Papa Johns 2007 Annual Report Download - page 81

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5. Accounting for Variable Interest Entities
FASB Interpretation No. 46, Consolidation of Variable Interest Entities, an Interpretation of Accounting
Research Bulletin No. 51 (FIN 46), provides a framework for identifying variable interest entities
(“VIEs”) and determining when a company should include the assets, liabilities, noncontrolling interests
and results of activities of a VIE in its consolidated financial statements.
In general, a VIE is a corporation, partnership, limited liability company, trust, or any other legal
structure used to conduct activities or hold assets that either (1) has an insufficient amount of equity to
carry out its principal activities without additional subordinated financial support, (2) has a group of
equity owners that are unable to make significant decisions about its activities, or (3) has a group of
equity owners that do not have the obligation to absorb losses or the right to receive returns generated by
its operations.
FIN 46 requires a VIE to be consolidated if a party with an ownership, contractual or other financial
interest in the VIE (“a variable interest holder”) is obligated to absorb a majority of the risk of loss from
the VIEs activities, is entitled to receive a majority of the VIEs residual returns (if no party absorbs a
majority of the VIEs losses), or both. A variable interest holder that consolidates the VIE is called the
primary beneficiary. Upon consolidation, the primary beneficiary generally must initially record all of the
VIEs assets, liabilities and noncontrolling interests at fair value and subsequently account for the VIE as
if it were consolidated based on majority voting interest. FIN 46 also requires disclosures about VIEs that
the variable interest holder is not required to consolidate but in which it has a significant variable
interest.
We have a purchasing arrangement with BIBP, a special-purpose entity formed at the direction of our
Franchise Advisory Council, for the sole purpose of reducing cheese price volatility to domestic system-
wide restaurants. BIBP is an independent, franchisee-owned corporation. BIBP purchases cheese at the
market price and sells it to our distribution subsidiary, PJ Food Service, Inc. (“PJFS”), at a fixed
quarterly price based in part upon historical average market prices. PJFS in turn sells cheese to Papa
John’s restaurants (both Company-owned and franchised) at a set quarterly price. PJFS purchased $138.2
million, $144.1 million and $151.9 million of cheese from BIBP during 2007, 2006 and 2005,
respectively.
As defined by FIN 46, we are deemed the primary beneficiary of BIBP, a VIE. We recognize the
operating losses generated by BIBP if BIBP’s shareholders’ equity is in a net deficit position. Further, we
recognize the subsequent operating income generated by BIBP up to the amount of any losses previously
recognized. We recognized a pre-tax loss of $31.7 million ($20.5 million net of tax, or $0.68 per diluted
share), pre-tax gain of $19.0 million ($11.8 million net of tax, or $0.36 per diluted share) and a pre-tax
gain of $4.5 million ($2.8 million net of tax, or $0.08 per diluted share) in 2007, 2006 and 2005,
respectively, reflecting BIBP’s operating income (losses), net of BIBP’s shareholders’ equity. The impact
on future operating income from the consolidation of BIBP is expected to continue to be significant for
any given reporting period due to the noted volatility of the cheese market, but is not expected to be
cumulatively significant over time.