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partner who headed Boston Chicken™s computer operations, pointed out, “If I can save
half a percentage point on food costs, that™s a lot of money. But if I can know almost
instantaneously that customers don™t like the drink selection and I can have that changed
within a week”that™s worth a lot more money.”
Finally, to improve convenience for customers, the company decided to add drive-
thru lanes to its stores. By late 1994, 62 stores in eighteen states had drive-thru windows.
In some cases, as much as 30 percent of store sales came from these windows. The com-
pany™s market research indicates that as many as two-thirds of these customers would

Boston Chicken
not have visited the stores had this convenience not been available. Drive-thrus were
planned for a further 65 stores in 1995, and ultimately 70 percent of the stores were
expected to be converted to drive-thru.

In late 1995, most restaurant analysts were bullish about Boston Chicken™s future per-
formance. For example, Michael Moe of Lehman Brothers noted: “Boston Chicken is
truly the leader in the home meal replacement market. . . . Dual-income families are
searching for an affordable alternative to preparing meals at home. Boston Chicken sat-
is¬es this need by preparing food that customers view as high quality, healthy and con-
venient. This home meal replacement is a hit with value-minded consumers. The bagel
industry is another hot area of opportunity for Boston Chicken. Presently the bagel in-
dustry is one of the hottest growth areas in America.” 3 Moe rated the stock to be a strong
buy, and projected that EPS would be $0.63 in 1995, $0.90 in 1996, and would continue
to grow by 45 percent per year from 1997 to 2001.
However, not everyone was impressed. Roger Lipton of Lipton Financial Services
contended that Boston Chicken™s franchisees had actually lost money. Lipton Financial
Services is an af¬liate of Axiom Capital Management, which had shorted the stock. He
estimated that sales at a franchised store had to average $23,000 a week (net of promo-
tional discounts) to cover labor, cost of sales, and other expenses. Actual average weekly
sales, Lipton claimed, were only $18,900 per store, implying that franchisees were los-
ing money. Lipton pointed out that “the quality of earnings is very low, since all of Bos-
ton Chicken™s income comes from fees, royalties, and interest payments from
franchisees, most of whom were ¬nanced by the franchiser.” 4
Management responded to concerns about the economics of franchisees by reporting
that average weekly store sales were $23,388 for the third quarter of 1995, versus

3. Michael Moe, Lehman Brothers, October 25, 1995.
4. Inside Wall Street,” Business Week, June 12, 1995.
Asset Analysis

4-25 Part 2 Business Analysis and Valuation Tools

$22,227 for the second quarter, and that EBITDA store margins were running at about
15“16 percent. On December 1, 1995, the stock closed at $33.75, up more than 100 per-
cent over the beginning of the year price (versus a 56 percent increase for the S&P 500).5
But uncertainty about the company persisted. Short interest positions in the stock were
at an all-time high of 10 million shares, more than 20 percent of the shares outstanding
and double the short interest position at the beginning of 1995.
Boston Chicken

5. The equity beta for Boston Chicken was 1.50, and at December 1, 1995, the 30-year U.S. Government Treasuries
yielded 6.04%.
152 Asset Analysis

Asset Analysis

Boston Chicken, Inc., Abridged 1994 Annual Report, Financial

Fiscal Years Ended
December 25, December 26,
1994 1993
(dollars in thousands, except per share data)
Systemwide store revenue $383,691 $152,056
Company revenue 96,151 42,530
Net income 16,173 1,647

Boston Chicken
Net income per share $0.38 $0.06
Shareholders™ equity $259,815 $94,906
Weighted average number of shares outstanding 42,861 32,667
Asset Analysis

4-27 Part 2 Business Analysis and Valuation Tools


The total number of stores in the Boston Market system increased from 34 at the year
ended December 29, 1991, to 534 at the year ended December 25, 1994. This rapid
expansion signi¬cantly affects the comparability of results of operations from year to year
as well as the Company™s liquidity and capital resources. The following table sets forth
information regarding store development activity for the years indicated.

Stores at Net Stores Net Stores Stores
Beginning Opened Transferred at End
Boston Chicken

in Yeara
of Year in Year of Year
Year Ended December 27, 1992:
Company-operated 5 15 (1) 19
Financed area developers 0 3 0) 3
Non-¬nanced area developers and other 29 31 1) 61
Total 34 49 0) 83
Year Ended December 26, 1993:
Company-operated 19 28 (9) 38
Financed area developers 3 66 9) 78
Non-¬nanced area developers and other 61 40 0) 101
Total 83 134 0) 217
Year Ended December 25, 1994:
Company-operated 38 49 (46) 41
Financed area developers 78 168 68) 314
Non-¬nanced area developers and other 101 100 (22) 179
Total 217 317 0) 534

transferred during the year primarily reflect the Company™s practice of opening new Company-operating
stores to seed development in targeted markets prior to execution of area development agreements relating to such
markets. At the time such agreements are executed, the Company typically sells Company-operating stores located
in the market to the area developer in that market. Stores transferred also reflect the purchase and/or sale of Boston
Market stores in markets with multiple area developers in order to facilitate consolidation of such markets.

