****UNITED STATESSECURITIES AND EXCHANGE COMMISSION****

****Washington, D.C.  20549****

 

****FORM 10-Q****

**** ****
| **ý** | **QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                |
|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | ** **                                                                                                                                                                                                                                                                                  |
| ** ** | **For the quarterly period ended March 27, 2005**                                                                                                                                                                                                                                           |
|       | ** **                                                                                                                                                                                                                                                                                  |
| **Or**     |
|       |                                                                                                                                                                                                                                                                                        |
| **o**      | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                               |
|       |                                                                                                                                                                                                                                                                                        |
|       | **For the transition period from                        to                      .** |

 

**Commission file number 333-116310**

 

****REAL MEX RESTAURANTS, INC.****

(Exact name of Registrant as specified in itscharter)

 
| **Delaware**                                                    | ** ** | **13-4012902**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other jurisdiction of  incorporation or organization) | ** ** | (I.R.S. Employer  Identification No.) |

 

**4001 Via Oro Avenue, Suite 200Long Beach, California 90810**(Address of principal executive offices)

 

Registrant’s telephone number, including area code:****(310)513-7500****

 

Indicate by check markwhether the registrant:  (1) has filedall reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports) and (2) has been subjectto such filing requirements for the past 90 days.  Yes o No ý

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).  Yes o No ý

 

As of April 30, 2005,the registrant had outstanding 300,016 shares of Class A Common Stock, parvalue $0.001 per share, and 15,867 shares of Class B Common Stock, par value$0.001 per share.

 

 

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**Real Mex Restaurants, Inc. andSubsidiariesIndex**

** **
| PART I FINANCIAL  INFORMATION |                                                                                        |
|-------------------------------|---------------------------------------------------------------------------------------------|
|                          |                                                                                        |
| Item 1.                       | Financial Statements                                                                        |   |
|                          | Consolidated Balance Sheets                                                                 |   |
|                          | Consolidated  Statements of Operations                                                      |   |
|                          | Consolidated  Statements of Cash Flows                                                      |   |
|                          | Notes  to Consolidated Financial Statements                                                 |   |
| Item  2.                      | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |
| Item  3.                      | Quantitative  and Qualitative Disclosures About Market Risk                                 |   |
| PART II OTHER INFORMATION     |                                                                                        |
|                          |                                                                                        |
| Item 1.                       | Legal Proceedings                                                                           |   |
| Item  2.                      | Unregistered  Sales of Equity Securities and Use of Proceeds                                |   |
| Item 3.                       | Defaults Upon  Senior Securities                                                            |   |
| Item  4.                      | Submission  of Matters to a Vote of Security Holders                                        |   |
| Item 5.                       | Other Information                                                                           |   |
| Item 6.                       | Exhibits                                                                                    |   |
| SIGNATURE                     |                                                                                        |

 

2

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**PARTIFINANCIAL INFORMATION**

**Item 1.  Financial Statements**

**RealMex Restaurants, Inc. and Subsidiaries**

**Consolidated Balance Sheets**

**(inthousands, except for share data)**

 
| ** **                                                                                                                                                                                                                                                                | ** ** | **March 27,**   | ** ** | **December 26,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------|------------|------------------|------------|
| ** **                                                                                                                                                                                                                                                                | ** ** | **2005**        | ** ** | **2004**         | ** ** |
| ** **                                                                                                                                                                                                                                                                | ** ** | **(unaudited)** | ** ** | ** **       | ** ** |
| **Assets**                                                                                                                                                                                                                                                                |       |            |       |             |       |
| Current assets:                                                                                                                                                                                                                                                           |       |            |       |             |       |
| Cash and cash equivalents                                                                                                                                                                                                                                                 |       | $               | 11,358     |             | $          | 10,690 |   |
| Trade receivables, net                                                                                                                                                                                                                                                    |       | 8,190           |       | 4,312            |       |
| Other receivables                                                                                                                                                                                                                                                         |       | 791             |       | 157              |       |
| Inventories                                                                                                                                                                                                                                                               |       | 10,406          |       | 6,616            |       |
| Deferred tax asset                                                                                                                                                                                                                                                        |       | 1,371           |       | 1,371            |       |
| Prepaid expenses and supplies                                                                                                                                                                                                                                             |       | 4,091           |       | 3,754            |       |
| Total current assets                                                                                                                                                                                                                                                      |       | 36,207          |       | 26,900           |       |
|                                                                                                                                                                                                                                                                      |       |            |       |             |       |
| Property and equipment, net                                                                                                                                                                                                                                               |       | 82,268          |       | 35,848           |       |
| Goodwill, net                                                                                                                                                                                                                                                             |       | 153,243         |       | 105,387          |       |
| Deferred charges                                                                                                                                                                                                                                                          |       | 7,228           |       | 5,003            |       |
| Deferred tax asset                                                                                                                                                                                                                                                        |       | 7,769           |       | 7,769            |       |
| Other assets                                                                                                                                                                                                                                                              |       | 7,347           |       | 6,044            |       |
| Total assets                                                                                                                                                                                                                                                              |       | $               | 294,062    |             | $          | 186,951 |   |
|                                                                                                                                                                                                                                                                      |       |            |       |             |       |
| **Liabilities and stockholders’ equity**                                                                                                                                                                                                                             |       |            |       |             |       |
| Current liabilities:                                                                                                                                                                                                                                                      |       |            |       |             |       |
| Accounts payable and accrued liabilities                                                                                                                                                                                                                                  |       | $               | 62,194     |             | $          | 42,505 |   |
| Current portion of long-term debt                                                                                                                                                                                                                                         |       | 113             |       | 63               |       |
| Current portion of capital lease  obligations                                                                                                                                                                                                                             |       | 226             |       | 242              |       |
| Total current liabilities                                                                                                                                                                                                                                                 |       | 62,533          |       | 42,810           |       |
|                                                                                                                                                                                                                                                                      |       |            |       |             |       |
| Long-term debt, less current portion                                                                                                                                                                                                                                      |       | 180,758         |       | 105,000          |       |
| Capital lease obligations, less current  portion                                                                                                                                                                                                                          |       | 1,146           |       | 1,198            |       |
| Other liabilities                                                                                                                                                                                                                                                         |       | 11,032          |       | 8,094            |       |
| Total liabilities                                                                                                                                                                                                                                                         |       | 255,469         |       | 157,102          |       |
|                                                                                                                                                                                                                                                                      |       |            |       |             |       |
| Commitments and contingencies                                                                                                                                                                                                                                             |       |            |       |             |       |
|                                                                                                                                                                                                                                                                      |       |            |       |             |       |
| Stockholders’ equity:                                                                                                                                                                                                                                                |       |            |       |             |       |
| Redeemable Preferred Stock:                                                                                                                                                                                                                                               |       |            |       |             |       |
| Series A, 12 1/2% Cumulative Compounding  Preferred Stock—18,240 and 15,881 shares issued and outstanding at March 27,  2005 and December 26, 2004 respectively; liquidation preference of $32,631  and $29,644 at March 27, 2005 and December 26, 2004 respectively |       | 32,631          |       | 29,644           |       |
| Series B, 13.5% Cumulative Compounding  Preferred Stock—12,323 and 10,722 shares issued and outstanding at March 27,  2005 and December 26, 2004 respectively; liquidation preference of $23,064  and $20,970 at March 27, 2005 and December 26, 2004 respectively;  |       | 23,064          |       | 20,970           |       |
| Series C, 15% Cumulative Compounding  Preferred Stock—17,478 and 14,975 shares issued and outstanding at March 27,  2005 and December 26, 2004 respectively; liquidation preference of $52,202  and $46,544 at March 27, 2005 and December 26, 2004 respectively;    |       | 52,202          |       | 46,544           |       |
| Common Stock, $.001 par value, 2,000,000  shares authorized, 315,883 and 274,523 shares issued and outstanding at March  27, 2005 and December 26, 2004 respectively;                                                                                                     |       | —          |       | 1                |       |
| Warrants                                                                                                                                                                                                                                                                  |       | 4,027           |       | 4,027            |       |
| Additional paid-in capital                                                                                                                                                                                                                                                |       | 16,203          |       | 16,202           |       |
| Accumulated deficit                                                                                                                                                                                                                                                       |       | (89,534         | )          | (87,539          | )          |
| Total stockholders’ equity                                                                                                                                                                                                                                           |       | 38,593          |       | 29,849           |       |
| Total liabilities and stockholders’ equity                                                                                                                                                                                                                           |       | $               | 294,062    |             | $          | 186,951 |   |

 

See accompanying notes.

 

3

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**RealMex Restaurants, Inc. and Subsidiaries**

**Consolidated Statements of Operations (unaudited)**

**(inthousands)**

 
| ** **                                    | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------|------------|------------------------|------------|
| ** **                                    | ** ** | **March 27,**          | ** ** | **March 28,** | ** ** |
| ** **                                    | ** ** | **2005**               | ** ** | **2004** | ** ** |
| Revenues:                                     |       |                   |       |   |   |
| Restaurant revenues                           |       | $                      | 119,438    |   | $ | 78,127 |   |
| Other revenues                                |       | 3,870                  |       | 1,664 |   |
| Total revenues                                |       | 123,308                |       | 79,791 |   |
| Costs and expenses:                           |       |                   |       |   |   |
| Cost of sales                                 |       | 31,035                 |       | 19,613 |   |
| Labor                                         |       | 44,592                 |       | 29,808 |   |
| Direct operating and occupancy expense        |       | 29,205                 |       | 18,632 |   |
| General and administrative expense            |       | 7,590                  |       | 4,419 |   |
| Depreciation                                  |       | 4,514                  |       | 3,255 |   |
| Pre-opening costs                             |       | 171                    |       | 178 |   |
| Impairment of property and equipment          |       | 216                    |       | — |   |
|                                          |       |                   |       |   |   |
| Operating income                              |       | 5,985                  |       | 3,886 |   |
|                                          |       |                   |       |   |   |
| Other income (expense):                       |       |                   |       |   |   |
| Casualty gain                                 |       | —                 |       | 562 |   |
| Interest expense                              |       | (5,394                 | )          | (3,242 | ) |
| Royalty income                                |       | 681                    |       | 33 |   |
| Other income (expense), net                   |       | 125                    |       | (219 | ) |
|                                          |       |                   |       |   |   |
| Total other expense, net                      |       | (4,588                 | )          | (2,866 | ) |
|                                          |       |                   |       |   |   |
| Income before income tax provision            |       | 1,397                  |       | 1,020 |   |
|                                          |       |                   |       |   |   |
| Income tax provision                          |       | 2                      |       | 11 |   |
|                                          |       |                   |       |   |   |
| Net income                                    |       | 1,395                  |       | 1,009 |   |
|                                          |       |                   |       |   |   |
| Redeemable preferred stock accretion          |       | (3,391                 | )          | (2,785 | ) |
|                                          |       |                   |       |   |   |
| Net loss attributable to common  stockholders |       | $                      | (1,996     | ) | $ | (1,776 | ) |

 

Seeaccompanying notes.

