** **

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

** **

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** **

**FORM 10-Q**

**(Mark One)**

** **

**ý****     QUARTERLY REPORTunder SECTION 13 OR 15(d) of the SECURITIES EXCHANGE ACT OF 1934**

 

**For thequarter ended****June 16, 2002**

** **

**OR**

 

**o****    ****TRANSITION REPORT PURSUANTTO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For thetransition period from                       to                  .**

 

**Commission file number 0-20792**

 

**FRESHCHOICE, INC.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                                     |   | **77-0130849**       |
|--------------------------------------------------|--------|----------------------|
| (State  or other jurisdiction of                 |   | (I.R.S.  Employee    |
| incorporation  or organization)                  |   | Identification  No.) |
|                                             |   |                 |
| **485 Cochrane Circle, Morgan Hill, California** |   | **95037**            |
| (Address  of principal executives offices)       |   | (Zip  Code)          |

 

Registrant's telephone number, including areacode:    **(408)776-0799**

** **

 

Former name, former address and former fiscalyear, 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

 

APPLICABLEONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THEPRECEDING FIVE YEARS:

Indicate by check mark whether the registranthas filed all documents and reports required to be filed by Section 12, 13 or15(d) of the Securities Exchange Act of 1934 subsequent to the distribution ofsecurities under a plan confirmed by a court.

o Yes    o  No

 

 

APPLICABLE ONLY TO CORPORATE ISSUERS:

 Thenumber of shares of Common Stock, $.001 par value, outstanding as of July 17,2002 was 5,939,146.

 

 

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**FRESH CHOICE, INC.**

** **

**INDEX**

 
| PART I - FINANCIAL INFORMATION                                                                                           |
|--------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                     |
| Item 1 - Financial Statements                                                                                            |
|                                                                                                                     |
| Condensed Consolidated Balance  Sheets at June 16, 2002 and December 30, 2001                                            |
|                                                                                                                     |
| Condensed Consolidated Statements  of Income for the Twelve and Twenty-Four Weeks ended June 16, 2002 and June  17, 2001 |
|                                                                                                                     |
| Condensed Consolidated Statements  of Cash Flows for the Twenty-Four Weeks ended June 16, 2002 and June 17, 2001         |
|                                                                                                                     |
| 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                                                     |
|                                                                                                                     |
| 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

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 ** ****PARTI.  FINANCIAL INFORMATION**

** **

**Item 1 -Financial Statements**

** **

FRESH CHOICE, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per shareamounts)

(Unaudited)

** **
|                                                                                                                                                                           |   | **June 16,  2002** |   | **December  30,  2001** |   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|--------|-------------------------|--------|
| ASSETS                                                                                                                                                                         |   |               |   |                    |   |
| CURRENT ASSETS:                                                                                                                                                                |   |               |   |                    |   |
| Cash and cash  equivalents                                                                                                                                                     |   | $                  | 4,952  |                    | $      | 4,368 |   |
| Receivables                                                                                                                                                                    |   | 196                |   | 224                     |   |
| Inventories                                                                                                                                                                    |   | 426                |   | 404                     |   |
| Prepaid expenses  and other current assets                                                                                                                                     |   | 384                |   | 1,202                   |   |
| Total current  assets                                                                                                                                                          |   | 5,958              |   | 6,198                   |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| PROPERTY AND  EQUIPMENT, net                                                                                                                                                   |   | 28,911             |   | 27,717                  |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| LEASE  ACQUISITION COSTS, net                                                                                                                                                  |   | 257                |   | 286                     |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| DEPOSITS AND  OTHER ASSETS                                                                                                                                                     |   | 676                |   | 639                     |   |
| TOTAL ASSETS                                                                                                                                                                   |   | $                  | 35,802 |                    | $      | 34,840 |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| LIABILITIES AND  STOCKHOLDERS' EQUITY                                                                                                                                          |   |               |   |                    |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| CURRENT  LIABILITIES:                                                                                                                                                          |   |               |   |                    |   |
| Accounts payable                                                                                                                                                               |   | $                  | 1,895  |                    | $      | 2,434 |   |
| Accrued salaries  and wages                                                                                                                                                    |   | 1,678              |   | 1,523                   |   |
| Sales tax  payable                                                                                                                                                             |   | 860                |   | 582                     |   |
| Other accrued  expenses                                                                                                                                                        |   | 1,792              |   | 1,808                   |   |
| Current portion  of long-term obligations                                                                                                                                      |   | 611                |   | 567                     |   |
| Total current  liabilities                                                                                                                                                     |   | 6,836              |   | 6,914                   |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| CAPITAL LEASE  OBLIGATIONS                                                                                                                                                     |   | 1,153              |   | 484                     |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| LONG-TERM DEBT                                                                                                                                                                 |   | 2,113              |   | 2,173                   |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| OTHER LONG-TERM  LIABILITIES                                                                                                                                                   |   | 1,794              |   | 2,010                   |   |
| Total  liabilities                                                                                                                                                             |   | 11,896             |   | 11,581                  |   |
|                                                                                                                                                                           |   |               |   |                    |   |
| STOCKHOLDERS'  EQUITY:                                                                                                                                                         |   |               |   |                    |   |
| Convertible  preferred stock, $.001 par value; 3.5 million shares authorized; shares  outstanding:  2002 and 2001 -  1,187,906; liquidation preference of $6.57 per share |   | 5,175              |   | 5,175                   |   |
| Common stock -  $.001 par value; 15 million shares authorized; shares outstanding:   2002 - 5,939,146; 2001 - 5,906,965                               |   | 42,598             |   | 42,538                  |   |
| Accumulated  deficit                                                                                                                                                           |   | (23,867            | )      | (24,454                 | )      |
| Total  stockholders' equity                                                                                                                                                    |   | 23,906             |   | 23,259                  |   |
| TOTAL  LIABILITIES AND STOCKHOLDERS' EQUITY                                                                                                                                    |   | $                  | 35,802 |                    | $      | 34,840 |   |

 

The December 30, 2001 amounts are derived from the Company's auditedfinancial statements.

See accompanying notes to condensed consolidated financial statements.

 

 

3

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FRESH CHOICE, INC.

CONDENSED CONSOLIDATEDSTATEMENTS OF INCOME

(In thousands, except per share amounts)

(Unaudited)