Fiscal Year 1994 Compared to Fiscal Year 1993

Total revenue increased $53.7 million (126%) from $42.5 million for 1993 to $96.2 mil-
lion for 1994. Royalty and franchise-related fees increased $42.5 million (335%) to
$55.2 million for 1994, from $12.7 million for 1993. This increase was primarily due to
an increase in royalties attributable to the larger base of franchise stores operating sys-
temwide, from 179 stores at December 16, 1993 to 493 stores at December 5, 1994, an
increase in franchise fees related to the increase in the number of stores that commenced
operation as franchised stores during the year, and higher interest income generated on
increased loans made to certain area developers. Additional factors contributing to the
154 Asset Analysis

Asset Analysis

increase in revenue from royalty and franchise-related fees include an increase in lease
income due to a higher number of store sites which the Company owns and leases to
area developers, and recognition of software license and maintenance fees for store-level
computer software systems developed by the Company for use by franchisees. No soft-
ware-related fees were earned in 1993.
Revenue from Company-operated stores increased $11.1 million (37%) from $29.8 mil-
lion for 1993 to $40.9 million for 1994. This increase was due to a higher average number
of Company-operated stores open during the year. The Company had 38 Company-oper-
ated stores at December 26, 1993, compared to 41 at December 25, 1994. During 1994,
the Company sold 54 Company-operated stores which it had opened to seed new markets.

Cost of Products Sold
Cost of products sold increased $4.6 million (41%) , to $15.9 million for 1994 compared

Boston Chicken
with $11.3 million for 1993. This increase was primarily due to an increase in the number
of Company-operated stores open during the periods. Management does not believe that
the cost of products sold as a percentage of store revenue at Company-operated stores is
indicative of cost of products sold as a percentage of store revenue at franchise stores due
to the Company™s practice of opening new stores primarily to seed new markets. These
newer stores, which constitute the majority of the Company-operated store base, tend to
have higher food and paper costs as a result of increased food usage for free tasting,
inef¬ciencies resulting from employee inexperience, and a lack of store-speci¬c operating
history to assist in forecasting daily food production needs.

Salaries and Bene¬ts
Salaries and bene¬ts increased $7.2 million (47%), from $15.4 million in 1993 to $22.6
million in 1994. The increase resulted from an increase in the number of employees at
the Company™s support center necessary to support systemwide expansion and an
increase in the number of employees at Company-operated stores due to a higher aver-
age number of Company-operated stores open during the year.

General and Administrative
General and administrative expenses increased $14.0 million (101%) to $27.9 million for
1994 from $13.9 million for 1993. The increase is attributable to the development of the
Company™s support center infrastructure necessary to support systemwide expansion and
higher general and administrative expenses at Company-operated stores resulting from a
higher average number of Company-operated stores open during the year. Included in
general and administrative expenses were depreciation and amortization charges of $6.1
million in 1994 and $2.0 million in 1993. The increase in depreciation and amortization
expense is primarily attributable to a substantially higher ¬xed asset base re¬‚ecting the
Company™s investment in its infrastructure.

Provision for Relocation
In September 1994, the Company consolidated its four Chicago-based support center
facilities into a single facility and relocated to Golden, Colorado. The total cost of reloca-
tion was $5.1 million.

Other Expense
The Company incurred other expense of $4.2 million in 1994, compared with other
expense of $0.3 million in 1993. This increase re¬‚ects higher interest expense, primarily
attributable to the $130.0 million of convertible subordinated debt and short-term bor-
rowings under its unsecured credit facility, partially offset by higher interest income.
Asset Analysis

4-29 Part 2 Business Analysis and Valuation Tools

Income Taxes
Included in income taxes in 1994 is a $3.5 million bene¬t re¬‚ecting the realization of
deferred tax assets attributable to the increased level of operating income, offset by a cur-
rent provision for income taxes.

Liquidity and Capital Resources

The Company™s primary capital requirements are for store development, including pro-
viding partial ¬nancing for certain of its area developers, purchasing real estate which is
then leased to its area developers, and opening Company-operated stores. The remain-
der of the Company™s capital requirements related primarily to investments in corporate
infrastructure, including property and equipment and software development, which are
Boston Chicken

necessary to support the increase in the number of stores in operation systemwide. For
the year ended December 25, 1994, the Company expended approximately $268.1 mil-
lion on store development, including ¬nancing area developers, purchasing real estate
and opening Company-operated stores. The Company also expended approximately
$52.3 million on corporate infrastructure, including its new support center facility.
The Company has entered into secured loan agreements with certain of its area
developers whereby the area developers may draw on a line of credit, with certain limita-
tions, in order to provide partial funding for expansion of their operations. In connection
with certain of these loans, after a speci¬ed moratorium period, the Company has the


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