Table of Contents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON,DC 20549**

 

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**FORM 10-Q**

 
| **x** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|-------|--------------------------------------------------------------------------------------------------------|

 

**FOR THEQUARTERLY PERIOD ENDED June 30, 2009**

 
| **o** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|-------|---------------------------------------------------------------------------------------------------------|

 

**CommissionFile Number 000-29643**

 

**GRANITECITY FOOD & BREWERY LTD.**

(Exact Name ofRegistrant as Specified in Its Charter)

 

| **Minnesota**

(State or Other  Jurisdiction

of Incorporation  or Organization) | ** ** | **41-1883639**

(I.R.S. Employer

Identification  No.) |
|----------------------------------------------------------------------------------|------------|--------------------------------------------------------|

 

**5402Parkdale Drive, Suite 101**

**Minneapolis,Minnesota  55416**

**(952)215-0660**

(Address ofPrincipal Executive Offices and Issuer’s

Telephone Number,including Area Code)

 

Indicate by check markwhether the registrant:  (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days. Yes x    No o

 

Indicate by check markwhether the registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T (§ 229.405 of thischapter) during the preceding 12 months (or for such shorter period that theregistrant was required to submit and post such files).  Yes  ̈    No  ̈

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer or a smaller reporting company.  See the definitions of “large acceleratedfiler,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.  (Check one):

 

| Large accelerated filer o               |   | Accelerated filer o     |
|----------------------------------------------|--------|------------------------------|
|                                         |   |                         |
| Non-accelerated  filer o                |   | Smaller reporting  company x |
| (Do not check if  smaller reporting company) |   |                         |

 

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o    No x

 

Asof August 10, 2009, the issuer had outstanding 16,197,849****shares ofcommon stock.

 

 

 

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Table of Contents

 

**TABLE OFCONTENTS**

 
| ** **            | ** **                | ** **                                                                                                                              | **Page** |
|-----------------------|---------------------------|-----------------------------------------------------------------------------------------------------------------------------------------|----------|
|                  |                      |                                                                                                                                    |     |
| **PART I**       | **FINANCIAL INFORMATION** | 1                                                                                                                                       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 1                    | Financial Statements                                                                                                                    | 1        |
|                  |                      |                                                                                                                                    |     |
|                  |                      | Condensed  Consolidated Balance Sheets as of June 30, 2009 and December 30,  2008                                             | 1        |
|                  |                      |                                                                                                                                    |     |
|                  |                      | Condensed  Consolidated Statements of Operations for the Thirteen and Twenty-six Weeks  ended June 30, 2009 and June 24, 2008 | 2        |
|                  |                      |                                                                                                                                    |     |
|                  |                      | Condensed  Consolidated Statements of Cash Flows for the Twenty-six Weeks ended  June 30, 2009 and June 24, 2008              | 3        |
|                  |                      |                                                                                                                                    |     |
|                  |                      | Notes to  Condensed Consolidated Financial Statements                                                                                   | 4        |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 2                    | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                             | 18       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 3                    | Quantitative  and Qualitative Disclosures about Market Risk                                                                             | 31       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 4                    | Controls and  Procedures                                                                                                                | 32       |
|                  |                      |                                                                                                                                    |     |
| **PART II**      | **OTHER INFORMATION**     | 32                                                                                                                                      |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 1                    | Legal Proceedings                                                                                                                       | 32       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 1A                   | Risk Factors                                                                                                                            | 32       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 2                    | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                            | 33       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 3                    | Defaults  upon Senior Securities                                                                                                        | 33       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 4                    | Submission  of Matters to a Vote of Security Holders                                                                                    | 33       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 5                    | Other Information                                                                                                                       | 33       |
|                  |                      |                                                                                                                                    |     |
|                  | ITEM 6                    | Exhibits                                                                                                                                | 33       |
|                  |                      |
| **SIGNATURES**        | 34                        |
|                  |                      |
| **INDEX TO EXHIBITS** | 35                        |

 

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**Table of Contents**

 

**PART I     FINANCIALINFORMATION**

** **

**ITEM 1  FinancialStatements**

 

**GRANITE CITY FOOD & BREWERY LTD.**

# **CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(Unaudited)**

** **
| ** **                                                                                                                                               | ** ** | **June 30,** | ** ** | **December 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                               | ** ** | **2009**          | ** ** | **2008**              | ** ** |
| ASSETS:                                                                                                                                                  |       |              |       |                  |       |
| Current  assets:                                                                                                                                         |       |              |       |                  |       |
| Cash  and cash equivalents                                                                                                                               |       | $                 | 1,934,999  |                  | $          | 2,652,411 |   |
| Inventory                                                                                                                                                |       | 920,623           |       | 773,468               |       |
| Prepaids  and other                                                                                                                                      |       | 755,355           |       | 473,343               |       |
| Total  current assets                                                                                                                                    |       | 3,610,977         |       | 3,899,222             |       |
|                                                                                                                                                     |       |              |       |                  |       |
| Prepaid  rent, net of current portion                                                                                                                    |       | 427,741           |       | 456,644               |       |
| Property  and equipment, net                                                                                                                             |       | 75,998,889        |       | 76,251,463            |       |
| Intangible  and other assets                                                                                                                             |       | 1,742,697         |       | 1,503,336             |       |
| Total  assets                                                                                                                                            |       | $                 | 81,780,304 |                  | $          | 82,110,665 |   |
|                                                                                                                                                     |       |              |       |                  |       |
| LIABILITIES  AND SHAREHOLDERS’ (DEFICIT) EQUITY:                                                                                                    |       |              |       |                  |       |
| Current  liabilities:                                                                                                                                    |       |              |       |                  |       |
| Accounts  payable                                                                                                                                        |       | $                 | 2,680,553  |                  | $          | 2,000,812 |   |
| Accrued  expenses                                                                                                                                        |       | 5,899,730         |       | 5,962,487             |       |
| Accrued  exit or disposal activities, current portion                                                                                                    |       | 20,453            |       | 19,999                |       |
| Deferred  rent, current portion                                                                                                                          |       | 210,667           |       | 203,062               |       |
| Long-term  debt, current portion                                                                                                                         |       | 603,482           |       | 320,697               |       |
| Capital  lease obligations, current portion                                                                                                              |       | 3,764,718         |       | 3,201,829             |       |
| Total  current liabilities                                                                                                                               |       | 13,179,603        |       | 11,708,886            |       |
|                                                                                                                                                     |       |              |       |                  |       |
| Accrued  exit or disposal activities, net of current portion                                                                                             |       | 1,154,153         |       | 822,494               |       |
| Deferred  rent, net of current portion                                                                                                                   |       | 3,293,711         |       | 2,817,593             |       |
| Long-term  debt, net of current portion                                                                                                                  |       | 1,996,706         |       | 1,668,134             |       |
| Capital  lease obligations, net of current portion                                                                                                       |       | 64,779,986        |       | 62,616,992            |       |
| Total  liabilities                                                                                                                                       |       | 84,404,159        |       | 79,634,099            |       |
|                                                                                                                                                     |       |              |       |                  |       |
| Shareholders’  (deficit) equity:                                                                                                                    |       |              |       |                  |       |
| Common  stock, $0.01 par value, 90,000,000 shares authorized; 16,197,849 shares  issued and outstanding at June 30, 2009 and December 30, 2008 |       | 161,978           |       | 161,978               |       |
| Additional  paid-in capital                                                                                                                              |       | 44,001,654        |       | 43,844,373            |       |
| Accumulated  deficit                                                                                                                                     |       | (46,787,487       | )          | (41,529,785           | )          |
| Total  shareholders’ (deficit) equity                                                                                                               |       | (2,623,855        | )          | 2,476,566             |       |
|                                                                                                                                                     |       |              |       |                  |       |
| Total  liabilities and shareholders’ (deficit) equity                                                                                               |       | $                 | 81,780,304 |                  | $          | 82,110,665 |   |

 

See notes to condensed consolidated financialstatements.

 

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**GRANITE CITY FOOD & BREWERY LTD.**

# **CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

** **
| ** **                                  | ** ** | **Thirteen Weeks Ended** | ** ** | **Twenty-six Weeks Ended** | ** ** |
|---------------------------------------------|------------|--------------------------|------------|----------------------------|------------|
| ** **                                  | ** ** | **June 30,**        | ** ** | **June 24,**          | ** ** | **June 30,** | ** ** | **June 24,** | ** ** |
| ** **                                  | ** ** | **2009**                 | ** ** | **2008**                   | ** ** | **2009** | ** ** | **2008** | ** ** |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Restaurant  revenues                        |       | $                        | 22,101,365 |                       | $          | 25,098,840 |   | $ | 43,526,066 |   | $ | 49,118,323 |   |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Cost  of sales:                             |       |                     |       |                       |       |   |   |   |   |
| Food,  beverage and retail                  |       | 6,055,751                |       | 7,601,147                  |       | 11,882,004 |   | 15,125,213 |   |
| Labor                                       |       | 7,694,891                |       | 9,298,114                  |       | 15,226,533 |   | 18,650,135 |   |
| Direct  restaurant operating                |       | 3,164,136                |       | 3,537,693                  |       | 6,357,890 |   | 7,095,520 |   |
| Occupancy                                   |       | 1,571,315                |       | 1,618,071                  |       | 3,143,515 |   | 3,164,972 |   |
| Total  cost of sales                        |       | 18,486,093               |       | 22,055,025                 |       | 36,609,942 |   | 44,035,840 |   |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Pre-opening                                 |       | 18,333                   |       | 246,702                    |       | 211,262 |   | 830,074 |   |
| General  and administrative                 |       | 2,430,751                |       | 2,780,374                  |       | 4,495,067 |   | 5,471,343 |   |
| Depreciation  and amortization              |       | 1,728,140                |       | 1,613,412                  |       | 3,434,717 |   | 3,175,057 |   |
| Exit  or disposal activities                |       | 173,460                  |       | —                     |       | 601,540 |   | — |   |
| Other                                       |       | 41,307                   |       | 15,606                     |       | 50,408 |   | 51,371 |   |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Operating  loss                             |       | (776,719                 | )          | (1,612,279                 | )          | (1,876,870 | ) | (4,445,362 | ) |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Interest:                                   |       |                     |       |                       |       |   |   |   |   |
| Income                                      |       | 110                      |       | 10,038                     |       | 1,608 |   | 25,246 |   |
| Expense                                     |       | (1,751,482               | )          | (1,651,126                 | )          | (3,382,440 | ) | (3,139,953 | ) |
| Net  interest expense                       |       | (1,751,372               | )          | (1,641,088                 | )          | (3,380,832 | ) | (3,114,707 | ) |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Net  loss                                   |       | $                        | (2,528,091 | )                          | $          | (3,253,367 | ) | $ | (5,257,702 | ) | $ | (7,560,069 | ) |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Loss  per common share, basic               |       | $                        | (0.16      | )                          | $          | (0.20 | ) | $ | (0.32 | ) | $ | (0.47 | ) |
|                                        |       |                     |       |                       |       |   |   |   |   |
| Weighted  average shares outstanding, basic |       | 16,197,849               |       | 16,197,849                 |       | 16,197,849 |   | 16,190,066 |   |

 

See notes to condensedconsolidated financial statements.

 

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**GRANITE CITY FOOD & BREWERY LTD.**

# **CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

 
| ** **                                                                         | ** ** | **Twenty-six Weeks Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|----------------------------|------------|
| ** **                                                                         | ** ** | **June 30,**          | ** ** | **June 24,** | ** ** |
| ** **                                                                         | ** ** | **2009**                   | ** ** | **2008** | ** ** |
|                                                                               |       |                       |       |   |   |
| Cash  flows from operating activities:                                             |       |                       |       |   |   |
| Net  loss                                                                          |       | $                          | (5,257,702 | ) | $ | (7,560,069 | ) |
| Adjustments  to reconcile net loss to net cash used in operating activities:       |       |                       |       |   |   |
| Depreciation  and amortization                                                     |       | 3,396,279                  |       | 3,151,514 |   |
| Other  amortization                                                                |       | 38,438                     |       | 23,543 |   |
| Stock  warrant/option expense                                                      |       | 157,281                    |       | 263,912 |   |
| Loss  on disposal of property and equipment                                        |       | 50,408                     |       | 51,371 |   |
| Loss  on exit or disposal activities                                               |       | 332,113                    |       | — |   |
| Deferred  rent                                                                     |       | 483,723                    |       | 281,954 |   |
| Changes  in operating assets and liabilities:                                      |       |                       |       |   |   |
| Inventory                                                                          |       | (147,155                   | )          | (21,137 | ) |
| Prepaids  and other                                                                |       | (253,109                   | )          | 62,068 |   |
| Accounts  payable                                                                  |       | 615,198                    |       | (69,927 | ) |
| Accrued  expenses                                                                  |       | (62,757                    | )          | 50,353 |   |
| Net  cash used in operating activities                                             |       | (647,283                   | )          | (3,766,418 | ) |
|                                                                               |       |                       |       |   |   |
| Cash  flows from investing activities:                                             |       |                       |       |   |   |
| Purchase  of:                                                                      |       |                       |       |   |   |
| Property  and equipment                                                            |       | (420,702                   | )          | (2,419,971 | ) |
| Intangible  and other assets                                                       |       | (187,571                   | )          | (229,268 | ) |
| Net  cash used in investing activities                                             |       | (608,273                   | )          | (2,649,239 | ) |
|                                                                               |       |                       |       |   |   |
| Cash  flows from financing activities:                                             |       |                       |       |   |   |
| Payments  on capital lease obligations                                             |       | (1,073,213                 | )          | (793,469 | ) |
| Proceeds  from capital leases                                                      |       | 1,000,000                  |       | 4,000,000 |   |
| Payments  on long-term debt                                                        |       | (188,643                   | )          | (135,636 | ) |
| Proceeds  from long-term debt                                                      |       | 800,000                    |       | — |   |
| Net  proceeds from issuance of stock                                               |       | —                     |       | 34,486 |   |
| Net  cash provided by financing activities                                         |       | 538,144                    |       | 3,105,381 |   |
|                                                                               |       |                       |       |   |   |
| Net  decrease in cash                                                              |       | (717,412                   | )          | (3,310,276 | ) |
| Cash  and cash equivalents, beginning                                              |       | 2,652,411                  |       | 7,076,835 |   |
| Cash  and cash equivalents, ending                                                 |       | $                          | 1,934,999  |   | $ | 3,766,559 |   |
|                                                                               |       |                       |       |   |   |
| Supplemental  disclosure of non-cash investing and financing activities:           |       |                       |       |   |   |
| Land,  buildings and equipment acquired under capital lease agreements             |       | $                          | 2,938,266  |   | $ | 5,759,548 |   |
| Property  and equipment and intangibles purchased and included in accounts payable |       | $                          | 64,543     |   | $ | 1,200,772 |   |

 

See notes to condensed consolidated financialstatements.

 

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**GRANITE CITY FOOD & BREWERY LTD.**

 

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Unaudited)**

 

**Thirteen and Twenty-six weeks ended June 30, 2009and June 24, 2009**

 

**1.**     **Summary of significant accounting policies**

 

Background

 

Granite City Food & Brewery Ltd. (the “Company”) develops andoperates Modern American casual dining restaurants known as Granite City Food &Brewery®.  The restaurant theme isupscale casual dining with a wide variety of menu items that are prepared freshdaily, combined with freshly brewed hand-crafted beers finished on-site.  The Company opened its first Granite Cityrestaurant in St. Cloud, Minnesota in July 1999 and has since expanded toother Midwest markets.  As of June 30,2009, the Company operated 26 restaurants. The Company also operates a beer production facility which is used toprovide raw material support to its restaurants to create consistent qualityand operational efficiencies in the production of its proprietary beer.  In 2007, the Company was granted a patent bythe United States Patent Office for its brewing process.