 

4

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**Real Mex Restaurants, Inc.Consolidated Statements ofCash Flows (unaudited)(in thousands)**
| ** **                                                                         | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                         | ** ** | **March 27,**          | ** ** | **March 28,** | ** ** |
| ** **                                                                         | ** ** | **2005**               | ** ** | **2004** | ** ** |
| **Operating activities**                                                           |       |                   |       |   |   |
| Net income                                                                         |       | $                      | 1,395      |   | $ | 1,009 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities: |       |                   |       |   |   |
| Depreciation                                                                       |       | 4,514                  |       | 3,256 |   |
| Amortization of:                                                                   |       |                   |       |   |   |
| Deferred financing                                                                 |       | 400                    |       | 190 |   |
| Debt discount                                                                      |       | —                 |       | 111 |   |
| (Gain) loss on disposal of property and  equipment                                 |       | (39                    | )          | 662 |   |
| Casualty gain                                                                      |       | —                 |       | (562 | ) |
| Impairment of property and equipment                                               |       | 216                    |       | — |   |
| Changes in operating assets and  liabilities:                                      |       |                   |       |   |   |
| Trade and other receivables                                                        |       | (1,656                 | )          | (305 | ) |
| Inventories                                                                        |       | (2,397                 | )          | (573 | ) |
| Prepaid expenses and supplies                                                      |       | 1,092                  |       | 765 |   |
| Deferred charges, net                                                              |       | (1                     | )          | — |   |
| Other assets                                                                       |       | 483                    |       | (1,054 | ) |
| Accounts payable and accrued liabilities                                           |       | 2,118                  |       | 2,362 |   |
| Other liabilities                                                                  |       | 528                    |       | 160 |   |
| Net cash provided by operating activities                                          |       | 6,653                  |       | 6,021 |   |
|                                                                               |       |                   |       |   |   |
| **Investing activities**                                                           |       |                   |       |   |   |
| Additions to property and equipment                                                |       | (3,468                 | )          | (1,023 | ) |
| Chevys Acquisition, net of cash acquired of  $3,398                                |       | (74,822                | )          | — |   |
| Leasehold acquisition costs                                                        |       | (8                     | )          | — |   |
| Proceeds from sale of property                                                     |       | 5                      |       | — |   |
| Net cash used in investing activities                                              |       | (78,293                | )          | (1,023 | ) |
|                                                                               |       |                   |       |   |   |
| **Financing activities**                                                           |       |                   |       |   |   |
| Borrowings under long-term debt agreements                                         |       | 75,000                 |       | — |   |
| Payments on long-term debt agreements and  capital lease obligations               |       | (76                    | )          | (1,145 | ) |
| Payments received on stockholder loans for  stock subscription notes               |       | —                 |       | 50 |   |
| Payment of financing costs                                                         |       | (2,616                 | )          | (298 | ) |
| Interest receivable increase on stockholder  loans                                 |       | —                 |       | (10 | ) |
| Net cash provided by (used in) financing  activities                               |       | 72,308                 |       | (1,403 | ) |
| Net increase in cash and cash equivalents                                          |       | 668                    |       | 3,595 |   |
|                                                                               |       |                   |       |   |   |
| Cash and cash equivalents at beginning of  period                                  |       | 10,690                 |       | 2,605 |   |
| Cash and cash equivalents at end of period                                         |       | $                      | 11,358     |   | $ | 6,200 |   |
|                                                                               |       |                   |       |   |   |
| **Supplemental disclosure of cash flow  information**                              |       |                   |       |   |   |
| Interest paid                                                                      |       | $                      | 1,728      |   | $ | 112 |   |
| Income taxes paid                                                                  |       | $                      | 2          |   | $ | 11 |   |
|                                                                               |       |                   |       |   |   |
| **Supplemental disclosure of noncash  investing and financing activities**         |       |                   |       |   |   |
| Preferred and common stock issued as  consideration for the Chevys Acquisition     |       | $                      | 7,349      |   | $ | — |   |
| In kind accrued interest transferred to debt                                       |       | $                      | —     |   | $ | 407 |   |

 

Seeaccompanying notes.

 

5

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**Real Mex Restaurants, Inc. and Subsidiaries**

**Notes to Consolidated Financial Statements (unaudited)**

**March 27, 2005**

**(in thousands, except for share data)**

 

**1.****             Basisof Presentation**

 

Real Mex Restaurants, Inc., a Delaware Corporation (together with itssubsidiaries, the “Company”), was formed on May 15, 1998.

 

The Company, primarily through its major subsidiaries El ToritoRestaurants, Inc. (El Torito), Chevys Restaurants, LLC (Chevys) and AcapulcoRestaurants, Inc. (Acapulco), currently operates 199 restaurants, of which 164are located in California and the remainder are located in 12 other states,primarily under the trade names El Torito Restaurant, Chevys Fresh Mex andAcapulco Mexican Restaurant Y Cantina. The Company’s other major subsidiary,Real Mex Foods, Inc., (Real Mex) provides internal production, purchasing anddistribution services for the restaurant operations. On a limited basis, RealMex also manufactures specialty products for sale to outside customers.

 

The accompanying consolidated financial statements have been preparedby the Company in accordance with accounting principles generally accepted inthe United States and with the instructions to Form 10-Q and Article 10 ofRegulation S-X. In the opinion of management, the accompanying unauditedinterim financial statements include all adjustments (consisting of normalrecurring adjustments), which are necessary for a fair statement of the Company’sconsolidated financial condition, results of operations and cash flows for theperiods presented. However, these results are not necessarily indicative ofresults for any other interim periods or for the full fiscal year. Theconsolidated balance sheet data presented herein for December 26, 2004 wasderived from the Company’s audited consolidated financial statements for thefiscal year then ended, but does not include all disclosures required byaccounting principles generally accepted in the United States. The preparationof financial statements in accordance with accounting principles generallyaccepted in the United States requires the Company to make certain estimatesand assumptions for the reporting periods covered by the financial statements.These estimates and assumptions affect the reported amounts of assets,liabilities, revenues and expenses. Actual amounts could differ from theseestimates.

 

Certain information and footnote disclosures normally included infinancial statements prepared in accordance with accounting principlesgenerally accepted in the United States have been omitted pursuant to therequirements of the Securities and Exchange Commission. The Company believesthe disclosures included in the accompanying interim consolidated financialstatements and footnotes are adequate to make the information not misleading,but should be read in conjunction with the consolidated financial statementsand notes thereto included in our filings with the Securities and ExchangeCommission.

 

**2.****             ChevysAcquisition**

 

On January 11, 2005, the Company completed theacquisition (the “Chevys Acquisition”) of substantially all of the assets ofChevys, Inc. and certain of its subsidiaries (the “Sellers”) out of the Sellers’Chapter 11 bankruptcy proceeding, including 69 Chevys Fresh Mex® restaurantsand five Fuzio Universal Pasta® restaurants. In addition, the Company assumed franchise agreements for 37 franchisedChevys Fresh Mex restaurants and five franchised Fuzio Universal Pastarestaurants. Chevys’ results of operations have been included in the Company’sconsolidated financial statements since the date of acquisition.

 

The aggregate purchase price for the ChevysAcquisition of $88,948 consisted of approximately $77,900 in cash, the issuanceof common stock, stock options and preferred stock to certain affiliates of theSellers valued at $7,349, transaction costs of $2,883 and the assumption of an $816 mortgage loan. Additionally, theCompany assumed certain liabilities, including ordinary course post-petitioncurrent and long-term liabilities of the Sellers, and issued approximately$6,300 of letters of credit as security for an insurance plan and certainleases.

 

The cash portion of the purchase price and relatedtransaction expenses were financed with $75,000 of borrowings under a SeniorUnsecured Credit Facility, acquired cash and cash on hand.  The common stock, stock options and preferredstock issued to the affiliates of the Sellers included an aggregate of 41,360shares of our Class A Common Stock, 2,064 shares of our Series A 12.5%Cumulative Compounding Preferred Stock (Series A), 1,393 shares of our Series B13.5% Cumulative Compounding Preferred Stock (Series B), 1,946 shares of ourSeries C 15% Cumulative Compounding Participating Preferred Stock (Series C)and options to purchase 3,485 shares of our Class A Common Stock. The value ofthe common stock was determined to be its par value which was $0.001 per share.The value of the preferred stock was its liquidation preference value uponissuance of $1, $1, and $2 per share for the Series A, Series B and Series C,respectively.

 

6

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The following table presents the preliminaryallocation of the acquisition costs, including professional fees and other relatedtransaction costs, to the assets acquired and liabilities assumed, based ontheir estimated fair values:

 
| Cash and cash equivalents                |   | $       | 3,938  |   |
|------------------------------------------|--------|---------|--------|--------|
| Trade accounts receivable                |   | 2,856   |   |
| Inventories                              |   | 1,392   |   |
| Other current assets                     |   | 1,429   |   |
| Property and equipment                   |   | 47,697  |   |
| Other assets                             |   | 3,810   |   |
| Goodwill                                 |   | 47,856  |   |
| Total assets acquired                    |   | 108,978 |   |
|                                     |   |    |   |
| Accounts payable and accrued liabilities |   | 17,571  |   |
| Other liabilities                        |   | 2,459   |   |
| Total liabilities assumed                |   | 20,030  |   |
| Net assets acquired                      |   | $       | 88,948 |   |

 

The primary reason for the ChevysAcquisition was to add a complementary growth vehicle in the full-serviceMexican segment of the restaurant industry. The company attributes the goodwillassociated with the Chevys Acquisition to the historical financial performanceand the anticipated future performance of Chevys. The Company is in the processof obtaining third-party valuations of certain intangible assets acquired inthe Chevys Acquisition; accordingly, the purchase price allocation required bySFAS No. 141 has not yet been finalized. The allocation of thepurchase price is based on preliminary data and could change when the finalvaluation of certain property and equipment and certain intangible assets iscompleted.

 

The followingpro forma consolidated results of operations have been prepared as if theChevys Acquisition had occurred on December 29, 2003 (the first day of fiscalyear 2004):

** **
| ** **                                                     | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                     | ** ** | **March 27,**          | ** ** | **March 28,** | ** ** |
| ** **                                                     | ** ** | **2005**               | ** ** | **2004** | ** ** |
| Total revenues                                                 |       | $                      | 131,247    |   | $ | 130,638 |   |
| Net income (loss) before redeemable  preferred stock accretion |       | 1,101                  |       | (408 | ) |
|                                                                |            |                        |            |  |  |  |  |

 

The pro forma information is presented for informational purposes onlyand is not necessarily indicative of the results of operations that actuallywould have been achieved had the Chevys Acquisition been consummated as of thattime, nor is it intended to be a projection of future results.

 

**3.****             Long-TermDebt**

 

Long-term debt consists of the following:

 
| ** **                       | ** ** | **March 27,  2005** | ** ** | **December 26,  2004** | ** ** |
|----------------------------------|------------|---------------------|------------|------------------------|------------|
| Senior secured notes due 2010    |       | $                   | 105,000    |                   | $          | 105,000 |   |
| Senior Unsecured Credit Facility |       | 75,000              |       | —                 |       |
| Mortgage                         |       | 808                 |       | —                 |       |
| Other                            |       | 63                  |       | 63                     |       |
|                             |       | 180,871             |       | 105,063                |       |
|                             |       |                |       |                   |       |
| Less current portion             |       | (113                | )          | (63                    | )          |
|                             |       |                |       |                   |       |
|                             |       | $                   | 180,758    |                   | $          | 105,000 |   |

 

7

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On March 31, 2004, the Company retired the existing Revolving Creditand Term Loan Agreement and entered into a new Amended and Restated RevolvingCredit Agreement (the “Line”) providing for $30,000 of Senior Secured CreditFacilities with a lead bank acting as Lead Arranger and Administrative Agent.The Line includes a $15,000 letter of credit facility and a $15,000 revolvingcredit facility, with a $15,000 sub-limit for letters of credit. No amountswere outstanding under the Line as of March 27, 2005.