** **
|                                               |   | **Twelve  Weeks Ended** |       | **Twenty-Four  Weeks Ended** |       |
|----------------------------------------------------|--------|-------------------------|------------|------------------------------|------------|
|                                               |   | **June 16,  2002**      |       | **June 17,  2001**           |       | **June 16,  2002** |   | **June 17,  2001** |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| NET SALES                                          |   | $                       | 17,708     |                         | $          | 18,215 |   | $ | 34,955 |   | $ | 35,800 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| COSTS AND EXPENSES:                                |   |                    |       |                         |       |   |   |   |   |
| Cost of sales                                      |   | 3,931                   |       | 4,151                        |       | 7,775 |   | 8,268 |   |
| Restaurant operating expenses:                     |   |                    |       |                         |       |   |   |   |   |
| Labor                                              |   | 5,670                   |       | 5,695                        |       | 11,433 |   | 11,349 |   |
| Occupancy and other                                |   | 5,437                   |       | 5,169                        |       | 10,723 |   | 10,385 |   |
| Depreciation and amortization                      |   | 760                     |       | 810                          |       | 1,538 |   | 1,588 |   |
| General and administrative expenses                |   | 1,349                   |       | 1,615                        |       | 2,711 |   | 3,068 |   |
| Restaurant opening costs                           |   | 34                      |       | —                       |       | 87 |   | 6 |   |
| Total costs and expenses                           |   | 17,181                  |       | 17,440                       |       | 34,267 |   | 34,664 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| OPERATING INCOME                                   |   | 527                     |       | 775                          |       | 688 |   | 1,136 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| Interest income                                    |   | 10                      |       | 30                           |       | 25 |   | 77 |   |
| Interest expense                                   |   | (59                     | )          | (89                          | )          | (118 | ) | (188 | ) |
|                                               |   |                    |       |                         |       |   |   |   |   |
| Interest expense, net                              |   | (49                     | )          | (59                          | )          | (93 | ) | (111 | ) |
|                                               |   |                    |       |                         |       |   |   |   |   |
| INCOME BEFORE INCOME TAXES                         |   | 478                     |       | 716                          |       | 595 |   | 1,025 |   |
| Provision for income taxes                         |   | 4                       |       | 28                           |       | 8 |   | 36 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| NET INCOME                                         |   | $                       | 474        |                         | $          | 688 |   | $ | 587 |   | $ | 989 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| Basic net income per common share                  |   | $                       | 0.08       |                         | $          | 0.12 |   | $ | 0.10 |   | $ | 0.17 |   |
|                                               |   |                    | ** ** |                         | ** ** |   | ** ** |   | ** ** |
| Shares used in computing basic per share amounts   |   | 5,917                   |       | 5,842                        |       | 5,913 |   | 5,838 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| Diluted net income per common share                |   | $                       | 0.07       |                         | $          | 0.10 |   | $ | 0.08 |   | $ | 0.14 |   |
|                                               |   |                    |       |                         |       |   |   |   |   |
| Shares used in computing diluted per share amounts |   | 7,167                   |       | 7,106                        |       | 7,176 |   | 7,106 |   |

 

See accompanying notes to condensedconsolidated financial statements.

 

4

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FRESH CHOICE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

 
|                                                                                          |   | **Twenty-Four  Weeks Ended** |   |
|-----------------------------------------------------------------------------------------------|--------|------------------------------|--------|
|                                                                                          |   | **June 16,********2002**     |   | **June 17,********2001** |   |
| OPERATING  ACTIVITIES:                                                                        |   |                         |   |   |   |
| Net income                                                                                    |   | $                            | 587    |   | $ | 989 |   |
| Adjustments to reconcile  net income to net cash provided by operating activities:            |   |                         |   |   |   |
| Depreciation and  amortization                                                                |   | 1,629                        |   | 1,696 |   |
| Issuance of  stock options for consulting services                                            |   | 3                            |   | 4 |   |
| Loss on disposal  of property and equipment                                                   |   | 22                           |   | 36 |   |
| Deferred rent                                                                                 |   | (216                         | )      | (251 | ) |
| Change in  operating assets and liabilities:                                                  |   |                         |   |   |   |
| Receivables                                                                                   |   | 28                           |   | 59 |   |
| Inventories                                                                                   |   | (27                          | )      | (16 | ) |
| Prepaid expenses  and other current assets                                                    |   | 818                          |   | 927 |   |
| Accounts payable                                                                              |   | (539                         | )      | (216 | ) |
| Accrued salaries  and wages                                                                   |   | 155                          |   | 467 |   |
| Other accrued expenses                                                                        |   | 265                          |   | (130 | ) |
| Store closure  reserve                                                                        |   | (3                           | )      | (359 | ) |
|                                                                                          |   |                         |   |   |   |
| Net cash  provided by operating activities                                                    |   | 2,722                        |   | 3,206 |   |
|                                                                                          |   |                         |   |   |   |
| INVESTING  ACTIVITIES:                                                                        |   |                         |   |   |   |
| Capital  expenditures                                                                         |   | (2,249                       | )      | (1,114 | ) |
| Proceeds from  disposal of property and equipment                                             |   | 8                            |   | - |   |
| Deposits and  other assets                                                                    |   | (41                          | )      | (68 | ) |
|                                                                                          |   |                         |   |   |   |
| Net cash used in  investing activities                                                        |   | (2,282                       | )      | (1,182 | ) |
|                                                                                          |   |                         |   |   |   |
| FINANCING  ACTIVITIES:                                                                        |   |                         |   |   |   |
| Common stock  sales                                                                           |   | 57                           |   | 55 |   |
| Long term debt -  repayments                                                                  |   | (57                          | )      | (125 | ) |
| Capital lease  obligations - proceeds                                                         |   | 489                          |   | — |   |
| Capital lease  obligations - repayments                                                       |   | (345                         | )      | (230 | ) |
|                                                                                          |   |                         |   |   |   |
| Net cash  provided by (used in) financing activities                                          |   | 144                          |   | (300 | ) |
|                                                                                          |   |                         |   |   |   |
| INCREASE IN CASH  AND CASH EQUIVALENTS                                                        |   | 584                          |   | 1,724 |   |
|                                                                                          |   |                         |   |   |   |
| CASH AND CASH  EQUIVALENTS:                                                                   |   |                         |   |   |   |
| Beginning of  period                                                                          |   | 4,368                        |   | 2,918 |   |
| End of period                                                                                 |   | $                            | 4,952  |   | $ | 4,642 |   |
|                                                                                          |   |                         |   |   |   |
| Noncash  Investing and Financing Activities -                                                 |   |                         |   |   |   |   |   |
| Equipment  acquired under capital leases                                                      |   | $                            | 566    |   | $ | — |   |
|                                                                                          |   |                         |   |   |   |
| Supplemental  Disclosure of Cash Flow Information -  Cash paid during the period for interest |   | $                            | 117    |   | $ | 111 |   |

 

See accompanying notes tocondensed consolidated financial statements

 

 

5

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FRESH CHOICE, INC.

NOTES TO CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS

For the Twelve Weeks and Twenty-Four WeeksEnded June 16, 2002 and June 17, 2001

(Unaudited)

 

1.             CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS

 

The accompanying condensedconsolidated financial statements have been prepared by the Company withoutaudit and reflect all adjustments, consisting of normal recurring adjustmentsand accruals, which are, in the opinion of management, necessary for a fairstatement of financial position and the results of operations for the interimperiods.  The statements have beenprepared in accordance with the regulations of the Securities and ExchangeCommission, but omit certain information and footnote disclosures necessary topresent the statements in accordance with generally accepted accountingprinciples.  For further information,refer to the financial statements and notes thereto included in the Company'sAnnual Report on Form 10-K for the fiscal year ended December 30, 2001.

 

2.             NETINCOME PER SHARE

 

Basic earnings per share(“EPS”) excludes the effect of potentially dilutive securities and is computedby dividing the Company’s net income by the weighted average of its commonshares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securitiesor other contracts to issue common stock were exercised or converted intocommon stock.  The Company convertscommon stock options and warrants into potential dilutive shares using thetreasury stock method and converts preferred stock into potential dilutiveshares using the “if converted” method. 

