Einstein Bros 2007 Annual Report Download - page 31

http://www.sec.gov/Archives/edgar/data/949373/000104746908002111/a2183061z10-k.htm[9/11/2014 10:12:02 AM]
Approximately 6% of our 2007 total revenue was generated by our manufacturing and commissary operations. Our manufacturing revenue is
primarily derived from the sale of frozen bagel dough to our franchisees, licensees and third party accounts. Our commissaries generate revenue
from the sale of sliced meats (turkey, ham and beef), dairy products (cheese), and pre-portioned salad kits to our licensees. Additionally, our
commissaries sell bagels, cream cheese, salad toppers and salads through various supplier relationships, typically with conventional grocery store
chains as the customer. These
36
products are resold either through a private label program or under the Einstein Bros. or Noah's brand to the consumer.
The principal factors affecting manufacturing and commissary revenue are:
•the number of franchised and licensed restaurants that purchase frozen bagel dough and commissary products from us,
•sales of our products in existing franchised and licensed restaurants, and
•sales to third parties, including conventional grocery chains and warehouse clubs.
Franchise and license Revenue
Franchise and license revenue consists of a license or franchise fee that is recorded in deferred revenue and recognized as income upon the
fulfillment of certain start up support obligations, such as training and ongoing royalty payments based on a percentage of the restaurant's gross
sales. Our costs associated with licensing and franchising are minimal compared with the costs associated with company-owned restaurants. For
2007, we generated approximately 1% of our total revenue from these fees. The principal factors affecting franchise and license revenue are the
number of franchised and licensed restaurants as well as the level of sales at those restaurants.
Our Primary Expenses
Company-Owned Restaurant Expenses
Food, Beverage and Packaging Costs. Food, beverage and packaging costs represent one of the largest expense elements at our company-
owned restaurants. The most important factor that affects the cost of these products is the underlying cost of the agricultural commodities such as
flour, cheese, coffee, turkey and other products. In order to mitigate the impact of rising commodity costs, our suppliers enter into agreements to
fix the cost of these products for a specified period of time that is generally one year or less. We do not engage in the practice of buying futures
contracts and therefore we do not have derivative accounting. Packaging and distribution costs are primarily affected by the cost of oil because
petroleum-based material is often used to package products for distribution as well as the cost of fuel to transport our food staples. Although we
have generally been able to increase our retail prices at our company-owned restaurants to offset the increased costs of these items, we may not be
able to do so in the future.
Compared to 2007, we expect that most of our commodity-based food costs will increase in 2008 with the greatest impact in the first half of
the year. Flour represents the most significant raw ingredient we purchase. The cost of wheat and the cost of flour increased substantially in the last
half of 2007 and are expected to stay at record levels during 2008. To mitigate this risk of increasing prices, we have contracted with a subsidiary
of Cargill, Incorporated to manage our wheat purchases for our company-owned production facility. We will continue work with Cargill,
Incorporated to strategically source our key ingredient. However, there can be no assurance that we will benefit from a decline in the cost of any of
the commodity-based products that we purchase.
Compensation Costs. Compensation costs reflect the hourly wages, salary, bonus, taxes and insurance that we pay our associates at each
restaurant. Compensation costs tend to vary by geographic region based upon the labor market, local minimum wages, and the supply and demand
of workers. Also, compensation costs tend to be semi-variable in nature and increase or decrease somewhat based upon the volume of products
sold.
There is significant competition for personnel and decreasing availability in the labor pool. In most of the states in which we operate, increases
in state minimum hourly wage rates became effective in January 2007, and the federal government has recently enacted federal wage rate increases
for 2008
37
and we expect minimum wage rates to increase again in 2009. Accordingly, we have seen increases in hourly wages in 2007 and this trend will