 

Principlesof consolidation and basis of presentation

 

Duringthe first six months of operations in 2009, the Company did not meet itsinternal budget primarily due to declining revenue.  In June 2009, the Company announced thehiring of MorrisAnderson in an effort to restructure its debt and leases.  Since that time, the Company has beenmaintaining sufficient cash for operations by reducing or withholding paymentsto its landlords during negotiations with the landlords and satisfying suchobligations as necessary to avoid disruption of restaurant operations.  If the restructuring effort is not successfulor sufficient to restore its debt to a level necessary to allow the Company tobe cash flow positive at its current level of revenue, the Company will berequired to seek further funding for operations during 2009.  The Company would be required to raise suchfunds through the incurrence of indebtedness or public or private sales ofequity securities, which may be dilutive to shareholders and may or may not beavailable to the Company. The amount of any such required funding would dependupon sales trends and the Company’s ability to generate positive cashflow.  If the Company is unable torestructure its debt and leases, if cash flow from operations upon a successfulrestructuring and other sources of liquidity are insufficient to fund expectedcapital needs, or if the Company’s needs are greater than anticipated, itsbusiness and results of operations could be materially and adversely affected.

 

The Company’s ability to fund its operations in future periods willdepend upon its future operating performance, and more broadly, achievingbudgeted revenue and on the availability of equity and debt financing, all ofwhich will be affected by prevailing economic conditions in the industry andits financial, business and other factors, which may be beyond the Company’scontrol.  The Company cannot assure youthat it will obtain financing on favorable terms or at all.  If the Company elects to raise additionalcapital through the issuance and sale of equity securities, the sales may be atprices below the market price of its stock, and its shareholders may suffersignificant dilution.  Debt financing, ifavailable, may involve significant cash payment obligations, covenants andfinancial ratios that restrict the Company’s ability to operate and grow itsbusiness, and would cause it to incur additional interest expense and financingcosts.

 

The Company’s condensed consolidated financial statements include theaccounts and operations of the Company and its subsidiary corporation underwhich its Kansas locations are operated. Fifty percent of the stock of the subsidiary corporation is owned by aresident of Kansas.  Granite CityRestaurant Operations, Inc., a wholly-owned subsidiary of the Company,owns the remaining 50% of the stock of the subsidiary corporation.  The resident-owner of the stock of thatentity has entered into a buy-sell agreement with the subsidiary corporationproviding, among other things, that transfer of the shares is restricted andthat the shareholder must sell his shares to the subsidiary corporation uponcertain events, or any event that 

 

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disqualifies the resident-owner from owning the shares under applicablelaws and regulations of the state.  TheCompany has entered into a master agreement with the subsidiary corporationthat permits the operation of the restaurants and leases to the subsidiarycorporation the Company’s property and facilities.  The subsidiary corporation pays all of itsoperating expenses and obligations, and the Company retains, as considerationfor the operating arrangements and the lease of property and facilities, allthe net profits, as defined, if any, from such operations.  The Company has determined that the foregoingownership structure will cause the subsidiary corporation to be treated as avariable interest entity in which the Company has a controlling financialinterest for the purpose of Financial Accounting Standards Board (“FASB”)Interpretation 46(R), *Consolidation of VariableInterest Entities. *As such,the subsidiary corporation is consolidated with the Company’s financialstatements and the Company’s financial statements do not reflect a minorityownership in the subsidiary corporation. Also included in the Company’s condensed consolidated financialstatements are other wholly-owned subsidiaries. All references to the Company in these notes to condensed consolidatedfinancial statements relate to the consolidated entity, and all intercompanybalances have been eliminated.

 

Inthe opinion of management, all adjustments, consisting of normal recurringadjustments, which are necessary for a fair statement of its financial positionas of June 30, 2009  and the resultsof operations for the interim periods ended June 30, 2009 and June 24,2008 have been included.

 

The balance sheet at December 30, 2008 has been derived from theaudited financial statements at that date, but does not include all of theinformation and notes required by generally accepted accounting principles forcomplete financial statements.  Certain information and note disclosuresnormally included in the Company’s annual financial statements have beencondensed or omitted.  These condensedfinancial statements should be read in conjunction with the financialstatements and notes thereto included in the Company’s Annual Report on Form 10-Kfor the fiscal year ended December 30, 2008, filed with the Securities andExchange Commission on March 19, 2009.

 

The results ofoperations for the thirteen weeks and twenty-six weeks ended June 30, 2009are not necessarily indicative of the results to be expected for the entireyear.

 

Use of estimates

 

Thepreparation of financial statements in conformity with generally acceptedaccounting principles in the United States of America and regulations of theSecurities and Exchange Commission requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosures of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenue and expense during the reportingperiod.  Significant estimates includeestimates related to asset lives, lease accounting and revenue recognition.  Actual results could differ from theseestimates.

 

Reclassifications

 

Certain minor reclassifications have been made to the condensedconsolidated financial statements for fiscal year 2008 for them to conform tothe presentation of the condensed consolidated financial statements for fiscalyear 2009.  These reclassifications haveno effect on the accumulated deficit or net loss previously reported.

 

Revenuerecognition

 

Revenueis derived from the sale of prepared food and beverage and select retail items.  Revenue is recognized at the time of sale andis reported on the Company’s condensed consolidated statements of operationsnet of sales taxes collected.  Revenuederived from gift card sales is recognized at the time the gift card isredeemed.  Until the redemption of giftcards occurs, the outstanding balances on such cards are included in accruedexpenses in the accompanying condensed consolidated balance sheets.  The Company periodically recognizes gift cardbreakage which represents the portion of its gift card obligation for whichmanagement believes the likelihood of redemption by the customer is remote,based upon historical redemption patterns. Such amounts are included as a reduction to general and administrativeexpense.

 

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Cash equivalents

 

The Company considers all highly liquid instruments with originalmaturities of three months or less to be cash equivalents.

 

Stock-basedcompensation

 

The Company accounts for stock-based compensation in accordance withthe provisions of SFAS No. 123 (revised 2004) (“SFAS 123(R)”), *Share-Based Payment*, and SEC StaffAccounting Bulletin No. 107 (“SAB 107”), *Share-BasedPayment,* requiring the measurement and recognition of allshare-based compensation under the fair value method.

 

The fair value ofoptions at date of grant was estimated using the Black-Scholes option-pricingmodel with the following assumptions for the second quarter and first half of2009 and 2008:

 
| ** **                                | ** ** | **Twenty-six Weeks Ended** | ** ** |
|-------------------------------------------|------------|----------------------------|------------|
| ** **                                | ** ** | **June 30, 2009**     | ** ** | **June 24, 2008** | ** ** |
| Weighted  average risk-free interest rate |       | 2.25% - 3.71%              |       | 3.88% - 4.25% |   |
| Expected  life of options                 |       | 10 years                   |       | 10 years |   |
| Expected  stock volatility                |       | 66.30% - 94.69%            |       | 40.53% - 44.27% |   |
| Expected  dividend yield                  |       | None                       |       | None |   |

 

Net loss per share

 

Basic net loss per share is computed based on the weighted averagenumber of shares of common stock outstanding during the fiscal year.  Diluted net loss per share is not presentedsince the effect would be anti-dilutive due to the losses.  Calculations of the Company’s net loss percommon share for the thirteen and twenty-six weeks ended June 30,2009 and June 24, 2008 are set forth in the following table:

 
| ** **                                  | ** ** | **Thirteen Weeks Ended** | ** ** | **Twenty-six Weeks Ended** | ** ** |
|---------------------------------------------|------------|--------------------------|------------|----------------------------|------------|
| ** **                                  | ** ** | **June 30, 2009**   | ** ** | **June 24, 2008**     | ** ** | **June 30, 2009** | ** ** | **June 24, 2008** | ** ** |
| Net  loss                                   |       | $                        | (2,528,091 | )                          | $          | (3,253,367 | ) | $ | (5,257,702 | ) | $ | (7,560,069 | ) |
| Loss  per common share, basic               |       | $                        | (0.16      | )                          | $          | (0.20 | ) | $ | (0.32 | ) | $ | (0.47 | ) |
| Weighted  average shares outstanding, basic |       | 16,197,849               |       | 16,197,849                 |       | 16,197,849 |   | 16,190,066 |   |

 

Recentaccounting pronouncements

 

In June 2009, theFASB approved the FASB Accounting Standards Codification (“the Codification”)as the single source of authoritative nongovernmental GAAP.  All existing accounting standarddocuments, such as FASB, American Institute of Certified Public Accountants,Emerging Issues Task Force and other related literature, excluding guidancefrom the Securities and Exchange Commission (“SEC”), will be superseded by theCodification.  All othernon-grandfathered, non-SEC accounting literature not included in theCodification will become nonauthoritative.  The Codificationdoes not change GAAP, but instead introduces a new structure that will combineall authoritative standards into a comprehensive, topically organized onlinedatabase.  The Codification will beeffective for interim or annual periods ending after September 15, 2009,and will impact the Company’s financial statement disclosures beginning withthe quarter ending September 29, 2009 as all future references toauthoritative accounting literature will be referenced in accordance with theCodification.  There will be no changes tothe content of the Company’s financial statements or disclosures as a result ofimplementing the Codification.

 

In May 2009, theFASB issued SFAS No. 165, *Subsequent Events*(“SFAS 165”), which establishes general standards ofaccounting for and disclosure of events that occur after the balance sheetdate, but before the financial statements are issued or available to be issued(“subsequent events”). SFAS 165 requires disclosure ofthe date through which the entity has evaluated subsequent events and the basisfor that date. For public 

 

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entities,this is the date the financial statements are issued.  SFAS 165 doesnot apply to subsequent events or transactions that are within the scope ofother GAAP and will not result in significant changes in the subsequent eventsreported by the Company.SFAS 165 is effective for interim or annual periods ending after June 15,2009.  The Company implemented SFAS165 during the quarter ended June 30, 2009. The Company evaluated for subsequent events through August 14, 2009, theissuance date of the Company’s financial statements.  No subsequent events were noted other thanthose disclosed in Note 13.

 

In April 2009, the FASB issuedFASB Staff Position (“FSP”) FAS No. 107-1 and APB 28-1, *Interim Disclosures about Fair Value of FinancialInstruments*(“FSP FAS 107-1 and APB 28-1”), which amends SFAS No. 107,*Disclosures about Fair Value of FinancialInstruments*, to require disclosures about the fair value offinancial instruments for interim reporting periods, as well as annualreporting periods. FSP FAS 107-1 and APB 28-1 are effective forall interim and annual reporting periods ending after June 15, 2009 anddid not impact the Company’s consolidated financial statements.

 

InJune 2008, the FASB issued Emerging Issues Task Force No. 08-03, *Accounting for Leases for Maintenance Deposits*(“EITF No,08-03”).  EITF No. 08-03 addresses how a lessee should account for anonrefundable maintenance deposit under an arrangement accounted for as alease.  The guidance in EITF No. 08-03 is effective for fiscal yearsbeginning after December 15, 2008, including interim periods within thosefiscal years.  Implementation ofthis staff position in the first quarter of fiscal 2009 did not impact theCompany’s consolidated financial statements.

 

InJune 2008, the FASB issued EITF No. 07-5, *“DeterminingWhether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock”*(“EITF 07-5”).  EITF 07-5 providesguidance in assessing whether an equity-linked financial instrument (orembedded feature) is indexed to an entity’s own stock for purposes ofdetermining whether the appropriate accounting treatment falls under the scopeof SFAS 133, *“Accounting for Derivative Instruments andHedging Activities,”* and/or EITF 00-19, *“AccountingFor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock.”*  EITF07-5 is effective for fiscal years beginning after December 15, 2008 anddid not impact the Company’s financial statements.

 

InApril 2008, the FASB issued FSP FAS 142-3, *Determination of the Useful Life of Intangible Assets*(“FSP142-3”). FSP 142-3 amends the factors that should beconsidered in developing renewal or extension assumptions used to determine theuseful life of a recognized intangible asset under SFAS No. 142, *Goodwill and Other Intangible Assets*(“SFAS142”).  This change is intended toimprove the consistency between the useful life of a recognized intangibleasset under SFAS 142 and the period of expected cash flows used to measure thefair value of the asset under Statement No. 141R (revised 2007), “ *Business Combinations*“ (“SFAS 141R”) andother GAAP.  The requirement fordetermining useful lives must be applied prospectively to intangible assetsacquired after the effective date and the disclosure requirements must beapplied prospectively to all intangible assets recognized as of, and subsequentto, the effective date.  FSP 142-3 is effective forfinancial statements issued for fiscal years beginning after December 15,2008, and interim periods within those fiscal years.  The adoption ofFSP 142-3 did not impact the Company’s consolidated financial statements.

 

InFebruary 2008, the FASB issued FSP FAS 157-2, *Effective Date of FASB Statement No. 157,*which delayedthe effective date ofStatement No. 157, “Fair Value Measurements” (“SFAS 157”), formost nonfinancial assets and nonfinancial liabilities until fiscal yearsbeginning after November 15, 2008.  Theimplementation of SFAS 157 for nonfinancial assets and nonfinancial liabilitiesdid not impact the Company’s consolidated financial statements.

 

InDecember 2007, the Financial Accounting Standards Board (FASB) issued FASBStatement (“SFAS”) No. 141 (Revised 2007),*Business Combinations*(“SFAS 141R”)*.*  SFAS 141R will significantly change theaccounting for business combinations and certain other transactions.  SFAS 141R will apply prospectively tobusiness combinations and certain other transactions for which the acquisitiondate is on or after the start of the first annual reporting period beginning onor after December 15, 2008*.*  The Company currently does not contemplateany business combinations or other transactions that will be subject to SFAS141R.

 

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InDecember 2007, the FASB issued SFAS No. 160,*Noncontrolling Interests in Consolidated FinancialStatements - An Amendment of ARB No. 51*(“SFAS 160”)*.* SFAS 160 establishes new accounting andreporting standards for the noncontrolling interest in a subsidiary and for thedeconsolidation of a subsidiary.  Inaddition, this statement requires that a parent recognize a gain or loss in netincome when a subsidiary is deconsolidated. Such gain or loss will be measured using the fair value of thenoncontrolling equity investment on the deconsolidation date.  SFAS 160 is effective for fiscal years, andinterim periods within those fiscal years, beginning on or after December 15,2008.  Since the Company does notcurrently have and does not contemplate acquiring any interests in subsidiariesor variable interest entities with noncontrolling interests, management expectsthat SFAS 160 will not have an impact on the Company’s future financialposition, results of operations and operating cash flows.

 

**2.**     **Fair value of financialinstruments**

 

At June 30, 2009 and December 30, 2008, the fair value ofcash and accounts payable approximate their carrying value due to theshort-term nature of the instruments. The fair value of the capital leaseobligations and long-term debt is estimated at its carrying value based uponcurrent rates available to the Company.

 

**3.**              **Exit or disposal activities**

 

Rogers,Arkansas

 

InAugust 2008, the Company ceased operations at its Rogers, Arkansasrestaurant.  Since opening in October 2007,the restaurant failed to generate positive cash flow and had approximately $1.4million of net loss.  Management believesthe closure of this restaurant will allow the Company to focus its capital andpersonnel resources on its other restaurants in order to increase futureoperating efficiencies and cash flow. The Company is working to find a replacement tenant for the location,for which it is bound by a 20-year net lease. Costs incurred in connection with this closure include one-time benefitsto employees who were involuntarily terminated of $57,681, costs incurred forearly contract termination of $4,578 and costs to close and maintain thefacility of $500,925.  Until the Companyis able to find a replacement tenant, it will incur ongoing costs such asutilities, landscape and maintenance and general liability insurance. Inaccordance with the requirements of SFAS No. 146, *Accountingfor Costs Associated with Exit or Disposal Activities,* the Companyrecorded a non-cash lease termination liability of $852,146 based on management’sestimate of the fair value of these obligations.  This required management to estimate thepresent value of the future minimum lease obligations offset by the estimatedsublease rentals that could be reasonably obtained for the property.  During the third quarter of 2008, the Companyrecorded a non-cash impairment charge of $135,057 related to the write-off ofthe carrying value of the restaurant equipment at the Rogers location.  The amount of this write-off is equal to thedifference between the net book value of the equipment and the expected futurecash flows generated by leasing the equipment to a replacement tenant.  As of June 30, 2009, the annual leasepayments for the Roger’s site were $405,000 and the ongoing costs to maintainthe property were approximately $10,500 per month.  As of June 30, 2009, the Company’sfuture undiscounted cash payments under the terms of this 20-year lease wereapproximately $7.5 million.