 

A reconciliation of thecomponents of basic and diluted net income per share follows:

 
|                                  |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|---------------------------------------|--------|-------------------------|--------|------------------------------|--------|
|                                  |   | **June 16,  2002**      |   | **June 17,  2001**           |   | **June 16,  2002** |   | **June 17,  2001** |   |
| (In thousands, except per share data) |   |                    |   |                         |   |   |   |   |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Net income                            |   | $                       | 474    |                         | $      | 688 |   | $ | 587 |   | $ | 989 |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Shares                                |   |                    |   |                         |   |   |   |   |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Average common shares outstanding     |   | 5,917                   |   | 5,842                        |   | 5,913 |   | 5,838 |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Stock options                         |   | 62                      |   | 76                           |   | 75 |   | 80 |   |
| Convertible preferred stock           |   | 1,188                   |   | 1,188                        |   | 1,188 |   | 1,188 |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Total shares and diluted shares       |   | 7,167                   |   | 7,106                        |   | 7,176 |   | 7,106 |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Basic net income per common share     |   | $                       | 0.08   |                         | $      | 0.12 |   | $ | 0.10 |   | $ | 0.17 |   |
|                                  |   |                    |   |                         |   |   |   |   |   |
| Diluted net income per common share   |   | $                       | 0.07   |                         | $      | 0.10 |   | $ | 0.08 |   | $ | 0.14 |   |

 

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:

 
|                           |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|--------------------------------|--------|-------------------------|--------|------------------------------|--------|
|                           |   | **June 16,  2002**      |   | **June 17,  2001**           |   | **June 16,  2002** |   | **June 17,  2001** |   |
| (In thousands)                 |   |                    |   |                         |   |   |   |   |   |
|                           |   |                    |   |                         |   |   |   |   |   |
| Potential  Dilutive Securities |   |                    |   |                         |   |   |   |   |   |
|                           |   |                    |   |                         |   |   |   |   |   |
| Stock options  excluded        |   | 958                     |   | 689                          |   | 958 |   | 687 |   |
| Stock warrants                 |   | 100                     |   | 100                          |   | 100 |   | 100 |   |

 

 

6

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3.             INCOMETAXES

 

The Company recorded anincome tax provision for the twelve and twenty-four weeks ended June 16, 2002,despite net operating loss carryforwards available to offset taxable income,due to projected 2002 net income being subject to state alternative minimumtax.  The Company’s net deferred taxassets consist primarily of the tax benefit related to operating losscarryforwards and asset write-downs, in connection with store closure reserves,that are 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. 

 

4.             BORROWINGARRANGEMENTS

 

The Company has a $2,200,000loan (the “Loan”), with a commercial bank.  Under the terms of the Loan the Company issued a promissory note (the“Note”) in the amount of $2,200,000.  The Note is secured by a deed of trust on certain Company-owned realestate.  The Note bears interest at theprime rate (4.75% at June 16, 2002) plus 0.625%.  The Note has a fifteen-year amortization period and matures after84 monthly payments of principal and interest. All unpaid principal and interest shall be due and payable on the Note’smaturity date of September 2, 2008.

 

On June 16, 2002 the Companyhad $2,121,000 of debt outstanding under the Loan described above.  At June 16, 2002 $2,000,000 was included inlong-term debt and $121,000 was included in the current portion of long-termobligations.  The deed of trust securingthe Note requires the Company to maintain a minimum debt service coverage ratioand to maintain a minimum tangible net worth. 

 

On June 3, 2002 the Companyrenegotiated its $2,000,000 revolving line of credit (the  “Agreement”) with its bank, which extendsthe Agreement’s expiration date to June 3, 2004.  Borrowings bear interest at the prime rate (4.75% at June 16,2002) plus 0.5%.  Borrowings under theAgreement are collateralized by the Company’s personal property.  On June 16, 2002 the Company had noborrowings under the Agreement. 

 

On June 16, 2002 the Companyhad a commitment from the bank, separate from the Agreement, which makes$956,000 available to the Company in support of outstanding letters ofcredit.  This commitment expires March28, 2003. 

 

The Agreement requires theCompany to maintain (i) a minimum tangible net worth, (ii) a minimum debtservice coverage ratio and (iii) a maximum debt to tangible net worthratio.  The Agreement also limits theCompany’s fixed asset acquisitions and requires approval before paying dividendsor repurchasing 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.

 

The Company has obtainedcommitments for $6.1 million of capital equipment lease financing, of which theCompany has utilized $1,489,000 through June 16, 2002.  The Company intends to utilize the remainingcommitments to fund restaurant equipment primarily in its new restaurants.  The Company may seek additional debtfinancing to provide greater flexibility as it continues restaurant expansion.

 

5.             CONVERTIBLEPREFERRED STOCK

 

The Company’s outstandingSeries B non-voting convertible preferred stock is currently held by one entityand is convertible, at the holders’ option, into Series A voting convertiblepreferred stock on a one-for-one basis. Although no Series A preferred stock is currently outstanding, holdersof Series A preferred stock, if any, would be entitled to vote with common stockholderson all matters submitted to a vote of stockholders.  When and if issued, the holders of a majority of the outstandingSeries A preferred stock will have a separate right to approve certaincorporate actions. 

 

7

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In fiscal 1998, the Companyfailed to achieve a specified earnings target which constituted an event ofdefault of the terms of the preferred stock agreement and which triggered theright of the Series A preferred stockholders to elect a majority of theCompany’s Board of Directors.  Theholder of the Series B preferred stock has not initiated any action to convertsuch shares into shares of Series A preferred stock nor has it exercised itsright to elect a majority of the Board of Directors.  In March, 2002 such holder notified the Company that it had nointention, at that time, of exercising such right; however, it has not waivedany of its rights under the agreement.  

 

6.             RECENTLYISSUED ACCOUNTING STANDARDS

 

In July 2001, the Financial AccountingStandards Board (“FASB”) issued Statement of Financial Accounting Standards(“SFAS”) No. 142, "Goodwill and Other Intangible Assets".  SFAS No. 142 requires that an intangibleasset that is acquired shall be initially recognized and measured based on itsfair value. The statement also provides that intangible assets shall be testedfor impairment annually, or more frequently if circumstances indicate potentialimpairment, through a comparison of fair value to its carrying amount. SFAS No.142 became effective for fiscal periods beginning after December 15, 2001.  

 

In accordance with SFAS No.142 and effective December 31, 2001 (fiscal year 2002), the Companydiscontinued the amortization of certain intangible assets that were defined bythe Company to have an indefinite life. The Company also increased the amortization of certain intangible assetsto more accurately reflect the useful life of these assets.  Had SFAS No. 142 been in effect during thetwenty-four weeks ended June 17, 2001, previously reported net income wouldhave increased by $9,000 and basic and diluted earnings per share would havebeen unchanged.

 

In October 2001, the FASBissued Statement of Financial Accounting Standards No. 144 (SFAS No. 144),“Accounting for the Impairment or Disposal of Long-Lived Assets.”  SFAS No. 144, which is effective for fiscalyears beginning after December 15, 2001, supercedes SFAS No. 121.  Under the new rules, the criteria forclassifying an asset as held-for-sale have been significantly changed.  Assets held for sale are stated at the lowerof their fair values or carrying amounts, and depreciation is no longerrecognized.  In addition, the expectedfuture losses from discontinued operations will be displayed in discontinuedoperations in the period in which the losses are incurred rather than as of themeasurement date.  More dispositionswill qualify for discontinued operations treatment in the income statementunder the new rules.  The Company’s  adoption of SFAS No. 144 for its fiscal yearbeginning December 31, 2001 (fiscal year 2002) did not have an impact on theCompany’s consolidated financial statements.

