the Company purchased the real estate on 41 of the 52 newly constructed and acquired restaurants.  The Company expects to own the land and building for most of its future newly constructed restaurants.

 

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During the first three fiscal quarters of 2002, the Company repurchased approximately 0.5 million shares at an aggregate cost of $9.0 million.  As of May 31, 2002, the Company had approximately $11.0 million available under its Board approved repurchase program, which expires at the end of calendar year 2002.

 

The Company’s total cash balance of $8.5 million as of May 31, 2002, reflected the impact of the cash generated from operating activities, borrowing activity, and expenditures mentioned above.  The Company has an agreement with a group of banks which provides the Company with an $80 million line of credit expiring in July of 2004.  The Company plans to use the line of credit to finance the opening of newly constructed restaurants, acquisitions, purchases of the Company’s common stock and for other general corporate purposes.  As of May 31, 2002, the Company’s outstanding borrowings under the line of credit were $29.0 million, at an effective borrowing rate of 3.4%, as well as $0.2 million in outstanding letters of credit.  The amount available under the line of credit as of May 31, 2002, was $50.8 million.

 

The Company expects total capital expenditures of $65 million to $70 million in fiscal year 2002, excluding any other potential acquisitions.  These capital expenditures primarily relate to the development of additional Company-owned restaurants, the acquisition of franchised restaurants, stall additions, relocations of older restaurants, store equipment upgrades, and enhancements to existing financial and operating information systems.  The Company expects to fund these capital expenditures through cash flow from operations and, if necessary, borrowings under its existing unsecured revolving credit facility.  The Company believes that existing cash and funds generated from internal operations, as well as borrowings under the line of credit, will meet the Company’s needs for the foreseeable future.

 

Impact of Inflation

 

Though increases in labor, food or other operating costs could adversely affect the Company’s operations, management does not believe that inflation has had a material effect on income during the past several years.

 

Seasonality

 

The Company’s results during its second fiscal quarter (the months of December, January and February) generally are lower than other quarters because of the climate of the locations of a number of Company-owned and franchised restaurants.

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There were no material changes in the Company’s exposure to market risk for the quarter ended May 31, 2002.

 

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PART II — OTHER INFORMATION

 

Item 1.  Legal Proceedings

 

During the fiscal quarter ended May 31, 2002, Sonic Corp. (the “Company”) did not have any new material legal proceedings brought against it, its subsidiaries or their properties.  In addition, no material developments occurred in connection with any previously reported legal proceedings against the Company, its subsidiaries or their properties during the last fiscal quarter.

 

Item 2.  Changes in Securities and Use of Proceeds

 

None.

 

Item 3.  Defaults Upon Senior Securities

 

None.

 

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

 

None.

 

Item 5.  Other Information

 

None.

 

Item 6.  Exhibits and Reports on Form 8-K

 

Exhibits.  None.

 

Form 8-K Reports. The Company did not file any Form 8-K reports during the fiscal quarter ended May 31, 2002.  The Company filed a Form 8-K on June 7, 2002 to report the termination of Arthur Andersen LLP as the Company’s principal accountant and the engagement of Ernst & Young LLP as principal accountant.

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Act of 1934, the Company has caused the undersigned, duly authorized, to sign this report on behalf of the Company.

 

	SONIC CORP.
	By:	/s/ W. Scott McLain
		W. Scott McLain, Senior Vice President and Chief Financial Officer
Date:  July 11, 2002