Sonic 2007 Annual Report Download - page 33

indication of impairment exists. If impairment is indicated, then the fair value of the reporting
unit’s goodwill is determined by allocating the unit’s fair value to its assets and liabilities
(including any unrecognized intangible assets) as if the reporting unit had been acquired in a
business combination. The amount of impairment for goodwill and other intangible assets is
measured as the excess of its carrying value over its fair value.
The company’s intangible assets subject to amortization under SFAS No. 142 consist
primarily of acquired franchise agreements, franchise fees, and other intangibles.
Amortization expense is calculated using the straight-line method over the expected period of
benefit, not exceeding 20 years. The company’s trademarks and trade names were deemed to
have indefinite useful lives and are not subject to amortization. See Note 5 for additional
disclosures related to goodwill and other intangibles.
Ownership Program
The company’s drive-in philosophy stresses an ownership relationship with drive-in
supervisors and managers. Most supervisors and managers of Partner Drive-Ins own an equity
interest in the drive-in, which is financed by third parties. Supervisors and managers are neither
employees of the company nor of the drive-in in which they have an ownership interest.
The minority ownership interests in Partner Drive-Ins of the managers and supervisors are
recorded as a minority interest liability on the Consolidated Balance Sheets, and their share of
the drive-in earnings is reflected as Minority interest in earnings of Partner Drive-Ins in the
Costs and expenses section of the Consolidated Statements of Income. The ownership
agreements contain provisions, which give the company the right, but not the obligation, to
purchase the minority interest of the supervisor or manager in a drive-in. The amount of the
investment made by a partner and the amount of the buy-out are based on a number of
factors, primarily upon the drive-in’s financial performance for the preceding 12 months, and
is intended to approximate the fair value of a minority interest in the drive-in.
The company acquires and sells minority interests in Partner Drive-Ins from time to time
as managers and supervisors buy-out and buy-in to the partnerships or limited liability
companies. If the purchase price of a minority interest that we acquire exceeds the net book
value of the assets underlying the partnership interest, the excess is recorded as goodwill. The
acquisition of a minority interest for less than book value is recorded as a reduction in
purchased goodwill. Any subsequent sale of the minority interest to another minority partner
is recorded as a pro-rata reduction of goodwill, and no gain or loss is recognized on the sale
of the minority ownership interest. Goodwill created as a result of the acquisition of minority
interests in Partner Drive-Ins is not amortized but is tested annually for impairment under the
provisions of SFAS No. 142.
Revenue Recognition, Franchise Fees and Royalties
Revenue from Partner Drive-In sales is recognized when food and beverage products
are sold.
Initial franchise fees are recognized in income when all material services or conditions
relating to the sale of the franchise have been substantially performed or satisfied by the
company and the fees are nonrefundable. Area development fees are nonrefundable and are
recognized in income on a pro rata basis when the conditions for revenue recognition under
the individual development agreements are met. Both initial franchise fees and area
development fees are generally recognized upon the opening of a franchise drive-in or upon
termination of the agreement between the company and the franchisee.
The company’s franchisees are required under the provisions of the license agreements to
pay the company royalties each month based on a percentage of actual net royalty sales.
However, the royalty payments and supporting financial statements are not due until the 10th
of the following month for the new form of license agreement (Number 7) and the 20th of
the following month for all prior forms. As a result, the company accrues royalty revenue in
the month earned based on estimates of Franchise Drive-In sales. These estimates are based
on actual sales at Partner Drive-Ins and projections of average unit volume growth at
Franchise Drive-Ins.
Operating Leases
Rent expense is recognized on a straight-line basis over the expected lease term, including
cancelable option periods when it is deemed to be reasonably assured that we would incur an
economic penalty for not exercising the options. Within the provisions of certain of our leases,
there are rent holidays and/or escalations in payments over the base lease term, as well as
renewal periods. The effects of the holidays and escalations have been reflected in rent
expense on a straight-line basis over the expected lease term, which includes cancelable option
periods when appropriate. The lease term commences on the date when we have the right to
control the use of the leased property, which can occur before rent payments are due under
the terms of the lease. Percentage rent expense is generally based on sales levels and is accrued
at the point in time we determine that it is probable that such sales levels will be achieved.
Advertising Costs
Costs incurred in connection with the advertising and promoting of the company’s
products are included in other operating expenses and are expensed as incurred. Such costs
amounted to $35,241, $30,948, and $28,216 for fiscal years 2007, 2006 and 2005, respectively.
Under the company’s license agreements, both Partner-Drive-Ins and Franchise Drive-Ins
must contribute a minimum percentage of revenues to a national media production fund
(Sonic Brand Fund, formerly known as the Sonic Advertising Fund) and spend an additional
minimum percentage of gross revenues on local advertising, either directly or through
company-required participation in advertising cooperatives. A portion of the local advertising
contributions is redistributed to a System Marketing Fund, which purchases advertising on
national cable and broadcast networks and other national media and sponsorship
opportunities. As stated in the terms of existing license agreements, these funds do not
constitute assets of the company, and the company acts with limited agency in the
administration of these funds. Accordingly, neither the revenues and expenses nor the assets
and liabilities of the advertising cooperatives, the Sonic Brand Fund, or the System Marketing
Fund are included in the company’s consolidated financial statements. However, all
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Sonic Corp. 2007 Annual Report
Notes to Consolidated Financial Statements
August 31, 2007, 2006 and 2005 (In thousands, except per share data)