** **

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

----

** **

**FORM 10-Q**

 

| **(Mark  One)**                    |
|------------------------------------|
|                               |
| **ý**                         |   | **QUARTERLY  REPORT under SECTION 13 OR 15(d) of the SECURITIES EXCHANGE ACT OF 1934** |
|                               |   |   |
|                               |   | **For the  quarter ended ****June 15, 2003** |
|                               |   |   |
| **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 0-20792** |

 

| **FRESH CHOICE, INC.**                                                                           |
|--------------------------------------------------------------------------------------------------|
| (Exact  name of registrant as specified in its charter)                                          |
|                                                                                             |   |   |
| **Delaware**                                                                                     |   | **77-0130849** |
| (State  or other jurisdiction of  incorporation or organization)                                 |   | (I.R.S.  Employee  Identification No.) |
|                                                                                             |   |   |
| **485 Cochrane Circle, Morgan Hill, California 95037**                                           |
| (Address  of principal executives offices)         (Zip Code) |
|                                                                                             |   |   |
| Registrant’s  telephone number, including area code:**  (408) 776-0799**          |
|                                                                                             |
|                                                                                             |
| Former  name, former address and former fiscal year, if changed since last report.               |

 

Indicate by check whether the registrant (1)has filed all reports required to be filed by Section 13 or 15(d) ofthe Securities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days. 

 
| ý |   | Yes |   | o |   | No |
|--------|--------|-----|--------|---|--------|----|

 

Indicate by check mark whether the registrantis an accelerated filer (as defined in rule 12B-2 of the Exchange Act).

 
| o |   | Yes |   | ý |   | No |
|---|--------|-----|--------|--------|--------|----|

 

APPLICABLEONLY TO CORPORATE ISSUERS:

 Thenumber of shares of Common Stock, $.001 par value, outstanding as of July 14,2003 was 5,990,523.

** **

 

----

 

**FRESH CHOICE, INC.**

 

**INDEX**

 
| PART I - FINANCIAL INFORMATION                                                                       |
|------------------------------------------------------------------------------------------------------|
|                                                                                                 |
| Item 1 - Financial Statements                                                                        |
|                                                                                                 |   |
|                                                                                                 | Condensed Consolidated Balance Sheets at  June 15, 2003 and December 29, 2002 |
|                                                                                                 |   |
|                                                                                                 | Condensed Consolidated Statements of  Operations for the Twelve and Twenty-Four Weeks ended June 15, 2003 and June  16, 2002 |
|                                                                                                 |   |
|                                                                                                 | Condensed Consolidated Statements of Cash  Flows for the Twenty-Four Weeks ended June 15, 2003 and June 16, 2002 |
|                                                                                                 |   |
|                                                                                                 | Notes to Condensed 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                                 |
|                                                                                                 |
| Item 4 - Controls and Procedures                                                                     |
|                                                                                                 |
| PART II - OTHER INFORMATION                                                                          |
|                                                                                                 |
| Item 1 - Legal Proceedings                                                                           |
| Item 2 - Changes in Securities                                                                       |
| Item 3 - Defaults Upon Senior Securities                                                             |
| Item 4 - Submission of Matters to a Vote of  Security Holders                                        |
| Item 5 - Other Information                                                                           |
| Item 6 - Exhibits and Reports on Form 8-K                                                            |
|                                                                                                 |
| SIGNATURES                                                                                           |
|                                                                                                 |
| INDEX TO FORM 10-Q EXHIBITS                                                                          |
|                                                                                                      |  |  |

** **

2

----

 

**PART I. FINANCIAL INFORMATION**

 

**Item 1 - Financial Statements**

 

FRESH CHOICE, INC.

CONDENSEDCONSOLIDATED BALANCE SHEETS

(In thousands, except share and per shareamounts)

(Unaudited)

 
|                                                                                                                                                                                 |   | **June 15,  2003** |   | **December 29,  2002** |   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|--------|------------------------|--------|
| ASSETS                                                                                                                                                                               |   |               |   |                   |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| CURRENT ASSETS:                                                                                                                                                                      |   |               |   |                   |   |
| Cash and cash equivalents                                                                                                                                                            |   | $                  | 1,195  |                   | $      | 2,994 |   |
| Receivables                                                                                                                                                                          |   | 881                |   | 165                    |   |
| Inventories                                                                                                                                                                          |   | 518                |   | 467                    |   |
| Prepaid expenses and other current assets                                                                                                                                            |   | 419                |   | 359                    |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| Total current assets                                                                                                                                                                 |   | 3,013              |   | 3,985                  |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| PROPERTY AND EQUIPMENT, net                                                                                                                                                          |   | 31,865             |   | 31,475                 |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| DEPOSITS AND OTHER ASSETS                                                                                                                                                            |   | 836                |   | 869                    |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| TOTAL ASSETS                                                                                                                                                                         |   | $                  | 35,714 |                   | $      | 36,329 |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                                                                            |   |               |   |                   |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| CURRENT LIABILITIES:                                                                                                                                                                 |   |               |   |                   |   |
| Accounts payable                                                                                                                                                                     |   | $                  | 2,393  |                   | $      | 2,825 |   |
| Other accrued expenses                                                                                                                                                               |   | 2,205              |   | 2,331                  |   |
| Accrued salaries and wages                                                                                                                                                           |   | 1,633              |   | 1,582                  |   |
| Sales tax payable                                                                                                                                                                    |   | 911                |   | 614                    |   |
| Current portion of long-term obligations                                                                                                                                             |   | 902                |   | 737                    |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| Total current liabilities                                                                                                                                                            |   | 8,044              |   | 8,089                  |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| CAPITAL LEASE OBLIGATIONS                                                                                                                                                            |   | 2,514              |   | 2,132                  |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| LONG-TERM DEBT                                                                                                                                                                       |   | 1,976              |   | 2,047                  |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| OTHER LONG-TERM LIABILITIES                                                                                                                                                          |   | 2,275              |   | 2,429                  |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| Total liabilities                                                                                                                                                                    |   | 14,809             |   | 14,697                 |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| STOCKHOLDERS’ EQUITY:                                                                                                                                                           |   |               |   |                   |   |
| Convertible preferred stock, $.001 par  value; 3.5 million shares authorized; shares outstanding:  2003 and 2002 - 1,187,906; liquidation  preference; 2003-$8,468; 2002-$8,161 |   | 5,175              |   | 5,175                  |   |
| Common stock - $.001 par value; 15 million  shares authorized; shares outstanding: 2003 - 5,990,523;  2002 - 5,964,068                                                          |   | 42,675             |   | 42,630                 |   |
| Accumulated deficit                                                                                                                                                                  |   | (26,945            | )      | (26,173                | )      |
|                                                                                                                                                                                 |   |               |   |                   |   |
| Total stockholders’ equity                                                                                                                                                      |   | 20,905             |   | 21,632                 |   |
|                                                                                                                                                                                 |   |               |   |                   |   |
| TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                                                                      |   | $                  | 35,714 |                   | $      | 36,329 |   |

 

The December 29, 2002 amounts are derivedfrom the Company’s audited financial statements.

See accompanying notes to condensedconsolidated financial statements.

 

3

----

 

FRESH CHOICE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

(Unaudited)

 
|                                                          |   | **Twelve Weeks Ended** |       | **Twenty-Four Weeks Ended** |       |
|---------------------------------------------------------------|--------|------------------------|------------|-----------------------------|------------|
|                                                          |   | **June 15, 2003**      |       | **June 16, 2002**           |       | **June 15, 2003** |   | **June 16, 2002** |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| NET SALES                                                     |   | $                      | 18,879     |                        | $          | 17,487 |   | $ | 36,563 |   | $ | 34,516 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| COSTS AND EXPENSES:                                           |   |                   |       |                        |       |   |   |   |   |
| Cost of sales                                                 |   | 4,385                  |       | 3,879                       |       | 8,400 |   | 7,671 |   |
| Restaurant operating expenses:                                |   |                   |       |                        |       |   |   |   |   |
| Labor                                                         |   | 6,422                  |       | 5,584                       |       | 12,508 |   | 11,262 |   |
| Occupancy and other                                           |   | 6,021                  |       | 5,317                       |       | 11,721 |   | 10,488 |   |
| General and administrative expenses                           |   | 1,304                  |       | 1,349                       |       | 2,670 |   | 2,711 |   |
| Depreciation and amortization                                 |   | 829                    |       | 750                         |       | 1,618 |   | 1,518 |   |
| Restaurant opening costs                                      |   | 44                     |       | 34                          |       | 236 |   | 87 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Total costs and expenses                                      |   | 19,005                 |       | 16,913                      |       | 37,153 |   | 33,737 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| OPERATING INCOME (LOSS)                                       |   | (126                   | )          | 574                         |       | (590 | ) | 779 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Interest income                                               |   | —                 |       | 10                          |       | 2 |   | 25 |   |
| Interest expense                                              |   | (105                   | )          | (59                         | )          | (184 | ) | (118 | ) |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Interest expense, net                                         |   | (105                   | )          | (49                         | )          | (182 | ) | (93 | ) |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| INCOME (LOSS) FROM CONTINUING OPERATIONS  BEFORE INCOME TAXES |   | (231                   | )          | 525                         |       | (772 | ) | 686 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Provision for income taxes                                    |   | —                 |       | 4                           |       | — |   | 8 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| INCOME (LOSS) FROM CONTINUING OPERATIONS                      |   | (231                   | )          | 521                         |       | (772 | ) | 678 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| LOSS FROM DISCONTINUED OPERATIONS                             |   | —                 |       | (47                         | )          | — |   | (91 | ) |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| NET INCOME (LOSS)                                             |   | $                      | (231       | )                           | $          | 474 |   | $ | (772 | ) | $ | 587 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Basic net income (loss) per common share:                     |   |                   |       |                        |       |   |   |   |   |
| Basic income (loss) from continuing  operations               |   | $                      | (0.04      | )                           | $          | 0.09 |   | $ | (0.13 | ) | $ | 0.11 |   |
| Basic loss from discontinued operations                       |   | —                 |       | (0.01                       | )          | — |   | (0.01 | ) |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Basic net income (loss) per common share:                     |   | $                      | (0.04      | )                           | $          | 0.08 |   | $ | (0.13 | ) | $ | 0.10 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Shares used in computing basic per share  amounts             |   | 5,969                  |       | 5,917                       |       | 5,966 |   | 5,913 |   |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Diluted net income (loss) per common share:                   |   |                   |       |                        |       |   |   |   |   |
| Diluted income (loss) from continuing  operations             |   | $                      | (0.04      | )                           | $          | 0.08 |   | $ | (0.13 | ) | $ | 0.09 |   |
| Diluted loss from discontinued operations                     |   | —                 |       | (0.01                       | )          | — |   | (0.01 | ) |
|                                                          |   |                   |       |                        |       |   |   |   |   |
| Diluted net income (loss) per common share:                   |   | $                      | (0.04      | )                           | $          | 0.07 |   | $ | (0.13 | ) | $ | 0.08 |   |
|                                                          |   |                   | ** ** |                        | ** ** |   | ** ** |   | ** ** |
| Shares used in computing diluted per share  amounts           |   | 5,969                  |       | 7,167                       |       | 5,966 |   | 7,176 |   |

 

See accompanying notes to condensedconsolidated financial statements.