 

On March 31, 2004, the Company sold $105,000 aggregate principal amountof 10% Senior Secured Notes due 2010 (the “Notes”). Interest on the Notes ispayable semiannually on April 1 and October 1 each year, and commenced October1, 2004. The proceeds of the Notes were used to repay a portion of the SeniorA, B and C term loans, the Subordinated Debt and the fees associated with thesale of the Notes and the Line. Concurrent with the retirement of theSubordinated notes and the Senior A, B and C term loans, the company wrote-offthe unamortized cost of the associated deferred debt fees in the amount of$4,677, recorded in Debt Termination Costs in the income statement.  As a result of the failure of the Company toconsummate an exchange offer of registered notes for the Notes, on November 8,2004, the interest rate on the Notes increased by 0.25% per annum and anadditional 0.25% per annum on February 6, 2005. Such increased interest will continue to accrue (subject to furtherincrease) until the Company completes the exchange offer.

 

On January 11, 2005, the Company entered into a $75,000 seniorunsecured credit facility (the “Senior Unsecured Credit Facility”), consistingof a single term loan maturing on December 31, 2008, all of the proceeds ofwhich were used to finance a portion of the cash consideration for the ChevysAcquisition and pay related fees and expenses. Obligations under the Senior Unsecured Credit Facility are guaranteed bysubsidiaries.  Interest on the term loanoutstanding under the Senior Unsecured Credit Facility accrues, at theCompany’s option, at either (i) the greater of prime or the rate which is 0.5%in excess of the federal funds rate, plus 8.5% or (ii) a reserve adjustedEurodollar rate, plus 9.5%.  As of April18, 2005, the interest rate on the term loan was 12.27%.

 

On January 11, 2005, the Company assumed a $0.8 million mortgage (the “Mortgage”),secured by the building and improvements of one of the restaurants acquired inthe Chevys Acquisition. The Mortgage carries a fixed annual interest rate of9.28% and requires equal monthly payments of principal and interest throughApril, 2015.

 

The terms of the amended and Restated Credit Agreement, the Notes andthe Senior Unsecured Credit Facility include specific financial and othercovenants, all of which the Company was in compliance with at March 27, 2005.

** **

**4.****             Capitalization**

 

**CommonStock**

 

The Company is authorized to issue 1,000,000 shares of par value $0.001Class A Common Stock and 1,000,000 shares of par value $0.001 Class B CommonStock. The terms of the Class B Common Stock are identical to the Class ACommon Stock except that the holders of Class B Common Stock have no votingrights, except as provided by law. Each holder of Class B Common Stock has theright to convert any or all shares of Class B Common Stock into an equal numberof shares of Class A Common Stock at any time. There were 300,016 and 258,655shares issued and outstanding of Class A Common Stock at March 27, 2005 andDecember 26, 2004, respectively. There were 15,867 shares issued andoutstanding of Class B Common Stock at March 27, 2005 and December 26, 2004.

 

**Redeemable Preferred Stock**

 

The Company is authorized to issue 100,000 shares of nonvoting $0.001par value Redeemable Preferred Stock. Shares are issued upon approval of theboard of directors and are redeemable at any time at the option of the Company.

 

Series A 12.5% Cumulative Compounding Redeemable Preferred Stock(Series A) and Series B 13.5% Cumulative Compounding Redeemable Preferred Stock(Series B) have a liquidation preference of $1 per share, plus accreteddividends associated with each share. With respect to dividend rights andrights of liquidation, Series A ranks senior to all classes of Common Stock andSeries B. Series B ranks senior to all classes of Common Stock.

 

8

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Series C 15% Cumulative Compounding Participating Preferred stock(Series C) ranks senior with respect to payment of dividends, liquidation, andredemption to the previously existing series of preferred stock and commonstock of the Company. The Series C has a liquidation preference equal to twotimes the original issue price of $1 per share, plus accreted dividends.

 

The liquidation preference on the Series A and Series B accretes at thestated rates, and the liquidation preference on Series C accretes at the statedrate on the liquidation preference value; dividends (representing the accretedliquidation preference) are to be paid from legally available funds, when andif declared by the board of directors. If dividends are not declared, adividend will continue to accrue and will be paid as dividends only when and ifdeclared, or upon a sale or liquidation of the Company or upon redemption ofthe Preferred Stock. Accretion of the liquidation preference on the RedeemablePreferred Stock was $3,390 and $11,862 during the three months ended March 27,2005 and year ended December 26, 2004, respectively, and is reflected as anincrease in the preferred stock values and an increase in the accumulated deficit.

 

Net loss attributable to common stockholders includes the effect of theaccretion of the liquidation preference on the redeemable preferred stock,which reduces net income and increases net loss attributable to commonstockholders for the relevant periods.

** **

**StockOption Plans**

 

The Company’s 1998 and 2000 Stock Option Plans (the Plans) haveauthorized the grant of options to certain employees, directors and independentcontractors for up to 12,000 and 100,000 shares, respectively, of the Company’sCommon Stock. All options granted under both Plans have 10-year terms.

 

The Company has elected to follow APB Opinion No. 25, “Accounting forStock Issued to Employees,” and related interpretations in accounting for itsemployee stock options because, as discussed below, the alternative fair valueaccounting provided for under SFAS No. 123, “Accounting for Stock BasedCompensation,” requires use of option valuation models that were not developedfor use in valuing employee stock options. Under APB Opinion No. 25, if theexercise price of the Company’s employee stock options equals the market priceof the underlying stock on the date of the grant, no compensation expense isrecognized. The Company follows the required disclosures of SFAS No. 148, “Accountingfor Stock Based Compensation—Transition and Disclosure,” which amends SFAS No.123, “Accounting for Stock Based Compensation”, which requires more prominentand more frequent disclosures in financial statements of the effects of stockbased compensation.

 

For option grants prior to 2004, the Plans provide for 50% of theoptions to become exercisable based on “annual vesting,” with 10% of the grantvesting per year during the first five years after the grant date, and theremaining 50% to become exercisable based on a “cliff vesting” schedule. The50% portion of the option shares with the cliff vesting feature will 1) vest atan accelerated rate of 20% per year (i.e., 10% of the total options granted),provided that the equity of the Company (as defined in the Plans) is greaterthan or equal to the specified annual targets, 2) on any vesting anniversarydate, the cumulative unvested shares through that date would vest if therequired threshold is met, and 3) if after the fifth anniversary date therequired threshold is not met, unvested options shall expire and terminate. Foroptions grants in 2004, the Plan provides for 20% of the option grants tobecome exercisable each year on the anniversary date of the grants.

 

A summary ofthe status of the Company’s two stock option plans as of March 27, 2005,and March 28, 2004, and changes during the periods ending on these dates,is presented below:

 
| ** **                         | ** ** | **1998 Plan**                 | ** ** | **2000 Plan**                           | ** ** |
|------------------------------------|------------|-------------------------------|------------|-----------------------------------------|------------|
| ** **                         | ** ** | **Number of  Stock  Options** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Number of  Stock   Options** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** |
| Outstanding—December 26, 2004 |       | 5,250                         |       | $                                       | 10.00      |   | 81,333 |   | $ | 33.19 |   |
|                               |       |                          |       |                                    |       |   |   |   |   |
| Granted                            |       | 682                           |       | 10.00                                   |       | 4,839 |   | $ | 30.52 |   |
| Exercised                          |       | —                        |       | —                                  |       | — |   | — |   |
| Canceled                           |       | —                        |       | —                                  |       | — |   | — |   |
| Outstanding—March 27, 2005    |       | 5,932                         |       | $                                       | 10.00      |   | 86,172 |   | $ | 33.04 |   |
|                               |       |                          |       |                                    |       |   |   |   |   |
| Exercisable at March 27, 2005      |       | 5,932                         |       | $                                       | 10.00      |   | 21,123 |   | $ | 60.01 |   |

 

Under the 1998Stock-Based Incentive Compensation Plan, the Company granted stock options 50%of whose vesting is contingent on one or more performance conditions. For stockoptions granted in 2000, the vesting is contingent on the Company’s EquityValue, as defined in its Plan, exceeding a specified threshold. If as of June 30,2005, the Equity Value has not exceeded the prescribed threshold, then theperformance-based portion of the option will be cancelled. For the stock optiongranted in 2001, 50% of the vesting is conditional on a change in control.

 

The fair valueof each option grant was estimated on the date of grant using the Black-Scholesoption pricing model with the following assumptions for 2004 and 2005 optionsrespectively: risk-free interest rates of 3.96% and 3.87%; and expected livesof six years and volatility of 35% for both years. The weighed-averageremaining contractual life of the employee stock options granted under the 1998Stock-Based Incentive Compensation Plan is four years and the weighted-averagefair value of the employee stock options granted under the 1998 Stock-BasedIncentive Compensation Plan is $41.14 per share. The weighted-average remainingcontractual life of the employee stock options granted under the 2000Stock-Based Incentive Compensation Plan is eight years and the weighted-averagefair value of the employee stock options granted under the 2000 Stock-BasedIncentive Compensation Plan is $0.47 per share.

 

9

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At March 27,2005, the Company has outstanding stock options granted under the 1998Stock-Based Incentive Compensation Plan and the 2000 Stock-Based IncentiveCompensation Plan. The Company accounts for those plans under the recognitionand measurement principles of APB Opinion No. 25, *Accountingfor Stock Issued to Employees,*and related interpretations. Nostock-based employee compensation cost is reflected in net income, as alloptions granted under those plans had an exercise price equal to the marketvalue as of the underlying common stock on the date of grant, or in the case ofperformance based options have an exercise price above the market value as ofthe underlying common stock on March 27, 2005. For purposes of pro formadisclosures, the estimated fair value of the options is amortized to expenseover the options’ vesting period. Under SFAS No. 148, the Company wouldhave incurred $567 additional compensation expense for the three months ended March 27,2005.

 

**5.****             RelatedParty Transactions**

 

The Company has a management agreement with two of its stockholders.The stockholders are paid fees equating to .667% and .333%, respectively, ofconsolidated earnings before interest, income taxes, depreciation andamortization of the Company. Expenses relating to the agreement of $117 and $61were recorded as general and administrative expense in the three months endedMarch 27, 2005 and March 28, 2004.

 

On January 19, 2005, the Company paid$833,333 and $166,667 to Bruckman, Rosser, Sherrill & Co., L.P. and FSPrivate Investments, LLP, respectively, for advisory and transactional servicesprovided to our Company pursuant to the Amended and Restated ManagementAgreement in connection with the Chevys Acquisition.