** **

** **

**Item 2 -Management’s Discussion and Analysis of Financial Condition and Results ofOperations**

 

The following discussion isintended to highlight significant changes in the Company's financial positionand results of operations for the twenty-four weeks ended June 16, 2002.  The interim financial statements and thisManagement's Discussion and Analysis of Financial Condition and Results of Operationsshould be read in conjunction with the Consolidated Financial Statements andNotes thereto for the fiscal year ended December 30, 2001 and therelated Management's Discussion and Analysis of Financial Condition and Resultsof Operations, both of which are contained in the Company's Annual Report onForm 10-K for the fiscal year ended December 30, 2001.  

 

Certain statements set forthin this discussion and analysis of financial condition and results ofoperations including anticipated store openings, planned capital expendituresand trends in 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 anduncertainties.  Actual future resultsand trends may differ materially depending on a variety of factors as set forthunder the heading “Business Risks”.  Inparticular, the Company’s plans to open new restaurants could be affected bythe Company’s ability to locate suitable restaurant sites, construct newrestaurants in a timely manner and obtain additional financing.

 

 

8

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Forward-looking statementsreflect the expectations of the Company at the time they are made, and investorsshould rely on them only as expressions of opinion about what may happen in thefuture and only at the time they are made. The Company undertakes no obligation to update any forward-lookingstatements.  Although the Companybelieves it has an appropriate business strategy and the resources necessaryfor its operations, future revenue and margin trends cannot be reliablypredicted and the Company may alter its business strategies to address changingconditions.

 

# *Liquidity and CapitalResources*

 

The Company’s primarycapital requirements have been for the expansion of its restaurant operationsand remodeling of its restaurants.  TheCompany has traditionally financed these requirements with funds from equityofferings, cash flow from operations, landlord allowances, capital equipmentleases and short-term bank debt.  TheCompany does not have significant receivables or inventory and receives tradecredit based upon negotiated terms in purchasing food and supplies. 

 

The Company has a $2,200,000loan (the “Loan”), with a commercial bank.  Under the terms of the Loan the Company 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 (4.75% at June 16, 2002) plus 0.625%.  The Note has a fifteen-year amortizationperiod and matures after 84 monthly payments of principal and interest.  All unpaid principal and interest shall bedue and payable on the Note’s maturity date of September 2, 2008.

 

On June 3, 2002 the Companyrenegotiated its $2,000,000 revolving line of credit (the  “Agreement”) with its bank, which extendsthe Agreement’s expiration date to June 3, 2004.  Borrowings bear interest at the prime rate (4.75% at June 16,2002) plus 0.5%.  Borrowings under theAgreement are collateralized by the Company’s personal property.  On June 16, 2002 the Company had no borrowingsunder the Agreement. 

 

The Company also has a$2,000,000 revolving line of credit (the “Agreement”) with a bank, which expires on June 3, 2004.  Borrowings bear interest at the prime rate(4.75% at June 16, 2002) plus 0.5%. Borrowings under the Agreement are collateralized by the Company’spersonal property.  On June 16, 2002 theCompany had no borrowings under the Agreement. 

 

On June 16, 2002 the Companyhad a commitment from the bank, separate from the Agreement, which makes$956,000 available to the Company in support of outstanding letters ofcredit.  This commitment expires March28, 2003. 

 

The Agreement requires theCompany to maintain (i) a minimum tangible net worth, (ii) a minimum debtservice coverage ratio and (iii) a maximum debt to tangible net worthratio.  The Agreement also limits theCompany’s fixed asset acquisitions and requires approval before payingdividends or repurchasing outstanding shares of stock.  In addition the Agreement requires theoutstanding principal balance of the loan to be zero for at least one period ofthirty consecutive days during the term of the loan.

 

During the first twenty-fourweeks of 2002 the Company entered into equipment leases which total $1,055,000of which $201,000 was included in the current portion of long-termobligations.  This and other capitallease obligations at June 16, 2002 totaled $1,642,000 of which $489,000 wasincluded in current portion of long-term debt. Long-Term Debt also included a $114,000 note for site construction costsof which $1,000 was included in the current portion of long-term obligations. 

 

Operating activities for thefirst twenty-four weeks of 2002 provided $2.7 million of cash flows.  During the same period, the Company invested$2.2 million in property and equipment, which includes the equipment undercapital leases.  

 

 

9

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The Company’s contractualobligations as of June 16, 2002 are as follows:

 

(In thousands)

 
|                               |   | **Total** |    | **Remainder  of 2002** |   | **2003  through 2005** |   | **2006  through 2007** |   | **2008 and  thereafter** |   |
|------------------------------------|--------|-----------|---------|------------------------|--------|------------------------|--------|------------------------|--------|--------------------------|--------|
| Secured Note                       |   | $         | 2,121   |                   | $      | 60                     |   | $                      | 397    |                     | $      | 303 |   | $ | 1,361 |   |
| Capital Lease Obligations          |   | 1,642     |    | 274                    |   | 1,062                  |   | 306                    |   | —                   |   |
| Other Note Payable                 |   | 114       |    | 1                      |   | 4                      |   | 3                      |   | 106                      |   |
| Operating Leases                   |   | 132,498   |    | 4,227                  |   | 24,073                 |   | 15,009                 |   | 89,189                   |   |
|                               |   |      |    |                   |   |                   |   |                   |   |                     |   |
| Total Contractual Cash Obligations |   | $         | 136,375 |                   | $      | 4,562                  |   | $                      | 25,536 |                     | $      | 15,621 |   | $ | 90,656 |   |

 

 

The Company’s outstandingSeries B non-voting convertible preferred stock is currently held by one entityand is convertible, at the holders’ option, into Series A voting convertiblepreferred stock on a one-for-one basis. Although no Series A preferred stock is currently outstanding, holdersof Series A preferred stock, if any, would be entitled to vote with commonstockholders on all matters submitted to a vote of stockholders.  When and if issued, the holders of amajority of the outstanding Series A preferred stock will have a separate rightto approve certain corporate actions.  

 

In fiscal 1998, the Companyfailed to achieve a specified earnings target (before interest, taxes,depreciation and amortization) of at least $5.5 million which constituted anevent of default of the terms of the preferred stock agreement and whichtriggered the right of the Series A preferred stockholders to elect a majorityof the Company’s Board of Directors. The holder of the Series B preferred stock has not initiated any actionto convert such shares into shares of Series A preferred stock nor has itexercised its right to elect a majority of the Board of Directors.  In March 2002 such holder notified theCompany that it had no intention, at that time, of exercising such right;however, the holder has not waived any of its rights under the agreement.  

 

The Company’s continuedgrowth depends to a significant degree on its ability to open new restaurantsand to operate such restaurants profitably. The Company plans to open six to eight new Fresh Choice restaurants in2002, primarily in California.  As ofJuly 17, 2002, one new Fresh Choice restaurant opened in fiscal 2002.  The Company currently has signed leases forseven additional Fresh Choice restaurants. The total leasehold improvements and equipment costs for these seven locationsis estimated to be approximately $8.0 million, of which approximately $979,000has been expended through the first twenty-four weeks of 2002.  

 

The Company continues tolook for sites, primarily in its core Northern California markets as well as inSouthern California, for expansion in 2002 and beyond.  The Company’s ability to implement anexpansion strategy will depend upon a variety of factors, including itscontinued profitability and the Company’s ability to obtain funds.  See “Business Risks” included herein.  

 

The Company intends tofinance its operating cash requirements and fiscal 2002 capital requirementsthrough existing cash balances, cash provided by operations, its borrowingarrangements and additional equipment lease financing.  The Company has obtained commitments for $6.1million of capital equipment lease financing, of which the Company has utilized$1,489,000 through June 16, 2002.  TheCompany intends to utilize the remaining commitments to fund restaurantequipment primarily in its new restaurants. The Company may seek additional debt financing to provide greaterflexibility as it continues restaurant expansion.