 

4

----

 

FRESH CHOICE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 
|                                                                                                                                     |   | **Twenty-Four Weeks Ended** |   |
|------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------|--------|
|                                                                                                                                     |   | **June 15,  2003**          |   | **June 16,  2002** |   |
|                                                                                                                                     |   |                        |   |   |   |
| OPERATING ACTIVITIES OF CONTINUING  OPERATIONS:                                                                                          |   |                        |   |   |   |
| Income (loss) from continuing operations                                                                                                 |   | $                           | (772   | ) | $ | 678 |   |
| Adjustments to reconcile income (loss)  from continuing operations to net cash used by operating activities from  continuing operations: |   |                        |   |   |   |
| Depreciation and amortization                                                                                                            |   | 1,717                       |   | 1,619 |   |
| Issuance of common stock for consulting  services                                                                                        |   | 1                           |   | 3 |   |
| Loss on disposal of property and equipment                                                                                               |   | 16                          |   | 22 |   |
| Deferred rent                                                                                                                            |   | (157                        | )      | (216 | ) |
| Change in operating assets and  liabilities:                                                                                             |   |                        |   |   |   |
| Receivables                                                                                                                              |   | (717                        | )      | 28 |   |
| Inventories                                                                                                                              |   | (63                         | )      | (27 | ) |
| Prepaid expenses and other current assets                                                                                                |   | (60                         | )      | 818 |   |
| Accounts payable                                                                                                                         |   | (432                        | )      | (539 | ) |
| Accrued salaries and wages                                                                                                               |   | 54                          |   | 155 |   |
| Other accrued expenses                                                                                                                   |   | 171                         |   | 262 |   |
|                                                                                                                                     |   |                        |   |   |   |
| Net cash provided (used) by operating  activities of continuing operations                                                               |   | (242                        | )      | 2,803 |   |
|                                                                                                                                     |   |                        |   |   |   |
| INVESTING ACTIVITIES:                                                                                                                    |   |                        |   |   |   |
| Capital expenditures                                                                                                                     |   | (2,076                      | )      | (2,249 | ) |
| Proceeds from sale of property and  equipment                                                                                            |   | —                      |   | 8 |   |
| Deposits and other assets                                                                                                                |   | (2                          | )      | (41 | ) |
|                                                                                                                                     |   |                        |   |   |   |
| Net cash used in investing activities                                                                                                    |   | (2,078                      | )      | (2,282 | ) |
|                                                                                                                                     |   |                        |   |   |   |
| FINANCING ACTIVITIES:                                                                                                                    |   |                        |   |   |   |
| Common stock sales                                                                                                                       |   | 44                          |   | 57 |   |
| Long-term debt - repayments                                                                                                              |   | (67                         | )      | (57 | ) |
| Capital lease obligations - borrowings                                                                                                   |   | 904                         |   | 489 |   |
| Capital lease obligations - repayments                                                                                                   |   | (360                        | )      | (345 | ) |
|                                                                                                                                     |   |                        |   |   |   |
| Net cash provided by financing activities                                                                                                |   | 521                         |   | 144 |   |
|                                                                                                                                     |   |                        |   |   |   |
| CASH PROVIDED (USED) BY CONTINUING  OPERATIONS                                                                                           |   | (1,799                      | )      | 665 |   |
|                                                                                                                                     |   |                        |   |   |   |
| CASH USED BY DISCONTINUED OPERATIONS                                                                                                     |   | —                      |   | (81 | ) |
|                                                                                                                                     |   |                        |   |   |   |
| INCREASE (DECREASE) IN CASH AND CASH  EQUIVALENTS                                                                                        |   | (1,799                      | )      | 584 |   |
| CASH AND CASH EQUIVALENTS:                                                                                                               |   |                        |   |   |   |
|                                                                                                                                     |   |                        |   |   |   |
| Beginning of period                                                                                                                      |   | 2,994                       |   | 4,368 |   |
|                                                                                                                                     |   |                        |   |   |   |
| End of period                                                                                                                            |   | $                           | 1,195  |   | $ | 4,952 |   |
|                                                                                                                                     |   |                        |   |   |   |
| Noncash Investing and Financing Actvities  -                                                                                             |   |                        |   |   |   |
| Equipment acquired under capital leases                                                                                                  |   | $                           | — |   | $ | 566 |   |
|                                                                                                                                     |   |                        |   |   |   |
| Supplemental Disclosure of Cash Flow  Information:                                                                                       |   |                        |   |   |   |
| Cash paid during the period for interest                                                                                                 |   | $                           | 107    |   | $ | 117 |   |
|                                                                                                                                     |   |                        |   |   |   |
| Cash paid during the period for income  taxes                                                                                            |   | $                           | 44     |   | $ | — |   |

 

See accompanying notes to condensedconsolidated financial statements

 

5

----

 

FRESHCHOICE, INC.

NOTES TO CONDENSEDCONSOLIDATED FINANCIALSTATEMENTS

Forthe Twelve and Twenty-Four Weeks Ended June 15, 2003 and June 16, 2002

(Unaudited)

 

1.           CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS

 

The accompanying condensed consolidated financial statements have beenprepared by the Company without audit and reflect all adjustments, consistingof normal recurring adjustments and accruals, which are, in the opinion ofmanagement, necessary for a fair statement of financial position and theresults of operations for the interim periods. The statements have been prepared in accordance with the regulations ofthe Securities and Exchange Commission, but omit certain information andfootnote disclosures necessary to present the statements in accordance withgenerally accepted accounting principles. For further information, refer to the financial statements and notesthereto included in the Company’s Annual Report on Form 10-K for the fiscalyear ended December 29, 2002.

 

2.           NET INCOME (LOSS) PERCOMMON SHARE

 

Basic net income (loss) per common share excludes dilution and iscomputed by dividing net income by the weighted average of its common sharesoutstanding for the period.  Diluted netincome (loss) per common share reflects the potential dilution that could occurif securities or other contracts to issue common stock were exercised orconverted into common stock.  TheCompany converts common stock options and warrants into potential dilutiveshares using the treasury stock method and converts preferred stock intopotential dilutive shares using the “if converted” method.

 

A reconciliation of the components of basicand diluted net income per share follows:

 
|                                                       |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|------------------------------------------------------------|--------|-------------------------|--------|------------------------------|--------|
| **(In thousands, except per share data)**                  |   | **June 15, 2003**       |   | **June 16, 2002**            |   | **June 15, 2003** |   | **June 16, 2002** |   |
|                                                       |   |                    |   |                         |   |   |   |   |   |
| Basic Net Income (Loss) Per Common Share                   |   |                    |   |                         |   |   |   |   |   |
| Income (loss) from continuing operations                   |   | $                       | (231   | )                            | $      | 521 |   | $ | (772 | ) | $ | 678 |   |
| Loss from discontinued operations                          |   | —                  |   | (47                          | )      | — |   | (91 | ) |
| Net Income (Loss)                                          |   | $                       | (231   | )                            | $      | 474 |   | $ | (772 | ) | $ | 587 |   |
| Average common shares outstanding                          |   | 5,969                   |   | 5,917                        |   | 5,966 |   | 5,913 |   |
| Basic income (loss) per share from continuing operations   |   | $                       | (0.04  | )                            | $      | 0.09 |   | $ | (0.13 | ) | $ | 0.11 |   |
| Basic loss per share from discontinued operations          |   | —                  |   | (0.01                        | )      | — |   | (0.01 | ) |
| Basic net income (loss) per common share                   |   | $                       | (0.04  | )                            | $      | 0.08 |   | $ | (0.13 | ) | $ | 0.10 |   |
|                                                       |   |                    |   |                         |   |   |   |   |   |
| Diluted Net Income (Loss) Per Common Share                 |   |                    |   |                         |   |   |   |   |   |
| Income (loss) from continuing operations                   |   | $                       | (231   | )                            | $      | 521 |   | $ | (772 | ) | $ | 678 |   |
| Loss from discontinued operations                          |   | —                  |   | (47                          | )      | — |   | (91 | ) |
| Net Income (Loss)                                          |   | $                       | (231   | )                            | $      | 474 |   | $ | (772 | ) | $ | 587 |   |
| Average common shares outstanding                          |   | 5,969                   |   | 5,917                        |   | 5,966 |   | 5,913 |   |
| Dilutive shares:                                           |   |                    |   |                         |   |   |   |   |   |
| Stock options                                              |   | —                  |   | 62                           |   | — |   | 75 |   |
| Convertible preferred stock                                |   | —                  |   | 1,188                        |   | — |   | 1,188 |   |
| Total shares and dilutive shares                           |   | 5,969                   |   | 7,167                        |   | 5,966 |   | 7,176 |   |
| Diluted income (loss) per share from continuing operations |   | $                       | (0.04  | )                            | $      | 0.08 |   | $ | (0.13 | ) | $ | 0.09 |   |
| Diluted loss per share from discontinued operations        |   | —                  |   | (0.01                        | )      | — |   | (0.01 | ) |
| Diluted net income (loss) per common share                 |   | $                       | (0.04  | )                            | $      | 0.07 |   | $ | (0.13 | ) | $ | 0.08 |   |

 

6

----

 

The following table presents the total dilutive securities which theCompany excluded for each period presented from its diluted EPS computationbecause the exercise price of the securities exceeded the average fair value ofthe Company’s common stock or the Company had a net loss and therefore, thesesecurities were anti-dilutive:

 
|                          |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|-------------------------------|--------|-------------------------|--------|------------------------------|--------|
| **(In thousands)**            |   | **June 15, 2003**       |   | **June 16, 2002**            |   | **June 15, 2003** |   | **June 16, 2002** |   |
|                          |   |                    |   |                         |   |   |   |   |   |
| Potential Dilutive Securities |   |                    |   |                         |   |   |   |   |   |
|                          |   |                    |   |                         |   |   |   |   |   |
| Stock options excluded        |   | 1,180                   |   | 958                          |   | 1,180 |   | 958 |   |
| Stock warrants                |   | 100                     |   | 100                          |   | 100 |   | 100 |   |
| Convertible preferred stock   |   | 1,188                   |   | —                       |   | 1,188 |   | — |   |

 

3.           OTHER ACCRUEDEXPENSES

 

The components of other accrued expenses are as follows:

 
| **(In thousands)**                 |   | **June 15,  2003** |   | **December 29,  2002** |   |
|------------------------------------|--------|--------------------|--------|------------------------|--------|
|                               |   |               |   |                   |   |
| Unredeemed gift certificates       |   | $                  | 499    |                   | $      | 572 |   |
| Accrued workers’ compensation |   | 558                |   | 516                    |   |
| Accrued utilities                  |   | 283                |   | 300                    |   |
| Accrued advertising                |   | 199                |   | 230                    |   |
| Accrued property taxes             |   | 125                |   | 196                    |   |
| Deferred vendor allowances         |   | 106                |   | 15                     |   |
| Other                              |   | 435                |   | 502                    |   |
|                               |   | $                  | 2,205  |                   | $      | 2,331 |   |

 

4.           BORROWINGARRANGEMENTS

 

The Company has a $2,200,000 loan (the “Loan”), with a commercialbank.  Under the terms of the Loan, theCompany issued a promissory note (the “Note”) in the amount of $2,200,000.  The Note is secured by a deed of trust oncertain Company-owned real estate.  TheNote bears interest at the prime rate (4.25% at June 15, 2003) plus0.625%.  The Note has a fifteen-yearamortization period and matures after 84 monthly payments of principal andinterest.  All unpaid principal andinterest shall be due and payable on the Note’s maturity date of September 2,2008.

