FCCN has been on a slight rise from .018 to .045 and then closed yesterday at .032. This morning's 10q showed they had a net income last quarter of $117,826. This could be one to look at for a boosh. Here's the report:
Form 10QSB for FRANCHISE CAPITAL CORP.
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18-May-2005
Quarterly Report
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information contained in this section should be read in conjunction with the Selected Consolidated Financial and Other Data, the Selected Operating Data and our Consolidated Financial Statements and notes thereto appearing elsewhere in this Quarterly Report. This Quarterly Report, including the Management's Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements that involve substantial risks and uncertainties. These forward-looking statements are not historical facts, but rather are based on current expectations, estimates and projections about our industry, our beliefs, and our assumptions. Words such as "anticipates", "expects", "intends", "plans", "believes", "seeks", and "estimates" and variations of these words and similar expressions are intended to identify forward-looking statements. These statements are not guarantees of future performance and are subject to risks, uncertainties, and other factors, some of which are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements including without limitation (1) any future economic downturn could impair our customers' ability to repay our loans and increase our non-performing assets, (2)economic downturns can disproportionately impact certain sectors in which we concentrate, and any future economic downturn could disproportionately impact the industries in which we concentrate causing us to suffer losses in our portfolio and experience diminished demand for capital in these industry sectors, (3) a contraction of available credit and/or an inability to access the equity markets could impair our lending and investment activities, (4) interest rate volatility could adversely affect our results, (5) the risks associated with the possible disruption in the Company's operations due to terrorism and (6) the risks, uncertainties and other factors we identify from time to time in our filings with the Securities and Exchange Commission, including our Form 10-Ks, Form 10-Qs and Form 8-Ks. Although we believe that the assumptions on which these forward-looking statements are based are reasonable, any of those assumptions could prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also could be incorrect. In light of these and other uncertainties, the inclusion of a projection or forward-looking statement in this Quarterly Report should not be regarded as a representation by us that our plans and objectives will be achieved. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report.
OVERVIEW
Franchise Capital Corporation. is a solutions-focused financial services company providing financing and advisory services to small and medium-sized companies throughout the United States primarily in the restaurant franchising industry. Effective December 23, 2004, we became an internally managed, non-diversified, closed-end investment company that elected to be treated as a business development company under the Investment Company Act of 1940. Franchise Capital Corporation will not elect to be treated for federal income tax purposes as a regulated investment company under the Internal Revenue Code with the filing of its federal corporate income tax return for 2004.
PORTFOLIO COMPOSITION AND ASSET QUALITY
Our primary business is lending to and investing in businesses, primarily in the restaurant franchising industry, through investments in senior debt, subordinated debt and equity-based investments, including warrants and equity appreciation rights. Though we intend to increase our level of subordinated debt and equity-based investments, we expect a substantial majority of our portfolio will continue to consist of investments in portfolio companies. The total fair value of investments in non-publicly traded securities was $602,480 and $315,709 at March 31, 2005 and December 31, 2004, respectively (exclusive of unearned income).
The following table summarizes Franchise Capital Corporation's assets held and income from Majority Owned Companies, Controlled Companies and Other Affiliates:
March 31, December 31,
2005 2004
------- -------
ASSETS HELD:
Majority Owned Companies (a):
Investments in and advances to 799,244 619,099
Controlled Companies (b):
Other Affiliates (c):
Loans at fair value 0 0
Equity Investments at fair value 0 0
Nine Months Ended March 31,
2005 2004
------- -------
INCOME RECOGNIZED:
From Majority Owned Companies (a):
Interest and fee income $ 0 $ 0
From Controlled Companies (b):
From Other Affiliates (c): 1
Interest and fee income 0 0
Net change in unrealized appreciation
(depreciation) on investments 286,771 0
Realized losses on investments -- --
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(a) Majority owned companies are generally defined under the Investment Company Act of 1940 as companies in which Franchise Capital Corporation owns more than 50% of the voting securities of the company.
(b) Controlled companies are generally defined under the Investment Company Act of 1940 as companies in which Franchise Capital Corporation owns more than 25% but not more than 50% of the voting securities of the company.