 

Troy, Michigan

 

In May 2008, the Company entered into a 20-year net leaseagreement relating to the restaurant it had planned to open in Troy,Michigan.  However, in February 2009,the Company decided not to build on that site, and as part of an agreement withDunham Capital Management, L.L.C. (“Dunham”), DHW Leasing, L.L.C. (“DHW”) andDunham Equity Management, L.L.C. (collectively, the “Dunham Entities”), theCompany will reimburse Dunham for any out-of-pocket expenses incurred,including the carrying cost of the related land,  less net proceeds from the sale of the realestate or lease income associated with the site (Note 9).  As of June 30, 2009, the carrying cost ofthe land approximated $15,500 per month. Such expenses will be amortized and payable to Dunham over a 60-monthperiod commencing January 2011, at a 6% annual interest rate.  The Company’s management has concluded thatas of June 30, 2009, it is probable that the Company will need toreimburse Dunham approximately $342,000 of such costs.   Pursuant to SFAS No. 5,*Accounting for Contingencies,* the Company has included $342,000 in“exit or disposal activities” on its condensed consolidated statements of operationsand “accrued exit or disposal activities” on its balance sheet.

 

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The costs related to the closing of the Rogers restaurant and thedecision not to build the Troy restaurant aggregated approximately $601,540 inthe first half of 2009 and are reflected on the Company’s consolidatedstatements of operations as “exit or disposal activities”.  The following is a reconciliation of thebeginning and ending balances of exit or disposal activities:

 
| Accrued  exit or disposal costs at December 30, 2008 |   | $        | 842,493   |   |
|-----------------------------------------------------------|--------|----------|-----------|--------|
| Costs  incurred and charged to expense                    |   | 611,427  |      |
| Payments                                                  |   | (269,427 | )         |
| Amortization  of sublease liability                       |   | (9,887   | )         |
| Accrued  exit or disposal costs at June 30, 2009     |   | $        | 1,174,606 |   |

 

**4.****             ****Non-currentassets**

 

Property and equipment

 

Property and equipment is recorded at cost and depreciated over theestimated useful lives of the assets. Leasehold improvements are depreciated over the term of the relatedlease or the estimated useful life, whichever is shorter.  Depreciation and amortization of assets heldunder capital leases and leasehold improvements are computed on thestraight-line method for financial reporting purposes.  The following is a summary of the Company’sproperty and equipment at June 30, 2009 and December, 2008:

 
| ** **                     | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|--------------------------------|------------|------------------------|------------|----------------------------|------------|
| Land                           |       | $                      | 18,000     |                       | $          | 18,000 |   |
| Buildings                      |       | 57,127,818             |       | 54,991,656                 |       |
| Leasehold  improvements        |       | 9,251,476              |       | 9,117,667                  |       |
| Equipment  and furniture       |       | 33,311,717             |       | 31,877,053                 |       |
| Construction  in progress*     |       | —                 |       | 642,579                    |       |
|                           |       | 99,709,011             |       | 96,646,955                 |       |
| Less  accumulated depreciation |       | (23,710,122            | )          | (20,395,492                | )          |
|                           |       | $                      | 75,998,889 |                       | $          | 76,251,463 |   |

 

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*Construction inprogress includes the following approximate amounts for items yet to be placedin service:

 
| ** **                                   | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|----------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Leasehold  improvements for future locations |       | $                      | —     |                       | $          | 187,400 |   |
| Building  and equipment at future locations  |       | $                      | —     |                       | $          | 255,200 |   |
| Equipment  at current locations              |       | $                      | —     |                       | $          | 199,900 |   |

 

Intangible and other assets

 

Intangible and other assets consisted of the following:

 
| ** **                     | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|--------------------------------|------------|------------------------|------------|----------------------------|------------|
| Intangible  assets:            |       |                   |       |                       |       |
| Liquor  licenses               |       | $                      | 760,865    |                       | $          | 760,865 |   |
| Trademarks                     |       | 140,141                |       | 140,141                    |       |
| Other:                         |       |                   |       |                       |       |
| Deferred  loan costs           |       | 414,418                |       | 243,421                    |       |
| Security  deposits             |       | 645,989                |       | 539,187                    |       |
|                           |       | 1,961,413              |       | 1,683,614                  |       |
| Less  accumulated amortization |       | (218,716               | )          | (180,278                   | )          |
|                           |       | $                      | 1,742,697  |                       | $          | 1,503,336 |   |

 

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**5.        Accrued expenses**

 

Accrued expenses consisted of the following:

 
| ** **                             | ** ** | **June 30, 2009** | ** ** | **December 30,2008** | ** ** |
|----------------------------------------|------------|------------------------|------------|---------------------------|------------|
| Payroll  and related                   |       | $                      | 1,803,117  |                      | $          | 1,770,802 |   |
| Deferred  revenue from gift card sales |       | 1,331,026              |       | 1,971,477                 |       |
| Sales  taxes payable                   |       | 485,688                |       | 619,377                   |       |
| Interest                               |       | 998,780                |       | 568,777                   |       |
| Real  estate taxes                     |       | 709,248                |       | 536,290                   |       |
| Other                                  |       | 571,871                |       | 495,764                   |       |
|                                   |       | $                      | 5,899,730  |                      | $          | 5,962,487 |   |

 

**6.        Deferred rent payable**

 

Under the terms ofthe lease agreement the Company entered into regarding its Lincoln property,the Company received a lease incentive of $450,000, net.  This lease incentive was recorded as adeferred rent payable and is being amortized to reduce rent expense over theinitial term of the lease using the straight-line method.

 

Also included in deferred rent payable isthe difference between minimum rent payments and straight-line rent over theinitial lease term including the “build out” or “rent-holiday” period.  Additionally, certain of the Company’slandlords have agreed to defer a portion of the payments due them until futureyears.  Contingent rent expense, which isbased on a percentage of revenue, is also recorded to the extent it exceedsminimum base rent per the lease agreement.  Deferred rent payable consisted of:

 
| ** **                                              | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|---------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Difference  between minimum rent and straight-line rent |       | $                      | 2,909,474  |                       | $          | 2,633,912 |   |
| Deferred  rent payments                                 |       | 216,267                |       | —                     |       |
| Contingent  rent expected to exceed minimum rent        |       | 64,748                 |       | 57,854                     |       |
| Tenant  improvement allowance                           |       | 313,889                |       | 328,889                    |       |
|                                                    |       | $                      | 3,504,378  |                       | $          | 3,020,655 |   |

 

**7.  Long-term debt**

 

As of June 30, 2009, the Company had three long-term loansoutstanding with an independent financial institution, the proceeds of which itused to purchase assets at its Fargo, North Dakota; Des Moines and Davenport,Iowa restaurants.  These loans aresecured by the tangible personal property and fixtures at the respectivelocations and are guaranteed by Steven J. Wagenheim, the Company’s president,chief executive officer and one of its directors.

 

In August 2008, the Company issued a promissory note to an Indianageneral partnership in the amount of $250,000. The note was issued to secure the liquor license for the Company’srestaurant located in South Bend, Indiana.

 

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OnMarch 30, 2009, the Company entered into a bridge loan agreement with agroup of accredited investors to provide $1.0 million of partially convertibledebt financing.  The bridge loan isevidenced by notes bearing interest at 9.0% per annum, payable in six equalmonthly installments commencing on May 1, 2010 and due in full on October 1,2010.  The bridge loan was funded to theextent of $800,000 on March 30, 2009, with the balance of the bridge loanto be funded by the end of May 2009 pursuant to an amendment to theagreement dated April 30, 2009.  TheCompany and Harmony have entered into amendments to extend the date for thebalance of the funding to September 30, 2009 (see Note 13).  The lead investors in the transaction wereHarmony Equity Income Fund, L.L.C. and Harmony Equity Income Fund II, L.L.C.(collectively, “Harmony”).  The Company’sChairman, Eugene E. McGowan, is a member of, and has a beneficial interest in,both of the Harmony funds.  Thetransaction was approved by the Company’s Audit Committee as a transaction witha related person.  The notes are securedby a mortgage against the lease, and security agreements against personalproperty and intangibles relating to the Company’s Sioux Falls, South Dakotarestaurant, including a grant of the rights to use patents, trademarks andother intangibles associated with that restaurant.  The Company’s Board of Directors hasauthorized it to borrow up to an aggregate of $3.0 million under the terms ofthe bridge loan agreement, which provides that the investors may, but are notobligated to, make additional loans on substantially the same terms andconditions, including a similar pledge of collateral related to either its St.Cloud, Minnesota, or Fargo, North Dakota restaurants.  The notes may be prepaid upon 30 days priornotice without premium or penalty.  Thenotes must also be paid if the Company receives $4.0 million or more ofproceeds from the sale of equity securities or securities convertible intoequity securities.  The notes must alsobe repaid in the event the Company defaults under the terms and conditions ofthe bridge loan, including the financial covenants set forth therein.  Such covenants include maintaining minimumoperating income before interest, taxes, depreciation and amortization from theSioux Falls, South Dakota restaurant operations, and minimum consolidatedrevenue of the Company, as provided in the bridge loan agreement.  Up to 20% of each bridge note may beconverted into common stock at a conversion price equal to $0.50 per share**. **At June 30,2009, the Company had not met the minimum consolidated revenue required**.**  Harmony has agreedto waive the consolidated revenue covenant requirement and agreed to defer the July 2009interest payment until the maturity date of the loans.

 

Inaddition, the Company agreed to issue to Harmony warrants for the purchase ofan aggregate of 400,000 shares of common stock exercisable six months afterdate of issuance at a price of $0.25267 per share, or 110% of the closing priceof the Company’s stock on March 30, 2009. As of June 30, 2009, warrants to purchase an aggregate of 320,000shares of common stock had been issued to such investors.  The notes and the warrants provide customaryanti-dilution rights to the holders, including weighted average anti-dilutionprovisions for sales at less than the exercise or conversion pricesthereof.  The Company has also agreedthat if it proposes to issue new securities in excess of 1.0% of itsoutstanding shares prior to May 1, 2010, subject to the exceptions notedbelow, it will give the investors the right to purchase up to that portion ofthe new securities which equals the proportion of the number of securitiespurchasable upon conversion of notes and exercise of the warrants relative tothe Company’s outstanding stock as of March 30, 2009.  The participation right is not applicable tocertain categories of issuances, such as shares issuable pursuant to publicofferings, mergers and acquisitions and options, warrants and other rights topurchase securities. The Company has also granted the investorscertain rights to require the Company to register common stock acquired by themupon conversion of the notes or exercise of the warrants under the SecuritiesAct of 1933, as amended (the “Act”) on Form S-3, or include such shares incertain company registrations under the Act, at the expense of the Company.

 

TheCompany determined the fair value of the warrants issued in the first quarterof 2009 to be $43,299 using the Black Scholes pricing model assuming: (i) aweighted average risk-free interest rate of 1.72%, (ii) an expectedwarrant life of five years, (iii) expected stock volatility of 73.86% and (iv) noexpected dividend yield.  Pursuant toAccounting Principles Board Opinion (“APB”) 14, *Accountingfor Convertible Debt and Debt Issued with Stock Purchase Warrants*,the Company allocated the fair value of the warrants to paid-in capital and theremainder of the proceeds to long-term debt. The value of these warrants is being expensed as additional interestover the term of the related loan.

 

As of June 30, 2009 and December 30, 2008, the balances,interest rates and maturity dates of our long-term debt were as follows:

 

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| ** **            | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|-----------------------|------------|------------------------|------------|----------------------------|------------|
| Des  Moines           |       |                   |       |                       |       |
| Balance               |       | $                      | 162,824    |                       | $          | 226,802 |   |
| Annual  interest rate |       | 10.25%                 |       | 10.25%                     |       |
| Maturity  date        |       | 27-Aug-10              |       | 27-Aug-10                  |       |
|                  |       |                   |       |                       |       |
| Davenport             |       |                   |       |                       |       |
| Balance               |       | $                      | 212,015    |                       | $          | 272,081 |   |
| Annual  interest rate |       | 10.25%                 |       | 10.25%                     |       |
| Maturity  date        |       | 6-Jan-11               |       | 6-Jan-11                   |       |
|                  |       |                   |       |                       |       |
| Fargo                 |       |                   |       |                       |       |
| Balance               |       | $                      | 1,214,080  |                       | $          | 1,239,948 |   |
| Annual  interest rate |       | 8.75%                  |       | 8.75%                      |       |
| Maturity  date        |       | 15-Aug-11              |       | 15-Aug-11                  |       |
|                  |       |                   |       |                       |       |
| South  Bend           |       |                   |       |                       |       |
| Balance               |       | $                      | 247,350    |                       | $          | 250,000 |   |
| Annual  interest rate |       | 8.00%                  |       | 8.00%                      |       |
| Maturity  date        |       | 30-Sep-23              |       | 30-Sep-23                  |       |
|                  |       |                   |       |                       |       |
| Harmony               |       |                   |       |                       |       |
| Balance               |       | $                      | 763,919    |                       | $          | 0 |   |
| Annual  interest rate |       | 9.00%                  |       | N/A                        |       |
| Maturity  date        |       | 1-Oct-10               |       | N/A                        |       |

 

Future maturities of long-term debt, exclusive of interest, are asfollows:

 
| **Year ending:** |   |      |      |
|------------------|--------|-----------|-----------|
| 2009             |   | $         | 160,520   |   |
| 2010             |   | 1,059,358 |      |
| 2011             |   | 1,142,241 |      |
| 2012             |   | 4,263     |      |
| 2013             |   | 4,617     |      |
| Thereafter       |   | 229,189   |      |
|             |   | $         | 2,600,188 |   |

 

**8.        Capital leases**

 

Asof June 30, 2009, the Company operated 24 restaurants under capital leaseagreements.  Of these leases, one expiresin 2020, two in 2023, four in 2024, three in 2025, four in 2026, seven in 2027,two in 2028 and one in 2029, all with renewable options for additionalperiods.  Twenty-two of these leaseagreements originated with Dunham.  Undercertain of the leases, the Company may be required to pay additional contingentrent based upon restaurant sales.  At theinception of each of these leases, the Company evaluated the fair value of theland and building separately pursuant to the guidance in SFAS No. 13, *Accounting for Leases. *Theland portion of these leases is classified as an operating lease while thebuilding portion of these leases is classified as a capital lease 

 

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becauseits present value was greater than 90% of the estimated fair value at thebeginning of the lease and/or the lease term represents 75% or more of theexpected life of the property.

 

TheCompany also has a land and building lease agreement for its beer productionfacility.  This ten-year lease allows theCompany to purchase the facility at any time for $1.00 plus the unamortizedconstruction costs.  Because theconstruction costs will be fully amortized through payment of rent during thebase term, if the option is exercised at or after the end of the initialten-year period, the option price will be $1.00.  As such, the lease, including land, isclassified as a capital lease.

 

InMay 2008, the Company entered into a 20-year net lease agreement relatingto the restaurant it had planned to open in Troy, Michigan.  However, in February 2009, the Companydecided not to build on that site, and as part of an agreement with the DunhamEntities, the Company will reimburse Dunham for any out-of-pocket expensesincurred less net proceeds from the sale of the real estate or lease incomeassociated with the site (see Notes 3 and 9).

 

InAugust 2008, the Company ceased operations at its restaurant in Rogers,Arkansas (see Note 3).  However, theCompany is currently bound by the terms of this 20-year net lease agreemententered into under the terms specified in the development agreement withDunham.  Pursuant to an agreement withthe Dunham Entities described in Note 9, the Company will reimburse Dunham forany out-of-pocket expenses incurred less net proceeds from the sale of the realestate or lease income associated with this site.  The building portion of this lease isclassified as a capital lease while the land portion is classified as anoperating lease.