 

The Company’s ability tocontinue an expansion strategy will depend upon a variety of factors,including, maintaining a sufficient cash flow from operations and its abilityto obtain additional funds.  The Companybelieves its near-term capital requirements can be met through its existingcash balances, cash provided by operations, its borrowing arrangements andadditional equipment lease financing. However, the Company’s operating cash flow is impacted by the Company’scomparable store sales increases or decreases. In 2001 comparable store sales, excluding the extra 53rd weekof sales in 2000, declined 1.2% and comparable store sales also declined 4.5%in the first twenty-four weeks of 2002. The Company expects comparable store sales to improve, but there can beno assurance that comparable store sales will improve.  In addition, the Company will be seekingadditional financing to provide greater flexibility.  There can be no assurance that the Company will be able to obtainadditional financing when needed on acceptable terms or at all.  To the extent operating cash flow declines,or financing cannot be obtained, the Company intends to reduce its expansionplans.

 

10

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# *Impact of Inflation*

 

Many of the Company’semployees are paid hourly rates related to the federal and state minimum wagelaws.  Accordingly, increases in theminimum wage could materially increase the Company’s labor costs.  In addition, the cost of food commoditiesutilized by the Company is subject to market supply and demand pressures.  Shifts in these costs may have a significantimpact on the Company’s food costs.  TheCompany anticipates that increases in these costs may be offset through pricingand other cost control efforts; however, there is no assurance that the Companywould be able to pass such costs on to its guests or that even if it were ableto do so, it could do so in a short period of time.

 

# *BusinessRisks*

 

Certain characteristics anddynamics of the Company's business and of financial markets in general createrisks to the Company's long-term success and to predictable financialresults.  These risks include:

 

*Operating Losses and Historical Declines in Comparable StoreSales*.  Our quarterly and annualoperating results and same store sales have fluctuated significantly in thepast and are likely to fluctuate significantly in the future.  The Company reported its first operatingloss in the fourth quarter of 1994, and reported operating losses in three ofthe following four years.  Although theCompany has reported a profit for each of the last three years, there can be noassurance that the Company will continue to be profitable over the long orshort term.

 

From the third quarter offiscal 1994 through the end of 1998, the Company reported quarterly comparablestore sales declines.  The Companyreported positive comparable store sales in each quarter of the following twoyears; however, the Company’s comparable store sales decreased for fiscal year2001 and for the first twenty-four weeks of 2002.  There can be no assurance that comparable store sales declinesexperienced in 2001 and the first twenty-four weeks of 2002 will not continueto decline further.

 

*Expansion*.  The Company believes its growth depends to a significant degree onits ability to open new restaurants and to operate such restaurantsprofitably.  The Company resumed its expansionwith one new Fresh Choice restaurant opening in 2001 and another opening throughJuly 17, 2002.  The Company plans toopen five to seven Fresh Choice restaurants in 2002 in addition to the onerestaurant already opened in January 2002. There can be no assurance that the opened restaurants or futurerestaurants will be successful.  The Company'sability to successfully implement an expansion strategy will depend upon avariety of factors, many of which may be beyond the Company’s control,including the Company’s ability to locate suitable restaurant locations,negotiate acceptable lease terms, obtain required government approvals,construct new restaurants in a timely manner, attract, train and retrainqualified and experienced personnel and management, operate its restaurantsprofitably and obtain additional capital to finance expansion and  equipment costs, as well as general economicconditions and the degree of competition in the particular market.  

 

The Company’s expansionplans may include entering new geographic regions in which the Company has noprevious operating experience.  Therecan be no assurance that the Fresh Choice concept will be successful in regionsoutside of California, Texas and Washington where tastes and restaurantpreferences may be different.  Inaddition, the Company expects intense competition for restaurant sites, whichmay result in the Company having difficulty leasing desirable sites on termsthat are acceptable to the Company. The Company expects that in some casescompetitors may be willing to pay more than the Company for sites.  These conditions may make it difficult forthe Company to achieve its store growth objectives. 

 

 

11

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*Lease Renewals*.  As existing restaurant leases expire, the Company mustnegotiate new leases or lease extensions in order to continue operations atexisting restaurants.  There can be noassurance that the Company will be able to renew these leases on favorableterms or at all.  If the Company isunable to obtain favorable terms on new leases or extensions on existing leases,it would increase costs and reduce the Company's operating margins.  Moreover, if the Company is unable to renewexisting leases and is unable to find suitable alternate locations, theCompany's revenue and operating results would be adversely affected.

 

*Geographic Concentration*.  As of July 17, 2002, 38 of the Company's 51 restaurants werelocated in California, primarily in Northern California.  Accordingly, the Company is susceptible tofluctuations in its business caused by adverse economic conditions in thisregion.  In addition, net sales atcertain of the Company's restaurants have been adversely affected when a newCompany restaurant has been opened in relatively close geographic proximity.  There can be no assurance that expansionwithin existing or future geographic markets will not adversely affect theindividual financial performance of Company restaurants in such markets or theCompany's overall results of operations. In addition, given the Company's present geographic concentration inNorthern California, adverse weather conditions or increased utility costs inthe region or negative publicity relating to an individual Company restaurantcould have a more pronounced adverse effect on results of operations than ifthe Company's restaurants were more broadly dispersed.

 

*Sensitivity to Economic Conditions and Consumer Spending.*  The restaurant industryhistorically has been subject to substantial cyclical variation.  The California economy has slowed since theevents of September 11, 2001 and there has been a downturn in the generaleconomy 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.

 

*Volatility of Stock Price*.  The market price of the Company's Common Stock has fluctuatedsubstantially since the initial public offering of the Common Stock in December1992. Changes in general conditions in the economy, the financial markets orthe restaurant industry, natural disasters or other developments affecting theCompany or its competitors could cause the market price of the Company's CommonStock to fluctuate substantially.  Inaddition, in recent years the stock market has experienced extreme price andvolume fluctuations.  This volatilityhas had significant effect on the market prices of securities issued by manycompanies, including the Company, for reasons sometimes unrelated to theoperating performance of these companies. Any shortfall in the Company's net sales or earnings from levels expectedby securities analysts could have an immediate and significant adverse effecton the trading price of the Company's Common Stock in any given period.  Additionally, such shortfalls may not becomeapparent until late in the fiscal quarter, which could result in an even moreimmediate and significant adverse effect on the trading price of the Company'sCommon Stock.

 

*Seasonality and Quarterly Fluctuations. *The Company's restaurantshave typically experienced seasonal fluctuations, as a disproportionate amountof net sales and net income are generally realized in the second and thirdfiscal quarters.  In addition, theCompany's quarterly results of operations have been, and may continue to be,materially impacted by the timing of new restaurant openings and restaurantclosings.  The fourth quarter normallyincludes 16 weeks of operations as compared with 12 weeks for each of the threeprior quarters.  As a result of thesefactors, net sales and net income in the fourth quarter are not comparable toresults in each of the first three fiscal quarters, and net sales can beexpected to decline in the first quarter of each fiscal year in comparison tothe fourth quarter of the prior fiscal year

 

*Dependence on Key Personnel*.  The success of the Company depends on the efforts of keymanagement personnel.  The Company'ssuccess will depend on its ability to motivate and retain its key crewmembersand to attract qualified personnel, particularly general managers, for itsrestaurants.  The Company facessignificant competition in the recruitment of qualified crewmembers.