(c) Other affiliates are generally defined under the Investment Company Act of 1940 as companies in which Franchise Capital Corporation owns at least 5% but not more than 25% of the voting securities of the company.
ASSET QUALITY
Asset quality is generally a function of our underwriting and ongoing management of our investment portfolio. As a business development company, our loans and equity investments are carried at market value or, in the absence of market value, at fair value as determined by our board of directors in good faith on a quarterly basis. As of March 31, 2005 and December 31, 2004, unrealized appreciation on investments totaled $259,758 and $0, respectively. For additional information on the change in unrealized depreciation on investments, see the section entitled "Reconciliation of Net Operating Income to Net Increase (Decrease) in Stockholders' Equity from Earnings".
We monitor loan concentrations in our portfolio, both on an individual loan basis and on a sector or industry basis, to manage overall portfolio performance due to specific customer issues or specific industry issues.
We monitor individual customer's financial trends in order to assess the appropriate course of action with respect to each customer and to evaluate overall portfolio quality. We closely monitor the status and performance of each individual investment on a quarterly and, in some cases, a monthly or more frequent basis. Because we are a provider of long-term privately negotiated investment capital to growth-oriented companies and we actively manage our investments through our contract structure, we do not believe that contract exceptions such as breaches of contractual covenants or late delivery of financial statements are necessarily an indication of deterioration in the credit quality or the need to pursue remedies or an active workout of a portfolio investment.
When a loan becomes 90 days or more past due, or if we otherwise do not expect the customer to be able to service its debt and other obligations, we will, as a general matter, place the loan on non-accrual status and cease recognizing interest income on that loan until all principal has been paid. However, we may make exceptions to this policy if the investment is well secured and in the process of collection.
As of March 31, 2005 and December 31, 2004, none of the loans to our other affiliates were on non-accrual status.
When principal and interest on a loan is not paid within the applicable grace period, we will contact the customer for collection. At that time, we will make a determination as to the extent of the problem, if any. We will then pursue a commitment for immediate payment and will begin to more actively monitor the investment. We will formulate strategies to optimize the resolution process and will begin the process of restructuring the investment to better reflect the current financial performance of the customer. Such a restructuring may involve deferring payments of principal and interest, adjusting interest rates or warrant positions, imposing additional fees, amending financial or operating covenants or converting debt to equity. In general, in order to compensate us for any enhanced risk, we receive appropriate compensation from the customer in connection with a restructuring. During the process of monitoring a loan that is out of compliance, we will in appropriate circumstances send a notice of non-compliance outlining the specific defaults that have occurred and preserving
our remedies, and initiate a review of the collateral. When a restructuring is not the most appropriate course of action, we may determine to pursue remedies available under our loan documents or at law to minimize any potential losses, including initiating foreclosure and/or liquidation proceedings.
OPERATING INCOME
Operating income includes interest income on commercial loans, advisory fees and other income. Interest income is comprised of commercial loan interest at contractual rates and upfront fees that are amortized into income over the life of the loan. Most of our loans contain lending features that adjust the rate margin based on the financial and operating performance of the borrower, which generally occurs quarterly.
The change in operating income from the nine months ended March 31, 2005 compared to the same period in 2004 is attributable to the following items: (Due to the conversion to a Business Development Company, effective December 23, 2005, the periods are not directly comparable.)
NINE MONTHS ENDED
MARCH 13, 2005
CHANGE DUE TO:
Asset growth $259,758
Increase in fee income 0
Interest and other income 8,881
Manufacturing income 0
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Total change in operating income $268,639
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Total operating income for the nine months ended March 31, 2005 increased $268,639 to $308,284 from $39,645 for the nine months ended March 31, 2005. Operating income for the three months ended March 31, 2005 increased $841,381, to $154,063 from $(687,318) for the three months ended March 31, 2005.
OPERATING EXPENSES
Operating expenses include interest expense on borrowings, including amortization of deferred debt issuance costs, employee compensation, and general and administrative expenses.