 

Asof June 30, 2009, the Company had 20 capital lease agreements that it usedto finance the equipment at its restaurants. During the first quarter of 2009, the Company financed the equipment at twoof those restaurants, aggregating approximately $2.0 million, under the termsand conditions of the equipment lease commitment the Company entered into withDHW in December 2007.  Of suchfinancing, $1.0 million was the result of a sale-leaseback transaction with DHWfor which the Company received cash proceeds. This sale-leaseback transaction met one or more criteria for treatmentas a capital lease pursuant to SFAS No. 13, *Accounting for Leases*.  Because the Company retained substantiallyall the benefits and risks incident to the ownership of the property sold, theCompany considered this sale-leaseback transaction merely a financing pursuantto SFAS No. 28, *Accounting for Sales with Leasebacks*.  As such, the Company did not recognize anygain or loss on the transaction and included it as a financing activity on itscondensed consolidated statement of cash flows. 

 

InFebruary 2009, the Company entered into amendments to the three leaseschedules of its master lease agreement with Carlton Financial Corporation (“Carlton”)reducing the monthly payments and extending the terms by one year on two of thelease schedules.  Pursuant to theamendments, the Company may purchase Carlton’s interest in all, but not lessthan all, of the equipment for a purchase price equal to 15% of the originalcost of the equipment.  Steven J.Wagenheim, the Company’s president, chief executive officer and one of itsdirectors, was required to personally guarantee payments to be made to Carltonunder the lease financing and the Company’s board of directors agreed tocompensate him for such guarantee.

 

Included in property and equipment are the following assets held undercapital leases:

 
| ** **                            | ** ** | **June 30, 2009** | ** ** | **December 30, 2008** | ** ** |
|---------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Land                                  |       | $                      | 18,000     |                       | $          | 18,000 |   |
| Building                              |       | 57,113,974             |       | 54,991,656                 |       |
| Equipment  and leasehold improvements |       | 19,601,567             |       | 17,588,649                 |       |
|                                  |       | 76,733,541             |       | 72,598,305                 |       |
| Less  accumulated depreciation        |       | (14,285,324            | )          | (9,600,913                 | )          |
|                                  |       | $                      | 62,448,217 |                       | $          | 62,997,392 |   |

 

Minimum futurelease payments under all capital leases are as follows:

 

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| **Year ending:**                            | ** ** | **Capital Leases** | ** ** |
|---------------------------------------------|------------|--------------------|------------|
| 2009                                        |       | $                  | 5,376,766  |   |
| 2010                                        |       | 10,010,918         |       |
| 2011                                        |       | 10,410,403         |       |
| 2012                                        |       | 12,357,649         |       |
| 2013                                        |       | 9,907,804          |       |
| Thereafter                                  |       | 87,369,274         |       |
| Total minimum lease payments                |       | 135,432,814        |       |
| Less amount representing interest           |       | (68,094,375        | )          |
| Present value of net minimum lease payments |       | 67,338,439         |       |
| Less current portion                        |       | (3,547,010         | )          |
| Long-term portion of obligations            |       | $                  | 63,791,429 |   |

 

The foregoingtable includes changes to lease commitments commencing after June 30, 2009 (seeNote 13).  Amortization expense relatedto the assets held under capital leases is included with depreciation expenseon the Company’s statements of operations.

 

**9.        Commitments and contingencies**

 

RentReductions

 

InFebruary 2009, the Company entered into a master agreement with the DunhamEntities to provide rent or other cash flow reductions to the Company in theamount of $2.5 million for calendar year 2009 and $1.5 million for calendaryear 2010 (the “Master Agreement”).  TheMaster Agreement provides that the Dunham Entities will amend and restateapplicable leases and subleases with the Company to reflect negotiated rentreductions.  As a part of the MasterAgreement, Dunham has agreed to amend its building leases with the Company thatare currently treated as capital leases for accounting purposes by reducing theirterms to periods which will thereafter qualify the leases to be treated asoperating leases in accordance with generally accepted accountingprinciples.  Each amended lease will bemodified for a term of not less than 10 years and will provide that the tenantwill have three consecutive options to extend the leases for five years perextension.  As of June 30, 2009,Dunham and the Company had not reached agreements as to the amendment of anyleases due primarily to the level of concessions to be assigned to eachproperty, as well as the determination of the value of each property in afluctuating real estate environment.  Assuch, the Company has made no changes to the classification or accounting forthese leases.  Additionally, the Companyagreed to reimburse Dunham for any out-of-pocket costs that Dunham incurs dueto the closing of the Rogers, Arkansas location and the decision not to buildon the Troy, Michigan site, reduced by net sales proceeds from the sale of anyreal estate or lease income associated with such sites.  Reimbursement of costs related to these siteswill be amortized and payable to Dunham over a 60-month period commencing January 2011,at a 6% annual interest rate.  Suchreimbursement includes the carrying cost of the related land until itsdisposal.

 

Inconsideration of the agreements Dunham provided in the Master Agreement, theCompany agreed to issue to the Dunham Entities a warrant to purchase 1,000,000shares of common stock of the Company at an exercise price of $0.264 per share,representing 110% of the closing price of the Company’s common stock on thetrading date prior to the date of signing the Master Agreement.  The value of these warrants of $136,495 isbeing amortized over a ten-year period which is the anticipated term of theunderlying lease agreements once they are revised.

 

TheCompany subsequently entered into agreements with certain other of its landlordsfor rent reductions.  Such rentreductions are deemed to be part of the above-referenced $4.0 million of rent reductions.  In consideration of such rent reductions, theCompany has issued five-year warrants to purchase the Company’s common stock tosuch landlords.  Each warrant isexercisable at 110% of the closing price of the Company’s common stock on thetrading date prior to the date on which the Company received the executed rentrelief agreement, and is issued only to accredited investors.  As of June 30, 2009, the aggregatenumber of shares underlying such warrants was 196,070 shares and the weightedaverage exercise price was $0.27 per share. The value of these warrants of $27,376 is being amortized over theunderlying lease terms.

 

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TheCompany measured and recognized the value of these warrants issued to Dunhamand certain of its other landlords referenced above under the fair valuemethod.  The fair value of the warrantsat date of grant was estimated using the Black-Scholes option-pricing modelwith the following assumptions: (i) a weighted average risk-free interestrate of 1.79% - 1.99%, (ii) an expected warrant life of five years, (iii) expectedstock volatility of 70.24% - 73.90% and (iv) no expected dividend yield.

 

Litigation

 

From time to time, lawsuits are threatened or filed against the Companyin the ordinary course of business.  Suchlawsuits typically involve claims from customers, former or current employees,and others related to issues common to the restaurant industry.  A number of such claims may exist at anygiven time.  Although there can be no assuranceas to the ultimate disposition of these matters, it is management’s opinion,based upon the information available at this time, that the expected outcome ofthese matters, individually or in the aggregate, will not have a materialadverse effect on the results of operation, liquidity or financial condition ofthe Company.

 

**10.**       **Stockplans**

 

In July 1997,the Company adopted the 1997 Stock Option Plan for employees and non-employees,including consultants to the Company, to purchase the Company’s common stock atan exercise price that equals or exceeds the fair market value on the date ofgrant.   As of June 30, 2009,options to purchase 32,500 shares of common stock were outstanding under theplan, which expired July 28, 2007. All options outstanding under this plan are fully vested and areexercisable for ten years from the date of grant.

 

As of June 30,2009, options to purchase 225,000 shares of common stock were outstanding underthe 1997 Director Stock Option Plan (“DSOP”), which expired July 29,2007.  All such options are fully vestedand exercisable for five years from the date of grant.  On May 2, 2007, theCompany’s board of directors agreed that until the adoption of any futureequity plan for non-employee directors, awards of stock options for thepurchase of 15,000 shares of common stock per year, exercisable for a period often years, should be made to each non-employee director on the anniversary ofhis election to the board under the 2002 Equity Incentive Plan.

 

In August 2002,the Company adopted the 2002 Equity Incentive Plan, now known as the Amendedand Restated Equity Incentive Plan, for employees, prospective employees,officers and members of the Company’s board of directors, as well as consultants and advisors tothe Company, to purchase shares of the Company’s common stock at an exerciseprice that equals or exceeds the fair market value on the date of grant.  The number of shares authorized for issuanceas of June 30, 2009 was 2,729,743, of which 474,409 shares remainedavailable for future issuance and options to purchase 2,179,634 shares wereoutstanding.  Although vesting schedulesvary, option grants under this plan generally vest over a three or four-yearperiod and options are exercisable for no more than ten years from the date of grant.

 

A summary of the status of the Company’s stock options as of June 30, 2009 is presentedbelow:

 
| **Fixed Options**                                           | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Weighted  Average Remaining  Contractual  Life** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|-------------------------------------------------------------|------------|------------|------------|---------------------------------------|------------|----------------------------------------------------|------------|---------------------------------|------------|
| Outstanding  at December 25, 2007                      |       | 2,272,800  |       | $                                     | 4.10       |                                               | 6.7 years  |                            |       |   |
|                                                        |       |       |       |                                  |       |                                               |       |                            |       |
| Granted                                                     |       | 615,000    |       | $                                     | 1.92       |                                               | 8.4 years  |                            |       |   |
| Exercised                                                   |       | (15,000    | )          | 2.27                                  |       |                                               |       |                            |       |
| Forfeited                                                   |       | (684,666   | )          | 3.76                                  |       |                                               |       |                            |       |
| Outstanding  at December 30, 2008                      |       | 2,188,134  |       | $                                     | 3.60       |                                               | 6.2 years  |                            |       |   |
|                                                        |       |       |       |                                  |       |                                               |       |                            |       |
| Granted                                                     |       | 686,500    |       | 0.21                                  |       | 9.7 years                                          |       |                            |       |
| Exercised                                                   |       | —     |       | —                                |       |                                               |       |                            |       |
| Forfeited                                                   |       | (392,500   | )          | 3.14                                  |       |                                               |       |                            |       |
| Outstanding  at June 30, 2009                          |       | 2,482,134  |       | $                                     | 2.74       |                                               | 6.9 years  |                            | $          | 81,799 |   |
|                                                        |       |       |       |                                  |       |                                               |       |                            |       |
| Options  exercisable at December 30, 2008              |       | 1,266,141  |       | $                                     | 3.93       |                                               | 4.9 years  |                            |       |   |
| Options  exercisable at June 30, 2009                  |       | 1,126,554  |       | $                                     | 4.00       |                                               | 5.0 years  |                            | $          | — |   |
|                                                        |       |       |       |                                  |       |                                               |       |                            |       |
| Weighted-average  fair value of options granted during 2009 |       | $          | 0.14       |                                  |       |                                               |       |                            |       |   |
|                                                             |            |            |            |                                       |            |                                                    |            |                                 |            |  |  |  |

 

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The aggregate intrinsic value in the table above represents the totalpretax intrinsic value (the difference between the closing price of the Company’sstock on June 30,2009 and the exercise price, multiplied by the number of in-the-moneyoptions) that would have been received by the option holders had all optionholders exercised their options on June 30, 2009.    As of June 30, 2009, there was approximately$232,763 of total unrecognized compensation cost related to unvestedshare-based compensation arrangements, of which $106,057 is expected to berecognized during the remainder of fiscal year 2009, $79,829 in fiscal year2010, $36,525 in fiscal year 2011, $10,081 in fiscal year 2012 and $271 infiscal year 2013.

 

The following table summarizes information about stock optionsoutstanding at June 30,2009:

 
| ** **                     | ** ** | **Options Outstanding**                        | ** ** | **Options Exercisable**                             |
|--------------------------------|------------|------------------------------------------------|------------|-----------------------------------------------------|
| **Range of  Exercise  Prices** | ** ** | **Number of  Options  Outstanding  6/30/2009** | ** ** | **Weighted  Average  Remaining  Contractual  Life** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Number of  Options  Exercisable  6/30/2009** | ** ** | **Weighted  Average  Exercise Price** |
|                           |       |                                           |       |                                                |   |   |   |   |   |   |
| $0.00 - $1.00                  |       | 746,500                                        |       | 9.6 years                                           |   | $ | 0.27 |   | — |   | $ | — |
| $1.01 - $2.00                  |       | 157,500                                        |       | 7.9 years                                           |   | $ | 1.69 |   | 48,750 |   | $ | 1.78 |
| $2.01 - $3.00                  |       | 337,500                                        |       | 7.0 years                                           |   | $ | 2.31 |   | 145,833 |   | $ | 2.44 |
| $3.01 - $4.00                  |       | 378,000                                        |       | 5.6 years                                           |   | $ | 3.67 |   | 328,000 |   | $ | 3.69 |
| $4.01 - $5.00                  |       | 517,300                                        |       | 5.5 years                                           |   | $ | 4.37 |   | 442,300 |   | $ | 4.39 |
| $5.01 - $6.00                  |       | 245,334                                        |       | 2.6 years                                           |   | $ | 5.21 |   | 95,004 |   | $ | 5.27 |
| $6.01 - $7.00                  |       | 100,000                                        |       | 7.8 years                                           |   | $ | 6.20 |   | 66,667 |   | $ | 6.20 |
| Total                          |       | 2,482,134                                      |       | 6.9 years                                           |   | $ | 2.74 |   | 1,126,554 |   | $ | 4.00 |

 

**11.**  **Commonstock warrants**

 

In September 2004, the Company entered into a securities purchaseagreement with certain accredited investors for the sale of approximately $8.5million of common stock and warrants. Under this agreement, the Company issued five-year warrants for thepurchase of 1,045,844 shares of common stock at an exercise price of $5.00 pershare.  The Company may call for themandatory exercise of such warrants if certain conditions are met.  As part of this private placement, theCompany sold to its placement agents, for $100, five-year warrants to purchasean aggregate of 130,730 shares of common stock at an exercise price of $5.00per share.  Such agreements with the investors and placementagents for this transaction contain certain anti-dilution provisions.  Pursuant to these provisions, the number ofshares purchasable upon exercise of these warrants and the related purchaseprice both required adjustment upon the issuance of warrants, at an exerciseprice less than the thresholds set forth in the security purchase agreement, tocertain of the Company’s landlords and Harmony (see Notes 7 and 9).  The exercise price of each existing warrantwas multiplied by a fraction, the numerator of which was the sum of the numberof shares of common stock outstanding immediately prior to the issuance ofwarrants to the landlords and Harmony, plus the number of shares of commonstock which the offering price for such shares of common stock would purchaseat the closing price of our common stock on the initial closing date of thissecurities purchase 

 

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agreement, and the denominator of which was the sum of the number of sharesof common stock outstanding immediately prior to such issuance plus the numberof such new securities so issued.  As aresult of these adjustments, the number of shares purchasable under thesewarrants at June 30, 2009 was 1,215,469 and the exercise price was $4.84per share.  As of June 30, 2009,none of such warrants had been exercised.

 

In October 2005, the Company entered into a securities purchaseagreement with certain accredited investors for the sale of approximately $5.34million of common stock and warrants. Under this agreement, the Company issued five-year warrants for thepurchase of 221,762 shares of common stock at an exercise price of $6.50 pershare to such investors and five-year warrants for the purchase of 55,436shares of common stock at an exercise price of $6.50 to the Company’s placementagent. Suchagreements with the investors and placement agents for this transaction containcertain anti-dilution provisions.  Pursuant tothese provisions, the number of shares purchasable upon exercise of thesewarrants and the related purchase price both required adjustment upon theissuance of warrants, at an exercise price less than the thresholds set forthin the security purchase agreement, to certain of the Company’s landlords andHarmony (see Notes 7 and 9).  Theexercise price of each existing warrant was multiplied by a fraction, thenumerator of which was the sum of the number of shares of common stockoutstanding immediately prior to the issuance of warrants to the landlords andHarmony, plus the number of shares of common stock which the offering price forsuch shares of common stock would purchase at the closing price of our commonstock on the closing date of this securities purchase agreement, and thedenominator of which was the sum of the number of shares of common stockoutstanding immediately prior to such issuance plus the number of such newsecurities so issued.  As a result of these adjustments, thenumber of shares purchasable under these warrants at June 30, 2009 was 289,211 and the exercise pricewas $6.23 per share.  As of June 30, 2009, none of such warrants hadbeen exercised.