 

Effective March 31, 2004, the Company cancelled its managementagreement with Restaurant Associates Corp. to provide services for the benefitof the Company, including general and strategic management, treasury, tax,financial reporting, benefits administration, insurance, informationtechnology, real estate and legal services. Two of our directors are employeesof Restaurant Associates Corp. Expenses relating to this agreement of $64 wererecorded as general and administrative expense for the three months ended March28, 2004.

 

Notes receivable from stockholders consisted of amounts due fromstockholders related to the acquisition of the Company’s Common and PreferredStock. The notes bore interest at 8.0% and were fully repaid on June 28, 2004.

 

**6.****             Sale LeasebackTransaction**

 

On March 31, 2004, the Company sold and leased back the land andbuilding underlying five of the Company’s restaurants (three in Missouri andtwo in California) for total net proceeds of $12,012 (the “Sale LeasebackTransaction”). The Sale-Leaseback Transaction resulted in deferred gain of$3,927 that is being amortized over the lives of the related leases. For thethree month period ended March 27, 2005, the Company recognized $96 of thedeferred gain which was recorded in other income (expense), net.

 

The leases underlying the Sale-Leaseback Transaction have initial20-year non-cancelable terms and qualify for operating lease treatment. Theimpact of the Sale-Leaseback Transaction resulted in an increase in rentexpense of approximately $1,025 in 2004. The proceeds of the Sale-Leaseback Transaction were used to repay aportion of the Senior A, B and C term loans.

 

10

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**Item 2.**    Management’sDiscussion and Analysis of Financial Condition and Results of Operations

* *

*You should read the following discussion together with our consolidatedfinancial statements and related notes thereto included elsewhere in thisreport.  The following discussion andanalysis of our financial condition and results of operations contains forwardlooking statements within the meaning of the federal securities laws.  See “Forward-Looking Statements” below.*

** **

**Overview**

 

Real Mex Restaurants, Inc. (referred to hereafter as “we”, “our” and “Company”)is one of the largest full service, casual dining Mexican restaurant chainoperators in the United States in terms of number of restaurants. We currentlyoperate 199 restaurants, of which 164 are located in California, withadditional restaurants in Arizona, Florida, Indiana, Illinois, Maryland,Missouri, Nevada, New Jersey, New York, Oregon, Virginia and Washington. Ourfour major subsidiaries are El Torito Restaurants, Inc., which we acquired inJune 2000, Acapulco Restaurants, Inc., Chevys Restaurants, LLC, which we formedin connection with the Chevys Acquisition, and a purchasing, distribution, andmanufacturing subsidiary, Real Mex Foods, Inc.

 

Our three primary restaurant concepts, El Torito, Acapulco and Chevys,offer high quality Mexican food, a wide selection of alcoholic beverages andexcellent guest service.  In addition tothe El Torito, El Torito Grill, Acapulco and Chevys concepts, we operate 16additional restaurant locations, most of which are also full service Mexicanformats, under the following brands: Las Brisas; Casa Gallardo; El PasoCantina; GuadalaHarry’s; Who Song & Larry’s; Keystone Grill; and FuzioUniversal Pasta.

 

On January 11, 2005 we completed the Chevys Acquisition, acquiring 69Chevys restaurants and five Fuzio Universal Pasta restaurants and assumingfranchise agreements for 37 franchised Chevys restaurants and five franchisedFuzio Universal Pasta restaurants.  Thepurchase price for the Chevys Acquisition was approximately $77.9 million incash and the assumption of certain liabilities, plus the issuance of Real Mexcommon and preferred stock to J.W. Childs Equity Partners L.P. and itsaffiliate, JWC Chevys Co-Invest, LLC.  See “Notes to Consolidated FinancialStatements”. Chevys’ results of operations have been included in our Company’sconsolidated financial statements since the date of the acquisition.

 

In December 2004, we opened our first new El Torito restaurant in fiveyears, located in Encinitas, California. We opened our second new El Torito restaurant in Corona, California inApril 2005, and plan to open three additional restaurants in 2005.

 

Restaurant revenues includes sales of food and alcoholic and otherbeverages. Other revenues consists primarily of sales by Real Mex to outsidecustomers of processed and packaged prepared foods and other merchandise items.

 

Cost of sales is comprised primarily of food and alcoholic beverageexpenses. The components of cost of sales are variable and increase with salesvolume. In addition, the components of cost of sales are subject to increase ordecrease based on fluctuations in commodity costs and depend in part on thesuccess of controls we have in place to manage cost of sales in ourrestaurants. The cost, availability and quality of the ingredients we use toprepare our food and beverages are subject to a range of factors including, butnot limited to, seasonality, political conditions, weather conditions, andingredient shortages.

 

Labor cost includes direct hourly and management wages, operationsmanagement bonus expense, vacation pay, payroll taxes and workers’ compensationinsurance and health insurance expenses.

 

Direct operating and occupancy expense includes operating supplies,repairs and maintenance, advertising expenses, utilities, and other restaurantrelated operating expenses. This expense also includes all occupancy costs suchas fixed rent, percentage rent, common area maintenance charges, real estatetaxes and other related occupancy costs.

 

General and administrative expense includes all corporate andadministrative functions that support our operations. Expenses within thiscategory include executive management, supervisory and staff salaries, bonusand related employee benefits, travel and relocation costs, informationsystems, training, corporate rent and professional and other consulting fees.

 

Depreciation principally includes depreciation of capital expendituresfor restaurants. Pre-opening costs are expensed as incurred and include costsassociated with the opening of a new restaurant or the conversion of anexisting restaurant to a different concept.

 

Our fiscal year consists of 52 or 53 weeks and ends on the last Sundayin December of each year. The three months ended March 27, 2005 and March 28,2004 consist of thirteen weeks. When calculating same store sales, we include arestaurant that has been open for more than 12 months and for the entirety ofeach comparable period. References to same store sales contained in this reportdo not include Chevys.

 

11

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**Critical Accounting Policies**

 

The preparation of our financial statements requires us to makeestimates and judgments that affect the reported amounts of assets,liabilities, revenues and expenses, and related disclosure of contingent assetsand liabilities. On an ongoing basis, we evaluate our estimates, includingthose related to goodwill, income taxes, impairment of long-lived assets andself-insurance reserves. We base our estimates on historical experience and onvarious other assumptions and factors that are believed to be reasonable underthe circumstances, the results of which form the basis for making judgmentsabout the carrying values of assets and liabilities that are not readilyapparent from other sources. Based on our ongoing review, we plan to makeadjustments to our judgments and estimates where facts and circumstancesdictate. Actual results could differ from our estimates under differentassumptions or conditions.

 

For future information regarding the accounting policies that webelieve to be critical accounting policies that affect our more significantjudgments and estimates used in preparing our consolidated financialstatements, see our form 10-K filed for the fiscal year ended December 26,2004.

** **

**Impact ofRecently Issued Accounting Principles**

 

In April 2005, the Securitiesand Exchange Commission (“SEC”) approved a new rule that delays the effectivedate of Statement of Financial Accounting Standards (“SFAS”) No. 123R, *Share-Based Payment*. Except for this deferral of theeffective date, the guidance in SFAS No. 123R is unchanged. Under the SEC’srule, SFAS No. 123R is now effective for the Company for annual, rather thaninterim, periods that begin after June 15, 2005. The Company will apply thisStatement to all awards granted on or after December 25, 2005 and to awardsmodified, repurchased, or cancelled after that date. We expect that theimplementation of the provisions of SFAS No. 123R will have an impactconsistent with our disclosures included under SFAS No. 148 in our fiscal 2004Form 10-K.

** **

**Results of Operations**

 

Our operating results for the three months ended March 27, 2005 andMarch 28, 2004 are expressed as a percentage of total revenues below:

 
| ** **                             | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------|------------|------------------------|------------|
| ** **                             | ** ** | **March 27, 2005**     | ** ** | **March 28, 2004** | ** ** |
| Total revenues                         |       | 100.0                  | %          | 100.0 | % |
| Cost of sales                          |       | 25.2                   |       | 24.6 |   |
| Labor                                  |       | 36.2                   |       | 37.4 |   |
| Direct operating and occupancy expense |       | 23.7                   |       | 23.4 |   |
| Total operating costs                  |       | 85.0                   |       | 85.3 |   |
| General and administrative expense     |       | 6.2                    |       | 5.5 |   |
| Depreciation                           |       | 3.7                    |       | 4.1 |   |
| Operating income                       |       | 4.9                    |       | 4.9 |   |
| Pre-opening costs                      |       | 0.1                    |       | 0.2 |   |
| Interest expense                       |       | 4.4                    |       | 4.1 |   |
| Total other expense, net               |       | 3.7                    |       | 3.6 |   |
| Income before tax provision            |       | 1.1                    |       | 1.3 |   |
| Net income                             |       | 1.1                    |       | 1.3 |   |

 

**Three months ended March 27, 2005 compared tothe three months ended March 28, 2004**

* *

*Total Revenues*. Total revenues increased by $43.5 million, or 54.5%, to $123.3 millionin the first quarter of 2005 from $79.8 million in the first quarter of 2004due to a $41.3 million increase in restaurant revenues and a $2.2 millionincrease in other revenues.  The increasein restaurant revenues was the result of the inclusion in our results ofoperations of the Chevys restaurant sales of $40.8 million combined withcomparable store sales increases of 3.3% in the quarter, partially offset byrestaurant closures.  The increase incomparable store sales was driven by increases in pricing in El Torito conceptrestaurants of approximately 1.2% and in Acapulco concept restaurants ofapproximately 1.9%, increases in customer counts of 2.9% in the El Toritorestaurants and decreased discounting in the Acapulco restaurants.  The $2.2 million increase in other revenueswas primarily due to an increase in sales to outside customers by ourdistribution facility.

* *

*Cost of Sales*. Total cost of sales of $31.0 million in the first quarter of 2005increased $11.4 million or 58.2% as compared to the first quarter of 2004primarily due to the inclusion in our results of operations of the Chevysrestaurants cost of sales of $10.2

 

12

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million combined with higher costs associated withthe increase in sales to outside customers by our distribution facility.  As a percentage of total revenues, cost ofsales increased to 25.2% for the first quarter of 2005 from 24.6% for the firstquarter of 2004.

* *

*Labor*.  Labor costsof $44.6 million in the first quarter of 2005 increased by $14.8 million or49.6% as compared to the first quarter of 2004. The increase in labor costdollars associated with the inclusion in our results of operations of theChevys restaurants was $14.8 million. Payroll and benefits remain subject to inflation and governmentregulation, especially wage rates currently at or near the minimum wage, andexpenses for health insurance and workers’ compensation insurance.  As a percent of total revenues, labor costsdecreased to 36.2% for the first quarter of 2005 from 37.4% for the firstquarter of 2004 primarily due to lower hourly labor expense as a percent ofsales due to continued focus on hourly labor controls and scheduling.

* *

*Direct Operating and Occupancy Expense*.  Direct operating and occupancy expense of$29.2 million in the first quarter of 2005 increased by $10.6 million or 56.7%as compared to the first quarter of 2004. The increase in direct operating andoccupancy expense associated with the inclusion in our results of operations ofthe Chevys restaurants was $10.7 million. Direct operating and occupancy expense as a percentage of salesincreased to 23.7% in the first quarter of 2005 from 23.4% in the first quarterof 2004.