 

*Restaurant Industry*.  The restaurant industry is affected by changes in consumertastes, as well as national, regional and local economic conditions anddemographic trends.  The performance ofindividual restaurants, including the Company's restaurants, may be affected byfactors such as traffic patterns, demographic considerations, and the type,number and location of competing restaurants. In addition, factors such as inflation, increased food, labor andcrewmember benefit costs, and the availability of experienced management andhourly crewmembers may also adversely affect the restaurant industry in generaland the Company's restaurants in particular. Restaurant operating costs are affected by increases in the minimumhourly wage, unemployment tax rates, and various federal, state and localgovernmental regulations, including those relating to the sale of food andalcoholic beverages.  There can be noassurance that the restaurant industry in general, and the Company inparticular, will be successful.

 

12

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*Competition*.  The Company's restaurants compete with the rapidly growingmid-price, full-service casual dining segment; with traditional limited-servicebuffet, soup, and salad restaurants; and, increasingly, with quick-serviceoutlets.  The Company's competitorsinclude national and regional chains, as well as local owner-operatedrestaurants.  Key competitive factors inthe industry are the quality and value of the food products offered, qualityand speed of service, price, dining experience, restaurant location and theambiance of facilities.  Many of theCompany's competitors have been in existence longer than the Company, have amore established 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 additionthe Company expects intense competition for restaurant sites, which may resultin the Company having difficulty leasing desirable sites on terms that areacceptable to the Company. The Company expects that in some cases competitorsmay be willing to pay more than the Company for sites.  

 

*Ability to Obtain Additional Financing*.  The Company resumed its restaurant expansionin 2001. The Company’s ability to implement an expansion strategy will dependupon a variety of factors, including its ability to obtain funds.  The Company believes its near-term capitalrequirements can be met through its existing cash balances, cash provided byoperations, its borrowing arrangements and additional equipment leasefinancing.  The Company may seekadditional financing to provide greater flexibility.  There can be no assurance that the Company will be able to obtainadditional financing when needed on acceptable terms or at all.

 

*Control by Major Shareholder.*  Crescent Real Estate Equities Limited Partnership (“Crescent”)holds 1,187,906 shares of Series B non-voting convertible preferred stock,which is convertible into Series A voting convertible preferred stock at anytime at the option of the holder.  Uponconversion, holders of Series A preferred stock would be entitled to vote withcommon stockholders and would have a separate right to approve certaincorporate actions, such as amending the Company’s Certificate of Incorporationor Bylaws, effecting a merger or sale of the Company, or making a fundamentalchange in the Company’s business activity. In addition, because the Company did not achieve a specified earningstarget in 1998, the holders of Series A preferred stock would have the right toelect a majority of the Company’s Board of Directors.  These factors could have the effect of delaying, deferring orpreventing a change in control of the Company and, as a result, could discourageacquisition bids for the Company and limit the price that investors are willingto pay for shares of common stock.

 

 

CRITICAL ACCOUNTING ESTIMATES

 

The preparation of financialstatements in conformity with accounting principles generally accepted in theUnited States of America requires management to make estimates and assumptionsthat affect reported amounts of assets, liabilities, revenues and expenses asof the 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.  These estimates and assumptions include, but are not limited to, 

 

*              the valuation allowance for deferred income taxes,

 

*              the estimated useful lives of property and equipment,

 

*              the accounting for stock-based awards, and 

 

*              the accrual for workers’ compensation claims.

 

 

13

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The Company evaluates itsestimates and assumptions on an on-going basis and believes its estimates andassumptions are reasonable based on historical experience and otherfactors.  However, actual results coulddiffer from those estimates and these differences could be material to the consolidatedfinancial statements.  Our accountingpolicies are more fully described in Note 1 of the Company’s audited December30, 2001 financial statements.  Pleaserefer to the Company’s Annual Report on Form 10-K filed March 29, 2002 for adiscussion of its policies on the valuation allowance for deferred incometaxes, the estimated useful lives of property and equipment, the accounting forstock based awards and the accrual for workers’ compensation claims.

 

# *Results of Operations*

 

The following table setsforth items in the Company's statements of operations as a percentage of salesand certain operating data for the periods indicated:

 
|                                |   | **Twelve Weeks Ended** |       | **Twenty-Four  Weeks Ended** |       |
|-------------------------------------|--------|------------------------|------------|------------------------------|------------|
| (Dollars in thousands)              |   | **June 16, 2002**      |       | **June 17, 2001**            |       | **June 16, 2002** |   | **June 17, 2001** |   |
| NET SALES                           |   | $                      | 17,708     |                         | 100.0      | % | $ | 18,215 |   | 100.0 | % | $ | 34,955 |   | 100.0 | % | $ | 35,800 |   | 100.0 | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| COSTS AND EXPENSES:                 |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of sales                       |   | 3,931                  |       | 22.2                         | %          | 4,151 |   | 22.8 | % | 7,775 |   | 22.2 | % | 8,268 |   | 23.1 | % |
| Restaurant operating expenses:      |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Labor                               |   | 5,670                  |       | 32.0                         | %          | 5,695 |   | 31.3 | % | 11,433 |   | 32.7 | % | 11,349 |   | 31.7 | % |
| Occupancy and other                 |   | 5,437                  |       | 30.7                         | %          | 5,169 |   | 28.4 | % | 10,723 |   | 30.7 | % | 10,385 |   | 29.0 | % |
| Depreciation and amortization       |   | 760                    |       | 4.3                          | %          | 810 |   | 4.4 | % | 1,538 |   | 4.4 | % | 1,588 |   | 4.4 | % |
| General and administrative expenses |   | 1,349                  |       | 7.6                          | %          | 1,615 |   | 8.9 | % | 2,711 |   | 7.8 | % | 3,068 |   | 8.6 | % |
| Restaurant opening costs            |   | 34                     |       | 0.2                          | %          | — |   | — | % | 87 |   | 0.2 | % | 6 |   | — | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total costs and expenses            |   | 17,181                 |       | 97.0                         | %          | 17,440 |   | 95.8 | % | 34,267 |   | 98.0 | % | 34,664 |   | 96.8 | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| OPERATING INCOME                    |   | 527                    |       | 3.0                          | %          | 775 |   | 4.2 | % | 688 |   | 2.0 | % | 1,136 |   | 3.2 | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest income                     |   | 10                     |       | —                       | %          | 30 |   | 0.2 | % | 25 |   | — | % | 77 |   | 0.2 | % |
| Interest expense                    |   | (59                    | )          | (0.3                         | %)         | (89 | ) | (0.5 | %) | (118 | ) | (0.3 | %) | (188 | ) | (0.5 | %) |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest expense, net               |   | (49                    | )          | (0.3                         | %)         | (59 | ) | (0.3 | %) | (93 | ) | (0.3 | %) | (111 | ) | (0.3 | %) |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| INCOME BEFORE INCOME TAXES          |   | 478                    |       | 2.7                          | %          | 716 |   | 3.9 | % | 595 |   | 1.7 | % | 1,025 |   | 2.9 | % |
| Provision for income taxes          |   | 4                      |       | —                       | %          | 28 |   | 0.1 | % | 8 |   | — | % | 36 |   | 0.1 | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| NET INCOME                          |   | $                      | 474        |                         | 2.7        | % | $ | 688 |   | 3.8 | % | $ | 587 |   | 1.7 | % | $ | 989 |   | 2.8 | % |
|                                |   |                   |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of restaurants:              |   |                   | ** ** |                         | ** ** |   | ** ** |   | ** ** |   | ** ** |   | ** ** |   | ** ** |   | ** ** |
| Open at beginning of period         |   | 51                     |       |                         |       | 49 |   |   |   | 51 |   |   |   | 48 |   |   |   |
| Open at end of period               |   | 51                     |       |                         |       | 49 |   |   |   | 51 |   |   |   | 49 |   |   |   |