 

Inconsideration of rent reduction agreements entered into with certain of itslandlords, the Company issued five-year warrants to purchase the Company’scommon stock to such landlords.  Theaggregate number of shares underlying such warrants was 1,196,070 shares andthe weighted average exercise price was $0.2648 per share.  Pursuant to the provisions of such agreements, thenumber of shares purchasable upon exercise of these warrants and the relatedpurchase price both required adjustment upon the issuance of warrants, at an exerciseprice less than the thresholds set forth in the security purchase agreement, to Harmony (see Note 7).  The exercise price of eachexisting warrant was multiplied by a fraction, the numerator of which was thesum of the number of shares of common stock outstanding immediately prior tothe issuance of warrants to Harmony, plus the number of shares of common stockwhich the offering price for such shares of common stock would purchase at thewarrant exercise price in effect immediately prior to such issuance, and thedenominator of which was the sum of the number of shares of common stockoutstanding immediately prior to such issuance plus the number of such newsecurities so issued.  As a result of these adjustments, thenumber of shares purchasable under these warrants at June 30, 2009 was 1,197,040 and the weightedaverage exercise price was $0.2646 per share. As of June 30, 2009, none of such warrants had been exercised.

 

Pursuant to the bridge loan agreement entered into in March 2009with a group of accredited investors, the Company issued to the investorswarrants for the purchase of an aggregate of 320,000 shares of common stock ata price of $0.25267 per share.  Suchwarrants become exercisable September 30, 2009.

 

As of June 30, 2009, warrants for the purchase of an aggregate of3,021,802 shares of common stock were outstanding and warrants to purchase anaggregate of 2,701,802 shares were exercisable. The weighted average exercise price of such warrants was $2.67 pershare.

 

**12.**       **Retirement plan**

 

The Companysponsors a defined contribution plan under the provisions of section 401(k) ofthe Internal Revenue Code.  The Plan isvoluntary and is provided to all employees who meet the eligibilityrequirements.  A participant can elect tocontribute up to 100% of his/her compensation subject to IRS limits.  Beginning in fiscal year 2009, the Companyelected to match 10% of such contributions up to 6% of the participant’scompensation.  As of June 30, 2009, the Company had contributed$6,864 in aggregate under the plan.  TheCompany expects to contribute an additional $8,200 under the plan in fiscalyear 2009.

 

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**13.**       **Subsequent events**

 

In August 2009,the Company entered into amended lease agreements with certain of itslandlords.  While the payment terms ofthe lease were changed in each amendment, in no case did the classification oraccounting treatment of the lease change. The resulting change to future minimum lease payments are reflected inNote 9.

 

In August 2009,the Company entered into an agreement to terminate the lease for the facilityit used as a test kitchen.  The operatinglease, which was to expire in October 2011, will terminate effective August 20,2009.  Pursuant to the terminationagreement, the Company is required to pay rent through August 2009 plus anadditional $11,064, which is equivalent to three months of lease payments.

 

On August 10,2009, the Company entered into an amendment to the bridge loan agreement datedMarch 30, 2009 with Harmony to extend the time period for the closing of the$200,000 balance on the loan to September 30, 2009.  The bridge loan provided for $1,000,000 ofpartially convertible debt financing to the Company.  The Company has closed on $800,000 of thedebt.  The time period for the secondclosing was previously extended to the end of July 2009, as reported on theCompany’s Current Report on Form 8-K filed June 4, 2009.

 

**ITEM 2**                   **Management’s Discussionand Analysis of Financial Condition and Results of Operations**

 

*This discussion and analysis contains variousnon-historical forward-looking statements within the meaning of Section 21Eof the Exchange Act.  Although we believethat, in making any such statement, our expectations are based on reasonableassumptions, any such statement may be influenced by factors that could causeactual outcomes and results to be materially different from thoseprojected.  When used in the followingdiscussion, the words “anticipates,” “believes,” “expects,” “intends,” “plans,”“estimates” and similar expressions, as they relate to us or our management,are intended to identify such forward-looking statements.  You are cautioned not to attribute unduecertainty to such forward-looking statements, which are qualified in theirentirety by the cautions and risks described herein.  Please refer to the “Risk Factors” section ofour Annual Report on Form 10-K, filed with the Securities and ExchangeCommission on March 19, 2009, and the “Risk Factors” section of thisdocument, for additional factors known to us that may cause actual results tovary.*

 

**Overview**

 

We are a Modern Americanupscale casual restaurant chain. As of June 30, 2009, we operated 26restaurants in 11 Midwestern states featuring on-premises breweries,substantially all of which operate under the name of Granite City Food &Brewery®.  We believe our menu featureshigh quality yet affordable family favorite menu items prepared frommade-from-scratch recipes and served in generous portions.  We believe that the sophisticated yetunpretentious restaurants, proprietary food and beverage products, attractiveprice points and high service standards combine for a great diningexperience.  The location of eachrestaurant in operation and the month and year of its opening appear in thefollowing chart:

 

| **Unit** | ** ** | **Location**              | ** ** | **Opened** |
|----------|------------|---------------------------|------------|------------|
| 1        |       | St. Cloud, Minnesota      |       | Jun-99     |
| 2        |       | Sioux Falls, South Dakota |       | Dec-00     |
| 3        |       | Fargo, North Dakota       |       | Nov-01     |
| 4        |       | Des Moines, Iowa          |       | Sep-03     |
| 5        |       | Cedar Rapids, Iowa        |       | Nov-03     |
| 6        |       | Davenport, Iowa           |       | Jan-04     |
| 7        |       | Lincoln, Nebraska         |       | May-04     |
| 8        |       | Maple Grove, Minnesota    |       | Jun-04     |
| 9        |       | East Wichita, Kansas      |       | Jul-05     |
| 10       |       | Eagan, Minnesota          |       | Sep-05     |
| 11       |       | Kansas City, Missouri     |       | Nov-05     |
| 12       |       | Kansas City, Kansas       |       | Jan-06     |
| 13       |       | Olathe, Kansas            |       | Mar-06     |
| 14       |       | West Wichita, Kansas      |       | Jul-06     |
| 15       |       | St. Louis Park, Minnesota |       | Sep-06     |
| 16       |       | Omaha, Nebraska           |       | Oct-06     |
| 17       |       | Roseville, Minnesota      |       | Nov-06     |
| 18       |       | Madison, Wisconsin        |       | Dec-06     |
| 19       |       | Rockford, Illinois        |       | Jul-07     |
| 20       |       | East Peoria, Illinois     |       | Oct-07     |
| 21       |       | Orland Park, Illinois     |       | Dec-07     |
| 22       |       | St. Louis, Missouri       |       | Jan-08     |
| 23       |       | Ft. Wayne, Indiana        |       | Jan-08     |
| 24       |       | Toledo, Ohio              |       | Feb-08     |
| 25       |       | South Bend, Indiana       |       | Jul-08     |
| 26       |       | Indianapolis, Indiana     |       | Feb-09     |

 

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In August 2008, we ceasedoperations at our restaurant in Rogers, Arkansas.  However, we are currently bound by the termsof the 20-year net lease agreement which commenced in October 2007 underthe terms specified in the development agreement with Dunham CapitalManagement, L.L.C. (“Dunham”).

 

We operate acentrally-located beer production facility in Ellsworth, Iowa which facilitatesthe initial stage of our patented brewing process.  We believe that this brewing process improvesthe economics of microbrewing as it eliminates the initial stages of brewingand storage at multiple locations, thereby reducing equipment and developmentcosts at new restaurant locations. Additionally, having a common starting point, the beer production createsconsistency of taste for our product from restaurant to restaurant.  The initial product produced at our beerproduction facility is transported by truck to the fermentation vessels at eachof our restaurants where the brewing process is completed. In 2007, we weregranted a patent by the United States Patent Office for this brewingprocess.  We believe that our currentbeer production facility, which opened in June 2005, has the capacity toservice up to 35 restaurant locations.

 

Our industry can besignificantly affected by changes in economic conditions, discretionaryspending patterns, consumer tastes, and cost fluctuations.  Beginning in 2007, consumers have been underincreased economic pressures and as a result, many have changed theirdiscretionary spending patterns.  Manyconsumers are dining out less frequently than in the past and/or have decreasedthe amount they spend on meals while dining out.  As guest traffic decreases, lower salesresult in decreased leverage that leads to declines in operating margins.  To offset the negative impact of decreasedleverage in a declining sales environment while protecting our guests’ diningexperience, we have undertaken a series of initiatives to renegotiate thepricing of all aspects of our business, effectively reducing our cost of food,insurance, payroll processing, shipping, supplies and most recently, ourproperty and equipment rent.  We havealso begun implementing marketing initiatives designed to increase brandawareness and help drive guest traffic.

 

In February 2009, weentered into a master agreement with Dunham, DHW Leasing, L.L.C. (“DHW”) andDunham Equity Management, L.L.C. (collectively, the “Dunham Entities”) toprovide rent or other cash flow reductions to us in the amount of $2.5 millionfor the calendar year 2009 and $1.5 million for calendar year 2010 (the “MasterAgreement”).  The Master Agreementprovides that the Dunham Entities will amend and restate applicable leases andsubleases to reflect negotiated rent reductions.  We commenced paying reduced rent in January 2009in anticipation of finalizing the Master Agreement, which reductions are deemedto be part of the negotiated rent reductions. As a part of the Master Agreement, Dunham has agreed to amend its leaseswith us that are currently treated as capital leases for accounting purposes byreducing their terms to periods which will thereafter qualify the leases to betreated as operating leases in accordance with generally accepted accountingprinciples.  Each lease will be modifiedfor a term of not less than 10 years and will provide that the tenant will havethree consecutive options to extend the leases for five years perextension.  As of June 30, 2009, wehad not reached agreements with Dunham as to the amendments of any leases dueprimarily to the level of concessions to be assigned to each property, as wellas the determination of the value of each property in a fluctuating real estateenvironment.  As such, we have made nochanges to the classification or accounting for these leases.  In consideration of the agreements of Dunhamprovided in the Master Agreement, we issued to the Dunham Entities a warrant topurchase 1,000,000 shares of our common stock at an exercise price of $0.264per share, representing 110% of the closing price of our common stock on thetrading date prior to the date of signing the Master Agreement.

 

Subsequently, we enteredinto agreements with certain of our other landlords for rent reductions.  Such rent reductions are deemed to be part ofthe above-referenced $4.0 million in rent reductions.  In consideration of such rent reductions, wehave issued five-year warrants to purchase our common stock to suchlandlords.  Each warrant is exercisableat 110% of the closing price of our common stock on the trading date prior tothe date on 

 

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whichwe received the executed rent relief agreement, and are issued only toaccredited investors.  As of June 30,2009, the aggregate number of shares underlying such warrants was 196,070shares and the weighted average exercise price was $0.27 per share.

 

InMarch 2009, we entered into a bridge loan agreement with a group ofaccredited investors to provide $1.0 million of partially convertible debtfinancing.  The bridge loan is evidenced by notes bearing interest at 9.0%per annum, payable in six equal monthly installments commencing on May 1,2010 and due in full on October 1, 2010.  The notes are secured by amortgage against the lease, and security agreements against personal propertyand intangibles relating to the Company’s Sioux Falls, South Dakota restaurant,including a grant of the rights to use patents, trademarks and otherintangibles associated with that restaurant.  The bridge loan was fundedto the extent of $800,000 on March 30, 2009, with the balance of thebridge loan to be funded by the end of May 2009, pursuant to an amendmentto the agreement dated April 30, 2009. We have entered into amendments with Harmony to extend the date for thebalance of the funding to September 30, 2009.  Up to 20% of each bridge note may beconverted into common stock at a conversion price equal to $0.50 pershare.  At June 30, 2009, we had not met the minimum consolidated revenuerequired**.** Harmony has agreed to waive the consolidated revenue covenantrequirement and agreed to defer the July 2009 interest payment until thematurity date of the loans.  In addition,the Company agreed to issue to the investors warrants for the purchase of anaggregate of 400,000 shares of common stock exercisable six months after dateof issuance at a price of $0.25267 per share, or 110% of the closing price ofthe Company’s stock on March 30, 2009. As of June 30, 2009, warrants to purchase an aggregate of 320,000shares of common stock had been issued to such investors.

 

Thelead investors in the transaction were Harmony Equity Income Fund, L.L.C. andHarmony Equity Income Fund II, L.L.C. (collectively, “Harmony”).  TheCompany’s Chairman, Eugene E. McGowan, is a member of, and has a beneficialinterest in, both of the Harmony funds. The Company’s Board of Directors has authorized it to borrow up to anaggregate of $3.0 million under the terms of the bridge loan agreement, whichprovides that the investors may, but are not obligated to, make additionalloans on substantially the same terms and conditions, including a similarpledge of collateral related to either its St. Cloud, Minnesota, or Fargo,North Dakota restaurants.

 

Weutilize a 52/53-week fiscal year ending the last Tuesday in December forfinancial reporting purposes.  Fiscalyear 2008 had 53 weeks while fiscal year 2009 will have 52 weeks.  The additional week was included in the thirdquarter of 2008.

 

The thirteen weeks ended June 30, 2009and June 24, 2008 included 338 and 325 operating weeks, respectively,which is the sum of the actual number of weeks each restaurant operated.  The twenty-six weeks ended June 30, 2009and June 24, 2008 included 670 and 635 operating weeks, respectively.  Because we have opened new restaurants atvarious times throughout the years, we provide this statistical measure toenhance the comparison of revenues from period to period as changes occur inthe number of units we are operating.

 

Our restaurant revenue is comprised almostentirely of the sales of food and beverages. The sale of retail items typically represents less than one percent oftotal revenue.  Product costs include thecosts of food, beverages and retail items. Labor costs include direct hourly and management wages, taxes andbenefits for restaurant employees. Direct and occupancy costs include restaurant supplies, marketing costs,rent, utilities, real estate taxes, repairs and maintenance and other relatedcosts.  Pre-opening costs consist ofdirect costs related to hiring and training the initial restaurant workforce,the salaries and related costs of our dedicated new store opening team, rentexpense incurred during the construction period and other direct costsassociated with opening new restaurants. General and administrative expenses are comprised of expenses associatedwith all corporate and administrative functions that support existingoperations, which include management and staff salaries, employee benefits,travel, information systems, training, market research, professional fees,supplies and corporate rent. Depreciation and amortization includes depreciation on capitalexpenditures at the restaurant and corporate levels and amortization ofintangibles that do not have indefinite lives. Interest expense represents the cost of interest expense on debt andcapital leases net of interest income on invested assets.

