Einstein Bros 2006 Annual Report Download - page 40

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expected life at the grant date. Implied volatility is based on the mean reverting average of our stock's historical volatility and that of an industry
peer group. The use of mean reversion is supported by evidence of a correlation between stock price volatility and a company's leverage combined
with the effects mandatory principal payments will have on our capital structure, as defined under our new debt facility. We have not historically
paid any dividends and are precluded from doing so under our debt covenants.
There is a risk that our estimates of the fair values of our share-based compensation awards on the grant dates may differ from the actual
values realized upon the exercise, expiration, early termination or forfeiture of those share-based payments in the future. Certain share-based
payments, such as employee stock options, may expire worthless or otherwise result in zero intrinsic value as compared to the fair values originally
estimated on the grant date and reported in our financial statements. Alternatively, value may be realized from these instruments that is
significantly in excess of the fair values originally estimated
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on the grant date and reported in our financial statements. Although the fair value of our share-based awards is determined in accordance with
SFAS 123R and the Securities and Exchange Commission's Staff Accounting Bulletin No. 107 (SAB 107) using an option-pricing model, that
value may not be indicative of the fair value observed in a willing buyer/willing seller market transaction.
Estimates of share-based compensation expenses do have an impact on our financial statements, but these expenses are based on the
aforementioned option valuation model and will never result in the payment of cash by us. For this reason, and because we do not view share-
based compensation as related to our operational performance, we exclude estimated share-based compensation expense when evaluating our
performance.
Income Taxes
Net operating losses generated in the current year from continuing operations resulted in no federal and state income tax liability for 2006 and
2005. Due to the uncertainty of future taxable income, deferred tax assets resulting from these net operating losses have been fully reserved. To
date we have incurred substantial net losses that have created significant net operating loss carryforwards (NOL's) for tax purposes. Our NOL's are
one of our deferred income tax assets. Over the past two years, we have reduced our net losses substantially from prior years. Due to improved
operations and as a result of a reduction in our depreciation and amortization expense, as well as a savings from the reduction in the interest rate on
our debt facility, we achieved net income of $0.8 million and $6.0 million during the third and fourth quarters of 2006, respectively.
In accordance with SFAS 109, Accounting for Income Taxes, we will assess the continuing need for a valuation allowance that results from
uncertainty regarding our ability to realize the benefits of our deferred tax assets. The ultimate realization of deferred income tax assets is
dependent upon generation of future taxable income during the periods in which those temporary differences become deductible. As we move
closer toward achieving net income for a full year, we will review various qualitative and quantitative data, including events within the restaurant
industry, the cyclical nature of our business, our future forecasts and historical trending. If we conclude that our prospects for the realization of our
deferred tax assets are more likely than not, we will then reduce our valuation allowance as appropriate and credit income tax expense after
considering the following factors:
•The level of historical taxable income and projections for future taxable income over periods in which the deferred tax assets would
be deductible, and
•Accumulation of net income before tax utilizing a look-back period of three years.
The amount of the deferred tax asset considered realizable, however, could be reduced if estimates of future taxable income during the
carryforward periods are reduced. As of January 2, 2007, net operating loss carryforwards of $157 million were available to be utilized against
future taxable income for years through fiscal 2026, subject to annual limitations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
During fiscal 2006 and fiscal 2005, our results of operations, financial position and cash flows have not been materially affected by changes in
the relative values of non-U.S. currencies to the U.S. dollar. We do not use derivative financial instruments to limit our foreign currency risk
exposure since virtually all of our business is conducted in the United States.
During fiscal year 2005, our manufacturing operations began selling bagels to a wholesaler and a distributor who takes possession in the
United States and sells outside of the United States. As the product is shipped FOB domestic dock, there are no international risks of loss or foreign