* *

*General and Administrative Expense*.  General and administrative expense of $7.6million in the first quarter of 2005 increased by $3.2 million or 71.8%primarily due to increased staffing associated with the Chevys Acquisition.  General and administrative expense as apercentage of sales increased to 6.2% in the first quarter of 2005 from 5.5% inthe first quarter of 2004.

* *

*Depreciation*. Depreciation expense of $4.5 million in the first quarter of 2005increased $1.3 million or 38.7% as compared to the first quarter of 2004.  The increase associated with the inclusion inour results of operations of the Chevys restaurants was $1.4 million. As apercentage of total revenues, depreciation decreased to 3.7% for the first quarterof 2005 from 4.1% for the first quarter of 2004.

* *

*Interest Expense*. Interest expense of $5.4 million in the first quarter of 2005 increased$2.2 million or 66.4% as compared to the first quarter of 2004 primarily due toincreased debt levels associated with the $105.0 million in Notes and the $75.0million Senior Unsecured Credit Facility. As a percentage of total revenues, interest expense increased to 4.4%for the first quarter of 2005 from 4.1% for the first quarter of 2004.

** **

**Liquidity and Capital Resources**

 

Our principal liquidity requirements are to service our debt and meetour capital expenditure and working capital needs.  Our indebtedness, including capital leaseobligations, at March 27, 2005 was $182.2 million, and we had $3.2 million ofrevolving credit availability under our Line. Our ability to make principal and interest payments and to fund plannedcapital expenditures will depend on our ability to generate cash in the future,which, to a certain extent, is subject to general economic, financial,competitive, legislative, regulatory and other factors that are beyond ourcontrol.  Based on our current level ofoperations, we believe our cash flow from operations, available cash andavailable borrowings under our Line will be adequate to meet our liquidityneeds for the foreseeable future. In addition, we may partially fund restaurantopenings through credit received from trade suppliers and landlordcontributions, if favorable terms are available. We cannot assure you, however,that our business will generate sufficient cash flow from operations or thatfuture borrowings will be available to us under our Line in an amountsufficient to enable us to service our indebtedness or to fund our otherliquidity needs. If we consummate an acquisition, our debt service requirementscould increase. We may need to refinance all or a portion of our indebtednesson or before maturity. We cannot assure you that we will be able to refinanceany of our indebtedness on commercially reasonable terms or at all.

** **

**Working Capital and Cash Flows**

 

We presently have, in the past have had, and in the future are likelyto have, negative working capital balances. The working capital deficitprincipally is the result of accounts payable and accrued liabilities being inexcess of current asset levels. The largest components of our accruedliabilities include reserves for our self-insured workers’ compensation andgeneral liability insurance, accrued payroll and related employee benefitscosts, and gift certificate liabilities. We do not have significant receivablesand we receive trade credit based upon negotiated terms in purchasing food andsupplies. Funds available from cash sales not needed immediately to pay forfood and supplies or to finance receivables or inventories typically have beenused for capital expenditures and/or debt service payments under our existingindebtedness.

* *

*Operating Activities*.  We had net cash provided by operatingactivities of $6.7 million for the three months ended March 27, 2005 comparedwith net cash provided by operating activities of $6.0 million for the threemonths ended March 28, 2004. The increase in cash provided by operatingactivities was primarily attributable to an increase in inventories at Real Mexattributable to the initiation of distribution services to the Chevysrestaurants.

 

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*Investing Activities*.  We completed the Chevys Acquisition onJanuary 11, 2005.  Asset acquisitioncosts for the three months ended March 27, 2005 were $74.8 million.  We expect to make capital expenditurestotaling approximately $20.1 million in fiscal 2005 of which $7.6 million isexpected to be spent on our Chevys and Fuzio Universal Pasta restaurants includingapproximately $2.0 million related to upgrades to the Chevys POS system and$5.6 million for maintenance capital expenditures.  The remaining $12.5 million in capitalexpenditures includes approximately $6.2 million in maintenance capitalexpenditures and approximately $6.3 million to build four new El Torito or ElTorito Grill restaurants.  As of March27, 2005, we made capital expenditures totaling approximately $3.5 millioncomprised of $2.6 million of maintenance capital expenditures and $0.9 millionfor new restaurant development.

 

These and other similar costs may be higherin the future due to inflation and other factors.  We expect to fund the new El Toritorestaurants and the other capital expenditures described above from cash flowfrom operations, available cash, available borrowings under our Senior CreditFacility, landlord contributions (if favorable terms are available) and tradefinancing received from trade suppliers.

* *

*Financing Activities*.  We had net cash provided by financingactivities of $72.3 million for the three months ended March 27, 2005 comparedwith net cash used in financing activities of $1.4 million for the three monthsended March 28, 2004. The increase in cash provided by financing activities wasprimarily due to the issuance of $75.0 million in notes under a SeniorUnsecured Credit Facility to fund the Chevys Acquisition.

** **

**Debt and Other Obligations**

 

On March 31, 2004, we sold $105.0 millionaggregate principal amount of old notes. At the closing of the sale of the old notes, we used the proceeds fromthe sale of the Notes and the Sale-Leaseback Transaction to repay term loansthen outstanding under our prior credit facility of $70.2 million andsubordinated notes of $44.4 million in full, and entered into a new seniorsecured credit facility.  In connection withthe retirement of our term loans then outstanding, we took a charge of $4.7million consisting of deferred financing costs and discounts on the retireddebt and termination of an interest rate swap agreement at a cash cost of $0.2million.

** **

**Senior UnsecuredCredit Facility**. Concurrently with the closing of the Chevys Acquisition, we entered intoa $75.0 million Senior Unsecured Credit Facility, consisting of a single termloan maturing on December 31, 2008, all of the proceeds of which were used tofinance a portion of the cash consideration for the Chevys Acquisition and payrelated fees and expenses.  Ourobligations under the Senior Unsecured Credit Facility are guaranteed by oursubsidiaries.  Interest on the term loanoutstanding under the Senior Unsecured Credit Facility accrues, at our option,at either (i) the greater of prime or the rate which is 0.5% in excess of thefederal funds rate, plus 8.5% or (ii) a reserve adjusted Eurodollar rate, plus9.5%.  As of March 18, 2005, the interestrate on the term loan was 12.27%.

** **

Our SeniorUnsecured Credit Facility contains various affirmative and negative covenants,which among other things, requires us to meet certain financial tests(including certain leverage and interest coverage ratios) and limits our andour subsidiaries’ ability to incur or guarantee additional indebtedness, grantcertain liens, make certain restricted payments, make capital expenditures,engage in transactions with affiliates, make certain investments, sell ourassets, make acquisitions, effect a consolidation or merger and amend or modifyinstruments governing certain indebtedness (including relating to thenotes).  We are required to maintaincertain minimum interest coverage ratios ranging from (i) 1.75 to 1.00 forthe four fiscal quarters ending on or prior to June 30, 2005, (ii) 1.85to 1.00 for the four fiscal quarters ending on or prior to September 30,2005 through March 31, 2006, (iii) 2.00 to 1.00 for the four fiscalquarters ending on or prior to June 30, 2006 through December 31,2006, (iv) 2.15 to 1.00 for the fiscal quarters ending on or prior to March 31,2007 through December 31, 2007, and (v) 2.30 to 1.00 thereafter untilmaturity.  Pursuant to the terms of theSenior Unsecured Credit Facility, interest coverage ratio is defined as theratio as of the last day of any fiscal quarter of (a) Consolidated EBITDA(as defined therein) for the four-fiscal quarter period then ending to (b) ConsolidatedInterest Expense (as defined therein) for such four-fiscal quarter period.

 

**Line**.  Our Line was initially comprised of a $15.0million revolving credit facility, which had a $2.0 million sub-limit forletters of credit (the “Revolving Credit Facility”) and a $15.0 million lettersof credit facility (the “Letters of Credit Facility”).  At the closing of the sale of the old notes,we utilized the Letters of Credit Facility in its entirety and utilized anadditional $2.0 million from the Revolving Credit Facility to secureapproximately $17.0 million in outstanding letters of credit, which serve ascollateral for our various self-insured workers’ compensation and otherinsurance programs.  On January 11, 2005,concurrent with the closing of the Chevys Acquisition, we amended the Line to,among other things, modify certain covenants, change the maturity date to June30, 2008 (subject to extension to March 31, 2009 provided that the SeniorUnsecured Credit Facility (as defined below) has been repaid and terminated infull on or prior to June 29, 2008), and increased the sub-limit for letters ofcredit availability under the Revolving Credit Facility from $2.0 million to$15.0 million (subject to an overall limitation of $30.0 million availabilityunder the Line).  At the closing of theChevys Acquisition, we utilized an additional $6.4 million from the RevolvingCredit Facility to secure assumed letters of credit which serve as collateralfor Chevys’ workers’ compensation insurance programs and to guaranteeperformance under certain of Chevys’ operating leases.

 

Under the Line, interest accrues based upon atotal leverage ratio calculation. The interest under the Line accrues, at ouroption, at either (i) the base rate of interest in effect from time to time,which is the higher of the lender’s prime rate as announced from time to timeor the federal funds rate plus 0.50%, plus the current applicable margin of1.75% or (ii) a London Inter Bank Offering Rate for deposits as reported by agenerally recognized financial reporting service plus the current applicablemargin of 4.0%. Our Line is guaranteed by our subsidiaries and secured by,among other things, perfected first priority pledges of all of the equityinterests of our direct and indirect subsidiaries, and perfected first prioritysecurity interests (subject to customary exceptions) in substantially all ofour current and future property and assets, with certain limited exceptions.The lien on the collateral securing the Line is senior to the lien on thecollateral securing the notes and the guarantees of the notes.

 

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Our Line contains various affirmative andnegative covenants and restrictions, which among other things, requires us tomeet certain financial tests (including certain leverage and cash flow ratios),and limits our and our subsidiaries’ ability to incur or guarantee additionalindebtedness, make certain capital expenditures, pay dividends or make otherequity distributions, purchase or redeem capital stock, make certaininvestments, enter into arrangements that restrict dividends from subsidiaries,sell assets, engage in transactions with affiliates and effect a consolidationor merger.  We are required to maintaincertain cash flow ratios determined on an annual basis equal to (i) 1.40 to1.00 for the period December 31, 2004 to December 31, 2005, (ii) 1.70 to 1.00for the period January 1, 2006 to December 31, 2006, (iii) 1.80 to 1.00 for theperiod January 1, 2007 to December 31, 2007, and (iv) 1.90 to 1.00 for theperiod January 1, 2008 and thereafter until maturity.  Pursuant to the terms of the Line, cash flowratio is defined as the ratio of (a) Consolidated Cash Flow (as definedtherein) to (b) Consolidated Financial Obligations (as defined therein).