 

On June 15, 2003 the Company had $1,993,000 of debt outstanding underthe Loan described above.  At June 15,2003 $1,865,000 was included in long-term debt and $128,000 was included in thecurrent portion of long-term obligations. The Deed of Trust requires the Company to maintain a minimum debtservice coverage ratio and to maintain a minimum tangible net worth.

 

On April 7, 2003 the Company renegotiated its$2,000,000 revolving line of credit (the “Agreement”) with its bank, which maintained the Agreement’s expirationdate at June 3, 2004, but lowered the Company’s covenant requirements andreduced the fixed asset acquisition limit. Borrowings bear interest at the prime rate (4.25% at June 15, 2003) plus0.5%.  Borrowings under the Agreementare collateralized by the Company’s personal property.  On June 15, 2003 the Company had noborrowings under the Agreement.

 

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The amended Agreement requires the Company tomaintain (i) a minimum tangible net worth, (ii) a minimum debt service coverageratio and (iii) a maximum debt to tangible net worth ratio.  The Agreement also limits the Company’sfixed asset acquisitions and requires approval before paying dividends orrepurchasing outstanding shares of stock. In addition the Agreement requires the outstanding principal balance ofthe loan to be zero for at least one period of thirty consecutive days duringthe term of the loan.  Covenantcompliance is reported quarterly and the Company was in compliance with allcovenants under the amended Agreement at June 15, 2003.

 

On June 15, 2003 the Company had a commitmentfrom the bank separate from the Agreement, which makes $1,372,000 available tothe Company in support of outstanding letters of credit required under itsworkers’ compensation program.  Thecommitment, which is scheduled to expire February 28, 2004, will automaticallyextend for a one-year period.

 

5.           CONVERTIBLE PREFERREDSTOCK

 

The Company’s outstanding Series B non-voting convertible preferredstock is currently held by one entity and is convertible, at the holders’option, into Series A voting convertible preferred stock on a one-for-onebasis.  Although no Series A preferredstock is currently outstanding, holders of Series A preferred stock, if any,would be entitled to vote with common stockholders on all matters submitted toa vote of stockholders.  When and ifissued, the holders of a majority of the outstanding Series A preferred stockwill have a separate right to approve certain corporate actions.

 

In fiscal 1998, the Company failed to achieve a specified earnings targetwhich constituted an event of default of the terms of the preferred stockagreement and which triggered the right of the Series A preferred stockholdersto elect a majority of the Company’s Board of Directors.  The holder of the Series B preferred stockhas not initiated any action to convert such shares into shares of Series Apreferred stock nor has it exercised its right to elect a majority of the Boardof Directors.  In March, 2003 suchholder notified the Company that it had no intention, at that time, ofexercising such right; however, it has not waived any of its rights under theagreement.  As of July 17, 2003management is not aware of any change in the shareholder’s intention.

 

 

6.           RECENTLY ISSUEDACCOUNTING STANDARDS

 

In June 2002, the Financial AccountingStandards Board (“FASB”) issued Statement of Financial Accounting Standards(“SFAS”) No. 146, “Accounting for Costs Associated with Exit or DisposalActivities” which addresses accounting for restructuring and similar costs.  SFAS No. 146 supersedes previous accountingguidance, principally Emerging Issues Task Force (“EITF”) Issue No. 94-3.  The Company adopted the provisions of SFASNo. 146 for restructuring activities initiated after December 29, 2002.  SFAS No. 146 requires that the liability forcosts associated with an exit or disposal activity be recognized when theliability is incurred.  Under Issue94-3, a liability for an exit cost was recognized at the date of the Company’scommitment to an exit plan.  SFAS No.146 also establishes that the liability should initially be measured andrecorded at fair value.  Accordingly,SFAS No. 146 may affect the timing of recognizing future restructuring costs aswell as the amounts recognized.  Inaccordance with SFAS No.146, the Company incurred a charge of approximately$50,000 in the second quarter of 2003 resulting from severance costs associatedwith the elimination of eleven positions in its corporate office that occurredduring the second quarter of 2003.

 

In December 2002, the FASB issued SFAS No.148, “Accounting for Stock-Based Compensation – Transition and Disclosure”which amends SFAS No. 123, “Accounting for Stock-Based Compensation,” andprovides alternative methods of transition to SFAS No. 123’s fair value methodof accounting for stock-based employee compensation.  SFAS No. 148 also amends the disclosure requirements of SFAS No.123 and Accounting Principles Board (“APB”) Opinion No. 28, “Interim FinancialReporting,” to require disclosure of the effects of an entity’s accounting policywith respect to stock-based compensation on reported net income and earningsper share in annual and interim

 

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financial statements.  The disclosure provisions of SFAS No. 148are applicable to all companies with stock-based employee compensation,regardless of whether the compensation is accounted for using the fair valuemethod of SFAS No. 123 or the intrinsic value method of APB Opinion No.25.  As allowed by SFAS No. 123, theCompany utilizes the accounting method prescribed by APB Opinion No. 25 and hasadopted the disclosure requirements of SFAS No. 148.

 

The following table illustrates the effect onnet income (loss) and net income (loss) per common share if the Company hadapplied fair value recognition provisions of SFAS No. 123 to stock basedemployee compensation.

 
| **(In thousands, except per share  data)**                                                                                                    |   | **June 15,  2003** |   | **June 16,  2002** |   | **June 15,  2003** |   | **June 16,  2002** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|--------|--------------------|--------|--------------------|--------|--------------------|--------|
|                                                                                                                                          |   |               |   |               |   |               |   |               |   |
| Net income (loss)                                                                                                                             |   | $                  | (231   | )                  | $      | 474                |   | $                  | (772   | ) | $ | 587 |   |
| Deduct: Total stock-based employee  compensation expense determined under fair value based method for all awards,  net of related tax effects |   | (51                | )      | (66                | )      | (120               | )      | (160               | )      |
| Pro forma net income (loss)                                                                                                                   |   | $                  | (282   | )                  | $      | 408                |   | $                  | (892   | ) | $ | 427 |   |
|                                                                                                                                          |   |               |   |               |   |               |   |               |   |
| Net income (loss) per common share:                                                                                                           |   |               |   |               |   |               |   |               |   |
| Basic-as reported                                                                                                                             |   | $                  | (0.04  | )                  | $      | 0.08               |   | $                  | (0.13  | ) | $ | 0.10 |   |
| Basic-pro forma                                                                                                                               |   | $                  | (0.05  | )                  | $      | 0.07               |   | $                  | (0.15  | ) | $ | 0.07 |   |
| Diluted-as reported                                                                                                                           |   | $                  | (0.04  | )                  | $      | 0.07               |   | $                  | (0.13  | ) | $ | 0.08 |   |
| Diluted-pro forma                                                                                                                             |   | $                  | (0.05  | )                  | $      | 0.06               |   | $                  | (0.15  | ) | $ | 0.06 |   |

 

In May 2003, the FASB issued SFAS No. 150,“Accounting for Certain Financial Instruments with Characteristics of bothLiabilities and Equity” (SFAS 150).  Theprovisions of SFAS 150 are effective for financial instruments entered into ormodified after May 31, 2003 and with one exception, is effective at thebeginning of the first interim period beginning after June 15, 2003.  The adoption of SFAS 150 will not have amaterial effect on the Company’s financial statements.

 

**Item 2 -Management’s Discussion and Ana****lysis of Financial Condition and Results of Operations**

 

The following discussion is intended tohighlight significant changes in the Company’s financial position and resultsof operations for the twelve and twenty-four weeks ended June 15, 2003.  The interim financial statements and thisManagement’s Discussion and Analysis of Financial Condition and Results ofOperations should be read in conjunction with the Consolidated FinancialStatements and Notes thereto for the fiscal year ended December 29, 2002and the related Management’s Discussion and Analysis of Financial Condition andResults of Operations, both of which are contained in the Company’s AnnualReport on Form 10-K for the fiscal year ended December 29, 2002.

 

Certain statements set forth in thisdiscussion and analysis of financial condition and results of operationsincluding anticipated store openings, planned capital expenditures and trendsin or expectations regarding the Company’s operations constitute“forward-looking statements” within the meaning of the Private SecuritiesLitigation Reform Act of 1995.  Suchstatements are based on currently available operating, financial andcompetitive information and are subject to various risks and uncertainties.  Actual future results and trends may differmaterially depending on a variety of factors as set forth under the heading“Business Risks”.  In particular, anyfuture plans by the Company to open new restaurants could be affected by theCompany’s ability to locate suitable restaurant sites, construct newrestaurants in a timely manner and obtain additional financing.

 

Forward-looking statements reflect theexpectations of the Company at the time they are made, and investors shouldrely on them only as expressions of opinion about what may happen in the futureand only at the time they are made.  TheCompany undertakes no obligation to update any forward-looking statements.  Although the Company believes it has an appropriatebusiness strategy and the resources necessary for its operations, futurerevenue and margin trends cannot be reliably predicted and the Company mayalter its business strategies to address changing conditions.

 

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*Liquidity and Capital Resources*

 

The Company’s primary capital requirementshave been for the expansion of its restaurant operations and remodeling of itsrestaurants.  The Company hastraditionally financed these requirements with funds from equity offerings,cash flow from operations, landlord allowances, capital equipment leases andshort-term bank debt.  The Company doesnot have significant trade receivables or inventory and receives trade creditbased upon negotiated terms in purchasing food and supplies.