 

 

14

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The following table presentsthe components of average operating income on a per restaurant basis, based onthe average number of Fresh Choice restaurants open during the period (theCompany’s Fresh Choice Express restaurants are excluded):

 

 
|                                  |   | **Twelve  Weeks Ended** |   | **Twenty-Four  Weeks Ended** |   |
|---------------------------------------|--------|-------------------------|--------|------------------------------|--------|
| (Dollars  in thousands)               |   | **June 16,  2002**      |   | **June 17, 2001**            |   | **June 16,  2002** |   | **June 17,  2001** |   |
| NET SALES                             |   | $                       | 369    |                         | 100.0  | % | $ | 390 |   | 100.0 | % | $ | 725 |   | 100.0 | % | $ | 766 |   | 100.0 | % |
|                                  |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| COSTS AND EXPENSES:                   |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of sales                         |   | 81                      |   | 22.0                         | %      | 88 |   | 22.6 | % | 160 |   | 22.0 | % | 175 |   | 22.9 | % |
| Restaurant operating expenses:        |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Labor                                 |   | 118                     |   | 32.0                         | %      | 122 |   | 31.2 | % | 236 |   | 32.7 | % | 242 |   | 31.6 | % |
| Occupancy and other                   |   | 113                     |   | 30.5                         | %      | 111 |   | 28.5 | % | 222 |   | 30.6 | % | 223 |   | 29.2 | % |
| Depreciation and amortization         |   | 15                      |   | 4.1                          | %      | 17 |   | 4.3 | % | 31 |   | 4.2 | % | 34 |   | 4.4 | % |
|                                  |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total costs and expenses              |   | 327                     |   | 88.6                         | %      | 338 |   | 86.6 | % | 649 |   | 89.5 | % | 674 |   | 88.1 | % |
|                                  |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| RESTAURANT OPERATING INCOME           |   | $                       | 42     |                         | 11.4   | % | $ | 52 |   | 13.4 | % | $ | 76 |   | 10.5 | % | $ | 92 |   | 11.9 | % |
|                                  |   |                    |   |                         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Average Fresh Choice restaurants open |   | 47.0                    |   |                         |   | 46.0 |   |   |   | 47.3 |   |   |   | 46.0 |   |   |   |

 

(Thistable excludes Fresh Choice Express restaurants)

 

* *

*Results ofOperations:  Twelve Weeks Ended June 16,2002*

# *Compared to Twelve WeeksEnded June 17, 2001*

 

*Net Sales*.  Net sales for the quarter ended June 16, 2002 were $17,708,000, adecrease of $507,000, or 2.8%, from sales of $18,215,000 for the quarter endedJune 17, 2001. The primary components of the net decrease in sales were:

 
| Decrease in comparable Fresh Choice restaurant sales    |   | $        | (791,000 | ) |
|---------------------------------------------------------|--------|----------|----------|---|
|                                                    |   |     |     |
| Incremental sales from two new Fresh Choice restaurants |   | 662,000  |     |
|                                                    |   |     |     |
| Change in sales in Express restaurants                  |   | 80,000   |     |
|                                                    |   |     |     |
| Decrease in sales from closed restaurant                |   | (458,000 | )        |
|                                                    |   |     |     |
|                                                    |   | $        | (507,000 | ) |

 

 

The Company operated anaverage of 51 restaurants in the twelve weeks ended June 16, 2002 compared to49 restaurants in the twelve weeks ended June 17, 2001.  Sales at the Company’s 45 comparable FreshChoice restaurants, which include restaurants open at least 18 months, decreased4.5% in the second quarter of 2002 versus the second quarter of 2001.  Comparable store guest counts decreased5.2%, while the comparable store average check increased 0.7% to $7.65,reflecting price increases and coupon offers at a lower discount.

 

Net sales per Fresh Choicerestaurant averaged $369,000 in the second quarter of 2002, a decrease of 5.4%over net sales per restaurant of $390,000 in the second quarter of 2001 dueprimarily to the comparable store sales decreases as noted above. 

 

*Costs and Expenses*.  Cost of sales (food and beverage costs) was 22.2% of sales in thesecond quarter of 2002 compared to 22.8% in the second quarter of 2001.  Food and beverage costs declined as apercentage of sales due to the combined effect of controlling food cost perguest and increases in the average check. 

 

*Restaurant Operating Expenses*.  Restaurant operating expenses (labor, occupancy and other) were62.7% of sales in the second quarter of 2002 compared to 59.7% of sales in thesecond quarter of 2001, an increase of 3.0% of sales.  

 

15

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Labor costs as a percentageof sales were 32.0% for the second quarter of 2002 compared to 31.3% in thesecond quarter of 2001.  Labor costs, asa percentage of sales, were higher primarily due to lower average restaurantsales as well as a higher average wage.

 

Occupancy and other expensesas a percentage of sales were 30.7% for the second quarter of 2002 compared to28.4% of sales in the second quarter of 2001, an increase of 2.3% ofsales.  The increase is due primarily tolower average restaurant sales, higher repair and maintenance expenses andhigher advertising costs.

 

*Depreciation and Amortization*.  Depreciation and amortization expenses were 4.3% of sales in the secondquarter of 2002 a decrease of 0.1% of sales from the second quarter of2001.  The decrease resulted from adeclining depreciable asset base for older restaurant equipment.

 

*General and Administrative Expenses*.  General and administrative expenses were7.6% of sales in the second quarter of 2002 compared to 8.9% of sales in thesecond quarter of 2001.  The decrease isprimarily the result of  the Company’soverall efforts to keep these expenses down during the current weak economicperiod, lower incentive accruals,  lowerlegal expenses and lower recruiting costs.

 

*Interest Expense, net*.  Interest expense, net was $49,000 in the second quarter of 2002 compared to $59,000 in the secondquarter of 2001. This decrease is due to lower interest rates on borrowings andlower amortized loan fees partially offset by lower interest earned on itsaverage cash 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 an income tax provision for the secondquarter of 2002, despite net operating loss carryforwards available to offsettaxable income, due to projected 2002 net income being subject to state alternativeminimum tax.  The Company’s net deferredtax assets consist primarily of the tax benefit related to operating losscarryforwards and asset write-downs, in connection with store closure reserves,that are 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's deferredtax assets will be realized. 

 

*Results ofOperations:  Twenty-Four Weeks EndedJune 16,2002*

*Comparedto Twenty-Four Weeks Ended June 17, 2001*

 

*Net Sales.*  Net sales for the twenty-four weeks ended June 16, 2002 (firsttwo quarters of 2002) were $34,955,000, a decrease of $845,000, or 2.4%, fromsales of $35,800,000 for the twenty-four weeks ended June 17, 2001 (first twoquarters of 2001). The primary components of the net decrease in sales were:

 
| Decrease in comparable Fresh Choice restaurant sales    |   | $         | (1,556,000 | ) |
|---------------------------------------------------------|--------|-----------|------------|---|
|                                                    |   |      |       |
| Incremental sales from two new Fresh Choice restaurants |   | 1,333,000 |       |
|                                                    |   |      |       |
| Change in sales in Express restaurants                  |   | 101,000   |       |
|                                                    |   |      |       |
| Decrease in sales from closed restaurant                |   | (723,000  | )          |
|                                                    |   |      |       |
|                                                    |   | $         | (845,000   | ) |

 

 

The Company operated anaverage of 51.3 restaurants in the first two quarters of 2002 compared to 48.9restaurants in the first two quarters of 2001. Sales at the Company’s 45 comparable stores, which include restaurantsopen at least 18 months, decreased 4.5% in the first two quarters of 2002versus the first two quarters of 2001. Comparable store guest counts decreased 5.0%, while the comparable storeaverage check increased 0.5% to $7.57, reflecting price increases and couponofferings at a lower discount.