 

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**Resultsof operations as a percentage of sales**

 

Thefollowing table sets forth results of our operations expressed as a percentageof sales for the thirteen and twenty-six weeks ended June 30,2009 and June 24, 2008.

 
| ** **                     | ** ** | **Thirteen Weeks Ended** | ** ** | **Twenty-six Weeks Ended** | ** ** |
|--------------------------------|------------|--------------------------|------------|----------------------------|------------|
| ** **                     | ** ** | **June 30,**        | ** ** | **June 24,**          | ** ** | **June 30,** | ** ** | **June 24,** | ** ** |
| ** **                     | ** ** | **2009**                 | ** ** | **2008**                   | ** ** | **2009** | ** ** | **2008** | ** ** |
|                           |       |                     |       |                       |       |   |   |   |   |
| Restaurant  revenues           |       | 100.0                    | %          | 100.0                      | %          | 100.0 | % | 100.0 | % |
|                           |       |                     |       |                       |       |   |   |   |   |
| Cost  of sales:                |       |                     |       |                       |       |   |   |   |   |
| Food,  beverage and retail     |       | 27.4                     |       | 30.3                       |       | 27.3 |   | 30.8 |   |
| Labor                          |       | 34.8                     |       | 37.0                       |       | 35.0 |   | 38.0 |   |
| Direct  restaurant operating   |       | 14.3                     |       | 14.1                       |       | 14.6 |   | 14.4 |   |
| Occupancy                      |       | 7.1                      |       | 6.4                        |       | 7.2 |   | 6.4 |   |
| Total  cost of sales           |       | 83.6                     |       | 87.9                       |       | 84.1 |   | 89.7 |   |
|                           |       |                     |       |                       |       |   |   |   |   |
| Pre-opening                    |       | 0.1                      |       | 1.0                        |       | 0.5 |   | 1.7 |   |
| General  and administrative    |       | 11.0                     |       | 11.1                       |       | 10.3 |   | 11.1 |   |
| Depreciation  and amortization |       | 7.8                      |       | 6.4                        |       | 7.9 |   | 6.5 |   |
| Exit  or disposal activities   |       | 0.8                      |       | —                     |       | 1.4 |   | — |   |
| Other                          |       | 0.2                      |       | 0.1                        |       | 0.1 |   | 0.1 |   |
|                           |       |                     |       |                       |       |   |   |   |   |
| Operating  loss                |       | (3.5                     | )          | (6.4                       | )          | (4.3 | ) | (9.1 | ) |
|                           |       |                     |       |                       |       |   |   |   |   |
| Interest:                      |       |                     |       |                       |       |   |   |   |   |
| Income                         |       | 0.0                      |       | 0.0                        |       | 0.0 |   | 0.1 |   |
| Expense                        |       | (7.9                     | )          | (6.6                       | )          | (7.8 | ) | (6.4 | ) |
| Net  interest expense          |       | (7.9                     | )          | (6.5                       | )          | (7.8 | ) | (6.3 | ) |
|                           |       |                     |       |                       |       |   |   |   |   |
| Net  loss                      |       | (11.4                    | )%         | (13.0                      | )%         | (12.1 | )% | (15.4 | )% |

 

Certain percentage amounts do not sum due to rounding.

 

**Critical Accounting Policies**

 

Our critical accounting policies are those that require significantjudgment.  There have been no materialchanges to the critical accounting policies previously reported in our 2008Annual Report on Form 10-K filed with the Securities and ExchangeCommission on March 19, 2009.

 

**Resultsof operations****for the thirteen weeks ended June 30, 2009 and June 24, 2008**

 

**Revenue**

 

We generated $22,101,365 and$25,098,840 of revenue during the second quarter of 2009 and 2008, respectively.  The decrease in revenue of 11.9% for thesecond quarter of 2009 compared to 2008 was primarily the result of a decreasein guest traffic of approximately 7.5%. The second quarter of 2009 included 338 restaurant operating weeks whilethe same period in 2008 included 325 operating weeks.  Comparable restaurant revenue, which includedrestaurants in operation over 18 months, decreased 13.2% from the secondquarter of 2008 to the second quarter of 2009 partially due to a decrease inguest traffic of approximately 8.6%, which we believe was caused primarily bythe macroeconomic factors affecting the restaurant industry in general.  Average 

 

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weeklyrevenue per comparable restaurant decreased $10,500 from $79,730 in the secondquarter of 2008 to $69,230 in the second quarter of 2009.

 

During the first half of fiscal years 2009 and 2008,we generated revenue of $43,526,066 and $49,118,323, respectively. The 11.4% decrease in first half revenue was primarily the result of adecrease in guest traffic of approximately 9.3%.  The first half of 2009 included 670restaurant operating weeks while the same period in 2008 included 635 operatingweeks.  Comparable restaurant revenue,which included restaurants in operation over 18 months, decreased 12.7% fromthe first half of 2008 to the first half of 2009 primarily due to a decrease inguest traffic of approximately 9.3%. Average weekly revenue per comparable restaurant decreased $10,006 from$78,704 in the first half of 2008 to $68,698 in the first half of 2009.

 

We expect that restaurantrevenue will vary from quarter to quarter. We anticipate continued seasonal fluctuations in restaurant revenue duein part to increased outdoor seating and generally favorable weather conditionsat many of our locations during the summer months.  Due to the honeymoon effect that periodicallyoccurs with the opening of a restaurant, we expect the timing of new restaurantopenings to cause fluctuations in restaurant revenue.  Additionally, other factors outside of ourcontrol, such as inclement weather, timing of holidays, consumer confidence inthe economy and changes in consumer preferences may affect our futurerevenue.  We believe that the decreasedconsumer confidence that has negatively impacted the restaurant industry as awhole beginning in 2007 has continued through at least the second quarter of2009.  Overall industry trends have beenslightly worse in the second quarter of 2009 compared to 2008.

 

**Restaurant costs**

** **

***Foodand beverage***

** **

Our food and beverage costs, as a percentage of revenue,decreased 2.9% to 27.4% in the second quarter of 2009 from 30.3% in the secondquarter of 2008.  Such costs decreased3.5% as a percentage of revenue to 27.3% in the first half of 2009 from 30.8%in the first half of 2008.  Pricingnegotiations with our suppliers, a menu price increase of approximately 4.0% inMarch 2008 and improved oversight of inventory and kitchen managementcontributed to this decrease.

 

Due to the number ofrestaurants we now operate throughout the Midwest, we were able to contract formany of the food commodities we use in our restaurants for periods up to oneyear.  Based on several new contractsentered into in the later part of 2008, we believe we will be able to maintainor further reduce our food and beverage costs as a percentage of revenue for2009 by reducing our exposure to commodity price increases.  We do, however, expect that our food andbeverage costs will continue to vary going forward due to numerous variables,including seasonal changes in food and beverage costs for which we do not havecontracted pricing and guest preferences. We periodically create new menu offerings and introduce new craft brewedbeers based upon guest preferences. Although such menu modifications may temporarily result in increasedfood and beverage cost, we believe we are able to offset such increases withour weekly specials which provide variety and value to our guests.  Our varieties of craft brewed beer, which webelieve we can produce at lower cost than beers we purchase for resale, alsoenable us to keep our food and beverage costs low while fulfilling guestrequests and building customer loyalty. We expect food and beverage costs at our newer restaurants to be higherinitially due to inefficiencies that are part of the start-up process of a newrestaurant.  Additionally, with futureexpansion, we believe our brewing process will allow us to keep our highquality beer products intact while leveraging our fixed production costs,thereby enhancing overall profitability.

 

***Labor***

 

Labor expense consists ofrestaurant management salaries, hourly staff payroll costs, other payroll-relateditems including management bonuses, and non-cash stock-based compensationexpense.  Our experience to date has beenthat staff labor costs associated with a newly opened restaurant, forapproximately its first four to six months of operation, are greater than whatcan be expected after that time, both in aggregate dollars and as a percentageof revenue.

 

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Our labor costs, as apercentage of revenue, decreased 2.2% to 34.8% in the second quarter of 2009from 37.0% in the second quarter of 2008. Such costs decreased 3.0% as a percentage of revenue to 35.0% in thefirst half of 2009 to 38.0% in the first half of 2008.  As our new restaurants began to stabilize andwe trained new managers on a number of operational metrics and initiativesfocused on manager accountability and internal development of restaurant-levelstaff, we were able to reduce labor costs as a percentage of revenue.

 

Weexpect that labor costs will vary as minimum wage laws, local labor laws andpractices, as well as unemployment rates vary from state to state, as willhiring and training expenses.  We believethat retaining good employees and more experienced staff ensures high qualityguest service and may reduce hiring and training costs.

 

***Direct restaurant operating***

 

Operating supplies, repairsand maintenance, utilities, promotions and restaurant-level administrativeexpense represent the majority of our direct restaurant operating expense, asubstantial portion of which is fixed or indirectly variable.  Our direct restaurant operating expense as apercentage of revenue increased 0.2% to 14.3% in the second quarter of 2009from 14.1% in the second quarter of 2008. Such costs increased 0.2% as a percentage of revenue to 14.6% in thefirst half of 2009 from 14.4% in the first half of 2008.  While such increases as a percentage ofrevenue were due in part to a smaller revenue base, increases in repair andmaintenance, credit card fees and marketing were offset, in part, by thedecrease in utilities and the reduced cost of certain supplies.

 

We continue to seek ways toreduce our direct operating costs going forward by continuing to renegotiate pricingon all aspects of these costs.  While westarted seeing the effects of previously renegotiated operating items in late2008, we believe we will see the full benefit of the resulting cost reductionsthroughout 2009.

 

***Occupancy***

 

Our occupancy costs, whichinclude both fixed and variable portions of rent, common area maintenancecharges, property insurance and property taxes, increased 0.7% as a percentageof revenue to 7.1% in the second quarter of 2009 from 6.4% in the secondquarter of 2008.  Such costs increased0.8% as a percentage of revenue to 7.2% in the first half of 2009 from 6.4% inthe first half of 2008, due primarily to a smaller revenue base.  While property and casualty insurancedecreased slightly, it was offset by an increase in common area maintenanceexpense and property tax.  Included inour rent expense is the difference between our current rent payments andstraight-line rent expense over the initial lease term.  As such, occupancy costs included non-cashrent expense of $294,241 and $128,513 in the first half of 2009 and 2008,respectively.  The $165,728 increase innon-cash rent expense was due primarily to the rent reductions provided byDunham and certain of our other landlords. While our occupancy cost is expected to continue to change as a resultof the Master Agreement entered into with the Dunham Entities in 2009, theoverall effect of these changes is still evolving as the parties are assessingrestaurant-by-restaurant lease reductions as well as changes in the terms of theleases.

 

**Pre-o****pening**

 

Pre-opening costs, which areexpensed as incurred, consist of expenses related to hiring and training theinitial restaurant workforce, wages and expenses of our dedicated newrestaurant opening teams, rental costs incurred during the construction periodand certain other direct costs associated with opening new restaurants.  Pre-opening costs, excludingconstruction-period rent, are primarily incurred in the month of, and twomonths prior to, restaurant opening.

 

Pre-opening costs decreased$618,812 to $211,262 in the first half of 2009 from $830,074 in the first halfof 2008.  Included in such expense in thefirst half of 2009 were expenses related to the opening of our restaurant inIndianapolis, Indiana.  Pre-openingexpenses incurred in the first half of 2008 were related primarily to therestaurants we opened in St. Louis, Missouri; Ft. Wayne, Indiana; and Toledo,Ohio.

 

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**General and administrative**

 

General and administrativeexpense includes all salaries and benefits, including non-cash stock-basedcompensation, associated with our corporate staff that is responsible foroverall restaurant quality, future expansion into new locations, financialcontrols and reporting, restaurant management recruiting, management training,excess capacity costs related to our beer production facility, and salaries andexpenses of our new restaurant opening team when it is not dedicated to aparticular restaurant opening.  Othergeneral and administrative expense includes advertising, professional fees,investor relations, office administration, centralized accounting system costsand travel by our corporate management.

 

General and administrativeexpense decreased $349,623 to $2,430,751 in the second quarter of 2009 from$2,780,374 in the second quarter of 2008. Such expenses decreased $976,276 to $4,495,067 in the first half of 2009from $5,471,343 in the first half of 2008. As a percentage of revenue, general and administrative expensesdecreased 0.1% in the second quarter of 2009 and 0.8% in the first half of 2009over the respective periods in 2008.  Theprimary sources of such decreases were expenses related to recruiting,relocation, training and consulting costs, compensation and travelexpense.  Such decreases were offset inpart by increased consulting and professional fees as well as marketingexpense.  Non-cash stock basedcompensation included in general and administrative expense was $81,343 and$222,256 in the first half of 2009 and 2008, respectively.  We incurred approximately $479,000 and$501,000 in restructuring costs and legal costs related to restructuring duringthe second quarter and first half of 2009, respectively.  If we successfully restructure and obtain adequate cash fromoperations and/or financing, we believe we can avoid curtailing or reducing thescale of our operations.

 

We continue to seek ways to reduce our general and administrativeexpenses by continuing to renegotiate pricing with our vendors.  While we started seeing the effects ofpreviously renegotiated general and administrative costs, we will closelymonitor and attempt to further reduce these expenses while seeking to preservean infrastructure that remains suitable for our current operations and futureexpansion.  Although we may need torecruit additional personnel to provide continued oversight of operations, weexpect our turnover ratios for 2009 to return to levels more consistent withthe industry, allowing us to reduce our costs. To the extent our turnover increases above our expectations, additionalcosts above our budgeted figures could be incurred in our recruiting and trainingexpenses.  We believe our general andadministrative expense and our general and administrative expense as apercentage of revenue will decrease throughout 2009.

 

**Depreciation and amortization**

 

Depreciation andamortization expense increased $114,728 to $1,728,140 in the second quarter of2009 from $1,613,412 in the second quarter of 2008.  Such expense increased $259,660 to $3,434,717in the first half of 2009 from $3,175,057 in the first half of 2008, dueprincipally to the additional depreciation related to new restaurants.  As a percentage of revenue, depreciationexpense increased 1.4% to 7.9% in the first half of 2009 from 6.5% in the firsthalf of 2008, due in part to a smaller revenue base.

 

**Exit or disposal activities**

 

In August 2008, we closed our Rogers, Arkansas restaurant.  Since opening in October 2007, therestaurant failed to generate positive cash flow and had approximately $1.4million of net loss.  We believe theclosure of this restaurant will allow management to focus its capital andpersonnel resources on our other restaurants in order to increase futureoperating efficiencies and cash flow.  Weare working to find a replacement tenant for the location, for which we arebound by a 20-year net lease.  Costsincurred in the second quarter and first half of 2009 in connection with thisclosure include costs to maintain the facility of approximately $136,431 and$269,427, respectively.  We will incurongoing costs such as utilities, landscape and maintenance and generalliability insurance until we are able to find a replacement tenant. Inaccordance with the requirements of SFAS No. 146, *Accountingfor Costs Associated with Exit or Disposal Activities,* we recorded anon-cash lease termination liability of $852,146 based on management’s estimateof the fair value of these obligations. This required management to estimate the present value of the futureminimum lease obligations offset by the estimated sublease rentals that couldbe reasonably obtained for the property. During the first half of 2009, amortization of this sublease liabilityoffset exit or disposal activities expense by $9,887.   All costs related to the

 

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closingof the Rogers restaurant, including lease payments, are reflected in ourstatements of operations as “exit or disposal activities”.  As of June 30, 2009, our annual leasepayments for the Roger’s site were $405,000 and our ongoing costs to maintainthe property were approximately $10,500 per month.  As of June 30, 2009, our undiscountedcash payments under the terms of this 20-year lease were approximately $7.5million.

 

As part of the Master Agreement we entered into with the DunhamEntities in February 2009, we agreed to reimburse Dunham for anyout-of-pocket expenses incurred, reduced by net proceeds from the sale of thereal estate or lease income associated with the Rogers, Arkansas site and thesite at Troy, Michigan upon which we decided not build a restaurant.  We have concluded that as of June 30,2009, it is probable we will need to reimburse Dunham approximately $342,000 ofsuch costs related to the Troy, Michigan site and have included such costs in “exitor disposal activities” on our statement of operations for the first quarter of2009 pursuant to SFAS No. 5,*Accountingfor Contingencies*.  As of June 30,2009, the carrying cost of the land approximated $15,500 per month.  Reimbursement of costs related to thesesites, including the carrying cost of the related land, will be amortized andpayable to Dunham over a 60-month period commencing January 2011, at a 6%annual interest rate.  The actual amountdue Dunham could fluctuate due to changes in the economy.

 

**Interest**

 

Net interest expense consists of interest expense on capital leases andlong-term debt, net of interest earned from cash on hand.  Interest expense increased $100,356 to$1,751,482 in the second quarter of 2009 from $1,651,126 in the second quarterof 2008.  Such expense increased $242,487to $3,382,440 in the first half of 2009 from $3,139,953 in the first half of2008 due to additional capital leases as a result of new restaurants.  Interest income decreased $9,928 in thesecond quarter of 2009 and $23,638 in the first half of 2009 over therespective periods in 2008 due to the reduction of cash on hand.