 

The Company has a $2,200,000 loan (the“Loan”) with a commercial bank.  Under the terms of the Loan, the Companyissued a promissory note (the “Note”) in the amount of $2,200,000.  The Note is secured by a deed of trust oncertain Company-owned real estate.  TheNote bears interest at the prime rate (4.25% at June 15, 2003) plus0.625%.  The Note has a fifteen-yearamortization period and matures after 84 monthly payments of principal andinterest.  All unpaid principal andinterest shall be due and payable on the Note’s maturity date of September 2,2008.

 

On June 15, 2003 the Company had $1,993,000 of debt outstanding underthe Loan described above.  At June 15,2003 $1,865,000 was included in long-term debt and $128,000 was included in thecurrent portion of long-term obligations. The Deed of Trust requires the Company to maintain a minimum debtservice coverage ratio and to maintain a minimum tangible net worth.

 

On April 7, 2003 the Company renegotiated its$2,000,000 revolving line of credit (the “Agreement”) with its bank, which maintained the Agreement’s expirationdate at June 3, 2004, but lowered the Company’s covenant requirements andreduced the fixed asset acquisition limit. Borrowings bear interest at the prime rate (4.25% at June 15, 2003) plus0.5%.  Borrowings under the Agreementare collateralized by the Company’s personal property.  On June 15, 2003 the Company had noborrowings under the Agreement.

 

The amended Agreement requires the Company tomaintain (i) a minimum tangible net worth, (ii) a minimum debt service coverageratio and (iii) a maximum debt to tangible net worth ratio.  The Agreement also limits the Company’sfixed asset acquisitions and requires approval before paying dividends orrepurchasing outstanding shares of stock. In addition the Agreement requires the outstanding principal balance ofthe loan to be zero for at least one period of thirty consecutive days duringthe term of the loan.

 

Covenant compliance is reported quarterly andthe Company was in compliance with all covenants under the amended Agreement atJune 15, 2003. If sales do not improve as expected the Company may be out ofcompliance with one or more of these covenants by the end of the Company'sthird quarter 2003. The Company believes is can obtain a waiver or renegotiatethese covenants with its bank. However, there can be no assurance that theCompany will be able to obtain a waiver or renegotiate its covenants.

 

On June 15, 2003 the Company had a commitmentfrom the bank separate from the Agreement, which makes $1,372,000 available tothe Company in support of outstanding letters of credit required under itsworkers’ compensation program.  Thecommitment, which is scheduled to expire February 28, 2004, will automaticallyextend for a one-year period.

 

During the first twenty-four weeks of 2003the Company entered into capital equipment leases for $904,000.  This and other capital lease obligations atJune 15, 2003 totaled $3,286,000 of which $772,000 was included in the currentportion of long-term obligations. Long-Term Debt also included a $ 113,000 note for site constructioncosts of which $2,000 was included in the current portion of long-termobligations.

 

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Net cash used by operating activities ofcontinuing operations for the first twenty-four weeks of 2003 was $242,000 andconsisted of:

 
| **(In thousands)**                                                                                                            |   |   |   |
|-------------------------------------------------------------------------------------------------------------------------------|--------|--------|--------|
| Loss from continuing operations                                                                                               |   | $      | (772   | ) |
| Adjustments to reconcile loss from  continuing operations to net cash used by operating activities of continuing  operations: |   |   |   |
| Depreciation and amortization                                                                                                 |   | 1,717  |   |
| Change in operating assets and liabilities                                                                                    |   | (1,047 | )      |
| Other                                                                                                                         |   | (140   | )      |
| Net cash used by operating activities of  continuing operations                                                               |   | $      | (242   | ) |

 

Net cash used by operating activities for thefirst twenty-four weeks of 2003 included a change in operating assets andliabilities of $1,047,000.  The changein operating assets and liabilities was primarily due to (a) a reduction inaccounts payable as the result of payments for construction invoices that wereincluded in accounts payable at December 29, 2002, and (b) an increase inaccounts receivable as the result of (i) landlord tenant improvement allowancesto be received, as construction of two restaurants was completed during thefirst twenty-four weeks of 2003 and (ii) proceeds to be received from onecapital equipment lease financing.  Bothof these accounts receivable were collected at the beginning of the thirdquarter.

 

During the same period the Company invested$2,076,000 in property and equipment, which includes equipment under capitalleases.

 

The Company’s contractual obligations as ofJune 15, 2003 are as follows:

 
| **(In thousands)**                 |   | **Total** |    | **Remainder  of  2003** |   | **2004  through  2006** |   | **2007  through  2008** |   | **2009 and  thereafter** |   |
|------------------------------------|--------|-----------|---------|-------------------------|--------|-------------------------|--------|-------------------------|--------|--------------------------|--------|
| Secured Note                       |   | $         | 1,993   |                    | $      | 63                      |   | $                       | 419    |                     | $      | 1,511 |   | $ | — |   |
| Capital Lease Obligations          |   | 3,286     |    | 388                     |   | 2,375                   |   | 523                     |   | —                   |   |
| Other Note Payable                 |   | 113       |    | 1                       |   | 4                       |   | 4                       |   | 104                      |   |
| Operating Leases                   |   | 119,776   |    | 4,655                   |   | 25,414                  |   | 16,489                  |   | 73,218                   |   |
|                               |   |      |    |                    |   |                    |   |                    |   |                     |   |
| Total Contractual Cash Obligations |   | $         | 125,168 |                    | $      | 5,107                   |   | $                       | 28,212 |                     | $      | 18,527 |   | $ | 73,322 |   |

 

The Company’s outstanding Series B non-votingconvertible preferred stock is currently held by one entity and is convertible,at the holders’ option, into Series A voting convertible preferred stock on aone-for-one basis.  Although no Series Apreferred stock is currently outstanding, holders of Series A preferred stock,if any, would be entitled to vote with common stockholders on all matterssubmitted to a vote of stockholders. When and if issued, the holders of a majority of the outstanding SeriesA preferred stock will have a separate right to approve certain corporateactions.

 

In fiscal 1998, the Company failed to achievea specified earnings target (before interest, taxes, depreciation andamortization) of at least $5.5 million which constituted an event of default ofthe terms of the preferred stock agreement and which triggered the right of theSeries A preferred stockholders to elect a majority of the Company’s Board ofDirectors.  The holder of the Series Bpreferred stock has not initiated any action to convert such shares into sharesof Series A preferred stock nor has it exercised its right to elect a majorityof the Board of Directors.  In March2003 such holder notified the Company that it had no intention, at that time,of exercising such right; however, the holder has not waived any of its rightsunder the agreement.  As of July 17,2003 management is not aware of any change in the shareholder’s intention.

 

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The Company’s continued growth depends to asignificant degree on its ability to open new restaurants and to operate suchrestaurants profitably.  As of July 17,2003, three new Fresh Choice restaurants have opened in fiscal 2003.    The Company has a signed lease for oneadditional Fresh Choice restaurant.  Thetotal leasehold improvements and equipment costs for this additional locationis estimated to be approximately $1.4 million, of which approximately $0.3million has been expended through June 15, 2003.

 

The Company has no development plans beyond2003.  The Company’s ability to resumean expansion strategy will depend upon a variety of factors, including itsreturn to profitability and the Company’s ability to obtain funds.  See “Business Risks” included herein.

 

The Company intends to finance its operatingcash requirements and fiscal 2003 capital requirements through existing cashbalances, cash provided by operations, its borrowing arrangements and equipmentlease financing.

 

The Company’s ability to resume an expansionstrategy will depend upon a variety of factors, including, maintaining asufficient cash flow from operations and its ability to obtain additionalfunds.  The Company believes itsnear-term capital requirements can be met through its existing cash balances,cash provided by operations, its borrowing arrangements and additionalequipment lease financing.  However, theCompany’s operating cash flow is impacted by the Company’s comparable storesales increases or decreases as well as the Company’s new restaurants’ salesperformance.  In the first twenty-fourweeks of 2003 comparable store sales declined 2.1% and average sales for thenine new restaurants, opened over the last eighteen months, has been 19.7%below the comparable-store average sales. The Company expects comparable store sales to improve and the salesperformance of its new restaurants to improve, but there can be no assurancethat comparable store sales will improve or new restaurant sales willimprove.  In addition, the Company isseeking new financing and there can be no assurance that the Company will beable to obtain additional financing on acceptable terms or at all.  To the extent operating cash flow continuesto decline, the Company may need to further reduce its capital spending plans.

 

*Impact of Inflation*

 

Many of the Company’s employees are paidhourly rates related to the federal and state minimum wage laws.  Accordingly, increases in the minimum wagecould materially increase the Company’s labor costs.  In addition, the cost of food commodities utilized by the Companyis subject to market supply and demand pressures.  Shifts in these costs may have a significant impact on theCompany’s food costs.  The Company anticipatesthat increases in these costs may be offset through pricing and other costcontrol efforts; however, there is no assurance that the Company would be ableto pass such costs on to its guests or that even if it were able to do so, itcould do so in a short period of time.

 

*Business Risks*

 

Certain characteristics and dynamics of the Company’s business and offinancial markets in general create risks to the Company’s long-term successand to predictable financial results. These risks include:

 

*Operating Losses and Historical Declines inComparable Store Sales*.  Our quarterly and annual operating resultsand same store sales have fluctuated significantly in the past and are likelyto fluctuate significantly in the future. Although the Company has reported aprofit for three of the last four years, there can be no assurance that theCompany will be profitable over the long or short term.

 

From the third quarter of fiscal 1994 through the end of 1998,the Company reported quarterly comparable store sales declines.  The Company reported positive comparablestore sales in each quarter of the following two years; however, the Company’scomparable store sales declined for both fiscal years 2001 and 2002 and for thefirst two quarters of 2003.  There canbe no assurance that the comparable store sales declines experienced in 2001,2002 and the first two quarters of 2003 will not continue or not declinefurther.

 

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*Expansion*.  The Company believes itsgrowth depends to a significant degree on its ability to open new restaurantsand to operate such restaurants profitably. The Company resumed its expansion with one new Fresh Choice restaurantopening in 2001, five opening in 2002 and, as of July 17, 2003, threerestaurants opening in 2003.  Throughthe first tweny-four weeks of 2003 the nine new restaurants have not met theCompany’s financial expectations with average sales 19.7% below thecomparable-store average sales.  Therecan be no assurance that the nine newly opened restaurants or future restaurantswill be profitable.  In addition, ifperformance does not improve, or deteriorates further, the Company could berequired to impair an individual restaurant, once sufficient operating historyhas been developed.