The change in operating expenses from the nine months March 31, 2005 compared to the same period in 2004 is attributable to the following items:
NINE MONTHS ENDED
MARCH 31, 2005 VS. 2004
CHANGE DUE TO:
Advertising & Selling (0)
Interest Expense 88709
Depreciation & Amortization (-19)
Salaries and benefits 31,305
General and administrative expense (-420,952)
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Total change in operating expense $(300,957)
=========
Total operating expenses for the nine months ended March 31, 2005 decreased $300,957 to $800,192 from $1,101,149 for the nine months ended March 31, 2005. General and administrative expenses decreased $300,957 for the nine months ended March 31, 2005 as compared to the same period in 2004 primarily due to a decrease in the Company's reliance on outside consultants. Total operating expenses decreased $594,445 to $105,695 for the 3 months ended March 31, 2005, from $700,140 for the three months ended March 31, 2004.
NET OPERATING INCOME
Net operating income/loss before investment gains and losses (NOI) for the nine months ended March 31, 2005 totaled ($377,584) compared with a loss of $(1,084,895) for the nine months ended March 31, 2004.
NET INVESTMENT GAINS AND LOSSES
There were no realized gains or losses for the three and nine months ended March 31, 2005.
The net change in unrealized appreciation (depreciation) on investments of $259,758 for the nine months ended March 31, 2005 consisted of $259,758 of net appreciation less $0 advanced to controlled companies. The appreciation is related to additional equity interest granted an increase in the valuation of Kokopelli Franchise Company who commenced operations, and Fathom Business Systems, Inc., who continues to increase sales.
INCOME TAXES
We are taxed under Subchapter C of the Internal Revenue Code. We did not elect to be a regulated investment company under Subchapter M of the Internal Revenue Code with the filing of our federal corporate income tax return for 2004.
NET INCOME
Net income (loss) totaled $117,826 and $(619,919)for the three months and nine months ended March 31, 2005 compared to $(687,318) and ($1,084,895) for the three months and nine months ended March 31, 2005.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
CASH, CASH EQUIVALENTS AND CASH, SECURITIZATION ACCOUNTS
At March 31, 2005 and December 31, 2004, we had $15,836 and $2,213, respectively, in cash and cash equivalents. Our objective is to maintain sufficient cash on hand to cover current funding requirements and operations.
LIQUIDITY AND CAPITAL RESOURCES
We expect our cash on hand, future equity offerings, and cash generated from operations to be adequate to meet our cash needs at our current level of operations. We generally fund new originations using cash on hand, borrowings under our credit facilities and equity financings.
During the third quarter of 2005, the Company raised $165,500 by selling 8,573,231 shares of common stock issued under Regulation E.
BORROWINGS
At March 31, 2005, we had aggregate outstanding borrowings of $446,227.
At December 31, 2004, we had aggregate outstanding borrowings of $507,741.
See the Notes to the Financial Statements for further discussion of our borrowings.
CRITICAL ACCOUNTING POLICIES
The financial statements are based on the selection and application of significant accounting policies, which require management to make significant estimates and assumptions. We believe that the following are some of the more critical judgment areas in the application of our accounting policies that currently affect our financial condition and results of operations.
INCOME RECOGNITION
Interest on commercial loans is computed by methods that generally result in level rates of return on principal amounts outstanding. When a loan becomes 90 days or more past due, or if we otherwise do not expect the customer to be able to service its debt and other obligations, we will, as a general matter, place the loan on non-accrual status and cease recognizing interest income on that loan until all principal has been paid. However, we may make exceptions to this policy if the investment is well secured and in the process of collection.
In accordance with GAAP, we include in income certain amounts that we have not yet received in cash, such as contractual payment-in-kind (PIK) interest, which represents contractually deferred interest added to the loan balance that is generally due at the end of the loan term. We currently do not have any interest income of this nature, but we may during future periods.
Loan origination fees are deferred and amortized as adjustments to the related loan's yield over the contractual life of the loan. In certain loan arrangements, warrants or other equity interests are received from the borrower as additional origination fees. The borrowers granting these interests are typically non-publicly traded companies. We record the financial instruments received at estimated fair value as determined by our board of directors. Fair values are determined using various valuation models which attempt to estimate the underlying value of the associated entity. These models are then applied to our ownership share considering any discounts for transfer restrictions or other terms which impact the value. Changes in these values are recorded through our statement of operations. Any resulting discount on the loan from recordation of warrant and other equity instruments are accreted into income over the term of the loan.