** **

**Senior SecuredNotes due 2010**. Interest on the notes accrues at a rate of 10% per annum and is payablesemiannually on April 1 and October 1 of each year, commencing October 1,2004.  The notes are fully andunconditionally guaranteed on a senior secured basis by all of our present andfuture domestic subsidiaries which are restricted subsidiaries under theindenture governing the notes.  The notesand related guarantees are secured by substantially all of our and our domesticrestricted subsidiaries’ tangible and intangible assets, subject to the priorranking claims on such assets by the lenders under our Line.  The indenture governing the notes containsvarious affirmative and negative covenants, subject to a number of importantlimitations and exceptions, including but not limited those limiting ourability to incur additional indebtedness, make capital expenditures, paydividends, redeem stock or make other distributions, issue stock of oursubsidiaries, make certain investments or acquisitions, grant liens on assets,enter into transactions with affiliates, merge, consolidate or transfersubstantially all of our assets, and transfer and sell assets.  The covenant that limits our incurrence ofindebtedness requires that, after giving effect to any such incurrence ofindebtedness and the application of the proceeds thereof, our fixed chargecoverage ratio as of the date of such incurrence will be at least (i) 2.25 to1.00 in the case of any incurrence on or before April 1, 2006 and (ii) 2.50 to1.00 in the case of any incurrence after April 1, 2006.  The indenture defines consolidated fixedcharge coverage ratio as the ratio of Consolidated Cash Flow (as definedtherein) to Fixed Charges (as defined therein).

 

We can redeem the notes on or after April 1,2007, except that we may redeem up to 35% of the notes prior to April 1, 2007with the proceeds of one or more public equity offerings.  We are required to redeem the old notes undercertain circumstances involving a change of control.  Additionally, if we or any of our domesticrestricted subsidiaries engage in assets sales, we generally must either investthe net cash proceeds from such sales in our business within 360 days, prepaythe indebtedness obligations under our Revolving Credit Facility or certainother secured indebtedness or make an offer to purchase a portion of the notes.

 

On June 9, 2004, we filed a registrationstatement with respect to notes having substantially identical terms as the oldnotes, as part of an offer to exchange registered notes for the Notes (the “ExchangeOffer”).  We temporarily suspended andextended the Exchange Offer on October 27, 2004 in connection with the pendingacquisition of Chevys.  As a result ofthe suspension of the Exchange Offer, pursuant to the terms of a registrationrights agreement entered into with the initial purchasers of the old notes, webegan paying additional interest on the old notes on November 8, 2004 at therate of 0.25% per annum, which rate increased by an additional 0.25% per annumon February 6, 2005.  Such additional interestwill continue to accrue (subject to further increase) until we complete theExchange Offer.

* *

*Mortgage.*  Concurrently with the closing of the ChevysAcquisition, we assumed a $0.8 million mortgage (the “Mortgage”) secured by thebuilding and improvements of one of the restaurants acquired in thetransaction. The Mortgage carries a fixed annual interest rate of 9.28% andrequires equal monthly payments of principal and interest through April, 2015.

 

In connection with our acquisition of ElTorito, we assumed capitalized lease obligations, collateralized with leaseholdimprovements, in an aggregate amount of $9.2 million.  The capitalized lease obligations have aweighted average interest rate of 

 

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10.0%. As of March 27, 2005, the principal amount due relating to capitalizedlease obligations was $1.4 million. Principal and interest payments on the capital lease obligations are duemonthly and range from $1,100 to $7,500 per month.  The capital lease obligations mature between2005 and 2027.

** **

**Inflation**

 

Over the past five years, inflation has not significantly affected ouroperations.  However, the impact ofinflation on labor, food and occupancy costs could, in the future,significantly affect our operations.  Wepay many of our employees hourly rates related to the federal or applicablestate minimum wage.  Our workers’compensation and health insurance costs have been and are subject to continuedinflationary pressures.  Costs forconstruction, taxes, repairs, maintenance and insurance all impact ouroccupancy costs.  Many of our leasesrequire us to pay taxes, maintenance, repairs, insurance and utilities, all ofwhich may be subject to inflationary increases. We believe that our current practice of maintaining operating marginsthrough a combination of periodic menu price increases, cost controls, carefulevaluation of property and equipment needs, and efficient purchasing practicesis our most effective tool for dealing with inflation.

** **

**Risk Factors**

** **

*Food-borne illness incidents could reduce ourrestaurant sales.*

* *

We cannot guarantee that ourinternal controls and training at our restaurants and distribution andmanufacturing facilities will be fully effective in preventing all food-borneillnesses. Furthermore, our reliance on third party suppliers makes itdifficult to monitor food safety compliance and increases the risk thatfood-borne illness would affect multiple locations rather than singlerestaurants. Some food borne illness incidents could be caused by third partyfood suppliers and transporters outside of our control. New illnesses resistantto our current precautions may develop in the future, or diseases with longincubation periods could arise, that could give rise to claims or allegationson a retroactive basis. One or more instances of food-borne illness in one ofour restaurants could negatively affect our restaurant sales if highlypublicized. This risk exists even if it were later determined that the illnesswas wrongly attributed to one of our restaurants. A number of other restaurantchains have experienced incidents related to food borne illnesses that have hada material adverse impact on their operations, and we cannot assure you that wecan avoid a similar impact upon the occurrence of a similar incident at ourrestaurants.

 

*Increases in the cost of ingredients couldmaterially adversely affect our business, financial condition, results ofoperations and cash flows.*

* *

The cost, availability andquality of the ingredients we use to prepare our food and beverages are subjectto a range of factors, many of which are beyond our control. Changes in thecost of such ingredients can result from a number of factors, includingseasonality, political conditions, weather conditions, shortages of ingredientsand other factors. If we fail to anticipate and react to increasing ingredientcosts by adjusting our purchasing practices and menu price adjustments, ourcost of sales may increase and our operating results could be adverselyaffected.

 

*We depend upon frequent deliveries of food and othersupplies.*

* *

Our ability to maintainconsistent quality menu items depends in part upon our ability to acquire freshfood products and related items, including key ingredients used in the Mexicanrestaurant business such as avocados, from reliable sources in accordance withour specifications. Shortages or interruptions in the supply of fresh foodproducts caused by unanticipated demand, problems in production ordistribution, contamination of food products, an outbreak of food-bornediseases, inclement weather or other conditions could materially adverselyaffect the availability, quality and cost of ingredients, which could adverselyaffect our business, financial condition, results of operations and cash flows.

 

We have contracts with alarge number of suppliers of most food, beverages and other supplies for ourrestaurants. In addition, we distribute substantially all of the products wereceive from suppliers through our distribution facility. If suppliers do notperform adequately or if any one or more of such entities seeks to terminateits agreement or fails to perform as anticipated, or if there is any disruptionin any of our supply relationships or distribution operations for any reason,it could have a material adverse effect on our business, financial condition,results of operations and cash flows. Our inability to replace our distributionoperations and our suppliers in a short period of time on acceptable termscould increase our costs and could cause shortages at our restaurants of foodand other items that may cause our restaurants to remove certain items from arestaurant’s menu or temporarily close a restaurant. If we temporarily close arestaurant or remove popular items from a restaurant’s menu, that restaurantmay experience a significant reduction in revenue during the time affected bythe shortage or thereafter, as our customers may change their dining habits asa result.

 

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*We are vulnerable to changes in consumer preferencesand economic and other conditions that could harm our business, financialcondition, results of operations and cash flows.*

* *

Food service businesses areoften affected by changes in consumer tastes, national, regional and localeconomic conditions, demographic trends, consumer confidence in the economy anddiscretionary spending priorities. Factors such as traffic patterns, weatherconditions, local demographics and the type, number and location of competingrestaurants may adversely affect the performance of individual locations. Inaddition, inflation and increased food and energy costs may harm the restaurantindustry in general and our locations in particular. Adverse changes in any ofthese factors could reduce consumer traffic or impose practical limits on pricing,which could harm our business, financial condition, results of operations andcash flows. There can be no assurance that consumers will continue to regardour products favorably or that we will be able to develop new products thatappeal to consumer preferences, which could have a materially adverse affect onour business. Our continued success will depend in part on our ability toanticipate, identify and respond to changing consumer preferences and economicconditions.

 

*Our business is highly sensitive to events andconditions in the State of California.*

* *

A majority of ourrestaurants are located in California. Because of this geographicconcentration, we are susceptible to local and regional risks, such as energyshortages and related increased costs, increased government regulation, adverseeconomic conditions, adverse weather conditions, earthquakes and other naturaldisasters, any of which could have a material adverse effect on our business,financial condition and results of operations. In light of our currentgeographic concentration, adverse publicity relating to our restaurants couldhave a more pronounced adverse effect on overall sales than might be the caseif our restaurants were more broadly dispersed.

 

*There is intense competition in the restaurantindustry.*

* *

The restaurant business isintensely competitive with respect to food quality, price value relationships,ambiance, service and location, and there are many well-established competitorswith substantially greater financial, marketing, personnel and other resources.In addition, many of our competitors are well established in the markets wherewe operate. While we believe that our restaurants are distinctive in design andoperating concept, other companies may develop restaurants that operate withsimilar concepts.

 

*We intend to open additional restaurants, whichcould have a material adverse effect on our business, financial condition,results of operations and cash flows.*

* *

We are reviewing additionalsites for potential future restaurants. Historically, there is a “ramp-up”period of time before we expect a new restaurant to achieve our targeted levelof performance. This is due to higher operating costs caused by start-up andother temporary inefficiencies such as customer acceptance and unavailabilityof experienced staff. Our ability to open new restaurants is dependent upon anumber of factors, many of which are beyond our control, including our abilityto:

 

**•**              find quality locations;

 

**•**              reach acceptable agreements regarding the lease orpurchase of locations;

 

**•**              raise or have available an adequate amount of money forconstruction and opening costs;

 

**•**              timely hire, train and retain the skilled managementand other employees necessary to meet staffing needs; and

 

**•**              obtain, for an acceptable cost, required permits andregulatory approvals.

 

We may not be able toattract enough customers to new restaurants because potential customers may beunfamiliar with our restaurants or the atmosphere or menu of our restaurantsmight not appeal to them. In addition, as part of our growth strategy, weintend to open new restaurants in our existing markets. Since we typically drawcustomers from a relatively small radius around each of our restaurants, theoperating results and comparable unit sales for existing restaurants that arenear the area in which a new restaurant opens may decline, and the newrestaurant itself may not be successful, due to the close proximity of otherrestaurants and market saturation.

 

For these same reasons, manymarkets would not successfully support one of our restaurants. Our existingbusiness support systems, management information systems, financial controlsand other systems and procedures may be inadequate to support our 

 

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expansion, which could require us to incursubstantial expenditures that could materially adversely affect our operatingresults or cash flows.

 

*Negative publicityrelating to one of our restaurants could reduce sales at some or all of ourother restaurants.*

 

We are, from time to time,faced with negative publicity relating to food quality, restaurant facilities,health inspection scores, employee relationships or other matters at specificrestaurants. Adverse publicity may negatively affect us, regardless of whetherthe allegations are valid or whether we are liable. In addition, the negativeimpact of adverse publicity relating to one restaurant may extend far beyondthe restaurant involved to affect some or all of our other restaurants. Asimilar risk exists with respect to totally unrelated food service businesses,if customers mistakenly associate such unrelated businesses with our ownoperations.

 

*Uninsured losses could occur.*

* *

We have comprehensiveinsurance, including general liability and property (including businessinterruption) extended coverage. However, there are certain types of lossesthat may be uninsurable or that we believe are not economical to fully insure,such as earthquakes and other natural disasters. In view of the location ofmany of our existing and planned restaurants in California, our operations areparticularly susceptible to damage and disruption caused by earthquakes. In theevent of an earthquake or other natural disaster affecting our geographic areaof operations, we could suffer a loss of the capital invested in, as well asanticipated earnings from, the damaged or destroyed properties.