 

The Company has a signed lease for one additional Fresh Choicerestaurant in 2003.  The Companycurrently has no development plans beyond 2003.  The Company’s ability to successfully resume an expansionstrategy will depend upon a variety of factors, many of which may be beyond theCompany’s control, including the Company’s ability to locate suitablerestaurant locations, negotiate acceptable lease terms, obtain requiredgovernment approvals, construct new restaurants in a timely manner, attract,train and retrain qualified and experienced personnel and management, operateits restaurants profitably and obtain additional capital to finance expansionand  equipment costs, as well as generaleconomic conditions and the degree of competition in the particular market

 

The Company’s future expansion plans may include entering new geographicregions in which the Company has no previous operating experience.  There can be no assurance that the FreshChoice concept will be successful in new geographic regions.  In addition the Company expects intensecompetition for restaurant sites, which may result in the Company havingdifficulty leasing desirable sites on terms that are acceptable to the Company.The Company expects that in some cases competitors may be willing to pay morethan the Company for sites.  Thesepotential difficulties may make it difficult for the Company to achieve any newstore growth objectives.

 

*Lease Renewals*.  Asexisting restaurant leases expire, the Company must negotiate new leases orlease extensions in order to continue operations at existing restaurants.  There can be no assurance that the Companywill be able to renew these leases on favorable terms or at all.  If the Company is unable to obtain favorableterms on new leases or extensions on existing leases, it would increase costsand reduce the Company’s operating margins. Moreover, if the Company is unable to renew existing leases and isunable to find suitable alternate locations, the Company’s revenue andoperating results would be adversely affected.

 

*Geographic Concentration*.  Asof July 17, 2003, 42 of the Company’s 56 restaurants were located inCalifornia, primarily in Northern California. Accordingly, the Company is susceptible to fluctuations in its businesscaused by adverse economic conditions in this region.  In addition, net sales at certain of the Company’s restaurantshave been adversely affected when a new Company restaurant has been opened inrelatively close geographic proximity. There can be no assurance that expansion within existing or futuregeographic markets will not adversely affect the individual financialperformance of Company restaurants in such markets or the Company’s overallresults of operations.  In addition,given the Company’s present geographic concentration in Northern California,adverse weather conditions or increased utility costs in the region or negativepublicity relating to an individual Company restaurant could have a morepronounced adverse effect on results of operations than if the Company’srestaurants were more broadly dispersed.

 

*Sensitivity to Economic Conditions and ConsumerSpending.*  The restaurant industry historicallyhas been subject to substantial cyclical variation.  The California economy has slowed and there has been a downturnin the general economy and a decline in consumer spending in the restaurant industry.  A continued decline could have a materialadverse effect on the Company’s financial performance, as restaurant sales tendto decline during recessionary periods. A prolonged economic downturn could alter customers’ purchasingdecisions, which most likely would have a material adverse impact on theCompany’s revenue and results of operations.

 

*Seasonality and Quarterly Fluctuations* The Company’s restaurants have typicallyexperienced seasonal fluctuations, as a disproportionate amount of net sales andnet income is generally realized in the second and third fiscal quarters.  In addition, the Company’s quarterly resultsof operations have been, and may continue to be, materially impacted by thetiming of new restaurant openings and restaurant closings.  The fourth quarter normally includes 16weeks of operations as compared with 12 weeks for each of the three priorquarters.  As a result of these factors,net sales and net income in the fourth quarter are not comparable to results ineach of the first three fiscal quarters, and net sales can be expected todecline in the first quarter of each fiscal year in comparison to the fourthquarter of the prior fiscal year.

 

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*Dependence on Key Personnel*.  Thesuccess of the Company depends on the efforts of key management personnel.  The Company’s success will depend on itsability to motivate and retain its key crewmembers and to attract qualifiedpersonnel, particularly general managers, for its restaurants.  The Company faces significant competition inthe recruitment of qualified crewmembers.

 

*Restaurant Industry*.  Therestaurant industry is affected by changes in consumer tastes, as well asnational, regional and local economic conditions and demographic trends.  The performance of individual restaurants,including the Company’s restaurants, may be affected by factors such as trafficpatterns, demographic considerations, and the type, number and location ofcompeting restaurants.  In addition,factors such as inflation, increased food, labor and crewmember benefit costs,and the availability of experienced management and hourly crewmembers may alsoadversely affect the restaurant industry in general and the Company’srestaurants in particular.  Restaurantoperating costs are affected by increases in the minimum hourly wage,unemployment tax rates, and various federal, state and local governmentalregulations, including those relating to the sale of food and alcoholicbeverages.  There can be no assurancethat the restaurant industry in general, and the Company in particular, will besuccessful.

 

*Competition*.  The Company’s restaurantscompete with the rapidly growing mid-price, full-service casual dining segment;with traditional limited-service buffet, soup, and salad restaurants; and,increasingly, with fast-casual and quick-service outlets.  The Company’s competitors include nationaland regional chains, as well as local owner-operated restaurants.  Key competitive factors in the industry arethe quality and value of the food products offered, quality and speed ofservice, price, dining experience, restaurant location and the ambiance offacilities.  Many of the Company’scompetitors have been in existence longer than the Company, have a moreestablished market presence, and have substantially greater financial,marketing and other resources than the Company, which may give them certaincompetitive advantages.  The Companybelieves that its ability to compete effectively will continue to depend inlarge measure upon its ability to offer a diverse selection of high-quality,fresh food products with an attractive price/value relationship.  In addition the Company expects intensecompetition for restaurant sites, which may result in the Company havingdifficulty leasing desirable sites on terms that are acceptable to theCompany.  The Company expects that insome cases competitors may be willing to pay more than the Company for sites.

 

*Ability to Obtain Additional Financing*.  TheCompany resumed its restaurant expansion in 2001.  The Company currently has no expansion plans beyond 2003.  The Company’s ability to resume an expansionstrategy will depend upon a variety of factors, including its ability to obtainfunds.  The Company believes itsnear-term capital requirements can be met through its existing cash balances,cash provided by operations and its borrowing arrangements.  The Company is seeking new financing andthere can be no assurance that the Company will be able to obtain additionalfinancing on acceptable terms or at all.

 

*Control by Major Shareholder.*  Crescent Real Estate Equities LimitedPartnership (“Crescent”) holds 1,187,906 shares of Series B non-votingconvertible preferred stock, which is convertible into Series A votingconvertible preferred stock at any time at the option of the holder.  Upon conversion, holders of Series Apreferred stock would be entitled to vote with common stockholders and wouldhave a separate right to approve certain corporate actions, such as amendingthe Company’s Certificate of Incorporation or Bylaws, effecting a merger orsale of the Company, or making a fundamental change in the Company’s businessactivity.  In addition, because theCompany did not achieve a specified earnings target in 1998, the holders ofSeries A preferred stock would have the right to elect a majority of theCompany’s Board of Directors.  Thesefactors could have the effect of delaying, deferring or preventing a change incontrol of the Company and, as a result, could discourage acquisition bids for theCompany and limit the price that investors are willing to pay for shares ofcommon stock.

 

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*Critical Accounting Policies*

 

Our accounting policies are more fullydescribed in Note 1 of the Company’s audited December 29, 2002 financialstatements.  The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect reported amounts of assets, liabilities, revenuesand expenses and related disclosures of contingent assets and liabilities as ofthe dates and for the periods presented. Management believes the following accounting policies, among others,represent its more critical or complex estimates and assumptions used inpreparation of its consolidated financial statements.

 

The Company evaluates its estimates andassumptions on an on-going basis and believes its estimates and assumptions arereasonable based on historical experience and other factors.  However, actual results could differ fromthose estimates and these differences could be material to the consolidatedfinancial statements.  The accountingpolicies management has identified as critical or complex accounting policiesare described below.

 

*Income taxes.  *The Company’s net deferred tax assetsconsist primarily of the tax benefit related to operating loss carryforwards,alternative minimum tax credits and asset write-downs, in connection with storeclosure reserves, that are not deductible for tax purposes until the assets aredisposed.  The Company has providedvaluation allowances against its deferred net tax assets based on management’smost recent assessment that it is not deemed more likely than not that the deferredtax assets will be realized.  If futureassessments by management were to determine that the Company would be able torealize its deferred tax assets in excess of their net recorded amounts, anadjustment to the deferred tax assets could result in an increase in net incomein the period such determination was made.

 

*Long-lived assets impairment.*  The Company reviews its long-lived assetsrelated to each restaurant annually for impairment, or whenever events orchanges in circumstances indicate that the carrying amount of a restaurant maynot be recoverable.  The Companyconsiders a history of operating losses to be its primary indicator ofpotential impairment, therefore new restaurants are generally not identifiedfor impairment until a sufficient operating history has been developed.  Assets are grouped and evaluated forimpairment at the lowest level for which there are identifiable cash flows, theindividual restaurants.  Impairmentevaluations require an estimation of cash flows over the remaining useful lifeof the restaurants.  If the long-livedassets of a restaurant are not recoverable based upon forecasted undiscountedcash flows, the Company writes down an impaired restaurant to its estimatedfair value, which becomes its new cost basis. Generally, management considers the present value of a restaurant’sprojected future cash flows and estimated sales values of a restaurant’slong-lived assets in determining fair value. Considerable management judgment is necessary to estimate projected futureoperating cash flows.  Accordingly, ifactual results vary from such estimates, significant future impairment couldresult.

 

*Discontinued Operations.* Considerable management judgment is necessaryto determine whether a closed restaurant should be classified as discontinuedoperations.  In general, the Companyconsiders the extent to which the restaurant’s operations and cash flow areexpected to be absorbed by other currently operated restaurants or replacedwith a new restaurant in making this determination.  A closed restaurant, or group of restaurants, which is located inan isolated market and not replaced, would generally be classified asdiscontinued operations.

 

*Property and equipment.* Property and equipment are stated atcost.  Depreciation and amortization arecomputed using the straight-line method over the estimated useful lives of theassets which range from 5 to 30 years or the lease term of a restaurantincluding option periods, as appropriate, not to exceed 25 years.

 

S*tock**-based compensation. *The Company accounts for stock-based awards to employeesusing the intrinsic value method in accordance with Accounting Principles BoardOpinion No. 25, “Accounting for Stock Issued to Employees.”  Accordingly, no compensation expense hasbeen recognized in the financial statements for employee stockarrangements.  The Company accounts forstock-based awards to non employees in accordance with Statement of FinancialAccounting Standards (“SFAS”) No. 123 “Accounting for Stock-Based Compensation”and Emerging Issues Task Force (“EITF”) Issue No. 96-18, “Accounting for EquityInstruments That Are Issued to Other Than Employees for Acquiring, or inConjunction with Selling, Goods or Services”.

 

15

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*Workers’ Compensation Claims Accrual.*  The Company records estimates for workers’compensation claims under its workers’ compensation program.  Estimated reserves are based on availablehistorical claim settlement data for reported claims.  If a greater number of claims occur in comparison to the amountof claims estimated or medical costs increase beyond anticipated costs,additional charges may be required in the period such determination was made.