VALUATION OF INVESTMENTS
At March 31, 2005, approximately 98% of our total assets represented investments recorded at fair value. Value, as defined in Section 2(a)(41) of 1940 Act, is
(i) the market price for those securities for which a market quotation is readily available and (ii) for all other securities and assets, fair value is as determined in good faith by the board of directors. Since there is typically no readily ascertainable market value for the investments in our portfolio, we value substantially all of our investments at fair value as determined in good faith by the board of directors pursuant to a valuation policy and a consistent valuation process. Because of the inherent uncertainty of determining the fair value of investments that do not have a readily ascertainable market value, the fair value of our investments determined in good faith by the board of directors may differ significantly from the values that would have been used had a ready market existed for the investments, and the differences could be material.
There is no single standard for determining fair value in good faith. As a result, determining fair value requires that judgment be applied to the specific facts and circumstances of each portfolio investment. Unlike banks, we are not permitted to provide a general reserve for anticipated loan losses. Instead, we must determine the fair value of each individual investment on a quarterly basis. We will record unrealized depreciation on investments when we believe that an investment has become impaired, including where collection of a loan or realization of an equity security is doubtful. Conversely, we will record unrealized appreciation if we believe that the underlying portfolio company has appreciated in value and, therefore, our investment has also appreciated in value, where appropriate.
As a business development company, we invest primarily in illiquid securities including debt and equity securities of private companies. The structure of each debt and equity security is specifically negotiated to enable us to protect our investment and maximize our returns. We generally include many terms governing interest rate, repayment terms, prepayment penalties, financial covenants, operating covenants, ownership parameters, dilution parameters, liquidation
preferences, voting rights, and put or call rights. Our investments are generally subject to some restrictions on resale and generally have no established trading market. Because of the type of investments that we make and the nature of our business, our valuation process requires an analysis of various factors. Our fair value methodology includes the examination of, among other things, the underlying investment performance, financial condition and market changing events that impact valuation.
AT DECEMBER 31, 2004, THE BOARD OF DIRECTORS ELECTED TO EMPLOY A VALUATION METHOD CONSISTING OF COST BASIS FOR THOSE PORTFOLIO COMPANIES THAT WERE NOT YET OPERATIONAL, AND A METHOD OF GROSS REVENUE, NET REVENE AND NET ASSETS FOR THOSE COMPANIES THAT ARE OPERATIONAL. THE COMPANY WILL EMPLOYE INDEPENDENT BUSINESS VALUATION CONSULTANTS TO PROVIDE A VALUATION OF OUR EXISTING PORTFOLIO COMPANIES AND CERTAIN OTHER INVESTMENTS FOR THE YEAR ENDED JUNE 30, 2005.
VALUATION OF LOANS AND DEBT SECURITIES
As a general rule, we do not value our loans or debt securities above cost, but loans and debt securities will be subject to fair value write-downs when the asset is considered impaired. In many cases, our loan agreements allow for increases in the spread to the base index rate if the financial or operational performance of the customer deteriorates or shows negative variances from the customer's business plan and, in some cases, allow for decreases in the spread if financial or operational performance improves or exceeds the customer's plan.
VALUATION OF EQUITY SECURITIES
With respect to private equity securities, each investment is valued using industry valuation benchmarks, and then the value is assigned a discount reflecting the illiquid nature of the investment, as well as our minority, non-control position. When an external event such as a purchase transaction, public offering, or subsequent equity sale occurs, the pricing indicated by the external event will be used to corroborate our private equity valuation. Securities that are traded in the over-the-counter market or on a stock exchange generally will be valued at the prevailing bid price on the valuation date. However, restricted and unrestricted publicly traded securities may be valued at discounts from the public market value due to restrictions on sale, the size of our investment or market liquidity concerns.
RECENT DEVELOPMENT
Kokopelli Franchise Company, LLC, a portfolio company specializing in the franchising of fast, casual sonoran style food, opened its first franchised restaurant in April. As a result, our valuation of Kokopelli Franchise Company was based on the projected operations of the franchise. We anticipate receiving royalty fee income from this and each franchise location as they develop.
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