 

*Changes in employment laws may adversely affect ourbusiness.*

* *

Various federal and statelabor laws govern the relationship with our employees and affect operatingcosts. These laws include minimum wage requirements, overtime, unemployment taxrates, workers’ compensation rates and citizenship requirements. Significantadditional government imposed increases in the following areas could materiallyaffect our business, financial condition, operating results or cash flow:

 

**•**              minimum wages;

 

**•**              paid leaves of absence;

 

**•**              tax reporting; and

 

**•**              revisions in the tax payment requirements for employeeswho receive gratuities.

 

*If we face labor shortages or increased labor costs,our growth and operating results could be adversely affected.*

* *

Labor is a primary componentin the cost of operating our restaurants. If we face labor shortages orincreased labor costs because of increased competition for employees, higheremployee turnover rates or increases in the federal or applicable state minimumwage or other employee benefits costs (including costs associated with healthinsurance coverage), our operating expenses could increase and our growth couldbe adversely affected. In addition, our success depends in part upon ourability to attract, motivate and retain a sufficient number of well-qualifiedrestaurant operators and management personnel, as well as a sufficient numberof other qualified employees, including guest service and kitchen staff, tokeep pace with our expansion schedule. Qualified individuals needed to fillthese positions are in short supply in some geographic areas. In addition, fullservice casual dining segment restaurant operators have traditionallyexperienced relatively high employee turn over rates. Although we have not yetexperienced any significant problems in recruiting or retaining employees, ourability to recruit and retain such individuals may delay the planned openingsof new restaurants or result in higher employee turnover in existingrestaurants, which could have a material adverse effect on our business,financial condition, results of operations and cash flows.

 

We have been affected byincreasing healthcare and workers’ compensation expenses impacting business inmost industries including ours. To manage premium increases we have elected toself-insure. Higher deductibles could result in greater exposure to ouroperating results and liquidity. If we are exposed to material liabilities thatare not insured it could materially adversely affect our financial conditionand results of operations.

 

*We may be locked into long-term and non-cancelableleases and may be unable to renew leases at the end of their terms.*

* *

Many of our current leasesare non-cancelable and typically have initial terms of 10 to 20 years and oneor more renewal 

 

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terms of three or more years that we may exercise atour option. Leases that we enter into in the future likely will also belong-term and non-cancelable and have similar renewal options. If we close arestaurant, we may remain committed to perform our obligations under theapplicable lease, which would include, among other things, payment of the baserent for the balance of the lease term. Alternatively, at the end of the leaseterm and any renewal period for a restaurant, we may be unable to renew thelease without substantial additional cost, if at all. We may close or relocatethe restaurant, which could subject us to construction and other costs andrisks, and could have a material adverse effect on our business. Additionally,the revenue and profit, if any, generated at a relocated restaurant may notequal the revenue and profit generated at the existing restaurant. Furthermore,in the past, we have been forced to close profitable restaurants due to theinability to renew a lease upon the expiration of its lease term and we expectthis to occur from time to time in the future.

 

*We face risks associated with governmentregulations.*

* *

We are subject to extensivegovernment regulation at a federal, state and local government level. Theseinclude, but are not limited to, regulations relating to the preparation andsale of food and beverages, zoning and building codes, land use and employee,public health, sanitation and safety matters. We are required to obtain andmaintain governmental licenses, permits and approvals. Difficulty or failure inobtaining them in the future could result in delaying or canceling the openingof new restaurants or could materially adversely affect the operation ofexisting restaurants. Local authorities may suspend or deny renewal of ourgovernmental licenses if they determine that our operations do not meet the standardsfor initial grant or renewal. This risk would be even higher if there were amajor change in the licensing requirements affecting our types of restaurants.

 

Typically our restaurants’licenses to sell alcoholic beverages must be renewed annually and may besuspended or revoked at any time for cause. Alcoholic beverage controlregulations relate to various aspects of daily operations of our restaurants,including the minimum age of patrons and employees, hours of operation,advertising, wholesale purchasing and inventory control, handling and storage.In fiscal 2004, approximately 28% of our restaurant revenues were attributableto the sale of alcoholic beverages, and we believe that our ability to servealcoholic beverages, such as our signature margarita drinks, is an importantfactor in attracting customers. The failure of any of our restaurants to timelyobtain and maintain liquor or other licenses, permits or approvals required toserve alcoholic beverages or food could delay or prevent the opening of, oradversely impact the viability of, the restaurant and we could lose significantrevenue. Our restaurants are also subject in each state in which we operate to “dramshop” laws, which allow a person to sue us if that person was injured by anintoxicated person who was wrongfully served alcoholic beverages at one of ourrestaurants. A judgment against us under a dram shop law could exceed ourliability insurance coverage policy limits and could result in substantialliability for us and have a material adverse effect on our profitability. Ourinability to continue to obtain such insurance coverage at reasonable costsalso could have a material adverse effect on us

 

The federal Americans withDisabilities Act and similar state laws prohibit discrimination on the basis ofdisability in public accommodations and employment. Mandated modifications toour facilities (or related litigation) in the future to make differentaccommodations for persons with disabilities could result in materialunanticipated expenses.

 

Our distribution andmanufacturing operations are subject to extensive regulation by the FDA, USDAand other state and local authorities. Our processing facilities and productsare subject to periodic inspection by federal, state and local authorities. Wecannot assure you, however, that we are in full compliance with all currentlyapplicable governmental laws, or that we will be able to comply with any or allfuture laws and regulations. Failure by us to comply with applicable laws andregulations could subject us to civil remedies, including fines, injunctions,recalls or seizures, as well as potential criminal sanctions, which could havea material adverse effect on our business, financial condition or results ofoperations.

 

*We may be subject to significant liability shouldthe consumption of any of our specialty products cause injury, illness ordeath.*

* *

We may be required to recallspecialty products which we manufacture and co-package at our manufacturingfacility in the event of contamination, product tampering, mislabeling ordamage to our products. We cannot assure you that product liability claims willnot be asserted against us or that we will not be obligated to recall ourproducts. A product liability judgment against us or a product recall couldhave a material adverse effect on our business, financial condition or resultsof operations.

 

*The failure to enforce and maintain our trademarkscould materially adversely affect our ability to establish and maintain brandawareness.*

* *

We have registered or filedapplications to register certain names used by our restaurants and our foodmanufacturing operations as trademarks or service marks with the United StatesPatent and Trademark Office and in certain foreign countries, including thenames Acapulco®, El Torito®, Real Mex FoodsTM, Chevys Fresh Mex® and FuzioUniversal Pasta®.  The success of ourbusiness strategy depends on our continued ability to use our existingtrademarks and service marks in order to increase brand 

 

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awareness and further develop our branded products.If our efforts to protect our intellectual property are not adequate, or if anythird party misappropriates or infringes on our intellectual property, eitherin print or on the Internet, the value of our brands may be harmed, which couldhave a material adverse effect on our business, including the failure of ourbrands and branded products to achieve and maintain market acceptance.

 

There can be no assurancethat all of the steps we have taken to protect our intellectual property in theU.S. and foreign countries will be adequate. In addition, the laws of someforeign countries do not protect intellectual property rights to the sameextent as the laws of the U.S.

 

*We face risks associated with environmental laws.*

* *

We are subject to federal,state and local laws, regulations and ordinances that:

 

**•**              governactivities or operations that may have adverse environmental effects, such asdischarges to air and water, as well as handling and disposal practices forsolid and hazardous wastes; and

 

**•**              imposeliability for the costs of cleaning up, and damage resulting from, sites ofpast spills, disposals or other releases of hazardous materials.

 

In particular, underapplicable environmental laws, we may be responsible for remediation ofenvironmental conditions and may be subject to associated liabilities,including liabilities resulting from lawsuits brought by private litigants,relating to our restaurants and the land on which our restaurants are located,regardless of whether we lease or own the restaurants or land in question andregardless of whether such environmental conditions were created by us or by aprior owner or tenant. If we are found liable for the costs of remediation ofcontamination at any of our properties, our operating expenses would likelyincrease and our operating results would be materially adversely affected.

 

*We depend on the services of key executives, theloss of whom could materially harm our business.*

* *

Some of our seniorexecutives are important to our success because they have been instrumental insetting our strategic direction, operating and marketing our business,identifying, recruiting and training key personnel, identifying expansionopportunities and arranging necessary financing. Losing the services of any ofthese individuals could materially adversely affect our business until asuitable replacement could be found. We believe that they could not easily bereplaced with executives of equal experience and capabilities. We do notmaintain key person life insurance policies on any of our executives.

 

*Compliance with regulation of corporate governanceand public disclosure will result in additional expenses.*

* *

Keeping abreast of, and incompliance with, laws, regulations and standards relating to corporategovernance and public disclosure, including the Sarbanes Oxley Act of 2002 andrelated SEC regulations will require a significant amount of managementattention and external resources. We are committed to observing high standardsof corporate governance and public disclosure. As a result, we intend to investall reasonably necessary resources to comply with evolving standards, and thisinvestment will result in increased general and administrative expenses and adiversion of management time and attention from revenue generating activitiesto compliance activities.

 

*We may make acquisitions or enter into similartransactions*

* *

We may expand by pursuingacquisitions, business combinations and joint ventures. We may encounterdifficulties in integrating the expanded operations or entering into markets orconducting operations where we have no or limited prior experience.Furthermore, we may not realize the benefits we anticipated when we enteredinto these transactions. In addition, the negotiation of potentialacquisitions, business combinations or joint ventures as well as theintegration of an acquired business could require us to incur significant costsand cause diversion of management’s time and resources.

 

*The integration of Chevys may result insubstantial costs, delays and other problems.*

 

Ourfuture performance will depend heavily on our ability to integrate Chevys.  To integrate a newly acquired business suchas Chevys, we must integrate restaurant resources and extend our financial andmanagement controls and operating, administrative and information systems in atimely manner and on satisfactory terms and conditions.  We may not be able to successfully integrateChevys or realize projected cost savings and synergies in connection with theChevys Acquisition on the timetable contemplated or at all.

 

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Furthermore,the costs of the Chevys Acquisition could significantly impact our short-termoperating results. These costs could include:

 

**•**              restructuringcharges associated with the Chevys Acquisition; and

 

**•**              acquisitioncosts including accounting and legal fees, investment banking fees, recognitionof transaction-related obligations and various other acquisition-related costs.

 

Theintegration of Chevys will require the expenditure of substantial managerial,operating, financial and other resources and may also lead to a diversion ofmanagement’s attention from our ongoing business concerns.

 

**Our substantial levelof indebtedness could adversely affect our financial condition.**

** **

Wehave substantial indebtedness.  As ofMarch 27, 2005, we had $182.3 million of indebtedness including obligationunder capital leases.  Subject torestrictions in the indenture for the Notes and our senior secured andunsecured credit facilities, we may incur additional indebtedness.  Our high level of indebtedness could haveimportant consequences to holders of our indebtedness and significant effectson our business, including the following:

 

**•**              our ability toobtain additional financing for working capital, capital expenditures,acquisitions or general corporate purposes may be impaired;

 

**•**              we must use asubstantial portion of our cash flow from operations to pay interest on ourindebtedness, which will reduce the funds available to use for operations andother purposes;

 

**•**              our high levelof indebtedness could place us at a competitive disadvantage compared to thoseof our competitors that may have proportionately less debt;

 

**•**              our flexibilityin planning for, or reacting to, changes in our business and the industry inwhich we operate may be limited; and

 

**•**              our high level ofindebtedness makes us more vulnerable to economic downturns and adversedevelopments in our business.