 

*Results of Operations*

The following table sets forth items in the Company’s statements ofoperations as a percentage of sales and

certain operating data for the periods indicated:

 
|                                     |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|------------------------------------------|--------|-------------------------|--------|------------------------------|--------|
| **(Dollars in thousands)**               |   | **June 15,  2003**      |   | **June 16,  2002**           |   | **June 15,  2003** |   | **June 16,  2002** |   |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| NET SALES                                |   | $                       | 18,879 |                         | 100.0  | % | $ | 17,487 |   | 100.0 | % | $ | 36,563 |   | 100.0 | % | $ | 34,516 |   | 100.0 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| COSTS AND EXPENSES:                      |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of sales                            |   | 4,385                   |   | 23.2                         | %      | 3,879 |   | 22.2 | % | 8,400 |   | 23.0 | % | 7,671 |   | 22.2 | % |
| Restaurant operating expenses:           |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Labor                                    |   | 6,422                   |   | 34.0                         | %      | 5,584 |   | 31.9 | % | 12,508 |   | 34.2 | % | 11,262 |   | 32.6 | % |
| Occupancy and other                      |   | 6,021                   |   | 31.9                         | %      | 5,317 |   | 30.4 | % | 11,721 |   | 32.1 | % | 10,488 |   | 30.4 | % |
| General and administrative expenses      |   | 1,304                   |   | 6.9                          | %      | 1,349 |   | 7.7 | % | 2,670 |   | 7.3 | % | 2,711 |   | 7.9 | % |
| Depreciation and amortization            |   | 829                     |   | 4.4                          | %      | 750 |   | 4.3 | % | 1,618 |   | 4.4 | % | 1,518 |   | 4.4 | % |
| Restaurant opening costs                 |   | 44                      |   | 0.3                          | %      | 34 |   | 0.2 | % | 236 |   | 0.6 | % | 87 |   | 0.2 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total costs and expenses                 |   | 19,005                  |   | 100.7                        | %      | 16,913 |   | 96.7 | % | 37,153 |   | 101.6 | % | 33,737 |   | 97.7 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| OPERATING INCOME (LOSS)                  |   | (126                    | )      | (0.7                         | )%     | 574 |   | 3.3 | % | (590 | ) | (1.6 | )% | 779 |   | 2.3 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest income                          |   | —                  |   | —                       | %      | 10 |   | 0.1 | % | 2 |   | — | % | 25 |   | — | % |
| Interest expense                         |   | (105                    | )      | (0.5                         | )%     | (59 | ) | (0.4 | )% | (184 | ) | (0.5 | )% | (118 | ) | (0.3 | )% |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest expense, net                    |   | (105                    | )      | (0.5                         | )%     | (49 | ) | (0.3 | )% | (182 | ) | (0.5 | )% | (93 | ) | (0.3 | )% |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| INCOME (LOSS) BEFORE INCOME TAXES        |   | (231                    | )      | (1.2                         | )%     | 525 |   | 3.0 | % | (772 | ) | (2.1 | )% | 686 |   | 2.0 | % |
| Provision for income taxes               |   | —                  |   | —                       | %      | 4 |   | — | % | — |   | — | % | 8 |   | — | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| INCOME (LOSS) FROM CONTINUING OPERATIONS |   | (231                    | )      | (1.2                         | )%     | 521 |   | 3.0 | % | (772 | ) | (2.1 | )% | 678 |   | 2.0 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| LOSS FROM DISCONTINUED OPERATIONS        |   | —                  |   | —                       | %      | (47 | ) | (0.3 | )% | — |   | — | % | (91 | ) | (0.3 | )% |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| NET INCOME (LOSS)                        |   | $                       | (231   | )                            | (1.2   | )% | $ | 474 |   | 2.7 | % | $ | (772 | ) | (2.1 | )% | $ | 587 |   | 1.7 | % |
|                                     |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of restaurants:                   |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Open at beginning of period              |   | 55                      |   |                         |   | 51 |   |   |   | 53 |   |   |   | 51 |   |   |   |
| Open at end of period                    |   | 56                      |   |                         |   | 51 |   |   |   | 56 |   |   |   | 51 |   |   |   |
|                                          |        |                         |        |                              |        |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

16

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The following table presents the components of average restaurant operatingincome on a per restaurant basis on the average number of restaurants openduring the period (the Company’s four Fresh Choice Express restaurants anddiscontinued operations are excluded):

 
|                                      |   | **Twelve  Weeks Ended** |       | **Twenty-Four  Weeks Ended** |       |
|-------------------------------------------|--------|-------------------------|------------|------------------------------|------------|
| **(Dollars in thousands)**                |   | **June 15,  2003**      | ** ** | **June 16,  2002**           | ** ** | **June 15,  2003** | ** ** | **June 16,  2002** | ** ** |
|                                      |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| NET SALES                                 |   | $                       | 356        |                         | 100.0      | % | $ | 373 |   | 100.0 | % | $ | 700 |   | 100.0 | % | $ | 731 |   | 100.0 | % |
|                                      |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| COSTS AND EXPENSES:                       |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of sales                             |   | 82                      |       | 23.1                         | %          | 82 |   | 22.0 | % | 160 |   | 22.8 | % | 161 |   | 22.0 | % |
| Restaurant operating expenses:            |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Labor                                     |   | 121                     |       | 34.0                         | %          | 119 |   | 31.9 | % | 239 |   | 34.2 | % | 238 |   | 32.5 | % |
| Occupancy and other                       |   | 113                     |       | 31.8                         | %          | 113 |   | 30.2 | % | 224 |   | 31.9 | % | 221 |   | 30.2 | % |
| Depreciation and amortization             |   | 15                      |       | 4.2                          | %          | 15 |   | 4.1 | % | 30 |   | 4.3 | % | 31 |   | 4.2 | % |
|                                      |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total costs and expenses                  |   | 332                     |       | 93.1                         | %          | 329 |   | 88.2 | % | 653 |   | 93.2 | % | 651 |   | 89.0 | % |
|                                      |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| RESTAURANT OPERATING INCOME               |   | $                       | 25         |                         | 6.9        | % | $ | 44 |   | 11.8 | % | $ | 48 |   | 6.8 | % | $ | 80 |   | 11.0 | % |
|                                      |   |                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Fresh Choice & Zoopa restaurants open |   | 52.0                    |       |                         |       | 46.0 |   |   |   | 51.2 |   |   |   | 46.3 |   |   |   |

 

Restaurantoperating income excludes restaurant opening costs and general andadministrative expenses.

 

 

*Results of Operations:  Twelve Weeks Ended June 15, 2003Compared to Twelve Weeks Ended June 16, 2002*

 

*Net Sales*.  Net sales for the quarterended June 15, 2003 were $18,879,000, an increase of $1,392,000, or 8.0%, fromsales from continuing operations of $17,487,000 for the quarter ended June 16,2002. The primary components of the net increase in sales were:

 
| **(In thousands)**                                       |   |   |   |
|----------------------------------------------------------|--------|--------|--------|
|                                                     |   |   |   |
| Incremental sales from nine new Fresh Choice restaurants |   | $      | 1,904  |   |
|                                                     |   |   |   |
| Decrease in comparable Fresh Choice restaurant sales     |   | (265   | )      |
|                                                     |   |   |   |
| Decrease in sales from closed restaurants                |   | (253   | )      |
|                                                     |   |   |   |
| Change in sales in Fresh Choice Express restaurants      |   | 6      |   |
|                                                     |   | $      | 1,392  |   |

 

The Company had an average of 52.0 Fresh Choice restaurants included insales in the second quarter of 2003 compared to 46.0 Fresh Choice restaurantsin the second quarter of 2002.  Sales atthe Company’s 43 comparable Fresh Choice restaurants, which include restaurantsopen at least 18 months, decreased 1.6% in the second quarter of 2003 versusthe second quarter of 2002.  Comparablestore guest counts decreased 1.9%, while the comparable store average checkincreased 0.3% to $7.68, reflecting price increases and lower coupon discounts.

 

Net sales per Fresh Choice restaurant averaged $356,000 in the secondquarter of 2003, a decrease of 4.4% over net sales per restaurant of $373,000in the second quarter of 2002 due primarily to the comparable store salesdecreases as noted above and lower than expected sales per restaurant from thenine new restaurants not included in comparable store sales.  Sales at these restaurants were 23.0% belowthe comparable store average sales.

 

*Costs and Expenses*. Cost of sales (food and beverage costs) was 23.2% of sales in the secondquarter of 2003 compared to 22.2% in the second quarter of 2002.  Food and beverage costs increased as apercentage of sales primarily from inflationary cost increases and the impactof a new menu rotation into the restaurants intended to increase the valueoffering to the guest.

 

17

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*Restaurant Operating Expenses*.   Restaurant operating expenses (labor,occupancy and other) were 65.9% of sales in the second quarter of 2003 comparedto 62.3% of sales in the second quarter of 2002, an increase of 3.6% of sales.

 

Labor costs as a percentage of sales were 34.0% for the second quarterof 2003 compared to 31.9% in the second quarter of 2002.  Labor costs, as a percentage of sales, werehigher primarily due to lower average restaurant sales, a higher average wage,higher workers’ compensation costs and labor inefficiencies at our newlocations.  It typically takes six toten weeks for a new store to bring its labor in line with our scheduling matrixas the store’s new crewmembers become more productive and guest traffic patternsare developed.

 

Occupancy and other expenses as a percentage of sales were 31.9% forthe first quarter of 2003 compared to 30.4% of sales in the second quarter of2002, an increase of 1.5% of sales.  Theincrease is due primarily to lower average restaurant sales, higher gas andelectricity expenses and higher management training costs.

 

*Depreciation and Amortization*. Depreciation and amortization expenses in the second quarter of 2003were 4.4% of sales, an increase of 0.1% of sales.

 

*General and Administrative Expenses*. General and administrative expenses were 6.9% of sales in the secondquarter of 2003 compared to 7.7% of sales in the second quarter of 2002.  The decrease is primarily the result ofreduced spending compared to last year and higher sales.  During the second quarter the Companyeliminated eleven mid-level management and clerical positions or approximately30% of its corporate office staff.  Thesecond quarter includes an approximately $50,000 charge for severance costs.

 

*Interest Expense, net*. Interest expense, net was $105,000 in the second quarter of 2003 compared to $49,000 in the secondquarter of 2002. This increase is due to additional equipment lease financingfor the new stores and  lower interestearned on the Company’s average cash balances. Interest expense consists of fees related to securing the Company’sborrowing arrangements and interest expense on outstanding borrowings andcapital lease obligations.