 

16

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Net sales per Fresh Choicerestaurant averaged $725,000 in the first two quarters of 2002, a decrease of5.4% from net sales per restaurant of $766,000 in the first two quarters of2001 due primarily to comparable store sales decreases as noted above.

 

*Costs and Expenses.*  Cost of sales (food and beverage costs) was 22.2% of sales in thefirst two quarters of 2002 compared to 23.1% in the first two quarters of 2001,a decrease of 0.9% of sales.  Food andbeverage costs declined as a percentage of sales due to the combined effect ofcontrolling food cost per guest and increases in the average check.  

 

*Restaurant Operating Expenses*.  Restaurant operating expenses (labor, occupancy and other) were63.4% of sales in the first two quarters of 2002 compared to 60.7% of sales inthe first two quarters of 2001, an increase of 2.7% of sales.

  

Labor costs as a percentageof sales were 32.7% in the first two quarters of 2002 compared to 31.7% in thefirst two quarters of 2001, an increase of 1.0% of sales.  The labor costs as a percentage of saleswere higher primarily due to lower average restaurant sales as well as a higheraverage wage.

 

Occupancy and other expensesas a percentage of sales were 30.7% in the first two quarters of 2002 comparedto 29.0% of sales in the first two quarters of 2001, an increase of 1.7% ofsales.  The increase is due primarily tolower average restaurant sales and higher repair and maintenance expenses.

 

*Depreciation and Amortization.*  Depreciation and amortization expenses were4.4% of sales in the first two quarters of 2002 or the same as the first twoquarters of 2001.  

 

*General and Administrative Expenses.*  General and administrative expenses were7.8% of sales in the first two quarters of 2002 compared to 8.6% of sales inthe first two quarters of 2001.  Thedecrease is primarily the result of  theCompany’s overall efforts to keep these expenses down during the current weakeconomic period, lower incentive accruals, lower legal expenses, lowerrecruiting costs and reduced spending on the Company’s annual general manager’sconference.  

*** ***

*Interest Expense, net*.  Interest expense was $93,000 in the first two quarters of 2002 compared to $111,000 in thefirst two quarters of 2001. This decrease is due primarily to lower interestrates on borrowings and lower amortized loan fees partially offset by decreasedinterest earned on its average cash balances. Interest expense consists of feesrelated to securing the Company’s borrowing arrangements and interest expenseon outstanding borrowings and capital lease obligations. 

 

*Income Taxes*.  The Company recorded an income tax provision for the first twoquarters of 2002, despite net operating loss carryforwards available to offsettaxable income, due to projected 2002 net income being subject to statealternative minimum tax.  The Company’snet deferred tax assets consist primarily of the tax benefit related tooperating loss carryforwards 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 valuation allowance for its deferred tax assets until it becomes morelikely than not, in management's assessment, that the Company's deferred tax assetswill be realized.

 

**Item 3  - Quantitative and Qualitative Disclosures About Market Risk**

** **

The Company is exposed tointerest rate risk primarily through its borrowing activities.  The Company has not used derivativefinancial instruments to hedge such risks. There is inherent roll-over risk for borrowings as they mature and arerenewed at current market rates.  Theextent of this risk is not quantifiable or predictable because of thevariability of future interest rates and business financing requirements.  If market rates were to increase immediatelyby 10 percent from levels at June 16, 2002, the fair value of the Company’sborrowings would not be materially affected as borrowings are primarily subjectto variable interest rates.

 

 

17

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**PART II. ****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 AnnualMeeting of Stockholders on May 23, 2002. The stockholders voted on proposals on:

 

(1) The election of two (2)Class I directors, Vern O. Curtis and Charles L. Boppell, to hold office for athree-year term and until their successors are elected and qualified.  The proposal was approved by the followingvote:

 
| **Nominee**        |   | **For**   |   | **Withheld** |   |
|--------------------|--------|-----------|--------|--------------|--------|
| Vern O. Curtis     |   | 5,430,331 |   | 52,623       |   |
| Charles L. Boppell |   | 5,430,525 |   | 52,429       |   |

 

 

(2) The appointment ofDeloitte & Touche LLP as the Company’s independent accountants for thefiscal year ending December 29, 2002. The proposal was approved by the following vote:

 
| **For**   |   | **Against** |   | **Abstain** |   |
|-----------|--------|-------------|--------|-------------|--------|
| 5,426,829 |   | 11,925      |   | 44,200      |   |

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

 

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

** **

** **

(a)           Exhibits.  The exhibits listed in the accompanyingindex to Form 10-Q Exhibits are filed or incorporated by reference as part ofthis report.

 

(b)           Reportson Form 8-K.  No reports on Form 8-Kwere filed during the quarter ended June 16, 2002.

 

18

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**SIGNATURES**

 

Pursuant to the requirementsof the Securities Exchange Act of 1934, the Registrant has duly caused thisreport to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 

 
|                       | 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 22, 2002 |                                              |

** **

 

19

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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 |

 

20

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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                 |            |   |   |   | Change in Terms Agreement dated June 3, 2002 amending the Revolving  Loan Agreement dated October 5, 2001   with Mid-Peninsula Bank |
|                       |                 |        |  |  |  |  |  |

_____________

 

(1)                                  Incorporated byreference from the Exhibits with corresponding numbers filed with the Company'sRegistration Statement on Form S-1 (No. 33-53904) filed October 29, 1992, asamended 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 andExhibit 3.2 is incorporated by reference from Exhibit 3.2B.

(2)                                  Incorporated byreference from the Exhibits with corresponding numbers filed with the Company'sQuarterly Report on Form 10-Q for the quarter ended September 4, 1994.

(3)                                  Agreements orcompensatory plans covering executive officers and directors of Fresh Choice,Inc.

(6)**                                 **Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 31, 1995.

(8)                                  Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sQuarterly Report on form 10-Q for the quarter ended March 24, 1996.

(10)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sQuarterly Report on Form 10-Q for the quarter ended September 8, 1996.

(11)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 29, 1996.

 

 

21

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(13)                            Incorporated byreference from Exhibits with corresponding numbers filed with the Company’sQuarterly Report on Form 10-Q for the quarter ended June 14, 1998.

(14)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 27, 1998.

(15)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 26, 1999.

(16)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 31, 2000.

(17)                            Incorporated byreference from Exhibits with corresponding numbers filed with the Company’sQuarterly Report on Form 10-Q for the quarter ended September 9, 2001.

(18)                            Incorporated byreference from the Exhibits with corresponding numbers filed with the Company’sAnnual Report on Form 10-K for the year ended December 30, 2001.

(19)                            Incorporated byreference from Exhibits with corresponding numbers filed with the Company’sQuarterly Report on Form 10-Q for the quarter ended March 24, 2002.

 

 

22

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