 

Weexpect to use cash flow from operations to pay our expenses and amounts dueunder our outstanding indebtedness.  Ourability to make these payments thus depends on our future performance, whichwill be affected by financial, business, economic and other factors, many ofwhich we cannot control.  Our businessmay not generate sufficient cash flow from operations in the future and ouranticipated growth in revenue and cash flow may not be realized, either or bothof which could result in our being unable to repay indebtedness, or to fundother liquidity needs.  If we do not haveenough money, we may be required to refinance all or part of our then-existingdebt, sell assets or borrow more money. We cannot make any assurances that we will be able to accomplish any ofthese alternatives on terms acceptable to us, or at all.  In addition, the terms of existing or futuredebt agreements, including the indenture for the Notes and our senior securedand unsecured credit facilities, may restrict us from adopting any of these alternatives.

 

**The indenture for theNotes and our senior secured and unsecured credit facilities impose significantoperating and financial restrictions, which may prevent us from pursuingcertain business opportunities and taking certain actions.**

** **

Ourcurrent debt agreements impose, and future debt agreements may impose,significant operating and financial restrictions on us.  These restrictions will limit or prohibit,among other things, our ability to:

 

**•**              incur additional indebtedness;

 

**•**              repay indebtedness prior to stated maturities;

 

**•**              pay dividends on, redeem or repurchase our stock ormake other distributions;

 

**•**              make acquisitions or investments;

 

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**•**              create or incur liens;

 

**•**              transfer or sell certain assets or merge or consolidatewith or into other companies;

 

**•**              enter into certain transactions with affiliates;

 

**•**              sell stock in our subsidiaries;

 

**•**              restrict dividends, distributions or other paymentsfrom our subsidiaries; and

 

**•**              otherwise conduct necessary corporate activities.

 

Inaddition, our senior secured and unsecured credit facilities require us tomaintain compliance with specified financial covenants.

 

Thesecovenants could adversely affect our ability to finance our future operationsor capital needs and pursue available business opportunities.  A breach of any of these covenants couldresult in a default in respect of the related indebtedness.  If a default occurs, the relevant lenderscould elect to declare the indebtedness, together with accrued interest andother fees, to be immediately due and payable and proceed against anycollateral securing that indebtedness.

 

*Bruckmann, Rosser, Sherril & Co., LLC andJefferies Capital Partners together control our Company, and their interestsmay conflict with the interests of the holders of our indebtedness.*

* *

As a result of their stockownership, Bruckmann, Rosser, Sherril & Co., LLC, or BRS, andJefferies Capital Partners, or JCP, together own beneficially approximately65.8% of our outstanding capital stock. By virtue of their stock ownership andthe terms of the securities holders agreement, these entities have significantinfluence over our management and will be able to determine the outcome of allmatters required to be submitted to the stockholders for approval, includingthe election of our directors and the approval of mergers, consolidations andthe sale of all or substantially all of our assets. The interests of BRS andJCP as equity owners of our Company may differ from the interests of the holdersof our indebtedness, and, as such, BRS and JCP may take actions which may notbe in the interests of the holders of our indebtedness. For example, if weencounter financial difficulties or are unable to pay our debts as they mature,the interests of our equity owners might conflict with the interests of theholders of our indebtedness. In addition, our equity owners may have aninterest in pursuing acquisitions, divestitures, financings or othertransactions that, in their judgment, could enhance their equity investments,even though such transactions might involve risks to the holders of ourindebtedness.

** **

**Forward Looking Statements**

 

This report includes “forward looking statements” within the meaning ofthe federal securities laws.  Forwardlooking statements are those that do not relate solely to historical fact. Theyinclude, but are not limited to, any statement that may predict, forecast,indicate or imply future results, performance, achievements or events. They maycontain words such as “believe,” “anticipate,” “expect,” “estimate,” “intend,” “project,”“plan,” “will,” “should,” “may,” or “could” or words or phrases of similarmeaning. They may relate to, among other things: our liquidity and capitalresources; legal proceedings and regulatory matters involving our Company;food-borne illness incidents; increases in the cost of ingredients; ourdependence upon frequent deliveries of food and other supplies; ourvulnerability to changes in consumer preferences and economic conditions; ourability to compete successfully with other casual dining restaurants; ourability to expand; and anticipated growth in the restaurant industry and ourmarkets.

 

These forward looking statements reflect our current views with respectto future events and are based on assumptions and subject to risks anduncertainties, including, but not limited to, economic, competitive,governmental and technological factors outside of our control, that may causeactual results to differ materially from trends, plans or expectations setforth in the forward looking statements. Also, these forward looking statementspresent our estimates and assumptions only as of the date of this report.Except for our ongoing obligation to disclose material information as requiredby federal securities laws, we do not intend to update you concerning anyfuture revisions to any forward looking statements to reflect events orcircumstances occurring after the date of this report.

 

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**Item3.**    Quantitativeand Qualitative Disclosures About Market Risk

 

The inherent risk in market risk sensitive instruments and positionsprimarily relates to potential losses arising from adverse changes in foreignexchange rates and interest rates.

 

We consider the U.S. dollarto be the functional currency for all of our entities. All of our net sales andour expenses in fiscal years 2005 and 2004 were denominated in U.S. dollars.Therefore, foreign currency fluctuations did not materially affect ourfinancial results in those periods.

 

We are also subject tomarket risk from exposure to changes in interest rates based on our financingactivities. This exposure relates to borrowings under our senior secured andunsecured credit facilities that are payable at floating rates of interest. Wecurrently do not have any borrowings outstanding under our Line. We currentlyhave $75.0 million outstanding under our Senior Unsecured Credit Facility. Ahypothetical 10% fluctuation in interest rates, as of May 1, 2005, would have anet after tax impact of $0.9 million on earnings in fiscal 2005.

 

Many of the food products purchased by us are affected by changes inweather, production, availability, seasonality and other factors outside ourcontrol. In an effort to control some of this risk, we have entered intocertain fixed price purchase agreements with varying terms of generally no morethan a year duration. In addition, we believe that almost all of our food andsupplies are available from several sources, which helps to control food commodityrisks.

** **

**Item 4.****   ****Controls and Procedures**

 

As of the end of the period covered by this report, we conducted anevaluation, under the supervision and with the participation of the principalexecutive officer (“CEO”) and principal financial officer (“CFO”), of theeffectiveness of the design and operation of our disclosure controls andprocedures (as defined in Rules 13a-15(e) and 15d-15(e) under the SecuritiesExchange Act of 1934 (the “Exchange Act”)). Based on this evaluation, the CEO and CFO concluded that our disclosurecontrols and procedures are effective to provide reasonable assurance thatinformation required to be disclosed by us in reports that we file or submitunder the Exchange Act is recorded, processed, summarized and reported within thetime periods specified in Securities and Exchange Commission rules and forms.There was no change in our internal control over financial reporting during ourmost recently completed fiscal quarter that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

** **

**PARTIIOTHER INFORMATION**

** **

**Item 1.**  Legal Proceedings

 

The Company is periodically a defendant in cases involving personalinjury and other matters which arise in the normal course of business. Whileany pending or threatened litigation has an element of uncertainty, the Companybelieves that the outcome of these lawsuits or claims, individually orcombined, will not materially adversely affect the consolidated financialposition, results of operations or cash flows of the Company.

** **

**Item 2.**  Unregistered Sales of Equity Securities and Useof Proceeds

 

Not applicable.

** **

**Item 3.**  Defaults Upon Senior Securities

 

Not applicable.

** **

**Item 4.**  Submission of Matters to a Vote of SecurityHolders

 

Not applicable.

** **

**Item5. ** Other Information

 

Not applicable.

 

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**Item6.**    Exhibits

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|-----------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.1             |       | Second Supplemental Indenture, dated as of January 10, 2005,  among Chevys Restaurants, LLC, Real Mex Restaurants, Inc., the  guarantors named therein and Wells Fargo Bank, N.A., as trustee (Filed with  the Securities and Exchange Commission as Exhibit 4.4 to the Company’s  Registration Statement on Form S-4 (File No. 333-124670)  on May 5, 2005 and incorporated by reference herewith)                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 10.1            |       | Joinder Agreement, dated as of January 11, 2005, among Real Mex  Restaurants, Inc., J.W. Childs Equity Partners, L.P., JWC Chevys  Co-Invest, LLC, Bruckmann, Rosser, Sherrill & Co., L.P. and  Bruckmann, Rosser, Sherrill & Co., II L.P. (Filed with the  Securities and Exchange Commission as Exhibit 10.1 to Form 8-K  (File No. 333-116310) on January 18, 2005 and incorporated by  reference herewith)                                                                                                                                                                                                                                                                                                                                                                                                                  |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 10.2            |       | Term Loan Credit Agreement, dated as of January 11, 2005, among  Real Mex Restaurants, Inc., Deutsche Bank Securities, Inc. and  Credit Suisse First Boston (Filed with the Securities and Exchange Commission  as Exhibit 10.2 to Form 8-K (File No. 333-116310)  on January 18, 2005 and incorporated by reference herewith)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 10.3            |       | Second Amendment and Consent, dated as of January 11, 2005,  among Real Mex Restaurants, Inc., Acapulco Restaurants, Inc., El  Torito Franchising Company, El Torito Restaurants, Inc., Acapulco  Restaurants of Encinitas, Inc., TARV, Inc., Acapulco Restaurant of  Ventura, Inc., Acapulco Restaurant of Westwood, Inc., Acapulco Mark  Corp., Murray Pacific, ALA Design, Inc., Real Mex Foods, Inc.,  Acapulco Restaurant of Downey, Inc., Acapulco Restaurant of Moreno  Valley, Inc., El Paso Cantina, Inc., CKR Acquisition Corp., Chevys  Restaurants, LLC, Fleet National Bank and Union Bank of California, N.A.  (Filed with the Securities and Exchange Commission as Exhibit 10.3 to  Form 8-K (File No. 333-116310) on January 18, 2005  and incorporated by reference herewith) |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 31.1            |       | Certification  pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act  of 1934 of the Chief Executive Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 31.2            |       | Certification  pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act  of 1934 of the Chief Financial Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 32.1            |       | Certification  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002, of the Chief Executive Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|            |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| 32.2            |       | Certification  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002, of the Chief Financial Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |

 

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**SIGNATURE**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
|                | REAL MEX  RESTAURANTS, INC. |
|---------------------|-----------------------------|
|                |                        |   |
|                |                        |   |
| Dated: May 10, 2005 | By:                         | /s/ Frederick  F. Wolfe |
|                |                        | Frederick F.  Wolfe |
|                |                        | President  & Chief Executive Officer  (principal executive officer) |
|                |                        |   |
|                |                        |   |
| Dated: May 10, 2005 | By:                         | /s/ Steven  Tanner |
|                |                        | Steven  Tanner |
|                |                        | Chief  Financial Officer  (principal financial and accounting officer) |

 

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