 

*Income Taxes*.  The Company recorded no taxbenefit from its operating loss in the second quarter of 2003 due to valuationallowances against its net deferred tax assets.  The Company’s net deferred tax assets consist primarily of thetax benefit related to operating loss carryforwards, alternative minimum taxcredits and asset write-downs, in connection with store closure reserves, thatare not deductible for tax purposes until the assets are disposed.  The Company will continue to provide a fullvaluation allowance for its deferred tax assets until it becomes more likelythan not, in management’s assessment, that any portion of the Company’sdeferred tax assets will be realized. In addition, should the Company project taxable income in 2003, it willnot be able to utilize its California net operating loss carryforwards.  In September 2002, California enacted a lawsuspending the use of such loss carryforwards to offset taxable income in thedetermination of state income taxes for the 2003 tax year.  The Company recorded an income tax provisionfor the second quarter of 2002, despite net operating loss carryforwardsavailable to offset taxable income, due to projected 2002 net income beingsubject to state alternative minimum tax.

 

18

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*Results of Operations:  Twenty-Four Weeks Ended June 15, 2003*

*Compared to Twenty-Four Weeks Ended June 16, 2002*

 

*Net Sales*.  Net sales for the twenty-fourweeks ended June 15, 2003 were $36,563,000, an increase of $2,047,000, or 5.9%,from sales from continuing operations of $34,516,000 for the twenty-four weeksended June 16, 2002. The primary components of the net increase in sales were:

 
| **(In thousands)**                                       |   |   |   |
|----------------------------------------------------------|--------|--------|--------|
|                                                     |   |   |   |
| Incremental sales from nine new Fresh Choice restaurants |   | $      | 3,433  |   |
|                                                     |   |   |   |
| Decrease in sales from closed restaurants                |   | (768   | )      |
|                                                     |   |   |   |
| Decrease in comparable Fresh Choice restaurant sales     |   | (674   | )      |
|                                                     |   |   |   |
| Change in sales in Fresh Choice Express restaurants      |   | 56     |   |
|                                                     |   | $      | 2,047  |   |

 

The Company had an average of 51.2 Fresh Choice restaurants included insales in the first two quarters of 2003 compared to 46.3 Fresh Choicerestaurants in the first two quarters of 2002. Sales at the Company’s 43 comparable Fresh Choice restaurants, whichinclude restaurants open at least 18 months, decreased 2.1% in the first twoquarters of 2003 versus the first two quarters of 2002.  Comparable store guest counts decreased3.9%, while the comparable store average check increased 1.8% to $7.71,reflecting price increases and lower coupon discounts.

 

Net sales per Fresh Choice restaurant averaged $700,000 in the firsttwo quarters of 2003, a decrease of 4.3% over net sales per restaurant of$731,000 in the first two quarters of 2002 due primarily to the comparablestore sales decreases as noted above and lower than expected sales perrestaurant from the nine new restaurants not included in comparable storesales.  Sales at these restaurants were19.7% below the comparable store average sales.

 

*Costs and Expenses*. Cost of sales (food and beverage costs) was 23.0% of sales in the firsttwo quarters of 2003 compared to 22.2% in the first two quarters of 2002.  Food and beverage costs increased as apercentage of sales primarily from inflationary cost increases and theintroduction of a new menu rotation intended to increase the value offering tothe guest.

 

*Restaurant Operating Expenses*.   Restaurant operating expenses (labor,occupancy and other) were 66.3% of sales in the first two quarters of 2003compared to 63.0% of sales in the first two quarters of 2002, an increase of3.3% of sales.

 

Labor costs as a percentage of sales were 34.2% for the first twoquarters of 2003 compared to 32.6% in the first two quarters of 2002.  Labor costs, as a percentage of sales, werehigher primarily due to lower average restaurant sales, a higher average wage,higher workers’ compensation costs and labor inefficiencies at our newlocations.  It typically takes six toten weeks for a new store to bring its labor in line with our scheduling matrixas the store’s new crewmembers become more productive and guest trafficpatterns are developed.

 

Occupancy and other expenses as a percentage of sales were 32.1% forthe first two quarters of 2003 compared to 30.4% of sales in the first twoquarters of 2002, an increase of 1.7% of sales.  The increase is due primarily to lower average restaurant sales,higher gas and electricity expenses and higher management training costs.

 

*Depreciation and Amortization*. Depreciation and amortization expenses in the first two quarters of 2003were 4.4% of sales, which is flat with the first two quarters in 2002.

 

19

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*General and Administrative Expenses*. General and administrative expenses were 7.3% of sales in the first twoquarters of 2003 compared to 7.9% of sales in the first two quarters of2002.  The decrease is primarily theresult of reduced spending compared to last year and higher sales.  During the second quarter the Companyeliminated eleven mid-level management and clerical positions or approximately30% of its corporate office staff.  Thesecond quarter includes an approximately $50,000 charge for severance costs.

 

*Interest Expense, net*. Interest expense, net was $182,000 in the first two quarters of 2003 compared to $93,000 in thefirst two quarters of 2002. This increase is due to additional equipment leasefinancing for the new stores and lower interest earned on the Company’s averagecash balances.  Interest expenseconsists of fees related to securing the Company’s borrowing arrangements andinterest expense on outstanding borrowings and capital lease obligations.

 

*Income Taxes*.  The Company recorded no taxbenefit from its operating loss in the first twenty-four weeks of 2003 due tovaluation allowances against its net deferred tax assets.  The Company’s net deferred tax assetsconsist primarily of the tax benefit related to operating loss carryforwards,alternative minimum tax credits and asset write-downs, in connection with storeclosure reserves, that are not deductible for tax purposes until the assets aredisposed.  The Company will continue toprovide a full valuation allowance for its deferred tax assets until it becomesmore likely than not, in management’s assessment, that any portion of theCompany’s deferred tax assets will be realized.  In addition, should the Company project taxable income in 2003,it will not be able to utilize its California net operating losscarryforwards.  In September 2002,California enacted a law suspending the use of such loss carryforwards tooffset taxable income in the determination of state income taxes for the 2003tax year.  The Company recorded anincome tax provision for the first twenty-four weeks of 2002, despite netoperating loss carryforwards available to offset taxable income, due toprojected 2002 net income being subject to state alternative minimum tax.

 

**Item 3 **-**Quantitative and QualitativeDisclosures About Market Risk**

 

The Company is exposed to interest rate risk primarily through itsborrowing activities.  The Company hasnot used derivative financial instruments to hedge such risks.  There is inherent roll-over risk forborrowings as they mature and are renewed at current market rates.  The extent of this risk is not quantifiableor predictable because of the variability of future interest rates and businessfinancing requirements.  If market rateswere to increase immediately by 10 percent from levels at June 15, 2003, thefair value of the Company’s borrowings would not be materially affected asborrowings are primarily subject to variable interest rates.

 

 

**Item 4  - Controls and Procedures****

 

Under the supervision and with the participation of theCompany’s management, including its principal executive officer and principalfinancial officer, the Company evaluated the effectiveness of its disclosurecontrols and procedures, as such term is defined in Rule 13a-15(e) promulgatedunder the Securities Exchange Act of 1934, as amended.  Based on this evaluation, the Company’sprincipal executive officer and principal financial officer concluded that theCompany’s disclosure controls and procedures were effective as of the end ofthe period covered by this quarterly report.

 

20

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**PARTII. ****OTHER****INFORMATION**

 
| **Item 1 - Legal Proceedings**                                      |   | Not Applicable. |
|---------------------------------------------------------------------|--------|-----------------|
|                                                                |   |            |
| **Item 2 - Changes in Securities**                                  |   | Not Applicable. |
|                                                                |   |            |
| **Item 3 - Defaults upon Senior Securities**                        |   | Not Applicable. |
|                                                                |   |            |
| **Item 4 - Submission of Matters to a Vote****of Security Holders** |   |            |

 

The Company held its Annual Meeting of Stockholders on May 6,2003.  The stockholders voted onproposals on:

 

(1) The election of two (2) Class II directors, Carl R. Hays andCharles A. Lynch, to hold office for a three-year term and until theirsuccessors are elected and qualified. The proposal was approved by the following vote:

 
| **Nominee**      |   | **For**   |   | **Withheld** |
|------------------|--------|-----------|--------|--------------|
|             |   |      |   |         |
| Carl R. Hays     |   | 5,288,099 |   | 552,388      |
|             |   |      |   |         |
| Charles A. Lynch |   | 5,137,629 |   | 702,858      |

 

(2) The appointment of Grant Thornton LLP as the Company’s independentaccountants for the fiscal year ending December 28, 2003.  The proposal was approved by the followingvote:

 
| **For**   |   | **Against** |   | **Abstain** |
|-----------|--------|-------------|--------|-------------|
|      |   |        |   |        |
| 5,342,429 |   | 446,598     |   | 51,460      |

 
| **Item 5 - Other Information** |   | Not Applicable. |
|--------------------------------|--------|-----------------|

 

**Item 6 -Exhibits and Reports on Form 8-****K**

 

(a)                        Exhibits. The exhibits listed in the accompanying index to Form 10-Q Exhibits arefiled or incorporated by reference as part of this report.

 

(b)                       Reportson Form 8-K.  The registrant filed thefollowing report on Form 8-K during the quarter ended June 15, 2003.

•                  on April 17, 2003 reporting the issuance of apress release announcing the results for the first quarter ended March 23,2003.

 

21

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**SIGNATURES**

 

Pursuant to the requirements ofthe Securities Exchange Act of 1934, the Registrant has duly caused this reportto be signed on its behalf by the undersigned, thereunto duly authorized.

