ITEM 2.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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Certain statements contained in Management's Discussion and Analysis of Financial Condition and Results of Operations, including statements regarding the development of the Company's business, the markets for the Company's products, anticipated capital expenditures, and the effects of completed and proposed acquisitions, and other statements contained herein regarding matters that are not historical facts, are forward-looking statements as is within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Because such statements include risks and uncertainties, actual results could differ materially from those expressed or implied by such forward-looking statements as set forth in this report, the Company's Annual Report on Form 10-K and other reports that the Company files with the Securities and Exchange Commission. Certain risks and uncertainties are wholly or partially outside the control of the Company and its management, including its ability to attract new franchisees; the continued success of current franchisees; the effects of competition on franchisees and consumer acceptance of the Company's products in new and existing markets; fluctuation in development and operating costs; brand awareness; availability and terms of capital; adverse publicity; acceptance of new product offerings; availability of locations and terms of sites for store development; food, labor and employee benefit costs; changes in government regulation (including increases in the minimum wage); regional economic and weather conditions; the hiring, training, and retention of skilled corporate and restaurant management; and the integration and assimilation of acquired concepts. Accordingly, readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's analysis only as of the date hereof. The Company undertakes no obligation to publicly release the results of any revision to these forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
General
There are 72 franchised and 7 licensed units at May 31, 2020 compared to 73 franchised and 6 licensed units at May 31, 2019. System-wide revenues for the six months ended May 31, 2020 were $12.7 million and May 31, 2019 was $16.1 million.
The Company's revenues are derived primarily from the ongoing royalties paid to the Company by its franchisees and receipt of initial franchise fees. Additionally, the Company derives revenue from the sale of licensed products (My Favorite Muffin mix, Big Apple Bagels cream cheese and Brewster's coffee), and through nontraditional channels of distribution through a licensing agreement with Green Beans Coffee.
Royalty fees represent a 5% fee on net retail and wholesale sales of franchised units. Royalty revenues are recognized on an accrual basis using actual franchise receipts. Generally, franchisees report and remit royalties on a weekly basis. The majority of month-end receipts are recorded on an accrual basis based on actual numbers from reports received from franchisees shortly after the month-end. Estimates are utilized in certain instances where actual numbers have not been received and such estimates are based on the average of the last 10 weeks’ actual reported sales.
There are two items involving revenue recognition of contracts that require us to make subjective judgments: the determination of which performance obligations are distinct within the context of the overall contract and the estimated stand alone selling price of each obligation. In instances where our contract includes significant customization or modification services, the customization and modification services are generally combined and recorded as one distinct performance obligation.
The Company earns licensing fees from the sale of BAB branded products, which includes coffee, cream cheese, muffin mix and frozen bagels from a third-party commercial bakery, to the franchised and licensed units.
As of May 31, 2020, the Company employed 13 full-time employees at the Corporate office. The employees are responsible for corporate management and oversight, accounting, advertising and franchising. None of the Company's employees are subject to any collective bargaining agreements and management considers its relations with its employees to be good.
Results of Operations
Three Months Ended May 31, 2020 versus Three Months Ended May 31, 2019
For the three months ended May 31, 2020 and May 31, 2019, the Company reported a net loss of $72,000 and net income of $128,000, respectively. Total revenue of $352,000 decreased $422,000, or 54.5%, for the three months ended May 31, 2020, as compared to total revenue of $774,000 for the three months ended May 31, 2019. Marketing fee revenues of $47,000, decreased $209,000, or 81.6% for the three months in 2020, as compared to $256,000 in 2019. The 3% marketing fee was waived from March 16, 2020 to May 31, 2020 in order to assist franchisees in cost reduction during the Coronavirus pandemic.
Royalty fee revenue of $239,000, for the quarter ended May 31, 2020, decreased $181,000, or 43.1%, from the $420,000 for quarter ended May 31, 2019. The royalty revenue reduction was due to states limiting or eliminating in store dining and operating restrictions in states due to the Coronavirus pandemic
Franchise fee revenues of $4,000, for the quarter ended May 31, 2020, increased $1,000, or 33.3%, from the $3,000 for the quarter ended May 31, 2019. There were no transfers or new store openings for either year.