 

**Liquidity and capital resources**

 

As of June 30, 2009, we had $1,934,999 of cash and a workingcapital deficit of $9,568,626 compared to $2,652,411 of cash and a workingcapital deficit of $7,809,664 at December 30, 2008.  In June 2009, we announced the hiring ofMorrisAnderson in an effort to restructure our debt and leases.  Since that time, we have been maintainingsufficient cash for operations by reducing or withholding payments to our landlordsduring our negotiations with the landlords and satisfying such obligations asnecessary to avoid disruption of restaurant operations.  If the restructuring effort is not successfulor sufficient to restore our debt to a level necessary to allow us to be cashflow positive at our current level of revenue, we will be required to seekfurther funding for operations during 2009.

 

During the twenty-six weeks ended June 30,2009, we obtained proceeds of $1,800,000 pursuant to a sales-leaseback capitallease agreement and a loan agreement and made payments aggregating $1,261,856on our debt and capital lease obligations. We used $647,283 of net cash in operating activities and $608,273 of netcash to purchase equipment and other assets.

 

During the twenty-six weeksended June 24, 2008, we used $3,766,418 of net cash in operatingactivities and $2,649,239 of net cash to purchase equipment and other assetsprimarily related to the restaurants we opened in the first quarter of 2008 andour restaurant in South Bend, Indiana. We made payments aggregating $929,105 onour debt and capital lease obligations, received $4.0 million in proceeds fromcapital lease obligations and received $34,486 of net cash through the exerciseof stock options.  During the first andsecond quarters of 2008, our cash used in operations was $2,722,787 and$1,043,631, respectively.  The decreasein cash used in operations was primarily the result of the reduction of costsof sales as a percentage of revenue to 87.9% in the second quarter of 2008compared to 91.6% in the first quarter of 2008.

 

In February 2009, weentered into a Master Agreement with the Dunham Entities to provide rent orother cash flow reductions to us in the amount of $2.5 million for the calendaryear 2009 and $1.5 million for calendar year 2010.  The Master Agreement provides that the DunhamEntities will amend and restate applicable leases and subleases to reflectnegotiated rent reductions.  As a part ofthe Master Agreement, Dunham has agreed to amend its leases with us that arecurrently treated as capital leases for accounting purposes by reducing theirterms 

 

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toperiods which will thereafter qualify the leases to be treated as operatingleases in accordance with generally accepted accounting principles.  Each lease will be modified for a term of notless than 10 years and will provide that the tenant will have three consecutiveoptions to extend the leases for five years per extension.  As of June 30, 2009, we had not reachedagreements with Dunham as to the amendments of any leases due primarily to thelevel of concessions to be assigned to each property, as well as thedetermination of the value of each property in a fluctuating real estateenvironment.  As such, we have not madechanges to the classification or accounting for these leases.  In consideration of the agreements of Dunhamprovided in the Master Agreement, we agreed to issue to the Dunham Entities awarrant to purchase 1,000,000 shares of our common stock at an exercise priceof $0.264 per share, representing 110% of the closing price of our common stockon the trading date prior to the date of signing the Master Agreement.

 

Subsequently, we enteredinto agreements with certain of our other landlords for rent reductions.  Such rent reductions are deemed to be part ofthe above-referenced $4.0 million in rent reductions.  In consideration of such rent reductions, wehave issued five-year warrants to purchase our common stock to suchlandlords.  Each warrant is exercisableat 110% of the closing price of our common stock on the trading date prior tothe date on which we received the executed rent relief agreement, and areissued only to accredited investors.  Asof June 30, 2009, the aggregate number of shares underlying such warrantswas 196,070 shares and the weighted average exercise price was $0.27 per share.

 

During the first quarter of 2009, we financed the equipment at two ofour restaurants, aggregating approximately $2.0 million, under the terms andconditions of the equipment lease commitment we entered into with DHW in December 2007.  Of such financing, $1.0 million was theresult of a sale-leaseback transaction with DHW for which we received cashproceeds

 

InMarch 2009, we entered into a bridge loan agreement with a group ofaccredited investors to provide $1.0 million of partially convertible debtfinancing.  The bridge loan is evidenced by notes bearing interest at 9.0%per annum, payable in six equal monthly installments commencing on May 1,2010 and due in full on October 1, 2010.  The notes are secured by amortgage against the lease, and security agreements against personal propertyand intangibles relating to our Sioux Falls, South Dakota restaurant, includinga grant of the rights to use patents, trademarks and other intangiblesassociated with that restaurant.  The bridge loan was funded to the extentof $800,000 on March 30, 2009, with the balance of the bridge loan to befunded by the end of May 2009, pursuant to an amendment to the agreementdated April 30, 2009.  We haveentered into amendments with Harmony to extend the date for the balance of thefunding to September 30, 2009.  Upto 20% of each bridge note may be converted into common stock at a conversionprice equal to $0.50 per share.  At June 30, 2009, we had not met theminimum consolidated revenue required**.**  Harmony has agreed to waive the consolidatedrevenue covenant requirement and agreed to defer the July 2009 interestpayment until the maturity date of the loans. In addition, we agreed to issue to the investors warrants for thepurchase of an aggregate of 400,000 shares of common stock exercisable sixmonths after date of issuance at a price of $0.25267 per share, or 110% of theclosing price of our stock on March 30, 2009.  As of June 30, 2009, warrants topurchase an aggregate of 320,000 shares of common stock had been issued to suchinvestors.

 

The lead investors in the transaction were Harmony Equity Income Fund,L.L.C. and Harmony Equity Income Fund II, L.L.C.  Our Chairman, Eugene E.McGowan, is a member of, and has a beneficial interest in, both of the Harmonyfunds.  Our Board of Directors hasauthorized us to borrow up to an aggregate of $3.0 million under the terms ofthe bridge loan agreement, which provides that the investors may, but are notobligated to, make additional loans on substantially the same terms andconditions, including a similar pledge of collateral related to either our St.Cloud, Minnesota, or Fargo, North Dakota restaurants.

 

Duringthe first six months of operations in 2009, we did not meet our internal budgetprimarily due to declining revenue.  In June 2009,we announced the hiring of MorrisAnderson in an effort to restructure our debtand leases.  If this effort is notsuccessful or sufficient to restore our debt to a level necessary to allow usto be cash flow positive at our current level of revenue, we will be requiredto seek further funding for operations during 2009.  We would be required to raise such fundsthrough the incurrence of indebtedness or public or private sales of equitysecurities, which may be dilutive to shareholders.  The amount of any such required

 

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fundingwould depend upon sales trends and our ability to generate positive cashflow.  We anticipate that we will need toraise additional funds for future expansion depending upon the level ofexpansion determined to be appropriate in later years as compared to our thecash flow.  If we are unable torestructure our debt and leases, if cash flow from operations upon a successfulrestructuring and other sources of liquidity are insufficient to fund expectedcapital needs, or if our needs are greater than anticipated, our business andresults of operations could be materially and adversely affected.

 

Our ability to fund ouroperations in future periods will depend upon our future operating performance,and more broadly, achieving budgeted revenue and on the availability of equityand debt financing, all of which will be affected by prevailing economicconditions in our industry and financial, business and other factors, which maybe beyond our control.  We cannot assureyou that we will obtain financing on favorable terms or at all.  If we elect to raise additional capitalthrough the issuance and sale of equity securities, the sales may be at pricesbelow the market price of our stock, and our shareholders may suffersignificant dilution.  Debt financing, ifavailable, may involve significant cash payment obligations, covenants andfinancial ratios that restrict our ability to operate and grow our business,and would cause us to incur additional interest expense and financing costs.

 

**Commitments**

 

*Capital****Lease:*

* *

As of June 30, 2009, wehad 24 capital lease agreements related to our restaurant properties.  Of these leases, one expires in 2020, two in2023, four in 2024, three in 2025, four in 2026, seven in 2027, two in 2028 andone in 2029, all with renewable options for additional periods.  Twenty-two of these lease agreementsoriginated with Dunham.  Under certain ofthe leases, we may be required to pay additional contingent rent based uponrestaurant sales.  At the inception ofeach of these leases, we evaluated the fair value of the land and buildingseparately pursuant to the guidance in SFAS No. 13, *Accountingfor Leases. *The land portionof these leases is classified as an operating lease while the building portionof these leases is classified as a capital lease because its present value wasgreater than 90% of the estimated fair value at the beginning of the leaseand/or the lease term represents 75% or more of the expected life of theproperty.  In August 2009, we enteredinto amended lease agreements with certain of our landlords.  While the payment terms of the lease werechanged in each amendment, in no case did the classification or accountingtreatment of the lease change.  Theresulting changes to future minimum lease payments are reflected in our summaryof contractual obligations below.

 

In December 2004, weentered into a land and building lease agreement for our beer production facility.  This ten-year lease, which commenced February 1,2005, allows us to purchase the facility at any time for $1.00 plus theunamortized construction costs.  Becausethe construction costs will be fully amortized through payment of rent duringthe base term, if the option is exercised at or after the end of the initialten-year period, the option price will be $1.00.  As such, the lease is classified as a capitallease.

 

In August 2006, weentered into a master lease agreement with Carlton Financial Corporation (“Carlton”)pursuant to which we could “finance lease” up to $3.0 million of equipmentpurchases for three restaurant locations. As of March 31, 2009, we had entered into three lease schedules andamendments to this master lease, pursuant to which we began leasing equipmentfor an initial lease term ranging from 36 to 39 months.  The value of the equipment financed at eachof the three locations is approximately $1.0 million and the annual interestrate on each ranges from 12.9% to 19.6% annually.  We have provided Carlton with refundablesecurity deposits aggregating $251,165 as well as a security interest incertain other equipment.  In February 2009, these lease scheduleswere amended to extend the terms by one year and reduce the monthly paymentsrelated to two of the lease schedules. At the end of each initial lease term, we may, under the amended leaseschedules, purchase Carlton’s interest in all, but not less than all, of theequipment for a purchase price equal to 15% of the original cost of theequipment.  Steven J. Wagenheim, ourpresident, chief executive officer and one of our directors, was required topersonally guarantee payments to be made to Carlton under the lease financingand our board of directors agreed to compensate him for such guarantee.  The amount of annual compensation is 3% ofthe balance of such leases and is calculated and accrued based on the weightedaverage daily balance of the leases at the end of each monthly accounting period.

 

As of June 30, 2009,DHW had purchased and leased to us equipment costing $16.0 million under theEquipment Lease we entered into with DHW, relating to the lease of furniture,fixtures and equipment for our 

 

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restaurants.  Under the terms of the Equipment LeaseCommitment, each five-year lease with DHW is for equipment costingapproximately $1.0 million per restaurant and the annual interest rate on eachlease ranges from 10.3% to 12.3%. Payments due DHW have an annual interest rate equal to the DHW bank baserate plus 4.8%.  Principal payments onthe amounts borrowed depend upon the repayment schedule specified by the banksthat have provided the financing commitments to DHW.  We have the option to purchase the leasedequipment for $1.00 upon payment in full of all rent payments due under eachlease. While Mr. Wagenheim owns a 20% membership interest in DHW and hasagreed to personally guarantee 20% of DHW’s indebtedness to its lenders, hewill not receive a guarantee fee or other payment in connection with this DHWfinancing.

 

In June 2007, weentered into a lease for an energy optimization system at our Maple Grove,Minnesota restaurant for approximately $30,000. This five-year lease commenced June 28, 2007, carries an annualinterest rate of approximately 11.9% and contains a bargain purchase option.

 

*Operating****Lease:*

* *

The land portions of the 24property leases referenced above, 22 lease agreements of which originated withDunham, are classified as operating leases because the fair value of the landwas 25% or more of the leased property at the inception of each lease.  All scheduled rent increases for the landduring the initial term of each lease are recognized on a straight-linebasis.  In addition to such propertyleases, we have obligations under the following operating leases:

 

In January 2001, weentered into a 20-year operating lease for the land upon which we built ourFargo, North Dakota restaurant.  Underthe lease terms, we are obligated to annual rent of $72,000 plus contingentrent based upon restaurant sales.

 

In August 2005, weentered into a 38-month lease agreement for office space for our corporateoffices.  The lease commenced October 1,2005.  In November 2007, we enteredinto an amendment to such lease to include additional space commencing December 1,2007.  Pursuant to the amended lease,which expires in November 2011, annual rent is $96,613 with scheduledannual increases throughout the term of the lease.  Such scheduled rent increases are recognizedon a straight-line basis over the term of the lease.

 

In March 2006, weentered into a lease agreement for the land and building for our St. LouisPark, Minnesota restaurant.  Rentalpayments for this lease are $148,625 annually. This operating lease expires in 2016 with renewal options for additionalperiods.

 

In August 2008, weceased operations at our restaurant in Rogers, Arkansas.  However, we are currently bound by the termsof the 20-year net lease agreement entered into in 2007 under the termsspecified in the development agreement with Dunham.  Pursuant to the Master Agreement with theDunham Entities described above, we will reimburse Dunham for any out-of-pocketexpenses incurred less net proceeds from the sale of the real estate or leaseincome associated with this site.  Thebuilding portion of this lease is classified as a capital lease, while the landportion is classified as an operating lease (see Notes 3 and 9 to our condensedconsolidated financial statements).

 

In August 2009, we enteredinto an agreement to terminate the lease for a facility in Minneapolis,Minnesota which we used as a test kitchen. This operating lease, which was to expire in October 2011, willterminate effective August 20, 2009. Pursuant to the termination agreement, we are required to pay rentthrough August 2009 plus an additional $11,064, which is equivalent to threemonths of lease payments.

 

*Personal Guaranties and Guarantee Fees:*

* *

One of our directors and oneformer director have personally guaranteed certain of our leases and loanagreements.  Our board of directors hasagreed to compensate Steven J. Wagenheim, our president, chief executiveofficer and one of our directors, for his personal guaranties of equipmentloans entered into in August 2003, January 2004 and August 2006.  The amount of annual compensation for each ofthese guarantees is 3% of the balance of the obligation and is calculated andaccrued based on the weighted average daily balance of the 

 

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obligationat the end of each monthly accounting period. During the first half of 2009 and 2008, we recorded $33,576 and $49,731 of such compensation ingeneral and administrative expense, respectively.  We paid no such compensation in the firsthalf of 2009 and paid $30,000 of such compensation in the first half of 2008.

 

*In December 2007,we entered into an Equipment Lease Commitment and Master Equipment Lease withDHW, relating to the lease of furniture, fixtures and equipment for current andfuture restaurants.  While Mr. Wagenheimowns a 20% membership interest in DHW and has agreed to personally guarantee20% of DHW’s indebtedness to its lenders, his participation in the income andprofits of DHW may not exceed 3% of the average principal balance of the amountguarantied for the term of the guarantied debt. Furthermore, Mr. Wagenheim will not receive a guarantee fee orother payment from our company in connection with the equipment lease financingfrom DHW.*

* *

*Employment Agreements:*

* *

*In June 2005,we entered into a three-year employment agreement with Steven J. Wagenheim, ourpresident and chief executive officer, who also is one of our directors.  In April 2007, we amended thecompensatory arrangements under the agreement to provide for an annual basesalary of $300,000, commencing April 1, 2007.  Mr. Wagenheim’s annual non-equity incentivecompensation ranges from $0 to $197,400 based on performance.  In addition to annual compensation terms andother provisions, the agreement includes change in control provisions thatwould entitle Mr. Wagenheim to receive severance pay equal to 18 monthsof salary if there is a change in control of our company and his employmentterminates.  Mr. Wagenheim hasagreed to certain nondisclosure provisions during the term of his employmentand any time thereafter, and certain noncompetition and nonrecruitmentprovisions during the term of his employment and for a period of one yearthereafter.  Our company and Mr. Wagenheimhave agreed to continue operating under the terms of this agreement, which wasamended in December 2008 to comply with the requirements of Section 409Aof the Internal Revenue Code, until such time as a new agreement becomeseffective.*

* *

In November 2007, weentered into an employment agreement with James G. Gilbertson providing for hisemployment as our chief financial officer on an at-will basis at an annual basesalary of $225,000.  He is entitled toparticipate in performance-based cash bonus or equity award plans for seniorexecutives based upon goals established by our board or compensation committeeafter reasonable consultation with Mr. Gilbertson.  He may be eligible to receive a bonus of upto 50% of his base salary.  We alsogranted to Mr. Gilbertson a stock option for the purchase of 175,000shares of common stock, vesting over a two-year period, upon the commencementof his employment.  The employmentagreement provides for provisions for termination with and without cause by usand for good reason by Mr. Gilbertson and for the payment of a severancepayment equal to 12 months of base salary upon termination of employmentresulting from a change of control of our company, or if Mr. Gilbertson isterminated without cause.  The employmentagreement contains other customary terms and conditions.  Mr. Gilbertson’s employment agreementalso was amended in December 2008 to comply with the requirements of Section 409Aof the Internal Revenue Code.