 

 
|                       | FRESH CHOICE, INC.                                 |
|----------------------------|----------------------------------------------------|
|                       | (Registrant)                                       |
|                       |                                               |
|                       |                                               |
|                       | /S/ Everett F. Jefferson                           |   |
|                       | Everett F. Jefferson                               |
|                       | President and Chief  Executive Officer             |
|                       | (Principal Executive  Officer)                     |
|                       |                                               |
|                       |                                               |
|                       | /S/ David E. Pertl                                 |   |
|                       | David E. Pertl                                     |
|                       | Senior Vice President and  Chief Financial Officer |
|                       | (Principal Financial and  Accounting Officer)      |
|                       |                                               |
| Dated:  July 17, 2003 |                                               |

 

22

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**INDEX TO FORM 10-Q EXHIBITS**

 
| **Exhibit  No.** |   | **Description** |
|------------------|--------|-----------------|
|             |   |            |   |   |   |   |
| 3.1              |   | (1)             |   |   |   | Restated  Certificate of Incorporation of Fresh Choice, Inc. |
|             |   |            |   |   |   |   |
| 3.2              |   | (8)             |   |   |   | Amended  By-Laws of Fresh Choice, Inc. dated April 11, 1996 |
|             |   |            |   |   |   |   |
| 3.3              |   | (10)            |   |   |   | Certificate  of Amendment of Restated Certificate of Incorporation of Fresh Choice, Inc. |
|             |   |            |   |   |   |   |
| 3.4              |   | (10)            |   |   |   | Certificate  of Designation of Series A Voting Participating Convertible Preferred Stock  of Fresh Choice, Inc. |
|             |   |            |   |   |   |   |
| 3.5              |   | (10)            |   |   |   | Certificate  of Designation of Series B Non-Voting Participating Convertible Preferred  Stock of Fresh Choice, Inc. |
|             |   |            |   |   |   |   |
| 3.6              |   | (10)            |   |   |   | Certificate  of Designation of Series C Non-Voting Participating Convertible Preferred  Stock of Fresh Choice, Inc. |
|             |   |            |   |   |   |   |
| 4.1              |   | (10)            |   |   |   | Registration  Rights Agreement dated September 13, 1996 between Fresh Choice, Inc. and  Crescent Real Estate Equities Limited Partnership |
|             |   |            |   |   |   |   |
| 10.1             |   | (1)             |   |   |   | Form of  Indemnity Agreement for directors and officers |
|             |   |            |   |   |   |   |
| 10.2             |   | (2)             |   | (3) |   | Second  Amended and Restated 1988 Stock Option Plan |
|             |   |            |   |   |   |   |
| 10.3             |   | (2)             |   | (3) |   | 1992  Employee Stock Purchase Plan |
|             |   |            |   |   |   |   |
| 10.8             |   | (8)             |   |   |   | Preferred  Stock Purchase Agreement with Crescent Real Estate Equities Limited  Partnership dated April 26, 1996 |
|             |   |            |   |   |   |   |
| 10.18            |   | (6)             |   |   |   | Warrant to  Purchase up to 75,000 Shares of the Company’s Common Stock issued to Silicon  Valley Bank on December 20, 1995 |
|             |   |            |   |   |   |   |
| 10.19            |   | (6)             |   |   |   | Common Stock  Purchase Warrant to Purchase 100,000 Shares of the Company’s Common Stock  issued to Bain & Company, dated December 15, 1995 |
|             |   |            |   |   |   |   |
| 10.26            |   | (11)            |   | (3) |   | Employment  Offer Letter to David E. Pertl dated January 24, 1997 |
|             |   |            |   |   |   |   |
| 10.27            |   | (11)            |   | (3) |   | Employment  Offer Letter to Everett F. Jefferson dated January 30, 1997 |
|             |   |            |   |   |   |   |
| 10.28            |   | (11)            |   | (3) |   | Amendment to  Employment Offer Letter to Everett F. Jefferson dated February 10, 1997 |
|             |   |            |   |   |   |   |
| 10.34            |   | (13)            |   | (3) |   | Consulting  Agreement with Charles A. Lynch dated April 17, 1998 |
|             |   |            |   |   |   |   |
| 10.36            |   | (14)            |   |   |   | Loan and  Security Agreement dated December 29, 1998 with FINOVA Capital Corporation |
|             |   |            |   |   |   |   |
| 10.37            |   | (14)            |   | (3) |   | Form of  Severance Agreement with Senior Vice Presidents |
|             |   |            |   |   |   |   |
| 10.41            |   | (16)            |   | (3) |   | 2001 Home  Office Incentive Plan |
|             |   |            |   |   |   |   |
| 10.42            |   | (16)            |   | (3) |   | Senior  Vice President of Operations 2001 Incentive Plan |
|             |   |            |   |   |   |   |
| 10.43            |   | (17)            |   | (3) |   | Amendment  to Employment offer letter to David E. Pertl dated August 23, 2001 |
|             |   |            |   |   |   |   |
| 10.44            |   | (17)            |   | (3) |   | Employment  Agreement with Everett F. Jefferson dated October 9, 2001 |
|             |   |            |   |   |   |   |
| 10.45            |   | (17)            |   | (3) |   | Amended and  Restated Form of Severance Agreement with Senior Vice Presidents dated August  14, 2001 |
|             |   |            |   |   |   |   |
| 10.46            |   | (17)            |   | (3) |   | 2001  Employee Stock Purchase Plan |

 

23

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| **EXHIBIT  NO.** |   | **DESCRIPTION** |
|------------------|--------|-----------------|
|             |   |            |
| 10.47            |   | (17)            |   | (3) |   | Second  Amended and Restated 1988 Stock Option Plan as amended through July 12, 2001 |
|             |   |            |   |   |   |   |
| 10.48            |   | (17)            |   |   |   | Promissory  Note Secured by Deed of Trust dated August 13, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.49            |   | (17)            |   |   |   | Commercial  Deed of Trust, Financing Statement, Security Agreement and Fixture Filing  dated August 13, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.50            |   | (17)            |   |   |   | Revolving  Loan Agreement dated October 5, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.51            |   | (17)            |   |   |   | Pledge  Agreement dated October 5, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.52            |   | (17)            |   |   |   | Promissory  Note dated October 5, 2001 with Mid Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.53            |   | (18)            |   | (3) |   | 2002  Home Office Incentive Plan |
|             |   |            |   |   |   |   |
| 10.54            |   | (18)            |   | (3) |   | Senior  Vice President of Operations 2002 Incentive Plan |
|             |   |            |   |   |   |   |
| 10.55            |   | (18)            |   | (3) |   | Non  Qualified Deferred Compensation Plan of Fresh Choice, Inc. effective as of  December 1, 2001 |
|             |   |            |   |   |   |   |
| 10.56            |   | (18)            |   | (3) |   | Trust Agreement Under The Non Qualified Deferred Compensation Plan of  Fresh Choice, Inc. dated December 17, 2001 |
|             |   |            |   |   |   |   |
| 10.57            |   | (19)            |   |   |   | Letter dated April 25, 2002 amending the Revolving Loan Agreement  dated October 5, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |   |   |
| 10.58            |   | (20)            |   |   |   | Change in Terms Agreement dated June 3, 2002 amending the Revolving  Loan Agreement dated October 5, 2001 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.59            |   | (21)            |   |   |   | Letter dated December 10, 2002 amending the Revolving Loan Agreement  dated October 5, 2001 as amended June 3, 2002 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 10.60            |   | (21)            |   | (3) |   | 2003 Home Office Incentive Plan |
|             |   |            |   |   |   |   |
| 10.61            |   | (22)            |   |   |   | Letter  dated April 7, 2003 amending the Revolving Loan Agreement dated October 5,  2001 as amended June 3, 2002 and December 10, 2002 with Mid-Peninsula Bank |
|             |   |            |   |   |   |   |
| 99.1             |   |            |   |   |   | Certification  by the Chief Executive Officer of his responsibility for financial reports  under section 302 of the Sarbanes-Oxley Act. |
|             |   |            |   |   |   |   |
| 99.2             |   |            |   |   |   | Certification  by the Chief Financial Officer of his responsibility for financial reports  under section 302 of the Sarbanes-Oxley Act. |
|             |   |            |   |   |   |   |   |   |
| 99.3             |   |            |   |   |   | Certification  by the Chief Executive Officer of his responsibility for financial reports  under section 906 of the Sarbanes-Oxley Act. |
|             |   |            |   |   |   |   |
| 99.4             |   |            |   |   |   | Certification  by the Chief Financial Officer of his responsibility for financial reports  under section 906 of the Sarbanes-Oxley Act. |
|                  |        |                 |  |  |  |  |  |  |  |  |

 

24

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----

| (1)    |   | Incorporated  by reference from the Exhibits with corresponding numbers filed with the  Company’s Registration Statement on Form S-1 (No. 33-53904) filed October 29,  1992, as amended by Amendment No. 1 to Form S-1 (No. 33-53904) filed December  7, 1992, except that Exhibit 3.1 is incorporated by reference from Exhibit  3.1C and Exhibit 3.2 is incorporated by reference from Exhibit 3.2B. |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (2)    |   | Incorporated  by reference from the Exhibits with corresponding numbers filed with the  Company’s Quarterly Report on Form 10-Q for the quarter ended September 4,  1994.                                                                                                                                                                                                                              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (3)    |   | Agreements or compensatory plans covering  executive officers and directors of Fresh Choice, Inc.                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (6)    |   | Incorporated by reference from the Exhibits with corresponding  numbers filed with the Company’s Annual Report on Form 10-K for the year  ended December 31, 1995.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (8)    |   | Incorporated by reference from the Exhibits with corresponding  numbers filed with the Company’s Quarterly Report on form 10-Q for the  quarter ended March 24, 1996.                                                                                                                                                                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (10)   |   | Incorporated by reference from the Exhibits with  corresponding numbers filed with the Company’s Quarterly Report on Form 10-Q  for the quarter ended September 8, 1996.                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (11)   |   | Incorporated by reference from the Exhibits with  corresponding numbers filed with the Company’s Annual Report on Form 10-K for  the year ended December 29, 1996.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (13)   |   | Incorporated by reference from Exhibits with corresponding numbers  filed with the Company’s Quarterly Report on Form 10-Q for the quarter ended  June 14, 1998.                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (14)   |   | Incorporated by  reference from the Exhibits with corresponding numbers filed with the  Company’s Annual Report on Form 10-K for the year ended December 27, 1998.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (15)   |   | Incorporated by  reference from the Exhibits with corresponding numbers filed with the  Company’s Annual Report on Form 10-K for the year ended December 26, 1999.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (16)   |   | Incorporated by  reference from the Exhibits with corresponding numbers filed with the  Company’s Annual Report on Form 10-K for the year ended December 31, 2000.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (17)   |   | Incorporated by  reference from Exhibits with corresponding numbers filed with the Company’s  Quarterly Report on Form 10-Q for the quarter ended March 24, 2002.                                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (18)   |   | Incorporated by  reference from the Exhibits with corresponding numbers filed with the  Company’s Annual Report on Form 10-K for the year ended December 30, 2001.                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (19)   |   | Incorporated by  reference from Exhibits with corresponding numbers filed with the Company’s  Quarterly Report on Form 10-Q for the quarter ended March 24, 2002.                                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (20)   |   | Incorporated by  reference from Exhibits with corresponding numbers filed with the Company’s  Quarterly Report on Form 10-Q for the quarter ended June 16, 2002.                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (21)   |   | Incorporated by  reference from Exhibits with corresponding numbers filed with the Company’s  Annual Report on Form 10-K for the year ended December 29, 2002.                                                                                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                        |
| (22)   |   | Incorporated by  reference from Exhibits with corresponding numbers filed with the Company’s  Quarterly Report on Form 10-Q for the quarter ended March 23, 2003.                                                                                                                                                                                                                                      |

 

25

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