Licensing fee and other income of $62,000, for the quarter ended May 31, 2020, decreased $33,000 or 34.7% from $95,000 for same quarter 2019. Settlement income decreased $14,000 and a decrease in nontraditional revenue related to the decrease in sales because of COVID19 of $24.000, offset by an increase in license fees of $5,000.
Total operating expenses of $423,000, for the quarter ended May 31, 2020, decreased $218,000, or 34.0% from $641,000 for the quarter ended May 31, 2019. The decrease was primarily a reduction in Marketing Fund expenses of $209,000 because expenses were reduced to offset the reduction in funds collected. BAB Systems waived marketing fees for March 16, 2020 through May 31, 2020 to help franchisees during the sales reduction because of COVID19. In 2020 employee salaries decreased $16,000 because of a 2 week salary reduction before the PPP loan was received, there was a reduction in franchise advertising and travel related to the pandemic of $3,000 and $8,000, respectively, offset by an increase to occupancy expense of $4,000 related to CAM charges, legal fees increased $8,000 and a $3,000 increased in other expenses, which included a $3,000 increase in bad debt expense compared to 2019.
There was no income tax expense for the three months ending May 31, 2020 and $5,000 for the same period in 2019.
(Loss)/Earnings per share, as reported for basic and diluted outstanding shares for the quarters ended May 31, 2020 and May 31, 2019 was ($.01) and $0.02 respectively.
Six Months Ended May 31, 2019 versus Six Months Ended May 31, 2018
For the six months ended May 31, 2020 the Company reported a net loss of $28,000 compared to net income of $225,000 in 2019. Total revenue of $1,048,000 decreased $439,000, or 29.5%, for the six months ended May 31, 2020, as compared to total revenue of $1,487,000 for the six months ended May 31, 2019. Marketing fee revenues of $274,000, decreased $211,000, or 43.5% for the six months in 2020, as compared to $485,000 for the same period 2019. The 3% marketing fee was waived from March 16, 2020 to May 31, 2020 in order to assist franchisees in cost reduction during the Coronavirus pandemic.
Royalty fee revenue of $626,000, for the six months ended May 31, 2020, decreased $167,000, or 21.1%, from the $793,000 for the six months ended May 31, 2019. The royalty revenue decreased was due to state in store dining closures and operating restrictions in states due to the Coronavirus pandemic in 2020.
Franchise fee revenues of $8,000, for the six months ended May 31, 2020, decreased $9,000 from $17,000 for the period ended May 31, 2019. There were no transfer in 2020 and two transfers for the six months ended May 31, 2019. In addition, there is $8,000 in 2020 and $7,000 in 2019 from the adoption of ASC606 franchise fees revenue recognition standard.
Licensing fee and other income of $140,000 for the six months ended May 31, 2020 decreased $52,000, or 27.1%, from $192,000 for the six months ended May 31, 2019. The decrease was primarily due to a decrease in settlement income of $42,000, a decrease of $21,000 for nontraditional revenue related to decreased sales as a result of the Coronavirus pandemic, offset by an increase in license fee revenue of $11,000 for the six months ended 2020 versus same period 2019.
Total operating expenses of $1,061,000 decreased $191,000, or 15.3%, for the six months ended May 31, 2020, from $1,252,000 for the same period 2019. The decrease was primarily due to reducing expenses for the Marketing Fund because the 3% fees were not collected from March 16, 2020 through May 31, 2020, this was a $211,000 expense reduction for the six months ended May 31, 2020 compared to 2019, a $1,000 decrease in payroll expense, a $2,000 decrease in professional fees and an $8,000 decrease in travel related to the Coronavirus pandemic in 2020 compared to 2019. These were offset by an increase in occupancy expenses in 2020 of $18,000 compared to 2019 due to full rent expense in 2020, an $11,000 increase in provision for bad debt because a note was collected that had a reserve that resulted in an increased change in provision for bad debt in 2019 and an increase of $2,000 in general operating expenses.
There was an income tax expense of $15,000 and $10,000, respectively for May 2020 and 2019.