 

In December 2008, weentered into an employment and severance agreement with Darius H. Gilanfarproviding for his continued employment as Chief Operating Officer on an at-willbasis at an annual base salary of $202,860. He also is entitled to participate in employee benefit plans, policies,programs, perquisites and arrangements that are provided generally to similarlysituated executive employees of our company. The employment agreement provides for provisions for termination withand without cause by us and for good reason by Mr. Gilanfar and for thepayment of a severance payment equal to 12 months of base salary upontermination of employment resulting from a change of control of our company, orif Mr. Gilanfar is terminated without cause.  In addition to theseverance payment, we would pay Mr. Gilanfar a pro-rated bonus due himpursuant to any bonus plan or arrangement in which he participates at the timeof the termination of his employment.  Such bonus would be reduced by theamount of cash severance benefits to which Mr. Gilanfar may be entitledpursuant to any other cash severance plan, agreement, policy or program.  In addition, Mr. Gilanfar has agreed tocertain nondisclosure provisions during the term of his employment and any timethereafter, and certain non-competition and non-recruitment provisions duringthe term of his employment and for a period of 12 months thereafter.

 

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* *

*Development Agreement*:

* *

In April 2008, we enteredinto a development agreement with United Properties for the development of upto 22 restaurants to be built between 2009 and 2012.  United Properties will be responsible for allcosts related to the land and building of each restaurant.  The development agreement provides fora cooperative process between United Properties and our management for theselection of restaurant sites and the development of restaurants on those sitesand scheduling for the development and construction of each restaurant once alocation is approved.  The annual lease rate for fee-simple land andbuilding developments will be 9.5% and we will have the right of first offer topurchase these restaurants. Additionally, in the event United Properties sells one of the buildingsthat it develops for us at an amount in excess of the threshold agreed to bythe parties in the agreement, then we will share in the profits of thatsale.  We assume no liability in theevent United Properties sells a building at a loss.  We are not bound to authorize theconstruction of restaurants during that time period, but generally cannot useanother developer to develop or own a restaurant as long as the developmentagreement is in effect.  We can, however,use another developer if United Properties declines to build a particularrestaurant.  In addition, we have alsoagreed to refrain from developing any new restaurants in the remainder of 2009without the consent of the Dunham Entities (which will not be unreasonablydelayed or withheld).

 

*Off- balance sheet arrangements:*

 

It is not our business practice to enter intooff-balance sheet arrangements.

 

*Summary of contractual obligations:*

 

Thefollowing table summarizes our obligations under contractual agreements and thetime frame within which payments on such obligations are due.  This table includes changes to leasecommitments commencing after June 30, 2009 (see Note 13).  This table does not include amounts relatedto contingent rent as such future amounts are not determinable.  In addition, whether we would incur anyadditional expense on our employment agreements depends upon the existence of achange in control of the company or other unforeseeable events.  Therefore, neither contingent rent norseverance expense has been included in the following table.

 
| ** **                                       | ** ** | **Payments due by period** | ** **  |
|--------------------------------------------------|------------|----------------------------|-------------|
| **Contractual Obligations**                      | ** ** | **Total**                  | ** **  | **Fiscal Year  2009** | ** ** | **Fiscal Years  2010-2011** | ** ** | **Fiscal Years  2012-2013** | ** ** | **Fiscal Years  Thereafter** | ** ** |
| Long-term  debt, principal                       |       | $                          | 2,600,186   |   | $ | 160,520 |   | $ | 2,201,600 |   | $ | 8,880 |   | $ | 229,186 |   |
| Interest  on long-term debt                      |       | 644,259                    |        | 137,017 |   | 314,895 |   | 37,429 |   | 154,919 |   |
| Capital  lease obligations, including interest   |       | 135,432,814                |        | 5,376,766 |   | 20,421,321 |   | 22,265,453 |   | 87,369,274 |   |
| Operating  lease obligations, including interest |       | 63,979,836                 |        | 1,469,228 |   | 6,856,801 |   | 7,397,313 |   | 48,256,494 |   |
| Loan  guarantee                                  |       | 162,713                    |        | 124,726 |   | 31,301 |   | 6,686 |   | — |   |
| Total  obligations                               |       | $                          | 202,819,808 |   | $ | 7,268,257 |   | $ | 29,825,917 |   | $ | 29,715,761 |   | $ | 136,009,873 |   |

 

Certain amounts donot sum due to rounding.

 

During the first six monthsof operations in 2009, we did not meet our internal budget primarily due todeclining revenue.  If our effort torestructure our debt is not successful or sufficient to restore our debt to alevel necessary to allow us to be cash flow positive at our current level ofrevenue, we will require further funding for operations during 2009.

 

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*Recent accounting pronouncements:*

 

Seethe “Recent accounting pronouncements” section of Note 1 to our condensedconsolidated financial statements for a summary of recent accounting standards.

 

**Seasonality**

 

We expect that our sales and earnings willfluctuate based on seasonal patterns.  Weanticipate that our highest sales and earnings will occur in the second andthird quarters due to the milder climate and availability of outdoor seatingduring those quarters in our markets.

 

**Inflation**

** **

Theprimary inflationary factors affecting our operations are food, supplies andlabor costs.  A large percentage of ourrestaurant personnel is paid at rates based on the applicable minimum wage, andincreases in the minimum wage directly affect our labor costs.  In the past, we have been able to minimizethe effect of these increases through menu price increases and otherstrategies.  To date, inflation has nothad a material impact on our operating results.

 

**ITEM 3**                   **Quantitative andQualitative Disclosures about Market Risk**

 

Our company is exposed tomarket risk from changes in interest rates on debt and changes in commodityprices.

 

*Changesin interest rates:*

 

Pursuantto the terms of our capital leases and long-term debt, we will have balloonpayments due over five years beginning in 2010. If it becomes necessary to refinance such balloon balances, we may notbe able to secure financing at the same interest rate.  The effect of a higher interest rate woulddepend upon the negotiated financing terms.

 

*Changes in commodity prices:*

 

Many of the food productsand other commodities we use in our operations are subject to price volatilitydue to market supply and demand factors outside of our control.  Fluctuations in commodity prices and/orlong-term changes could have an adverse effect on us.  These commodities are generally purchasedbased upon market prices established with vendors.  To manage this risk in part, we have enteredinto fixed price purchase commitments, with terms typically up to one year, formany of our commodity requirements.  Wehave entered into contracts through 2013 with certain suppliers of rawmaterials (primarily hops) for minimum purchases both in terms of quantity andin pricing.   As of June 30, 2009,our future obligations under such contracts aggregated approximately $1.3million.

 

Although a large nationaldistributor is our primary supplier of food, substantially all of our food andsupplies are available from several sources, which helps to control commodityprice risks.  Additionally, we have theability to increase menu prices, or vary the menu items offered, in response tofood product price increases.  If,however, competitive circumstances limit our menu price flexibility, marginscould be negatively impacted.

 

Ourcompany does not enter into derivative contracts either to hedge existing risksor for speculative purposes.

 

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**ITEM 4**                  **Controls and Procedures**

 

*Evaluationof disclosure controls and procedures*

 

We maintain a system ofdisclosure controls and procedures that is designed to ensure that informationrequired to be disclosed in our Exchange Act reports is recorded, processed,summarized and reported within the time periods specified in the SEC’s rules andforms, and that such information is accumulated and communicated to ourmanagement, including our Chief Executive Officer and Chief Financial Officer,as appropriate, to allow timely decisions regarding required disclosures.

 

Under the supervision and with theparticipation of our management, including our Chief Executive Officer andChief Financial Officer, we conducted an evaluation of our disclosure controlsand procedures (as defined in Exchange Act Rules 13a-15(e) and15d-15(e)). Based on this evaluation, our Chief Executive Officer and our ChiefFinancial Officer concluded that, as of June 30, 2009, our disclosurecontrols and procedures were effective.

 

*Changes in internal control over financial reporting*

 

There were no changes in our internal controlover financial reporting that occurred during the quarter ended June 30,2009 that have materially affected, or are reasonably likely to materiallyaffect, our internal control over financial reporting.

 

**PART II    OTHERINFORMATION**

 

**ITEM 1**                  **Legal Proceedings**

 

None.

 

**ITEM 1A**               **Risk Factors**

 

There have been no material changes with respect to the risk factorsdisclosed in our Annual Report on Form 10-K for the fiscal year ended December 30,2008, filed with the Securities and Exchange Commission on March 19, 2009,with the exception of the following:

 

**Ourstrategy of negotiating with our lessors to reduce or restructure rents undercurrent leases may adversely affect our relationships with these lessors, couldresult in the cancellation of leases, and subject us to damages, which couldmaterially adversely affect our business. **Since January 2009,we have engaged in discussions with our lessors in an effort to negotiatereduced rents and restructure leases to address the effects of the currenteconomic conditions, which have resulted in lower revenues for our company andin the casual dining industry nationwide. We have paid reduced rents in many cases as we continue to discuss new,reduced rent structures.  While paymentof reduced rents is a short-term strategy that has produced some positivediscussions and some agreements with lessors, we risk potential loss ofrestaurant locations, many of which are profitable to us on an operating unitlevel, if we are served with default notices and do not cure the relateddefault(s).  We risk losing profitablelocations if our cash flow does not permit us to cure defaults and we could besubject to damages in favor of lessors who may prevail in lawsuits followinglease cancellations.  The amount ofdamages, if any, to which we could be exposed is uncertain and would dependupon provisions of leases and whether lessors are able to lease any formerrestaurant locations.  The loss ofprofitable locations and the incurrence of any related damages could materiallyadversely affect our business.

 

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**ITEM 2**                  **Unregistered Sales of Equity Securities and Use of Proceeds**

 

None.

 

**ITEM 3**                  **Defaults upon Senior Securities**

 

None.

 

**ITEM 4**                  **Submission of Matters to a Vote of SecurityHolders**

 

Our2009 annual meeting of shareholders was held on June 23, 2009.  Two proposals were submitted for shareholderapproval, which passed with voting results as follows:

 

(1)           Election of Directors:

 
| ** **          | ** ** | **FOR**    | ** ** | **WITHHOLD** | ** ** |
|---------------------|------------|------------|------------|--------------|------------|
| Steven J. Wagenheim |       | 10,842,901 |       | 1,740,400    |       |
| Arthur E. Pew III   |       | 10,773,432 |       | 1,809,869    |       |
| James G. Gilbertson |       | 10,809,296 |       | 1,774,005    |       |
| Bruce H. Senske     |       | 10,862,997 |       | 1,720,304    |       |
| Eugene E. McGowan   |       | 10,862,590 |       | 1,720,711    |       |

 

(2)           To ratify the appointment of Schechter, Dokken,Kanter, Andrews & Selcer Ltd. as our independent registered publicaccounting firm for the fiscal year ending December 29, 2009.

 
| **FOR**    | ** ** | **AGAINST** | ** ** | **ABSTAIN** | ** ** | **BROKER NON-VOTE** | ** ** |
|------------|------------|-------------|------------|-------------|------------|---------------------|------------|
| 11,766,062 |       | 806,948     |       | 10,291      |       | 0                   |       |

 

**ITEM 5**                  **OtherInformation**

 

**Item 1.01.  Entry into a Material Definitive Agreement**

 

On August 10, 2009,Granite City Food & Brewery Ltd. (the “Company”) entered into anamendment to the bridge loan agreement dated March 30, 2009 with theinvestors therein (the “Amendment No. 4”) to extend the time period forthe closing of the $200,000 balance on the loan to September 30,2009.  The bridge loan provided for$1,000,000 of partially convertible debt financing to the Company, and wasdescribed in the Company’s Current Report on Form 8-K filed April 3,2009, which is incorporated herein by reference.  The Company has closed on $800,000 of thedebt.  The time period for the secondclosing was previously extended to the end of July 2009, as reported onthe Company’s Current Report on Form 8-K filed June 4, 2009.

 

The amendment to the bridge loan agreement,which appears as Exhibit 10.4 to this report, is incorporated by referenceherein.

 

**ITEM 6**                  **Exhibits**

 

See “Index to Exhibits.”

 

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**SIGNATURES**

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 

 
|                                   | GRANITE CITY  FOOD & BREWERY LTD. |
|----------------------------------------|--------------------------------------------|
|                                   |                                       |
|                                   |                                       |   |   |
| Date:  August 14,  2009 |                                       | By: | /s/ James G. Gilbertson |
|                                   |                                       | James G. Gilbertson |
|                                   |                                       | Chief Financial Officer |
|                                   |                                       | (As Principal Financial Officer and Duly Authorized  Officer of Granite City Food & Brewery Ltd.) |

 

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**INDEX TO EXHIBITS**

 
| **Exhibit** | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                               |
|-------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **Number**  | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                          |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 3.1         |       | Articles  of Incorporation of the Company, as amended (incorporated by reference to our  Quarterly Report on Form 10-QSB, filed on November 13, 2002 (File  No. 000-29643)).                                                                                                                                                                              |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 3.2         |       | Amended  and Restated Bylaws of the Company, dated May 2, 2007 (incorporated by  reference to our Current Report on Form 8-K, filed on May 4, 2007  (File No. 000-29643)).                                                                                                                                                                           |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 4.1         |       | Reference  is made to Exhibits 3.1 and 3.2.                                                                                                                                                                                                                                                                                                                              |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 4.2         |       | Specimen  common stock certificate (incorporated by reference to our Current Report on  Form 8-K, filed on September 20, 2002 (File No. 000-29643)).                                                                                                                                                                                                      |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.1        |       | Amendment  No. 1 to Bridge Loan Agreement by and between the Company, Granite City  Restaurant Operations, Inc. and Harmony Equity Income Fund, L.L.C.,  including the Amended Forms of Note and Warrant, dated April 22, 2009  (incorporated by reference to our Current Report on Form 8-K, filed on  May 6, 2009 (File No. 000-29643)). |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.2        |       | Amendment  No. 2 to Bridge Loan Agreement by and between the Company, Granite City  Restaurant Operations, Inc. and Harmony Equity Income Fund, L.L.C.,  dated April 30, 2009 (incorporated by reference to our Current Report on  Form 8-K, filed on May 6, 2009 (File No. 000-29643)).                                                   |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.3        |       | Amendment  No. 3 to Bridge Loan Agreement by and between the Company, Granite City  Restaurant Operations, Inc. and Harmony Equity Income Fund, L.L.C.,  dated May 29, 2009 (incorporated by reference to our Current Report on  Form 8-K, filed on June 4, 2009 (File No. 000-29643)).                                                    |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.4        |       | Amendment  No. 4 to Bridge Loan Agreement by and between the Company, Granite City  Restaurant Operations, Inc. and Harmony Equity Income Fund, L.L.C., dated  August 10, 2009.                                                                                                                                                                           |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 31.1        |       | Certification  by Steven J. Wagenheim, President and Chief Executive Officer of the Company,  pursuant to Exchange Act Rule 13a-14(a), as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                  |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 31.2        |       | Certification  by James G. Gilbertson, Chief Financial Officer of the Company, pursuant to  Exchange Act Rule 13a-14(a), as adopted pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                                                                                                                                |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 32.1        |       | Certification  by Steven J. Wagenheim, President and Chief Executive Officer of the Company,  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                       |
|        |       |                                                                                                                                                                                                                                                                                                                                                                     |
| 32.2        |       | Certification  by James G. Gilbertson, Chief Financial Officer of the Company, pursuant to  18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                                                                                                                                                                     |

 

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