(Loss)/Earnings per share, as reported for basic and diluted outstanding shares for the six months ended May 31, 2020 were $0.00 (zero) and 2019 was $0.03 per share.
Liquidity and Capital Resources
At May 31, 2020, the Company had working capital of $733,000 and unrestricted cash of $1,007,000. At November 30, 2019 the Company had working capital of $813,000 and unrestricted cash of $1,095,000.
During the six months ended May 31, 2020, the Company had a net loss of $28,000 and operating activities used cash of $155,000. The principal adjustments to reconcile the net loss to cash used in operating activities for the six months ending May 31, 2020 was depreciation and amortization of $2,000 and noncash lease expense of $50,000, less the provision for uncollectible accounts of $4,000. In addition, changes in operating assets and liabilities decreased cash by $174,000. During the six months ended May 31, 2019, the Company had net income of $225,000 and operating activities provided cash of $214,000. The principal adjustments to reconcile net income to cash provided in operating activities for the three months ending May 31, 2019 was an increase in noncash lease expense of $51,000, depreciation and amortization expense of $1,000 and a decrease in the provision for uncollectible accounts of $14,000. In addition, changes in operating assets and liabilities decreased cash by $49,000.
The Company’s investing activities were $3,000 and $5,000, respectively for the six months ended May 31, 2020 and 2019.
On May 1, 2020 the Company received loan proceeds of $228,000 through the CARES act offered by the Treasury Department and Small Business Administration. The loan can be forgiven based on a formula if the company maintains employee retention and payroll expenses for an eight or 24 week period, in additions to certain other expenses (rent and utilities). See Note 8 for additional information. During January and April 2020 the Company used $291,000 for cash distribution/dividend payments for the six month period ended May 31, 2020 and used $291,000 for cash distribution/dividend payments during the same period in 2019.
On March 4, 2020 the Board of Directors declared a $0.01 per share quarterly cash distribution/dividend to shareholders of record as of March 23, 2020 paid April 08, 2020.
Cash Distribution and Dividend Policy
Due to the impact of the Coronavirus Pandemic, the Company’s intent is to suspend future dividends. Future cash distributions/dividends will be considered after reviewing profitability expectations and financing needs and will be declared at the discretion of the Board of Directors. The Company will continue to analyze its ability to pay cash distributions/dividends on a quarterly basis.
Determination of whether distributions are considered a cash distribution, cash dividend or combination of the two will not be made until after December 31, 2020, as the classification or combination is dependent upon the Company’s earnings and profits for tax purposes for its fiscal year ending November 30, 2020.
Recent Accounting Pronouncements
In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes,” which is intended to simplify various aspects related to accounting for income taxes. ASU 2019-12 removes certain exceptions to the general principles in Topic 740 and also clarifies and amends existing guidance to improve consistent application.
The amendments in ASU 2019-12 are effective for public business entities for fiscal years beginning after December 15, 2020, including interim periods therein. Early adoption of the standard is permitted, including adoption in interim or annual periods for which financial statements have yet been issued.
If an entity early adopts these amendments in an interim period, it should reflect any adjustments as of the beginning of the annual period that includes that interim period. In addition, an entity that elects to early adopt the standard is required to adopt all of the amendments in the same period (i.e., an entity cannot select which amendments to early adopt). The Company is still evaluating the specific effect of this change. The Company will adopt ASU 2019-12 for fiscal year ending November 30, 2021.
Management does not believe that there are any other recently issued and effective or not yet effective pronouncements that would have or are expected to have any significant effect on the Company’s financial position, cash flows or results of operations.
Critical Accounting Policies
The Company has identified other significant accounting policies that, as a result of the judgments, uncertainties, uniqueness and complexities of the underlying accounting standards and operations involved could result in material changes to its financial condition or results of operations under different conditions or using different assumptions. The Company's most critical accounting policies are related to revenue recognition, valuation of long-lived and intangible assets, deferred tax assets and the related valuation allowance. Details regarding the Company's use of these policies and the related estimates are described in the Company's Annual Report on Form 10-K for the fiscal year ended November 30, 2019, filed with the Securities and Exchange Commission on February 24, 2020.